Days ahead of an earnings season, options traders brace for volatility in US bank stocks that many believe will drive lower earnings, reflecting concerns over an expected recession.
Current market positioning signals bleak outlook: The one-month moving average of open puts on the Financial Select Sector SPDR Fund, the largest financial ETF with assets under $33 billion, outperforms call options by 1.8 to 1, the most defensive of which measure is since the end of October.
In a standout trade Monday, a put buyer paid $1.5 million for 50,000 February puts on XLF. Trading would be profitable if the ETF’s shares fell below $33 by mid-February, down 6% from current levels.
“What you’re seeing in the markets is some concern about whether or not the operating environment is going to be supportive for financials,” said Scott Knapp, chief market strategist at CUNA Mutual Group. “It’s a challenging environment where it’s hard to make a nickel … markets move forward by discounting some of it.”
Bank of America, JPMorgan Chase & Co., Wells Fargo and Citigroup Inc are expected to report results on Friday, with more lenders to follow next week.
Bank stocks came under pressure along with broader markets last year as the US Federal Reserve hiked interest rates at a rapid pace to combat the worst inflation in decades. The S&P 500 banking index fell 21.6% over the past year, compared to a 19.4% decline in the overall S&P 500.
Bank stocks have historically been volatile around the reporting time and traders expect Thursday’s US consumer price data – which have fueled major market volatility in recent months – to add an extra dose of jitters this time around.
Options on major bank stocks are pricing in the largest post-earnings moves in the past two years, on average, according to analysis by Susquehanna International Group.
“The trading bias in options heading for big bank profits has been to buy volatility and protect positions,” said Chris Murphy, co-head of derivatives strategy at Susquehanna International Group. “It’s definitely more pronounced than it has been in the past.”
GRAPHIC: Set for volatility (
Many believe that rising prices and higher borrowing will weigh on lenders’ bottom line, prompting consumers and businesses to rein in spending. Because banks act as economic middlemen, their profits fall when activity slows.
According to Refinitiv’s IBES data, analysts expect fourth-quarter earnings for the S&P 500 financial sector to fall 8.7% year over year, which coincides with the technology sector as the fourth-largest projected decline among major sectors for the period.
Meanwhile, starting Wednesday, Goldman Sachs Group will begin shedding thousands of jobs across the company as it prepares for a difficult economic environment, the latest among big banks including Morgan Stanley and Citigroup Inc, which both lost their positions in recent months dealmaking boom on Wall Street fizzled out, among other things due to high interest rates.
Not everyone has a bleak outlook for the industry. In a research note Monday, Bank of America said financials had better earnings stability than the S&P 500, cleaner balance sheets and lower recession risk than “other more crowded and expensive cyclical sectors like info tech.”
“US financials could be a good place to park assets in the near term,” wrote Savita Subramanian, equity and quant strategist at BofA Global Research.