Why Bank ETFs Fell On Friday Despite Decent Earnings?

Financial stocks suffered sell-offs on Friday despite upbeat earnings. Bellwethers like JPMorgan (NYSE:JPM) and Citigroup (NYSE:C) breezed past the Zacks Consensus Estimate for earnings. Wells Fargo (NYSE:WFC) missed revenue estimates but beat on earnings (read: De-Stress Your Portfolio by Betting on Bank ETFs).

Though there were positive attributes like loan growth and improving net interest spread, the decline in U.S. Treasury yields weighed on the sector. Added to this, a somewhat subdued outlook provided by a few industry leaders led to Friday’s fall in banking shares.

Decline in Yields

The yield on the 10-year note dropped five basis points to 2.298% on July 14 on downbeat inflation number and retail sales data. This once again stirred speculation over whether the Fed will be able to enact one more rate hike this year. In any case, dovish remarks from Fed chief Yellen kept Treasury yields at check (read: Dovish Yellen Testimony to Boost These ETFs).

The Fed chair has full faith in the U.S. economic growth momentum with a solid labor market, though she remains cautious about subdued inflation and wage growth. Yellen indicated that since the neutral rate – at which economic growth matches its potential and inflation – “is currently quite low by historical standards, the federal funds would not have to rise all that much further to get to a neutral policy stance."

Inside Doubtfulness Tied to the Outlook

J.P Morgan expects net interest income to grow by $4 billion this year, down from the prior guidance of $4.5 billion, due to a combination of mortgage adjustments, weakness in markets-related income, and an unexpected slump in 10-year bond yields, as per an article published on Reuters. Shares of JPM were down 0.9% on July 14.

Reuters went on to explain that Citi Group depends less on deposits from consumers, who have not required higher rates as fast as institutional customers. Notably, a huge portion of Citigroup’s loan growth originated from credit cards which are devoid of balances and thus do “not earn interest from those loans.” Shares of Citigroup lost about 0.5% on July 14.

Wells Fargo benefited from higher interest rates but “stagnant lending and weaker revenue in areas like mortgage banking” were concerns. Wells Fargo witnessed a slump in car loans and tighter lending standards hurt the segment, going by article published on BBC News. WFC lost about 1.1% on July 14.

PNC Financial (NYSE:PNC) also came up with an impressive scorecard but dampened analysts’ mood as it did not beef up its guidance. The stock shed over 0.1% on July 14.

Banking ETFs’ Performance

The largest financial ETF Financial Select Sector SPDR Fund XLF lost over 0.4% on July 14. Banking ETFs like SPDR S&P Regional Banking (MX:KRE) ETF (CO:KRE) , PowerShares KBW Bank Portfolio ETF (KBWB, iShares U.S. Regional Banks ETF ( (LON:IAT) ), SPDR S&P Bank (MX:KBE) ETF KBE and First Trust NASDAQ ABA Community Bank Index Fund (QABA) shed about 0.6%, 0.8%, 0.7%, 0.5% and 0.9%, respectively, on July 14 (see all financial ETFs).

What Lies Ahead?

Overall, the banking sector is on growth path. JP Morgan reported a 4.7% year-over-year increase in total net revenues to $26.4 billion for the second quarter of the year. An 8% jump in interest income spurred by rising rates and an advancement in the number of loans facilitated revenue improvement.

There was also a double-digit uptick in J.P. Morgan’s card sales and merchant processing volumes. Citigroup reported 2% year-over-year expansion in revenues to $17.9 billion helped by the retail division and investment banking.

Investors should note that major banks are expected to report about 4.5% earnings growth in the second quarter of 2017. Zacks Industry Rank for banks is still in the top 28%. Still, the interest rate is the key risk in the space, which is why the Zacks Sector Rank for banks is in the bottom 25%.

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