Market commentators are now embracing the idea that the S&Ps are going to new highs. The financial sector is the largest in the index. Simply put, there will be no new highs without the bank stocks. So, let’s look at how they are doing.
Bank stocks dropped 30% between July 2015 and the bottom on February 11, 2016. The KBW Index of bank stocks is up a robust 21% since then. Is this a convincing move into a new bull phase or a bear market rally? Let’s look at the numbers.
First quarter revenue at Goldman was down 40% from a year ago. For the five largest banks, it was down 16%. Trading revenue is way down. Loan loss provisions for the energy industry are way up. The return on equity for the five largest banks was below 10%. The Industry may say that they’ve “passed a real life stress test”. Why would the shareholders be impressed? The group made no significant new mistakes and yet the numbers are terrible because there are real, fundamental
Although many financial stocks got above their 200 DMA last week, the KBW index remains down 5% for the year. Remember how the sector was going to revive on the back of higher interest rates as the Fed was thought to be moving towards rate normalization? Does anyone think that now?
Low interest rates, and in some jurisdictions negative rates, make it more difficult to generate revenue. The financial environment is becoming increasingly unstable as central banks try unsuccessfully to juice the economy. The Bank of Japan is considering making negative rate loans to their banks. The BOJ had already cut deposit rates to negative in January. The BOJ is saying they will charge negative rates to their banks once those banks have achieved a minimum level of lending growth. Interest subsidies to the banks? Really? Trading is a dead business with margins reduced to almost nothing and volumes in decline. The revenue line for banks just keeps slip-sliding lower.
Meanwhile, the regulatory environment continues to worsen. Bank regulators now want to require that at least half of senior executives’ bonuses be deferred at least four years. They are also embracing the concept of “clawback”. If the executives’ decisions ends up causing significant financial stress or losses, then executive compensation could be reversed. Would you be interested in a career in banking if government clerks decided your pay?
Can the financials lead the market higher? Maybe not. The old saying still applies. Sell in May and go away.