Below is a CNBC video with Meredith Whitney in which she joins Nouriel Roubini on the doom and gloom parade.  Over the summer, both Whitney and Roubini were fairly optimistic. In June I said:

Think of the consensus forecast as an anchor which restricts the outlook of any individual forecaster afraid of failing unconventionally.

In Roubini’s case – and this logic also applies to media darlings like Meredith Whitney – it does NOT pay to up the ante.  What Faber is saying is that they have already benefitted from the bold and unconventional contrarian market call they initially made.  There is little payoff and much risk from continuing on that path.

To wit, Whitney upgraded Goldman Sachs to a buy and by July she almost sounded bullish. But, things are vastly different now. The banking index is up some 136 percent, with many stocks doubling and tripling. Some are up nine times. This is way over the top.

In her interview with Maria Bartiromo, Whitney gives ample reason to expect significant headwinds in the financial services industry and the economy more generally. While I am less certain that we are presently seeing a secular move to consumer deleveraging yet as evidenced by recent retail sales and current account deficit numbers, there is no doubt that credit lines to small businesses and consumers have been cut as Whitney details. 

I have also been getting much gloomier about the prospect of a sustainable recovery as a result.

With fiscal belt-tightening on the agenda at states and municipalities and, now, federally, I expect a double dip in 2011 – a view Whitney shares.

The key question in financial services?

Maria Bartiromo: Do you think that the sector is adequately capitalized today?

Meredith Whitney: No way.

Maria Bartiromo: No way?

Meredith Whitney: No way.

She is bearish on bank stocks generally. As for relative value trades, Whitney says the trade was large cap banks over regionals until now. However, she says now is the time to reduce weight in large cap banks as the outperformance due to government backstops may be about to disappear.

A lot more in the video below. The interview with Whitney runs 11:47.

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Meredith Whitney downgraded Goldman Sachs from ‘buy’ to ‘neutral’ today.  Previously, Goldman had been her only buy recommended stock, all of the others rated neutral or ‘sell.’  Why did she do it?

FT Alphaville has the answer:

We are downgrading shares of Goldman Sachs to Neutral from Buy after over a 34% run in price since their second quarter results. At $190, shares have exceeded our $ 186 12-month price target, and we believe upside could be limited over the medium term. Specifically, we invoke a "why be greedy" rationale with such a stunning move in shares over such a short period of time. From here, we believe upside to GS’ shares is more of a "market call" and that shares should trade more or less in line with moves in the market.

In essence, Whitney is making a call based on valuation more than fundamentals.  She believes Goldman’s fundamentals still remain good. After all, Lehman and Bear Stearns are gone – so competition is less. But, the stock has run up too much to warrant buying at these levels.  This makes sense if you look at how Goldman’s stock has fared over the last two years.

Goldman Sachs is trading at its highest level since May 2008, well before Lehman failed.  So I do think taking profits is warranted. That said, should you sell now or wait for the price action to dictate when you sell? I am saying cut exposure now but Jeffrey Saut of Raymond James uses a quote to make a compelling case for waiting for the stock to roll over so as to not sell early (hat tip Barry Ritholtz).

“The absolute price of a stock is unimportant. It is the direction of price movement which counts.”

“During major sustained advances in stock prices, which usually occupy from five to seven years of each decade, the investor can complacently hold a list of stocks which are currently unpredictable. He doesn’t worry about the top because he knows he is never going to sell at the top. He knows that the chances are overwhelming in favor of the assumption that he will get far better prices by waiting until after the top is passed and a probable reversal in trend can be identified than he will ever get by attempting to anticipate the top, and get out on the nose.

In my own experience the largest profits we have ever taken have come from stocks purchased while they were making a new high in a market which was also momentarily expecting the top. As I have already pointed out the absolute price of a stock is unimportant. It is the direction of the price movement that counts. It is always probable, but never certain, that the direction of the price movement will continue. Soon after it reverses is time enough to sell. You should sell when you wish you had sold sooner, never when you think the top has arrived. That way you will never get the very best price – by hindsight your individual transactions will never look daring. But some of your profits will be large; and your losses should be quite small. That is all that is necessary for a satisfactory, enriching investment performance.”

“Stock Profits Without Forecasting,” by Edgar S. Genstein

This makes sense if you don’t have a price target for the stock you buy. But, on the whole, I say pick an exit point when you buy a stock and stick to that target. This is what Whitney is doing. And this is essentially what I have recommended for selling equities based on a Jeremy Grantham S&P target.

As for banks stocks, the whole sector is through the roof and I certainly do not believe the fundamentals warrant this as I laid out last week.  Goldman is a broker-dealer and a bank in name-only. Its model has not changed, so it is operating in an environment far more inviting than its big bank cousins like Bank of America and Wells Fargo.

