Which Banks Will Win and Lose With Rising Interest Rates

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With the recent spike in long-term interest rates acting as a proxy for rising short rates, investors need to be focused on which banks are best positioned for a sustained rising rate environment. Clearly, the timing for when short rates will start going up remains a big question mark, and given the strong rally in many of the top banking names, most of the money looks to have been made for now.

Most of us think of rising interest rates as bad for any stock or business. In the banking world, rising rates actually can be good, as the spread between the cost of borrowed money and the actual rates banks can charge their customers widens. The banking analysts at Merrill Lynch have released a new report that highlights the banking stocks with earnings per share that will be most sensitive to a rise in rates.

The big money center banks like Citigroup Inc. (NYSE: C) and J.P. Morgan Chase & Co. (NYSE: JPM) are notably absent from the Merrill Lynch list. Their wide range of business lines from trading to investment banking, and the impact of their global operations, tend to cushion them from rate increases. Then there is also the notion that if the team is covering a rival, they may be hinting that investors should buy or sell Bank of America Corp. (NYSE: BAC), if you believe that bank analysts covering other banks may be indirectly covering their own bank.

Here are the top bank stocks to buy if short-term rates go higher.

Huntington Bancshares Inc. (NASDAQ: HBAN) tops the Merrill Lynch list of stocks to buy. Huntington’s first-quarter 2013 earnings came in at $0.17 per share, beating the Zacks consensus estimate by a penny. Merrill Lynch has an $8 price target. The Thomson/First Call estimate is at $7.50. Shareholders are paid a 2.70% dividend.

PNC Financial Services Group Inc. (NYSE: PNC) trades at less than 13 times earnings, and it has continued to expand to super-regional status. Merrill Lynch has a $75 target on the stock, while the consensus estimate is at $73. Investors are paid a 2.50% dividend.

Wells Fargo & Co. (NYSE: WFC) is the largest bank on the Merrill Lynch list of stocks to buy. Warren Buffett is the largest shareholder, owning 458,170,323 shares as of March 31. Merrill Lynch has a $41 price target, which is the same as the consensus target. Shareholders are paid a solid 3.00% dividend.

Regions Financial Corp. (NYSE: RF) is a stock to buy at Merrill Lynch. Having successfully sold its Morgan Keegan brokerage business, the company has been able to focus on its core banking customer. Merrill Lynch has a $10 price target. The consensus for the stock is $9. Investors receive a 1.30% dividend.

Some of the top names when it comes to actual rate sensitivity are rated Neutral at Merrill Lynch due to their price appreciation. Investors should look for a market correction to add these names at lower levels. Zions Bancorp. (NASDAQ: ZION), Comerica Inc. (NYSE: CMA), KeyCorp (NYSE: KEY) and Fifth Third Bancorp (NASDAQ: FITB). Investors should avoid Underperform-rated TCF Financial Corp. (NYSE: TCB), according to the Merrill Lynch report.

We have also issued our own how-to guide for dealing with rising interest rates. The Treasury market may finally live up to its threat as the next great short.

The banking industry has experienced a tremendous overhaul over the past five years. The subprime mortgage debacle has led to positive changes that have helped to stabilize the nation’s banking system. With interest rate increases looming in the future, investors may want to keep a list of stocks to buy handy and look for entry points at lower levels.

Read also: Interest Rate Risk to Utility Investors