Earnings season is just around the corner. It could prove critical to justifying the record rally we’ve seen thus far in 2024. Overall S&P 500 Q2 earnings are expected to grow roughly 10% year-over-year per FactSet, with communication services and health care slated to provide most of the bottom-line gains. But financials are also in focus – with banks first up to bat this week.
Citigroup, JPMorgan, and Wells Fargo are gearing up to post quarterly results on Friday before the bell. They are followed by Goldman Sachs, Bank of America and Morgan Stanley next week. So far, the earnings season forecast is mixed, declining 10% year-over-year. But the quarter may not be quite as cloudy as many expect.
Banking Blues Easing?
It’s been a tough slog for the banks. They have collectively seen more than $750 billion in deposit outflows since the April 2022 peak. Excluding levered products, all bank ETFs have suffered net outflows so far this year, to the tune of $2.3 billion in the first quarter alone. But the bleeding has slowed and momentum has improved. Recent comments from Federal Reserve Chair Jay Powell highlighted the risks of cutting rates “too late or too little.” This could also provide much-needed relief for credit standards and lending.
While financial ETFs may not have received the same headline focus as technology or communication services sectors, they have actually provided a solid 11% return year-to-date and almost 25% over the past 12 months – making them the third best performer.
Most analysts agree the big money-center banks are better positioned than their regional peers – particularly those exposed to commercial real estate. Net interest income has trended lower but will likely bottom out as banks negotiate higher loan rates, and many expect the tepid loan growth to reaccelerate into year-end. Peak net charge-offs are in sight, and outflows from deposits into money market funds have slowed considerably. Lower rates should also spur more mortgage origination.
The SPDR S&P Bank ETF (KBE) – which follows an equal-weighted index of large-, mid-, and small-cap banks – is trading flat this year with outflows of over $500 million. The Invesco KBW Bank ETF (KBWB), which offers more targeted bets on the big banks like Citigroup and JPMorgan, is up 10%. Regional banks have fared worst in the wake of Silicon Valley Bank’s crisis last year. The SPDR S&P Regional Banking ETF (KRE) has suffered north of $1.3 billion in outflows and has fallen 7% year-to-date. Top holdings include Regions Financial, Zions and Huntington Bancshares.
A Broader Approach Beyond Banking
For those who want to take a broader approach to financials beyond just the banks, the Financial Select Sector SPDR Fund (XLF) is far and away the largest and most liquid ETF offering exposure to the space. The $40 billion fund has netted $2.2 billion in inflows this year, with total returns of 11%. Banks comprise 26% of XLF's assets, with capital markets and insurance also heavily weighted in the fund. Beyond the banks, the fund also counts Berkshire Hathaway, Visa and Progressive among its top holdings.
In fact, the latter two segments are expected to drive the bulk of earnings season growth for financials, while banks are expected to be the largest detractor to annual earnings growth for the sector. Financials may well set the tone for how investors view the second half, being both the second largest sector in the S&P 500 and third best-performing sector of the year. They account for more than 40% of S&P companies slated to report over the next two weeks.
Technology and communication services have overshadowed ETF flows into virtually all other sectors, so any signs of strength among economically sensitive cyclicals, including the banks, would certainly be welcome news among the investing community.
Sources: Strategas, Bloomberg
Financials have typically done well during election years. Money has poured into financials ETFs following the last two presidential elections. Only time will tell whether we get a repeat performance this year.
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