Finding A Way: Banks Beat Expectations Despite Struggles As Earnings Go Into High Gear

Two of the nation’s biggest banks beat earnings expectations Tuesday, but showed signs of struggle in a challenging environment. On the positive side, both banks continued to find ways to make money given all the circumstances weighing against them.

Investors entered this quarter knowing Bank of America Corp (NYSE:BAC) and Goldman Sachs Group Inc (NYSE:GS) could face some headwinds, especially on the trading side for GS. That’s exactly what happened, with trading revenue and investment banking revenues falling for GS, and interest rate income declining for BAC. Both companies blew away earnings expectations by finding other sources of strength — for instance rising loan revenue at GS — but the question is whether guidance might ultimately have to go lower.

Though Q2 wasn’t cooperative for some of the big banks, keep in mind that change could come quickly. If interest rates rise again and the stock market continues climbing, then boom, banks could find themselves in calmer waters.

From a raw numbers standpoint, BAC reported earnings per share of 46 cents on revenue of $22.83 billion. Wall Street analysts’ consensus had been for BAC earnings of $0.43 per share on revenue of $21.91 billion. GS came in with earnings of $3.95 a share on revenue of $7.89 billion. That blew away analysts’ consensus for earnings of $3.51 on revenue of $7.57 billion.

As investors digest today’s bank earnings, the overall mood seems a little cautious. Earnings drive the market, but expectations for non-earnings related factors have been tempered over the last week or two. A stalling legislative agenda in Washington could be part of that. The U.S. dollar fell to new lows for the year early Tuesday, and some analysts believe the weakness might reflect the static situation on Capitol Hill. Health reform’s chances took a big blow Monday when two more Republican senators said they couldn’t support it. While health care isn’t necessarily the big enchilada for the stock market, the crippled reform effort could indicate jeopardy for other key projects like tax reform and infrastructure legislation. Those are initiatives many stock market investors had hoped could provide a boost.

In other earnings news, the tech sector got off to a positive start after Monday’s close when Netflix, Inc. (NASDAQ:NFLX) reported it added 5.2 million new subscribers in Q2. NFLX added 4.1 million international subscribers and stated the company expects international to generate a profit for the full year for the first time. The international part of the business has had profitable quarters, but never an entire profitable year. The stock went gangbusters in pre-market trading, climbing 10% at one point.

Even before NFLX reported, Monday was “lucky seven” for the tech sector, which rose for the seventh-straight session. Info tech stocks are up more than 4% in the current rally.

On the negative side, Harley-Davidson Inc (NYSE:HOG) continues to flounder and had a disappointing quarter. They’re having a lot of trouble getting people to open up their wallets for motorcycles.

Stocks barely moved Monday as investors awaited this week’s host of earnings reports from companies other than the banks already mentioned, including Microsoft Corporation (NASDAQ:MSFT), General Electric Company (NYSE:GE), Honeywell International Inc. (NYSE:HON), Lockheed Martin Corporation (NYSE:LMT), Johnson & Johnson (NYSE:JNJ), United Continental Inc (NYSE:UAL), and others. Of these, the biggies early today are LMT and JNJ, with UAL coming after the close. Both LMT and JNJ beat Wall Street’s expectations and raised their outlooks.

From a big-picture perspective, GS, GE, and MSFT are likely to give investors a nice flavor of what to expect this earnings season, so pay special attention to those, and, as always, listen to what their executives say to get the full story. The raw numbers are important, but the earnings calls often give a more rounded view.

Oil is on the way back up early Monday, flirting with $47 a barrel. The front-month contract bounced off of support at $44 last week and now we’ll see if the bulls have a chance of pushing it toward $50.

FIGURE 1: VIX POINTS SLIGHTLY NORTH. After closing Friday at 9.51, a stone's throw from its  multi-decade low of 9.37, set June 9, the CBOE Volatility Index rose yesterday to 9.82—up 0.31—on a day when equity markets were up slightly. Data source: CBOE. Chart source: The thinkorswim® platform from TD Ameritrade. For illustrative purposes only. Past performance does not guarantee future results.

Big Dig

We often talk about the 11 sectors of the S&P 500. Sometimes, however, it’s instructive to dig a little deeper and see how the market’s sub-sectors are doing. Last week, the S&P 1500, which contains 1,000 more stocks than the S&P 500, rose 1.4%, with 73% of the sub-sectors posting gains, according to research firm CFRA. The energy component led growth, with rallies among independent power producers, coal and consumable fuels, and oil and gas drilling. Semiconductor equipment and heavy electrical equipment also did well, as did copper and paper products. Though one week doesn’t tell a full story, some of the industries that really underpin the economy seem to be doing well in the market, which could speak to positive economic growth.

Small Guys Keeping Up

Since we’re on the topic of digging deeper into the stock market, perhaps it’s time to take a look at the Russell 2000 Index (RUT). This index, which consists of smaller stocks, is posting record highs of its own even as its bigger brothers, including the S&P 500 Index (SPX), sit near all-time highs. That said, RUT’s gains this year of 5.4% trail those of the SPX’s 9.9% and the Dow Jones Industrial Average’s ($DJI) of 9.5%. Speaking of records, the SPX has now made 25 new all-time highs this year through the end of last week, and while that might sound like a lot, it’s not on pace to come in anywhere near record levels. The SPX made 77 new all-time highs in 1995, so it would take quite a 2H for the market to approach that kind of performance.

Can Housing Starts Rebuild?

Tomorrow’s key data delivery from the government is June housing starts, which have fallen three consecutive months. June could be the month when this starts to change, as analysts expect an annual rate of 1.16 million, according to Briefing.com. That would be up from 1.09 million in May, which represented a drop of more than 2% year over year. Both multi-unit and single-unit starts fell in May, with a steep drop of more than 9% for multi-unit buildings. Building permits also fell. Housing prices keep rising while mortgage rates remain pretty mild. Even with the recent decline, housing starts remain close to the two-year monthly average nationwide. However, some states are suffering more than others. A New York Times article this week highlighted California’s lack of available units, which the newspaper calls a “severe housing crisis” in the nation’s largest state. Housing starts and building permits data are due before Wednesday’s open.