Pro Perspectives 10/13/20

October 13, 2020

Two of the "big four" banks reported Q3 earnings this morning. 

Remember, as we discussed going into last quarter's reports, the banks have been primed by Fed and government intervention, to be profit printing machines

The Fed, Treasury and Congress pumped trillions of dollars into the economy to keep consumers and businesses solvent. That's a direct backstop (protection) against loan losses.  And the Fed created tremendous revenue opportunities for the banks. They eliminated the reserve requirement for banks — taking the ratio from 10% to zero.  The banks are incentivized to make an infinite amount of loans.  The Fed is also a buyer of corporate bonds, reducing risk in the credit markets, which has driven record volumes in new corporate debt issuance.  That drives investment banking business at the big banks. And the liquidity deluge from the Fed has created a broad stock market boom, which drives trading revenue. 

So, despite the fragile economy, the banks are probably as low risk as they've ever been, because they will continue to be defended (if need be) by the Fed.

Not surprisingly, both beat expectations on earnings and on revenues for Q3. 

JP Morgan, the biggest bank in the country, made $9.4 billion on the quarter.  That's $2.92 in EPS — a record!   

But that was only a record quarter because last quarter, Q2, they stripped out $8.9 billion and set it aside for "loan loss provisions."  If you add that back, in Q2 the worst quarter in U.S. economic history, JP Morgan really made a record $13.6 billion, on record revenue.

That's a tough pill to swallow (even moreso three months ago) for the tens of millions of Americans sitting at home wondering if they'll keep a job or return to their old job anytime soon.  With that, the bank (and its peers) managed down earnings last quarter, by carving a huge chunk out to for "reserves."

This quarter, with the economy roaring back, both Citi and JPM let most of the earnings flow to the bottom line (they dialed down the loan loss provisions dramatically … just $314 million for Citi on the quarter and $611 million for JPM). 

But here's where it gets very interesting.  Assuming the economic recovery continues, this war chest of loan loss reserves will ultimately become earnings for the big banks, to be realized at their discretion.  That's a lot of earnings to distribute to shareholders.