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Summary

  • The trend in revenues and the profitability of the bank does not paint a pretty picture.
  • Increase in the provisions for loan losses indicates deterioration in the asset quality.
  • The fall in the services revenue is alarming, which has fallen by more than 13%.

The banking sector is going through a critical phase, and most of the participants have lost value due to different reasons. JPMorgan (NYSE:JPM) has lost around 11% during the last month. Similarly, Bank of America (NYSE:BAC) and Wells Fargo (NYSE:WFC) have also lost around 11.4% and 1%, respectively. All these banks have their own reasons for the fall - BAC's stock has taken a hit due to the accounting error by the management and the ongoing litigation issues. The stock price of JPM plummeted due to the unexpected first quarter earnings release of the company. JPM missed the earnings estimates for the quarter and announced further decreases in earnings for the second quarter, leaving investors curious about future growth.

Earnings: A Deeper Analysis

The core income source for a bank is its interest income - as financial institutions take deposits and lend out that money for interest. However, the services revenue has also become very important for financial institutions over the years. It is evident for JPMorgan in the image below that the non-interest income is higher than the interest income, the core earnings for a bank.

JPMorgan reported a lower net interest income in the first quarter due to a decrease in the net revenue in the consumer and community banking segment. The result was also not different from the last year's performance in which the company reported a significant decrease in the net revenues due to lower mortgage fees and related income, net interest income, and securities gain. However, the non-interest income has shown a slight growth compared to the last quarter.

An important figure here is the provision for credit losses, which has increased substantially from the last year. Compared to the last quarter, this figure paints an even more worrying picture as the provision for credit losses stands at $850 million, compared to just $104 million for the last quarter. This massive increase in the provision indicates an alarming situation for JPMorgan in the coming quarters, since it indicates the strength of the loan portfolio and the credit quality of the bank.

(click to enlarge)

Source: JPMorgan First Quarter Earnings Supplement

Investment banking and lending and deposit fees have both shown a downward trend as these fees have come down year-over-year as well as sequentially. On the other hand, asset management and commissions are up year-over-year, but down sequentially. Total non-interest income is down substantially year-over-year (almost $2 billion, or 13%). Similarly, interest income is also down year-over-year as well as sequentially. However, the fall in interest income is not as big as the fall in the non-interest income.

Segmented Performance Overview

Before a segmented analysis of the company, let's take an overview of the quarterly performance. JPMorgan reported revenues of $23.86 billion, which missed the analysts' estimates of $24.49 billion for the first quarter by 2.57%. Also, the quarterly profits of $5.27 billion, with an EPS of $1.28, fell by 19.5% compared to the same period last year. The image below shows the revenue mix over the last few quarters.

(click to enlarge)

Source: JPMorgan First Quarter Earnings Supplement

JPMorgan derives a major portion of its revenues from the Consumer and Community Banking segment, which reported net revenues of $10.46 billion in the first quarter, showing a decrease of almost 10% year-over-over. However, the segment contributed $1.94 billion to the bank's overall profits, with a decrease of 25% year-over-year. The most alarming component in this segment is the increase of provisions for credit losses, which has gone up 49% from the same period last year and 1,034% from the last quarter. The reason for this lower net income is due to the lower net revenue and higher provision for credit losses over the period.

The Corporate and Investment Banking segment's net revenues fell 15.1% to $8.61 billion in the first quarter. However, the revenues increased 43% compared to the last quarter. The provision for credit losses increased 345% from the same period last year and 358% from the previous quarter. Moreover, the net income for the quarter declined 24.1% to $1.98 billion, attributing to the lower revenues in the period.

The Commercial Banking segment showed an improvement in the provisions for credit losses of 88% from the previous quarter and 87% compared to the same period last year. The net revenues for the quarter stood at $1.65 billion with a decrease of 1.2% year-over-year. The segment contributed net income of $578 million, down by 3%.

Revenues from the Asset Management group for the quarter rose 4.9% to $2.78 billion. The most compelling measure in this segment is the provision for credit losses, which decreased 143% from the same period last year as well as from the prior quarter. Moreover, the non-interest expenses increased by 11% from the last year while decreasing 8% from the previous quarter. This is due to the higher headcount expenses and other costs in the segment.

Share Buyback and Dividends

Financial institutions went through the Federal Reserves' stress test recently, which JPMorgan passed, and as a result, was allowed to increase its dividends and share repurchases. JPMorgan's Tier-1 common ratio was 9.5% with the criteria of a minimum Tier-1 common ratio of 5%. Following this, the company has increased its dividends for the current quarter to $0.4 per share from $0.38 during the previous quarter. Moreover, JPMorgan repurchased $400 million worth of stock during the first quarter. The management also authorized share repurchases of $6.5 billion by the first quarter of 2015.

Future Guidance

The company has decreased its revenue guidance for the second quarter, which negatively impacted the stock price. The continued challenging environment and lower client activity levels in the market led the company to forecast a 20% decline in fixed income and equities trading revenues for the second quarter. However, a decline of 20% from the revenues in the same period last year, along with $4.3 billion profits for the first quarter will prove to be the lowest first half results since the financial crisis.

Conclusion

These recent setbacks to the banking sector look to be short term, as the economic growth and the fundamentals of the sector remain strong. As a result of these setbacks, some of the biggest players in the banking sector are trading at a discount. We believe that these challenges are short term, and the JPMorgan should grow its revenues in the medium to long term. At current price levels, JPM is an attractive investment for patient investors.

Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.

Business relationship disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. IAEResearch is not a registered investment advisor or broker/dealer. This article was written by an analyst at IAEResearch and represents his/her personal opinion about the companies mentioned in the article. The article is for informational purposes only and it should not be taken as an investment advice. Investors are encouraged to conduct their own due diligence before making an investment decision. I am not receiving any compensation (other than from Seeking Alpha) for this article, and have no relationship with the companies mentioned in the article.

Source: JPMorgan's Prospects Look Bleak In The Short Term, But Patience May Prevail