JP Morgan caught up in Kim Hyun-seok’s Wall Street Now wage inflation… 6 plunging

Nasdaq fell 0.59%↑
Bank performance, good but not good
★Economic indicators deteriorate one after another = Omicron + Inflation

Banks lost profits due to higher costs such as labor costs. Retail sales during the supposedly hot year-end shopping season fell sharply, surprising investors and slowing factory production. Consumer sentiment deteriorated as inflation expectations rose.

Economic indicators and bank earnings on the 14th (local time) showed that the US economy is being hit (temporarily?) by the spread of the corona virus and inflation caused by the Omicron mutation.

The leading index on the New York Stock Exchange opened 0.3-0.7% negative. However, as Nasdaq tech stocks rebounded later in the day, the Nasdaq rose 0.59% and the S&P 500 closed 0.08% strong. The Dow alone closed down 0.56% amid a sharp decline in banking stocks.

Let’s take a look at the economic indicators released today.

◎ December Retail Sales

Retail sales in December were $626.8 billion, down 1.9% from the previous month. It fell far short of the 0.1% decline expected by Wall Street. Retail sales in November also slowed to a 0.2% increase from the original 0.3% increase.

Online shopping fell 8.7% and retail sales declined in 10 of 13 retail categories. Electronics fell 2.9% and furniture and household items fell 5.5%.

Consumption accounts for about 70% of the U.S. economy, and retail sales are an important indicator, accounting for about a third of consumption. After the figure came out, the Federal Bank of Atlanta’s GDP Now lowered its growth estimate for the fourth quarter of last year to 5.0% from 6.8%. Goldman Sachs said it would lower its forecast for U.S. economic growth in the fourth quarter and last year.

Liz Young, head of investment strategy at Sofi, suggested three factors as the cause of the sharp decline in retail sales: △Omicron proliferation △high inflation △pre-event year-end shopping (up 1.8% in October, up 0.2% in November).

Several retailers, including Lululemon, have reported that holiday sales have contracted due to the recent surge in Omicron and supply chain disruptions. The effect of micron diffusion will be temporary. As the increase in new infections is already slowing in many parts of the US, including New York, it will only have a negative impact for about two or three months. (January retail sales won’t be good either)

The problem is inflation. This is because the price of goods has soared and retail sales may have decreased. Already, Americans’ real income is declining due to inflation. In addition, the federal government’s financial aid (child tax credit) ended last month. “Analyzing retail sales, restaurant and bar sales fell 0.8%, while online shopping fell 8.7%,” Capital Economics said. I did.

However, retail sales are 14% higher than the pre-pandemic trend. Of course, considering the increased inflation, it is only about 2% higher. Pantheon Macroeconomics said: “Overall, the numbers are very poor, but given that American households have $2.7 trillion in surplus savings (equivalent to 4.3 months of retail sales), it’s not that they’re short on money. We expect retail sales to rebound strongly once the spread stops,” he said.

Some speculate that it will be difficult for the US central bank to raise interest rates in March as economic growth is slowing due to a decline in retail sales. A Wall Street official said: “Inflation is high and the Fed will raise rates in March as inflation is high and the omicron mutation could fuel inflation further.”

◎ Industrial production in December

Industrial production in December fell 0.1% from the previous month. This was below the 0.2% increase expected by Wall Street. A 1.3% decline in automobile and parts production was found to have a major impact. However, industrial production in December was 3.7% higher than the same period last year. In addition, the November figure was revised up to an increase of 0.7% from the previous increase of 0.5%.

◎ University of Michigan Consumer Sentiment Index in January

The University of Michigan’s preliminary consumer sentiment index for January was 68.8, significantly lower than the estimate (70.0) and the previous month (70.6). This is close to the 10-year low of 67.4 in November last year. University of Michigan economist Richard Curtin said that while delta and omicron mutations contributed to this decline, it was also due to rising inflation. I did. Consumer expectations for short-term (12-month) inflation rose to 4.9% from 4.8% in the previous month. The long-term (5-year) expectation was also 3.1%, higher than the previous month (2.9%).

Fed Chairman Jerome Powell has said that consumer expectations for long-term inflation are well tied and that inflation can be controlled. Then those expectations keep rising. 3.1% is the highest since 2011.

The earnings of banks such as JP Morgan, Wells Fargo and Citigroup, which were released earlier than these economic indicators, mostly met Wall Street expectations. However, investors responded by selling bank stocks.

First, their earnings exceeded Wall Street estimates, but to the extent that they did, that was the least of the four quarters of 2021. JP Morgan’s fourth-quarter earnings-per-share (EPS) beat expectations by 10.5%, surpassing expectations by 48% in the first quarter, 18% in the second quarter and 25% in the third quarter.

