Banks Have Not 'Turned a Corner'
By Robert Barone 04/30/10 - 10:08 AM EDT
NEW YORK (TheStreet) -- Wall Street was upbeat in mid-April because the country's four largest banks (Bank of America (BAC), JPMorgan Chase(JPM), Citibank(C), and Wells Fargo(WFC)) all reported what Wall Street considered "turning the corner" earnings and all the CEOs except Bank of America's Moynihan were positive on the immediate future. The data, however, do not lead to such conclusions.
Profits rose at two of the big four. Citibank's profit rose to $4.43 billion in the first quarter of 2010 from $1.59 million in the first quarter of 2009. Believe it or not, Citibank's profits were the highest reported among the group despite the fact that they have been selling off many of their most lucrative businesses, like the Smith Barney brokerage unit. At JPMorgan, profits rose to $3.33 billion from $2.14 billion in the first quarter of 2009. At Bank of America and Wells Fargo, profits fell. The $2.5 billion profit at Wells Fargo was 16% lower while Bank of America's $3.2 billion profit was lower by 25%.
Sources of Profit
The basic source of profits at all four of the institutions was their proprietary trading operations (75% at JPMorgan, more than 50% at Bank of America, and 40% at Wells Fargo). No wonder there is such a furor over the proposed Volcker rule (restrictions on proprietary trading) in the financial reform legislation.
The health of the industry is often measured by top line revenue growth. Using this measure would not lead to the conclusion that the industry is "healthy," as at three of the four, top line revenue fell from year earlier levels. At Citibank, top line was down 5.8%. It was the lowest in four quarters at Wells Fargo, and it fell 11% at Bank of America. Only at JPMorgan did top line rise (5.0%).
Asset Quality
As measured by asset quality, the basic banking function was still in the doldrums. Citibank said its charge-offs were higher. At JPMorgan, defaults were at an all time high and mortgage defaults continued to rise. The $131 million loss in JPMorgan's retail banking unit was much lower than the $474 million profit a year earlier. Only credit card losses of $303 million showed improvement over the $547 million loss of the first quarter of 2009. That's not a lot of evidence to indicate that "this would be the makings of a good recovery" as suggested by Jamie Dimon, JPMorgan's CEO.
At Wells Fargo, the charge-off percentage was a high 2.71% versus 1.54% a year earlier, and equivalent to the charge-off percentage in the fourth quarter of 2009. This is surprising. Normally, in a bad earnings year like 2009, a bank writes off everything it can in the fourth quarter so that the next year looks better. This is known as a "kitchen sink" quarter. The fact that the charge-off percentage continued at the "kitchen sink" rate in the first quarter of 2010 indicates that asset quality has continued to deteriorate and has exceeded management's expectations embedded in their fourth quarter estimates. This should be of concern to the marketplace.
Charge-offs at Bank of America were quite high at 4.44% ($10.8 billion) in the first quarter of 2010 compared to 2.85% ($6.9 billion) a year earlier. In addition, they rose sequentially from the fourth quarter of 2009 (3.71%). And 30-day delinquencies, the precursor to charge-offs, now stand at a whopping 8.5% of the loan portfolio. Again, the market should be concerned with such deterioration. At JPMorgan and Citibank, first quarter of 2010 charge-offs were only slightly better than those in the fourth quarter of 2009 (C: 1.14% vs. 1.17%; JPMorgan: 4.83% vs. 5.27%). How the senior executives of these institutions can be upbeat about these figures is puzzling.
Misleading Provisions
One of the ways banks manipulate their earnings is through the addition or non-addition to their loan loss reserves. This used to be a fairly simple calculation but over the last few years this has become a complex algorithm which, while it looks very precise and detailed, it is based on assumptions and judgments which can be manipulated to achieve desired results. So, earnings have to be examined in light of loan quality and the provision for loan losses. At Citibank, while charge-offs were higher and no real improvement occurred in asset quality, the provision for future losses fell 16% from the first quarter of 2009 and 5% from the fourth quarter of 2009. At JPMorgan, the provision fell by 30% to $7 billion from $10 billion.
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