Come on in the water's fine: Shallow pullbacks hide latent strength
After dropping a mere 1.8 percent from its December 31st historic high in the first two weeks of January, the S&P 500 closed at an historic high yesterday on the heaviest volume since November. That is technical analysis heaven!
It was another shallow pullback of the sort that has been typical of the past two years.
The worst decline of last year was a 7.5 percent pullback in the S&P during May and June, when then Fed Chairman Ben Bernanke first broached the possibility that the Federal Reserve would be winding down its stimulus program.
A major theme of 2014 has begun to emerge: strength in financials. The KBW Bank Index is up 2.8 percent so far this year and now at a five-year high.
The main reason for the move is that the outlook for financials is improving. Yes, they still need better loan growth and higher interest rates, and mortgage origination have slowed notably from last year (largely due to a decline in refinancing). Still, the underlying trends are still favorable:
- 1) Stronger capital and liquidity
- 2) Lower credit costs
- 3) Lower expenses
- 4) Net interest margin is OK
Lower expenses are a major theme for fourth quarter bank earnings. You can see it in Citigroup, where operating expenses dropped 5.9 percent. Yesterday Bank of America reported it had cut six percent of its branches, which led to a nine percent drop in staff.
Much has been made that trading profits have been down. That is certainly true, as Citi's fixed income trading was down 15 percent from a year ago. Mortgage origination were also notably lower.
Weak fixed income trading also hurt Goldman Sachs. There's been considerable speculation that new banking rules on risk-taking have already begun to take a bite out of trading in fixed income, currencies and commodities (FICC). That category was down 15 percent in Q4 from the same period a year ago, and 13 percent for all of 2013.
But here's the point about all this: it's only an issue at the big money center banks. Regional banks, for the most part, don't do this type of trading.
The saving grace appears to be equity underwriting...and by all indications it was a great year for initial public offerings (IPOs)! Goldman Sachs, for example, saw a 68 percent jump in IPO underwriting.
1) Bank CEOs are citing improvement in the economy. This morning Goldman CEO Lloyd Blankfein said: "the economy continues to heal and provide considerable upside for our shareholders as conditions materially improve."
Other bank CEOs have made similar comments. JPMorgan Chase's Jamie Dimon said last week: "We are optimistic about the future of the U.S. economy." Elsewhere, Wells Fargo CEO said he was optimistic about economic improvement in 2014.
1) What commodity slowdown? Rio Tinto reported Q4 production was strong, with record iron ore production and shipments in the quarter, and with copper also ahead of expectations. This came on top of lots of worries around commodity prices. Yet China reported record iron ore imports in November, December was also a bit stronger.
—By CNBC's Bob Pisani