European banks rally on French election relief but set for a tough week ahead

European banking stocks soared after the first round of French presidential election was won by centrist Emmanuel Macron. While it is still a long road ahead for Macron as he gets ready to challenge Marine Le Pen in the second round on May 7, European bank investors seem to have made up their mind.

The pan-European Euro Stoxx Banks Index rose above 6 percent in morning trade, hitting its highest level since December 2015 and putting it on course for the biggest one-day rise April 2016. The index is still trading about 4 percent higher led by Unicredit that is up 10 percent this morning. There is a splash of green across the board for all major European banks. But will this rally last?

The financial offices of banks in the financial district of Canary Wharf, are pictured from Greenwich Park in London on January 17, 2017.
Ben Stansall | AFP | Getty Images
The financial offices of banks in the financial district of Canary Wharf, are pictured from Greenwich Park in London on January 17, 2017.

Analysts have warned that this week can be quite a roller-coaster ride for European banks as big bank earnings for the first quarter start to hit wires.

"An important part of the rally in European banks is related to global reflation and its impact on interest rates and yields," Gaurav Saroliya, director of global investment strategy at Oxford Economics, told CNBC via email. "Low/negative interest rates and flatter curves have weighed heavily on banks' net interest margins."

Uncertainties ahead

The European banking sector faces an entire basket of uncertainties that tend to weigh on their performance. Big European banks such as Deutsche Bank, Credit Suisse and Barclays among others have seen weak earnings growth in 2016 due to a number of factors such as low interest rates, uncertainty around the U.K.'s vote to leave the European Union, and lack of liquidity in the market.

"European banks face three long-term headwinds that have impacted their performance over a period of time. These include the Banking Resolution and Recovery Directive, negative interest rates and non-performing loans," Dhaval Joshi, senior vice-president at BCA Research, told CNBC earlier.

But many analysts hope the situation will start to get better now. The U.K. has already triggered Article 50 which gives financial institutions clarity to pursue long term trades and investors will be watching the ECB on Thursday for any policy guidance. Investec Economics expects no change from the ECB this week.

ECB rate decision looms

"We expect the ECB will aim to draft its introductory statement in such a way that it provides little new news for markets to grab on to when analyzing it for hints of a change in policy direction. We expect the ECB to stand by its existing policy plan which foresees asset purchases continuing until year end or longer, whilst providing little by way of specific clues on the timing of rate moves ahead," Investec Economics said in a research note.

But with the ECB rate decision expected to be a non-event, investors will turn their focus to a flurry of bank earnings this week. On Tuesday, we will see Swedbank reporting, followed by Standard Chartered on Wednesday. Thursday will see Deutsche Bank, Nordea, SEB and Lloyds. The week will end with Danske Bank, UBS, RBS and Caixabank on Friday.

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