Investors Guide to Banking Reports: The Four Most Important Details to Look For

 Ron.Moss
 
  Ron.Moss
 
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•  Apr 13 2023
   
•  76
 

Following the collapse of Silicon Valley and Signature banks, as well as the nationalization-sale of Credit Suisse bank to UBS in Switzerland, the upcoming report season on Wall Street will commence tomorrow. Major banks JP Morgan, Wells Fargo, and Citibank will be reporting, with Goldman Sachs, Morgan Stanley, and Bank of America expected to report next week. Regional banks First Republic and PacWest will report the week after.

Although there are concerns about the stability of the banking industry, it is not believed that the large banks will fail as they are currently financially sound. However, the stock market has seen a significant decrease in bank stocks, with the SPDR S&P and KBW Nasdaq Bank indices falling by 27% and 19%, respectively. It is important to note that there is a possibility of bank failures, as seen in the aftermath of the 2008 crisis when nearly 500 banks collapsed, mostly small ones. Nevertheless, Warren Buffet, the Oracle of Omaha, believes that people should not worry about losing their money in American banks, as the mistakes of a few managers should not be blown up into a scandal affecting all citizens. Overall, it seems unlikely that the entire banking system is on the verge of collapsing.

What Will Investors Focus on in the Upcoming Report

Balance Sheet Health

Typically, investors tend to focus on the banks' bottom line when reviewing reports, but this upcoming season, attention is likely to shift towards the banks' balance sheets due to the impact of rising interest rates. At the end of 2022, the banks' bond portfolios had unrealized losses of around 620 billion dollars. It's worth noting that these "paper losses" won't become actual losses unless the banks are forced to sell assets at a loss to meet liquidity requirements. Following the collapse of two banks, the Fed established funding frameworks to make it easier for banks to access liquidity. However, investors are still keen to see healthier balance sheets, with a particular interest in deposit levels, recent loans from the Fed, and available cash.

Loan Growth

Following the interest rate hike and investors' concerns regarding bad loans, banks may reduce their lending activities. Although lending is a crucial aspect of their business and a primary source of revenue, banks are wary of being perceived as offering subprime loans, particularly when under close scrutiny from investors. Consequently, it is possible that banks have reduced their lending activities, which may be reflected in their upcoming reports. While most analysts do not anticipate a decline in loans, there is a possibility of a slowdown in loan growth as long as interest rates remain high.

Interest Income

With fewer new loans, banks may not fully benefit from the central bank's interest rate hike, and their financing costs may increase. Typically, when interest rates rise, banks increase the interest rates on their loans more quickly than the interest on deposits, which helps to maintain profitability. However, there is a risk that depositors may withdraw their funds from the banks in search of higher-yielding investment options. Additionally, there is a possibility that the cash reserves held by the banks may decrease. In such cases, banks could lose their source of low-cost funding, which could lead to further financial challenges.

Credit Losses

The recent hike in interest rates has made it challenging for the public to meet their loan repayments. This was evident during the COVID-19 pandemic, where banks had to increase their provisions for credit losses, which impacted their financial results and caused a decline in their stock prices. However, in 2021 and 2022, banks were able to reverse these provisions and recognize the income, leading to a significant increase in their profits. Currently, there is concern that the banks may once again need to increase their provisions for credit losses, resulting in a decline in their profits, particularly if a recession is on the horizon. The accounting standard for expected credit losses adds to the volatility of the banks' reports since they are required to record expected losses in advance.

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Please note that the article should not be considered as investment advice or marketing, and it does not take into account the personal data and requirements of any individual. It is not a substitute for the reader's own judgment, and it should not be considered as advice or recommendation for buying or selling any securities or financial products.

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