US pre-mkts: Bank earnings strong, Cat upgrade

Equities
Investments

Very strong bank earnings coming through this morning – JPM led the way yesterday and the latest numbers from peers also look strong. Real good signs of improving loan growth in particular is a positive for BAC.

US pre-market key pointers

Bank of America (BAC)

Strong performance from Bank of America.

  • Net income of $7.7bn, EPS of $0.85 vs $0.71 expected
  • Revenues up 12% year-on-year – JPM was just up 2.2%
  • Net interest income up 10% to $11.1bn – most rate-sensitive of the big banks
  • Record M&A activity – Noninterest income up 14% to $11.7bn, driven by record asset management fees, strong investment banking revenue and higher sales and trading revenues
  • Expenses down on the quarter, flat on the year
  • $624m clawback from bad loan provisions – bottom line flattered less than the JPM numbers.
  • Stock up pre-mkt to tune of 2.5%, having fallen 0.92% yesterday in sympathy with JPM, which is trading mildly higher in pre-mkt.

Wells Fargo (WFC)

Wells Fargo results showed:

  • Net income of $5.1bn, EPS $1.17 vs $0.98 expected
  • Net interest income was down 5%, due to lower loan balances that reflect soft demand, also higher prepayments, lower yields
  • Results include $1.7bn decrease in credit loss provisions – equivalent to $0.30 per share.
  • Pre-mkt trades +1%, having slipped 1.3% yesterday.

Meanwhile, ahead of the cash open on Wall Street, US futures indicate all the major averages will open higher. SPX seen opening up 30+pts at just under 4,400, Dow Jones +200pts at 34,610, NDX at 14,900. Risk looking solid.

  • Walgreens Boots Alliance reported earnings $1.17, vs $1.02 expected, revenues $1bn ahead of expectations, cost-cutting programme a year ahead of schedule. US comparable sales up 8.1% from a year before.
  • UnitedHealth shares +2% pre-mkt after reporting earnings beat and raised guidance.
  • Caterpillar +1% pre-mkt, bouncing of its weakest level since Jan, as Cowen advises clients to buy ahead of the first ‘megacycle’ in 14 years, initiates with ‘Outperform’ rating and PT of $241.
  • Tesla shares are up pre-mkt to their best level in 7 months.
  • Boeing down 1% pre-mkt after report says co. dealing with new Dreamliner defect, production problems
  • FTSE 100 at HOD just a whisker under 7,200
  • Dollar continues to struggle. GBPUSD making a fresh 3-week high at 1.37334.
  • Gold also trades at HOD at $1,800, sitting on its 100-day SMA.
  • Treasury yields lower, 10s at 1.532%

Markets primed for US inflation, FOMC minutes, JPM kick off earnings season proper

Morning Note

European stocks were off half a percent this morning in early trade after another fragile day on Wall Street saw selling into the close and another weaker finish. All eyes today on the US CPI inflation number, minutes from the FOMC’s last meeting and the start of earnings season with numbers due out from JPMorgan. Asian equities mixed after Chinese trade data was better than expected.

Markets in Europe turned more positive after the first half-hour but it’s clear sentiment is anaemic The FTSE 100 is chopping around its well-worn range, the DAX is holding on to its 200-day moving average just about. Possible bullish crossover on the MACD needs confirming – big finish required.

Dax Chart 13.10.2021

JOLTS: We saw a marked jump in the “quits rate” with 4.3m workers leaving their jobs, with the quits rate increasing to a series high of 2.9%. Tighter labour market, workers gaining bargaining power = higher wages, more persistent inflation pressures.

But… 38% of households across the US report facing serious financial problems in the past few months, a poll from NPR found. Which begs the question – why and how people are not getting back into work and quitting. One will be down to massive asset inflation due to central bank and fiscal policy that has enabled large numbers of particularly older workers to step back sooner than they would have down otherwise. Couple of years left to retire – house now worth an extra 20% and paid off, 401k looking fatter than ever, etc, etc. Number two is something more sinister and damaging – people just do nothing, if they can. Working day in, day out is like hitting your head against a brick wall – you get a headache, you die sooner, and you don’t go back to it once you’ve stopped doing it. Animal spirits – people’s fight to get up and do things they’d prefer not to do – have been squashed by lockdowns.

More signs of inflation: NY Fed said short and medium-term inflation expectations rose to their highest levels since survey began in 2013.

NY Fed inflation expextations 13.10.2021

UoM preliminary report on Friday – will give us the latest inflation expectation figures. This is where expectations stand now. Today’s CPI print is expected to show prices rose 0.4% on the month to maintain the annual rate at 5.4%.

University of Michigan inflation expectations 13.10.2021

The Fed’s Clarida said the bar for tapering was more than met on inflation and all but met on employment. FOMC minutes will tell us more about how much inflation is a worry – we know the taper is coming, the question is how quickly the Fed moves to tame inflation by raising rates.

