This is shaping up to be one of the most action-packed quarters for financial institutions in recent memory.
The macroeconomic landscape had already started to shift in the second quarter of 2019, following the first yield curve inversion of the past few years in March and escalated trade wars between the U.S. and China. Added to the mix recently were the Federal Reserve's first interest rate cuts since the end of the 2008 recession and the mixed economic data pouring out of Europe and even the U.S.
Amid all the drama, banks will be some of the first companies to report their third quarter financial results. Citigroup (C - Get Report) is scheduled to do so on October 15, ahead of the opening bell. Analysts expect revenues to grow by less than 1% year-over-year, while projected EPS of $1.95 would represent a 13% increase over 2018 levels.
Will Consumer Activity Save The Day Again?
It is generally understood that the global economy has remained fairly stable on the back of resilient consumer spending activity, particularly in the United States. For this reason, Citigroup will likely perform well in its global consumer division, with loan balances probably growing modestly year-over-year. Increased credit card balances, a trend that has become clearer across the industry since mid-2015, should contribute to the bank's balance sheet growth.
A variable that is a bit harder to forecast is net interest margin, or NIM. Generally speaking, a largely flat yield curve spells trouble for banks not only because of the macroeconomic risks that it tends to signal, but also because interest margins usually get squeezed in these situations. Last quarter, the three-basis point margin contraction over 2018 levels disappointed analysts -- and the same could happen in the third quarter, given the current interest rate environment.
Lastly, it will be interesting to assess the performance of Citigroup's institutional segment. Lately, investment banking, markets and securities services have collectively been doing worse than consumer banking, in large part as a result of increased risk perception in the markets, regulatory changes in research and trading, and a challenged M&A environment. In fact, Citigroup has been playing defense on the institutional side of the business, having laid off a number of its analysts around the world recently in order to curb overhead costs.
All factors considered, Citigroup will likely have the robustness of global consumer activity to help it support third quarter financial results. However, the headwinds in the form of pressured interest margins and lower institutional fee revenues will probably create a drag to top-line growth. Once again, the bank might need to rely heavily on operating expense management and share repurchases to at least meet the Street's EPS expectations.
In Summary: Tread Carefully
Considering the macroeconomic risks that seem to have increased lately, I maintain my opinion that an investment in the financial services sector should only be considered with the utmost caution.
In favor of an investment in Citigroup are the stock's low valuations: a forward P/E of only 8.3 times and a price-to-book ratio of less than 1.0 that look substantially more de-risked than JPMorgan's (JPM - Get Report) comparable metrics. However, considering the high stakes, I continue to favor an investment in Jamie Dimon's organization, since JPMorgan appears to have the highest-quality franchise in banking when it matters most -- that is, during times of macroeconomic uncertainty.
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