Google searches for inverted yield curve have shot to all-time highs, the volatility index has been climbing (but still less than last December's rally) and the gold price—a safe haven for investors—has climbed to six-year highs. To a lesser extent, commodity prices have declined to indicate imbalances in supply and demand, especially in oil and natural gas.
Amid the tumultuous chatter of impending doom and gloom, stock market barometers are still up within the past year. The S&P500 Index is up 1.69% over the past 12 months, while the Dow Jones Industrial Average is 1.28% higher. The energy, materials and financials sectors have underperformed the market during this period.
Banks, in particular, have tumbled into a bear market on the back of fears of a decline in overall profitability brought by the inverted yield curve.
Among the largest banks, Citigroup (C, Financial) trades at 20% off its book value, investment banking giants Goldman Sachs (GS, Financial) and Morgan Stanley (MS, Financial) both trade at 10% off, while Bank of America (BAC, Financial) and Wells Fargo (WFC, Financial) now trade on par with their book values. On the bright side of things, analysts expect positive earnings growth between 5% and 11% for the next fiscal year for these banks, with Citigroup expected to grow the fastest. Wells Fargo is expected to deliver a decline.
Another buffer to the negative impact the yield curve has induced, the big banks recently passed the annual Federal Reserve stress test with flying colors.
The Oracle of Omaha may have not seen the inversion, but still has raised Berkshire Hathaway’s (BRK.A, Financial)(BRK.B, Financial) stake in Bank of America by 3.5% to a dollar value amount of $26.9 billion, while continuously maintaining several financial stocks that now compose a major proportion of the conglomerate's stock portfolio.
What is more assuring is banks maintained positive net interest margins during the depths of the Great Recession. For example, Bank of America delivered 2.98% margins in 2008, while Wells Fargo had 4.8%.
The inverted yield curve could still harm banks, but having an average of a little less than two years before a recession hits would buy plenty of time for opportunistic investors to carry on with a long financial sector investment. Meanwhile, let the hardcore pure speculators time the market.
Disclosure: Long Wells Fargo, Bank of America, Citigroup, Goldman Sachs and Morgan Stanley.
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