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Bank investors must wait for the benefits of higher interest rates

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Bank investors must wait for the benefits of higher interest rates

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Rising interest rates will be good for banks. One day.

JPMorgan Chase JPM -6.15%

announced record annual earnings in 2021 on Friday. But a combination of that being partly driven by the release of reserves for bad debts, as well as uncertainty about 2022, will have many investors looking beyond that result immediately. remarkable. For now, this is putting strong pressure on the stock, which fell sharply on Friday morning. Investors should not lose sight of the big picture.

On the face of it, the likelihood of a series of Federal Reserve rate hikes should provide a solid foundation for the big banks, leading to higher lending revenues. There should also be a strong wind of support from the US economic growth forecast for this year, and the fact that consumers and businesses are relatively greedy and unlikely to produce waves of defaults.

But JPMorgan also detailed a number of challenges that could offset those bright spots in the coming year. At least in 2022, this could make it difficult to meet the bank’s medium-term target of a 17% return on tangible equity.

For one thing, consumers still don’t have as many revolving balances on their cards as they always have. The benefit resulting from higher rates can indeed be mitigated by less borrowing. JPMorgan said that while spending volume was higher than pre-pandemic levels, outstanding card balances in the fourth quarter were 8% lower than the same period in 2019. Growth has resumed since mid-2019. 2021; but, broadly speaking, the bank still does not expect revolving balances on the cards to return to pre-pandemic levels before the end of this year.

Then there’s the flip side of higher rates: inflation. Inflationary pressures on spending — in compensation, travel and entertainment spending and other areas — could shave about 0.75 percentage points from tangible common stock returns in 2022, the bank pointed out. Over time, the hope is that higher rates will outweigh the effect of rising costs, if those increases are modest.

None of this is to say that higher rates are still not fundamentally good for banks, especially if the curve is steep. JPMorgan continues to hedge its rate bets, saying it has been cautious about buying longer-duration assets when adding to its securities portfolio, which would lock in current rates. Chief executive Jamie Dimon believes there is a good chance the Fed will act more aggressively on rates than markets are expecting. This gives the bank a huge opportunity to deploy its massive liquidity when rates are higher.

Additionally, a volatile rate environment could help Wall Street earnings stay high for a while longer. Fixed income trading desks, in particular, could be busy processing trades if the pace of rate increases contains surprises. Another strong year in markets and investment banking would provide a substantial upside to returns.

So perhaps investors looking to 2022 shouldn’t expect banks to react positively to every indicator of higher rates. But they shouldn’t abandon them in the longer term either.

Write to Telis Demos at

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Appeared in the print edition of January 15, 2022 under the title “Banking investors must wait for the Fed”.

Bank investors must wait for the benefits of higher interest rates

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