Wells Fargo (WFC) is scheduled to outline its performance for the first quarter of the year Friday, April 12. The expectations from the bank remain high given its consistently higher bottom line figure quarter after quarter for a while now, but there are a couple of factors that will weigh on the results this time around.
As we have pointed out on many occasions in the past, Wells Fargo’s almost complete reliance on the traditional loans and deposits banking model are its biggest strength and weakness – especially in the prolonged low interest rate environment that we are currently in. The bank is also focused on the mortgage business, which witnessed a refinancing boom over the last two years. The resulting reduction in net-interest margin and mortgage origination figures were already witnessed in the results for Q4 2012, and these would only have gotten worse this quarter.
We maintain a $38 price estimate for Wells Fargo’s stock, which is slightly above the current market price.
Net Interest Margin Figures Continue To Interest Us The Most
One of the biggest concerns investors have raised about Wells Fargo’s results over recent quarters has been the considerable decline in its net interest margin (NIM) figures. The fact that the bank’s shares lost value immediately after the results announcement in each of the last two quarters, despite record income figures on both occasions, goes a long way in explaining how important this single factor is to the bank’s perceived value.
The table below summarizes Wells Fargo’s reported net NIM figures for each of the last eight quarters:
|Q1 2011||Q2 2011||Q3 2011||Q4 2011||Q1 2012||Q2 2012||Q3 2012||Q4 2012|
The alarming reduction in NIM is evident with the bank managing record income figures despite declining interest income, largely due to higher fee-based revenues and lower operating expenses. And while the bank’s top management has been optimistic about its ability to improve interest margins, the steady increase in deposit base is actually going against the bank as it only adds to the interest expenses at a time when the additional funds cannot be profitably deployed by Wells Fargo.
You can better understand the impact of falling net interest margins on the bank’s total value by making changes to the chart above, which represents Wells Fargo’s NIM on outstanding mortgages.
Mortgage Originations Value Also Figures High On Our List
Wells Fargo originated a whopping $524 billion in mortgages over 2012 – nearly a third of all mortgages in the country for the year. That is no small feat. But quite notably, most of the mortgage originations over the recent years have been due to a large number of home owners opting to refinance their existing mortgages to benefit from record low mortgage rates and also from government-led initiatives.
But this mortgage refinancing wave began dying down last quarter. The impact was visible almost immediately as the $125 billion in mortgages Wells Fargo originated in Q4 2012, was the least among all quarters for the year with the peak value of $139 billion being reported for Q3 2012. And while we believe that the improving housing market will fuel the demand for fresh mortgages in the future, the overall origination volumes will remain lower than this peak figure for a few quarters. What remains to be seen is to what extent the figure fell in Q1 2013, and more importantly what was the impact of this decline on Wells Fargo’s top line number.