US banks earnings preview: 3 key themes to watch
Matt Weller, CFA, CMT January 11, 2022 2:50 AM
Q4 earnings season kicks off in earnest later this week, with major banks like JPMorgan Chase, Citigroup, Goldman Sachs, and Morgan Stanley all scheduled to report their results by the middle of next week...
Here we go again!
Q4 earnings season kicks off in earnest later this week, with major banks like JPMorgan Chase, Citigroup, Goldman Sachs, and Morgan Stanley all scheduled to report their results by the middle of next week. We’ll have individual previews for each of these names throughout the week, but we wanted to start with a broad overview of the financial sector and highlight some of the key themes that are driving the industry as a whole:
1) Yield curve flattening
“Borrow short and lend long” has been a basic tenet of banking for centuries, referring to the fact that banks tend to borrow money over short-term periods through savings accounts and lend money over longer-term periods in the form of mortgages and business loans. Due to this dynamic, the yield curve, or the spread between short-term and longer-term interest rates, is a critical variable driving bank’s profits.
Over the last quarter of 2021, this spread compressed relatively sharply. Using the 10yr-2yr treasury yield spread as a proxy, the yield curve flattened by about 40bps in Q4, with the interest rate premium for 10-year debt over 2-year debt falling from 1.20% to 0.80%. In other words, the difference between traditional lending banks’ revenue and expenses shrunk, presenting a potential headwind for US bank earnings this quarter.
2) Investment banking and trading
Whereas the flattening yield curve could hurt bank profits this quarter, investment- and trading-focused banks could see a considerable tailwind from the ongoing buoyancy in equity markets. Between a record year for IPOs, still low interest rates, and significant volatility in financial markets, trading and investment banking profits at major banks should be strong. Expectations are particularly high for investment-focused banks like Goldman Sachs and Morgan Stanley, though more traditional borrowing-and-lending institutions like Wells Fargo may not benefit as much from these trends.
3) Relative stock performance
Q4 was also interesting for the performance of major financial company stocks. The financial sector ETF XLF underperformed the S&P 500 by nearly 6% through Q4, due at least partially to the aforementioned flattening of the yield curve. That said, the financial sector has gotten off to a roaring start to 2022, more than reversing its Q4 losses and approaching its highest level relative to the broader market since the onset of the COVID pandemic. The results we see in the coming week and a half will go a long way toward determining if the recent burst of outperformance will continue or whether the financial sector will start to underperform the broader market again.
Source: TradingView, StoneX
Stay tuned throughout the week for our updates on the most important individual banks to watch this quarter!
How to trade with City Index
You can trade with City Index by following these four easy steps:
From time to time, StoneX Financial Pty Ltd (“we”, “our”) website may contain links to other sites and/or resources provided by third parties. These links and/or resources are provided for your information only and we have no control over the contents of those materials, and in no way endorse their content. Any analysis, opinion, commentary or research-based material on our website is for information and educational purposes only and is not, in any circumstances, intended to be an offer, recommendation or solicitation to buy or sell. You should always seek independent advice as to your suitability to speculate in any related markets and your ability to assume the associated risks, if you are at all unsure. No representation or warranty is made, express or implied, that the materials on our website are complete or accurate. We are not under any obligation to update any such material.
As such, we (and/or our associated companies) will not be responsible or liable for any loss or damage incurred by you or any third party arising out of, or in connection with, any use of the information on our website (other than with regards to any duty or liability that we are unable to limit or exclude by law or under the applicable regulatory system) and any such liability is hereby expressly disclaimed.