Earnings Season Kickoff: JP Morgan Shines, Challenges Ahead for US Banks

US earnings season has kicked off with 3 major US banks beating earnings expectations. Stock reaction was muted to negative but what does this mean for US bank stocks ahead? Three insights:

1) Net interest income growth was key driver for outperformance and JP Morgan was the clear winner so far.

"Net interest income" (NII) is the difference between the interest income a bank earns from its lending activities and the interest it pays to depositors. This is one way how banks make money in a rising interest environment. When we look at all 3 banks they all benefitted from higher interest rates and are offering an outlook with higher net interest income for the rest of 2023 given there is still likely another interest rate hike potentially ahead.

JP Morgan got a further boost by purchasing troubled bank First Republic Bank which it said added US$2.4 billion to its US$14.5 billion net income (profit) for Q2 which was up +67% from last June. This has some investors reacting by questioning "what recession?"

2) US Banks relying more on trading and investing banking income will struggle

Citi was a prime example with its net income (profits) down -36% year on year (YoY) largely in part due to both its trading (-13% in revenue) and investment banking (-24% in fees) division struggling. Citigroup CEO Jane Fraser said "The long-awaited rebound in investment banking has yet to materialize, making for a disappointing quarter...". Morgan Stanley and Goldman Sachs reporting next week may run into similar headwinds so keep a lookout.

3️) But it is not all rosy ahead and we should keep a close eye on smaller US regional banks reporting next week.

The red flag was all 3 banks continued to see outflow in terms of consumer deposits. With consumers able to get over 5% yield on 'cash like' assets like Money Market Funds and shorter term (3-6 month) US treasuries fighting to keep these deposits continue to cut into the US banks' bottom line. State Street the US' 12th largest bank as of Q1 just reported its net interest income fell 10% versus last year and expects it to drop 12-18% in the coming quarter. This will likely hit the US smaller regional banks harder.

But all is not lost with JP Morgan's CEO Jamie Dimon sounding optimistic about the US economy ahead and believes it is 'better than expected'.

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