Inflation Eases: Stocks to Watch Amid Q2 Financial Earnings

After an eventful year, corporate America's crème de la crème is set to kick off the second-quarter earnings season.

The performance of banking majors, such as JP Morgan Chase & Co. (JPM), Wells Fargo & Company (WFC), and Citigroup, Inc. (C), which are scheduled to report on Friday, July 14, would be indicative of the overall health of the economy. Their numbers, specifically deposit flows and loan growth, might impact the share prices of regional banks, which attracted much-unwanted attention earlier in the year.

As the economy seems to be finding its way into calmer waters with a greater-than-expected moderation of inflation, before we discuss the outlook for the trio of major banks ahead of their earnings release, for the uninitiated, here’s a brief recap of upheavals they had to live through and work their way around over the past year.

How We Got Here?

As the “transitory” inflation in the aftermath of the beginning of the armed conflict in Ukraine morphed into a not-so-transitory and vicious feedback loop that resulted in decades-high inflation, the Federal Reserve and other major central banks chose to respond with aggressive interest-rate hikes.

While the increased borrowing costs took the wind out of the sails of an overheating economy, it resulted in significant markdowns in the “ultra-safe” long-term U.S. Treasury securities in which many of the regional banks had invested their mushrooming deposits of cash, mostly received as stimulus during the pandemic.

However, as the going got tough for various businesses amid increased borrowing costs, the banks’ clients began to dip into their deposits. In such a scenario, to meet its payment obligations, the banks’ mark-to-market losses rapidly crystallized into realized ones.

Consequently, Silicon Valley Bank (SBV) announced that it booked a $1.8 billion loss, and the chaos and panic triggered by its failure wiped out a combined $52 billion in the market value of JP Morgan Chase & Co. (JPM), Bank of America Corporation (BAC), Wells Fargo & Company (WFC), and Citigroup, Inc. (C).

Credit Suisse and First Republic Bank became two other casualties, which JPM and UBS proactively absorbed.

The banking turmoil proved to be teasers to a similar, but orders of magnitude larger, scare. As the U.S. Treasury looked set to exhaust its ‘extraordinary measures’ to manage the national debt by June 5, the world’s richest economy, which also issues the global reserve currency, was projected to run out of cash and fail to meet its obligations, until the self-imposed debt ceiling was raised or suspended.

With the extent to which the U.S. and global economy could be undermined if the default comes to pass deemed by treasury secretary Janet Yellen an “economic catastrophe,” it is not difficult to understand why business leaders, such as JPM Chief Jamie Dimon, convened a ‘war room’ over the debt ceiling standoff.

However, calmer and more rational heads prevailed in Washington, D.C., albeit at the eleventh hour. President Joe Biden and House Speaker Kevin McCarthy reached an agreement to suspend the current $31.4 trillion statutory debt ceiling until January 1, 2025, in exchange for discretionary spending caps for six years.

Where Are We Now?

Post the shakeups, all 23 banks successfully weathered the Federal Reserve’s annual stress test toward the end of the last month. Even in a severe recession scenario simulated in the test, the banks were able to maintain minimum capital levels, despite $541 billion in projected losses for the group while continuing to provide credit to the economy.

Given the endurance and resilience that was successfully displayed, an indication of lighter capital requirement resulted in banks, such as JPM, WFC, The Goldman Sachs Group, Inc. (GS), and Morgan Stanley (MS), using resources freed up to payout higher dividends to their shareholders.

JPM will lift its quarterly dividend to $1.05 a share from $1, while WFC will hike dividends to $0.35 from $0.30. Moreover, both banks have said that they have the capacity to repurchase shares. Despite an increase in minimum capital requirement from 12% of risk-weighted assets last year to 12.3% after this year’s test, C’s board has also approved a dividend increase from $0.51 per share to $0.53.

The stocks have gained over the past month, given the demonstrated staying power and the potential windfall for the shareholders.

The (Probable) Road Ahead

For the second quarter of the fiscal year:

JPM’s revenue and EPS are expected to increase by 32.1% and 37.7% year-over-year to $39.12 billion and $3.80, respectively.

WFC’s revenue and EPS are expected to increase by 22% and 39% year-over-year to $20.07 billion and $1.14, respectively.

C’s revenue is expected to increase by 8.3% year-over-year to $19.35 billion. However, its EPS is expected to decline by 38.7% over the prior-year period to $1.41.

While the outlook seems largely optimistic, some analysts have warned that large banks' earnings have peaked with continued declines in net interest incomes, normalization of credit costs, and increased expenses due to inflation.

3 Stocks To Benefit from the Recent Rate Hike

High inflation has been a problem for the economy this year. Although the consumer price index (CPI) eased slightly in October, it remains way above the Fed’s 2% long-term target.

