Concern Over US Banks’ Earnings In The Weeks And Months Ahead
By Michael Panzner
Whether you call it a reality check, a wake-up call or a splash of cold water reality, based on the following MarketWatch report, “October Surprise from Bank Earnings?” it appears that lots of people are going to be caught out when banks announce their earnings in the weeks and months ahead (I guess they’ve been listening to the gang that couldn’t rate straight):
Some experts worry results may be much more negative than investors expect
Bank stocks surged during the third quarter, but as companies prepare to report results from the period, several industry experts remain concerned.
“We are very early on in this credit cycle,” Timothy Long, chief national bank examiner at the Office of the Comptroller of the Currency, said at a recent conference.
“That statement caught everyone by surprise,” said Nancy Bush, a veteran bank analyst who attended the conference.
J.P. Morgan Chase (JPM: 45.85 +0.55 +1.21%) kicks off the bank-reporting season on Wednesday.
The KBW Bank Index , which tracks shares of lenders, including Bank of America (BAC: 17.50 +0.17 +0.98%), Citigroup (C: 4.63 -0.02 -0.43%) and Chase, jumped 30% in the third quarter, as investors bet that huge increases in bad loans from the mortgage meltdown and broader financial crisis were easing.
Thinking the worst is behind the industry, investors began looking to 2010 and 2011 when banks should be a lot healthier, according to Richard Bove, an analyst at Rochdale Securities. Third-quarter results will make that leap of faith harder to maintain, he said.
“Third-quarter earnings for most banks, particularly the regional lenders, will be extraordinarily negative,” Bove said.
He estimates that about 60% of banks will report losses in the period as nonperforming assets continue to grow and charge-offs remain very high. Lenders will also have to increase reserves because they didn’t bolster them enough during the second quarter, Bove added.
Loan growth will likely remain sluggish and net interest margins won’t increase much, partly because funding costs have already dropped so much that they can’t fall much further, the analyst explained.
“None of this bodes well for the third quarter,” Bove said. “Once the market is faced with the reality of how bad the earnings are, it will be interesting to see whether investors will be able to hold on to these stocks at these price levels.”
‘Bogey-bear’
Bush is concerned that commercial real estate problems may begin to escalate, while consumer credit losses linger.
At the end of September, K.C. Conway, a real-estate expert at the Federal Reserve Bank of Atlanta, warned of big commercial real-estate losses and said banks will be slow to recognize the severity of those losses, according to a presentation to bank regulators reviewed by The Wall Street Journal.
More than half of the $3.4 trillion in outstanding commercial real-estate debt is held by banks and vacancy rates in the apartment, retail and warehouse sectors have already exceeded levels seen in the real-estate collapse of the early 1990’s, the newspaper noted.
“That’s the big bogey-bear staring us in the face,” Bush said. “But when I ask banks about their commercial real-estate exposure, they all say the same thing — that they don’t have many major problems. Then you read the Fed report and it’s completely different. I don’t know which to believe.”
Regional banks are particularly exposed to commercial real estate loans because they didn’t sell them through securitization as much as larger rivals, according to Keefe, Bruyette & Woods analyst Julianna Balicka.
These types of loans make up more than 35% of regional banks’ total loans, up from 25% in 2000, she said in a recent note to investors.
The California bank units of Zions Bancorp and Western Alliance had more than 40% of their loans in commercial real estate at the end of June.
At Center Financial , Hanmi Financial , Nara Bancorp and Wilshire Bancorp those types of loans accounted for more than 70% of total loans, according to KBW’s Balicka.
But it’s not only regional banks that are exposed. Commercial real-estate loans made up 12% of large banks’ total loans at the end of June, up from 9% in 2000, the analyst noted.
J.P. Morgan Chase , which is due to report third-quarter results on Wednesday, recently gave up trying to sell One Chase Manhattan Plaza, a 60-story skyscraper in lower Manhattan, after bids came in too low, according to a person familiar with the situation. The landmark office tower was one of 23 U.S. office properties J.P. Morgan was trying to sell, according to Bloomberg News, which noted the remaining properties are still for sale.
At the end of June, the bank had almost $65 billion of wholesale loans extended for real-estate related purposes, according to its latest quarterly regulatory filing.
Consumer drag
However, J.P. Morgan is more exposed to consumers, holding over $85 billion in credit card loans at the end of June.
Consumer loan losses from the subprime mortgage crisis have begun to abate, but Bush is concerned that rising long-term unemployment in the U.S. will mean lingering consumer credit problems for banks.
“I’m not convinced consumer credit will improve a lot,” she said.
Indeed, the OCC’s Long said this past week that the severe threat from last year’s financial crisis has been replaced by a more traditional unemployment-driven economic cycle, which may be in its early stages, according to Robert Garsson, a spokesman for the regulator.
J.P. Morgan Chase is expected to make 49 cents a share in the third quarter, according to the averaged estimate of 19 analysts in a Thomson Reuters survey.
Profit will come mainly from the bank’s capital markets and investment banking businesses, while credit costs remain high, Matt O’Connor, an analyst at Deutsche Bank, wrote in a note to investors earlier this week.
Provisions for credit losses will likely come in at $8 billion during the third quarter, in line with the second quarter. Credit card losses could rise to 11.5% in the third quarter, from 10% in the second, the analyst estimated.
Still, J.P. Morgan has more capital than most of its peers, O’Connor noted. And those rivals likely struggled more in the third quarter.
Citigroup , which reports on Thursday, is expected to lose 21 cents a share in the third quarter, according to the average estimate of 17 analysts polled by Thomson Reuters.
Citigroup had more than $67 billion of credit card loans that weren’t covered by a government guarantee at the end of June, according to KBW analyst David Konrad. Potential losses on these exposures could reach almost $18 billion through the current credit cycle, which Konrad expects will end in the fourth quarter of 2010.
Konrad reckons Citigroup faces total potential losses of more than $124 billion before the cycle ends. The bank has taken $5.7 billion in net charge-offs so far, the analyst pointed out in a note to investors on Oct. 2. He’s forecasting annual losses for Citigroup through 2011.
Bank of America , which reports results on Oct. 16, is forecast to lose 6 cents a share, according to a Thomson Reuters poll of 22 analysts.
Deutsche Bank’s O’Connor expects Bank of America to lose 42 cents a share. The bank had $13.4 billion in loan loss provisions during the second quarter and it could set aside the same amount or slightly less during the third quarter, the analyst said. Reserves could be bolstered by $3.5 billion, down from $3.7 billion in the second quarter, he added.
Bank of America’s credit-card business could be one of the main drags this quarter. Losses in this area could reach 13.5% in the third quarter, up from 11.7% in the second, O’Connor forecast.
Wells Fargo (WFC: 29.21 +0.16 +0.55%), scheduled to report on Oct. 21, is expected to make 36 cents a share, according to the average forecast of 23 analysts surveyed by Thomson Reuters. That’s down from 57 cents a share in the second quarter.
The bank’s mortgage business will likely generate about $3 billion in revenue during the third quarter, up from $2.5 billion in the second, O’Connor forecast.
However, credit losses will continue to weigh on the San Francisco-based bank. O’Connor sees loan loss provisions rising to $6.2 billion in the third quarter, from $5.1 billion in the second.
Charge-offs may jump 15% to 20%, the analyst added. Although that would be down from a 35% surge during the second quarter.
*I think the fix is in and the government will help continue the propping of the insolvent institutions. But hey, I have been know to be wrong on many occasion. So I may buy FAZ this week. We shall see. Oh how the mighty may fall. -Tradebum
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