Financial Sector (Part II) – Buying Opportunity or Time to Underweight ?

As this blog post is being written on Wednesday afternoon, May 31 ’17, the Financial sector has given up all of its gains for 2017, and has under-performed the SP 500 by nearly 650 – 700 bp’s year-to-date.

Charles Schwab (SCHW) remains clients top financial sector position with a 4% weighting across the spectrum, although clients also remain long JP Morgan (JPM), Goldman Sachs (GS), and the Chicago Merc (CME), as well as smaller positions from across the sector.

Much of the sector today is testing it’s 200-day moving average, which is typically a support level for the stocks. or the level, which, if trading below, means time to start selling.

The Part I blog post on the Financial sector talked about some of the historical revenue and earnings growth within Financials in the last few years.

Here is complete spreadsheet on the Financial sector earnings and revenue growth since Q1 ’09:

FC – FinancialEPSrevgroSince Q109

As the Part I post referred to, Financial sector revenue growth has basically been non-existent since post 2009. If readers look at the attached spreadsheet, 2009 saw a sharp revenue bounce off the 2008 collapse, and then the sector revenue growth averaged 2.5% from Q1 ’10 through Q1 ’16, or 7 years.

Q1 ’17’s revenue growth is somewhat illusory too since Q1 ’16’s was negative, but even if we look at the “two-year comp” at least the average is +3.8% and higher than the last 7 years.

The Financial sector overweight is going to be maintained for now. While Dodd-Frank reform might be illusory, I do think that the Financial sector will see relatively easier capital requirements and has far less leverage in the system than in 2007.

CNBC’s FastMoney Melissa Lee had a great interview with Steve Eisman, the legendary hedge-fund manager and short-seller a few weeks ago, (Eisman was portrayed by Steve Carell in “The Big Short”), and he was relatively sanguine about the credit risks for the Financial sector for the next few years. He saw nothing like the conditions that precipitated the 2008 collapse either in credit or leverage in today’s Financial stocks, although subprime auto was one small worry.

Tomorrow, i.e. Thursday and Friday, June 1st and 2nd, investors get a lot of jobs data, including the ADP report, the weekly jobless claims and Friday’s May ’17 non-farm payroll report.

The overweight will be qualified by saying that if the yield curve continues to flatten, then Financials will continue to struggle.

However, the market is due for some stronger payroll data, and the Treasury yield curve could use some steepening if the data cooperates.

There is much chatter about the ending of the “Trump Trade” and the ‘Trump Bump” and Financial’s are a prime example of that.

From a sentiment perspective, there is now too much pessimism around the sector. If Financial sector revenue growth is just 5% through the end of 2017, it will be the fastest revenue growth seen in 10 years.

Here is one last little data tidbit that continues to influence the Financial sector overweight;

Cal Yr 2017 Expected Financial sector Earnings Growth: (Source: T/R I/B/E/S) 

  • as of 5/25/17: +13.0%
  • as of April 1: +12.6%
  • as of Jan 1: +11.3%
  • as of Oct 1: +12.2%
  • as of July 1: +13.2%

The estimate revisions since Jan 1 ’17 continue to be positive. Perhaps that will change with May’s payroll report and the Treasury yield curve. For now though, the upward revisions run contrary to the typical pattern and – in my opinion – are evidence to stay overweight the sector.

Thanks for reading.

(Opinions can change at any time, as can positions. There will be a sincere attempt to keep readers up-to-date on positions, and weightings but there are no guarantees.)

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