The next round of two-day Fed FOMC meeting will commence from Mar 15. In this crucial meeting the Fed will hike the benchmark interest rate for the first time in three years. Mounting inflation, which is currently at a 40-year high, compelled the Fed to terminate its $120 billion monthly bond-buy program and raise interest rate in March.

A higher interest rate will benefit the financial sector, especially banks. At this stage, it will be prudent to invest in bank stocks with a favorable Zacks Rank. Here are five such stocks — Signature Bank (SBNY Quick QuoteSBNY - Free Report) , First Financial Bankshares Inc. (FFIN Quick QuoteFFIN - Free Report) , Associated Banc-Corp (ASB Quick QuoteASB - Free Report) , Commerce Bancshares Inc. (CBSH Quick QuoteCBSH - Free Report) and Cullen/Frost Bankers Inc. (CFR Quick QuoteCFR - Free Report) .

Fed FOMC in Focus

Fed Chairman Jerome Powell will announce the FOMC’s decision in a press conference on Mar 16 at 2 PM EST. Meanwhile, market participants are uncertain about the magnitude of the rate hike. Just a month ago, most of the market experts believed that the first rate hike would be as high as of 50 basis points.

However, Fed Chairman Jerome Powell said that a 25-basis point hike is expected in March. However, the central bank may raise the magnitude going forward this year, if it fails to contain inflation to its desired level.

Meanwhile, the ongoing war between Russia and Ukraine has complicated the situation. The geopolitical conflict has elevated several commodity prices to a record high level. Prices of crude oil, nickel, palladium, copper and aluminum have soared. The prices of steel and coal are also rising. In the food grain segment, wheat price has jumped.

Higher commodity price will make inflation worse. At the same time, the war will disturb the already devastated global supply-chain system, which is the major source of current inflation. Several economists and financial experts have warned that prolonged supply-chain disruptions and higher interest rates may reduce U.S. economic growth. Higher inflation and lower growth may result in stagflation.

In addition to the rate hike, the Fed may also give an indication about the timing and process of shrinking its $9 trillion balance sheet. On Mar 14, the yield on the 10-Year U.S. Treasury Note climbed to 2.139%, its highest since Jun 11, 2019.

Banks Likely to Benefit

A hike in interest rate will raise the cost of funds, which would enable the financial sector, especially banks, to widen the spread between longer-term assets, such as loans, with shorter-term liabilities, thus boosting profits margins.

Banks have been witnessing a contraction in net interest margins (an important barometer to gauge banks’ financial performance) owing to near-zero rates. This is also hurting their top-line growth.

Consequently, as the Fed starts raising interest rates, pressure on margins will gradually alleviate and support banks’ net interest income. Despite the diversification of revenue streams, banks earn a major portion of their revenues from interest income.

We expect the U.S. economy to become fully operational as the pandemic is expected to reach its peak this winter. Several major investment bankers and money managers have already started removing pandemic-related adjustments from their financial models. As a result, as the economy will operates in full swing, banks will generate more business.

Following the hike in sovereign bond yields, on Mar 14, the S&P Financials Select Sector SPDR ((XLF Quick QuoteXLF - Free Report) gained 1.3%. Moreover, the SPDR S&P Regional Banking ETF (KRE Quick QuoteKRE - Free Report) , the SPDR S&P Bank ETF (KBE Quick QuoteKBE - Free Report) and the KBW Nasdaq Bank Index (BKX) rose 0.5%, 0.5% and 1.7%, respectively.

Our Top Picks

We have narrowed our search to five banking stocks with strong long-term growth potential. These stocks have seen positive earnings estimate revisions for the current year in the past 30 days.

These banks are regular dividend payers that will act as an income stream in the market’s downturn. Each of our picks carries a Zacks Rank #1 (Strong Buy). You can see the complete list of today’s Zacks #1 Rank stocks here.

The chart below shows the price performance of our five picks year to date.

Image Source: Zacks Investment Research

Signature Bank provides commercial banking products and services. Loan growth in the small business administration lending segment, the mortgage warehouse business, commercial real estate and fund banking is expected to support the balance sheet strength of SBNY. This, along with rising deposits, sets the stage for Signature Bank's growth in net interest income in the upcoming quarters.

Signature Bank has an expected earnings growth rate of 30.2% for the current year. The Zacks Consensus Estimate for current-year earnings has improved 0.9% over the past 30 days. SBNY has a current dividend yield of 0.8%.

First Financial provides commercial banking products and services in Texas. FFIN accepts checking, savings and money market accounts and time deposits. First Financial also provides drive-in and night deposit, remote deposit capture, internet and mobile banking, payroll cards, transmitting funds, and other customary commercial banking services, as well as ATM and safe deposit facilities.

Although First Financial has a negative expected earnings growth rate for the current year, the Zacks Consensus Estimate for current-year earnings has improved 1.4% over the past 30 days. FFIN has a current dividend yield of 1.3%.

Associated Banc-Corp provides various banking and nonbanking products to individuals and businesses in Wisconsin, Illinois, and Minnesota. ASB’s new strategic plan will expand its lending capabilities, support core businesses growth and help transform digital competencies. Robust loan growth, efforts to focus on fee income and inorganic expansion initiatives are also likely to support the financials of Associated Banc-Corp.

Although ASB has a negative expected earnings growth rate for the current year, the Zacks Consensus Estimate for current-year earnings has improved 1.2% over the past 30 days. Associated Banc-Corp has a current dividend yield of 3.5%.

Commerce Bancshares provides retail, mortgage banking, corporate, investment, trust, and asset management products and services to individuals and businesses in the United States. Solid loans and deposit balances of CBSH, and efforts to strengthen fee income are likely to support revenue growth. Commerce Bancshares is expected to keep enhancing shareholder value through its efficient capital deployment activities, which reflect strong balance sheet and liquidity positions.

Although Commerce Bancshares has a negative expected earnings growth rate for the current year, the Zacks Consensus Estimate for current-year earnings has improved 0.8% over the past 30 days. CBSH has a current dividend yield of 1.5%.

Cullen/Frost offers commercial and consumer banking services in Texas. Organic growth remains a key strength of CFR, as reflected by its revenue growth story. Economic recovery is also expected to boost loan and deposit balances thereby further aiding revenues. Efforts to enhance Cullen/Frost’s presence in the lucrative Texas markets via strategic branch openings, and initiatives to further diversify its consumer loan portfolio will likely support loan-portfolio growth.

Although Cullen/Frost has a negative expected earnings growth rate for the current year, the Zacks Consensus Estimate for current-year earnings has improved 3.9% over the past 30 days. CFR has a current dividend yield of 2.2%.