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US banks see famine after the feast

The party is over for US banks as executives wake up with a loan hangover
July 20, 2022
  • Corporate debt losses stack up
  • Worries over consumer debt outlook

A loss of appetite for loans and the disappearance of investing banking fees mean the second quarter for the US banks was one of the least memorable in recent memory, with a range of institutions clearly suffering the after-effects of collapsing M&A deals, muted consumer spending and an unsteady housing market. While conventional wisdom has it that the US will avoid a possible recession this year, the results season had a distinct canary-in-the-coalmine feel to it, with lending and investment bank dealmaking a good lead indicator of future economic performance. As for the banks themselves, from an investor's perspective it was clearly a case of sorting out who were the losers and who were the bigger losers.

 

Investment banking drought

Wall Street’s pure-play investment banks saw the most eye-catching reversals over the course of the quarter. For example, Goldman Sachs (US:GS) saw net profits fall by 48 per cent during the quarter to $2.79bn (£2.32bn), although this was less than some analysts had predicted, as its trading arm benefited from market volatility to parachute the fall in overall profits.

Alongside the big mixed banks such as JPMorganChase (US:JPM) and Bank of America (US:BAC), Goldman’s big problem this year has been the shuttering of structured debt markets as investors have shied away from higher interest rates, consequently causing private equity buyouts to dry up. That has meant far lower fees from originating debt for the big investment banks and ongoing losses from holding unsold paper. According to Bloomberg data, losses from unsold corporate loans totalled $1.32bn for the quarter, with Bank of America topping the list with $320mn of corporate loan losses booked in its results.

Goldman managed a relatively respectable fourth (see table), but it was still the worst hit of the big banks, with Bank of America’s second-quarter profits falling by a more moderate 32 per cent. Rising costs are another headwind for the investment banks as bonuses for past performance weigh against currently indifferent results. JPMorgan seems to have experienced notable cost inflation – non-interest costs were up 3 per cent to $18.7bn for the quarter. The bank’s share price should receive some support based on the fact that it has suspended its share buyback program to conserve capital.

No better on Main Street

Wells Fargo (US:WFC) reported a 48 per cent drop in second-quarter profits as its management warned of higher credit losses as the year continues. Interestingly, even Wells Fargo, which doesn’t have a major presence in the investment banking market, saw a $107mn write-down on unfunded leveraged finance. That came alongside a $576mn impairment on the value of equities associated with its venture capital business, giving further credence to the idea that the boom in private venture capital and private equity lending is well and truly over.

This leaves the Main Street banks this year with a notable problem. The weakness in corporate paper means that everything depends now on whether Americans will be able to continue to fund their credit card and car loans, if the economy takes a turn for the worse. These segments of consumer spending are currently the strongest sources of revenue for Wells and any signs of weakness as the quarter continues is likely to be viewed very unfavourably by the market.   

Citigroup (US:C) seems to have escaped the worst depredations of the quarter and posted a small rise in quarterly profits to $19.6bn, or 11 per cent higher, as the bank’s broad spectrum of international operations helped to offset weakness in the US. The shares have been further buoyed this year by a high-profile investment from Warren Buffett, who bought a stake in the bank worth $3bn earlier this year. His purchase has so far maintained its value.

Overall, it’s a disappointing quarter for US bank investors and it remains to be seen whether they can maintain their relatively high ratings as the year progresses.