After a relatively solid showing in 2025, financial stocks have lately fallen out of favour. The KBW Bank Index is down about 15 per cent from its 2026 high on concerns over private credit and potential AI disruption.

Those narratives, however, fail to consider that banks are likely one of the most important beneficiaries of new AI technologies while the impact of private credit concerns on banks is probably overblown.

Artificial intelligence is more likely to enhance bank profitability than disrupt it because banking is fundamentally a data and risk-management business. Large banks already possess enormous proprietary data sets, including transaction histories, credit performance, fraud patterns, and client behaviour, that are ideally suited for AI applications.

By deploying AI across lending, compliance, fraud detection, customer service, and trading, banks can automate tasks that historically required large human workforces. The result should be meaningful structural cost savings and improved risk underwriting.

Unlike many industries facing AI-driven disintermediation, banks are positioned to internalise these gains because regulatory barriers, capital requirements, and customer trust make it extremely difficult for new entrants to replicate their scale.

This dynamic creates what some investors have begun to call the “AI bank dividend”. As AI systems progressively replace manual processes, ranging from credit analysis and call centres to anti-money-laundering monitoring, banks should see a steady reduction in operating expenses without sacrificing revenue growth.

McKinsey and Company estimates that generative AI could create $200 to $340 billion of value annually for the global banking industry, primarily through productivity gains and automation. Meanwhile, consulting firm Accenture estimates that up to 30 per cent of banking tasks could be automated, significantly lowering labour costs.

Private credit funds imposing high profile “gates”, or redemption restrictions, are also unlikely to materially harm commercial banks. In fact, most commercial banks have limited direct exposure to private credit vehicles themselves. Their primary business remains traditional deposit-funded lending, which is structurally different from the closed-end or interval fund structures typically used in private credit markets.

When liquidity pressures emerge and some private credit funds restrict redemptions, the impact is largely contained within those vehicles and their investors rather than spreading broadly through the regulated banking system.

Banks today also hold significantly higher capital and liquidity buffers than prior cycles, making them better positioned to absorb credit volatility.

In some respects, stress in private credit markets could even benefit commercial banks. Over the past decade, private credit lenders expanded rapidly by offering flexible financing to middle-market borrowers, often competing directly with banks.

If tighter liquidity or investor caution slows that market, borrowers may increasingly return to banks for financing. This dynamic could restore pricing discipline and allow banks to capture higher spreads on new loans.

As a result, while market volatility in private credit may create temporary headlines, it is unlikely to undermine the stability of the banking sector and may ultimately reinforce the competitive advantages of well-capitalised commercial banks.

An improving regulatory environment is also a near-term positive for banks. Regulators are presently moving towards a new draft Basel capital framework that could reduce capital requirements for large banks and lower onerous surcharges, potentially freeing up over $175  billion in capital for lending and shareholder returns if finalised.

This regulatory shift reflects legislative intent to make capital rules generally more growth-friendly for banks.

US bank stocks are currently trading at about 11.5 times expected earnings, with dividend yields of around 3 to 4 per cent. By comparison, the broader S&P 500 is trading around 22 times earnings with a dividend yield of just 1.2 per cent. Bank stocks are trading at almost a 50 per cent discount to the overall market, which is near the low end of their historic trading range.

Looking ahead, aggregate revenue for the banks is expected to grow about 9 per cent annually through 2027, according to FactSet data.

Growth is expected to come from improving loan demand, resurgent merger and acquisition (M&A) activity and strong trading revenues from the larger investment banks like Goldman Sachs as markets remain volatile.

Assisted by AI and advanced computing technology, bottom line bank earnings can grow 14 per cent annually over the next two years assuming the economic backdrop remains resilient.

While headline risks from surging oil prices, the war in Iran and private credit fund challenges have kept some investors on the sidelines, the financial sector offers an attractive risk-reward opportunity for patient investors.

• Bryan Dooley, CFA, is the chief investment officer at LOM Asset Management Ltd in Bermuda. Please contact LOM at +1 441-292-5000 or visit www.lom.com for further information. This communication is for information purposes only. It is not intended as an offer or solicitation for the purchase or sale of any financial instrument, investment product or service. Readers should consult with their brokers if such information and or opinions would be in their best interest when making investment decisions. LOM is licensed to conduct investment business by the Bermuda Monetary Authority