US Banking sector and Swine Flu Knock US Equity Markets

Posted on | April 28, 2009 |

Fresh banking sector fears and negative sentiment instigated by the deadly swine flu outbreak knocked US equity markets a notch lower at the start of the trading day today. Confidence in US stocks, especially towards airlines, returned by late afternoon trading, however.

It has emerged that unidentified sources close to the matter have told the Wall Street Journal that the results of the US government’ stress tests indicate that Citigroup and Bank of America may need to raise billions of dollars in capital to strengthen their balance sheets. Both banks are said to be objecting to the preliminary findings, however, with Bank of America expected to put forth an appeal later today. The newspaper did not make reference to other banks but did say that some analysts believe that some regional US banks, especially those with big portfolios of commercial real-estate loans, fared poorly on the stress tests. The expectation so far is that Regions Financial Corp, Fifth Third Bancorp and Wells Fargo may end up requiring more capital as well. According to the Wall Street Journal, US government officials said that banks requiring further capital should not be viewed as insolvent, explaining that the capital is intended to act as a cushion against potential future losses – it can be thought of as a precautionary measure if you like. Banks requiring the additional capital will have up to six months to comply and may raise the funds from third parities (including the US government) or convert the government’s preferred shares into common equity. These solutions would not bode too well with existing shareholders, however, as it would dilute their stake further. One way to prevent this dilution from occurring is for a bank to sell non-core assets or initiate a rights issue, which is a share sale to existing shareholders. The problem with the latter is that shareholders that do not participate will end up with a diluted shareholding anyway. In addition, the odds of a successful rights issue, given the current environment, are quite slim in my opinion. Elsewhere, it is rumoured that Citigroup has reached an agreement in principle with Japan’s Sumitomo Mitsui. As it turns out, the Japanese bank is planning to purchase some of Citigroup’s operations in Japan. These operations include Nikko Cordial Securities, Citigroup’s retail brokerage unit, and some operations of Nikko Citigroup, a wholesale investment bank. Adding to the negative pressure on the financial sector today was a report from Deutsche Bank. The investment management firm said internal studies indicate that Bank of America and Wells Fargo will require additional capital. Citigroup shares slid 4.9% to $2.92 while Bank of America plunged 7.7% to $8.24. Meanwhile, Wells Fargo fell 2% to $19.88 and Regions Financial Corp declined 5.87% to $4.63. Elsewhere, the negative sentiment that haunted US travel-related stocks yesterday, predominantly on concerns about the swine flu outbreak, made a complete turnaround today; shares in Delta Air Lines were up by 1.04% to $6.82, AMR Corp climbed 7.02% to $5.03 and Southwest Airlines jumped 6.7% to $7.34 – perhaps investors are speculating that yesterday’s sell-off was overdone? The current outbreak has seen some drug stores benefit. CVS Caremark, Rite Aid. and AS Watson Group are said to be placing additional orders for Roche Holding’s drug Tamiflu, while 3M Co. and Alpha Pro Tech are making more face masks, a Bloomberg report revealed today. Pharmaceutical firm Gilead Sciences was up 0.8% to $47.91 today as investors speculate that it will benefit from higher demand for its products. ‘If SARS is any indication, you would see cleaning products like soaps do well,’ said Ali Dibadj of Sanford C. Bernstein & Co. [1] Also today, Pfizer reported better-than-expected first-quarter profits after aggressive cost cutting efforts. The firm has reaffirmed its full-year revenue outlook. Shares of the drugmaker fell 1.56% to $13.28, however, despite gaining during pre-market trading. In contrast, US Steel Corp, the country’s biggest steelmaker, has cut its dividend after reporting a first-quarter net loss that was worse than anticipated . Its share price consequently plunged 5.2% to $26.3. In economic news, the annual S&P/Case-Schiller Index for February, a gauge of home prices in 20 major US metropolitan areas, came in 18.6% lower in February as opposed to a 19% drop the month before. The latest result was better than Bloomberg’s median forecasts for a drop of 18.7%. On the month of February, the S&P/Case Schiller Index fell 2.2% after falling 2.8% tin January. In the meantime, a separate report showed the Richmond Fed Manufacturing Index for April rising to -9 from -20 the month before and the US Consumer Confidence Index for April rising to 39.2 from 26. Today’s economic figures add to the view that the US economy is starting to show signs of stability. By 3.30pm (London time) the Dow Jones Industrial Average rose 16.08 points (+0.20%) to 8041.08 while the S&P 500 Index had gained 1.59 points (0.19%) to 859.10. [1] Source: Bloomberg News (27 April 2009) By Anthony Grech, Research Analyst, IG Index.

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