Bank of America released earnings yesterday and the numbers were positive. The bank reported the highest net income in six years, as cost-cutting efforts and better revenue from rising rates combined to deliver strong earnings. Net interest income rose, and costs, including legal bills, dropped, helping the bank buffer earnings. Fixed income trading, however, slumped, as did trading as a whole.
FINSUM: Trading revenue was down 15%, so not good news, but not catastrophic either. Trading will always be cyclical, but the underlying banking business looks strong.
Goldman Sachs and JP Morgan are thinking about the next financial crisis, a lot. The banks are both now offering a structure to enable anyone to bet on the next crisis. The pair are making markets in special derivatives that allow investors to bet on high-risk banks bonds that would get wiped out if a lender runs into problems. The products, known as total return swaps, will soon be traded by other banks as well. The derivatives are based on Tier 1 notes, or bonds designed to protect the public from a taxpayer-funded bailout. They yield about 4.7%, or 10x more than a senior bank bond.
FINSUM: With the big surge in markets and the uncertainty surrounding valuations, there is some logic to this. However, banks are a lot better capitalized, and we doubt they will be at the center of the next crisis.
The media has been touting the return of the Trump trade on the back of renewed hopes for tax cuts and stimulus. And while the market has risen, the devil is in figuring out why. Because of the recent Republican tax plan, the market seems to be experiencing déjà vu, with the same sectors rising as after Trump’s election. The question is how much has already been priced in, and where do stocks go from here until a tax package actually gets passed (which everyone knows won’t be easy).
FINSUM: Optimism can surely not be as high as right after Trump’s election, so the point is to be aware that things likely won’t work out the way they did last winter and spring.
It is hard to imagine Goldman Sachs as middling or even, dare we say it, an underdog. However, that is exactly the position the company is in, at least for the moment. Goldman’s rankings in the fixed income league tables leave it tied for third in an area it usually dominates. It has never been ranked lower than second in fixed income since 2007. Additionally, its shares have fallen this year while those of all other major banks have risen, leaving at a relatively weaker valuation than its rivals, such as Morgan Stanley.
FINSUM: We think that Goldman Sachs is a well-run organization and we expect their earnings will bounce back quickly which means now may be a good time to buy.
Bank stocks enjoyed a major run following President Trump’s election. Then they stalled in March and have been lagging the market since then. Now, they look ripe for a big fall, as they have dropped well below key support levels. Banks seem to be suffering from a number of issues, all related to rates. Treasuries have rallied, the Fed has stalled its hikes, and inflation is low, all a recipe for lower net interest margins at banks. A major part of the excitement that drove the rally in bank shares was hopes for a higher-rate, higher-inflation environment, but that vision for the future is receding quickly.
FINSUM: Given how much the rate outlook has changed from earlier this year, it would not be a surprise to see bank stocks come back down considerably. Their rise was always a bit overzealous, so a decline shouldn’t be unexpected.