Insights — including Dimon’s sour take on mortgages — from JPMorgan’s 1Q

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Most things went right for JPMorgan Chase in the first quarter. Profits and deposits surged, there were few asset-quality issues and even growth in expenses was slower than some analysts had predicted.

But on its earnings call with analysts Friday, executives at the largest U.S. bank by assets still highlighted some areas of concern. Like most banks, JPMorgan had expected the Federal Reserve Board to raise interest rates at least a couple of times this year and its recent decision to hit pause on rate hikes could crimp profit margins, Chief Financial Officer Marianne Lake said.

Chairman and CEO Jamie Dimon, meanwhile, told analysts that he’s becoming increasingly disenchanted with the mortgage business. JPMorgan Chase is the nation’s third-largest mortgage lender, but Dimon suggested that the bank might shrink its home-lending operation — or exit the business entirely — due to what he views as excessive regulation.
Here are five takeaways from the bank’s first-quarter results and management’s call with analysts.

A pause in rate hikes may be manageable

The Federal Reserve’s widely expected pause in rate hikes may pressure net interest margins at JPMorgan. But loan demand, fueled by the strong economy, should help offset much of the impact, according to JPMorgan Chief Financial Officer Marianne Lake.

“There is a little bit of pressure as a result of that … but we continue to grow our loans and deposits,” she said during a Friday conference call.

Loan growth contributed to higher profit, as net income rose 5% to $9.2 billion from a year earlier. Earnings per share of $2.65 were 30 cents better than the mean estimate of analysts compiled by FactSet Research Systems.

A stoppage in rate hikes may make it more difficult to improve net interest income, but it may be the monetary policy that the U.S. economy needs at this time, Lake said.

“You could argue a patient Fed and lower rates for longer may elongate the cycle,” she said. “There are pluses and minuses” in an environment of interest rates holding steady.

A break in rate hikes could also help JPMorgan on the funding-cost side. JPMorgan and other large banks only recently began paying higher deposit rates but they may not need to raise them much more if interest rates hold steady.

“It is our expectation that rates will be relatively stable from here in terms of the short end and it’s the short end that predominantly drives the sort of deposit pricing agenda,” Lake said.

Shifting to securities

As the Fed appears ready to hit the pause button, JPMorgan appears likely to shift some assets out of consumer and commercial loans, which carry longer terms, and into to shorter-term securities.

“We’re trying to take loans off of our balance sheet, core loans off our balance sheet, and sell them if we can reinvest in agency [securities], mortgage-backed securities, nonresidential assets that have better capital liquidity characteristics,” Lake said.

As long-term interest rates continue to remain low, and a Fed pause in rate hikes is likely to keep them that way, short-term assets become more appealing. JPMorgan is likely to purchase more short-term securities like Ginnie Mae bonds or other bonds issued by government agencies, Lake said.

“Obviously, the curve being flatter is not sort of a compelling situation to add more duration,” she said.

JPMorgan has already begun the shift to holding more securities. Total investment securities increased 12% to $267 billion in the quarter from a year earlier. As a result, securities as a portion of total assets rose to 9.8% from 9.1%.

Additionally, the bank’s securities portfolio generated positive revenue in the first quarter, after eight consecutive quarters of losses. It posted $13 million in revenue from investment securities, compared with a $245 million loss in the year-earlier period.

Branches, digital banking fuel deposit growth

JPMorgan has pursued a dual-pronged effort to gather deposits — new branches and digital banking — and the strategy is paying off.

Average deposits in its consumer and community banking division rose 3.2% to $681 billion from a year earlier. Those deposits helped fuel overall profit growth, despite the fact JPMorgan had to pay customers higher rates on the deposits. The profit margin on consumer deposits climbed 42 basis points to 2.62%.

Some of the growth is coming from branches in markets that are new to JPMorgan, such as Boston, Philadelphia and Washington, D.C., Lake said. That means they’re adding consumers are who newcomers to JPMorgan.

“We do have a decent portion of our branches that are still in their maturation phase and so we’re definitely seeing some growth in deposits there,” Lake said.

JPMorgan has also beefed up its digital offerings with an online-only bank dubbed Finn and has improved its mobile-payments app, among other tactical moves.

“Digital products, new products and services … all of which I think are increasingly important to our customers,” Lake said.

Time to exit mortgages?

Rising interest rates have slowed activity in mortgage lending, but that’s not the only trouble that Jamie Dimon, JPMorgan’s chairman and CEO, has with the business.

“If you look at the business, I mean it’s costly,” Dimon said during Friday’s conference call.

JPM CEO Jamie Dimon

“You’ve got to … ask a lot of questions about whether banks should even be in” the mortgage business, said JPMorgan Chase CEO Jamie Dimon.

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“You have 3,000 federal and state origination and servicing requirements,” he said. “It is litigious. You just look at history, you can see that. Nonbanks [are] becoming huge competitors and they don’t have the same regulations.”

Dimon had hinted in his annual letter to shareholders, released last week, that he increasingly views the mortgage business as problematic. Too many regulators are involved in crafting rules for the sector, which has prevented policymakers from pursuing meaningful housing reform, he said. He argued that dysfunction in the mortgage market has strained the supply of housing and raised costs to homeowners.

JPMorgan’s results in home lending reflect the problems. In the first quarter, average mortgage loans dropped 1% to $238.9 billion. Mortgage originations fell 18% to $15 billion. Total revenue from home loans declined 11% to $1.3 billion.

Dimon said in his shareholder letter that the bank may need to make material changes to its mortgage operations. He restated that outlook in even stronger terms on Friday.

“You’ve got to look at that and ask a lot of questions about whether banks should even be in” the mortgage business, he said.

Tech spending slowdown?

Making huge investments in technology has become standard procedure in the banking business and JPMorgan arguably started the trend.

Lake suggested on Friday that its rapid growth in tech spending may soon slow or even plateau.

JPMorgan’s tech budget is earmarked for many different areas, including the development of new digital products for consumers, to beef up cybersecurity defenses, to build sophisticated analytical models for risk management and for routine matters like core processing.

But a significant portion of JPMorgan’s tech investments have also gone toward making the company operate more efficiently. Some of those investments have started to take hold, which means it could be time to scale back, Lake said.

“The amount we’re spending now and the amount of dollars that roll off every year that get repositioned for investment, we feel like we should see our net investment spend reach a reasonable plateau over the course of the next several years,” she said.



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