Watch for a move in gold – it’s been a fairly tight consolidation phase even as rates and the USD have been on the move – the inflation print and FOMC minutes could spur a bigger move. Indicators still favour bulls.

Gold Chart 13.10.2021

US earnings preview: banks kick off the season

Wall Street rolls into earnings season in a bit of funk. The S&P 500 is about 4% off its recent all-time high, whilst the Nasdaq 100 has declined about 6%, as the megacap growth stocks were hit by rising bond yields. S&P 500 companies are expected to deliver earnings growth of 30%, on revenue growth of 14%.

JPMorgan Chase gets earnings season underway with its Q3 numbers scheduled for Oct 13th before the market open. Then on Thursday we hear from Bank of America, Citigroup, Morgan Stanley and Wells Fargo, before Goldman Sachs rounds out the week on Friday. JPMorgan is expected to deliver earnings per share of $3, on revenues of $29.8bn. Note JPM tends to trade lower on the day of earnings even when it beats expectations for revenues and earnings.

Outlook: Nike and FedEx are among a number of companies that have already issued pretty downcast outlook. Supply chain problems are the biggest worry with a majority of companies releasing updates mentioning this. Growth in the US is decelerating – the Atlanta Fed GDPNow model estimates Q3 real GDP growth of just 1.3%. Higher energy costs, rising producer and consumer inflation, supply bottlenecks, labour shortages and rising wages all conspiring to pull the brake on the recovery somewhat. Still, economic growth has not yet given way to contraction and after a global pandemic it will take time to recovery fully.

Trading: Normalisation of financial markets in the wake of the pandemic – ie substantially less volatility than in 2020 – is likely to weigh somewhat on trading revenues, albeit there was some heightened volatility in equity markets towards the end of September as the stock market retreated. Dealmaking remains positive as the recovery from the pandemic and large amounts of excess cash drove business activity.

Costs: The biggest concern right now for stocks is rising costs. Supply-side worries, specifically rising input and labour costs, pose the single largest headline risk for earnings surprises to fall on the downside. The big banks have already raised their forecasts for expenses this year on a number of occasions. It’s not just some of the well-publicized salary hikes for junior bankers that are a concern – tech costs are also soaring.

Interest rates: Low rates remain a headwind but the recent spike in rates on inflation/tapering/tightening expectations may create conditions for a more positive outlook. The 10s2s spread has pushed out to its widest since June. Rising yields in the quarter may have supported some modest sequential net interest income improvement from Q2.

Chart: After flattening from March through to July, the yield curve is steepening once more.

Yield Curve 13.10.2021

Loan demand: Post-pandemic, banks have been struggling to find people to lend to. Commercial/industria loans remain subdued versus a year ago, but there are signs that consumer loan growth is picking up. Fed data shows consumer loan growth has picked up as the economy recovers. However, UBS showed banks were lowering lending requirements in a bid to improve activity, which could impact on the quality, though this is likely a marginal concern given the broad macro tailwinds for growth. Mortgage activity is expected to be substantially down on last year after the 2020 surge in demand for new mortgages and refinancing.

Chart: Consumer loan growth improving

Consumer Loan chart 13.10.2021

Other stocks we are watching

The Hut Group (THG) – tanked 30% yesterday as its capital markets day seems to have been a total bust. Efforts to outline why the stock deserves a high tech multiple and what it’s doing with Ingenuity and provide more clarity over the business seemingly failed in spectacular fashion. The City has totally lost confidence in this company and its founder. No signs of relief for the company as investors give it the cold shoulder. Shares are off another 5% this morning.

Diversified Energy – the latest to get caught in the ESG net – shares plunged 19%, as much as 25% at one point after a Bloomberg report said oil wells were leaking methane. Rebuttal from company seemed to fall on deaf ears. Shares recovering modestly, +3% today.

Analysts are lifting their Netflix price targets, partly on the popular “Squid Game.” Netflix will report its third-quarter earnings next week.

Summer heatwave for inflation

Morning Note

Inflation is getting hotter and hotter. UK inflation rose to 2.5% in June from 2.1% the previous month, smashing expectations and in the process likely to increase the pressure on the Bank of England to tighten monetary policy. It’s even hotter in the US, with headline CPI print hitting 5.4%, whilst the month-on-month registered its highest jump since June 2008. Core readings were particularly strong with the annual rate rising to 4.5% – a 30-year high – from 3.8% on a very aggressive month-on-month read. It’s becoming evident it may not be as transitory as the Fed thought it was going to be. It might not last forever but the Fed might just be minded to think that a taper announcement in Aug/Sep would be a prudent step.  You can explain some of it away from base effects from last year, but the core month-on-month number hit +0.9% and is accelerating. A large chunk of that was down to used cars and truck prices (+10.5% mom) and this shouldn’t continue for much longer, but it nevertheless underlines fears inflation is racing away faster than the Fed wants to run at. On used cars, the semi shortage could go on for longer so that needs to be considered – second-hand cars were singled by the ONS in the UK data, too. The Fed and Bank of England will hope that the hot readings are a summer heatwave driven by parts of the economy that were essentially shut down last year – travel, eating out, etc. Indeed US month-on-month food away from home rose 0.7% – the biggest jump in 40 years. Perhaps you can go out to dinner more than once a night, Jay. 

