Earnings Or Oil - What Will Drive Financial ETFs Ahead?

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Includes: BAC, C, GS, IAI, IYG, JPM, KBWB, MS, VFH, WFC, XLF
by: Zacks Funds

The financial sector, which accounts for around one-fifth of the S&P 500 index, had a decent-to-downbeat Q1. Most big banks beat on the bottom line while very few lived up to analysts' expectations on the top line.

Modest gains in loan growth amid low interest rates were overshadowed by troubled investment banking activities and subdued fixed-income markets. Also, the energy sector weakness has been the key drag on the banking sector.

This is because that U.S. banks have significant exposure to the long-ailing energy sector where chances of credit default are higher. In February, the S&P cut its outlook on several regional banks with the highest energy sector exposure, citing a likely increase in non-performing assets.

Among the biggies, Wells Fargo (NYSE:WFC) reported around $42 billion oil and gas credit in February. The situation is the same for J.P. Morgan, the energy loan of which accounts for 57% of the investment-grade paper. J.P. Morgan earlier noted that it 'set aside $600 million' for loan losses emanating from the energy, metals and mining sectors.

Against such a backdrop, a peek into the headline numbers of the Q1 earnings season becomes essential. If we go by the Zacks Earnings Trends issued on April 14, 2016, financial earnings are expected to fall 8.4% in Q1 on 1.8% higher revenues.

Let's take a look at the big banks' earnings which released lately.

Big Bank Earnings in Focus

JPMorgan (NYSE:JPM) reported first-quarter 2016 earnings of $1.35 per share, beating the Zacks Consensus Estimate of $1.26. Earnings were down 7% year over year. Net revenue of $24.1 billion was also ahead of the Zacks Consensus Estimate of $23.9 billion. Revenues declined 3% from the year-ago quarter.

Citigroup's (NYSE:C) earnings from continuing operations of $1.11 for the quarter outpaced the Zacks Consensus Estimate of $1.04. However, earnings declined 26% on a year-over-year basis. Adjusted revenues at Citigroup tumbled 11% year over year to $17.56 billion. Also, the revenue figure missed the Zacks Consensus Estimate of $17.79 billion.

Wells Fargo earned $0.99 a share in the first quarter, beating the Zacks Consensus Estimate by a penny but declining from the prior-year quarter's earnings of $1.04 per share. Total revenue came in at $22.2 billion, beating the Zacks Consensus Estimate of $21.6 billion. However, revenues grew 4.2% year over year.

Bank of America Corporation's (NYSE:BAC) first-quarter earnings of $0.21 per share lagged the Zacks Consensus Estimate by a penny. Further, the bottom line witnessed a year-over-year decline of 16%. Net revenue of $19.5 billion was down 7% year over year and below the Zacks Consensus Estimate of $20.5 billion.

Morgan Stanley's (NYSE:MS) first-quarter earnings from continuing operations of $0.55 per share outdid the Zacks Consensus Estimate of $0.46 per share. The quarter's earnings also reflect a significant decline from $0.85 per share earned in the prior-year quarter. Net revenue of $7.79 billion was down 21% year over year and shy of the Zacks Consensus Estimate of $8.34 billion.

Goldman Sachs (NYSE:GS) reported earnings per share of $2.68 in the first quarter of 2016, outpacing the Zacks Consensus Estimate of $2.57. However, the bottom line compared unfavorably with the year-ago figure of $5.94. Goldman's net revenue slumped 40% year over year to $6.3 billion in the quarter. Also, revenues lagged the Zacks Consensus Estimate of $7.1 billion.

Earnings Soft But What About Financial ETFs?

Despite decent-to-downbeat results from banks in the last one week, the concerned ETFs were loved by investors on a rising risk appetite. Investors seemingly have downplayed the weak numbers from banks as they were already prepared for this blow.

On the other hand, oil price staged a rebound lately, first on an expected output freeze deal in Doha which finally collapsed and then on a strike in Kuwait by oil workers. These showered gains on the below-mentioned financial ETFs lately.

Each of the aforementioned companies have considerable exposure in funds like iShares U.S. Financial Services ETF (NYSEARCA:IYG), PowerShares KBW Bank (NYSEARCA:KBWB), Financial Select Sector SPDR (NYSEARCA:XLF), U.S. Broker-Dealers Index Fund (NYSEARCA:IAI) and Vanguard Financials ETF (NYSEARCA:VFH). All the funds are in the green, having gained in the range of 3.7%-7% in the last five trading sessions (as of April 19, 2016).

In any case, the broader market is appearing to follow the movements in oil lately and the financial sector investors are also seemingly doing the same. So, things are likely to be volatile in Q2 and investors are advised to stay on the sidelines. If the Fed again turns stringent in the near term, banks could see brighter days. Each of the aforementioned ETFs currently has a Zacks ETF Rank #3 (Hold).

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