HSBC & BP absorb the damage, oil plunges again

Morning Note

The S&P 500 rallied to close at its highest since March 10th as investors pin their hopes on states reopening in the coming days and weeks, but we’ve had a less impressive session overnight in Asia. European shares are a bit mixed today on a huge day for corporate earnings which are by and large showing up the huge damage being done to heavyweight stocks from Covid-19 and the collapse in oil prices. The FTSE 100 opened mildly lower but is holding the 5800 level. US futures have weakened along with oil, which is coming under intense selling pressure again.

HSBC joined the growing rank of banks setting aside huge amounts of capital to absorb the expected economic hit from the Covid-19 outbreak. Today’s Q1 update showed a 48% decline in reported profits before tax to $3.2bn as it hiked loan loss provisions to $3bn. It comes after a $3.9bn loss in Q4 2019 due to writing down assets in its investment and commercial banking arms in Europe by $7.3bn. Shares slipped nearly 2% in early trade in London.

There are two main challenges for HSBC. First its pivot to Asia and reliance on earnings out east, at a time when emerging market growth could become very challenged due to Covid-19 and a stronger USD. Second, it’s embarking on a major restructuring designed to slash costs that will inevitably be delayed. Management note today they will be slower to reduce risk weighted assets (RWAs).

Having been made to scrap dividends and buybacks by UK regulators, there was chatter HSBC would think about moving its headquarters out of London and back to Hong Kong. Investors residing in the ex-colony were not impressed, with some launching a legal challenge. HSBC took the strange step of apologising to them today for the loss of income. But while regulators over here may be exceedingly cautious and willing to bash the banks at times, it’s nothing on what awaits if you get within reach of Beijing. Reassessment of the West’s relationship with China after Covid-19 suggests it will be prudent to stick to London.

Elsewhere European banks are in full reporting mode this week. Santander profits were down 82% after setting aside €1.6bn in provisions for losses. UBS profits rose 40% and it seems to less exposed to loan loss provisions than many peers.

BP meanwhile faces a single problem – a collapsing oil market as demand falls and prices plunge. Management reported underlying replacement cost profit for the first quarter of $0.8 billion, compared with $2.4 billion for the same period a year earlier. This, they said, reflected lower prices, demand destruction in the downstream particularly in March, a lower estimated result from Rosneft and a lower contribution from oil trading.

As a result, net debt ballooned by $6bn to $51.4bn leaving gearing at 36.2%. But it’s maintained its dividend – for now. The $10bn acquisition of BHP’s shale assets was not such a smart move. As mentioned before, if BP wants to go green and be ‘carbon neutral’ by 2050, it’s going to require higher oil prices to do it. Oil will pay for the shift away from oil. BP shares slipped 2% in early trade.

Finally, highlighting the extent of the damage in US shale, Weir Group reports today that Q1 Oil & Gas orders were down 34%, and expects capex in North America to be down 50% in 2020.

Oil slumps again

On oil, the front-month (June) WTI contract is coming in for the expected bashing. Prices plunged Monday and have extended losses in Asia after USO said it was dumping its June contracts, about 20% of its holdings. It was inevitable that the front month would again hit the skids as we approach tank tops in the US and producers are too slow to turn off the taps. Increasingly there are also signs floating storage is running out for Brent. There is nothing to stop front month WTI approaching zero again with nowhere to stash the oil. The market will remain in steep contango as traders try to find shelter in future months but this only heaps more and more pressure on the front months.

Charts

Having cleared the 50-day simple moving average decisively with yesterday’s close, the S&P 500 is now facing the key resistance around 2885.

WTI has slumped again and continues to make new lows this morning – path to zero is open again.

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