In this episode of Market Foolery, Chris Hill and Motley Fool analyst Andy Cross look at some business headlines from the markets. The earnings season is here, and two big banks came out with their first-quarter results. Major airlines reach an agreement with the Treasury Department. The guys also chat about retail space, the entertainment industry, and much more.
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This video was recorded on April 15, 2020.
Chris Hill: It's Wednesday, April 15. Welcome to Market Foolery. I'm Chris Hill. With me today: the one and only Andy Cross. Good to see you, my friend.
Andy Cross: Hey, Chris, how are you doing?
Hill: Hanging in there. I got coffee. I'm good.
Cross: Good. Yeah, me too.
Hill: We've got a lot going on. We've got retail, we've got airlines, we've got entertainment. But we're going to start today with the big banks, because it's earnings season, and as an industry, the big banks sort of lead the way.
Goldman Sachs (NYSE:GS) and Bank of America (NYSE:BAC) both out with first-quarter reports. Goldman Sachs' profits down 49%. [laughs] Bank of America can take some small solace in the fact that their first-quarter profits were only down 45%.
Cross: [laughs] Yeah, it's the real headline, I think, from the banks, Chris. It's just the loan loss reserves they're taking now in this quarter. So when you look across almost all of the banks, that's been the biggest hit to their profit picture. Their revenues were somewhere in the flat picture. For example, Goldman revenues were flat. JPMorgan's revenues were down, like, 3%. Wells Fargo was down about 18%. So the revenue lines weren't such the concern; it was really much more the profit picture, as you mentioned. And we're just seeing that show up in the earnings per share of these companies.
But the biggest part for that are these loan loss reserves that these banks have to set aside in the expectation that the economic crisis, the pandemic that we're facing, is going to cause some of their clients, both in the consumer side and the commercial side, to not pay their bills. And so they have to set aside reserves for that. So when you just look at what happened with Goldman, their earnings were down 46%, and they set aside $937 million this quarter. That's almost as much as they set aside for all of 2019, and that's 4 times the amount they set aside in the first quarter of 2019.
And you see the same thing across all of the big banks. JPM set aside an additional $6.8 billion. That's $4.4 billion on the consumer side, mostly for cardholders, and the rest on the commercial side, and across the entire company, they set aside $10 billion more in reserves than a year ago.
So you're seeing these banks really start to ramp up their preparation for what they expect to be a very tough market over the next year.
Hill: I would also think in the case, you know, for -- every one of these banks has an investment banking arm. Goldman Sachs is sort of the clubhouse leader. And I would think that as we are in this environment where it's really hard to imagine any company going public in the next, say, at least two months, probably closer to four to six months, that's one more thing that a bank like Goldman Sachs has to worry about.
Cross: Yeah, Chris, absolutely right. So there's just these very-high-margin parts to their business that are going to start to see the fluctuations, if not complete drops, because that market has really started to soften. What's interesting on the Goldman side -- and Goldman is really going through this reformatting under their new CEO -- the bank is really kind of struggling. It's known as such a class name in the banking space, but the stock has actually struggled and the returns on equity have actually trailed their peers over the last few years. So there's a real push by the new CEO, David Solomon, to start to really invigorate Goldman Sachs again.
So he had this whole plan, when he became the CEO after Lloyd Blankfein, just recently, and then obviously, the pandemic hit, so. But a bright spot to Goldman, a big part of their business has always been their trading revenues, and that's actually been kind of a little bit of an albatross for them over the past couple of years. But that actually was a bright spot in the first quarter.
The same thing with JPMorgan. Goldman's trading revenues were up 28%, and JPMorgan's trading revenues were up 32%. So because of all the volatility, because of all the frenetic trading activity we're seeing in the markets from both institutional clients and consumer clients for the big banks as most of the institutions were, we saw these results pop up for some of these larger banks, like, Goldman and JPM. So that was one small bright spot in a quarter that obviously, is showing a lot of pain.
