Could the banking sector’s bull run be disturbed by rate cuts?

By Joss Murphy on 28 July 2025 in Equities, Specialist investing

The slow pace of interest rate cuts may have disappointed mortgage holders, but there is one sector that’s been pretty pleased with the new environment: the banks. The banking sector has been a hot spot for investors over the past 12 months, outpacing more glamorous areas such as technology. Can it maintain its blistering pace of growth?

The banking sector has been fuelled by a combination of low expectations and improving performance. The sector was considered uninvestable by many fund managers in the wake of the financial crisis – opaque, indebted and full of risks. The new regulations brought in in the wake of the crisis have helped improve capital levels and manage risk. 

Then there is the shift in the interest rate cycle. Low interest rates make it hard for banks to make profits on their lending and rising rates have helped improve their margins. While rates have come down a little, they have come down neither as fast nor as significantly as initially expected. In the US, for example, Fed chair Jay Powell continues to hold firm against an increasingly exasperated Donald Trump, believing the inflationary risks are too great to warrant further cuts. 

This is doing banks’ profits no end of good. In the first quarter of 2025, around 90% of banks beat estimates at a pretax profit level, helped by better net interest income (profit from lending) and, importantly, by banks producing more non-net interest income revenue than expected*. 

Guy de Blonay, financial equities manager at Jupiter, says: “The relative stickiness in inflation, interest rate trends and a steepening of the yield curve have been beneficial for lending margins. Impairment charges remain low and forward-looking credit risk indicators are good, according to the companies.”

He is optimistic this can continue. In recent meetings with US bank management teams, he has found them upbeat about 2025, anticipating dividend increases, stock buybacks, and moderate earnings growth*.

There is also prospect of further deregulation in the sector after a decade when it has been (understandably) very tight. De Blonay says: “The White House’s support for financial industry de-regulation, if realised, could be positive for credit conditions and the sector.” Even the UK is getting in on the act, with Chancellor Rachel Reeves loosening the mortgage rules and promising further cuts to red tape in the sector. 

De Blonay believes non-US stocks offer more from a risk-reward perspective than their American counterparts. He says the best investment opportunities lie in Europe, including Switzerland, and in the UK, due to valuations, policy support, improved balance sheets and the benign economic outlook.

“European bank valuations are less demanding than the wider market, and these businesses have shown a greater willingness to share returns with investors via dividends and buybacks. The outlook for increased infrastructure and defence spending in the region also is beneficial for the sector as is ongoing merger and acquisition activity.”

Marcel Stotzel, manager on the Fidelity European fund, is also a strong advocate for the banks. He says: “One of the sectors that is going to benefit the most from fiscal stimulus across Europe is the European banks. They will benefit in a number of ways: all this spending leads to higher GDP growth. It’s hard to spend that level of money without it having some impact. Banks are a levered play on that. When economies are healthy, you get fewer defaults, people feel better about the world and spend more.” 

He believes banks will be needed to fund the extra defence spending, or to lend to corporates as they become more positive about Europe’s economic outlook. He points out that European loan growth has been flat, which is not great for economic growth. “It doesn’t take a lot to move the needle from 0% to 2-3%, which would be a much healthier level.” He has his highest weighting in financials, at 25.6%**. 

He believes there may be more merger and acquisition activity as well. “Allowing more national champions is important. It is extremely inefficient to have 20 mid-sized banks. That means 20 sets of HR or IT departments. Europe has allowed itself to persist with a protectionist mindset. Why will it change? In my view, a kick in the backside still moves you forward. The kick Europe received from the US – on security, on tariffs – does have the potential to move it forward. The net result is that there is a sense of urgency.”

Banks remain a favourite of UK managers as well. Financials are the largest weighting in the Schroder Income Growth Trust, for example, at 36% (though this includes insurers and private equity groups)**. The trust has HSBC, Lloyds and Standard Chartered in its top 10 holdings**. These have delivered well for the trust over the past 12 months. Manager Sue Noffke says: “Banks have delivered strong dividend increases and share buybacks, boosting total shareholder return.” The dividend yields from the banking sector remain very attractive – over 5% for HSBC, 4% for Lloyds and NatWest.  

Standard Chartered, whose core customer base is in Asia, was the top contributor***. The more domestically-focused Lloyds Banking Group and NatWest also performed well. She believes there is more to go in some areas: “Standard Chartered has a fantastic Asian franchise with emerging markets banking exposure. It is trading at a low valuation and has significant capital returns through share buybacks and dividend growth as well.”

It may have been a strong run for the banks, but many fund managers believe there could be more gains ahead. They are untroubled by the prospect of further rate cuts, which are likely to be limited and piecemeal. The sector has been a long time out of favour, and the recovery may endure longer than investors expect. 

*Source: Jupiter, 24 June 2025

**Source: fund factsheet, 30 June 2025

***Source: half year report need 28 February 2025