Daily Management Review

Banks In The United States Prepare For Declining Profits And A Recession


This week, US banking titans are expected to report lower fourth-quarter profits as lenders stockpile rainy-day funds in preparation for an economic slowdown that is wreaking havoc on investment banking.
JPMorgan Chase & Co, Bank of America Corp, Citigroup Inc (C.N), and Wells Fargo & Co will all report earnings on Friday.
They are among the six largest lenders, along with Morgan Stanley and Goldman Sachs, that are expected to amass a total of $5.7 billion in reserves to prepare for soured loans, according to Refinitiv's average projections. This is more than double the $2.37 billion set aside the previous year.
"With most U.S. economists forecasting either a recession or significant slowdown this year, banks will likely incorporate a more severe economic outlook," said Morgan Stanley analysts led by Betsy Graseck in a note.
The Federal Reserve is aggressively raising interest rates in an effort to tame inflation, which is nearing its highest level in decades. Rising prices and higher borrowing costs have caused consumers and businesses to cut back on spending, and because banks act as economic intermediaries, their profits fall when activity slows.
According to preliminary Refintiv analyst estimates, the six banks are also expected to report a 17% drop in net profit in the fourth quarter compared to the previous year.
Still, rising interest rates benefit lenders by allowing them to earn more from the interest they charge borrowers.
Investors and analysts will pay close attention to bank CEOs' comments as an important indicator of the economy's health.
In recent weeks, a slew of executives has warned of a tougher business environment, prompting firms to cut pay or eliminate jobs.
According to two sources familiar with the situation, Goldman Sachs will begin laying off thousands of employees on Wednesday. Morgan Stanley and Citigroup, among others, have cut jobs in response to a drop in investment-banking activity.
The moves come after Wall Street dealmakers in charge of mergers, acquisitions, and initial public offerings saw a significant drop in business in 2022 as rising interest rates roiled markets.
According to Dealogic data, global investment banking revenue fell to $15.3 billion in the fourth quarter, a drop of more than 50% from the previous quarter.
Businesses in the consumer segment will also be a major focus in bank earnings. A strong job market and government stimulus have kept household accounts afloat for much of the pandemic, and while consumers are generally in good financial shape, more are falling behind on payments.
"We're exiting a period of extraordinarily strong credit quality," said David Fanger, senior vice president, financial institutions group, at Moody's Investors Service.
The fallout from a fake accounts scandal and regulatory penalties will continue to weigh on Wells Fargo's results. The lender expected to incur a $3.5 billion charge after agreeing to settle charges with the Consumer Financial Protection Bureau over widespread mismanagement of car loans, mortgages, and bank accounts, the watchdog's largest-ever civil penalty.
Analysts will also be looking for any writedowns on the $13 billion loan used to fund Elon Musk's purchase of Twitter by banks such as Morgan Stanley and Bank of America.
In general, the KBW index of bank stocks is up about 4% this month after falling nearly 28% in the previous year.
While market sentiment shifted from optimistic to pessimistic in 2022, some large banks may be able to outperform the most pessimistic forecasts because they have eliminated risky activities, according to Susan Roth Katzke, an analyst at Credit Suisse.
"We see more resilient earning power through the cycle after a decade of de-risking," she wrote in a note. "We cannot dismiss the fundamental strength."