Big Banks, Big Rally but Bad Earnings
The market ripped to new highs yesterday. The rally was quite remarkable because the indices were down big to start the session. Most indices opened 1% lower yesterday, and SPX momentarily dropped by 2%, and even dipped below 1197 support.
By the end of the session not only had the bulls protected 1197 support, they were able to push SPX all the way back to 1220 resistance. But I am beginning to have doubts as to how long all the bullish momentum can last.
The entire move higher yesterday was once again built on rumors of a European bailout package. While a bailout in Europe is great for stocks, traders need to remember that at this point, everything is a rumor. Policy makers and bankers in Europe have yet to provide official details.
Normally I am fine with riding speculative momentum. But currently, rumors in Europe are the only thing keeping the indices alive. The potential European bailout has diverted investor focus from modest earnings and a big miss in PPI yesterday. The market can stay high for a short period of time, but at some point soon, investors will want actual proof that Europe is ready to provide a bailout.
The speculation surrounding a bailout is helping bank stocks the most. And it should - bank stocks declined the most a few months ago due to financial instability. Investors fled financial stocks with any exposure to Europe, on fear that those stocks may be hit with huge losses as a result of their debt positions.
As the worries grew some bank stocks dipped down to, or even below, the March 2009 low. Now that Europe may provide a bailout, investors have rushed back into bank stocks on hope that they can avoid massive losses. And yesterday is a great example of what a rally in bank stocks can do to the U.S. indices.
The indices were all headed lower yesterday morning. But then rumors floated in the pits that Europe would have details of a major bailout package this week. Shortly after that news hit the indices turned positive and big bank stocks led the way higher. Germany and Chancellor Merkel denied those rumors this morning, but the 'damage' had already been done.
Every bank stock was higher, and most rose twice as much as the average stock from other sectors. Big banks also posted the biggest gains: Bank of America (NYSE: BAC) up 10%, JPMorgan (NYSE: JPM) up 5.9%, Goldman Sachs (NYSE: GS) despite a loss in income, up 5.5%, Citigroup (NYSE: C) up 7% and Wells Fargo (NYSE:WFC) up 5.9%.
Bank stocks are extremely undervalued if default in Europe is not an option. Once concrete details emerge, it's possible bank stocks continue to rally. And a continued rally in financials will also translate to higher highs for the indices; despite the modest earnings. But this conclusion brings us back to the heart of the problem. Stocks are only rallying on a European bailout. What happens if the rumors aren't true?
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