Needless to say, this is going to be an interesting couple of weeks for the banking industry. JP Morgan Chase (Ticker: JPM) got things started by announcing Q4 earnings right in line with expectations; and proceeded to drop over 4%. Lately investors have seen earnings announcements in line with analysts expectations rewarded, but that's not likely to be the case for banks right now.
Though JPM's Q4 net income of $3.7 billion or $0.90 a share was just about as expected, it was a significant drop year-over-year. The fourth quarter of 2010 saw the bank giant earn about $4.8 billion or $1.12 per share. But with all that's gone in this past year and continues to occur in Europe, some may wonder why it seems banks are being singled out. JP Morgan's results help to explain the line of reasoning. Though in line, earnings took a big hit from a 30% drop in trading and investment banking results, as most on The Street expect from all the big boys who play in that field.
Large institutions like Bank of America (Ticker: BAC), Wells Fargo (WFC) and others that generate significant revenue from their trading operations are going to have trouble appeasing investors in the short term. The global economic environment has taken its toll on this line of business in particular. Now add in regulatory restrictions that impact revenue, a tough lending environment and low interest rates and there are some major, near-term hurdles to overcome.
What to Focus On
Generating solid numbers in core business areas is what investors need to hang their hats on. The smoke and mirrors used by some banks such as padding results with one time items or implementing accounting changes can mask what should be at the heart of the matter; earnings from key business lines. As global markets stabilize and subsequent lending and trading activities get back to normal there is certainly a ton of upside for the JPM, BAC and WFC institutions of the world. But in the short term investors can expect a pretty turbulent ride.
So where is the income going to come from for banks that can't rely on their usual means of making money? They need to get creative, particularly in terms of cutting expenses, packaging exiting products and developing new, (hopefully) profitable offerings for their customers. You may have heard about BAC's $5 billion expense cutting initiative, and Wells is doing the same, hoping to cut as much as $1.2 billion by the end of this year. These are positive steps but will take time to implement and impact the bottomline.
These next couple of weeks will see earnings announcements from most all the major institutions. Investors would be wise to wait until the dust settles before taking advantage of undervalued bank stocks, and there are values to be had. JPM and KeyCorp (Ticker: KEY) are both trading under 8 times earnings, and Wells is just over 10. But as tempting as that may be for the value investor, there's little chance that waiting will result in missed opportunities.