US banks make divergent bets on interest rate direction



America’s biggest banks are pursuing radically different strategies to deploy their trillions of dollars of deposits in government debt markets, highlighting the debate on Wall Street over the direction of interest rates.

On the one hand is Bank of America, the second-largest US lender by assets, which helped boost revenue in the third quarter by attracting interest from a portfolio of debt securities that grew 77%. over the past year and now stands at almost $ 970. billion.

On the other hand, JPMorgan Chase, the largest US bank, which has a smaller portfolio of investment securities and is more inclined to park deposits at the Federal Reserve than wasting them on Treasuries or potentially overvalued agency titles.

Divergent strategies added a note of contention to a earnings season in which the major banks all benefited from a trading boom on Wall Street – and could help determine which lender is more profitable on the other side. of the Covid-19 pandemic.

“You see banks adopting a variety of strategies in managing their balance sheets and interest rates,” said Jason Goldberg, banking analyst at Barclays. “Time will tell which one is more appropriate than the other.”

The dilemma for banks is that they are struggling to use up all the deposits that have built up on their balance sheets as government stimulus and quantitative easing programs rolled out during the health crisis.

Lending the money would be their preferred option. But loan growth has been slow as companies found abundant liquidity in bond markets and consumers paid off credit card debts.

Buying treasury bills or mortgage-backed securities offers banks some return but comes with other risks. If rising inflation results in higher rates, they would have to reduce the value of the bonds in their “available-for-sale” portfolios and they would miss the opportunity to use their cash for more profitable lending opportunities.

BofA responded by stepping up its bond purchases over the past year, and the move paid off in the third quarter. Despite a 3% drop in loans, he said Thursday net interest income jumped 10%, compared with a 1% increase at JPMorgan and 1% and 5% declines at Citigroup and Wells Fargo, respectively. .

“If banks are having trouble generating loans, that means they’re going to have to absorb more securities,” said Mark Cabana, head of US rate strategy at BofA. “We expect there to be an ongoing and very strong bank offer for Treasuries.”

In contrast, JPMorgan only increased the size of its debt portfolio by 3% last year. At Citigroup and Wells Fargo, the increase was 14 percent and 12 percent, respectively.

Column chart of the percentage change in assets since Q3 2020 showing that JPMorgan and Bank of America have so far taken different approaches to managing deposits

Jamie Dimon, managing director of JPMorgan, has made it clear that he fears Treasury prices may fall. In his April letter to shareholders, he said: “It is difficult to justify the price of US debt. A few months earlier, he had declared that he “would not touch [Treasuries] with a 10-foot post ”.

The bank’s chief financial officer Jeremy Barnum said on Wednesday she was still “happy to be patient” with her excess deposits, but would likely start investing more soon.

Wells Fargo has also indicated that it is prepared to wait. The bank had started buying more debt securities in the first half of the year, but sidelined when rates started to rise. Compared to the second quarter, its investment portfolio remained stable.

“Our point of view now is that there is more. . . Upside risk to short and medium term rates, so we believe there will be better deployment opportunities as we look into the future, ”CFO Mike Santomassimo told reporters.

Such caution has been costly in the short term. If JPMorgan and Wells Fargo invested their extra cash at 1.5%, they could increase their pre-provision earnings by 7% and 5% respectively from what they said in the quarter, according to Barclays’ Goldberg.

But if rates rise, Treasuries could fall out of favor with banks, creating a negative feedback loop in the markets.

“The risk is that when rates go up their lending business looks a lot more attractive and they buy fewer T-bills,” said Gennadiy Goldberg, senior US rates strategist at TD Securities. “So I think the risk is actually for the treasury market.”

Additional reporting by Joshua Franklin in New York


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