The Credit Markets Claim Another Unexpected Victim
An early look at earnings season… A potential warning from two of the country's biggest banks… The credit markets claim another unexpected victim…
Fourth-quarter earnings season continued today with results from two more of the largest U.S. banks...
Following results from Citigroup (C) on Monday, both JPMorgan Chase (JPM) and Wells Fargo (WFC) reported this morning.
Our colleagues at Stansberry NewsWire covered all the details for those who are interested (see here, here, and here). But we'd like to take a moment to highlight a couple of "big picture" takeaways...
First, all three of these banks reported significantly weaker-than-expected revenues...
This follows recent reports of slowing sales growth from notable companies across several industries – including FedEx (FDX), Apple (AAPL), and American Airlines (AAL) – suggesting we could be seeing the first signs of a global slowdown.
Now, it's too early to make any sweeping judgments on fourth-quarter results as a whole. And to be fair, all three of these banks blamed specific industry-related issues. Citigroup and JPMorgan Chase pointed to losses in their fixed-income trading divisions due to market volatility, while Wells Fargo continues to deal with fallout from a number of disgraceful scandals in its consumer-banking business.
But this trend is concerning nonetheless.
Even more concerning, both JPMorgan Chase and Citigroup – the first and third largest U.S. lenders – are clearly getting worried about the credit cycle...
While executives from both banks continue to talk up the strength of the economy, their actions suggest otherwise. Both banks reported increases in loan-loss provisions and credit costs.
In short – as Janney Capital Management's Chief Fixed Income Strategist Guy LeBas noted this morning – two of the country's biggest banks are now preparing for a downturn in the credit markets… even if they won't publicly admit it.
Of course, regular Digest readers know we expect the next credit downturn to be among the biggest in history...
As we've explained, thanks to years of unprecedented stimulus and record-low interest rates from the Federal Reserve, U.S. companies have "levered up" like never before. All told, they've borrowed a record $13 trillion over the last 10 years.
Unfortunately, all this debt means U.S. companies in general are less financially resilient than ever before. We believe the next credit-default cycle will result in a record number of corporate defaults and bankruptcies, including many supposedly safe companies that carry investment-grade credit ratings today.
And while credit markets appear relatively healthy today, we're already seeing signs that is changing...
Over the past year, a handful of the weakest firms have failed, virtually overnight, as the credit markets quickly slammed shut on them.
The plight of iconic toymaker Toys "R" Us is a prime example. As we detailed early last year, the company's bonds were trading at "par" as recently as September 2017. Six months later they were trading for pennies on the dollar as the company began to liquidate.
Last spring, we noted a similar example in the case of American Tire Distributors. As we wrote in the May 1 Digest...
On Wednesday, news surfaced that one of the company's major customers – Goodyear Tire & Rubber (GT) – planned to drop it as a supplier. This led ratings agency S&P Global Ratings to downgrade the heavily indebted company from B- to CCC+... and the company's bonds crashed 60% almost immediately.
Again, less than six months later, the company filed for bankruptcy protection.
This week, we learned California utility company PG&E (PCG) has become the latest company to suddenly get shunned by the credit markets...
And while the specific details are different, the story should sound familiar. As Bloomberg reported on Monday...
PG&E Corp. is an unpleasant reminder to the bond market of how quickly things can unravel.
The California utility holding company, which held investment-grade ratings from all three major credit raters just a week ago, is planning to file for bankruptcy by the end of the month, as it faces potential liabilities from wildfires of $30 billion or more. Bonds that traded above face value just two months ago now fetch around 85 cents on the dollar...
S&P Global Ratings cut the company's credit rating five levels to junk early last week, and Moody's Investors Service did the same on Thursday. Fitch Ratings still maintains the lowest investment-grade rating but has said it may cut the company by multiple notches.
For now, the credit markets remain relatively healthy by most measures...
As we've discussed in recent months, we're only now beginning to see signs that the long boom could be ending. And for now, most bond investors simply aren't worried about corporate America's unsustainable debt loads.
But make no mistake... Sooner or later the market will "wake up" to these problems. And these recent examples show just how quickly companies can be punished when they do.
New 52-week highs (as of 1/14/19): DB Gold Double Long ETN (DGP) and Kirkland Lake Gold (KL).
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January 15, 2019