European stocks firm after Wall Street stages fightback, Barclays + Deutsche Bank results - Comment

European stocks firm after Wall Street stages fightback, Barclays + Deutsche Bank results

“On the open, European stocks firmed after a fightback on Wall Street that left the Dow only 125 points lower, having at one stage fallen by more than 500 points. The late rally on Wall Street is encouraging that buyers are still coming in on those dips as the valuations look attractive. Nevertheless, the selling remains broad based with large swathes of the S&P 500 in correction territory. The Dow is now around 7% below its 52-week high. More concerning the Russell 200 of small caps ended 12% below its year high.

This morning, the FTSE 100 rallied 0.5% or so after shipping 1.24% yesterday. The DAX, which slumped over 2%, was up a similar margin. The DAX still remains below its 200-week moving average – look for a close below this level on Friday to signal more bearishness.

Italian pressures still weigh on sentiment with little sign that Rome will budge on its budget. The standout, which could see a lot of noise over the coming days, risks seeing Italian bond yields spike from current levels. This could get worse before it gets better although at present Italian 10-yr BTPs are tracking steady at 3.535%.

The pressure remains on the euro with EURUSD battling on support at 1.1430. This is partly down to the Italy situation but also we must look at the broad softening in German economic activity. Today’s flash manufacturing PMI came in below expectations at just 52.3, a 29-month low, while services PMI was 53.6, a five-month low. What we have is combined business activity in the German private sector at its weakest in three and a half years. If Germany is the engine of the Eurozone economy, then this does not bode well for the ECB raising rates at any point next year. Weakness in Germany will really start to weigh on the Governing Council’s thinking, although it the picture in France is more positive based on today’s PMIs.

Meanwhile on the results front, we got a broadly confident outlook from European banks with Deutsche Bank and Barclays both upbeat, however competition in the UK mortgage market has hit Metro Bank.

Barclays enjoyed a tailwind from the positive investment banking backdrop. Q3 revenues from the corporate and investment banking arm rose 19% - strength here is vital for CEO Jes Staley and one in the eye for those who wish to see Barclays scale back its investment banking arm. Critics – notably Ed Bramson - of the strategy will need to reassess their stance. In particular trading performance seems ahead of US peers - equities trading revenues were up more than a third to £471m, while fixed income revs rose 10% to £688m.

Litigation and conduct charges were a weight on profits but the underlying picture looks very strong indeed. Q3 net profits came in at £1bn versus £583m last year. Excluding litigation and conduct charges, group profit before tax increased 23% to £5.3bn, driven mainly a 53% improvement in credit impairment charges and a 3% reduction in operating expenses. Charges have ballooned this year due mainly to a £1.4bn settlement with the US Department of Justice over residential mortgage backed securities.

The return on tangible equity picture looks better too as costs come down and revenues start to ratchet higher. RoTE of 11.1% so far this year means it’s easily ahead of its target to achieve return on equity in excess of 9% in 2019 and above 10% in 2020.

Some concerns of course – cost-income still high although the progress on costs – group operating expenses were 3% lower - is encouraging. Moreover the ongoing litigation impact remains a risk – just when can we confidently say all the skeletons have been properly cleared out?

Shares rose a touch on the results but it’s still been a tough time for Barclays stock, which has skidded lower for two years.

Sticking to UK banks with several reporting results this week, Metro Bank also struggling today with the shares sinking 7% amid a big drop in net interest margin. No sign so far that rising rates is translating into better NIMs for banks. That has translated across to the major high street banks with Lloyds off half a percent. Profits were up 113% but the decline in NIM from 1.94% to 1.77% raises a big red flag for banks, particularly Lloyds given its residential mortgage exposure. Long term outlook for Metro is unchanged.

Meanwhile troubled Deutsche Bank had a positive spin on results to offer despite Q3 net income slipping to €229m, compared to €649m in the prior year period. For the nine months so far this year, net income has fallen to €750m versus €1.7bn in the prior year period. Profit before tax sliced in half to €506m from €933m a year before.

Net revenues were down 9% in the quarter as it looks as though DB’s investment retrenchment bites on top line growth. Progress on costs is slow – noninterest expenses down just 1%. One feels DB has to work harder to reduce costs quicker.

Nevertheless, the CET1 ratio rose from 13.7% to 14% in the quarter, well ahead of the bank’s target of over 13%. And above all, the bank is on track to be profitable in 2018 – the first  time since 2014 that it would end the year in the black. Shares slipped close to 3% on the news to rest on the €9 level – no sign yet that investors are really buying into this Sewing turnaround just yet as largely we are yet to see any meaningful progress.

Finally a word on Yu Group, which suffered a massive 80% drop after it uncovered problems in its accounts. The impact is £10m which will push Yu to a loss this year. But with net cash of £11.5m and no debt the company remains in relatively good health. In fact the warning about lower gross margins going forward is probably more of a worry longer term.”