16 January 2012 at 14:36 GMT
JP Morgan reported shrinking earnings last Friday; net income came out at USD 3.7bn in Q4 vs. USD 4.8bn for the same quarter 2010. Both Investment Bank revenue and net income fell sharply q-on-q and Retail Financial Services also saw declining revenues and net income halved. Card Services and Commercial Banking saw modest growth gains in both revenue and income. Total group revenues were down 9 percent q-on-q and 17 percent y-on-y and net income was down 13 percent q-on-q and 23 percent y-on-y.
Main takes on Core Earnings
In our
preview comment on JPM last week, we mentioned that in our view the focus would be on increments in core earnings; credit growth, interest margins, trading income and credit quality. Takingn into account the different nature and structure of the major US banks, JPM provided us with some additional pieces to the puzzle.
JPM’s falling trading income and investment banking revenue didn’t come as a big surprise given the low activity in the transactions market during the last couple of quarters. What is more interesting is loan and deposit growth that was up 4 percent and 21 percent respectively y-on-y - this might be a potential positive surprise from both Citigroup and Wells Fargo too, chart 1.
Although provisions for credit losses continue to fall, we are still looking at elevated levels and this in combination with the development in non-performing loans will be the triggers going forward for banks with considerable retail credit exposure. Our perception is that it is increasingly important for banks to get paid for their credit risk going forward. Attention could therefore be on interest margins. We have made a simple comparison between net interest margin and net “net” interest margin, which is defined as net interest income less loan loss provisions divided by net loans. The relational behind this measure is that loan loss provision is in fact a part of the credit cost and therefore could be seen as part of the interest expense.
Situation report - Citigroup and Wells Fargo
Given the current consensus overview, the market is expecting further decreases in non-performing loans, this is however not the same as increasing asset quality as far as provisioning is concerned. Correspondingly loan losses are estimated to fall but interest margins will be fairly even, charts 2 and 3.
It is interesting to notice that the picture looks fairly uniform for the two banks. Wells Fargo’s interest margin is approx. 50 basis points lower than that of Citigroup, which shows the relative lower risk of WFC’s engagements in relation to Citigroup. This is also seen in the valuation estimates for 2012 as Wells Fargo is currently trading at 1.07 Price-to-book (P/B) vs. 0.48 for Citigroup. This can furthermore be understood by the amounts of losses that the respective bank has built up during the last years. Wells Fargo started 2008 with USD 1300bn and Citigroup with USD 1900bn, yet Citigroup has and is estimated to write off almost twice as much from 2008 until end 2013, chart 4.
If credit quality starts to increase and credit growth picks up once again, the outlook for traditional banking looks promising for US financials during 2012.