So while Goldman and Morgan Stanley are looking at better prospects there are numerous obstacles to for banks.  Two articles I linked to yesterday point out some of the headwinds.

First, from the Financial Times:

A surge in fixed-income underwriting opportunities during the quarter is expected to boost revenues not just at Goldman, but also the investment banking divisions of JPMorgan Chase, which reports on Wednesday, and Bank of America, which announces results on Friday.

However, the non-investment bank operations of JPMorgan and BofA will be hit by loan losses in the commercial area as well as the consumer area, says Richard Bove, an analyst at Rochdale Securities.

“They will have to go back to increasing the size of their reserves,” Mr Bove adds.

“This could result in losses for the quarter and into next year.”

Notice how this article distinguishes between proprietary trading and broker-dealer activities on the one hand and traditional banking operations on the other. The credit cycle is still in a downswing and this will hurt banks.  But there are also other forces at work.  Marshall Auerback pointed out a Bloomberg article to me regarding the huge book of business the big banks do as mortgage servicers and how accounting rules there look unfavorable going forward.

The four biggest U.S. banks by assets may have to take writedowns on $55 billion of mortgage- collection contracts after marking them up by $11 billion in the second quarter, casting a shadow over earnings.

Bank of America Corp., JPMorgan Chase & Co., Citigroup Inc. and Wells Fargo & Co. wrote up the value of the contracts, known as mortgage-servicing rights or MSRs, by 26 percent in the quarter as mortgage rates climbed by about 0.35 percentage point. Net gains on the contracts added more than $1 billion to Wells Fargo’s record earnings in the quarter and $1 billion to JPMorgan’s first-quarter profit.

Mortgage rates fell about 0.26 percentage point in the third quarter, according to Freddie Mac, and servicing costs are rising, meaning the four banks, which handle collections on more than $5.9 trillion of U.S. mortgages, may face writedowns.

“We’re very bearish on MSR valuations,” said Paul Miller, a banking analyst at FBR Capital Markets in Arlington, Virginia. “They are overvalued. There are higher costs associated with the servicing, and we’re very concerned about it.”

Add these to my other concerns in commercial real estate, deposit insurance payments, credit card losses, loss of government subsidies, the need to keep higher levels of capital, and a flattening yield curve and you see an environment in which bank stocks should underperform the market.

The long and short is bank stocks have run up too much too quickly. Now is the time to lighten up on them. This is true whether you are talking about Goldman, which is going to earn a lot of money, or the likes of Bank of America, which faces a more challenging environment.

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Just when I was wondering where Meredith Whitney had gone, she’s back.  But she has a whole new tone to her.  In this interview on CNBC, she says she is expecting a monster number from Goldman (GS) tomorrow morning, in 2010 and in 2011. She is well above the street on Goldman. She even uses the word ‘cheap’ when referring to the stock.  Is Meredith Whitney a bull now? Have a listen – she also talks about other names and sees Bank of America (BAC) as the one to watch.  I like her reference to ‘junk in the trunk’ when talking about JPMorgan Chase (JPM) in the 2nd video below.

Her comments seem a far cry from the bearish Meredith Whitney of yore.  What happened to that woman?  Maybe she read my post “Marc Faber: “it’s very tough for a forecaster who was ultra-bearish to stay bearish.”

For a view of what Whitney sounded like just a few months ago, see my May post “Meredith Whitney seems onboard with the fake recovery” or my April post “Meredith Whitney: Regardless of stress tests, banks will still need more capital.” She sounds very different today and is singing a tune I first got onboard with in April (“Wells profit forecast is a clear bullish sign”).  But, given the huge run up in shares, I do question how much more upside there is to bank shares now despite what are likely to be very good earnings.  Let’s see how Goldman’s earnings and shares do and that should be a good test.

You will notice that in the first video she suggests that the disappearance of the likes of Lehman and Bear are good for the surviving behemoths (which increases banking concentration, a point I just made).

UPDATE 1230ET: Whitney makes a point regarding loan modifications that I first made on May 26th (“How refinancing helps the likes of Bank of America and Wells Fargo”) i.e. that the big banks are getting a HUGE incentive to do refis and this will goose their earnings short-term in three ways: a. they get a refinancing fee that goes straight to current income. b. they get an incentive fee due to rules the government made on May 21st, the subject of my May 26th post. c. the banks get to at least delay writedowns because past due mortgages become current and this will decrease their loan loss provisions over the short-term.  Nevertheless, home mortgage default recidivism means that re-default likelihood is high and that the writedowns will eventually have to be taken.  Whitney seems to be saying this makes banks a good trading play, not a good holding play.

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Below is a video of Meredith Whitney talking to Maria Bartiromo earlier today on CNBC (hat tip Calculated Risk).  In the video she suggests that banks might be able to beat earnings estimates for another one or two quarters before the lack of earnings power from deleveraging and the lack of the securitized business model becomes apparent.  She also indicates that the latest rally is a momentum play made that much more powerful by short covering.  I agree with all of that (with the caveat that government intervention is giving banks fat spreads for an indefinite period the length of which is hard to predict).