 

BofA’s July Global Fund Manager Survey pointed to the passing of peak growth, noting that investors are much less bullish on growth, profits and yield curve steepening, which has led them to unwind “junk>quality, small>large, value>growth trades back to Oct’20 levels”.  They note that the cyclical “boom” has peaked with July growth expectations 47%, down from 91% peak in Mar 2021, while global GDP & EPS readings indicate macro momentum is at its weakest since the third quarter of 2020. They also say that fiscal optimism is fading with survey expectation for US infrastructure stimulus down to $1.4tn, from $1.9tn in Apr 21. But on inflation fund managers are not so worried – percentage of investors predicting higher inflation at 22% from 93% in April. 

 

Anyway, enough buy-side ramblings, back to the market reaction. The CPI print sent the dollar up and stocks lower initially, but bond yields didn’t do much and both pared their respective gains/losses. Nasdaq futs dropped sharply but the composite was back at a fresh record high within an hour of the opening bell and the S&P 500 followed half an hour later. By the close however, the 10yr yield had jumped over 4 basis points to cross 1.4% and the major indices ended the day a little lower on the session. Market seems to be saying that higher inflation means earlier tapering/hiking chance of taper & hikes, but longer-run rates will be lower. This means a flatter curve and a riskier backdrop for the Fed to land this fighter jet on the aircraft carrier. European stock markets opened lower in early trade on Wednesday. 

 

Key question: are we still in the transitory phase? Interesting note from Citi about how the data will get more interesting from here on out. “June could be the last month where CPI is overwhelmingly driven by “transitory” factors, meaning the coming months of CPI data should again give us new information on the path and underlying trend of inflation.” San Francisco Fed president Mary Daly said she expected the pop in inflation, and they should be in a good position to start tapering by the end of the year. I think with this print it’s very clear we get the Aug/Sep taper announcement. In fact I think the way the inflation readings have been the last three prints, it’s a nailed-on certainty.  

 

Bank earnings were very good – Goldman Sachs delivered earnings of $15.02 per share vs. $10.24 expected, as revenues rose above $15bn. A surging IPO market sent investment banking revenues to $3.6bn – the second best ever after Q1 2021. JPMorgan posted EPS of $3.78, ahead of the $3.21 estimate, on revenues of $31.4bn. After setting aside vast sums for credit impairments, JPM recorded a net credit cost benefit of $2.3bn for the quarter as it was able to claw these back. CEO Jamie Dimon said: “In particular, net charge-offs, down 53%, were better than expected, reflecting the increasingly healthy condition of our customers and clients.” Trading revenues were down 30% but investment banking provided the offset.  

Cryptocurrency update: Bitcoin price drop prompts trading fall

The ongoing BTC lull and previous market crash may have caused a freefall in crypto trading volumes.

Cryptocurrency update

Crypto trading volumes fall as BTC price stalls

Trading volumes on major cryptocurrency exchanges dropped over 40% in June according to CryptoCompare data.

The market researcher found that trading activity had plummeted on the largest exchanges, including Binance, Coinbase, Kraken and Bitstamp.

Bitcoin’s current price is likely behind the drop. After peaking at record highs in April, the world’s most popular token has struggled to regain value after crashing to below $29,000 in June.

China’s move to crackdown on crypto mining operations and wrest control of decentralised finance markets into the hands of the government has led to Bitcoin’s struggles. Notably, with Bitcoin miners having to move out of China, the hash rate, or the rate at which new BTC tokens are minted, has fallen. Supply may be even tighter than usual.

Other criticisms around the Bitcoin from an environment, social and governance perspective has also put a dampener on BTC performance. In an increasingly environmentally conscious world, stories of BTC mining consuming as much power annually as Sweden may have put investors off.

The regulatory framework around crypto trading in general is still being hashed out on a global scale. When it comes to Bitcoin, however, intergovernmental bodies like the Financial Action Task Force, are keeping a close eye on its network. Money laundering and using BTC to fund illegal activities is something many watchdogs are keeping a close eye on.

Other financial and institutional bodies are stepping up their efforts to safeguard retail investors against the massive volatility and uncertainty crypto trading can bring too.

