Navigating High Funding Costs and Weakening Asset Quality: Insights from Major Regional Banks

Impact of Economic Conditions on Banks

Economic conditions, including interest rate fluctuations, inflation, and market disruptions, are adversely impacting banks' lending, financial results, and credit costs. Federal Reserve rate changes are expected to stabilize deposit and asset pricing. Additionally, issues in the broader financial industry can necessitate changes in business practices and reduce revenue.

"Current and future economic and market conditions in the United States generally or in the communities we serve (in particular the Southeastern United States), including the effects of possible declines in property values, increases in interest rates and unemployment rates, inflation, financial market disruptions and potential reductions of economic growth, which may adversely affect our lending and other businesses and our financial results and conditions." --- (RF, press release, 2024/04/19)

"The uncertainty around interest rates and the economic uncertainties that were expected to impact credit costs for banks caused banks to underperform the broader S and P 500 index for the last couple of years. More recently, we've seen a lift in our share price in" --- (BAC, event transcript, 2024/04/24)

"So you're seeing more stability as time goes by there. Once the Fed starts lowering rates, which the market expects to happen later in the year, you'll start to see betas on the way down on the wholesale side of the deposit base. You'll continue to see some gradual sort of repricing on the asset side as you see more securities and more loans sort of roll." --- (WFC, earning call, 2024/Q2)

"And our cash balances at the Federal Reserve were $41 billion, a decrease of $7 billion or 15%, primarily reflecting the deployment of cash into higher-yielding securities. Deposit balances averaged $417 billion, a decline of $3 billion or less than 1% due to a seasonal decline in corporate balances." --- (PNC, earning call, 2024/Q2)

"The effects of problems encountered by other financial institutions that adversely affect us or the banking industry generally could require us to change certain business practices, reduce our revenue, impose additional costs on us, or otherwise negatively affect our businesses." --- (RF, press release, 2024/07/19)

Influence of Regulatory Changes on Operations

Major regional banks are grappling with heightened regulatory pressures, impacting their operations significantly. JPMorgan Chase highlights an onslaught of regulatory changes, Wells Fargo faces risks of further actions, and Bank of America’s success hinges on regulatory responses. PNC and Truist Financial emphasize compliance with stress tests and operational risk ratings, respectively.

"And looking forward, we expect loss rates to be relatively stable. Lastly, let's look at the changing regulatory environment. As you can see from the page, the industry is facing an onslaught of regulatory and potential legislative change." --- (JPM, event transcript, 2024/05/20)

"what I've said in the past. Regulatory pressures on banks with longstanding issues such as ours is high, and until we complete our work and until it is validated by our regulators, we remain at risk of further regulatory actions." --- (WFC, earning call, 2024/Q1)

"We commend the bank for setting these goals, but their success may depend on policy and regulatory response to the transition." --- (BAC, event transcript, 2024/04/24)

"Our financial strength and stability are also reflected in the latest results from the Fed stress test in which we maintained our stress capital buffer at the regulatory minimum of 2.5% and importantly for the second year in a row, PNC has had the lowest start to trough capital depletion in our peer group, further demonstrating our best-in-class resiliency." --- (PNC, earning call, 2024/Q2)

"Now that's not confirmed by the OCC. There's no specific companies given and I know you're not allowed to say what your regulatory ratings are, but if you or any other bank did have a deficient operational risk rating, what would that mean?" --- (TFC, earning call, 2024/Q2)

Impact of High Funding Costs on Profitability

High funding costs have significantly impacted profitability, with PNC reporting a $321 million decrease in net interest income and a 27 basis point decline in net interest margin. Regions Financial remains optimistic about maintaining leading margins despite these costs. Bank of America and JPMorgan Chase also noted declines in net interest income and deposit margin compression.

"Compared to the first quarter of 2023, net interest income decreased $321 million and net interest margin declined 27 basis points, as the benefit of higher interest-earning asset yields was more than offset by increased funding costs." --- (PNC, press release, 2024/04/16)

"And so we still should have one of the leading margins regardless because we have a lot of confidence in our funding costs kind of settling down." --- (RF, earning call, 2024/Q1)

"And here, the business produced earnings of $2.1 billion, down 20% year-over-year, as improved investment banking fees and treasury services revenue were overcome by lower net interest income and higher provision expense. Revenue declined 6%, driven by the" --- (BAC, earning call, 2024/Q2)

"or 3%, driven by the impact of balance sheet mix and higher rates, higher revolving balances in card, and the additional month of First Republic related NII, partially offset by deposit margin compression and lower deposit balances.NIR ex-Markets was up $7.3 billion or 56%." --- (JPM, earning call, 2024/Q2)

"Net interest income of $3.3 billion declined $139 million or 4%, reflecting increased funding costs, lower loan balances, and one less day in the quarter." --- (PNC, earning call, 2024/Q1)

Challenges of Weakening Asset Quality

Major regional banks are grappling with rising non-performing loans and stable to slightly declining reserve rates, indicating asset quality concerns. They anticipate net charge-offs around 65 basis points and are closely monitoring credit quality and underwriting standards, particularly in commercial real estate, to manage these challenges.

"Bill Carcache: Okay. That's helpful. And then on the asset quality side, Slide 14 shows that steady upward trajectory in NPLs, but the reserve rate is relatively stable to down slightly, as you mentioned." --- (PNC, earning call, 2024/Q2)

"Can you just flush out your just general points on just how asset quality feels, what you're just seeing in underlying migration and any things that you're still just kind of watching out underneath the surface for the most?" --- (RF, earning call, 2024/Q2)

"In terms of asset quality, we continue to expect net charge-offs of about 65 basis points in 2024." --- (TFC, earning call, 2024/Q1)

"And look, I get a lot of questions about the credit quality and how are you underwriting and help us understand how the 2.5% reserve ratio against the CRE book is adequate given what you're seeing in the price action going on in the various asset classes there?" --- (WFC, conference, 2024/06/11)

Key Metrics and Indicators to Watch

Key performance indicators such as loan growth, profitability, and net new consumer accounts are crucial for assessing asset quality and funding costs. Stabilization in credit metrics and stress test results further highlight the resilience and financial health of major regional banks.

