JPMorgan Chase & Co.'s healthy third-quarter earnings bode well for other large lenders, but its credit costs and generous padding of reserves may have negative implications for smaller banks bogged down with problem loans.
Though its muscular showing solidified the banking company's standing as perhaps the country's healthiest, its credit costs of $9.8 billion — mostly provisions for loan losses — underscored the troubles facing other companies with exposure to U.S. consumers: They will keep losing money on bad loans. The problem for the industry is that most cannot weather the losses as well as JPMorgan Chase can.
"They stand out from everybody else," said Keith B. Davis, an analyst with Farr, Miller & Washington LLC. "There are only a few big banks out there that have the capital markets revenues to offset what's going on in the consumer lending side."
Davis and other industry watchers said they expect a solid performance in the quarter from other large diversified companies with footings in the lucrative fixed-income and trading markets. Citigroup Inc., for one, is scheduled to report today, and Bank of America, another, is set for Friday.
But David George, an analyst at Robert W. Baird & Co., said in a report that JPMorgan Chase's better-than-expected numbers will not be "relevant" for regional banking companies, in particular.
"Several regionals will likely struggle somewhat with soft loan demand and outsized credit costs," he said.
In a sign that JPMorgan Chase is bracing for a slow economic recovery, the company made the somewhat surprising move of adding $2 billion to its already hefty reserves, bringing them to about $31.5 billion, or 5.3% of loans.
Michael Cavanagh, JPMorgan Chase's chief financial officer, told reporters and analysts that reserves may be peaking, though he did not rule out setting aside more capital to cover credit costs.
"It depends on the economy," he said. "If the economy continues to stabilize, I'd say we are getting close to the end of adding toward loan-loss reserves."
Cavanagh cited possible signs of economic recovery, particularly a leveling off of early-stage delinquencies in the bank's consumer credit book. He stressed that it remains unclear whether this trend is sustainable.
Jamie Dimon, JPMorgan Chase's chief executive, said the company expects its unprofitable credit card business to remain stressed and that it may lose "north of" $1 billion in the first half of next year.
"Credit costs remain high and are expected to stay elevated for the foreseeable future," Dimon said.
The company set aside $8.1 billion in provisions for loan losses in the third quarter, up from $8.03 billion in the prior quarter and $5.8 billion a year earlier. Credit costs, including the impact of card securitizations and some merger-related items, totaled $9.8 billion. The bulk of its provisions were allocated to the credit card and consumer lending businesses.
Still, JPMorgan Chase had a banner quarter in its investment banking unit, driven by surging investment banking fees and fixed-income activity. The unit reported $1.9 billion in net income, up 31% from the prior quarter and 117% from a year earlier.
That helped drive the bottom line to a profit of $3.6 billion, the company's best quarter since the recession began and well above analysts' estimates. Total net revenue was $28.8 billion.
Industry watchers had a generally favorable view of JPMorgan Chase's performance, though their reactions to the reserve increase were mixed.
Anthony Polini, an analyst at Raymond James & Associates, said JPMorgan Chase is just being cautious, as usual.
"You can argue whether they really had to add to the reserves this quarter," Polini said. "They just have a 'fortress-like' balance sheet. They don't want to take any chances. There is still a possibility that this economy could head south from here. The bottom line is, we're still not out of the woods on the economic front, and JPMorgan is still being very conservative."
Gary B. Townsend, the chief executive of Hill-Townsend Capital LLC, said the fact that JPMorgan Chase added $2 billion to reserves while turning a profit is a clear sign of strength. It also indicates that other banking companies will probably have to keep adding reserves in the near term.
"That behavior is identical in all of the banks," Townsend said. "They are trying to build capital, and part of it is to build reserves. They want to leave the recession with robust reserves."
Separately, the company set aside $8.79 billion for compensation and benefits for its investment bank employees in the first nine months of this year, enough to pay $353,834 to each, Bloomberg News reported. The average per employee is less than the $386,429 that Goldman Sachs Group Inc. set aside for just the first half.