Then there are other concerns around the naivety of BTC investors and traders. Many are total newcomers to these two disciplines. They may not have the capital or the experience necessary to whether a Bitcoin bear market, as they only just got in when goings are good.

Even if trading volumes have slumped in June, they are still some of the highest volumes seen in crypto trading yet. But with half the market gone, and the BTC price in the midst of a lengthy correction, it may take something big to entice investors back.

Of course, many large scale buyers with the capital to match may be using this as a period of accumulation. We’ve seen Bitcoin whales snaff up tokens left right and centre during price lulls, and this may be what we’re seeing in the here and now.

El Salvador BTC plans may put a squeeze on the global network

El Salvador’s plan to introduce Bitcoin as legal tender continues to draw flack.

JPMorgan has warned that this would have negative ramifications for both the token and El Salvador should plans go through.

According to a report from the US megabank, such a scheme would put enormous strain on the Bitcoin blockchain network. It would severely limited Bitcoin as a method for exchange, the report said, with issues around illiquidity and the token’s trading nature causing big hurdles.

JPMorgan analysts said that Bitcoin is highly illiquid, noting that most Bitcoin trading volumes are internalized by major exchanges, with more than 90% of Bitcoin not changing hands in more than a year.

“Daily payment activity in El Salvador would represent 4% of recent on-chain transaction volume and more than 1% of the total value of tokens which have been transferred between wallets in the past year,” the report said.

JPMorgan also has worried about convertibility. A continuous imbalance of demand for conversions of Bitcoin and the United States dollar could “cannibalize onshore dollar liquidity” and eventually introduce fiscal and balance of payments risk, according to JPMorgan.

El Salvador’s government passed a bill in June that states Bitcoin would be accepted there as legal tender alongside the US dollar. Under the bill’s stipulations, merchants across El Salvador must accept BTC if offered as a method of payment.

The country also wants to be Central America’s mining hub, with an audacious plan to harness the power of volcanos to power its mining operations.

Coinbase a “tactical trade” says Goldman

Coinbase, the US’ largest crypto exchange, may be on course to beat Wall Street earnings.

The exchange’s Q2 2021 results are due soon as earnings season has begun on Wall Street. Goldman Sachs has identified the stock, which trades under the COIN ticker, as buy.

In an interesting bit of analysis, Goldman researchers say that the current parade of negative crypto headlines could actually be benefiting Coinbase. What Goldman calls “significantly higher elevated crypto asset volatility”, or the wild price action we’ve been seeing in recent months, may have led to increased pre-BTC collapse trading volumes. Coinbase can then capture this activity through its fees.

Even if BTC’s price stays low, Coinbase may be able to profit off uneasy traders looking to divest and others looking to buy in a market downturn.

Goldman acknowledged its analyst’s earnings per share estimate for Coinbase is “11% above consensus” for the year ahead – way ahead of the Wall Street consensus.

Earnings Season Preview

Equities
  • Wall Street banks kick off earnings season on Friday
  • EPS estimates seen down -10%
  • BofA, Citi calling top on frothy market

The S&P 500 has risen over 1% this week to make a fresh record high, closing above 3,800 for the first time in its history. Ebullience is a factor of the hope in vaccines leading to a return to normal, corporate earnings improving sharply in 2021, and a broadly expansionary fiscal and monetary environment offering succour to equity valuations. So we come into earnings season with markets in overall good shape, arguably looking a bit toppy and expensive as multiples are stretched and vaccines are yet to deliver the bounce back hoped for. Payroll numbers on Friday (-140k) highlight the problem facing the US economy in terms of long-term damage but also the low bar being set. Looking beyond the Q4 figures, guidance on the upcoming Q1 2021 quarter will no doubt be more important than ever.

All else equal, stretched multiples in 2021 ought to contract slightly as rates rise but EPS should improve faster with more expansionary and redistributive pro-cyclical policy in Washington. The Democrat wins in Georgia have taken us to Blue Wave territory, though it’s important to stress that with the Senate 50/50 and one Democrat (Joe Manchin) already saying he would not approve more radical policies, we are not in Blue Tsunami mode.

The average earnings per share (EPS) on the S&P 500 are seen falling by around -10% on last year’s fourth quarter, with revenues seen flat. This compares with the –7% drop in Q3 and –32.2% decline in Q2 at the height of the pandemic and it has been revised up from –12.8% in September. Q1 2021 EPS is currently forecast at +12.6% so a key theme of this season will be to what extent corporates think the growth trend will pick up at the start of this year, or do they fear of a stop-start recovery?