The Federal Reserve has been trying to combat runaway inflation by draining liquidity from the financial system by hiking the benchmark interest rates and selling off a significant part of its bond portfolio.

The Fed has raised the benchmark interest rate six times this year, with the fourth consecutive 75 basis point rate hike taking the target range to 3.75%-4%.

Bankrate’s chief financial analyst Greg McBride said, “A fourth consecutive rate hike of 0.75 percent – after going 28 years without one that large – speaks to the urgency of the Fed’s task.” “They’re still playing catch-up against inflation that continues to run near 40-year highs,” he added.

Do you think the Fed can pull off a soft landing for the US economy now that inflation has cooled slightly in October?

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Concerns over rising borrowing costs have led to volatility in the stock market. However, not all sectors suffer from rising interest rates. Financial institutions, including banks, usually benefit from rising interest rates as it helps them expand their interest income.

Therefore, it could be wise to make the most of the strong uptrend in bank stocks JPMorgan Chase & Co. (JPM), Morgan Stanley (MS), and The Goldman Sachs Group, Inc. (GS). Continue reading "3 Stocks To Benefit from the Recent Rate Hike"

Rising Rates: Financials Will Greatly Benefit

The Federal Reserve raised interest rates by 75-basis points at its most recent meeting and forecasted that a similar rate hike could on the table in July. These efforts are necessary to stamp out the persistently high inflation throughout the economy.

The most recent 75-basis point rate hike was the largest since the 1994 rate tightening cycle.

The financial cohort will benefit via a confluence of a rising interest rates, financially strong balance sheets and the easy passage of annual stress tests to support expanded buybacks and increased dividends.

Bank of America (BAC), JPMorgan Chase (JPM), Morgan Stanley (MS), Citigroup (C) and Goldman Sachs (GS) look appealing at these levels, off substantially from their 52-week highs.

Net Interest Income

Net interest income is an important financial measure that is essentially the difference between interest paid and interest received thus the revenue generated by its loans and interest paid out on its deposit base.

Bank stocks perform well in a rising interest rate environment as the interest income earned from loans rises faster than what they pay for funding. The higher interest rates go, the greater the net interest income banks earn.

Immaterial Geopolitical Exposure

The big banking cohort has minimal to no direct exposure to Russia/Ukraine thus not tied directly to the geopolitical conflict. This is especially important as the geopolitical tensions rage on and possibly snap up these stocks as a function of overall market sentiment.

Overall, the big banks generate an inconsequential amount of revenue from Russia. For example, BAC, JPM and MS do not have direct exposure to Russia in their regulatory filings.

However, GS is estimated to have $940 million total exposure to Russia and Ukraine, or less than 0.1% of its total assets, per Bank of America. Citigroup (C) had $9.8 billion exposure to Russia, including $5.4 billion in Russia-specific exposure, equating to only 0.3% of the bank’s total assets.

As such, there is not a single company within the collective big bank cohort has any more than 0.3% of its total assets exposed to the Russian/Ukraine conflict.

2022 Financial Stress Tests

The financial cohort easily cleared the Federal Reserve's annual stress test, removing any concern that there’s systemic financial risk in the economy, circa 2008.

The results of the Fed's annual stress test exercise showed the banks have enough capital to weather a severe economic downturn and paves the way for them to expand share buybacks and increase dividend payouts.

The 34 lenders with more than $100 billion in assets that the Fed oversees would suffer a combined $612 billion in losses under a hypothetical severe downturn, the central bank said. But that would still leave them with roughly twice the amount of capital required under its rules.

The Fed assesses how banks' balance sheets would fare against a hypothetical severe economic downturn. The results dictate how much capital banks need to be healthy and how much they can return to shareholders via share buybacks and dividends. This stress test gives investors comfort that the big banks are well-prepared for a potential U.S. recession.

The 2022 stress tests are especially important as the world faces a geopolitical crisis that may reverberate through the global economy. All this considered, it’s refreshing to know that these stress tests were easily passed and indicate that the biggest U.S. banks could easily withstand a severe recession.


The geopolitical backdrop, rising inflation, China Covid lockdowns and rising interest rates will continue to weigh on investor sentiment.

The financial cohort is much more resilient and capitalized and have demonstrated their ability to evolve in the face of the pandemic and will weather these economic challenges as well. The 2022 stress tests were easily passed and indicate that the biggest U.S. banks could easily withstand a severe recession or geopolitical crisis.

This cohort presents compelling value, especially with substantially reduced valuations in a rising interest rate environment into 2023, which may serve as a long-term tailwind for banks to appreciate higher.

Just recently, MS and BAC boosted dividend by 11% and 5%, respectively. MS also authorized a new $20 billion share repurchase program. The positive results of these annual stress tests will likely allow expanded capital returns over the years to come in a fiscally responsible and accountable manner.

Noah Kiedrowski Contributor

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