US banks are back in fashion and the UK should take note

Over the past year, there has been only one trade in town. Any fund manager who decided that the “Magnificent 7” US tech stocks seemed a bit overvalued, and hunted elsewhere for bargains, now looks a bit like Tom Hanks in Cast Away — stranded alone on an island defending their investment rationale to a sceptical-looking volleyball.
If you had invested £10,000 in Magnificent 7 stocks at the start of this year, it would now be worth over £15,500. If you had invested the same amount in the MSCI World ex-USA index, you would have made about £520.
While the allure of these stocks — Apple, Microsoft, Alphabet, Amazon, Meta, Nvidia and Tesla — won’t fade any time soon, I think that the range of winning trades available to investors will expand in 2025.
The American election was a tipping point for financial markets, particularly US equities. While the markets enjoyed a frothy “pretty much everything rally” in the first few weeks after Donald Trump’s victory, we are now seeing signs of a more sustainable “broadening-out rally”, with opportunities emerging beyond Big Tech.
US financials have been out of fashion with investors for much of the past two decades, especially in the wake of 2023’s high-profile regional bank failures. Now, however, a number of factors are contributing to the sector outperforming the broader market.
After Trump was elected, shares in Goldman Sachs and JP Morgan leapt by 13 and 12 per cent respectively. Over the past year, Goldman’s value has risen by about 80 per cent and Morgan Stanley’s by more than 70 per cent. While neither has matched the relentless surge of the mighty AI giant Nvidia, they are ahead of the other Magnificent 7 constituents.
Scott Bessent, Trump’s nominee for Treasury secretary, has further comforted the financial industry with obliging noises about slashing regulation and taking a measured approach to tariffs. Calling him the “business-as-usual choice” may have been Elon Musk’s way of voicing his preference for other candidates, but, to banks, the status quo pick is a lot more reassuring than the more “status woah” candidates who were touted.
Joe Biden’s administration buried banks under an avalanche of regulations. And while the Republicans’ timeline to dig them out of the bureaucratic snowdrift is still uncertain, the direction of travel is certainly towards looser capital requirements, which could create a bonanza of stock buybacks.
The recent earnings season for US banks suggests that a corner has been turned. The relatively puny revenues in the first quarter of this year have been replaced with much more muscular results.
Banks’ lending pipelines have been pretty anaemic since the pandemic, as massive fiscal stimulus and aggressive monetary tightening dramatically diminished credit demand. However, with election uncertainty lifted, business sentiment should recover, leading more companies to borrow in anticipation of ramping up capital spending and M&A activity. Equally, falling consumer loan defaults could spur a renewed push towards consumer credit growth, especially in credit card loans. All this spells a hefty boost to earnings expectations.
If this is a new heyday for US banks, can we expect a similar golden dawn on the European side of the pond? When America does well, the rest of the world tends to bask in its reflected glow.
The reality is more complex. Mohamed El-Erian, the former chief executive of investment manager Pimco, recently told investors to open their ears to the “huge sucking sound” of capital flooding into the US out of the rest of the world. It’s very hard for other markets to compete with its sheer gravitational pull.
Granted, the UK can deregulate more easily than the European Union, but only if the chancellor is serious about her commitments to regulatory change. The current government is doing a good line in U-turns.
On the Continent, a wave of consolidation — UBS’s acquisition of Credit Suisse; BNP Paribas buying up HSBC’s German private banking arm; and UniCredit’s bid just a few weeks ago for Banco BPM — suggests scale is the only way for European banks to survive as global players, let alone thrive.
The problem with being caught in America’s slipstream is that, while your European Volkswagen hatchback might speed up as a result, it will never overtake the Chevrolet Corvette in front of it. While bank valuations as a whole may be dragged upwards, the US is still winning the race by a margin — and the gap is only growing.
After what seems like an eternity of tech dominance, investors finally have another sector to get excited about. Unfortunately, for the likes of Sir Keir Starmer, Olaf Scholz and Emmanuel Macron — all desperate for a pint, stein or flute of economic cheer — it isn’t to be found in Europe.
Seema Shah is chief global strategist at Principal Asset Management