Banks Looking at a Weak Week as Earnings Reports Approach

As banks prepare to report fourth-quarter earnings starting Tuesday, no one expects to see much growth.

That is both bad and good for bank stocks. On the one hand, earnings are likely to be anemic across the sector; plenty of banks have already warned of weak results, following months of declining capital markets, deteriorating credit quality and tighter profit margins. On the other hand, given the dismal mood in the sector, any upside surprise could spark a rally in a given stock. Depending on developments in the macroeconomic picture, the sector could even rise a bit if enough numbers come in clean, analysts say.

But for now, everyone's mum on the subject of optimism. Diane Glossman, banks analyst at UBS Warburg, dubs her fourth-quarter outlook "Expect Disappointment." She expects bank earnings to slide 1.8% from a year ago as a result of rising credit costs and a slowing economy.

Some big banks will suffer greatly this quarter. For instance, the newly merged J.P. Morgan Chase (JPM Quote - Cramer on JPM - Stock Picks), which has already warned of a shortfall, is expected to see combined earnings drop at least 50% because of "venture capital losses and reduction in trading volume," she says. (UBS Warburg rates J.P. Morgan a buy and hasn't underwritten for the bank.)

It's That Time Again Big banks set to report earnings this week
Bank	Report Date	Consensus EPS Estimate
Bank of America (BAC:NYSE)	Tuesday	86c
Bank of New York (BK:NYSE	Tuesday	50c
Citigroup (C:NYSE)	Tuesday	65c
Mellon (MEL:NYSE)	Tuesday	52c
Wells Fargo (WFC:NYSE)	Tuesday	65c
Bank One (ONE:NYSE)	Wednesday	45c
FleetBoston (FBF:NYSE)	Wednesday	84c
J.P. Morgan Chase (JPM:NYSE)	Wednesday	45c
Wachovia (WB:NYSE)	Wednesday	$1.26
First Union (FTU:NYSE)	Thursday	69c
U.S. Bancorp (USB:NYSE)	Thursday	57c
Source: First Call Thomson Financial

Meanwhile, among other money center banks (those in a major financial center that participate in both national and international money markets), earnings at powerhouse Citigroup (C Quote - Cramer on C - Stock Picks) are seen rising 14%, while Bank of New York (BK Quote - Cramer on BK - Stock Picks) is projected to report a 15% gain. (UBS rates Citi strong buy and Bank of New York buy. It hasn't underwritten for either bank.)

"I think the bias is so much more toward expecting disappointments rather than upside surprises," says Brock Vandervliet, banks analyst at Lehman Brothers. "Many of the companies I was concerned about have already prereleased, so that takes some of the drama out." Lehman's fourth-quarter outlook includes a universe of 54 banks. It expects 13 banks to beat expectations, 26 to post in-line results and 15 to miss the consensus.

Indeed, the list of financials that have warned is fairly lengthy this quarter, including Bank of America (BAC Quote - Cramer on BAC - Stock Picks), J.P. Morgan Chase, Conseco (CNC Quote - Cramer on CNC - Stock Picks), Hibernia (HIB Quote - Cramer on HIB - Stock Picks) and UnionBanCal (UB Quote - Cramer on UB - Stock Picks).

Some analysts say they expect few surprises, given that most large banks have either expressed comfort with estimates or faced up to the fact they won't meet them. But Ruchi Madan, banks analyst at Salomon Smith Barney, singles out possible wild cards, including Bank One (ONE Quote - Cramer on ONE - Stock Picks), which she said in a research report is "widely expected to miss fourth-quarter estimates as a result of a potential credit cleanup."

And Madan believes Wachovia (WB Quote - Cramer on WB - Stock Picks) needs to talk down estimates, though time is running short, with the bank due to report earnings Thursday morning. Salomon rates Wachovia neutral and Bank One outperform and has had underwriting relationships with both banks in the past.

Of the many issues banks are grappling with at the moment, credit quality has taken center stage as bankruptcies and troubled loans have increased amid a slowing economy and higher interest rates. Bank of America's credit problems have been the most visible recently, but many observers are wondering how widespread the problem will be. Glossman says she expects nonperforming loans (past-due loans that haven't been written off) to increase 11% on average for superregionals, or banks that operate in more than one state.

On a more positive note, SunTrust (STI Quote - Cramer on STI - Stock Picks) set a positive tone on Wednesday when it said nonperformers had increased a modest 6%, compared with a frightening 60% spike in the previous quarter.

Some analysts believe things will get better from here. Madan thinks the downside in bank stocks is mostly done, opining that higher credit costs have already been priced into the stocks and that cost savings from acquisitions and restructuring should help the bottom line. And the Federal Reserve's recent interest rate cut, while certainly not a cure-all for banks, should help at least reduce margin pressure in the months ahead.