Last December, when the U.S. Federal Reserve raised rates for the first time in nearly a decade and projected four more increases in 2016, it seemed like good times ahead for the financial sector. Financial stocks typically benefit from higher interest rates, particularly at the long end of the curve.
But it wasn’t to be, as rates remained unchanged and the yield curve failed to steepen through the first quarter, helping to lead to expectations for weak first-quarter earnings when financial stocks start reporting in a few weeks.
At the quarter’s outset, expectations were for a 1.5% increase in year-over-year earnings for the sector. But now, the forecast is for a 7.9% drop in year-over-year earnings, according to FactSet. Downward revisions have hit some of the sector’s biggest companies, including Bank of America Corp. (BAC), JP Morgan Chase & Co. (JPM), and Citigroup Inc. (C).
Despite the forecast for such a large earnings drop, the sector is actually expected to do a little better than the average of an 8.7% earnings decline forecast for all 10 sectors of the S&P 500, FactSet said.
The financial sector didn’t get any help from the Fed in the first quarter. The Fed recently pulled back its projections from four rate hikes to just two for 2016, and didn’t raise rates at its March meeting. The Fed based its decision in part on weakness overseas, where several central banks have adopted negative interest rate policy (NIRP) to try and jump-start growth. This matches much more closely to what we have seen from Fed funds expectations.
And the yield curve continued to weigh. The yield premium on ten-year U.S. Treasury notes over two-year Treasury notes tumbled in late February to the lowest since December 2007. Banks can get bigger returns when they can borrow in the short-term wholesale market while investing in longer-term assets. A flat yield curve lowers their net interest margins, and the Fed’s continued dovish policy helped keep long-term yields low.
Trading and Investment Banking Revenue Hit 7-Year Lows
The sector also came under pressure during the quarter from falling revenue. Global investment-banking revenue, including fees paid for advice on mergers and acquisitions, debt and equity underwriting and syndicated loans, stands at $12.8 billion this year, according to Dealogic, down 36% from the first quarter of 2015 and the lowest quarterly total since the first quarter of 2009.
Return on assets, another key statistic for banks, remains a challenge. As a general rule, banks strive to generate a 1% return on assets. But some large banks haven’t met that goal recently, and investors may focus on whether there’s been improvement in the first quarter.
Improve Your Earnings Research on the Financial Sector
That’s a high-level view of what’s happening in the financial sector. But let’s say you want to learn more about a specific stock. Here’s how to use the TD Ameritrade thinkorswim® platform for deeper research into earnings. In the thinkorswim® platform, type the stock symbol, then go to Analyze > Fundamentals.
To see how to do this, let’s take a look at an example financial stock in Wells Fargo & Co. (WFC). Figure 1 shows how investors can use the platform to take a deeper dive into the fundamental drivers of a company. For instance, mortgage banking, at 20.7%, is a large portion of Wells Fargo’s business. Investors concerned about a possible drop in refinancing action should interest rates rise can use this data to compare Wells Fargo’s exposure to that of other companies. And this is just a small portion of the fundamental research available on the platform.
Tune in this earnings season
Whether you’re bullish, bearish, a trader, or an investor, you can count on market analysis by JJ Kinahan this earnings season.