David Fuller and Eoin Treacy's Comment of the Day
Category - General

    Q2 2017 Bank Earnings Outlook

    Thanks to a subscriber for this article by R. Christopher Whalen for theinstutionalriskanalyst.com. Here is a section on Citigroup:

    Finally we come to the least valued US large bank, Citigroup (NYSE:C), which currently trades at 0.80x book on a beta of 1.6.  C has an “A” bank stress index rating from Total Bank Solutions.  Like JPM, C’s business model puts equal emphasis on lending, trading and investing activities, resulting in a lower RAROC at 1% vs a nominal equity return of a bit shy of 7%. 

    Keep in mind that C has lower asset returns and higher credit costs than other large banks, begging the question as to whether the Fed should really be allowing the bank to increase payouts to equity investors.  If you look at Page 3 of C’s Y-9 performance report, you’ll see that C’s yield on loans is 2% higher than the large bank peer group, yet the bank has a spread on earning assets half a point lower than other large banks. The Street has C’s revenue down in Q2 2017 but magically up 1.5% for the full year.  Earnings are also expected to be down this quarter, but then will rise an astounding 9.5% for the full year.  Despite the market bump following the release of the stress test results, which will result in returning more capital to investors than C actually earns in profits, like BAC the C common still trades at a discount to book.

    Unlike names like JPM, C does not have a significant asset management business and also announced an exit from residential mortgage origination and servicing earlier this year.  This may turn out to be a blessing in disguise.  C is up 58% over the past twelve months vs 13% for the S&P 500, so like JPM we’d say that the risk is on the downside for this much maligned stock.    

    Will C hit its revenue and earnings numbers for Q2 2017?  Probably, especially now that they’ve jettisoned the mortgage business.   But the larger question is why does C still exist?  In the wake of the 2008 financial crisis, C has been struggling to redefine itself in a way that makes sense to investors. 

    But having sold the asset management business to Morgan Stanley (NYSE:MS) and the mortgage business to New Residential (NYSE:NRZ) and Cenlar FSB, there is not much left besides the consumer lending book and the payments business.  As we’ve noted in previous comments, C’s board ought to consider selling the payments business for a premium price, spin the proceeds to shareholders, then dispose of the other assets for whatever they can get before turning off the lights.


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    Market Darling India Has Issues as Inflation Hits Record Low

    This article by Anirban Nag and Archana Chaudhary for Bloomberg may be of interest to subscribers. Here is a section: 

    While bond markets are rallying as investors wager the data will trigger a rate cut from the Reserve Bank of India, the figures signal the economy faces hurdles even as the stock market surges to a record, the rupee rallies and the world’s major economies head into an era of higher borrowing costs.
    There’s a realistic chance of a 25-basis point rate reduction in August, Indranil Pan, chief economist at IDFC Bank Ltd., said. “It could be a very close call as the RBI is expected to remain cautious of the international rhetoric of tighter monetary policy and unwinding of quantitative easing," Pan said in a note.

    Some of the pessimism stems from the fact that is India is still recovering from a cash ban that interrupted employment for millions, forced farmers into fire sales of agricultural produce and bogged down the manufacturing sector. The introduction of a goods and services tax on July 1 only added to the confusion while a glut of bad loans means businesses are not borrowing to invest in Asia’s third-largest economy.

    Bank credit to industry contracted in the year to May, while deposits surged following the ban of high-denomination notes in November, leaving the banking system grappling with surplus cash.

    Data on Wednesday showed headline consumer price inflation fell to 1.5 percent in the year to June from an annual 2.2 percent a month ago and below forecasts for a 1.6 percent reading. That’s below the RBI’s medium term target of 4 percent and through the bottom of its 2 percent projection for the first-half. Core inflation, which strips out volatile food and fuel items, also slipped below 4 percent.


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    Email of the day on rare earth metals

    Rare earths are in increasing demand in several fields of high tech.  Lynas Corporation, the world’s biggest rare earths producer outside China, has had a chequered life but under new management appears poised to benefit substantially.  It may be of interest.  A copy of its Quarterly Activities Report taken from the company’s web site ( https://www.lynascorp.com ) is attached.

    Needless to say, I am long this stock.


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    Email of the day on David's recovery and industrial automation:

    I hope you are well and that David is recovering / progressing well.

    I was just thinking about your theme of cheap local robotic manufacturing and our Brexit.

    It another thing to our advantage as we will become less reliant on German and EU manufactured goods. Plus long term, it will effect Germany quite a bit, won't it?


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    Yellen Sees Inflation as Key Uncertainty, Amid Moderate Growth

    This article by Craig Torres and Christopher Condon for Bloomberg may be of interest to subscribers. Here is a section:

    A faster pace of global growth should support U.S. exports, she said, and a recovery in drilling activity should support business investment.

    “These developments should increase resource utilization somewhat further, thereby fostering a stronger pace of wage and price increases,” she said.

    Yellen said the central bank’s policy rate “would not have to rise all that much further” to get to a rate that keeps supply and demand in balance in the economy. Eventually, “factors,” which she did not specify, holding down the so-called neutral rate will diminish over time, she said, which supports the Fed’s case for continued rate hikes over the next couple of years.


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    Email of the day on the future of electric vehicles

    I thought you would be interested in this story from The Times. It’s a UK perspective but made a point about lithium battery technology that hasn’t been much aired. Perhaps because I haven’t heard much about alternative battery technology. I’d be interested in your take on it.

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    Pepsi Says It's Facing the Same Trends That Are Battering Retail

    This article by Janet Freund for Bloomberg may be of interest to subscribers. Here is a section: 

    Retail’s “shifting sands and macro headwinds will make near-term earnings beats challenging” for PepsiCo, Wells Fargo analyst Bonnie Herzog said in a note to clients. Still, PepsiCo gets a large proportion of revenue from snacks, which are easier to sell online than beverages, she said. That means the company is better positioned to adapt than some of its peers.

    PepsiCo’s comments were similar to those made by Coca-Cola CEO James Quincey, who told Bloomberg in May that when shoppers skip trips to the local mall and shop online, they also forgo buying Coke at a vending machine or food court. Coca-Cola investors will be watching to see how that may hurt second-quarter results on July 26.

    Nooyi’s remarks were “an acknowledgement to the intensifying competitive environment that will likely get more so with Amazon involved,” Bloomberg Intelligence analyst Ken Shea wrote in an email. Still, some consumer products companies will be more vulnerable than others to change, and PepsiCo’s “huge distribution reach and agility arguably make it less vulnerable” to changing shopper behavior than its peers, he said.


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