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Morningstar | Regions Financial Uses Hedging and Deposit Pricing to Offset Effects of Expected Rate Cuts

No-moat Regions Financial reported good second-quarter results, as the bank is using hedges and deposit pricing to position itself for rate cuts. EPS increased 15.6% on sluggish revenue growth, largely due to share repurchases and expense controls. Increasing EPS by controlling expenses and repurchasing shares is a consistent theme throughout our banking coverage this quarter. Adjusted revenue growth came in at 0.4%, as strength in net interest income offset weakness in noninterest income. We are now pricing in three interest-rate cuts in our base-case forecast and are decreasing our fair value estimate to $14.50 per share.

We think that the two most important factors for Regions’ top line going forward are interest-rate hedges and deposit costs. Regions provided detail on an interest-rate hedging strategy that it has implemented, which should allow it to retain reasonable asset yields in a decreasing interest-rate environment. Secondly, Regions' management indicated that they have already been able to begin repricing deposits downwards in expectations of a declining rate environment. We anticipate that these two factors will allow Regions to dampen the effects of rate cuts on its net interest margin, and we are forecasting that NIMs will decline by about 10 basis points before recovering with normalizing interest rates.

Regions continues to deliver on its expense control measures and is improving its historically weak operational efficiency. The areas that displayed particular improvement were compensation expense, as the company’s investments in technology seem to be reducing frictions in the retail banking business, and occupancy expense, as Regions sold a large office building. We are positive on these efficiency gains and anticipate that Regions will be able to improve its efficiency ratio to its goal of 55% over the medium term.