The Star Online: Business
The Star Online: Business |
- As earnings take over, fundamentals to be tested
- Bernanke's challenge clear as Fed officials diverge on QE
- Banks face profit lull as mortgage boom fizzles
| As earnings take over, fundamentals to be tested Posted: NEW YORK: Next week marks the first big week of second-quarter earnings, and it is sure to bring both joy and misery to Wall Street. Investors will concentrate on market fundamentals after weeks when Federal Reserve policies have dominated the market. If they see companies are still struggling, stocks could take a fall. Even after Fed Chairman Ben Bernanke scared markets in June by telling investors the Fed is likely to reduce monetary stimulus in coming months, stocks have recovered, with both the Dow and S&P 500 climbing to all-time highs. In an appearance earlier this week, the Fed chairman said monetary policy was likely to be accommodative for some time. "We're in the terminal stages of a Bernanke-driven bubble," said Walter Zimmerman, technical analyst at United-ICAP in Jersey City, New Jersey. "While a lot of damage has been done to the bear case, eventually bad news like weak earnings growth will start to bear fruit." To be sure, the Fed, which has shown a much friendlier face to investors lately, will not be out of the picture. Bernanke will appear before congressional committees on Wednesday and Thursday to deliver the semiannual testimony about monetary policy. However, few surprises are expected. The S&P's 17.8 percent advance in 2013 is largely attributable to the central bank's accommodative policies. The major indexes made impressive gains in the week: the Dow .DJI up 2.1 percent, the S&P .SPX 3 percent higher and the Nasdaq .IXIC up 3.5 percent. It was the third straight week of gains for all three, and the best week for the S&P and Nasdaq since early January. "The Fed has been able to prevent a big selloff so far, but eventually the economy will have to catch up to the market or the market will fall back to match the economy," said Scott Armiger, who helps oversee $5.6 billion as portfolio manager at Christiana Trust in Greenville, Delaware. MORE FOCUS ON EARNINGS That analysts are now turning their focus to earnings, believing the Fed's power to buoy stocks is waning, may not be a positive if the rally is going to continue. Earnings are seen growing 2.8 percent in the second quarter, according to Thomson Reuters data, a far cry from the 8.4 percent growth forecast by analysts on January 1. Revenue is now seen growing 1.5 percent. For every company that has said it expects positive earnings, 6.5 have lowered their forecasts, the worst positive-to-negative ratio since the first quarter of 2001. United Parcel Service Inc (UPS.N), the world's largest package delivery company, tumbled on Friday after giving a weak profit outlook, citing economic conditions as one reason. Companies can appear to look good when they beat a lowered earnings bar, but signs of weakness will hurt a market that is hovering near all-time highs and seeking new catalysts to spur further gains. POSITIVE RISK/REWARD "The second quarter wasn't particularly robust, and estimates seem to still be too high," said Barry Knapp, managing director of equity research at Barclays Capital in New York. "We don't really see any sector where there is a positive risk/reward, just places where there are more likely to be negative surprises." Next week about 70 S&P 500 companies will report results. If the results indicate that companies' earnings are still weak despite intervention by the world's major central banks, shares could slump. General Electric (GE.N), Verizon (VZ.N), Johnson & Johnson (JNJ.N) and UnitedHealth (UNH.N) are among the biggest names, as are tech giants Microsoft Corp (MSFT.O), Intel Corp (INTC.O), Google Inc (GOOG.O) and IBM (IBM.N). Financial companies may be the most in view as investors look to reports from Bank of America (BAC.N), Citigroup (C.N), Goldman Sachs (GS.N) and Morgan Stanley (MS.N), among others. The sector is seen posting profit growth of 19.6 percent in the quarter, by far the highest among S&P groups. "Since they have the highest growth expectations, it will be especially important for the market that they live up to those expectations," said Sam Stovall, chief investment strategist for Standard & Poor's Equity Research Services in New York. "Those results will be pivotal." Early results from financial companies were mixed. Wells Fargo & Co (WFC.N) and JPMorgan Chase & Co (JPM.N) posted profits that beat forecasts, though JPMorgan said it might be forced to accelerate cost-cutting because of difficult market conditions. Among economic reports, June retail sales will be released on Monday, with consumer prices and housing starts, both for June, will be released later in the week. The July Philadelphia Fed survey of manufacturers is due on Thursday. - Reuters |
| Bernanke's challenge clear as Fed officials diverge on QE Posted: JACKSON HOLE, Wyoming: The wide divergence of opinion within the Federal Reserve over when to wind down its unprecedented support for the U.S. economy was on full display on Friday, starkly illustrating Chairman Ben Bernanke's leadership challenge for the rest of this year. St. Louis Fed President James Bullard and Charles Plosser, his counterpart at the Philadelphia Fed, sat on the same panel at a conference here, but sang quite different tunes on what to do about the U.S. central bank's massive bond-buying program. While Bullard and other more dovish policymakers want to keep buying assets until inflation rises and unemployment drops, Plosser and the more hawkish of the Fed's 19 policymakers want to reduce the pace sooner than later. "It is time to exit from the asset purchase program in a gradual and predictable manner," Plosser told the 5th Annual Rocky Mountain Economic Summit. After delivering his speech and fielding a few questions from bankers and economists, Bullard told reporters: "I'd like some kind of reassurance that inflation was moving back toward target" before