By Telis Demos
For banks and other players in the U.S. financial system, the Federal Reserve's next moves on the size of its balance sheet could matter as much or more than its decisions on rates.
Following the Fed's quarter-point rate-cut decision this past week, banks were among the market's strongest performers. The KBW Nasdaq Bank index was up over 3% for the week, while the S&P 500 was down.
Banks undoubtedly benefit from what is being viewed as the Fed's "dovish" attitude toward its next rate move, with attention being paid to the strength of the labor market. When consumers are working, they are spending, saving and paying back their loans. All are critical for lenders, of course. A steeper yield curve, with falling short-term rates and steady-to-rising longer-term bond yields, also helps banks.
But bank stocks' sharp outperformance was also helped by something else the Fed did on Wednesday: Its somewhat quieter decision to start expanding its balance sheet by buying $40 billion of short-term Treasury securities this month. That can be helpful to banks, by adding to the available pool of deposits for lenders as the Fed buys Treasurys from the market.
This move marks a small but noteworthy change from the period of the Fed shrinking its balance sheet, a process often called quantitative tightening. And one feature of that period was how it contributed to the pressure on banks to compete more to hold customers' cash via higher deposit rates, as the overall deposit level fell for a period.
Regional banks faced the brunt of deposit pressures, punctuated by the failures of Silicon Valley Bank and others in 2023. But even megabanks haven't been immune in some key areas.
While Fed rate cuts can mechanically lower what some customers pay to borrow, such as via the prime rate that is often the base for credit-card rates, they usually don't automatically flow through to cheaper deposit costs for banks. Rates on many savings accounts or certificates of deposit are set competitively. So banks can get squeezed if they earn less by lending, but are still paying about the same for deposits.
The Fed's initial cuts came with a sharp impact on some deposit rates. The three cuts in 2024, adding up to a percentage point, were met with a 0.4-percentage-point drop in Bankrate.com's tracking of one-year certificate of deposit rates from their high point in summer 2024 to their low point in summer 2025. But that measure drifted a bit higher by September. And despite the Fed's September and October cuts, as of Dec. 10 -- the day the Fed announced its latest cut -- the average was about where it was at the end of July.
The question now is if the Fed's balance-sheet changes will make a difference in how quickly its latest rate cut, and subsequent ones, translate into cheaper deposits.
Notably, the Fed's forthcoming moves will come ahead of a time when people usually send money out of their bank accounts to the U.S. Treasury to pay their taxes. Fed Chair Jerome Powell told reporters this week that the Fed's securities purchases "may remain elevated for a few months" to "alleviate expected near-term pressures in money markets."
Joseph Abate, head of rates strategy at SMBC Nikko, says that "what the Fed has announced will loosen up liquidity conditions. But the amount that they're doing is probably not large enough to bring things back to where they were this summer."
There are many things that influence deposit levels and pricing, including the mix of deposits between consumers' checking accounts, big corporate accounts and wealth brokerage accounts -- each of which responds differently to rate pressures.
Plus, deposit cost relief isn't necessarily spread out evenly, according to analysts at Curinos, which provides data and insight to financial institutions on deposits and lending. For commercial deposits, the largest banks so far this year have passed along about 80% of Fed's cuts to customers, while regional banks have passed along only about half, Curinos tracking shows.
"It does look like a bit of a haves-and-have-nots story," says Peter Serene, managing director for advisory at Curinos. "Those able to take full advantage of a falling rate cycle, and those who are more captive to competitive pressures."
As usual, it is regional banks in the spotlight, with potentially the most to gain from easing deposit-cost competition. The biggest gains in the KBW index this past week belonged to banks in that tier, such as KeyCorp, Zions and Comerica.
Midsize banks can find themselves squeezed between megabanks, which have a bevy of ways to lure customers, and smaller financial-technology upstarts, which often have a mandate to grow aggressively and may be willing to pay up to grab customers.
The broader market's focus will be on whether the Fed keeps cutting rates. What happens to bank stocks, though, may equally depend on its next balance-sheet moves.
Write to Telis Demos at Telis.Demos@wsj.com
(END) Dow Jones Newswires
December 13, 2025 05:30 ET (10:30 GMT)
Copyright (c) 2025 Dow Jones & Company, Inc.
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