With President Donald Trump signing into law the $1.5 trillion Republican tax bill just days before the holidays, U.S. corporations could see an earnings boost between 7% to 10% from a 40% cut in the corporate tax rate. While corporations across the country would stand to benefit, financial firms are expected to be among the biggest winners as they pay some of the highest effective tax rates in the U.S. Factoring in added revenues from higher interest rates, U.S. banks will be ringing in the new year with lots to look forward to.

Two banks that are expected to see some of the biggest gains from the tax cuts are Wells Fargo & Co. (WFC) and PNC Financial Services Group Inc. (PNC). As of the close of trading on Tuesday, Wells Fargo is up 11% on the year, and PNC is up 24%.

At price-to-earnings ratios (P/E Ratio) of 15.7 and 17.8, respectively, both Wells Fargo and PNC are trading below the financial sector average multiple of 18.48 times earnings. The average for all sectors is 26.9, according to industry valuation data from CSI Market. (To read more, see: Trump Tax Plan ‘As Good as It Gets’ for US Banks.)

Tax Bill Benefits

At a rate of 27.5%, the financial sector pays the highest effective tax rate of all major S&P sectors, according to Reuters.

With the corporate tax rate being cut from 35% to 21%, U.S. banks will likely see an average 13% increase in their earnings per share (EPS). Strategists at Goldman Sachs expect Wells Fargo and PNC to rake in the largest gains with boosts in earnings of as much as 17% and 15%, respectively. (To read more, see: Wells Fargo Tops Apple as Tax Plan’s Biggest Winner.)

Big banks with business overseas will also see benefits from becoming more competitive relative to international rivals in countries with lower corporate tax rates.

Rising Rates

If the tax bill indirectly helps boost the rest of the economy, then banks could also benefit from increased borrowing by businesses wanting to increase investment. Higher interest rates, as per the Fed’s current tightening plan, will also push banks’ profit margins higher as the spread between the rates they pay on deposit and the rates they earn on lending were pushed lower during the last recession.

Of course, the benefit from higher rates does depend on the extent to which businesses do increase their investment spending and hold off on paying down debt. If instead they decide to take the extra gains from the tax cuts to pay down debt, the tax cuts could have the effect of reducing the interest revenues banks depend on. 

 

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