Can bank stocks sustain recent momentum?

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The market liked what it saw in the quarterly releases of JP Morgan JPM, Citigroup C and even Wells Fargo WFC an otherwise low day for the indices. There was a lot to like about these results, with higher interests rates helping these big players boost their margins as loan demand remained strong overall, despite slowing mortgage and auto lending origins.

Citigroup’s report was relatively “noisy” and less impressive on traditional profitability measures, but the market appreciated progress on a management restructuring plan that has been in the works for some time now.

The fact that investment banking activity was weak in the third quarter did not surprise the market. We knew advisory fees would likely be around half of what they were in the prior-year period as continued macroeconomic headwinds weighed on deal-making.

For JPMorgan, investment banking fees were down -47%, while the same segment at Morgan Stanley MS fell -55% from the prior year level. Citigroup suffered an even bigger decline in investment banking revenue, down -64% year-on-year.

Morgan Stanley still remains an investment banking powerhouse, but it has deliberately reduced its business footprint, investing more in the relatively stable investment management industry. Revenue from this activity increased by +3% compared to the level of the previous year and represented 47% of the total in the third quarter.

Trading revenue was up +8% at JPMorgan, with fixed income up +22% and equities down -11% from the same period last year. Trading revenues rose only 3% at Morgan Stanley. Unlike JPMorgan and Morgan Stanley, trading revenue was down -7% at Citigroup, with the +1% gain in fixed income trading not enough to offset the -25% drop in equities.

The strength of these banking giants was in traditional commercial banking, with wider net interest margins and larger loan portfolios, resulting in very high net interest income. JPMorgan’s loan book grew +7% year-on-year, even as demand for rate-sensitive auto loans and mortgages declined significantly. The same unit for Wells Fargo climbed an impressive +10% YoY.

JPMorgan’s net interest margin of 2.08% in the September quarter, compared to 1.8% in the prior period. Net interest margins also increased at Citigroup, with a sequential comparison at 2.31% versus 2.24%. At Wells Fargo, net interest margin in the third quarter was 2.83%, down from 2.39% in the prior period.

The sharp decline in year-over-year profitability for each of these companies is primarily a function of differences in how reserves or loan-loss provision fared in the two periods. Difficult comparisons in investment banking activities are the other contributing factor. At JPMorgan, third quarter earnings fell -16.7% from the same period last year on revenue up +10.4%. Quarterly profits are down -39.4% at Citigroup and up +2.5% at Wells Fargo. For Morgan Stanley, Q3 and revenue were down -28.4% and -12% respectively from the prior year level.

In terms of the financials sector scorecard, we now have earnings of 22.6% of the sector’s total market capitalization in the S&P 500 index. Total earnings for these companies are down -16.2 % over the same period last year on revenue up +4.3%, with 88.9% beating EPS estimates and 55.6% beating revenue estimates.

Looking at the finance sector as a whole, total Q3 earnings for the sector are expected to be down -8.5% on revenue up +3.2%.

For the Zacks Big Banks sector, which includes Citi and JPMorgan and accounts for about 40% of total financial sector profits, total third-quarter profits are expected to decline -14.3% from the same period last year, with revenues up +5.8%.

The table below shows the industry’s expectations for earnings and revenue for the third quarter at the “industry average” level in the context of what the space said in the prior period and what which is expected in the following quarter.

Image source: Zacks Investment Research

The expected fourth quarter earnings declines are essentially a repeat of the forces shaping the third quarter numbers.

The much more important question of the long-term profitability prospects of the banking sector is a function of the negative impact that the coming economic downturn will have on the credit quality of the group.

Banking sector skeptics argue that the group ends up giving away all the profits it accrued during good times when the macro environment turns south. The Covid downturn was an anomaly in this regard, but there is some truth to the allegation.

We’ll see how the economy unfolds over the next few quarters, but credit quality metrics in the Q3 earnings releases don’t indicate any impending deterioration.

Third Quarter Earnings Season Dashboard

Including results from the aforementioned big banks on Friday, we now have third-quarter results from 35 S&P 500 members. We’re entering the heart of the reporting cycle this week, with results from more than 150 companies on deck, including the results of 63 members of the S&P 500.

This week’s series of reports is focused on the finance sector, but we’ll get results from a host of flagship operators in other spaces, including Netflix NFLX, Johnson & Johnson JNJ, Proctor & Gamble PG and others. .

For the 35 members of the index that have already published results, total revenues are down -5.6% compared to the same period last year on revenues up by +9.5%, with 74.4% exceeding EPS estimates and 54.3% exceeding revenue estimates.

Here’s how Q3 2022 earnings and revenue growth rates for these 35 companies compare over different time periods.

Zacks Investment Research
Image source: Zacks Investment Research

Here’s how the Q3 2022 EPS and revenue percentages for these 35 companies compare over different time periods.

Zacks Investment Research
Image source: Zacks Investment Research

As you can see here, companies are struggling to beat consensus estimates, even though estimates had fallen significantly before the start of this earnings season.

The overview of benefits

To get an idea of ​​what is currently expected, take a look at the chart below which shows the current earnings and revenue growth forecasts for the S&P 500 Index for the third quarter of 2022 and the following three quarters.

Zacks Investment Research
Image source: Zacks Investment Research

As you can see here, Q3 2022 earnings are expected to be up +0.2% on revenue up +9%.

Keep in mind that it is the strong contribution from the energy sector that is keeping overall third quarter earnings growth in positive territory. Excluding the energy sector, third-quarter earnings for the rest of the S&P 500 would be down -6.6% from the same period last year.

For a detailed look at the overall earnings picture, including expectations for future periods, please see our weekly earnings trends report. >>>>Breaking down the rocky start to the third-quarter earnings season

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The views and opinions expressed herein are the views and opinions of the author and do not necessarily reflect those of Nasdaq, Inc.

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