Life After Earnings for Banks: Vindicated or Vilified?

Analysts across field are calling for the U.S. economy to "bottom out" in the second half of 2009, calling for GDP growth in Q4 but hesitant to take a stand regarding the near term economic forecast. Meredith Whitney drew her own proverbial line in the sand, calling for shares of Goldman Sachs (GS) to reach $186/share. Goldman has profited from the volatility of the market throughout the recession and will most likely blow out the street's estimates yet again, but does this tell us anything about the banking sector as a whole?

Unfortunately, Goldman doesn't foreshadow strength in commercial banks, yet the XLF Financial ETF gained 6.4% on Monday compared to a lessor 5.3% for GS. The bar is high for commercial banks to beat earnings given a steep yield curve that offers banks a comfortable Fed Funds to 30 year fixed spread, offering a 5% yield for banks, yet purchase and refinance mortgage levels have been lackluster of late. The contentious unknowns facing banks are credit card and commercial mortgage defaults.

Credit card default rates in May ranged from 8.3% on JP Morgan's (JPM) books to 10.5% of Citigroup's (C) card holders missing payments, while Bank of America (BAC) expects to write off 12.5% of remaining balances. Credit card legislation signed into law on May 22, 2009 will force banks to treat borrowers to notices of rate hikes and the option of recapturing their lower premiums if minimum payments have been made on time for six consecutive months following an increase.

While the law is less pressing on banks' balance sheets than some had expected, the end result must be lower profits from credit card arms of all commercial thrifts.

Commercial real estate prices, vacancy and sales have been deteriorating at increasing rates of late and are still well below recessionary levels of 2002 and 2003, suggesting that trouble in this sector will worsen in the near future. CIT Group (CIT), not to be confused with Citigroup (C), specializes in holding commercial mortgage paper and is now seeking government aid with hopes of avoiding bankruptcy. The group presently holds $2.3 billion of TARP funds on the balance sheets but needs more funding to avoid collapse.

The following charts offer a visual perspective to the commercial real estate market, begging investors to do their homework before piling into thrifts with exposure to the space.

Goldman Sachs reported earnings of $4.93/share, crushing estimates as expected, yet the all financial valuations suffered from the admission of reality... Goldman isn't a bank and shouldn't move bank shares! Goldman Sachs is a trading house and investment bank but isn't exposed to any of the issues facing traditional banks and thrifts.

Dissecting the books of these giants and separating the TARP infected tissue from the healthy muscle may prove impossible, but results from credit card and commercial mortgage arms will read clearly in black and white. Inspecting statements from Johnson and Johnson (JNJ) and Alcoa (AA), its clear that we had our fair share of BS forward looking statements during the Q2 season, as firms described the "signs of a bottom" cliche in one hundred different ways.

Can financial institutions really be trusted with TARP funds and FASB revisions still clinging to balance sheets like decaying scar tissue over infected internal organs?

Only the analysis of revenue growth and earnings potential among banks will begin answering these questions, while time is the ultimate decision maker in such a volatile era.

Comments

[pearlwillman:]

Check out www.obamamortgagerelie.../ There needs to be a program for the elderly but not quite to retirement age for mortgage modification when the have lost their job during this particular recession. I made a decent wage because I put my time into a company and now have no job. I am looking at $10 - to $12 hr jobs after working all my life. You can't make a mortgage payment on that kind of money. I will eventually lose my home.

Sep 05 04:19 AM