JP Morgan Must Answer Two Questions Upfront
JP Morgan (NYSE: JPM) kicks off the financial sector earnings season for companies on Friday needing to answer two questions upfront: how much did its failed hedging strategy cost; and is the position now completely unwound?
The mean analyst expectations for the quarter that ended in June is now 77 cents a share, although expectations vary widely due to the trading loss. The highest estimate is $1.02 a share; the lowest is 19 cents.
It's one reason the company has allotted two full hours for its post-earnings conference call.
A back-of-the-envelope calculation is that earnings could vary as much as 18 cents a share for every $1 billion difference in trading loss assumptions, applying a 30% tax rate and no offsetting gains. The company in May said it had initially lost $2 billion, and expected to ultimately lose $3 billion to $5 billion.
The New York Times on June 28 wrote that the loss may be as much as $9 billion, citing sources briefed on the situation.
One reason to think the New York Times estimate is high is that interest rates have declined somewhat since the bank first disclosed the trading position – likely working in the trade's favor.
Regardless of the size of the loss, JP Morgan still expects to be solidly profitable for the quarter, and analyst expectations are that the bank will earn $16.6 billion for all of 2012.
JP Morgan's earnings could be among the most significant negative influences on S&P 500 earnings -- at least relative to expectations when the quarter began.
Yet its hedging loss is not its only challenge.
Banks make by borrowing low and lending high. For the most part, most are still lending low and borrowing low at this point, limiting net interest margins.
That said, JP Morgan will be attempting to continue a streak of 7 straight quarters of commercial loan growth.
Fee income also will be a challenge – something that makes up about 45% of JP Morgan's operating revenue. The biggest drag on fees could be investment banking revenue. Deals activity still has not rebounded strongly so far this year.
Low trading volumes may also affect two of the company's businesses – its FICC business (fixed income, currency and commodities trading), as well as equities trading. A combination of fairly low volatility and increased correlations have combined to stymie overall markets trading in the quarter -- possibly affecting transaction revenue from customers. It's one reason JP Morgan's results in that part of the business could be a bellwether for investment banks Goldman Sachs (NYSE: GS) and Morgan Stanley (NYSE: MS).
Like most U.S. banks – with the possible exception of Bank of America (NYSE: BAC), JP Morgan's capital positions remain strong. It ended last quarter with a Tier 1 capital ratio of 10%, well above government mandates.
One potential catalyst to watch for is what the company may say about its suspended dividend. The market is not assuming a return of the dividend for Q3 – or the rest of the year, for that matter. So a reinstatement of the dividend sooner-versus-later could provide a positive surprise.
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