New Normal for Bank Earnings

04/27/2012 11:00 am EST

Focus: STOCKS

Jim Jubak

Founder and Editor, JubakPicks.com

MoneyShow’s Jim Jubak reviews the recent earnings reports from the banks, and shares his conclusions on what this may mean for the economy as well as bank stocks going forward.

We have had a lot of earnings reports from banks by the middle of April. We have had big banks like Citibank (C) and JPMorgan Chase (JPM) and Wells Fargo (WFC) report. We have had some of the super-regionals like US Bancorp (USB) and PNC Financial (PNC) report. Goldman Sachs (GS)…

It is enough to address the question of well, what is the new normal? We have had a recovery in bank stocks, we have had a recovery in the banking industry, but from all of these early returns, it looks like back to normal means less profitable than it used to be.

If you are looking at a bank that was making a return on equity of 20% or 22%, they are now aiming for 15 or 16%. If they were getting 16% before, now they are aiming for 10%. Everything seems to be ratcheted down.

Some of that is because of new regulations, but mostly it is because you have had a lot of damage to the underlying business. Also, the markets aren’t really supporting profits. If you don’t have a trending market, it is harder to trade and make a profit in a market where it is hard to figure out where things are going next.

You have had a slowdown in M&A deals, which means fewer fees. You have had a slowdown in IPOs. In areas where you haven’t had a slowdown, you have had more competition.

Asian banks, which weren’t as damaged as developed country banks were in the financial crisis, have entered a lot of these markets, so that depresses fees as well as means that the big New York and London money-center banks have to fight for share. All these things internationally mean that those parts of the big bank business has gotten less profitable.

Nationally, what you are seeing is a loss of market share, so for example, Bank of America (BAC) seems to be losing market share in the mortgage business to the smaller but still big regional banks that weren’t as damaged during the financial crisis. That means that again, there is more competition in that business. People fighting for market share means lower fees, lower profits.

All of that seems to be adding up to a problem with profit, especially when you look at how the banks need to raise more capital because of Basel III and regulators’ rules. So if you are looking at a return on equity where your return is falling at the same time as the equity that you have to raise is going up, it means that that ratio is looking smaller and smaller.

The banking industry may be back. The bank stocks may be back. But going forward, it is wise to try to put a value on these stocks that is predicated on long-term, the banking industry being less profitable than it used to be.

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