The “got-you” model of investment banking made famous by Goldman Sachs (GS) is reaching obsolescence for the big retail banking franchises according to JP Morgan Chase (JPM) and Bank of America (BAC). With financial reform each customer will now have to carry their own weight. No longer will the financially sloppy, disadvantaged or simply naïve be tricked into paying high fees to subsidize the financially conscientious.
Overdraft fees are dead according to Bank of America. They think it is bad business to induce customers into opting into something the customer will regret the first time a cup of Starbucks (SBUX) ends up costing $30. Bank of America, Citigroup (C) and JP Morgan all see revenue losses related to credit/debit card interchange fees (Durbin amendment), but none has revealed their specific mitigation plans.
Citicorp appears to be shrinking its credit card portfolio to higher quality customers and making progress in selling or running off Citi Holdings. But it is bringing CitiFinancial back to life after Wells Fargo (WFC) announced its exit from subprime lending in a separate consumer finance unit. Citi said these customers have nowhere else to go. (CitiFinancial is being moved from Citi Holdings back to Citigroup.)
All of the mega banks complained that the interest margin compression is wreaking havoc on their current retail banking models. This form of Federal Reserve induced systemic risk brinks into question the true value of the national retail branch funding aggregation model that Citigroup, JP Morgan and Wells Fargo strove for during the height of the meltdown. I think Citigroup might now be happy that they lost out on the Wachovia mass market opportunity.
Based on the latest round of earnings conference calls, I believe that Citigroup might have gone from the worst to the best business model. This is further confirmation the selling off a controlling interest in Smith Barney to Morgan Stanley (MS) was impeccably timed. Consumer protection in FINREG will make the most profitable full-service brokerage products obsolete. Again, without a series of “got-you” products to sell, it would be much harder for each customer to pay their own way.
JP Morgan framed the quandary with the anecdote “if a restaurant can no longer charge for the Coke (KO), they will have to charge more for the burger.” Trouble is in banking just like the internet, most customers are used to getting the burger for free. Interest rate margins like advertising in the internet parallel are not pulling their weight, and fees are no longer working in either universe.
The banks all said that they are working on strategies to redistribute fees, so that all customers will be profitable and the total fee income will be sustained. But in the short term revenue declines are inevitable. None of the banks would answer how the redistribution would be modeled in detail, though analysts tried their best to prod.
JP Morgan gave a few hints in the credit/debit card arena. Merchants might be required to keep compensating balances to replace interchange fee reductions and even basic card customers might face annual fees. A few banks talked about monthly fees for retail bank accounts along the lines of utility bills.
The conclusion that I came to was that after the crash, there’s far less to sell in the mega banks stores and they have yet to figure out how to cover the cost of these vast branch networks. They are like deer in the headlights praying for the Fed raises interest rates to save them. Perhaps, Citigroup has by sheer luck turned into a princess.
Disclosure: Author is long BAC, C and WFC.