US banks brace for shrinking profits and recession

NEW YORK, Jan 10 (Reuters) – U.S. banking giants are expected to report lower fourth-quarter earnings this week as lenders stock up on rain funds to prepare for an economic slowdown hitting investment banking.

Four American banking giants – JPMorgan Chase & Co (JPM.N)Bank of America Corp (BAC.N)Citigroup Inc (CN) and Wells Fargo & Co (WFC.N) — will report earnings on Friday.

Together with Morgan Stanley (MS.N) and Goldman Sachs (GS.N), they are the six largest lenders expected to build up a combined $5.7 billion in reserves to prepare for failed loans, according to Refinitiv’s average forecast. That’s more than double the $2.37 billion set aside a year earlier.

“With most U.S. economists forecasting either a recession or a significant slowdown this year, banks are likely to include a tougher economic outlook,” Morgan Stanley analysts led by Betsy Grasek said in a note.

The Federal Reserve is raising interest rates aggressively in an attempt to tame inflation near its highest level in decades. Rising prices and higher borrowing costs have prompt users and enterprises to limit their spending, and because banks serve as economic intermediaries, their profits fall when activity slows down.

The six banks are also expected to report an average 17% drop in net profit in the fourth quarter from a year earlier, according to preliminary estimates by analysts at Refintiv.

Reuters Graphics

Still, lenders stand to gain from rising interest rates that allow them to earn more on the interest they charge borrowers.

Investors and analysts will focus on comments from bank chiefs as an important indicator of the economic outlook. A parade of executives have warned in recent weeks of a tougher business environment that has prompted firms to slash compensation or eliminating jobs.

Goldman Sachs will start firing thousands of employees as of Wednesday, two sources familiar with the move said Sunday. Morgan Stanley and Citigroup, among others, also cut jobs after a decline in investment banking activity.

The moves come as Wall Street traders involved in mergers, acquisitions and initial public offerings face a sharp decline in business in 2022 as rising interest rates roil markets.

Global investment banking revenue fell to $15.3 billion in the fourth quarter, down more than 50% from the previous quarter, according to data from Dealogic.

Consumer business will also be a key focus in the banks’ results. Household accounts have been propped up through most of the pandemic by a strong labor market and government stimulus, and while consumers are generally in good financial shape, they are increasingly falling behind on payments.

“We are emerging from a period of extremely high credit quality,” said David Fenger, senior vice president, financial institutions group, at Moody’s Investors Service.

At Wells Fargo, the fallout from the fake account scandal and regulatory sanctions will continue to impact results. The lender expected to take a charge of about $3.5 billion after that agreed to settle allegations of widespread mismanagement of auto loans, mortgages and bank accounts at the US Consumer Financial Protection Bureau, the watchdog’s largest civil penalty to date.

Analysts will also be watching for banks such as Morgan Stanley and Bank of America to record write-downs on the $13 billion loan to finance Elon Musk Twitter purchase.

More generally, the KBW index (.BKX) of banking stocks is up about 4% this month after sinking nearly 28% over the past year.

While market sentiment has taken a sharp turn from hopeful to fearful in 2022, some big banks could weather the worst forecasts as they shed risk-taking activities, writes Susan Roth Katzke, an analyst at Credit Suisse.

“We see more sustained earnings power through the cycle after a decade of de-risking,” she wrote in a note. “We cannot dismiss the fundamental force.”

Reporting by Saeed Azhar, Niket Nishant and Lananh Nguyen Editing by Nick Zieminski

Our standards: Thomson Reuters Trust Principles.

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