Now that Wells Fargo says it has been booked for an extended stay in the Federal Reserve's penalty box, CEO Tim Sloan faces yet another major challenge: how in the world to make sure its core business expands in 2019.
Sloan told analysts on a conference call Tuesday that Wells is “cautiously optimistic” about loan and revenue growth despite the bad news he delivered Tuesday: The Fed's $1.95 trillion asset cap, imposed on the bank early last year, would remain in place for all of 2019 — or six months longer than its previous guidance.
“We continue to be optimistic about our ability to grow loans,” Sloan said. “Our view is we are going to be able to operate under the asset cap, meet and exceed the expectations of the Federal Reserve as it relates to the requirements under the asset cap, and serve our customers.”
Over the past year, while Wells has been operating under the consent order, it has been selling some assets and trying to free up space on its balance sheet for growth of core deposits and loans.
“For us to grow our business doesn’t require us to grow our balance sheet,” John Shrewsberry, Wells’ CFO, said on the call with analysts. "We saw great [commercial] loan growth in the fourth quarter —some of that was seasonal or reflecting what was going on in markets —which caused people to turn to their banks more than they otherwise would have.”
Translation: Fourth-quarter commercial and industrial loan growth was driven in part by some investment-grade companies choosing not to tap the bond market for financing and instead going with large banks like Wells.
But Wells' overall results were tepid. Its net income of $6.1 billion, or $1.21 a share, missed analysts’ consensus estimates by a penny. Revenue fell 2.3% to $86.4 billion.
The bank's shares fell as low as $47.01 before closing at $47.67 on the day, a 1.6% loss.
Exactly how much wiggle room does Wells have to improve its numbers in 2019?
It is currently $35 billion below the Fed’s asset cap, said Brian Foran, a partner at Autonomous Research.
“They could grow their core loans and deposits by that amount without any issues — that would represent close to 4% core loan growth,” Foran said.
Wells could open another $50 billion of cap space by drawing down its cash, selling securities and selling noncore loans or shrinking low return-on-equity businesses "that aren’t super important to their franchise," he said.
Commercial loan balances at Dec. 31 rose 1.9% from a year earlier to $513.4 billion, while consumer loans fell 3.2% to $439.7 billion. Total loans were virtually flat.
“The bread-and-butter middle-market and commercial banking business that we’re a leader in, we saw some nice growth in the quarter,” Sloan said. “Overall, we’re seeing steady growth.”
In consumer lending, Wells experienced strong growth in key segments. Auto loans jumped 9% to $4.7 billion from a year earlier; small-business lending rose 19% to $595 million; home equity increased 14% to $673 million; and student loan originations were up 16% to $258 million.
But the mortgage market took a toll. Rising rates, reduced refinancing activity, and lower demand for home loans have constrained mortgage growth.
Mortgage originations fell 28% in the fourth quarter to $38 billion from a year earlier. Mortgage banking income fell 50% to $467 million.
Wells said it has not seen any significant increase in delinquencies. Though credit discipline tends to break down as interest rates rise and mortgage bankers chase the purchase market, Wells said it has not seen smaller players exiting the business yet.
“We haven’t seen actual capacity come out,” Shrewsberry said. ”We would expect if capacity comes out of the system because smaller players or less efficient players are not making any money, then there would be a return to gains.”
Analysts seemed intent on ferreting out any exposure to problem loans, asking about Wells’ involvement in leveraged lending, which is minimal, and to the financing of nonbanks.
“We are a participant in financing some nonbanks,” Shrewsberry said. “We did it before the last crisis and we’ve done it since, and we’re very cautious about how we select customers and the credit they are extending.”
Wells has moved to a centralized management and plans to reduce total expenses by 6.5% over two years to roughly $50 billion by 2020.
"They have been making a conscious effort to de-risk and bring expenses down ... which positions them better as we get into an eventual downturn, but they are paying the price because they are not showing revenue growth," said Marty Mosby, director of bank and equity strategies at Vining Sparks in Memphis, Tenn.
Wells expects to cut from 5% to 10% of its workforce of 258,700 by 2021.
Wells continues to make progress on expense reductions.
“There is a list of literally hundreds of items that are underway to deliver the results that we’re promising,” Shrewsberry said. “Everything should be on the table.”
Sloan said that if there are opportunities to make additional cuts: “We’ll do that. When we look at the economy today and our performance in the fourth quarter, we are cautiously optimistic about 2019.”
Wells has been ensnared in several scandals over the past few years including illegal sales practices that led to a $575 million settlement in December with 50 states and the District of Columbia.
In what was perhaps a moment of irony, Sloan cited the benefits of a strong regulatory system, noting the stress tests and capital buffers imposed on big banks since the financial crisis.
“The entire regulatory environment post-the Great Recession has fundamentally changed the quality of assets on the balance sheets of the entire industry,” Sloan said. “I think the balance sheets of the banks today are stronger than they’ve ever been, not just as it relates to credit but also as it relates to liquidity.”
Since it has been operating under a Federal Reserve consent order, Wells has been migrating to higher-quality assets while selling off parts of the Pick-a-Pay mortgage portfolio that it inherited from its $15 billion acquisition of Wachovia in 2008.
