JPMorgan Job Cuts Continue

The strings of an economy are so intertwined these days that pulling on one string here opens a huge gap way over there. And closing that gap opens two more somewhere else.

The latest gap to open in the U.S. economy is in the banking sector, where the top six banks in the nation are cutting a combined 21,000 jobs, or 1.8% of their work forces.

JPMorgan Chase (NYSE:JPM) alone, despite posting record profits for the last three years straight, is cutting 17,000 jobs by the end of 2014.

Bank of America (NYSE:BAC), for its part, will be trimming down 30,000 positions over an unspecified period. Citigroup (NYSE:C), as well, plans to cut 11,000 jobs, while Wells Fargo (NYSE:WFC) already cut over 5,000 last year.

In the last five years, the financial sector has already shed 320,000 jobs in an effort to drive up profit, restore dividend payments to shareholders, and ultimately drive up the stock prices that had all been hammered over that time.

The Links in the Chain

To get a sense of the situation, we need to look at the periphery—at the changes taking place around the banks.

We know that the reason banks are cutting jobs is to protect and grow their profits. So let’s first ask where banks get their profits from. A very large part of a bank’s profit comes from interest charged on loans and mortgages.

Unfortunately for the banks, the Federal Reserve has been keeping interest rates ultra low for quite some time, as the government wants to make it easier for businesses to get their hands on cheap money so they can stay open for business and employ more people.

And yet, closing a hole in one area of the economy—namely, lowering interest rates to stimulate business expansion resulting in job hirings—ends up opening a hole in another area of the economy—namely, lower bank revenues resulting in job cuts.

But there’s more. A second fix-one-thing-and-break-another dynamic can be seen in the foreclosure clean-up efforts of the past 3 or 4 years. Now that the mess has been mostly tidied up, bank departments dealing with foreclosures no longer need so much staff.

“The most vulnerable people work in units where demand is waning such as mortgage foreclosures,” explains Bloomberg.

“They have a better feel for what their business model looks like and they are starting to align headcount,” Robert Dicks, a principal at Deloitte & Touche LLP, told Bloomberg.

So there it is again—one thing gets fixed, and another thing gets broke.

Housing Rebound Consolation

One bank analyst is encouraging us to take it for the good that it offers. Gerard Cassidy at RBC Capital Markets reasons that these dismissals “should be viewed … as a positive”, quotes Bloomberg. After all, foreclosures fell 25 % over the past 12 months ending in February.

So chins up everyone, at least we have the housing rebound.

“The U.S. housing market is rebounding rapidly – the number of new units being built is up 28 percent over the past year,” reports the Washington Post. “U.S. single-family home prices rose in January, starting the year with the biggest annual increase in six-and-a-half years in a fresh sign the housing market recovery remains on track,” adds the Globe and Mail.

The S&P/Case Shiller index measuring housing prices across 20 major metropolitan areas rose 8.1% over the 12 month period ending in January.

In another ironic twist, it was those same low interest rates which cut into the banks’ profits that ultimately lead to the housing recovery. Mortgages became cheaper, buying picked up, and all that distressed housing on the market eventually cleared, raising home prices again.

A thorough report into the housing recovery by HSBC Private Banking cited by Mindful Money sums up:

“The falling supply of homes for sale has been one of the key drivers of the recovery in housing starts in the US for both multi and single-family homes, which have seen a sharp improvement in recent months. Other key factors have been that affordability has improved, encouraged by low interest rates, and a gradually improving jobs market.”

It took a while, but by the beginning of 2013 the glut of excess housing has been all bought up to the point where new homes now need to be constructed. This creates more jobs in the construction sector and drives up sales in home related products and services.

Housing’s “Wealth Effect” Spills Over

In turn, rising home values create a “wealth effect”, where families regain confidence in their financial standing. The wealth effect slowly trickles into the broader economy, as people feel better about—and are more capable of—spending more money.

And spend they do. Home renovations are slowly on the rise after years of decline. So are purchases of home furnishings, flooring, and appliances. Even auto sales are up thanks to this wealth effect, as Reuters reports:

“U.S. sales of sport-utility vehicles and pickup trucks jumped in March, spurred by rising home prices and an increase in housing construction, major automakers said on Tuesday.” “General Motors Co said the stronger housing market helped its sales to small businesses rise nearly a third.” “Rising home values are helping U.S. consumers feel more confident about buying a new vehicle, GM and Ford executives said.”

The impact of this wealth effect on the overall economy is not to be belittled, as the above cited HSBC Private Banking report on the housing recovery quantifies:

“The [previous] fall in house prices was a major factor that contributed to the great recession as residential investment contributed to as much as 5 per cent of GDP in 2006; today we estimate that number is closer to just 2.8 per cent, but importantly this is an improvement compared to the depths of the recession.”

2.8% of GDP contributed by residential-related investments trickling down through the economy—that is big.

Investing in the Housing Recovery

To take advantage of the recovery in the housing sector and its spill-over into the broader economy, an investor can hardly miss with almost anything he/she chooses. Home furnishings alone represent more than enough stocks to choose from for any one portfolio.

But HSBC’s suggestion takes us full circle, back to where it all started: the banks.

“[HSBC] argues that investment in US regional banks is one way to benefit from the trend,” Mindful Money relates, adding three main reasons why:

1. “Firstly, the fact that house prices are no longer falling should improve investor confidence in the health of banks’ balance sheets, which may ultimately lead to higher valuations.” [And they’re cutting jobs, which improves their balance sheets even more.]

2. “Furthermore, steady or rising house prices should enable some of the [banks] to release previous provisions against expected losses, which are no longer expected to materialise, which can have a positive impact on profits.” [That is, releasing funds that were on reserve to protect against mortgage related losses, which money can now be put to work by the banks to generate revenue, ultimately benefitting their stock prices.]

3. “Lastly, the stronger housing market should drive higher mortgage volumes for the sector. Indeed, higher-than-expected loan growth could drive an earnings surprise for the [banking] sector in 2013, in our view.”

In that we have our perfect circle. At first, low interest rates initially hurt bank revenue and ultimately lead to job cuts. But now, those same low rates are stimulating home purchases, raising the value of homes, creating a wealth effect that trickles into the economy, resulting in more mortgages and personal loans, and ultimately driving up bank revenues once again.

It kind of makes you look at bank stocks from a much broader perspective, doesn’t it? A bank’s stock may be the stock of a single company, but it is so inextricably tied to every other part of a nation’s economy that you may as well consider it a stock of the entire nation itself.

Joseph Cafariello

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