JPMorgan's long-serving CEO -- probably the most respected name in finance, as we talked about, Jamie Dimon, who had suffered an emergency heart surgery a few months ago and came back to the job right as the pandemic was starting to really get going -- he put out his annual letter that he talks about every year and really tried to set the tone for the market ahead of what the financial institutions and banks will see over the next year. Because there's obviously a lot of concern with just the plumbing and the financial picture of U.S. banks.
Hill: Let's move on to the airline industry, because several airlines, including Delta (NYSE:DAL), American (NASDAQ:AAL), JetBlue (NASDAQ:JBLU) and Southwest (NYSE:LUV), have said that they have reached agreements with the U.S. Treasury Department on part of that $25 billion plan for payroll grants. Obviously, this is good news for those airlines and the people who work there, but it really does seem like this is -- I don't want to call it a Band-Aid, but it seems like it is a relatively short bridge that'll get them through the next couple of months, hopefully. But all the airlines really seem like they have their work cut out for them.
Cross: Chris, if not Band-Aid, bridge, I think, is a good term, apropos because, so of the $2.2 trillion in the stimulus package that was signed into law last week, or in late March. Now that the airlines are starting to work with the Treasury Department to figure out how they can access that, both, in grants and in loans. And as you mentioned, pretty much all of the airlines, all the major ones, are going to start tapping into this.
And this is obviously a needed step for these businesses that are really struggling. You are seeing bookings that are down 70%, 90% capacity in these companies. They have taken capacity out from their business, both domestic and international. So it's really starting, there's heavy fixed costs in these businesses. And when they have nobody flying and nobody buying tickets, especially business travel, which has really slowed down, you're starting to see it now show up in the potential future of these businesses.
But back to your bridge comment. I think the airlines, when I look at almost all the industries that operate and you think about the recovery patterns, I don't know if we're going to be in a V-shaped recovery or more of a U-shaped slow-growth recovery, both in the U.S. and worldwide. But I do think, the airlines, travel companies of all the industries, they will really be in the most flat-shaped recovery. And I think it'll take a while for consumers to be able to come back into the travel mode, get used to going back into airplanes, get used to going back into airports. I mean, airports basically, over the last 10, 20 years have become big retail destinations. And you were seeing now the foot traffic into airports drop off a cliff, and that's hurting the retail establishments inside these airports. So that industry is just going to go a long way to recover.
They needed this. They needed to be able to tap the U.S. government to help them support their business, because without that, you would see massive bankruptcies in the industry.
Hill: Let's move on to the retail industry, because we've got the March retail report, and it was, I think, every bit as bad as we were all expecting. Retail across the board down 8.7% in the month of March. That is the worst drop in history. And for context, I think, third on the list is the drop in retail that we saw in November 2008. And this was more than twice as bad in terms of percentages.
And you start going through this, Andy, and of course, the lone bright spot is grocery stores, up around 27%. But some of these other numbers in here, you look at clothing and clothing accessories down 50%. Motor vehicles down 25%. You know, these are not surprises. But kind of, like we saw with the monthly jobs report for March and we knew that it was much worse because they stopped collecting that data mid-month. It's the same thing with retail. You know, one of my thoughts when I was going through the March retail report was, "My God! How much worse is April going to be? Because then we'll have a full month of this."
Cross: Chris, it was a really devastating report. And I guess not too surprising, considering what we had seen in late February, and obviously, there's our own consumer behavior. But just for some context, first of all, that 8.7% number, Chris, you mentioned, is just a drop from February. So it's a month-over-month seasonally adjusted number. But historically, if you go back, they've collected this data since 1992. If you go back, usually that month-to-month change is a small less than 1% change, so the average is about 0.35%. So it's pretty tight, it's a very tight range. You're talking an average of 0.3% with a standard deviation, so change from that average of less than 1%. So you're really talking a very tight range. Here you're talking last month, we saw a drop of 8.7%. It's significant compared to the average and not in way outside the norm of what we see over the last few decades.