Key themes

  • Are banks optimistic about net interest margins as yield curve steepens?
  • Are banks ready to recommence buybacks? Or, rather, just big are these buybacks going to be?
  • Do they see further reflationary pressures?
  • Do CFOs predict earnings growth to pick up further in Q1 on the vaccine rollout?
  • What do CEOs think about the likely fiscal expansion and procyclical stimulus from a Democrat Congress?
  • Are CEOs fearful of Blue Wave of regulation and higher corporate taxes?
  • How confident are the energy companies about oil price stabilisation persisting?
  • How have the Stay-at-home stocks performed after the pull-forward in demand in Q2 and Q3?
  • Are Zoom, Amazon, Netflix et al able to manage expectations for future growth?

This week’s highlighted stock

JPMorgan Chase & Co (JPM): JPM has been buoyed by strong trading revenues at its investment bank, whilst bad loans are not as big a problem as investors thought they would be at the peak of the pandemic. The arrival of fresh stimulus has undoubtedly been a boost to bank shares as it limits the damage of bad loans and it helps steepen the yield curve, boosting net interest income. JPM has already committed to buying back $30bn in stock after the Fed announced in December that it will allow Wall Street’s largest banks to resume share buybacks in the first quarter of 2021, subject to certain rules.

In particular, we will be keen to hear from Jamie Dimon and co about their outlook for rates and how this could impact net interest margins and income. In Q3 net interest income was $13.1 billion, down 9% year-over-year, predominantly driven by the impact of lower nominal rates. However, since then the 10-year yield has risen to nine-month highs above 1.10% and spreads have widened with the with the 2s10s curve steepening further to 0.91%, the widest in well over 3 years. The 5s30s spread is at its widest since 2016. Revenues expected $28.337bn. EPS expected $2.50.

Sentiment for JP Morgan Analysis

 

Citigroup Inc (C) and Wells Fargo & Co (WFC) are also reporting on Friday a day after BlackRock Inc (BLK) gets the show on the road.

Jefferies upgraded JPM and WFC this week, stating that EPS estimates are up on a “less bad” credit outlook. And whilst banks are struggling to drive revenue growth, the analysts believe that “higher long rates and an eventual turn in loan growth could join strong deposit growth, better cost control, and a restart of buybacks as positives”.

US Earnings Calendar Highlights

 

Mon 11 Jan
Tue 12 Jan
Wed 13 Jan
Thu 14 Jan Blackrock Inc (BLC)
Fri 15 Jan JPMorgan Chase Co. (JPM)
Citigroup (C)
Wells Fargo (WFC)
Mon 18 Jan
Tue 19 Jan Bank of America Corp (BAC)
Goldman Sachs Group Inc (GS)
Netflix Inc (NFLX)
Wed 20 Jan Morgan Stanley (MS)
Proctor & Gamble (PG)
Thur 21 Jan IntelCorp (ITC)
International Business Macines (IBM)
Fri 22 Jan Schlumberger Ltd (STB)
Mon 25 Jan
Tue 26 Jan 3m Co (MMM)
American Express (AXP)
General Electric (GE)
Johnson & Johnson (JNJ)
Verizon Communications Inc (VZ)
Advanced Micro Devices (AMD)
Starbucks Group (SBUX)
Wed 27 Jan AT&T (T)
Automatic Data Processing (ADP)
Boeing (BO)
Apple Inc (AAPL)
Facebook (FB)
Thu Jan 27 McDonald’s Corp (MCD)
Fri Jan 28 AON (AON)
Caterpillar Inc (CAT)
Chevron (CVX)
Mon 1 Feb Alphabet Inc C (GOOG)
Alphabet Inc A (GOOGL)
Tue 2 Feb ExxonMobil (XOM)
Lumentum Holdings (LITE)
Pfizer (PFE)
Gilead Sciences Inc (GILD)
Snap IncA (SNAP)
Wed 3 Feb General Motors (GM)
Mastercard (MA)
Spotify Tehcnology SA (SPOT)
Illumina (ILMN)
Microsoft Corp (MSFT)
Mondelez (MDLZ)
PayPal Holdings (PYPL)
Peloton (PTON)
Qualcomm Inc (QCOM)
Tesla Inc (TSLA)
Twilio (TWL)
Thu 4 Feb Coca-Cola Co (KO)
Merck & Co Inc (MRK)
Philip Morris International (PM)
Takeda Pharmaceutical (TAK)
Twitter Inc (TWTR)
Activision Blizzard (ATVI)
Amazon.com Inc (AMZN)
Pinterest (Pins)
Uber Technologies (UBER)
Visa Inc Class A (V)

Banks set to kick off US Q3 earnings season

Equities

The S&P 500 rose 8.5% to 3,363 over the third quarter, having hit an all-time of 3580 at the start of September, with an intraday peak at 3588. The market faced ongoing headwinds from the pandemic, but risk sentiment remained well supported through the quarter by fiscal and monetary policy.

