Can Other Banks Match JPMorgan?

JPMorgan Chase's third-quarter earnings topped Wall Street expectations by a wide margin, but other banks may not be as lucky

The banking industry's third-quarter earnings season began with a pleasant surprise on Oct. 14, when JPMorgan Chase (JPM) posted profits that blew away market expectations. Earnings of 82¢ per share were 30¢ above Wall Street analyst estimates.

Coming from the U.S.'s largest financial firm, these results were a good sign for not just JPMorgan investors but the broader banking industry and even the entire U.S. economy.

For example, JPMorgan executives cited initial signs that their losses on loans to consumers—while still historically large—were slowing. "We continue to see initial signs of stability in the consumer," Chief Financial Officer Mike Cavanagh told analysts on Oct. 14. "But we are not ready to declare that's a sustained trend."

Tough Act to Follow

Six more major financial firms follow with results the rest of the week, including Citigroup (C) and Bank of America (BAC). And more than 20 other big finance firms unveil third-quarter reports next week, including Wells Fargo (WFC) and U.S. Bancorp (USB) on Oct. 21, and PNC Financial (PNC) and American Express (AXP) on Oct. 22.

Shares of JPMorgan rose 3.3% to 47.16 on Oct. 14, helping to ignite a broader rally on Wall Street that saw the Dow Jones industrial average close back above the 10,000 level. And other financial firms also jumped higher on the news. The broad KBW bank index rose 3.2%, while BofA shares were up 4.4% and Citi's stock gained 3.5%.

However, banking experts say, these and other firms might find JPMorgan's results a tough act to follow. For one thing, JPMorgan largely beat expectations thanks to results from its capital markets operations. As financial markets have rebounded in recent months, JPMorgan's investment bankers have been busy, and its investment portfolio has gained value. "The capital markets environment is still very strong," says Collins Stewart analyst William Tanona, "and there appears to be less competition out there as firms have either exited the business or are less willing to take risks."

Commercial Credit Deteriorating

But very few other banks have similar Wall Street operations—with the exception of Citigroup and Bank of America, which has incorporated Merrill Lynch. "If you have an investment banking division, you're going to have a nice quarter," says Standard & Poor's equity analyst Stuart Plesser, who notes that JPMorgan has become the leader in many capital markets businesses.

For the rest of the banking industry, what's happening on Main Street is far more important than the good conditions on Wall Street. And that's a problem. "The closer you get to Wall Street, the higher the profits," says Bart Narter, head of the banking group at financial consulting firm Celent. "The closer you get to Main Street, the lower the profits."

Consumer credit conditions continue to deteriorate—even if some say the pace is slowing. Commercial credit conditions, meanwhile, could get much worse. "Credit will get worse before it gets better in the near term," Tanona says.

Another Collins Stewart analyst, Todd Hagerman, points out that many other banks don't have the diverse businesses to offset major losses on commercial loans. "The accelerating deterioration on the commercial side doesn't bode well for smaller regional banks," Hagerman says. JPMorgan's results show losses are coming from traditional commercial and industrial loans, from loans to developers and small businesses, and from commercial real estate loans, he says.

Dividend Hike Possible

Another unique advantage for JPMorgan is its financial strength compared with other banks. In fact, the bank has so much extra capital available that it is considering raising its dividend early in 2010. "It further highlights the strength of their balance sheet that they are even in a position to be thinking about raising dividends in the first quarter of 2010," says John Pandtle, portfolio manager at Eagle Asset Management, which owns JPMorgan shares. JPMorgan's balance sheet is "fortress-like," he says.

JPMorgan is using its financial strength and the diversity of its businesses on both Main Street and Wall Street to gain an even bigger advantage on the competition.

Robert W. Baird analyst David A. George expects JPMorgan to continue winning new customers and "highly talented bankers" this year. "Rather than playing defense, [JPMorgan's] enviable capital and reserve positioning should enable the company to continue to invest in the franchise, which we expect to build longer-term value over time," he wrote on Oct. 14.

At this rate, JPMorgan's success is beginning to build its own momentum. And that only adds to the pressure on other banks to catch up.

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