The S&P 500 index (SNPINDEX:^GSPC) fell xx% on Oct. 14, a second straight day of losses as we move deeper into earnings season. The move lower today was largely a product of earnings from Wells Fargo (NYSE:WFC) and Bank of America (NYSE:BAC) that didn’t meet expectations, creating worries about the state of the overall economy. Add in news that Eli Lilly (NYSE:LLY) and Johnson & Johnson (NYSE:JNJ) were both pausing clinical trials on their COVID-19 therapy and vaccine candidate, respectively, and investors saw plenty of reason to sell today.
Oil stocks and industrials moved higher today; and while the Industrial Select Sector SPDR ETF (NYSEMKT:XLI) closed with bigger gains than the Energy Select Sector SPDR ETF (NYSEMKT:XLE) — both of which track the S&P 500 components of each sector — oil stocks dominated the list of biggest gainers today. Concho Resources (NYSE:CXO) shares topped the index, up 11% on rumors of a buyout, while Hollyfrontier (NYSE:HFC) and Baker Hughes (NYSE:BKR) shares gained almost 4%, good for the second- and third-best performers today.
Oil stock surge can’t pick up all the slack
Today’s oil stock gains were largely a product of another round of optimism that the oil market is improving. Crude oil prices gained 2% today on hope that global crude demand is on a steady trend higher, helping lift oil stocks across the sector, including refiners like Hollyfrontier and service providers like Baker Hughes. Rumors that Concho Resources is in talks to be acquired by giant oil producer ConocoPhillips (NYSE:COP) sent Concho shares higher, and investors responded with optimism across the sector as increased M&A activity in the past month offers some hope that the worst of the downturn is over.
At the same time, there remains real risk to the U.S. oil industry. Russia’s oil minister made comments recently that he expects the OPEC+ group, which Russia and Saudi Arabia dominate, to continue easing output restrictions in the months ahead, even as global cases of COVID-19 increase. It’s looking less and less likely that U.S. producers will be able to increase oil production quickly in an environment dominated by these two petroleum-producing nations.
This makes today’s oil stock surge potentially misleading, since the conditions on the ground are only marginally improved from a few months ago, and the threats remain unchanged. The oil states are dealing with huge budget shortfalls that can only be met with increased oil revenues. As long as global demand remains weak, their pricing power will be their most important weapon to grow market share.
Wells Fargo, BofA earnings fall, Goldman profits surge
What a difference it can make to be in the investment banking business. While Wells and BofA saw their earnings decline under pressure from falling interest rates, Goldman Sachs (NYSE:GS) is getting a boost. The investment bank earned $3.6 billion, almost double last year’s $1.9 billion in net income in the third quarter. Much of this improvement was the direct result of large-money investors shifting assets away from fixed income and into equities, with interest rates at some of the lowest levels on record.
Wells did get a boost from low rates in part; refinance and new mortgage activity picked up sharply, resulting in $1.6 billion income from its mortgage banking operations. But net interest margin — the spread between what it earns on loans and what it pays on deposits, was 2.13% in the quarter. That’s down from 2.66% last year. With ultra-low rates expected to persist in the years to come, Wells and other major mortgage lenders will feel the impact on their bottom-line results.
Bank of America’s results were more mixed, in part because its substantial investment banking business had one of its best quarters ever, with investment banking fee income up 15%. Yet the bigger picture remains low interest rates and how this will weigh on its interest margins, potentially for years to come.
But even in this environment, both Wells and BofA look undervalued, trading for substantial discounts to the book value of their assets:
The biggest takeaway is that, while low interest rates and ongoing economic worries weigh on Wells and a big part of Bank of America’s business, the same factors are creating opportunities for Goldman, and for BofA’s investment banking business, to grow profits.
For retail investors, the takeaway is unchanged: The economy continues to face uncertainty and risk from the coronavirus pandemic. The near-term prospects are cloudy, and likely to remain such for the rest of the year and potentially well into 2021. But the best companies will come through the pandemic in fine shape, and investors who focus on their long-term financial goals — not the market’s short-term movements — will be best able to navigate the uncertainty and reach those goals.