A pullback in September erased the August rally but was largely seen as a necessary correction after an over-exuberant period of speculation and ‘hot’ money into a narrow range of stocks.

Q3 earnings come at important crossroads: Expectations for when any stimulus package will be agreed – and how big it should be – continue to drive a lot of the near-term price action, though the market has largely held its 3200-3400 range.

Elevated volatility is also expected around the Nov 3rd election. But next week we turn to earnings and the more mundane assessment of whether companies are actually making any money.

Banks kick off Q3 earnings season

Financials are in focus first: Citigroup and JPMorgan kick off the season formally on October 13th with Bank of America, Goldman Sachs and Wells Fargo on the 14th. Morgan Stanley reports on Oct 15th, In Q2, the big banks reported broadly similar trends with big increases in loan loss provisions offset by some stunning trading earnings.

Wall Street beasts – JPM, Goldman Sachs, Citi, Morgan Stanley and Bank of America – posted near-record trading revenues in the second quarter with revenues for the five combined topping $33bn, the best in a decade. At the time, we argued that investors need to ask whether the exceptional trading revenues are all that sustainable, and whether there needs to be a much larger increase for bad debt provisions.

Meanwhile, whilst the broad economic outlook has not deteriorated over the quarter, it has become clear that the recovery will be slower than it first appeared. Moreover, during Q3 the Fed announced a shift to average inflation targeting that implies interest rates will be on the floor for many years to come, so there is little prospect of any relief for compressed net interest margins.

Meanwhile there is growing evidence of a real problem in the commercial mortgage-backed securities (CMBS) market as new appraisals are seeing large swatches of real estate being marked down, particularly in the hotels and retail sectors.

At the same time, the energy sector has gone through a significant restructuring as we have seen North American oil and gas chapter 11 filings gathering pace through the summer as energy prices remained low. There is a tonne of debt maturing next year but how much will be repaid?

Key questions for the banks

  • Did the jump in trading revenues in Q2 carry through in Q3? Jamie Dimon thought it would halve.
  • On a related note, did the options frenzy in August help any bank more than others – Morgan Stanley?
  • Have provisions for bad loans increased materially over the quarter?
  • How bad are credit card, home and business loans?
  • And how bad is the commercial property sector, especially hotels and retail as evidence from the CMBS market starts to look very rocky?
  • How are bad debts in oil & gas looking?
  • How are job cuts helping Citigroup lower costs; how will its entry into China make a difference to the outlook?
  • How does Wells Fargo manage without an investment arm to lean on? So far it’s been a bit of a mess.
  • Was Warren Buffett right to cut his stake in Wells Fargo and some other US banks? Buffett pulled out airlines first then banks.
  • What do banks think of never-ending ZIRP and does the Fed’s shift affect forecasts at all?
  • How is Morgan Stanley’s wealth management division cushioning any drop in trading revenues?
  • What progress on Citigroup’s risk management system troubles?

Q2 earnings recap

JPMorgan beat on the top and bottom line. Revenues topped $33.8bn vs the $30.5bn expected, whilst earnings per share hit $1.38 vs $1.01 expected. The range of estimates was vast, so the consensus numbers were always going to be a little out.

The bank earned $4.7bn of net income in the second quarter despite building $8.9 billion of credit reserves thanks to its highest-ever quarterly revenue. Loan loss provisions were $10.5bn, which was more than expected and the quarter included almost $9bn in reserve builds largely due to Covid-19.

The consumer bank reported a net loss of $176 million, compared with net income of $4.2 billion in the prior year, predominantly driven by reserve builds. Net revenue was $12.2 billion, down 9%. Credit card sales were 23% lower, with average loans down 7%, while deposits rose 20% as consumers deleveraged.

The provision for credit losses in the consumer bank was $5.8 billion, up $4.7 billion from the prior year driven by reserve builds, chiefly in credit cards.

Trading revenues were phenomenal, rising 80% with fixed income revenues doubling. Return on equity (ROE) rose to 7% from 4% in Q1 but was still well down on the 16% a year before. ROTE rose to 9% from 5% in the prior quarter but was down from 20% a year before.

Citigroup EPS beat at $0.50 vs the $0.28 expected. Trading revenues in fixed income rose 68%, and made up the majority of the $6.9bn in Markets and Securities Services revenues, which rose 48%. Equity trading revenue dipped 3% to $770 million. Consumer banking revenues fell 10% to $7.34 billion, while net credit losses, jumped 12% year over year to $2.2 billion. Net income was down 73% year-on-year.

Since then the bank has offloaded its retail options market making business, leaving Morgan Stanley (reporting Oct 15th) as the major player left in this market. We await to see what kind of impact the explosion in options trading witnessed over the summer had on both. ROE stood at just 2.4% and ROTE at 2.9%.

