Why is Wall Street So Bearish Banks?

Yahoo! Finance recently wrote about J.P. Morgan Chase & Co (JPM) and the article illustrates what has become a common and extremely shoddy Wall Street argument for being bearish banks.

Let's be crystal clear, I always try not to fight the tape. It looks like The Street is going to hold hands and pretend like it's a bad environment for banks. I'll go through why that's BS at the end of this post. 

Let's first talk about why I think JPM, in particular, is doing this.

Jamie Dimon, CEO of JPM, complained all last year about how bad the markets were and how terrible the world of banking was. 

Meanwhile, he:

1) Bought a bank, which he's not supposed to be allowed to do.

2) Did it by zeroing out the shareholders and buying only the assets at a ridiculous discount.

3) Reported great quarters all of 2023 and JPM will close the year with the strongest earnings of all time.

I have said since JPM first announced the acquisition of First Republic Bank (FRB) that there is no way that FRB was only $1B in accretion if Silicon Valley Bank (SIVB) was $10B in accretion. Further, it was extremely strategic and done at a hugely positive value to the bank.

Hence, Dimon has to sell to the world that the bank failures in 2023 didn't result in the biggest payday ever and solidification of JPM as the ultimate winner, to avoid undue scrutiny.

To remind everyone of what I said last year:

FRB shareholders got zero and JPM not only took $1B in immediate gains, they've taken that every quarter since and the Yahoo! Finance article signals they will do it again!

That FRB shareholders haven't sued at this point is actually amazing. But it’s possible they would lose in court given it was done during a bank emergency.

Here are the arguments Wall Street is presenting and why they are shoddy at best. The article describes 3 things:

1) Rate decreases hurt banking: That's a first! Since when does lowering rates, steepening the curve, and stimulating greater duration activity hurt banks? I mean, if that isn't an example of “Let's-just-make-sh*t-up and try to sell it to the common folk!”, I don’t know what is. The fact is you can't know what the curve will do because the market establishes the shape. Also, it's not about the absolute rate, it's about the spread and what you can charge. Right now, they are charging a lot because they don't want to lend. So, if you then lower rates, you increase that spread in an environment where only a small number of banks have the balance sheet to lend. Meaning... You can charge the same, but with a bigger spread!

2) All of the gains from acquiring FRB have been realized in 2023. We'll know if that's true after earnings are reported. My guess is even if they take the rest of the gain, there is still some accounting-related accretion, merger savings, and longer-term strategic benefits. First Citizen’s Bank (FCNCA) believes the accretion on SIVB is close to $10B (whose balance sheet was worse than FRB) and JPM isn't anywhere near having taken that yet.

3) FDIC charges. Possibly. We'll find out. But a quick look at last year's gains and all of us can safely say, Mr. Dimon, you're good for it.  

What did the article ignore?

1) The steepening of the yield curve. We've thus far been working with an inverted one, which is very hard to monetize.

2) Balance sheet improvements. FRB had a liquidity problem not a bad credit problem. 

3) Liquidity in capital markets. Banking and debt capital markets is a huge profit center. Last year was a truly dismal environment for it. Turns out that lowering/stabilizing rates helps this environment.

The crazy thing is the article also ignores the things that do hurt JPM that won’t affect other banks:

1) JPM cannot buy any other failing banks at a discount. Given its size, they won't likely be allowed to do so again. 

2) It's all about keeping deposits. JPM never truly increased what they pay for deposits and have signaled they might lose a small amount as the banks stabilize. 

Meanwhile, other big banks seeking growth will also benefit next year as rates decline and may also be able to look to acquisition.

Finally:

1) The banking crisis hurt smaller banks more than large banks, creating a buyer's market.

2) Lower rates benefit held-to-maturity which has been a major reason the banks have not been able to lend as much as before.

3) A lower rate environment makes it easier and safer for banks to lend and borrow. If consumer credit holds up, then larger banks can take advantage of increased liquidity to buy smaller distressed banks.

4) Since buying banks is simply buying the assets, you could mark all those “bad” assets down based on the discounted acquisition price, while for the most part, the underlying assets are still sound credit risks and will not default.  

I don't have large banking exposure right now but I will be watching to see how this progresses. I currently have a position in SOFI, and will discuss why in a future post. 

However, before I consider new positions in the banking industry, I'd like to understand why a one-sided, highly uncertain argument is dominating Wall Street and the financial media.