reducing the bond buying. It was yet another clue for investors as they try to predict when the Fed will reduce the $85 billion in monthly bond purchases, a policy meant to encourage investing, hiring and overall U.S. economic growth. According to minutes of the Fed's June policy meeting, around half of the 19 policymakers gathered there expected to end the quantitative easing program (QE) by late this year, while the other half wanted to keep buying bonds into next year. That contrasts with the conditional timeline Bernanke articulated in a news conference after the meeting on June 19, when he said the Fed's 12-member policy-setting committee expects to end QE by mid-2014, as long as economic growth continues as expected. While the official statement from the 12-member Federal Open Market Committee made no mention of that timeline, Bernanke said he was speaking on its behalf. The comments prompted a global market selloff, from bonds to stocks to emerging-market currencies, over the following few days. Markets have since calmed, and Bernanke on Wednesday reemphasized the Fed's commitment to accommodative policy. San Francisco Fed President John Williams, speaking in Vancouver, British Columbia, sought to downplay the importance of the range of views. Only a few months ago, Williams himself had called for a stop to bond-buying by the end of the year. But inflation has come in lower than he expected, prompting him to make a "small shift" in his own view, so now he fully" supports Bernanke's mid-2014 target. "We are probably going to need to have more accommodation than I had been thinking a couple months ago because of the inflation data," he said. But the gap between his current view and his old view, which half the Fed officials share, is not a "substantive difference." "I don't see these differences as being that big," he said. Lower-than-expected inflation helped convince him to make that "small shift" in his policy view, Williams said, adding that exactly when the Fed ends the bond buying program is not as important as making sure the high unemployment rate comes down and undesirably low inflation rises back to the Fed's 2 percent target. The policy-setting FOMC is made up of more dovish officials than the broader group of 19. Yet the fact that half, and possibly more than half, of the broader group expect the accommodation to end at least six months ahead of Bernanke's timeline could sow confusion in financial markets. "The message continues to breed volatility and eye-rolling criticism of Fed communication efforts," said Eric Green, an interest rate strategist at TD Securities in New York. "What we do know is that half of the broader FOMC policy universe wants to end all asset purchases this year and it is a bias hard to dismiss, even if many are non-voters this year," he wrote in a client note. INFLATION A GROWING CONCERN While Bullard has a vote on policy this year, Plosser regains his vote next year. Bullard dissented at the June meeting due in part to a lack of concern over weak inflation readings. Inflation as measured by the Personal Consumption Expenditure (PCE) price index is around 1 percent, below the Fed's 2-percent goal, despite the bond-buying and four-and-a-half years of near-zero interest rates. "If inflation went lower than where it is on a PCE basis then the (FOMC) would have to re-think its strategy," Bullard told reporters. "The simplest thing to do would be to say that we would stick with the QE program for longer ... until we see inflation coming back to target," he added. Plosser, an long-time critic of the bond-buying, told reporters: "I don't think it has been very effective, I think we are taking huge risks ... I would just as soon unwind from that." Since Bernanke articulated the QE timeline on June 19, Wall Street economists have increasingly forecast the Fed will reduce the pace of QE at a meeting scheduled for September. There is also one set for the end of this month. Also since June 19, longer-term market-based yields have risen sharply before more recently shedding some of those gains. Benchmark 10-year Treasury notes slipped on Friday, with the yield rising again to 2.59 percent. WHEN TO TIGHTEN POLICY Turning to when the Fed should finally raise interest rates, Plosser argued the central bank should commit to tightening policy when the unemployment rate falls to a 6.5-percent "trigger," instead of just using that level as a rough guidepost for considering a rate rise. Plosser's proposal, introduced in his speech on Friday, runs against the grain of most other U.S. monetary policy makers, who have increasingly stressed that rates could well stay near zero well after the U.S. jobless rate hits that level. To clarify its future intentions and to give the economy even more support, the Fed said in December it would keep rates that low until unemployment falls to 6.5 percent, as long as inflation expectations did not rise above 2.5 percent. Unemployment was 7.6 percent last month. Plosser said these so-called "thresholds," while an improvement, still leave too much room for interpretation. The Fed should "commit to its forward guidance" by treating those levels as "triggers rather than thresholds," he said. The "FOMC has offered a variety of changing targets or signals about future behavior," he told the conference, which was hosted by the Global Interdependence Center. "Although the aim was to clarify our policy intentions, I believe the repeated changes have likely caused more confusion than illumination." The proposal may be a long shot, since influential officials have recently stressed the Fed is in no rush to raise rates. On Wednesday, Bernanke renewed his message that policy would remain "highly accommodative" and rates could well stay low even after the jobless rate falls below the threshold. "There will not be an automatic increase in interest rates when unemployment hits 6.5 percent," he said. On Friday, Bullard said the Fed could even formally lower that threshold, but added that such a move would require more deliberation. - Reuters |
