The perils of instant analysis | FT Alphaville

The perils of instant analysis

It seems Dick Bove has landed himself in a bit of trouble.

Having appeared on CNBC immediately after Wells Fargo’s third-quarter results on Wednesday, saying the bank was a “standout” among financial institutions, he promptly downgraded the company to “sell” nine hours later. The turnaround, in addition to being cited as a reason for the whiplash in Wells shares (and oddly enough the wider market) on Thursday, has prompted a flood of criticism.

It’s also prompted a change of habit for Bove. From MarketBeat:

Prominent banking analyst Dick Bove, who caused a stir Wednesday with seemingly contradictory remarks on Wells Fargo, has decided he’ll no longer provide immediate earnings commentary on air.

“I’m not going to do it anymore. I’m going to have to see the numbers before I go on air,” Bove told Dow Jones Newswires Thursday. “It creates an untenable situation.”

Appearing on CNBC immediately after the San Francisco bank’s 8:00 a.m. EDT Wednesday earnings release, the Rochdale Securities analyst included Wells among “standout” banks when asked to name a few. Bove, who appears regularly on business news programs, said the earnings news suggested Wells had its loan losses “under control.” The comments left many with the impression that Bove favored the bank.

Later in the day, Bove made waves when he downgraded Wells to “sell” from “neutral.” In an interview Wednesday with Dow Jones Newswires immediately after the downgrade, Bove called the bank’s earnings “pretty poor,” and said mortgage hedging and unsustainable tax cuts inflated earnings.

The downgrade sent Wells shares sharply lower, and weighed on the broader stock market. The Dow Jones Industrial Average finished the session lower after spending most of the day in positive territory.

There’s a wider question here about what the value is to business television outlets like CNBC — or their viewers — in getting this kind of instantaneous analysis. At minutes after the earnings release, most analysts will only have been able to read the headline numbers, in other words those cherrypicked for highlighting by the bank itself.

For what it’s worth, Bove’s (eventual) sell note on Wells Fargo made some interesting points — many of which have been picked up in other media outlets.

Here’s a summary:

Wells Fargo reported earnings of $0.56 per share for the third quarter. This was well above my estimate of $0.41 per share and in line with second quarter results. The earnings forecast for 2009 has been increased to $2.08 per share from $1.94 per share. The estimates for 2010 and 2011 remain unchanged at $1.93 per share and $2.67 per share, respectively. The target price on the stock is being maintained at $25 per share. The rating is reduced to Sell.

  • While the quarterly number was higher than the expected, the increase seems to be due to two factors. The servicing fees on mortgages (MSR) jumped by $1.1 billion or $0.15 per share, and the tax rate fell by 2.2% adding another $0.02 per share to earnings.

  • The volatility in the mortgage servicing fee is impossible to explain. In the past five quarters this fee has moved around as follows: $525 million, negative $40 million, $843 million, $753 million, and $1.9 billion. Mortgage rates in these five quarters have been as follows: 6.31%, 5.87%, 5.06%, 5.03%, and 5.15%. These rates would argue for a constant decline in the value of mortgage servicing until the third quarter this year.

  • This is not what is depicted in the Wells Fargo numbers. The reason is that Wells hedges its servicing portfolio. These hedges are very large. For example in the second quarter, the bank lost $1.3 billion on its MSR hedges. In the third quarter, it made $3.6 billion on these hedges. The swing from quarter to quarter was $4.9 billion. The earnings per share impact was $0.68 per share. This is more money than the bank earned, overall, including the hedge profit, in the third quarter.

  • Despite the fact that this is the most compelling earnings event in each quarter, the bank never spends much more than 5 seconds discussing it. It is an unsustainable profit but MSR hedges keep coming through for the company when it needs to bolster earnings.

  • The remaining businesses of the bank were very mixed in the quarter. Most disturbing is that loan losses seem to be accelerating on the negative side.

Related link:
Peeking into Wells Fargo’s pandora’s box of commercial real estate – FT Alphaville
The mortgage-servicing writedowns – Felix Salmon