"The table below provides key performance indicators for Consumer Lending. Management uses these metrics, and we believe they are useful to investors because they provide additional information about loan growth and profitability." --- (BAC, sec filing, 2024/Q1)

"Otherwise, the level of downgrades and upgrades is sort of coming into equilibrium, which indicates again that we think we've reached a point of some stabilization in our credit metrics, should potentially see them go a little higher, go a little lower, they will ebb and flow, but we think we've reached a point of stability." --- (RF, earning call, 2024/Q2)

"John will discuss some key takeaways from this year's stress test in his opening remarks. Slide 5 provides key performance metrics." --- (USB, earning call, 2024/Q2)

"So you see those 1 5 year numbers, those come from the past years. And so when you look at 2023 and you look even at the Q1 of 2024, you should think of those as forward looking indicators as to what you should expect from a financial perspective, which is why I want to close on this last page here. The power of the diversification of this business, plus the traction of all those growth drivers makes me want to have high confidence in reiterating to you our through the cycle targets." --- (JPM, Investor Day, 2024/05/20)

"We look at, I mean, like in the consumer side, one of the big indicators net new." --- (TFC, conference, 2024/05/30)

Strategies to Manage Weakening Asset Quality

Regional banks are managing weakening asset quality through strategies like investing in commercial platforms, utilizing discretionary asset duration strategies and derivative hedges, repositioning securities, repricing assets, and expanding services to faster-growing customer bases.

"So our new asset generation, 50% plus comes from that commercial platform, comes from capturing those business transition opportunities, and we want to continue to invest in that." --- (TFC, conference, 2024/05/30)

"With this natural balance sheet profile, the ability to utilize discretionary asset duration strategies within the investment portfolio and through derivative hedges is critical in mitigating the Bank’s naturally asset sensitive position." --- (RF, sec filing, 2024/Q2)

"You have securities repositioning that's giving you a boost to NII for the rest of this year, and you have fixed asset repricing that helps your securities yield go up by 400 basis points." --- (PNC, earning call, 2024/Q2)

"But when you look at both the asset repricing that's happening in securities, you look at what's happening and you just sort of project forward on sort of the loans and the other parts of the balance sheet, that's obviously a key input as you sort of look forward." --- (WFC, earning call, 2024/Q1)

"That's another benefit. And so partners is one of the strategies. And then thirdly, in our institutional corporate commercial, we can add offices and we're doing that in the Southeast to provide services to those customer bases, which are faster growing and can leverage some of the capabilities that we myself and John talked about." --- (U.S. Bancorp, conference, 2024/05/30)

Future Outlook and Strategic Planning

Major regional banks are focusing on strategic alignment, maintaining consistent decision-making despite business cycles, and investing in growth areas like corporate investment banking and risk infrastructure. They aim to support strategic growth while ensuring flexibility to adapt to regulatory changes and continue increasing dividends.

""These three leaders have been steady, strategic partners to the organization during their tenures with the company and are well equipped to lead the Consumer and Business Banking organization effectively into the future in alignment and close collaboration with our other revenue lines and enabling functions."" --- (USB, press release, 2024/06/27)

"I just don't see us fundamentally making strategically different decisions if the strategic outlook is unchanged simply because of the business cycle in the short term. Glenn Schorr: Awesome. Thank you. Jeremy Barnum: Thanks." --- (JPM, earning call, 2024/Q1)

"But as long as our assumptions on spend, balanced growth, and credit continue to play out as expected, we expect the card business to meaningfully contribute to profit growth in the future as the portfolio matures. We have been methodically growing our corporate investment bank, which has been a priority and continues to be a significant opportunity for us." --- (WFC, earning call, 2024/Q2)

"This level will provide sufficient flexibility to meet proposed changes along with the implementation timeline while supporting strategic growth objectives and allowing us to continue to increase the dividend commensurate with earnings." --- (RF, earning call, 2024/Q1)

"Additionally, we continue to make investments in our risk and control infrastructure and in strategic initiatives across our businesses." --- (WFC, event transcript, 2024/04/30)

Technological Advancements and Competitive Landscape

U.S. Bancorp highlights the benefits of investments in digital capabilities and technology modernization, which are crucial for differentiating in a competitive market. Meanwhile, Bank of America, JPMorgan Chase, and Regions Financial emphasize the intensifying competitive landscape from both traditional peers and non-banks.

"And then I guess, can you just talk a bit about the competitive landscape? Just how do you think about competition globally and BV's ability to sustain market share growth outside the U." --- (BAC, conference, 2024/05/08)

"The competitive landscape for our businesses continues to intensify from traditional peers in areas like middle market and investment banking as well as non banks in areas like private credit." --- (JPM, Investor Day, 2024/05/20)

"So maybe just the overall competitive landscape. And then maybe if you could also please highlight just sort of in your own words or thoughts what it would take to generate better commercial loan demand at this point?" --- (RF, earning call, 2024/Q2)

"Our diverse business mix is allowing us to differentiate in a competitive market and we are seeing the benefit of the investments we've made and continue to make in our digital capabilities, our technology modernization, and our payments ecosystem." --- (USB, earning call, 2024/Q1)