Wells Fargo – which does not have the investment banking arm to lean on – increased credit loss provisions in the quarter to $9.5bn from $4bn in Q1, vs expectations of about $5bn. WFG reported a $2.4 billion loss for the quarter as revenues fell 17.6% year-on-year.

CEO Charlie Scharf was not mincing his words: “We are extremely disappointed in both our second quarter results and our intent to reduce our dividend. Our view of the length and severity of the economic downturn has deteriorated considerably from the assumptions used last quarter, which drove the $8.4 billion addition to our credit loss reserve in the second quarter.”

Bank of America reported earnings of $3.5 billion, with EPS of $0.37 ahead of the $0.27 expected on revenues of $22bn. Its bond trading revenue rose 50% to $3.2 billion, whilst equities trading revenue climbed 7% to $1.2 billion. But the bank increased reserves for credit losses by $4 billion and suffered an 11% decline in interest income.

Return on equity (ROE) fell to 5.44% from 5.91% in the prior quarter and was down significantly from last year’s Q2 11.62%. Return on tangible equity (ROTE) slipped to 7.63% from 8.32% in Q1 2020 and from 16.24% in Q2 2019.

Morgan Stanley was probably the winner from Q2 as it reported net revenues of $13.4 billion for the second quarter compared with $10.2 billion a year ago. Net income hit $3.2 billion, or $1.96 per diluted share, compared with net income of $2.2 billion, or $1.23, for the same period a year ago.

Wealth Management delivered a pre-tax income of $1.1 billion with a pre-tax margin of 24.4%. Investment banking rose 39%, with Sales and Trading revenues up 68%. MS managed to increase its ROE to 15.7%, and the ROTE to 17.8% from respectively 11.2% and 12.8% in Q2 2019.

Goldman Sachs reported net revenues of $13.30 billion and net earnings of $2.42 billion for the second quarter. EPS of $6.26 destroyed estimates for $3.78. Bond trading revenue rose by almost 150% to $4.24 billion, whilst equities trading revenue was up 46% to $2.94 billion. ROE came in at 11.1% and ROTE at 11.8%.

Expectations

(source: Markets.com)

Bank Forecast Revenues (no of estimates)

 

Forecast EPS (no of estimates)

 

BOA $20.8bn (8) $0.5 (23)
GS $9.1bn (15) $5 (21)
WFG $17.9bn (17) $0.4 (24)
JPM $28bn (19) $2.1 (23)
MS $10.4bn (15) $1.2 (20)
C $18.5bn (17) $2 (21)

 

Shares

None have really managed to match the recovery in the broad market but valuations are compelling.

Goldman trading either side of 200-day EMA

Wells Fargo can’t catch any bid

Bank of America bound by 50-day SMA

Citigroup still nursing losses after reversal in September

JPM breakouts consistently fail to hold above 200-day EMA

JPM shares rise on record trading revenues

Equities

Extrapolating too much from a single bank’s earnings is always an easy trap to fall into … but the quarterly numbers from JPMorgan indicate Main Street is not doing nearly as well as Wall Street – this is not a surprise, but it begs the question of when the credit losses from bad corporate and personal debt starts to catch up with the broader market. Moreover, investors need to ask whether the exceptional trading revenues are all that sustainable.

JPM rose in pre-market trade – the shares of JPM and other investment banks (C, GS, MS, BAC) can rally from this because they are relatively cheap and have not participated in the rally since March in the same way as the broad market. However, the implications for the broader market are interesting – do impairments matter for the rest of the market, for consumer cyclicals for example? Given the way the investment bank is doing all the lifting, what are the implications for financials like the XLF ETF? Or Russell 1000 financials? The outlook there must be a lot more challenging.

JPMorgan beat on the top and bottom line. Revenues topped $33.8bn vs the $30.5bn expected, whilst earnings per share hit $1.38 vs $1.01 expected. There was a huge range of estimates so the consensus numbers were always going to be a little out.

The bank earned $4.7bn of net income in the second quarter despite building $8.9 billion of credit reserves thanks to its highest-ever quarterly revenue.

Loan loss provisions were $10.5bn, which was more than expected and the quarter included almost $9bn in reserve builds largely due to Covid-19. The company reaffirmed suspension of share buybacks at least through the end of Q3 2020.

The consumer bank reported a net loss of $176 million, compared with net income of $4.2 billion in the prior year, predominantly driven by reserve builds. Net revenue was $12.2 billion, down 9%. Credit card sales were 23% lower, with average loans down 7%, while deposits rose 20% as consumers deleveraged. The provision for credit losses in the consumer bank was $5.8 billion, up $4.7 billion from the prior year driven by reserve builds, chiefly in credit cards.

