Despite warnings signs of a possible recession, the American consumer is still swiping cards, driving new cars, and buying up houses, helping to boost the banking sector in the most recent quarter, according to earnings season reports released this week.
“The strength of the large bank results today is on the U.S. economy and the U.S. consumer,” said Ken Leon, director of equity research at CFRA.
Executives at JPMorgan Chase and Citigroup attribute better-than-expected results to growth in these consumer-facing activities like credit card and car lending.
But Goldman Sachs posted a rare earnings miss, highlighted one major risk the sector faces: an overhyped and overinflated IPO market.
Chase reported quarterly earnings of $2.68 a share, beating analyst expectations, and quarterly revenue grew by 8 percent. The bank said growth in credit cards, home loans and auto lending was robust despite a slowing economic growth rate.
“The consumer remains healthy with growth in wages and spending, combined with strong balance sheets and low unemployment levels,” Chase CEO Jamie Dimon said in a statement.
Citigroup announced earnings per share that, at $1.97, were two cents higher than analyst consensus. The North American credit card market was a bright spot, the bank said, with 11 percent growth “primarily driven by continued growth in interest-earning balances.”
Although Wells Fargo fell short with third quarter earnings that missed analyst expectations and a 23 percent drop in net income, it highlighted mortgages, car loans and credit card borrowing as bright spots, saying that general-purpose credit card sales were up 5 percent year-over-year.
“The U.S. consumer is certainly pulling the U.S. economy along and really pulling the global economy along,” said Scott Wren, senior global equity strategist at the Wells Fargo Investment Institute. “Clearly, if the consumer’s able to borrow and spend, which they have been doing, in financial services you’re going to see some good numbers,” he said.
“The residential real estate market in most parts of the country is still pretty good,” Wren added, a dynamic that means more home loan business for banks as well as a “wealth effect” that boosts consumers’ willingness to spend.
But while consumers are willing to spend, businesses are more circumspect. Chase’s Dimon noted, “weakening business sentiment and capital expenditures mostly driven by increasingly complex geopolitical risks, including tensions in global trade.”
Along with corporate America largely confining itself to the sidelines, another key challenge banks face today is that of low interest rates, which cuts into profitability by reducing the spread between what banks pay to depositors and what they charge borrowers, a metric known as net interest income.
Low interest rates — which could fall further depending on future Fed activity — puts pressure on banks to seek out higher-earning assets, even if those are unproven or riskier than they might prefer.
“Low rates have led to excessive valuations of a whole range of financial assets. The low-rate environment has magnified the effects,” said banking consultant Bert Ely. “The problem is not just low rates, per se, but the fact that they’ve gone on for so long.”
Industry observers see evidence of this in the IPO market. Most notably, Goldman Sachs suffered from its exposure to WeWork, with Morgan Stanley analyst Betsy Graseck suggesting that the investment bank — which has been working to expand its consumer-oriented businesses — could be forced to write down $264 million based on its 1.4 percent stake in the troubled company.
Ely said WeWork’s highly visible reversal of fortune should serve as a wake-up call, and suggested that banks wanting to avoid Goldman Sachs’ mistake are going to scrutinize their IPO market participation more closely.
“Valuations have just gotten out of hand relative to how these startups are doing relative to earnings. I keep thinking back to the dot-com days,” Ely said.
“I think it’s safe to say, going forward, the IPO market is going to be a little dicey,” Wren said. “There may be a little bit more of a desire for companies that are actually making money right now.”