Commercial Banks Stuck at Resistance Ahead of Earnings

Commercial banks kick off first quarter earnings season next week, with surging economic optimism so far failing to lift sector components above key levels broken in 2018's steep decline. Buying power has been surprisingly weak since a strong January uptick, despite bullish action in other economically sensitive groups, marking a bearish divergence that could foretell a second quarter downturn for bank stocks.

Last year's massive tax cuts should have triggered a fruitful period in which commercial banks increased profits and revenues in response to more aggressive business investment, but the majority of U.S. corporations choose to pocket the windfall capital or return it to shareholders through buybacks and dividends. Banks got left out of this equation, dropping the top sector fund into a 21% negative return.

Banks were also depending on higher interest rates to increase earnings, but the Federal Reserve has stopped rate hikes for now, adding another headwind that can be overcome with stronger economic activity. However, no one knows if that's in the cards for 2019 and beyond because world trade disputes have now dragged on for more than a year and the long-awaited China deal may not have the intended impact on U.S. GDP.

The SPDR S&P Bank ETF (KBE) has stair-stepped higher in three rally waves since the 2008 economic collapse, with the last wave reversing in January 2018 at the .786 Fibonacci sell-off retracement and selling off through late 2016 support and the 50-month exponential moving average (EMA) near $40. The decline ended in December near the opening print on the day after the 2016 presidential election, giving way to an oversold bounce that remounted broken support in January 2019.

Tough resistance has set up at $47, where the sector fund broke down from a 10-month descending triangle in October. The two red lines highlight what's at stake, with a sell-off starting from that price zone having the power to complete a head and shoulders topping pattern. That downswing may also cut through the post-election low, relinquishing all gains since Donald Trump was elected president.  

The monthly stochastics oscillator tells us that bulls still have time to make their move, crossing into a buy cycle in January. A rally back above the upper red line would mark the first sign of genuine progress, opening the door to a test at the bull market high. However, long-term resistance at the .786 retracement poses a substantial obstacle, with this Fibonacci ratio capable of stopping long-term uptrends dead in their tracks.

JPMorgan Chase & Co. (JPM) gets the ball rolling on April 12, with analysts expecting the Dow component to report earnings per share (EPS) of $2.36 on $28.03 billion in revenues. The stock charged higher after the bank missed fourth quarter estimates in January, but the rally topped out just two sessions later, yielding flat price action into the second quarter. It has failed three attempts to remount the 200-day EMA during this period, which was broken on heavy volume in October.

The on-balance volume (OBV) accumulation-distribution indicator should worry long-term shareholders, entering a persistent distribution phase after posting a seven-year high in March 2018. OBV has carved a long series of lower highs and lower lows since that time, indicating that institutional capital is pulling up stakes and hitting the sidelines. More importantly, OBV has failed to recover in 2019 even though the stock is trading more than 15 points above the December low.

A breakout attempt in March failed, dumping the stock under 200-day EMA resistance. A rally above $109 is needed to clear this barrier and generate continued upside into the .618 Fibonacci sell-off retracement above $113. That level also marks the October breakdown, raising the odds for a reversal that yields sideways action into the third quarter. The stakes are higher on the downside, with a decline through the March low at $98.08 signaling a retest at the 2018 low.

Commercial banks underperformed other economically sensitive sectors in the first quarter, indicating that they could struggle to gain ground after first quarter earnings.

Disclosure: The author held no positions in the aforementioned securities at the time of publication.