Analysis of Tom Lee’s 2026 Regional Bank Outlook Amid Declining Interest Rates

This analysis is based on Tom Lee’s appearance on CNBC’s Power Lunch on December 24, 2025, where he identified declining interest rates as a key tailwind for regional banks in 2026 [5].

The SPDR S&P Regional Banking ETF (KRE), a benchmark for the sector, closed with a marginal gain of 0.06% at $66.73, amid significantly low trading volume (3.47 million shares—less than half the 5-day average) typical of Christmas Eve [0]. Broader U.S. indices rose in alignment with the Santa Claus rally theme mentioned by Lee:

• S&P 500 (+0.38% to 6,931.35)
• NASDAQ Composite (+0.25% to 23,613.86)
• Dow Jones Industrial Average (+0.64% to 48,735.35) [0]

Current Federal Funds rates stand at 3.75-4.00%, with consensus projections for a decline to ~3.00% by December 2026 [1]. The December 2025 Fed dot plot shows a median projection of one 25-basis-point cut [2], while market futures price in ~63 basis points of cuts (2-3 reductions) [1][4], creating a gap between central bank guidance and market expectations.

Regional banks generate substantial revenue from net interest margins (NIM)—the spread between the interest earned on loans and paid on deposits. When rates decline:

1. Deposit costs adjust faster downward
   than fixed-rate loan yields, expanding NIM [3]
2. Borrowing activity increases
   for households and small businesses (regional banks’ core customers), potentially boosting loan volume [3]
3. Funding pressure eases
   —deposit stability has improved since the 2023 regional bank crisis, and lower rates will reduce competition for deposits [3]

Recent trends show moderating deposit outflows, return to year-over-year earnings growth for many regional banks, and attractive valuations (e.g., Zions Bancorporation [ZION], Prosperity Bancshares [PB], Regions Financial [RF] with below-average P/E ratios) [3].

1. Fed-Market Expectation Gap
   : The Fed’s projection of only one rate cut contrasts with market expectations of 2-3 cuts, creating uncertainty about the magnitude of NIM expansion for regional banks [2][4].
2. 2023 Crisis Recovery Tailwind
   : Improved deposit stability since the 2023 regional bank crisis enhances the sector’s ability to capitalize on declining rates by reducing funding pressure [3].
3. Valuation Opportunity
   : Below-average P/E ratios for some regional banks suggest potential for revaluation if rate cuts materialize as expected [3].

• Expanded NIM
  : Declining rates will likely widen net interest margins as deposit costs fall faster than loan yields [3].
• Increased Loan Demand
  : Lower rates stimulate borrowing, potentially boosting loan volume for regional banks focused on small businesses and households [3].
• Valuation Rebound
  : Attractive current valuations could lead to price appreciation if rate cut expectations are met [3].

• Rate Cut Disappointment
  : If the Fed delivers fewer cuts than market expectations (as suggested by the dot plot), the NIM expansion for regional banks may be limited [2][4].
• Credit Quality Deterioration
  : Weakening economic conditions could increase loan defaults, offsetting the benefits of lower rates [0].
• Funding Cost Competition
  : Larger or online banks may maintain higher deposit rates, slowing the reduction in regional banks’ funding costs [3].

• Fundstrat’s Tom Lee forecasts regional banks will benefit from declining interest rates in 2026 [5].
• KRE rose marginally on Christmas Eve with low holiday trading volume, while broader markets followed the Santa Claus rally [0].
• Interest rates are projected to decline to ~3% by end-2026, with the Fed expecting one cut and markets pricing in 2-3 [1][2][4].
• Regional banks stand to gain from expanding NIM, increased loan demand, and attractive valuations, but face risks from rate cut uncertainty, credit quality, and funding competition [3].