The questions are two-fold: when is the government support of the financial sector going to end such that underlying weakness in the sector becomes evident again? What happens to bank stocks when the poor fundamentals in the sector are laid bare?  Unlike Whitney, I see signs that retail consumption is continuing at an unsustainable level and this would suggest that the fake recovery can continue longer than many are anticipating.

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The Bloomberg video below makes it seem that Whitney believes the stress tests are a sham. She says the tests are a theoretical exercise whereby banks ask: “what will our earnings power be in two years after we sell off these ‘toxic’ assets?” She goes on to suggest that the answer to this question will be a self-serving, upbeat response not wholly reflective of the real dangers lurking.

In reality, much more capital is still going to be required.  Some of this will happen via asset sales, as she suggests.  However, one should anticipate a real need for yet more capital still.

You should also note she says the regionals will struggle because they have A LOT of commercial property (CRE) exposure – something I mentioned quite often in 2008. Case in point is Zions, which had a horrendous earnings announcement just yesterday.

“Zions’ capital position will come under significant pressure in the short-term because of its large commercial real estate lending concentration and collateralized debt obligation portfolio,” Moody’s said. “Future credit costs in Zions’ residential construction book and CDO portfolio cause a significant risk of the firm becoming undercapitalized.”

The long and short is: it is good to be a “too big to fail” big bank. It is not so good to be a regional or local bank.

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Meredith Whitney, the well-known former Oppenheimer analyst had some interesting words to say on CNBC about the banking sector, nationalization, dividends and Citigroup.  Take a look.

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The statements coming from Meredith Whitney in this video interview with CNBC’s Maria Bartiromo could not be more blunt:  the financial serves sector is weak, needs bailout money and investors will be diluted.  As a result, she expects selling pressure to continue.  She also mentions that a number of shotgun weddings are likely in order to stave off bankruptcy amongst weaker firms  – the unstated quid pro quo obviously being bailout money for the acquirer.

This is a very good video to get a broad sense of the state of financial services.

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Last night, in an e-mail Yves Smith of naked capitalism pointed out an Op-Ed piece by Meredith Whitney which ran in the Financial Times yesterday. It was a fairly somber and downbeat assessment from an analyst who has proved right on the money throughout this credit crisis. (UPDATE 1230 ET: See Yves’ post on Whitney’s Op-Ed here.

I will provide a highlight here so you get the gist of Whitney’s commentary. But so as not to steal Whitney’s thunder, I will link out to the entire article so you can read it on the FT website.

As an analyst, it is my job to do fundamental research and call it as I see it, and my bailiwick is financials. My outlook has been negative for over a year and, technically, I have been “right” on my calls. Seeing massive capital destruction has brought me no pleasure, but unfortunately I see little on the horizon that would change my outlook. In fact, after observing the U.S. economy so derailed, I feel that I must act as a citizen of this great country to attempt to offer solutions to this economic train wreck we are all involved in.

First, I am more bearish today than I have been in the past 18 months. In so far as the market has impacted on the economy, capital destruction has been so intense that multi-trillions in capital raised by institutions through both private and public capital has gone to plug holes and not stabilise the effects of shrinking liquidity to corporations and consumers. More than $3,000bn (€2,365bn, £1,955bn) of available credit has been expunged from the markets and therefore corporate and consumer borrowers so far this year.

I estimate that the mortgage market will shrink for the first time in U.S. history and that the credit card market will be 18 months behind it. While just over 70 per cent of U.S. households have access to credit cards, 90 per cent of these people use credit cards as a cash-flow management vehicle, or revolve payments at least once a year. While the credit card market is small relative to the mortgage market, it has grown to play a key role in consumer liquidity. Declining liquidity here will have disastrous effects on consumer spending and the economy. My primary concern is preserving liquidity to consumers, who command more than two-thirds of gross domestic product.

I share many of Whitney’s concerns as regular readers know. Luckily, Whitney provides some prescriptive solutions in the rest of her post which is linked below. However, I do want to point out a key issue regarding our situation and parallels often made to the Great Depression.  The America of 2008 is not the America of 1929 in part because we were the “Alpha Creditor” of 1929 and China is the Alpha Creditor of 2008. America was the world’s largest creditor nation in 1929. That role is held by China in 2008. So, as we think forward about policy, we should look back to 1929 and think of the United States of today as Great Britain in 1929 and China today as the United States of 1929.  Whitney’s ideas are forward-looking and so she does not conflate America circa 1929 with America today in her analysis.

Source
America must keep consumer liquidity flowing – Meredith Whitney, FT
Meredith Whitney Sounds Like Nouriel Roubini – naked capitalism

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