With the third quarter now complete, we can look back and more fully assess the state of the market and industries.
Although financial stocks have drove the performance of the broad market for years, there was a clear divergence this past quarter. During the last quarter, the S&P 500 gained nearly 10.7%, but the KBW Index which tracks 24 bank stocks including JPMorgan Chase (NYSE: JPM), Bank of America (NYSE: BAC), Wells Fargo (NYSE: WFC), Citigroup (NYSE: C), and others showed virtually no change. Bank of America stock actually fell nearly 8.8%, as investors point towards uncertainty related to new financial regulatory reform rules recently adopted.
The S&P 500 reached it’s peak for the year on April 23 – since that day, the financials have been the worst performing sector in the index. From March 2009 to April 2010, these same companies ironically showed the largest increase, leading the S&P’s 61% gain.
John Lynch, chief equity strategist at Wells Fargo Funds Management Group, commented “That old adage of ‘As financials go, so goes the market’—I don’t think that’s true this time. Banks will participate in the markets, but they’re not going to lead, and I think that’s because of what we’re seeing with the regulatory overhang.” Banks have begun divesting themselves from the high risk, high reward trading strategies and are turning to classic banking models acting as a spread business. With rates at historic lows, the banks have a very low cost of funds – but, with limited opportunities available with changing regulatory rules, the firms have been unable to exploit this opportunity as they would have in the past.
Phil Orlando, equity strategist at Federated Investors, said “We’re finally approaching a point where we can differentiate, and not everything is going to be correlated. I think what we’ve seen the last few years is everything was correlated, but now we’re two years past the crux of the crisis and we’re beginning to heal….We can start to separate the wheat from the chaff.”
Although the market results have been dismal, firm management remains hopeful. JPMorgan’s Jamie Dimon countered investors’ doubts at a conference last month, and adamantly said he expects to earn back the entire loan losses encountered. Similarly, Brian Moynihan of Bank of America has reinforced to his investors that although the firm will lose more than $4 billion a year due to the new legislation, they will have a clean balance sheet and less volatile earnings going forward. Third quarter earning expectations for nearly all the banks have been slashed in recent weeks – any upside surprise could stoke the fire for a new bull market.
