JPMorgan Chase Earnings – Behind the Headlines
Chad is a member of The Motley Fool Blog Network -- entries represent the personal opinion of the blogger and are not formally edited.
As a shareholder of JPMorgan Chase (NYSE: JPM), I was understandably concerned when the company reported a large trading loss, initially thought to be over $2 billion. So the company's most recent earnings report is of particular interest to me, and because of the size of this institution, the company's earnings can tell us a lot about the economy as well. While the headline numbers were not as bad as some people expected, looking at the earnings report in more detail, reveals that JPMorgan has some strength in areas that people might not expect.
Headline Earnings & CIO
First, let's take a look at those headline numbers. Revenue was down 16%, net income was down 9%, and earnings per share came in at $1.21. After adjustments, this EPS performance was better than analysts expected. One reassuring note, is the trading loss seems to be isolated to CIO. This division has a $323 billion available for sale portfolio with nearly $8 billion of net unrealized gains on the books. Behind these headline numbers, JPMorgan has some strong organic growth.
Consumer & Business Banking
One example of JPMorgan's growth is found in the consumer and business banking segment. This division saw average deposits increase 8% year-over-year. This increase was comparable to similar deposit increases at Wells Fargo (NYSE: WFC), and shows either the confidence in the banking system, or customer's fear in placing their money elsewhere. That being said, the company has to fend off new deposit gathering institutions like Discover Financial (NYSE: DFS) that were not real competitors several years ago. The fact that Discover saw total deposits increase 18% to $41 billion, has to be a little disconcerting even to a large bank like JPMorgan. While it's true that Discover is likely attracting these deposits by offering higher interest rates, and thus “buying” this money short-term, this still poses a challenge to JPMorgan trying to grow its balance sheet. There is competition on all sides for deposits, but JPMorgan is still doing its part to assist businesses of all sizes with their lending needs. Business banking loan originations were up 14%, and the company saw commercial banking loan growth of 16%. On the consumer side of the house, the two strongest divisions were credit cards and mortgage.
JPMorgan's credit card division is particularly interesting, because of the difference in focus at the bank versus a few of their competitors. For example, credit card sales volume was up 12% and the bank added over 1.6 million new cardholders. Compare this to American Express (NYSE: AXP), which saw revenue up 9%, and Discover, which saw revenue increase 6%, and you can see JPMorgan is a strong credit card issuer. Even more interesting is, JPMorgan saw some of the strongest merchant services revenue growth in the industry. During the current quarter, processing volume jumped 17%, and total transactions increased 20%. When you compare this to companies like American Express that saw merchant services revenue up 10%, and Discover Financial which also saw revenue up 10%, it seems many businesses are turning to JPMorgan to handle their merchant service processing.
When it comes to mortgage, JPMorgan really set the standard for the banking industry in the last quarter. With mortgage originations up 29%, and mortgage production and servicing income of $604 million compared to a net loss of $649 million last year, it's clear this is one of the company's main focuses this year. In an interesting twist, even with this huge growth, the company was able to cut mortgage servicing expense by 45%. With Wells Fargo only seeing about 1.5% growth in originations, it's a little surprising that JPMorgan is not getting more press for its efforts in the mortgage industry. Looking at the numbers, one question investors might ask is, if JPMorgan is so successful in originating mortgages, what's going on in their traditional loan portfolio?
When the biggest positive about a company's loan portfolio, is that provision for credit losses has dropped tremendously, you know you're coming out of a difficult financial environment. That being said, in order for JPMorgan to have good organic growth going forward, the company is going to need to make more loans to grow its portfolio. Though mortgage originations were up significantly, average mortgage loans were actually down 11%. In addition, average home-equity loans were down almost 11% as well. With only slightly less bad results, consumer loans excluding credit card were down 2%, and credit card loans were flat. In large part because the bank is focusing on low interest rate mortgage loans, and growing deposits, their interest rate spread has compressed over the last year or so. For example, just a little over a year ago, JPMorgan's interest rate spread was about 2.6%, today that same number stands at 2.36%. In order to improve profitability in the future, the bank needs to make higher interest rate loans, which means more focus on lending that is not connected to retail mortgage.
Where Does JPMorgan Go From Here?
Two of the biggest challenges for the bank in the future, will be to adjust to new capital standards, and the backlash from consumers over new fees that had become necessary due to new regulations. Though the recent trading losses certainly hurt the bank's reputation, it appears to be a one-time event and the company has taken steps to avoid this issue in the future. With the bank clearly focused on mortgage originations which generate significant fee income, the next frontier is for the bank to push their consumer and business lending to the next level. Given the JPMorgan's interest rate spread is smaller than several of their competitors, their lending activity will be key to the future of this measure. Even with that as a backdrop, at just 8.28 times 2012 full year estimates, and just over 6.6 times 2013 estimates, the stock appears too attractive to pass up. If the economy continues to recover, JPMorgan will benefit directly. With a dividend yield of over 3%, and future growth in EPS expected at 7%, the risk versus reward ratio looks pretty good to me.
MHenage owns shares of JPMorgan Chase & Co. The Motley Fool owns shares of JPMorgan Chase & Co. and Wells Fargo & Company and has the following options: short OCT 2012 $55.00 puts on American Express Company, short OCT 2012 $60.00 calls on American Express Company, long OCT 2012 $65.00 calls on American Express Company, short APR 2012 $21.00 puts on Wells Fargo & Company, short APR 2012 $29.00 calls on Wells Fargo & Company, short OCT 2012 $33.00 puts on Wells Fargo & Company, and short OCT 2012 $36.00 calls on Wells Fargo & Company. Motley Fool newsletter services recommend American Express Company and Wells Fargo & Company. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.If you have questions about this post or the Fool’s blog network, click here for information.