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Markets discount Wells Fargo Q3 results
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Wells Fargo posted some pretty nice results for its third quarter this week, and Wall Street seems unimpressed.
Wells reported what it called “record profits” of $3.24 billion, or 56 cents a diluted share, up from $1.64 billion, or 49 cents (on a smaller number of shares), a year earlier. The bank attributed the good results in part to less-than-expected loan losses on the dreaded “pick-a-pay” portfolio inherited from Wachovia, and to significantly lower expenses incurred than anticipated from merging Wachovia operations into Wells. Yet, the stock dropped in trading the day of the announcement, even as other bank stocks went up. Indeed, leading analyst Richard Bove of Rochdale Securities downgraded Wells' stock to "sell".
Chalk it up to lingering doubts
Here are some issues that may be weighing on analytic minds that are paid to think about such things:
- Wells has yet to repay the U.S. Treasury its TARP funds, funds they said they didn’t want or need when “forced” to take them a year ago.
- Wells is one of the two biggest players in the mortgage market, having a hand in over a third of all mortgages done in this country, and so would be exposed to a slow-down when rates rise. It wouldn’t take much of a rise to choke off the refinancing activity going on in 2009. And after a while, all those homeowners who can qualify for a refinance will have gotten one, further crimping volume unless the purchase market really comes back strongly (a big ‘if’.)
- Tim Mankus, the SVP in charge of Wells’ mortgage trading desk, has been let go, which raises concerns about the reasons for that.
- The Big Results are also a one-off jump based on the Wachovia merger. Comparative results a year from now will be a better indicator of how the merger went.
Look behind the headline
In fact, there is some good news in the results:
- Wells seems to be doing a decent job of retaining Wachovia deposits (they report $22 billion out of $38 billion of maturing CDs kept, about a 58% retention rate.) These retention rates are higher than I expected. I was anticipating something under 50%, based on what has happened in past bank mergers.
- The bank is capitalizing on the Fed-engineered home loan refinancing wave, and the low interest strategy is even helping those poor souls in the “Pick-a-Pay” option ARMs World Savings dumped on Wachovia. One safety valve built into the Pick-a-Pay loan that is not in any other option ARM (like those Chase inherited from Wamu) is that their first recast date is in year ten, not five. So if the loan balance is below 110% of the original home value, such borrowers have more breathing room. Plus, recasts at today’s low interest rates (the popular COFI and CODI indicies remains near record lows) are going to be bearable for more borrowers, even at the ridiculous 3-4% margins most of those loans carry.
Plus, what other major bank had a net positive income number against their retail/commercial banking operations? Chase got by on investment banking returns, BofA failed to post a profit at all. Regional banks have been a mixed bag, too. Fifth Third Bank back in Cincinnati posted a loss this week, for instance, along with Sun Trust Bank. Both losses were driven by loan loss provisions.
We are not out of the woods yet in this recovery, notably with the looming overhang in commercial real estate lending still to fall. Yet Wells seems to have a better handle on their banking operations than others, so a kudo or two to them for the moment. Next year’s number will tell a more accurate tale on whether the puffed chests of the moment have been truly earned.
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