Let’s take a closer look at JP Morgan’s performance.

① Increase in labor costs is a burden on earnings

Sales in the fourth quarter of last year were $30.3 billion, beating the forecast of $29.9 billion. Earnings per share (EPS) also came in at $3.33, beating expectations of $3.01. However, this is a decrease of 14% from the same period last year and the lowest in the last seven quarters. Moreover, JP Morgan reversed its bad debt provisions of $1.8 billion in the fourth quarter, excluding this, EPS stood at only $2.86. Now, there is almost no provision for bad debts to be reversed further.

Sales were good, and the net interest margin in the fourth quarter rose 0.01 percentage points from the previous quarter to 1.63%, the first increase since the pandemic due to a rise in interest rates. But why were the profits so low? This is because costs, especially labor costs, have skyrocketed. Non-interest expenses in the fourth quarter increased 11% to $17.9 billion (monthly estimate of $17.63 billion), primarily driven by increased employee compensation.

② It is not easy to increase profits

CFO Jeremy Barnum said “inflationary pressure” and a $3.5 billion investment will cost $77 billion this year, up 8% from last year ($71 billion). He added, “We expect to see returns slightly below our target as the headwinds are likely to outweigh the tailwinds over the next one or two years.” It is true that the market is tight. There is some wage inflation. It is important to hire the best talent and give them competitive salaries based on their performance.”

Investors were surprised to learn that even the largest companies like JP Morgan are losing their profits due to higher wages. That’s why the stock fell more than 6% that day. Wells Fargo financial analyst Mike Mayo downgraded JP Morgan’s investment rating from ‘buy’ to ‘neutral’ on the same day. We also lowered our target price from $210 to $180. “There is no guarantee that these historical-level cost increases will subside after this year,” Mayo analysts said, lowering their 2022-2025 annual profit estimates by around 15%.

This could be a problem for the US stock market as a whole, not just JP Morgan. “JP Morgan’s cost increase guidance is very important macroeconomic news, which means that wage inflation is starting to negatively affect corporate earnings. If corporate costs rise more than expected, this could backfire on EPS estimates,” Vital Knowledge said. will make,” he said.

It’s not just JP Morgan. According to FactSet, 12 out of 20 S&P 500 companies that reported fourth quarter results up to the previous day, or 60%, said that a rise in labor costs and a shortage of manpower had a negative impact on sales or profits. Guggenheim Partners downgraded its investment rating on Disney today. The cost of labor is high. Disney stock fell 2.25%.

③ US economy still strong

“Despite headwinds related to micron variation, inflation and supply chain bottlenecks, the US economy continues to perform well,” said Jamie Dimon, chairman of JPMorgan. is optimistic about U.S. economic growth.”

Actual average savings account balances increased by 17% and in retail banking by 20%. In addition, our clients’ investment assets increased by 22%.

“Consumers are in a really good condition,” Dimon said.

④ Interest rates will rise further in the future

“I think it is very likely that there will be more than four hikes. It could be six or seven,” Dimon said. “I think it’s a mistake to think that[the rate hike]could be soft or sweet in some way and no one would be surprised,” he added.

When Dimon’s remarks became public, U.S. Treasury yields jumped sharply. Even so, the Fed’s director Christopher Waller said the day before, “I think three rate hikes this year are still reasonable,” but “the path of interest rates depends on inflation in the second half of the year, and if it’s still high, there could be four or five.” It was a state of anxiety. This is due to the fact that all the doves have turned to austerity, and the number of hikes they mention is increasing over time.

The 10-year bond yield, which stood at 1.708% the previous day, closed at 1.774% on the day. A Wall Street official said, “The interest rate is accumulating energy in the 1.7% range. If it exceeds 1.8%, there is no resistance level to 2%. If the FOMC approaches at the end of January, it can start again.”

“The stock market will continue to receive signals from the bond market,” said Hugh Gimber, strategist at JP Morgan Asset Management, in an interview with the Wall Street Journal. will,” he said.

Next week (fortunately) Fed officials keep their mouths shut. This is because the blackout period starts tomorrow ahead of the Federal Open Market Committee (FOMC) on the 25th-26th.

The market’s attention can be focused on corporate performance in earnest. Financial companies such as Goldman Sachs and Bank of America, as well as P&G and United Airlines, are preparing to report earnings. Investors will keep an eye on the impact of inflation, including labor costs, on earnings this year.

Economic indicators such as the Empire State Manufacturing Index, existing home sales and weekly unemployment claims are also available. It may not be good due to the influence of Omicron etc. And Monday is Martin Luther King Day, so there is no market.

New York = Correspondent Hyunseok Kim realist@hankyung.com