A decline in the rates of interest has likely taken a toll on net interest margins, which mainly affected the banks in the United States. Overall, the drop caused the first year-over-year income decrease in three years.
The S&P 500 bank index can compensate through improvements in the mortgage banks plus low-cost valuation, but ultimately, the output depends on three factors:
- The executives and the assurance they give regarding the credit state.
- The possible outcomes in loan growth.
- The reduction of deposit charges in conference calls.
According to the Bank of America, the following should file reports about their respective third-quarter profits on Tuesday:
- Citigroup Inc.
- Wells Fargo & Co.
- JPMorgan Chase & Co.
- Goldman Sachs
David Aurelio, an analyst from Refinitiv, says that the mentioned banks have a decrease in third-quarter earnings by 1.2% and a rise in revenue by 0.9%. These stats contribute to the first drop in profits since the same period last 2016, Factset reports.
Fredd Cannon is the director of research for Keefe, Bruyette & Woods in New York. He stated that what’s happening is a period of difficulty and challenge, which attributes to the net interest rate environment. Cannon further described the United States Treasury two-year/ ten-year curve, noting the flat and inverted nature.
The profits a bank receives is heavily dependent on the net interest income. The net interest income is the difference between rates when a bank decides to allow long-term or short-term lending.
Because of macroeconomic problems, the bosses at Citi, Wells Fargo, and JPMorgan ceased the release of usual forecasts done for the entire year. In addition to the macro status, the net income also plays a role in the executive’s decision.
Ever since the United States Federal Reserve started cutting interest rates last July, many see it as a contributor to the current problem. Potential traders foresee additional cuts for the next few months, even in October.
Lisa Welch states that many of the traders will most likely wait for each bank’s assurance regarding the possible outcome of the net interest margin. In addition to his, clients may also look into the executives’ effort in alleviating weak spots. Welch works at Manulife Investment Management and is a manager at John Hancock Regional Bank Fund.
A plausible solution to counter low loan profits is if banks start reducing the number of interest rates they give their clients during deposits. Welch states that there will be a series of questions surrounding the sudden decline in deposit costs, especially while the loan yields also continue to decline. Lisa further adds that she doesn’t expect these numbers “to come down as quickly as loan yields have fallen.”
According to information acquired by the Mortgage Bankers Association, the applications for a new loan with lower interest rates (refinancing) increased exponentially compared to last year. A mortgage may significantly help with declining third-quarter values, as well as in the future.
Welch sees a significant rise in strength regarding mortgage activity if rates start becoming low. She sees one bank, First Horizon, which may from the sudden request in the mortgage.
Cannon also states that Wells Fargo and Bank of America may also benefit from the situation. In a memo released by Wells Fargo, they started focusing on mortgages to help the bank keep up with the increased demand. The KBW director feels neutral regarding the situation and the sector because of the presented credit quality and bank balance sheets.
But Cannon also says that purchasing banks while in the transition to the earning season is not advisable, because of the possibility of seeing the estimates of consensus declining. He further added that the valuations might mirror weakness.
On the other hand, Mike Cronin, a manager from Aberdeen Standard Investments, states that potential clients may be wary. This fear may be because the state of the U.S economy is affecting debt reimbursement. Cronin says that the weak data regarding the economy may raise concerns in the next year.
As of now, the S&P Bank Index has a 14% gain compared to the 16.5% increase with the S&P 500. On the other hand, there are a probable 10.2 times earnings for the sector’s next few months. This value is comparable to the 12.6 average and the 16.4 trading multiple by S&P.
Welch from Manulife also expresses her interest in the bank valuations presented, and that she doesn’t see a possible recession happening. Although there may be a slight chance of a negative outcome, Lisa Welch thinks that the big banks can adapt and manage the situation instead of spiraling into various crises.
On the other hand, Mike Cronin from Aberdeen Standard is still in search of information that can help him decide before he recommends the sector. He recognizes the decline in stock prices, but ultimately, he doesn’t see this as a reason to feel positive about the industry as of the moment.