3Q18 Earnings: Potential Themes- Pt. 1

Over the next couple of days and weeks, many companies will begin to report their 3Q18 results and Outlook for FY18 and future year(s). Over the weekend, I took some time to look into my crystal ball, searching for some of the common themes that should come up when some of these financial institutions announce their results. I anticipate some of the major themes will be around: (1) Interest Rate Hike, (2) NIM Expansion, (3) Efficiency, (4) Trade, (5) Stress Testing/Macroprudential regulations, (6) Credit and Deposit, (7) Mortgage Banking, (8) Corporate Governance, (9) AI / FinTech / Cryptocurrency, and (10) Mergers and Acquisitions.

1) Interest Rate Hike: In the light of the Fed's decision to start raising rates, expect many of the CEOs/CFOs to express mild excitement. Many might pivot to fiscal policy issues or complain that the economy still need to grow at a decent pace - before the benefits of rate hikes trickle down. As the Federal Reserve continues to raise rates it will positively impact bank earnings. Ceteris paribus, higher short-term rates would impact credit cards, home equity lines and increase net- interest margin (NIM). Maybe few conversations around why they believe or disbelieve the ability of 10yr-2yr spread yield inversion as a precursor to recession. The jury is still out on that one.

2) NIM Expansion and ROTCE/ROE: As stated above, we can expect Net Interest Margin (NIM) to start rising over the next few quarters. However, this rising tide will impact different boats (read Banks) differently. From an investing perspective, banks with average assets under $1B or those between $1B and $15B are the most attractive for harvesting NIM. But ROE trends for banks with average assets $100M<x<$1B and >$100m or greater than $15B seems to be the sweet spot. Thinking TD Ameritrade, M&T Bank, Huntington, First Citizens, and MB Financial. I still love Bank OZK, just unsure if it is a falling knife.

3) Efficiency Ratio: How are you planning to cut costs, if competition is becoming intense out there? Are you closing more branches? Laying off more people? Are you going digital, investing in technology, outsourcing, etc.? What are you going to do to improve your efficiency ratio and operating leverage? I anticipate many to reiterate their 2Q18 guidance or claim that they are on trajectory to deliver on what they have promised – whatever that means.

4) Trump Presidency, Financial deregulation, Trade wars and Tariff: Okay, it isn’t that bad. Generally, they will try to be apolitical, but express optimism that this administration is more pro-growth, pro-business than the prior one. There would be growing expectation that the regulatory burdens on financial institutions will continue to be lower. There is room for improvement. Let’s wait till the end of November election, etc.

5) DFAST, CCAR, and CECL: It is what it is. I expect majority to say, “No Comments” or “We can’t comment at this time”, etc. Best case scenario, comments will be measured and ambiguous. There should be greater propensity to pull back on payout (or maintain current capital action levels), diversify away from longer duration assets, and tighten credit.

6) Credit Trends and Deposit Base: Rumor has it that many institutions are going down the credit spectrum (did someone just say subprime?). Expect some plausible deniability. While it is hard and too early to tell if this is a precursor to the next crisis/bubble, it is a good idea to be watchful of any degradation in credit quality. Considerable attention needs to be paid to companies that have significant credit card and auto portfolios. Higher rates would also be blamed for any lackluster growth in deposit. Most will avoid talking about their Deposit betas. It is a “secret sauce”.

7) Mortgage Banking and Mortgage rates: Over the last few months, mortgage rates have been climbing up (thanks in part to the Fed raising rates). It could be expected to persist. There is a high likelihood that higher mortgage rates will push many potential buyers into the market (especially those that have been sitting on the sidelines). Higher home prices and home equity values could also make many current owners to “trade up”.

8) Corporate Governance (Succession Planning): How are you think about succession planning? Is anyone retiring or getting fired anytime soon? Are you promoting from within, or bringing in fresh blood?

9) AI, FinTech, and Cryptocurrency: Are you concerned about xyz? What are you doing about it? Honestly, no one really knows. To act or claim otherwise is hubris. But then, you still have to beware of Amazon and Facebook. The machines are coming.

10) Mergers and Acquisitions: How are you planning to grow? Organically or through M&A? Are there still good opportunities out there? What are you looking for in a target?

Disclaimer/Disclosures:

Femi Elegbe, CFA currently work for Capital One as a Principal Financial Analyst. All the opinions above are his, and currently has no conflict of interest.

Rhema Capital and Femi Elegbe, CFA do not currently have a long or short position in any of the stocks mentioned above. However, we reserve the right to do so over the next few days. The opinions and the strategies of the author are not intended as a recommendation to buy or sell a security. And while the strategy and screening used by the author seem profitable ex-ante, a stock's past performance does not necessarily predict future results. Please remember to do your own research and make the final decisions within the parameters of your age, risk tolerance, time horizon, tax implication, etc. While some data might have been from the Federal Reserve database, Fidelity Investment Services and/or S&P Capital Research were used for this screening and research, the author wrote this article by himself, and they are his opinions. He is not receiving compensation for this analysis and currently do not have any business relationship with any of the companies whose stock is mentioned in this article (that we know of).