Like you mentioned, the worst number before this was in the great financial crisis when the number fell 3.8% and 3.9% back-to-back, so we're talking twice as much as that drop. So just some context for that about how significant this was, and just knowing how we have changed as consumers, it's evident, and now we're seeing it show up in the number.
As you mentioned, some of the areas really got hit, very significantly. And then you see spots like grocery stores actually have a very significant ramp, because as we are continuing to spend more and more at the groceries to try to stock up in preparation for the quarantine that we are all facing and now still face. And then you see things like food services and drinking places down 26% from the month before, and obviously just showing there the real impact. And that's having ripple effects, because when you talk about 10% to 20% of the U.S. employment is somehow tied to entertainment, travel, that area -- getting back to our airlines business -- that's why you're seeing these weekly unemployment claims jump up to 15 million, 17 million here in the U.S. So numbers that are now finally starting to kind of come out from the government, that are showing the real stress that the U.S. economy is under.
Hill: You know, grocery stocks, Safeway, etc., historically haven't been the greatest investments. And I'm wondering, and I actually haven't looked at them recently, but I look at this report [laughs] and it actually makes me think, "Well, wait a minute, in a world where grocery stores are at the top of the list for essential retail services, should I be looking at grocery stocks now?"
Cross: It's really interesting, Chris. I think a big part of that, because the grocery stores have very thin margins and then, when Amazon came in and bought Whole Foods, it really put a completely different picture into the competitive landscape for them, in already a shifting world when more and more of us are trying to order our groceries and pretty much everything online.
But now you're seeing some companies, like you mentioned, some grocery stores. I mean, just look at Kroger. When you look at the year-to-date chart, Kroger finished the year at around $28 and now it's past $32. So you are seeing some, "Hey, wow! there's maybe a little bit of life in these companies that had very thin profit margins, very competitive picture from larger players, a changing landscape with online ordering and consumer behaviors." And then just the fact that they are really price takers, not price givers. In fact, the suppliers have much more of the pricing power than they did and distribution may not be quite the competitive advantage that it once was.
I still think most of that has not changed. Maybe over the next year or two, these businesses will see some light, because as we are stocking more goods, especially nonperishable goods. I know every day [laughs] it seems like another box of Frito Lay Chips ends up at my doorstep as we continue to stock goods, preparing for a summer of quarantine for my family. That is, obviously, I think, going to be good for these businesses. But again, long term, I see nothing that -- the pandemic is changing the competitive advantage of these businesses. And so, I still expect their profit margins to remain thin, I still expect their cost structures to remain high and the revenues pretty scant.
So the valuations of these companies had dropped very low. So not surprised that we're seeing some uplift in the stock prices, but overall, I still don't think they're the greatest investment to me looking out the next three, five years.
Hill: So we've been talking a lot recently about the video streaming services. We talked about Roku (NASDAQ:ROKU) the other day, certainly Netflix (NASDAQ:NFLX), Disney+, as we're all in this situation. And Comcast has decided to roll out its new streaming service, which is called Peacock. It's actually launching today for members of the Comcast Xfinity X1 service and their Flex service. So if you're subscribers to those services, congratulations, you get the first look at Peacock.
I don't know, Andy, I'm sort of torn on this one, because I understand why Comcast has essentially made this decision to do this sort of slow rollout. And I think there's a version of this where it works out well for them, because everything I've read to this point says that, OK, they're coming out to existing subscribers of these two services then they're going to, sort of, slowly roll out to more and more audiences into 2021 when it sort of goes full blast. That's a very different strategy.
And I get that we're under different circumstances, but that's a very different strategy than what Disney did with Disney+, because what Disney did was, from their original timeline to when they actually launched it, it was about a year and a half. They kept tinkering with it, they kept trying to work on the interface, the programming, and then they unveiled it to everyone at once.
Seeing what Comcast is doing here, what's your thought of this strategy?
