Third-quarter earnings season kicks off this week in earnest with a plethora of major banks reporting results.
While analysts have recently upgraded their expectations for earnings results across S&P 500 companies, most companies are still likely to report declines in profits over last year, with the effects of the coronavirus pandemic still lingering.
Q3 earnings season expectations
Second-quarter corporate earnings overwhelmingly topped a low bar of expectations, with Wall Street having braced for businesses to see activity hit a nadir during the worst of virus-related stay-in-place orders in late spring and early summer.
A record 84% of S&P 500 companies reported positive surprises for earnings per share (EPS) in the second quarter, even as EPS declined, in aggregate, by more than 30%, according to data from FactSet.
Those better-than-feared second-quarter results have also led analysts to deliver rare upward revisions to their estimates for third-quarter results – in turn leaving a potential for companies to disappoint against heightened expectations.
“The Q3 bottom-up EPS estimate (which is an aggregation of the median EPS estimates for Q3 for all the companies in the index and can be used as a proxy for the earnings for the index) increased by 4.1% (to $33.10 from $31.78) from June 30 to September 30,” FactSet’s John Butters said in a note on Friday. Six sectors recorded increases in estimates, including the consumer discretionary, energy, financials and materials sectors.
During the past five years, bottom-up EPS estimates had been revised down by an average 5.0%, Butters added. This marked the first time analysts raised their EPS estimates for S&P 500 companies during a quarter since the second quarter of 2018. Prior to 2018, S&P 500 EPS estimates hadn’t been raised since 2010.
But even with their upward revisions, analysts still expect that S&P 500 EPS will drop in aggregate by 20.5% over last year for the third quarter, according to FactSet data. If realized, this would mark the second largest year-over-year drop in earnings for the index since the second quarter of 2009.
Banks up first
Financials have been among the worst-performing sectors so far this year, with the sector dropping about 18% for the year-to-date through Fridays close versus a gain of 7.6% in the S&P 500.
The industry has faced myriad pressures throughout the pandemic, with interest rates remaining near-zero and weighing on banks’ net interest income. The Federal Reserve has telegraphed that benchmark rates will likely remain at the zero bound through at least 2023, serving as an ongoing anchor on bank profitability.
The Federal Reserve also recently extended its ban on share buybacks at the biggest U.S. banks through at least the end of the year, “to ensure that large banks maintain a high level of capital resilience,” the central bank noted at the end of September. As part of the decision, the Fed also maintained a cap on dividend payments through the fourth quarter of the year, with the companies allowed only to pay out the same amount as in their previous quarter, or the quarterly average of income made over the past four quarters, depending on which of these options is less.
In the first half of the year, major banks set aside billions to brace for the potential that customers might default on repayments amid the economic crisis of the coronavirus pandemic. Across notable U.S. banks, those first-half provisions totaled $115 billion, according to S&P Global Ratings. These expanded reserves cut into these banks’ bottom lines and, more broadly, served as an indicators that these institutions were anticipating that customers would endure a major financial hit due to the Covid-19 crisis. Across JPMorgan Chase, Citigroup and Wells Fargo alone, credit loss provisions in the second quarter totaled $28 billion, according to a Wall Street Journal analysis.
“While the pace of provisioning may slow, we believe U.S. banks in aggregate are far from done with provisioning for pandemic-related losses,” S&P Global Ratings analysts Brendan Browne and Stuart Plesser said during the third quarter.
“The allowance levels of banks at the end of the second quarter may indicate that they are more sanguine in their loss expectations than we are, and performance will be highly sensitive to how those expectations evolve,” they added. “Performance will also vary significantly from bank to bank, depending not only on the quality of their underwriting and loan losses, but also on the sufficiency of their second-quarter allowances and on their ability to absorb losses through pre-provision net revenue (PPNR).”
A bright spot may come in larger banks’ markets revenue, with the stock markets’ record run-up from the end of March through the end of the summer having contributed to an influx in trading activity. Trading revenues at JPMorgan Chase surged by 79% in the second quarter, and by 93% at Goldman Sachs, with both equity and fixed-income trading booming. Investment banking results at major shops may also hold up strongly, following a surge in underwriting for initial public offerings (IPO) and special purpose acquisition company (SPAC) mergers during the summer.
Meanwhile, job cuts, which hit those in service areas like restaurants and hospitality hardest during the onset of the pandemic, have since broadened out to include workers on Wall Street. Bloomberg reported in late September that Goldman Sachs was moving ahead with a plan to slash about 1% of its workforce for a total of about 400 positions. And Wells Fargo reportedly cut more than 700 jobs in its commercial banking division recently, with more possible.
Tuesday: NFIB Small Business Optimism, September (101.2 expected, 100.2 prior); Real average weekly earnings YoY, Sept. (3.8% in August); Real average hourly earnings YoY, September (3.2% in August); Consumer Price Index MoM, September (0.2% expected, 0.4% in August); Consumer Price Index YoY, September (1.4% expected, 1.3% in August); Consumer Price Index excluding food and energy MoM, September (0.2% expected, 0.4% in August); Consumer Price Index excluding food and energy YoY, September (1.8% expected, 1.7% in August)
Wednesday: MBA Mortgage Applications, week ended October 9 (4.6% during prior week); Producer Price Index MoM, September (0.1% expected, 0.3% in August); Producer Price Index YoY, September (0.2% expected, -0.6% in August); Producer Price Index excluding food and energy MoM, September (0.2% expected, 0.4% in August); Producer Price Index excluding food and energy YoY, September (0.9% expected, 0.6% in August)
Thursday: Initial Jobless Claims, week ended October 10 (840,000 during prior week); Continuing Claims, week ended October 3 (10.976 million during prior week); Empire State Manufacturing Index, October (12.0 expected, 17.0 in September); Import Price Index MoM, September (0.3% expected, 0.9% in August); Philadelphia Fed Business Outlook Index, October (14.5 expected, 15.0 in September)
Friday: Retail Sales MoM, September advance (0.7% expected, 0.6% in August); Retail Sales excluding autos and gas MoM, September advance (0.4% expected, 0.7% in August); Industrial Production MoM, September (0.6% expected, 0.4% in August); Capacity Utilization, September (72.1% expected, 71.4% in August); University of Michigan Consumer Sentiment, October preliminary (80.3 expected, 80.4 in September); Net Long-term TIC Flows. August ($10.8 billion in July); Total Net TIC Flows, August (-88.7 billion in July)
Wednesday: Bank of America (BAC), PNC Financial Services Group (PNC), The Progressive Corp. (PGR), UnitedHealth Group (UNH), US Bancorp (USB), Goldman Sachs (GS), Wells Fargo (WFC) before market open; Alcoa (AA), United Airlines (UAL) after market close
Friday: Bank of New York Mellon (BK), VF Corp (VFC), E-Trade Financial Corp (ETFC), Schlumberger (SLB), Kansas City Southern (KSU), Honeywell (HON), Citizens Financial Group (CFG), Ally Financial (ALLY), State Street Corp (STT)
Emily McCormick is a reporter for Yahoo Finance. Follow her on Twitter: @emily_mcck
Read more from Emily: