Lloyds among bank stocks boosted as rate rise looms

Bank of England expected to hike interest rates next week, as hawkish comments from the Federal Reserve chairman trigger sharp reversals on Wall Street.

Interest rate speculation lifted the share prices of lenders including Lloyds Banking Group (LSE:LLOY) today as markets bet on the Bank of England taking a more aggressive stance on inflation.

The Bank's next meeting takes place a week today, with the City in agreement that rates will rise to 0.5% in what would be the first back-to-back increase since 2004 and potentially the first of four hikes this year.

The expectations were fuelled by last night's hawkish comments from Federal Reserve chairman Jerome Powell, who signalled a first US rate hike in March and refused to rule out more frequent and larger rate rises over the rest of the year.

His comments triggered a sharp reversal of fortunes on Wall Street, with high-growth stocks including Scottish Mortgage (LSE:SMT) investment trust also down 2% in London today.

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Banking stocks propped up the FTSE 100 index, however, as the UK's two-year bond yield rose to its highest level since 2011 in a sign that traders expect the Bank will be more decisive in its approach to an inflation rate currently at a 30-year high of 5.4%.

Faster-than-expected tightening would provide a significant boost to levels of net interest income after years of bank margins being squeezed by ultra-low interest rates.

Banks occupied the top five spots in the FTSE 100 index, with widely held Lloyds up 1.1p to 53.15p. NatWest (LSE:NWG), which is regarded as the most geared in the UK to higher rates, lifted 3% or 6.5p to 250.7p and Barclays (LSE:BARC) improved 5.1p to 207.3p.

Asia-facing Standard Chartered (LSE:STAN) jumped almost 5% or 24.2p to 548.2p and HSBC (LSE:HSBA) surged 4% or 19.9p to 542.6p.

As we reported earlier this week, UBS banking analyst Jason Napier believes the City has been too cautious on the recovery outlook for UK lenders. He has “buy” recommendations on all but one of the eight stocks in his coverage, noting the benefits of excess capital and reserves.

The improved session for banks and other old economy stocks means the FTSE 100 index continues to be higher over 2022, unlike the falls of 10% or more seen for the S&P 500, tech-laden Nasdaq 100 and the Nikkei in Tokyo.

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London's performance masks plenty of volatility, however, with housebuilders including Barratt Developments (LSE:BDEV) among those under pressure from rising interest rate expectations in the UK.

The Bank of England delivered a surprise hike of 0.15% in December but nothing has been heard from policymakers since then. With the Omicron wave abating, economists expect medium-term inflation considerations to dominate the Bank's discussions next week.

UBS expects rates to rise to 0.5% with two further hikes in May and August, by which time inflation pressures should have eased sufficiently for policymakers to pause with rates at 1%.

However, some economists and traders are now pricing in four rate rises this year based on the need for more aggressive tightening as the inflation outlook deteriorates. April's consumer prices index release will be closely watched, with energy price rises among several factors set to lift the inflation figure towards 7%.

In the US, an indication of how entrenched inflation has become will emerge tomorrow when the fourth quarter Employment Cost Index provides a closer look at wage growth.

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Powell said last night there was quite a bit of room to raise rates before it hurts the labour market. But much of his press conference was spent refusing to rule out options, including the potential for single rates rises of half a percentage point.

Markets interpreted this vagueness as hawkishness but UBS's Paul Donovan believes the Fed will raise rates cautiously as long as inflation is shown to be transitory.

He added: “Much of today’s US excess inflation is fuel and used car prices. Fed policy affects neither of those. If inflation drivers change and become something that the Fed could influence, a more aggressive policy stance seems likely.”