Cross: So I'm a Comcast shareholder, first of all, I'll just say that. And the streaming Peacock and the streaming business that they undoubtedly had to get into, from the competitive landscape considering all the streaming options out there and large companies that are now doing streaming, as we mentioned, Amazon, Apple, Netflix, obviously, and others. Roku, for example. So they had to do this.
I actually think this move, Chris -- different from what Disney did -- I actually think it's OK for Comcast, and here's why. So I have X1 here in my house, I don't have it in front of me, so I've to go check out if I have access to Peacock. They, obviously, have a huge library of programs, Parks and Recreation, The Office, 30 Rock, all those great shows.
We are all now at home. We are looking to consume content in ways that we've never done before. Our appetite to switch among providers and look for the content that we want is higher than ever before. Now, we might start to see a little bit of fatigue in that, but I think at least we're at home, we're hooked into our Wi-Fi. We are accessing digital media in ways, frequency, volume and variety like we've never done before.
So this will take a while for them to kind of -- as one of their executives said -- hit their stride as they go into 2021, and I think they're saying, "Listen, we're going to roll this out in a time when we know people are we looking for content because they're at home, and we're going to do it in a way that is going to serve customers who are really the ones that are tied into our network the most, and we're going to start there and iterate and build that out." And so, I applaud them for that approach. They still have their key subscription business tied to their cable offerings, that still generates the bulk of their cash flows and revenues.
So as they add these on, to do it in a way that will, kind of, start to utilize some of their programming and their library, tied to their consumers who are either most loyal or the ones that are tied into the X1 subscription offering and their package. I think it's actually a pretty smart move, and then they're going to, kind of, go and evaluate how it goes over the next year, year and a half, and then hopefully by 2021, they'll really start to have all the kinks worked out and they can go big time with it.
Hill: Well, and certainly for parents who maybe they've gone through the Disney+ library already. Comcast has got -- you know, they've got DreamWorks Animation, they've got the Despicable Me franchise, you know. They've got a pretty good library of not just television but movies as well.
Cross: Yeah, I think that's right. And obviously, at this time, it's like, content is king, right? So you want to really try to -- I mean, distribution is becoming almost, like, everybody is there because we are also tied into our Wi-Fi and streaming offerings. And now with 5G rolling out, we're going to have more and more of a need for content that we can watch over faster and faster networks.
So I really think those businesses -- I mean, Netflix is spending more than $10 billion, probably far higher than that, over the next couple of years on their content. We know Disney's library. We know the other libraries, we mentioned about Comcast, we know Apple is putting a lot of money into their offerings, as Amazon is as well.
So when you think about the companies that are going to end up probably doing the best, it is the ones that have the brand access, have the quality of programming and have the balance sheets that can sustain it. Comcast, much like Disney, they're not a one-trick pony, they have their core cable offering business, just like Disney has its theme parks and other lines of its businesses as well that gives it some diversification, unlike Netflix.
But Netflix, the stock has done so well over the past few months, mainly because it's the leader streaming and has the probably the best content for streaming, both in the U.S. and globally. Disney+, obviously, is a huge competitor and a very capable rival when you look at their library as well too, of course.
Hill: And for people who are big fans of the Fast & Furious movie franchise, like our friend and colleague Greg Robleto, yeah, that's on Peacock too. So yeah there's definitely a good library there.
Cross: Yeah. And, Chris, they have an ad-free version, they have an advertising version. So they're doing all the things that you're starting to see from, like, the likes of Roku and some of the other streaming offerings, to be able to -- both visual as well as audio, if you look at what Spotify has as well too. And Apple. So they are taking the right steps that I think is going to be good long-term for them.
Hill: Andy Cross, thanks for being here.
Cross: Hey, thanks, Chris, be safe.
Hill: As always, people on the program may have interests in the stocks they talk about, and The Motley Fool may have formal recommendations for or against, so don't buy or sell stocks based solely on what you hear.
That's going to do it for this edition of Market Foolery. The show is mixed by Dan Boyd. I'm Chris Hill. Thanks for listening. We'll see you tomorrow.