Core inflation remains elevated creating greater uncertainty to monetary policy path. The 2024 bank outlook is downstream to these uncertainties.
December consumer inflation data (January 11) found headline and core CPI increased 0.3% for the month. Elevated shelter and other non-housing services prices drove the larger than hoped for increases. The implication for 2024 monetary policy path is core inflation remaining at 3.2% on an annualized 6-month trend requires higher restrictive levels for longer to combat. Conflicting projections for 2024 include a market priced target rate 1 ½ points lower with the first quarter point cut in March. This compares to the Fed’s December SEP median Fed Funds lower by just ¾ points at the end of 2024.
A quartet of big banks reported 4Q23 results which included 1 time items such as a large FDIC special assessment. With more than $36B in quarterly pre-provision net revenue (and $165B for the full year) across JPM, BAC, C & WFC, there seems to always be a lot of noise between revenue and the net income line. Still, general sequential quarterly trends were lower non-performing assets, lower net interest income and net interest margin, higher provision expense, modest loan growth, and higher reserve and capital ratios.
I include some comments from Friday’s calls that highlight the environment (my emphasis). First is JPM CFO Jeremy Barnum describing how Fed Quantitative Tightening (QT) will pressure bank funding.
“QT is, obviously, a big focus and one of the complicating elements that we have in the current environment. I think that the math is the math in the sense that QT, all else equal, is withdrawing from system-wide deposits. In the last 6 months of this year, that’s been offset hopefully by a reduction in the size of RRP. And so that’s been supportive of system-wide deposits.
As we go into 2024, RRP is at lower levels, and so that may be a little bit less of a tailwind. But it’s also the case, as you know, that there’s — the market’s expectation is that QT is going to start slowing down at some point this year. So — and we still have reasonable levels of reserves and some cushion from RRP. So that’s part of the reason that our outlook is for deposits to be modestly down, with the shrinkage in system-wide deposits maybe partially offset by our belief that we can take some share. But also, I think the second half of this year is going to be interesting to watch in terms of what the Fed does.”
Barnum added comments about Commercial clients’ sentiment and credit demand.
“I think the main driver there is just a little bit of residual anxiety in the C-suite, which increases as the companies get smaller in size. So there’s really going to be a function of how 2024 plays out. The softer the landing is, the more supported the utilization should be, I would think. If things turn out a little bit worse, I think management teams are going to be incrementally more cautious about CapEx and so on, and so you might see utilization even lower.”
JPM CEO Jamie Dimon elaborated on earlier comments more specific to the Consumer outlook in 2024. The large excess saving from lockdown era policies have been depleted but spending so far has remained unchanged. How the labor market develops will likely determine credit costs in the Consumer book.
“The economic outlook has evolved to include a significantly higher probability of a soft landing. That’s, I think, the consensus at this point. So whether you believe it or not is a separate issue, but I think that is the consensus. In terms of consumer resilience, I made some comments about this on the press call. The way we see it, the consumers find all of the relevant metrics are now effectively normalized. And the question really, in light of the fact that cash buffers are now also normal, but that means that consumers have been spending more than they’re taking in, is how that spending behavior adjusts as we go into the new year, in a world where cash buffers are less comfortable than they were.
So one can speculate about different trajectories that could take, but I do think it’s important to take a step back and remind ourselves that consistent with that soft landing view, just in the central case modeling, obviously, we always worry about the tail scenarios, is a very strong labor market. And a very strong labor market means, all else equal, strong consumer credit. So that’s how we see the world.”
In general, I believe the negative Commercial Real Estate headlines as a dire consequence for the banking system as a whole are wildly over hyped. However, stress in various CRE segments is real, particularly dense urban office. On the Wells Fargo call, CFO Michael Santomassimo updated how office CRE impacted the quarter and will continue to develop in 2024.
“Net loan charge-offs increased up 17 basis points from the third quarter to 53 basis points of average loans, driven by commercial real estate office and credit card loans. The increase in commercial net loan charge-offs reflected the higher losses in commercial real estate office, while losses in the rest of our commercial portfolio were stable in the quarter. As expected, losses started to materialize in our commercial real estate office portfolio as market fundamentals remain weak. The losses were across a number of loans spread across various markets and were driven by borrower performance, lower appraisals were the result of properties or loans being sold at a loss.
We substantially built reserves for this portfolio throughout 2023 as criticized and nonperforming assets increased. And while we expect additional losses in the coming quarters given the market fundamentals, and capital markets and liquidity challenges in this sector, the amounts will likely be uneven and episodic.”
Several executives at the companies made the point that rate cuts will broadly reduce NII as the banks remain Asset sensitive overall. The offset to some of this is capital markets businesses which are expected to accelerate as monetary policy is eased. When asked about Global Markets NII, BAC CFO Allistair Borthwick commented that rate cuts would be expected to benefit this business.
“If you look at Global Markets in any given quarter it moves around just based on the customer behavior. But over the long arc, if you look over the course of the past 2 or 3 years, it’s liability sensitive. So I’d expect if you see rate cuts that will benefit Global Markets NII, just a little bit. And you can almost like, if you think about just retracing the steps of what they’ve conceded in NII, you’d sort of expect to get that back over time.”
Overall, the early results have left bank equity market direction mostly unchanged. With the Fed policy path uncertainties and the soft landing scenario mostly reflected in prices, I believe we’ll need something different from the regional and community banks to generate positive EPS revisions to extend the late year rally.