Say what you will about the quality of financial earnings in 2013 (and we have said quite a bit, making it very clear over the past three quarters that a substantial portion of financial “earnings” has been accounting gimmickry such as loan-loss reserve releases and other “one-time” addbacks which mysteriously end up becoming quite recurring), but one thing that is indisputable is that of the nearly $52 in non-GAAP, adjusted S&P500 EPS so far in 2013, over 20% is attributable to financials.
This can be seen on the charts below, showing the breakdown of S&P component industries to the S&P500’s bottom line, as follows:
In other words nearly $11/share of the $52 in S&P500 EPS in the first half of 2013 is due to financial companies. While we don’t have the industry breakdown by sector for third quarter expectations handy, it is once again roughly in the 20% range.
Which may be a problem.
As we reported first in July (and again on subsequent occasions), one of the most dramatic events to take place in Q3 as a result in the blowout of rates on Tapering fears, was the sudden and precipitous collapse in the value of unrealized gains (or rather losses) on available for sale securities held by banks due to soaring yields and plunging fixed income prices.
But while this major adverse impact to bank capitalization was immune from also hitting the bank income statement due to the special treatment of Available for Sale Securities courtesy of FAS115, something else did impact the income statement.
As we also reported first two weeks ago, the unprecedented plunge in fixed income profit in Q3 as indicated by early reporter Jefferies, foreshadowed something very bad is coming.
The revenue collapse, according to CEO Dick Handler, was due to “rising-rate environment, spread widening, redemptions experienced by its client base which “heavily muted trading,” and related mark-to-market write downs.” In other words: a perfect storm.
Days later, first Citi, and then virtually all other major banks warned that they too will suffer comparable drops in fixed-income revenues and profits. As in Jefferies’ case this is due to pushing writedowns through the P&L, to a plunge trading volumes, to an illiquid market, to client redemptions and due to demand for mortgage originations and refinancings grinding to a halt. In some cases, like JPMorgan, the pain will only be magnified as banks have to take massive legal reserves, which will further crush actual earnings, although bank analysts will surely bless these as “non-recurring” as usual (even if they are now about the most recurring component of JPM’s quaterly performance), and thus allow them to be excluded from Non-GAAP bottom lines.
However, one thing is now abundantly clear: 2013 is now one big scratch for bankers who were expecting that this year bonuses would finally pick up from the prior several years mediocre performance and catch up to the record days of 2009 (just after the biggest wholesale bank bailout in history).
The WSJ summarizes the situation best:
“I haven’t seen morale this bad since the Titanic,” said Richard Stein, a senior recruiter at Caldwell Partners CWL.T -3.41% who specializes in financial services.
And if bankers are not happy, nobody else will be (here’s looking at you dear perpetual banker bailout ATM known as US taxpayers).
New troubles are piling up for U.S. banks as they prepare to release third-quarter results amid warnings of weak trading revenue, a sharp decline in mortgage-refinancing activity and rising legal costs.
Analysts are scrambling to ratchet down earnings estimates ahead of the reports. J.P.Morgan and Wells Fargo are slated to post results on Oct. 11, with Citigroup Inc., Bank of America Corp., Morgan Stanley and Goldman Sachs Group Inc. due to weigh in the following week.
Poor results could prompt additional job cuts and worsen the already downcast mood on Wall Street, bankers and recruiters said.
The effects of slowing mortgage demand, weak trading revenue and higher legal costs are being felt far and wide.
Analysts reduced revenue estimates for the six largest U.S. banks during the quarter and cut profit estimates for all but Wells Fargo.
Bank of America, which relies heavily on the trading and mortgage businesses, suffered the biggest drop. Analysts have reduced their third-quarter per-share earnings predictions for the Charlotte, N.C., lender by 27% since July 1.
The tempered expectations are a troubling sign for an industry already struggling to overcome lackluster loan demand, a weak economy and the hangover from the 2008 financial crisis, as regulators and government investigators work through a backlog of cases focused on banks’ activities during the housing downturn.
They may not be good with non-taxpayer funded numbers, but bankers are always quick when it comes to turning a phrase:
“For a while we thought a light was at the end of the tunnel,” said Gerard Cassidy, a banking analyst with RBC Capital Markets. “It seems to be a Mack truck.
In previous years there was always at least one product group that was making money. This year: everyone is suffering.
Mr. Stein, the recruiter, said he received 100% more calls in August and September than in the same months in 2012 from disgruntled traders in fixed income, currencies and commodities at big banks looking to switch firms. “There’s no opportunity to make any money right now,” he said. “Nothing is happening.”
Naturally, since everyone wants out and to find a job at a competitor, it is suddenly the biggest buyer’s market out there. It also means axes will be flying in 2013 coming bonus time, or rather, just before.
Some banks have started looking at contingency plans for future layoffs, Mr. Stein said. “Just when you thought they got rid of all their expensive people, they’re going to have to go back and relook at that,” he said. “It’s been brutal,” said Michael Menatian, a mortgage banker in West Hartford, Conn. “We were flat-out busy until May. Once rates went up, things went completely dead.” He said he closed around $4 million in loans every month through June, and about $1.5 million a month since then.
And we are not talking selected surgial layoffs here and there. The mortgage industry: that bread and butter of banking Net Interest Margin-based operations, is about to be nuked from orbit.
J.P. Morgan, Bank of America, Wells Fargo and Citigroup already have cut more than 10,000 mortgage jobs this year, with plans for thousands more to come. J.P. Morgan is accelerating plans to cut as many as 15,000 jobs in its mortgage division by the end of 2014. All told, the number of employees in the industry will likely shrink by 25% to 30% over the next year, estimates Christine Clifford, president of Access Mortgage Research & Consulting, Inc., a Columbia, Md., mortgage research and consulting firm.
Finally, since a dropping bonus check tide will reduce all compensation packages across all levels, it means more disgruntled bankers, less discretionary income for the wealthiest, even less taxes paid into city, state and Federal coffers, less consumption and more saving, and an end to America’s deficit-cutting miracle and certainly and end to the days of barely even stall speed GDP.
As for what it means for second half S&P500 EPS of which financials represent 20%, and for the hopes and prayers of discredted “the recovery is here” chatterbox pundits (and central bankers) everywhere, we are confident, no pun intended, readers can figure that out on their own.