Soaring Wall Street income powers US bank profits

Three of the largest US banks reported higher-than-expected profits on Wednesday, fuelled by breakneck growth in investment banking fees, buoyant capital markets and lower credit costs due to an improving economy.

But the traditional banking business of taking deposits and making loans continued to grow less profitably and executives warned that the boost to earnings from those activities would likely fade.

JPMorgan Chase, the largest US bank by assets, beat earnings expectations by 21 cents a share, partially driven by a 57 per cent surge in investment banking fees. But its executives told analysts that revenue would likely be flat for the second quarter. 

Goldman Sachs said a 73 per cent jump in dealmaking fees pushed return on equity to 31 per cent, its highest level since 2009 and far ahead of the 14 per cent it promised investors under a strategy laid out a year ago.

“I dare say it (ROE) is unlikely to be as elevated as that,” Stephen Scherr, chief financial officer, told the Financial Times, adding that Goldman’s 14 per cent return target remained its “aspiration in terms of consistent performance of the firm”. 

Strong capital markets have helped most US banks blow past quarterly profit expectations through most of the pandemic, but the combination of near-zero interest rates and lacklustre appetite for loans has strangled the traditional banking business. 

Bank executives remain optimistic that loan demand will improve in the second half of the year, but they cautioned on conference calls that it could prove weaker than expectations, even as other economic drivers such as consumer spending return to normal.

“We’re all waiting for Godot on loan growth to materialise, and when it does it will organically solve a lot of problems for the banks,” said Eric Hagemann, senior research analyst at Pzena Investment Management.

JPMorgan pared back its loan loss reserves by $5.2bn, signalling confidence that US government stimulus and rapid vaccine rollouts have staved off the severe recession economists once feared.

“We believe that the economy has the potential to have extremely robust, multiyear growth,” said Jamie Dimon, chief executive.

However, profit before provisions at JPMorgan’s consumer bank, which accounted for a third of its bottom line before the pandemic, has dropped by 21 per cent since the start of 2020.

Pre-provision profit at Wells Fargo, which does not have a significant trading business, tumbled 45 per cent last year.

Those trends dragged into the first quarter of the year with both JPMorgan and Wells posting double-digit declines in lending-related revenue.

If not reversed soon, the development could threaten bank valuations since investors have paid less attention to volatile trading revenue, and more to business lines with stable incomes since the last financial crisis.

“The market tends to shrug off investment banking beats and reserve releases because they’re ‘one-time’ in nature, but these do accrete to book value per share, which is the fundamental driver of bank stocks’ performance over time,” Hagemann said.

The search for more stable returns is behind Goldman’s push into the consumer business with its Marcus division. But the pandemic and lower interest rates forced it to tighten underwriting and intentionally slow deposits, pushing out the timeline for when the bank expects its fledgling consumer unit to be profitable by a year to 2022. 

Goldman’s Scherr told the FT the bank had “great ambition to grow that portfolio” as the US economy recovers from the pandemic. He added that he also felt “pretty good about” net interest margins heading into 2021, and said Goldman faced a different situation than other big US banks since it was replacing more expensive wholesale funding with cheaper deposits. 

As for when Americans will start running up their credit cards again, “it’s difficult to know”, said JPMorgan’s chief financial officer, Jennifer Piepszak. She added that there was little historical precedent for this cycle given the massive scale of fiscal stimulus. “It’s a great question.”

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