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Big Bank Earnings Preview and Early Q3 2019 Results

Sheraz Mian

The market appears to be double minded about the recent flow of soft U.S. economic data. It is hoping that the bad news of economic weakness will prompt the Fed to be even more accommodative than it would otherwise be. This line of thinking is likely at play in the market’s reaction to the weaker-than-expected September non-farm payroll report.

Notwithstanding, this tendency to look at all incoming data from the Fed perspective, the market is forced at times to see bad news as nothing else but bad news. And that’s the reason why stocks sold off on the weak ISM survey, particularly the manufacturing survey. Even a market addicted to easy Fed policy can’t see anything good or positive in a global economic slowdown.

Banks don’t follow this generalized market behavior because they are worse off either way. The fortunes of these cyclical operators move in lockstep with the broader economy and Fed rate cuts have a negative bearing on their margins.

Banks are cyclical businesses engaged in lending and other activities like investment banking, money management, and trading that are always at the mercy of the economic cycle. Banks not only experience low demand for its services when the economic cycle turns down, but the quality of its existing assets (its loan portfolio) also goes down as its customers’ credit profiles weaken.

It is important to keep this distinction in mind as we start thinking about bank earnings, which get underway with the Citigroup (C) report on Friday, October 11th; JPMorgan (JPM) and Wells Fargo (WFC) follow with their reports on Tuesday, October 15th.

Estimates have been steadily coming down for banks, with JPMorgan’s Q3 EPS estimate of $2.42 down from $2.50 three months back. We see a similar trend for full-year 2019 and 2020 estimates for JPMorgan and most of its peers. The chart below shows the aggregate revisions trend for the Zacks Major Banks industry, of which JPMorgan, Wells Fargo and the other major players are part of.

 

 

 

The down sloping red line in the chart represents the aggregate 2020 EPS estimates for the group, while the light blue line represents 2019 estimates. The dark blue line is the group’s aggregate price action.

The chart below shows the group’s one-year stock market performance relative to the S&P 500 index.

 

 

 

As you can see in this chart, the group  as a whole (blue line) has lagged the market (red line), but JPMorgan has done a lot better.

What Are Banks Expected to Earn?

Total Q3 earnings for the Zacks Major Banks industry that includes JPMorgan, Wells Fargo and other major industry players are expected to be down -11.1% from the same period last year on -0.1% lower revenues.

The table below shows the Finance sector’s Q3 earnings and revenue growth expectations at the medium-industry level relative to the space’s actual results in the preceding period and expectations for next quarter. 

 

 

 

 

Bigger year-over-year declines at Wells Fargo and Bank of America (BAC) are driving most of the industry’s growth weakness in Q3, but the other players are expected to have at best flat earnings relative to the year-earlier period.

For the Finance sector as a whole (Major Banks industry brings in roughly 45% of the sector’s total earnings), total Q3 earnings are expected to be barely in positive territory; up +0.5% on +6.6% higher revenues. The chart below puts the Finance sector’s Q3 earnings and revenue growth expectations in the context of where growth has been and where it is expected in the coming periods.

 

 

 

 

Early Q3 Results

The Q3 earnings season has actually gotten underway already, with results from 21 S&P 500 members out. The 21 S&P 500 members that have reported already have fiscal quarters ending in August, which we count as part of our September-quarter tally. Delta Air Lines (DAL) will be first index member with a September fiscal quarter when it reports results on October 10th.

The chart below compares the results from these 21 index members with what we had seen from the same group in other recent periods.

 

 

 

 

It is hard to draw any useful conclusions from the results thus far, with the pronounced earnings decline primarily a function of tough comparisons at Micron (MU) whose Q3 earnings were down -86.7% on -42.3% lower revenues. That said, the proportion of companies beating revenue estimates is relatively on the lower side.

The chart below shows the number of S&P 500 companies reporting weekly.

 

 

 

Expectations for 2019 Q3 & Beyond

For Q3 as a whole, total earnings for the index are expected to decline -4.7% from the same period last year on +4.3% higher revenues, with 12 of the 16 Zacks sectors expected to have lower earnings compared to the year-earlier period, including the Tech sector.

We will know what the final Q3 earnings growth pace turns out to be when all the results are in, but we know that they will be better than these expectations, likely close to the flat line that we saw in the first half of the year.

Tough comparisons to last year when growth was boosted by the tax cut legislation were all along expected to weigh on earnings growth in 2019. Moderating U.S. economic growth and notable slowdowns in other major global economic regions are having a further negative impact. Uncertainty about the global trade regime and growing resort to tariffs are not helping matters either.

The chart below shows the earnings and revenue growth picture for the S&P 500 index for Q3, contrasted with what was actually reported in the preceding 4 quarters and what is expected in the following 2 periods.

 

 

 

 

The table below shows the summary picture for 2019 Q3, contrasted with what was actually achieved in the preceding period.

 

 

 

 

The Tech Sector Drag

As you can see, earnings growth is expected to be in negative territory for 11 of the 16 Zacks sectors, with Energy, Basic Materials, Technology and Aerospace expected to experience double-digit declines. The Finance sector is able to eke out a modestly positive growth rate in Q3, as we discussed earlier.

It is the weak Tech growth that is dragging the aggregate Q3 earnings growth rate for the S&P 500 index deeper into negative territory. The Tech sector is the biggest earnings contributor in the S&P 500 index, bringing in 22.9% of the index’s total earnings in forward 4-quarter period. Excluding the Tech sector’s drag, total earnings growth for the remainder of the index would be down only -2.9% (-4.9% with Tech included).

Driving the Tech sector’s weak earnings growth expectation for the quarter is Apple (AAPL) and the broader semiconductor space. For Apple, September quarter earnings are expected to be down -9.4% on -0.9% lower revenues.

An even bigger drag on the sector’s profitability is the chip industry whose earnings for the quarter are expected to be about a third less than the year-earlier level, as the chart below shows.

 

 

 

 

The expectation is that the year-over-year declines bottom in Q3 and start improving from next quarter onwards. The Micron report was a good example of the type of growth we will be getting from operators in the chip space this earning season.

For an in-depth look at the overall earnings picture and expectations for Q3, please check out our weekly Earnings Trends report >>> Will Q3 Earnings Finish Negative This year?

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