As US inflation hits 31-year high, banks assess risks and opportunities


NEW YORK, Nov. 23 (Reuters) – Banks on Wall Street forecast an extended period of higher inflation, carrying out internal health checks, testing whether clients in exposed sectors could repay their loans, devising hedging strategies and advising prudence in transactions.

Consumer prices in the United States posted their largest annual increase in 31 years this month, on the back of skyrocketing costs for gasoline and other goods. Read more

Senior bank executives have become less convinced by central bankers’ arguments that the spike is a temporary incident caused by a supply chain disruption and are stepping up risk management.

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Higher inflation is generally seen as a positive for banks, increasing net interest income and increasing profitability. But if it rises too quickly, inflation could turn a headwind, major bankers warn.

Goldman Sachs COO John Waldron last month identified inflation as the No.1 risk that could derail the global economy and stock markets.

JPMorgan CEO Jamie Dimon told analysts last month that banks “should be concerned” that high inflation and high interest rates increase the risk of extreme price movements.

A prolonged period of higher inflation would pose both credit and market risk for banks, and they assess that risk in internal stress tests, said a senior banker at a European bank with large operations at the banks. United States.

Risk management teams also monitor credit exposures in sectors most affected by inflation, another banker said. They include companies in the consumer discretionary, industrials and manufacturing sectors.

“We are very active with these clients, providing cover protections,” said the banker, who asked not to be named because discussions with clients are confidential.

Clients who may need additional financing to get through a period of higher inflation are advised to raise capital while interest rates remain relatively low, the banker said.

“It’s still a very beneficial environment if you need funding, but it won’t last forever.”

Investment bankers are also assessing whether higher inflation and monetary tightening could disrupt record deals and public offering pipelines.

“We anticipate an extended period of higher inflation and monetary tightening could slow the momentum in the M&A market,” said Paul Colone, US-based managing partner at Alantra, a large global investment bank. mean.

Alantra advises clients at the early stages of M&A discussions “to consider the risks that sustained inflation could pose to both valuation and business results,” said Colone.

Sales and trading teams, meanwhile, are receiving more calls from clients seeking to reposition portfolios, which are vulnerable to loss in value. When inflation got out of hand in the 1970s, US stock indexes were hit hard.

“We are seeing more interest from clients in finding some kind of inflation hedge,” said Chris McReynolds, head of US inflation trading at Barclays.

Inflation-protected Treasury securities, which are issued and backed by the US government, are proving popular, he said. The securities are similar to treasury bills but have inflation protection.

Traders are also seeing a demand for derivatives that offer protection against inflation, such as zero coupon inflation swaps, in which a fixed rate payment on an investment is exchanged for a payment at the rate of inflation.

“People are realizing that they are exposed to inflation and it makes sense for them to hedge their assets and liabilities,” McReynolds said.

Banks with diversified businesses are likely to fare better during a period of sustained inflation, according to most analysts.

They expect a steepening of the yield curve to increase overall profit margins, while trading firms can benefit from increased volatility and strength of deals, and initial public offering pipelines. mean that investment banking activity will remain healthy.

But Dick Bove, a prominent independent banking analyst, has a different point of view. He predicts that the yield curve will flatten as higher rates lower inflation expectations, thereby reducing profit margins.

“Maybe as long as 12 to 18 months, bank stock prices will rise,” he said. “At some point, however, if inflation continues to rise, bank stock multiples will collapse, as will bank stock prices.”

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Reporting by Matt Scuffham; Editing by Dan Grebler

Our Standards: Thomson Reuters Trust Principles.

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