Banks' third-quarter earnings reports are expected to be good but probably not good enough to propel a recovery in their stock prices, most observers say.
So far in the third quarter, the Standard & Poor's bank index has dived 19.4% while the broad-market S&P 500 stock index has slipped a far less dramatic 7.6%. The quarter ends today, and bank earnings reports will begin appearing late next week.
"There is not enough sizzle left to earnings" at a time when interest rates are rising, merger prospects are dim, and big returns still beckon from the technology sector, said Deborah Beylus, an analyst at Sterling Financial Institutions Group in Boca Raton, Fla.
"Over the last several years, bank stocks have typically rallied ahead of the quarterly earnings announcements. Not this time," said Frank W. Anderson, an independent bank analyst in Dallas.
Even if next Tuesday's Federal Reserve monetary policy meeting is followed by a rally -- triggered by an assumption that any rate increase would be the last for the year -- it might not be enough to completely revive bank stocks.
That is because the industry's earnings trend, though good, is not expected to get better -- and that would mean Wall Street would have no investment "story" for investors.
"What we saw in the second quarter is pretty much what we will be seeing in the third quarter," said Lawrence W. Cohn, research director at Ryan, Beck & Co. in Livingston, N.J. "Loan volume is still growing, but slowly, and asset quality continues to be O.K., while (net interest) margins are flat to down a bit but not terribly so.
"The earnings picture is fundamentally good," he said, "but the bank group is firmly out of favor, and there is no immediate catalyst to change that."
At the same time, the bank earnings picture has also grown more complicated.
Major banks that have invaded the investment banking sector are expected to post mixed third-quarter results. In a comparison between the consensus estimate of third-quarter per-share earnings with actual results for the second quarter, J. P. Morgan & Co.'s net income would rise 18.3%, and Bank of America's 5.2%. At the same time, Chase Manhattan Corp.'s results are expected to drop 14.2%, and Citigroup's 2.8%. The comparison was made with the second quarter rather than the year-earlier period because most big banking companies took huge losses in the third quarter of 1998.
Mr. Anderson said several large brokerages last week reported strong gains from their merger-and-acquisition activities but trading results were lackluster. That may be a preview of reports from the big banks.
As for regional banks: "If the economy remains strong, gradually rising rates can actually be good for earnings," Mr. Anderson said. But "there is more pressure on the deposit side for banks than in the past" from start-ups and Internet institutions.
Another factor is regional banks' deeper penetration in the mortgage arena, sometimes through acquisitions of thrift institutions, he said. Revenues in this sector have tumbled as rising rates have ended the boom in mortgage refinancings and blunted real estate activity in general.
Shares of SouthTrust Corp. of Birmingham, Ala., and First Tennessee Corp. of Memphis, both well-regarded companies, have apparently been hurt in this way, he said.
The chief question remains the Fed's possible action on interest rates, Mr. Anderson said. Perhaps the most troublesome potential decision by the central bank would be to leave rates unchanged (it raised them in June and August) but to adopt a "tightening bias" that would leave open the possibility of an increase later this year.
That prospect, Mr. Anderson said, would keep the environment "difficult" for banks into next year. "The interest rate question really has to clear for banks to get going again."
Edward Yardeni, chief economist at Deutsche Banc Alex. Brown Inc. in New York, pointed to another threat.
"The labor market appears to be the tightest it has ever been in peacetime, which raises the likelihood of a big jump in wage inflation at some point," he said. "If you look at a ratio of initial unemployment claims to the total labor force, it is the lowest since 1967, when the data series began."
A sharp rise in wage inflation would jolt the financial markets because "everybody right now is calm about inflation, and labor inflation in particular," Mr. Yardeni said. "And a jump in wage inflation from the region of 3.5% to 4% (annual rate) to 4% to 4.5% would certainly put the Fed on tightening alert."
The government's next employment report, tracking September, is to be released Oct. 8.
Meanwhile, trading activity in the overall market could begin to wane toward yearend in deference to the prospect of year-2000 computer problems, Mr. Yardeni said.
"A lot of major institutional investors, some of the largest in the market, have told me recently that they intend to pull back from trading in the last two weeks or four weeks of the year," Mr. Yardeni told clients this week. "That means investors had better like what they own on Nov. 30 because it will be next to impossible to get out of it."