Because American banks are coming to the end of one of their best profit seasons, investors are looking for clues as to whether the larger US lenders can sustain this record-breaking profitability.
Backed by robust consumer spending and strong returns from their investment banking units, 2019 was the best year for US bank shares in more than two decades. The index rose 33% last year and outperformed the broader market.
KBW Nasdaq Bank Index Weekly prices
This strength was further validated this week when banks led by JPMorgan Chase & Co (NYSE :), Citigroup Inc (NYSE 🙂 and Morgan Stanley (NYSE 🙂 reported earnings that exceeded analysts' expectations.
JPMorgan's profit increased by 21% in Q4, reaching a record annual record of $ 36.4 billion as the giant lender reported income from fixed-income securities that was $ 1 billion higher than analysts expected.
Citigroup Inc.
a 15% profit increase for the period, which also exceeded expectations, helped by its banking activities and the expansion of the credit card portfolio. Morgan Stanley, another heavyweight, yesterday, that earnings for the period increased 46% over a year ago, giving investors the best year on record.
In the future, however, these banks will become much harder to demonstrate a comparable performance. UBS Group analysts reduced their outlook for JPMorgan and Bank of America Corp (NYSE 🙂 to neutral last week, noting that there are not many opportunities in the bankroom, as "valuations now include the continued existence of historically high profitability "
Growing political uncertainty
Some of the major risks that could thwart this powerful rally in bank shares are the US presidential election and new rules known as CECL or Current Ex expect Credit Loss. As the political uncertainty associated with the US elections increases, capital market activity is expected to decrease.
Some analysts also fear that CECL may introduce more volatility in banking and that some banks may not be able to increase their payouts if this happens.
"It is easy to get caught in the recent euphoria because the market continues to reach new highs, but we also see a number of risks that have received insufficient attention," wrote analysts from Wolfe Research in a recent note. .
But mentioning this possible headwind does not mean that investors should completely avoid bank stocks. Shares of some of the largest donors have become attractive after years of restructuring efforts, within more robust regulation. Although political uncertainty is certainly bad for lenders, the US economy and consumer spending remain strong. The signing of the first phase of the US-China trade agreement even removes a major obstacle to shares that are closely linked to the economy, such as banks.
In that improving macro context in which the US Federal Reserve is less likely to reduce financing costs, banks with large and diversified portfolios will benefit from their consumer loans, such as credit cards and mortgage financing. That power was visible during the Q4 win season.
Our opinion is that both JPMorgan and Citi are well prepared to cope with any cyclical downturn due to their ongoing cost savings over the past decade and the rebalancing of their portfolios. Their efforts are starting to pay off and both have delivered strong sales and profit growth in recent quarters.
Bottom Line
It is certainly not the best time to go long with banking after the powerful rally of the past year. But investing in financial stocks should be a long-term gamble, instead focusing on factors that affect their short-term outlook. For long-term investors, we love both Citi and JPM, given their diversified portfolios, growing dividends and improving balance sheet quality. Such investors should take advantage of possible weakness in the shares of these two banks.
