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Big Bank Earnings Mixed So Far As Earning Season Ramps Up Amid Low Expectations

JJ Kinahan

The market seems to be tiptoeing into earnings season with a bit of caution.

That’s understandable given the predictions for an overall decline in earnings growth. Heading into this earnings season—which investors are likely to watch closely because corporate profits drive the market over the long term—investors might not be too happy with current expectations.

S&P Capital IQ consensus estimates were showing that Q4 S&P 500 earnings per share will decline 2% from the prior year, investment research firm CFRA said in a Monday note.

But there may be a silver lining. The third quarter of 2019 was the 31st quarter in a row where the reported EPS change beat the estimated EPS change, CFRA noted, adding that in those 31 quarters actual results beat forecasts by an average of 3.8 percentage points. If history repeats itself, investors could be looking at Q4 earnings performance of closer to a 2% gain than a 2% decline, the research firm said. Remember the boilerplate message about past performance and future results.

But it’s not just the numbers to pay attention to. Earnings season is also a great time to hear from corporate executives on their outlooks. This season, investors will probably be tuning in to see if executives have anything to say about their outlooks for the global trade environment, interest rates, and of course their own company-specific guidance on sales and earnings.

In economic news this morning, the Labor Department’s consumer price index came is as expected for December, showing a month-on-month 0.2% rise, which marked a moderation from the prior reading of a 0.3% gain. The core CPI figure, which strips out volatile food and energy also eased, rising just 0.1% in December from a prior rise of 0.2%.

This morning’s numbers mean both the headline number and the core figure are up 2.3% on a yearly basis. In November, CPI rose to 2.1% and core CPI was at 2.3%. 

Those figures were a bit ahead of the Fed’s 2% inflation target, but they didn’t seem to point to runaway inflation that would invite a rate hike. Also, that inflation target is for the Fed’s preferred inflation gauge, the personal consumption expenditures price index, which has been running well below that target. The latest yearly core reading for the PCE price index showed a 1.6% gain.

As Boston Fed President Eric Rosengren noted in a speech yesterday, lack of inflationary pressure has been a justification for the central bank’s accomodative monetary policy even though the economic recovery is still going and unemployment is historically low. (See more from Rosengren’s speech below.)

Of course, the Financials sectors is one place in the market that is particularly attuned to interest rates, as the curve of short- to long-term rates has a big effect on bank margins. 

So it’s perhaps fitting that the inflation data come out the same day that major banks report earnings. JPMorgan Chase & Co. (NYSE: JPM), Citigroup Inc (NYSE: C), and Wells Fargo & Co (NYSE: WFC) reported this morning and other big banks Bank of America Corp (NYSE: BAC), Goldman Sachs Group Inc (NYSE: GS), and Morgan Stanley (NYSE: MS) are expected to open their books later in the week.

JPM beat Wall Street expectations on its top and bottom lines, helped by a jump in trading revenue. Bond trading revenue, in particular, rose more than 80%. To keep things in perspective, however, that’s a big rise from a low number a year ago. Fixed income trading also helped C, which reported earnings and revenue that also beat analyst expectations.

Despite multiple headwinds—a flattish (but steepening a bit recently) yield curve, trade disputes, and the stiffer regulation that resulted from the 2008–09 financial crisis—these big banks have kept finding ways to muddle through. It’s a nice testament to their discipline with expenses.

It was a different story for WFC however, as earnings and revenue missed expectations as fallout from the 2016 fake account scandal continued and low interest rates contributed to falling net interest income.

Perhaps some excitement about a potentially better-than-expected earnings season helped boost Wall Street sentiment on Monday, when the three main U.S. indices all had a solid day and the S&P 500 Index (SPX) and the Nasdaq Composite (COMP) closed at record highs.

On the trade front, news reports that the United States would no longer labeling China as a currency manipulator helped boost sentiment ahead of this week’s expected signing of a phase one trade deal. The deescalation of trade tensions has been a major boon for stocks recently, helping U.S. indices hit a string of record highs.

Of course, if the interim trade deal—which is expected to lower duties on some goods from China and see China increase purchases of U.S. farm products—does get signed this week, that doesn’t mean the trade dispute between the world’s two largest economies is over.

A lack of escalation in the Middle East also seemed to contribute to the risk-on mood on Wall Street on Monday.

With the positive sentiment in equities, it probably wasn’t too much of a surprise to see gold prices lose ground and demand for U.S. government debt wane. Wall Street’s main fear gauge, the Cboe Volatility Index (VIX) also moved lower.

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FIGURE 1: GOLD BACKING OFF. Gold futures (/GC) yesterday—and into this morning—eased further away from a peak hit last week after the U.S. killed a key Iranian military official, which at the time ratcheted up tensions in the Middle East. This week started out on a calmer note, and demand for gold as safe-haven investment seems to have declined. Data source: CME Group. Chart source: The thinkorswim® platform from TD Ameritrade. For illustrative purposes only. Past performance does not guarantee future results.  

Will Risks Remain Contained? With this morning’s inflation data, it might be helpful to highlight some of Boston Fed President Eric Rosengren’s speech from yesterday. He said central bankers don’t have much historical experience with interest rates running low while unemployment is at historical lows. In such an environment, Rosengren sees a few potential risks, but “if these risks remain contained, my view is we will likely have another year of good economic outcomes.” This morning's inflation number may bolster such a view—that in the absence of runaway inflation, there's no pressing mandate to turn hawkish.  

Watch the Labor Market ... : Right now, the economy is doing pretty well, and inflation is tame. With the exception of the relatively small manufacturing sector, you might even be able to say we’re in or nearing another Goldilocks period where growth isn’t too hot or too cold. So what are some of the risks Rosengren is worried about? One of them is that inflation might pick up if the labor market tightens to unsustainable levels, perhaps depending on how much firms absorb rising labor costs. But again, the evidence of impending problematic inflation—at least in the headline number—is lacking.    

And Real Estate: Also, low interest rates could lead to higher risk taking in search of yield, increasing asset prices to unsustainable levels and threatening financial stability. Rosengren called out the real estate sector as particularly worth watching in this scenario. “It is important to see and understand the risk that sustained low interest rates could place more pressure on real estate asset prices through reach-for-yield behavior—a scenario that preceded the 1990 and 2007 recessions,” he said.

Information from TDA is not intended to be investment advice or construed as a recommendation or endorsement of any particular investment or investment strategy, and is for illustrative purposes only. Be sure to understand all risks involved with each strategy.

Image Source: Steve Jurvetson, flickr

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