In the heart of earnings season, U.S. stock market investors will scrutinize a raft of regional bank earnings this week for more write-offs that could send the market tumbling.
The S&P 500 and the Nasdaq snapped a six-week losing streak on Friday with financials helping to drive the market higher on the back of stronger-than-expected results from the likes of Citigroup, JPMorgan Chase and Wells Fargo. A sharp drop in oil prices improved sentiment and lifted the market.
For the week, the Dow Jones industrial average gained 3.6 percent, its best week in three months, while the Standard & Poor's 500 Index rose 1.7 percent and the Nasdaq Composite Index advanced 2 percent.
Still, while the week ended with financial services as the second-biggest boost to the S&P 500, regional banks were one of the heaviest drags. The S&P Regional Banks index ended Friday's session down 0.8 percent.
After U.S. banking regulators swooped in on July 11 to take over IndyMac Bancorp Inc, making it the fifth U.S. bank to fail this year, investors will key in on regional bank results as a measure of how the U.S. banking system is holding up in a fragile economy.
"Most of the major financial institutions have reported, so there's going to be attention on the flow coming in from the regional banks. We'll be watching for write-offs on the regional banks," said Fred Dickson, market strategist and director of retail research at D.A. Davidson & Co in Lake Oswego, Oregon.
Bank of America Corp, the No. 2 U.S. bank, headlines the week with its Monday earnings report. This week also will usher in earnings from large-cap companies, including Dow components Pfizer Inc, AT&T, and Caterpillar, as well as Nasdaq stalwarts Apple Inc, and Yahoo! Inc.
The week ahead "is going to be a heavy reporting week, so the continuing wave of second-quarter earnings reports will be important," Dickson said.
BEARS ON A SHORT LEASH
This week also marks the start of an emergency rule introduced by the U.S. Securities and Exchange Commission that will limit certain types of short selling in the stocks of 19 major financial companies, including all the major investment banks as well as the huge mortgage finance companies Fannie Mae and Freddie Mac.
"The short-selling announcement last week really set the stage for the bounce in financials on Wednesday, and that's been a big psychological lift for investors," Dickson said.
Short sellers make bearish bets that a stock's price will fall. On its own, short selling is a legitimate investment strategy.
But the SEC aims to curb abusive "naked" short selling, where investors have not actually borrowed the stocks before the short sale occurs.
Last Sunday, on July 13, the U.S. Treasury and the Federal Reserve unveiled a rescue plan for Fannie Mae and Freddie Mac in an attempt to shore up confidence that the twin pillars of the U.S. housing market will continue in that role.
The survival of Fannie Mae and Freddie Mac is deemed crucial to the soundness of the U.S. banking system because the two companies own or guarantee almost $5 trillion of mortgage debt — or about half of all U.S. mortgages. They provide liquidity to the U.S. home loan market by buying mortgages and repackaging them into securities such as mortgage-backed bonds.
Last week, Federal Reserve Chairman Ben Bernanke painted a gloomier economic picture than he had in previous public remarks. He urged lawmakers to approve the Treasury Department's proposals to back up mortgage markets. He made the comments during two days of testimony before congressional committees when he gave his semiannual report on the economy and monetary policy.
HOME SALES AND CONSUMER SENTIMENT
Investors will get more insight into the housing market this week when June existing home sales come out on Thursday and new home sales are released on Friday. Existing home sales are forecast to slow to an annual rate of 4.93 million units in June from May's pace of 4.99 million, according to economists polled by Reuters. New home sales are expected to dip to an annual rate of 500,000 units in June from a pace of 512,000 units in May, the Reuters poll showed.
Friday will also shed light on how U.S. consumers view the economy, when the Reuters/University of Michigan consumer sentiment survey will be released. Analysts expect the final July reading to stay at June's 28-year low.
Oil may also determine the market's direction next week.
Last week, Wall Street and Main Street dared to hope that things might get better as the price of oil tumbled on Friday in its biggest weekly drop — in dollar terms — since oil futures began trading on the New York Mercantile Exchange in 1983.
Evidence of lower demand due to the weak economy helped drive U.S. oil futures for August delivery down on Friday to a session low of $128.23 — a drop of $19.04 from the record intraday high of $147.27 set on July 11. In percentage terms, that represented a 13 percent slide.
NYMEX August crude settled on Friday at $128.88 a barrel.
But uncertainty created by geopolitical concerns and the potential for natural disasters could make the difference in whether oil prices continue their fall or shoot back up.
"If the economy keeps getting weaker, you may see oil tick off a bit more in the short term as demand slows. But the longer-term trend for oil is still higher," said Thomas Nyheim, vice president and portfolio manager at Christiana Bank & Trust Co in Greenville, Delaware.
Dickson of D.A. Davidson pointed out that "the fact is, we're moving into hurricane season so Gulf storms will always be on the radar. We also seem to have had an easing in tensions between Iran and Israel, but if something new brews there, that could reverse. It does seem the oil market has responded to some demand destruction in India and the possibility of less oil use in China as they gear down investor operations ahead of the Olympics." (Reuters)
