As Q2 2020 earnings season kicks off this week, led by major banks, rising credit losses and strong earnings from their trading and capital market units will be the highlights of these financial institutions' reports.
Investors were avoiding bank shares this year, fearing that one of the worst recessions in American history will destroy profitability and result in increasing credit losses. The first three months of 2020 showed a similar picture, as interest rates were near zero and a fairly declining US economy hit their earnings.
As many states maintained lockdowns during the period, these trends intensified further in the second quarter, further eroding banks' ability to make money from their routine operations, such as credit card transactions and working capital loans.
"We expect profit to fall 69% year over year in the second quarter of 2010, as continued capital market strength and the benefit of larger balance sheets are more than offset by larger reserves and interest rates of almost 0%", Goldman Sachs analyst Richard Ramsden wrote in a note.
This bleak situation, coupled with the recession that hit consumer demand, means that the largest US bank stocks have fared less well than the broader market.
KBW Bank Index Weekly TTM
It has fallen by 35% this year, compared to a fall of only 2.4% for the wider one. Wells Fargo (NYSE 🙂 is the biggest loser of the year among major banks, down 55%.
The lender must report on Tuesday July 14 before the market opens. According to the consensus forecast, it would show a loss of $ 0.1 per share on revenues of $ 18.37 billion.
Swelling credit provisions; Suspensions of Dividend Payments
An important number that investors will keep a close eye on is the size of the provisions these lenders must make to cover their bad loans.
According to Barclays analysts, loan loss provisions for the industry as a whole will reach their highest levels since the 2008 financial crisis. But any sign that bad loan provisions are bottoming out will be net positive for banking stocks.
John Shrewsberry, Chief Financial Officer of Wells Fargo, said last month that he expected the bank to set aside more for bad loans in the second quarter. JPMorgan Chase (NYSE 🙂 saw its decline of 69% when the company set aside $ 8.29 billion for bad loans, the largest provision in at least a decade.
The lender is also expected to release 2Q on Tuesday before the market opens. Analysts expect $ 1.19 per share on revenues of $ 30.4 billion.
In addition to swelling credit provisions, investors are also struggling with the uncertainty about future dividend payments from these lenders.
The Federal Reserve told 33 of the largest US and global financial institutions last month that they should not increase their dividends or resume redemption until at least September amid the global coronavirus pandemic that is deepening the US economy pushed recession and increased risks for lenders.
The decision came after the annual US Central Bank stress test, which examines a bank's ability to survive in recession. Through these tests, the Fed can make changes to an institution's capital return plans, such as dividends and share buybacks, to avoid a situation like this where these lenders found themselves after the 2008 financial crisis.
Wells Fargo should decrease his 2Q dividend from $ 0.51 to $ 0.36, and Capital One (NYSE 🙂 should reduce his payout to zero, from the current $ 0.40, according to a research note from Morgan Stanely.
Despite pressure on overall profits, trade and acceptance are two areas of the banking business that are still thriving, allowing some of the major lenders to weather the storm.
Combined equity and bond trading income at the five largest banks is likely to have increased 31% from the second quarter of 2019, according to an estimate by Bloomberg. JPMorgan expects trading revenues to increase about 50% from a year ago, while Citigroup (NYSE 🙂 sees for the period that the markets experienced a sharp recovery after the slump in March.
Bottom Line
Given the depth of the current economic crisis and the still raging pandemic, bank profits are unlikely to recover from their slump. That said, banks are much better capitalized this time than they were during the 2008 financial crisis.
That strength encourages some investors to look positively at a number of declining bank shares. For them, this weakness is a buying opportunity.