| Banks face profit lull as mortgage boom fizzles Posted: NEW YORK: Unexpectedly large quarterly profits at JPMorgan Chase & Co (JPM.N) and Wells Fargo & Co (WFC.N) hide a more worrisome forecast for the rest of the year for many U.S. banks. Things could get worse before they get any better. Wells Fargo's profit was buoyed in the second quarter by consumers rushing to refinance their mortgages and buy new homes, driven by record low interest rates and a recovering housing market. JPMorgan's mortgage lending helped the bank for much of 2012, and second-quarter results this year were by some measures strong too — it made more loans, even if its pretax profits from lending fell 37 percent. But mortgage lending is likely to be less of a support for banks going forward, as the U.S. Federal Reserve has started talking about tapering off its massive bond-buying program and borrowing rates for home loans have jumped. Thirty-year mortgage rates rose to 4.58 percent at the end of the second quarter, up 0.82 percentage point from the first quarter. Executives from both banks, which between them make one in three U.S. home loans, said on Friday that mortgage lending volumes would decline in the coming months and so profits from the business would fall. JPMorgan Chief Financial Officer Marianne Lake said rising mortgage rates could slash volume by 30 percent to 40 percent. That would result in a "dramatic reduction in profits" in the business, JPMorgan Chief Executive Officer Jamie Dimon said. At the same time economic growth has not ramped up enough for the rest of these banks' businesses - such as small business loans and credit cards - to make up for the loss of that income. There may be a lull between the drop-off in mortgage lending and the boost to other forms of revenue from an improving economy and higher long-term interest rates. "If the economy is getting stronger, it's not manifesting itself in terms of balance sheet growth of the banks," said Christopher Mutascio, a banking analyst at Keefe, Bruyette & Woods. "Mortgage headwinds are a bit more instantaneous, and the pick-up in the other business lines may take some time." A more complete outlook for the banking industry will emerge next week when both Citigroup Inc (C.N) and Bank of America (BAC.N) report their earnings. "NO GROWTH" IN THE MORTGAGE BUSINESS The looming problem is not lost on the banks and could lead to further cost cutting as they try to bridge the gap. JPMorgan's Lake said depending on market conditions the bank could accelerate its previously announced cost-cutting targets. In February, the largest U.S. bank had said it planned to cut 17,000 jobs by the end of 2014, or roughly 6.6 percent of its workforce. The job cuts were largely targeted at areas such as mortgage banking and retail banking. To some extent, banks' mortgage businesses have built-in hedges in the form of income from collecting payments on home loans. As rates increase and fewer homeowners refinance their mortgages, banks earn more from collecting payments on existing loans. But mortgage lending revenues dwarfs servicing revenues at present at many banks. At Wells Fargo, for instance, servicing accounted for just 4 percent of fee income in the second quarter, compared to 22 percent for mortgage lending. Though servicing income does provide a bit of a natural balance, it should not be viewed "to dollar-for-dollar offset any reduction in revenues from the origination side of the business," Wells Fargo's Chief Financial Officer Tim Sloan said. Wells Fargo also signaled that its streak of seven consecutive quarters of making more than $100 billion of home loans is likely coming to an end soon. "We just don't think that we are going to see $100 billion of mortgage volume, given the current rates today, in the third quarter," Sloan said. "We will need to go ahead and make some adjustments." Across the U.S. market, refinancing activity fell 44 percent in the second quarter, according to data from the Mortgage Bankers Association. At Wells Fargo, refinancing made up 56 percent of all mortgage loans in the second quarter and over 60 percent of mortgage loans for the preceding four quarters. At JPMorgan, refinancing made up around three-fourths of all home loans in the past year. "There's no growth in their mortgage business, and their mortgage application pipeline is down," said Oliver Pursche, president of Gary Goldberg Financial Services, which has $650 million in assets under management. OTHER LOANS COULD PICK UP THE SLACK, OVER TIME To be sure, continued economic recovery will contribute to earnings in more immediate ways as well: It will allow banks to set aside less money to cover loan losses, and dip into existing reserves. In the second quarter, JPMorgan released $1.5 billion from its loan loss reserves. Wells Fargo released $500 million and said it expected more in the coming quarters if the economy continues to grow. For its part, Wells Fargo is confident that its diversified business model will allow it to prosper over time, if not every single quarter. "The mortgage horse has been a big, strong horse. We've got 89 other horses that are going to be able to grow," Sloan said, referring to Wells Fargo's stagecoach logo. But growth in other businesses such as commercial and consumer loans that are expected to eventually make up for lost mortgage revenues are yet to materialize. Total loans at JPMorgan fell by $3 billion to $725 billion in the second quarter, while total loans at Wells Fargo rose only $2 billion to $802 billion - both compared with the first quarter. Consumer loans were up only $250 million in the second quarter at Wells Fargo, and the bank's commercial clients did not exhibit any increased demand for credit. "I wish they were, but unfortunately not. When you look at (credit) line usage in the commercial side, it has been pretty stagnant for a bit," Sloan said. "There's no question there's going to be a bit of a lag effect as it relates to stronger commercial loan growth." - Reuters |
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