Wells Fargo Slumps as Lower Revenue Mars Record Profit

Wells Fargo Posts Higher Net Income
Customer use automated teller machines at a Wells Fargo & Co. bank branch in New York. Photographer: Jin Lee/Bloomberg

Wells Fargo & Co., the largest U.S. home lender, led decliners among bank stocks after reporting that third-quarter revenue declined and margins narrowed.

Investors focused on a 6 percent decline in revenue from a year earlier to $19.6 billion. That missed the $20.2 billion estimate of analysts as low interest rates cut into profit on loans, according to a statement by the San Francisco-based bank.

“Given this low-rate environment, I think investors are very focused on direction of bank margins, and Wells was a little bit weaker than expected on the net interest margin,” David George, a bank analyst at Robert W. Baird & Co. in St. Louis, said in an interview with Betty Liu on Bloomberg Television’s “In the Loop.”

Chief Executive Officer John Stumpf, 58, is focusing on costs as the 9.1 percent U.S. jobless rate and slow economy keep borrowers on the sidelines. Stumpf’s Project Compass aims to reduce expenses about $1.5 billion a quarter by the end of next year. Rivals including Bank of America Corp. are cutting employees, and Wells Fargo said it plans on “streamlining” some staff functions.

Stock Declines

The bank fell 8.4 percent to $24.42 at 4:15 p.m. in New York trading. It was the biggest drop since August, and Wells Fargo led decliners in the Standard & Poor’s 500 Financials index and the KBW Bank Index.

Profit for the three months ended Sept. 30 rose 22 percent to a record $4.06 billion, or 72 cents a diluted share, from $3.34 billion, or 60 cents, in the same period a year earlier, according to the statement. Pretax, pre-provision income, used by analysts to filter out the impact of some one-time gains and losses, was little changed at $7.95 billion from $7.91 billion in the preceding three-month period,

The company’s net interest margin, the difference between what it pays to borrow and what it earns on loans and securities, narrowed to 3.84 percent from 4.01 percent in the second quarter, the company said. About 0.12 percentage points of the change was attributed to $41.8 billion in new deposits invested in short-term assets.

Weak Economy

“The economic recovery has been more sluggish and uneven than anyone anticipated,” Stumpf said in the statement. “We can’t change the economic environment, yet we have worked hard to control the variables we can.”

The company set aside $1.8 billion to cover loan losses, with net loan write-offs of $2.6 billion, for a pretax reserve release of $800 million. Nonperforming assets declined to $26.8 billion from $27.9 billion in the preceding quarter.

Wells Fargo reported $1.83 billion in mortgage banking revenue, a 13 percent gain from the second quarter, with a 40 percent increase in mortgage originations to $89 billion. The value of the mortgage servicing business declined 16 percent to $12.4 billion, the bank said.

“There is a view that the mortgage numbers were good but could have been better, but part of that is just timing,” Chief Financial Officer Timothy J. Sloan said in an interview. “We ended the quarter with a really strong pipeline.”

The company’s mortgage servicing portfolio will grow as the lender makes more home loans, he said. While management doesn’t “have any plans to go out and buy somebody’s servicing portfolio” they’d look at a business if it were priced attractively, Sloan said.

Mortgage Servicing

Mortgage servicing involves billing and collections and, when homeowners don’t pay, foreclosures and evictions. Record U.S. defaults and home seizures have driven up costs for mortgage servicers and made the contracts less profitable, triggering writedowns that cut into net income.

Stumpf must contend with Federal Reserve policies aimed at lowering the cost of loans for businesses and consumers. The average rate on a typical 30-year mortgage fell to a record 3.94 percent earlier this month, according to housing-finance firm Freddie Mac.

While the decline in interest rates may stimulate the economy, it’s squeezing profit margins for banks. Wells Fargo may be able to counter by lowering its cost of deposits, David Hilder, an analyst at Susquehanna Financial Group LLLP, wrote in an Oct. 7 note.

On top of that, banks need to replace revenue chipped away by new financial rules, including about $8 billion attributed to federal caps on what lenders can charge merchants for debit-card transactions.

Debit Cards

Wells Fargo has ceased all debit-reward programs and is testing a $3 monthly fee in some markets to replace lost revenue. Bank of America’s plan to charge customers $5 a month sparked objections from critics including President Barack Obama, and five House Democrats asked Attorney General Eric Holder on Oct. 13 to investigate whether banks and their trade groups colluded on decisions to impose new fees.

The bank repurchased 22 million shares in the quarter and another 6 million through a so-called forward repurchase transaction that will close by the end of the year. The firm’s biggest shareholder is Berkshire Hathaway Inc., the insurer run by billionaire Warren Buffett.

“Look at how much financials in general have sold off this year,” said David Kelly, who helps oversee $408 billion as chief market strategist for JPMorgan Funds in New York, said in an interview on Bloomberg Television’s “In the Loop.” “Unless you’re assuming Armageddon next year, I think financials, as a sector, looks pretty cheap.”

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