JP Morgan
The key surprise from third-quarter bank results was that the
efficiency ratio rose quarter-over-quarter for a majority of our
regional banks despite continued cost controls.
We expect that: 1) Loan growth is likely to remain tepid in the
fourth quarter (third-quarter growth was weak, as expected from the
data in our Fed weekly reports); 2) Net interest margins are likely
to continue to decline, albeit at slower pace, as the liquidity
coverage rule (LCR) gets achieved; 3) There may be some temporary
pick up in mortgage origination revenues in the fourth quarter from
the recent pick up in refinancings, but it's unclear how long it
will last; and 4) Capital markets activity has started off the
fourth quarter on a weaker note due to volatility in the markets --
and as markets recover, issuance volumes should also recover.
Bank stocks have been volatile recently, along with the market,
and have lagged since earnings began due to the weak quality of
earnings. Acquisitions would be a key benefit to leverage scale
economies to drive earnings growth, but activity has been very
muted. Regional banks are trading on average at 11.5 times 2015
price-to-earnings (P/E), which is 75% relative to the S&P 500,
versus the 68% long-term average (excluding-crisis) and money
centers are trading at 9.8 times 2015 P/E, which represents 64% of
the S&P 500 multiple, versus 59% long term average
(excluding-crisis).
The pickup in capital markets activity will benefit money
centers (including Bank of America (ticker: BAC) and Citibank ( C)
in our universe), but Citibank would see some impact from a
slowdown in emerging markets. Given the tough environment, we are
staying on the sidelines for regional banks. Among our regional
banks, SunTrust ( STI) stood out with better cost containment in
the third-quarter and medium term, should benefit from continued
growth in its investment banking franchise.
Weak third-quarter loan growth was in line with our review of
Fed weekly data. Period-end total loans were flattish
quarter-over-quarter on average and period-end commercial and
industrial loans were also flattish quarter-over-quarter on
average. SunTrust had the best total loan growth in the quarter.
Most of the banks seem to expect continuation of these loan trends
near term. Net interest margins continued to decline sharply due to
LCR requirements, low rates, and intense competition.
The core efficiency ratio is up quarter-over-quarter for the
majority of our regional banks with greater increases at Regions
Financial ( RF) and U.S. Bancorp (USB) (up about 100 basis points
quarter-over-quarter), followed by Wells Fargo ( WFC) (up about 70
basis points), by our calculations. SunTrust had the best
improvement in efficiency ratio. Banks are doing a good job of
controlling expenses, but this is being offset by weak revenues and
pressure from a need to invest in technology enhancements, cyber
security, and growing new business and revenue opportunities.
Refi applications have risen recently, up 23% last week versus
the prior week, with the decline in long-term rates, but the key is
whether or not it is sustainable. Ten-year Treasury rates fell
about 50 basis points from mid-September until mid-last week, but
are gradually climbing back and have recovered part of the decline
-- if these rates continue to rise, it would decrease refis.
However, purchase applications have not risen despite the drop in
rates, affirming our view that the softness is related to the
economy.
Sharp volatility in the markets has hurt investment banking
activity in the fourth quarter. There has been some pickup in
trading volumes but very sharp swings could result in some mark to
market hits, tempered by lower inventory at broker-dealers. As
equity and bond markets recover (high-yield funds saw inflows this
week), it could revive underwriting activity that was put aside as
pipelines were strong coming into the fourth quarter.
-- Vivek Juneja
-- Chris K. Baydar
-- John P. Grassano
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