Trading revenues were phenomenal, rising 80% with fixed income revenues doubling, which indicates the investment banks on Wall Street are in good shape thanks largely to their trading arms. But the numbers elsewhere don’t suggest Main St is in good shape at all, which indicates the more diversified investment banks are going to be in better shape than many others. As we discussed in the preview to this week, the massive about of investment grade corporate bond issuance and mortgage refinancing as companies and household refinanced to take advantage of lower rates has been a big help, albeit far bigger than we had thought. Assets under management rose 15% but this probably broadly reflects the rally in the equity markets since the last earnings release.

My sense is what while the stock market does not reflect the real economy, and the JPM numbers reinforce this view, this is not a barrier to further gains. The vast amount of liquidity that has been injected into the financial system will keep stocks supported – the cash needs to find a home somewhere and bonds offer nothing. However there is clearly a risk that Main Street starts to bite at the ankles of Wall Street and results in another pullback like we saw in the second week of June. We should remember that there could some very hard yards ahead for the US economy as states pause reopening – loan loss provisions may need to rise a lot more.

Meanwhile Delta Airlines reported an ugly loss of $4.43 vs $4.07 expected, though revenues were a little ahead of forecast. Net loss of $3.9bn with Q2 revenues the lowest since the mid-80s. It has the cash to last 19 months despite burning through $27m a day in cash – down from $100m at the peak of the crisis.

Wells Fargo and Citigroup coming up next….

Dow earnings kick off, European markets pare gains, gold hits fresh high

Equities

European markets still traded broadly higher into lunch but failed to make much headway in a pretty lacklustre session. The FTSE 100 failed the test at 5900 and retreated to 5800 where it found support. Bear in mind this comes after a near 4% gain in the last trading session on Thursday. The DAX was off its highs but still traded up 1% for the session.  As of send time, Wall Street is more positive and the Dow was looking to open about 300 points higher.

Meanwhile corporate earnings kicked off today with two Dow components first on the slate. Johnson & Johnson raised its dividend but lowered its guidance for 2020 to reflect the Covid-19 impact. The dividend was raised by 6.3% to $1.01 on adjusted earnings per share of $2.30 vs $2.01 forecast. 

JPMorgan EPS came in a 78 cents vs $1.84 expected and $2.57 a year ago. The key thing was credit costs – provisions for losses jumped to $8.3bn, which was double the median estimate, although it was a lot lower than the $25bn that one analyst forecast. Last year the number was $1.3bn. The bank is preparing for a severe recession and needs to set aside capital to cover expected losses – problem is no one has a clue how big these might be. I should stress that even the cleverest banks won’t know just what the damage will be in a situation where the economy is stopped and then restarted. No big surprise to see a big improvement in trading revenues whilst similarly the drop in investment banking earnings was to be expected. 

Wells Fargo was similarly weak – $0.01 EPS vs $0.33 expected down to the build-up of a huge capital buffer against expected credit losses. The bank raised its reserves by $3.1bn and took a $950 impairment charge that produced a headwind of $0.73 on EPS.  

Gold pushed up to set fresh 7-year highs with spot up at $1727. The move higher comes investors hedge their bets against a sharp decline corporate earnings and a deluge of central bank printing. US retail sales tomorrow and China’s GDP print on Friday are likely to be the chief macro events to focus on. Whilst the gold safety net is all about the decline in real yields, the idea that central bank printing will lead to inflation seems a step too far given the profoundly deflationary shock from Covid-19. Nevertheless, despite inflation and inflation expectations tumbling the impact of Fed and other central bank easing could see real yields drop further into negative territory.

Crude oil futures (Front month WTI) were weaker still with $22 cracking. The massive contango still leaves the Jun contract at above $29. The spread means Spot Oil on the platform is trading with a huge premium to the normal futures contract. A retrace to $20 looks possible for the futures and the real question is how the Jun and further out contracts can hold up where they are. Whilst OPEC has cut output and US production is coming off sharply, the massive build in inventories will surely take time to unwind and we do not see a sudden rebound in demand as economies take time to come out of lockdown. Even when restrictions are lifted, it will take time for people to drive and fly as much as they did. And as far as the OPEC deal goes, Oman’s March output was up 13% in March vs February.  

In FX, the pound was unmoved by the OBR saying that UK GDP could decline by 35% in the second quarter. The coronavirus will cause a deep recession and a £220bn black hole in the public purse, according to the watchdog. This is a known – what matters is how soon the exit from lockdown and how quickly the recovery. The latter depends to a huge degree on how effective the fiscal support has been – how well has money and relief got to companies and individuals. The hit to sentiment long term is going to be much harder to get over. 

GBPUSD held gains north of 1.2530. As per this morning, the pair is looking to hold the rally above the 61.8 retracement at 1.25150. March swing highs around 1.2650 offer near-term resistance to the bulls, as well as the 200-day moving average at 1.2657.

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