By Liz Hoffman
Bank stocks reached their highest point in nearly 10 years on
Wednesday, building on postelection gains that reflect hopes firms
will soon shake free the shackles of stringent regulation, superlow
interest rates and sluggish economic growth.
The KBW Nasdaq Bank index, a measure of 24 of the biggest U.S.
bank stocks, rose more than 3% to touch its highest level since
late 2007. The gain, which followed President Donald Trump's
address to Congress on Tuesday night, brought its rise since Nov. 8
to about 32%. The index has outperformed the S&P 500 by around
20 percentage points during this time.
Among big banks, Bank of America has led the charge higher. It
is up 50% since the election; on Wednesday the stock gained
3.6%.
Investors aren't the only ones who believe the outlook for banks
has changed drastically -- and for the better. Bank executives
themselves are now looking to reinvest in their businesses rather
than just hoping to return more capital to shareholders. That is a
big change from recent years when executives were mostly in a
defensive crouch.
"We have the capacity to increase our balance sheet if the
opportunity presents itself," Morgan Stanley finance chief Jonathan
Pruzan told analysts earlier this year after the firm's
fourth-quarter earnings report. "That's certainly an opportunity
that we haven't seen in the past."
Granted, banks' financial results haven't yet shown actual
gains. Among the six biggest U.S. banks, for example, only J.P.
Morgan Chase & Co. and Wells Fargo & Co. posted returns on
equity for 2016 that exceeded the 10% level that investors
generally consider to be a bank's cost of capital.
Lighter regulation that allows banks to hold less capital could
help to bolster those returns, though. And analysts are already
forecasting increased profitability.
Analysts' earnings-per-share expectations for 2018 for the six
big banks have increased, on average, by about 11% from the end of
October to the end of February.
Reflecting this optimism, J.P. Morgan executives on Tuesday
struck a bullish tone at the bank's annual investor day. And while
the bank continues to focus on returning capital, Chairman and
Chief Executive James Dimon noted growth is a priority. "The most
important thing we do, bar none, is investing in our own businesses
and the opportunities are everywhere to do better services, better
profit-creating processes and more vision," he said.
J.P. Morgan also said its balance sheet, which stood at $2.49
trillion at the end of last year, is likely to increase to about
$2.6 trillion by the end of 2017. In recent years, the bank mostly
had held assets steady, or in some years reduced them.
At Morgan Stanley, the balance sheet has shrunk to about $800
billion today from more than $1 trillion in 2007. The biggest cuts
at the firm have come in its trading and banking divisions, whose
share of total assets has fallen more than 18 percentage points
over the past decade.
Granted, if Mr. Pruzan wants to start growing the balance sheet,
he will have to have capital. But that is one thing Morgan Stanley
has plenty of: Keefe, Bruyette & Woods analysts estimate the
firm is holding 10% more capital than it needs to pass the Federal
Reserve's annual "stress test," the highest proportion of any big
bank.
Mr. Pruzan isn't alone. Retained earnings at the six largest
U.S. banks have doubled over the past five years and now make up
62% of combined total shareholders' equity, up from 44% in
2010.
"For a few years, the story on capital was 'when can you return
it?' but that's because there was no business opportunity to put it
to use," UBS Group AG analyst Brennan Hawken said.
Pivoting to growth mode will pose a test for bank executives.
While investors would welcome opportunities that bolster returns,
firms are still under pressure not to fritter capital away on pipe
dreams. And large-scale acquisitions, often a favorite way for CEOs
to put capital to work, are still unlikely at firms labeled
"systemically important" to the financial system.
But there are other ways to invest. Much as retailers can revamp
their supply chain, build new factories or open new stores, banks
-- whose business is refining raw financial products such as cash
and simple securities into finished, more complicated ones -- can
invest in each leg of the process.
That could include dangling incentives to lure new customer
deposits, greenlighting riskier trades, making more loans or
purchasing "smart" ATMs in branches. The latter, at up to $100,000
apiece, are exactly the kind of expenses banks were once eager to
avoid.
One tantalizing opportunity is on trading desks, which have been
slowly starved of capital in recent years. The value of financial
instruments held by Goldman Sachs Group Inc., for example, has
fallen by one-third since 2012, even as asset prices have risen.
Smaller portfolios make it harder for traders to meet client
demand; day to day, it means they say "no" more often than they
once did.
Speaking on his bank's earnings call last month, Goldman's
current finance chief, Harvey Schwartz, talked of the choices that
will face his successor, R. Martin Chavez, who will take over as
chief financial officer in April.
"If he has the chance to deploy capital back to our clients, not
to return as much to shareholders, grow risk-weighted assets, those
are the environments that we thrive in," Mr. Schwartz said.
"Ultimately, that's our preferred way to deploy capital."
At Citigroup Inc., CEO Michael Corbat said in January the bank
was looking to invest in its core businesses. He singled out
upgrading "tired" branches in Mexico and increasing its deposits
and trading from hedge funds, a business that can weigh heavily on
a bank's balance sheet.
"It's things that we need to do," he said. "We think we've got
the ability not just to maintain but to grow share and to grow
profitability."
--Emily Glazer contributed to this article.
Write to Liz Hoffman at liz.hoffman@wsj.com
(END) Dow Jones Newswires
March 02, 2017 02:47 ET (07:47 GMT)
Copyright (c) 2017 Dow Jones & Company, Inc.
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