WFC - Wells Fargo

[DooDiligence]

A bank can always get impaired. It is a levered bet on thr overall economy after all. If you believe the economy is going to hell, don’t buy bank stocks.

I feel like recent comments from the Fed have made negative interest rates less likely? I think there current near zero interest rates are baked in and the banks have and can live with it.

 

The question for me is if WFC at current prices is indeed a better bet than JPM, BAC or some of the regional banks trading below tangible book as well. BAC around tangible book with its more diverse Business model and still underrated (imo) management strikes me as a better risk reward than WFC if we get another pullback.

 

^^^^

This

[erdospi]

And why do you assume the NIM has to go back up?

 

To address this other part, here is what I think:  the banks were earning enough to support current stock prices or much higher until COVID hit us.  And that occurred despite Europe and Japan being in worse situation back then just as they are now.  That's pretty much the end of my thought on that. 

 

The other thing I'd add is that each and every time we hit one of these recessions, it takes little time before I see people coming up with complex book-smart justifications for a very long and sustained period of gloom.  It is always backed by the "smart money", and the reasoning looks sound,... and each time when the economy turns around nobody could have expected it.

 

I'm not going to debate you, it just doesn't matter IMO because I'm not going to justify my investment decisions based on this kind of forecasting.  However you should do so if you think it is necessary and I won't talk you out of it, but I may ask questions from time to time.

 

WFC NII was going down YOY for quite some time before covid-19. You are right in that the outcome had been fairly good while the NIMs declined. That just gets significantly more difficult mathematically as you get to the zero bound.

 

I agree with your book smart comment. I’m not book smart and am backed by no money so not sure what applies there. I just want to see how to justify purchasing WFC here makes sense and I don't get a lot of clarity and this board is an intelligent group of investors that has always constructively discussed investments from both sides.

 

Definitely not trying to debate you Eric and I didn’t know you owned the stock and really would not expect anyone to justify ones own investment decision to some random person in a message board. My apologies if that is what you thought I am attempting to do. I really don’t care who does or doesn’t own WFC.  I just want to understand why and how WFC can handle the likely NIM compression and potential deflation or if no one expects that here that’s fine. The banks in the EU all trade at half book or less and have mid single digit ROEs, I know they have zombie loans but hard to see how that is avoided here without the multiplier effect and population growth.

 

I haven’t been able to figure it out before COVID-19 and if I would’ve posted all this prior I would’ve looked like a book smart person backed by smart money but I am neither and it would’ve been total luck because COVID-19 just accelerated what was happening to the NIMs for the past decade. I agree too the economy usually randomly rebounds when no one expects it so I’m probably be a good tell that the bottom is in for banks.

 

I guess I’ll just miss out on this one, because I have yet to see a logical explanation that shows how the big banks, WFC specifically, can not get clipped and still earn a reasonable rate of return from this price. That is unfortunate because there probably is a simple explanation that I’m missing and I’m not intelligent enough to figure it out. I meanI thought someone may have a loan demand growth story or something to offset the NIMs.

 

Either way thanks for your thoughts.

 

Sounds like you just want someone to talk you into buying.

 

Just out of curiosity, what have you bought lately & why?

 

No I don’t want to be talked into buying it. I just want to see the rationale why to go long, besides it’s a banks stock and bank stocks are levered plays on the economy. 

 

Your question is irrelevant but haven’t bought anything in a while.

[DooDiligence]

And why do you assume the NIM has to go back up?

 

To address this other part, here is what I think:  the banks were earning enough to support current stock prices or much higher until COVID hit us.  And that occurred despite Europe and Japan being in worse situation back then just as they are now.  That's pretty much the end of my thought on that. 

 

The other thing I'd add is that each and every time we hit one of these recessions, it takes little time before I see people coming up with complex book-smart justifications for a very long and sustained period of gloom.  It is always backed by the "smart money", and the reasoning looks sound,... and each time when the economy turns around nobody could have expected it.

 

I'm not going to debate you, it just doesn't matter IMO because I'm not going to justify my investment decisions based on this kind of forecasting.  However you should do so if you think it is necessary and I won't talk you out of it, but I may ask questions from time to time.

 

WFC NII was going down YOY for quite some time before covid-19. You are right in that the outcome had been fairly good while the NIMs declined. That just gets significantly more difficult mathematically as you get to the zero bound.

 

I agree with your book smart comment. I’m not book smart and am backed by no money so not sure what applies there. I just want to see how to justify purchasing WFC here makes sense and I don't get a lot of clarity and this board is an intelligent group of investors that has always constructively discussed investments from both sides.

 

Definitely not trying to debate you Eric and I didn’t know you owned the stock and really would not expect anyone to justify ones own investment decision to some random person in a message board. My apologies if that is what you thought I am attempting to do. I really don’t care who does or doesn’t own WFC.  I just want to understand why and how WFC can handle the likely NIM compression and potential deflation or if no one expects that here that’s fine. The banks in the EU all trade at half book or less and have mid single digit ROEs, I know they have zombie loans but hard to see how that is avoided here without the multiplier effect and population growth.

 

I haven’t been able to figure it out before COVID-19 and if I would’ve posted all this prior I would’ve looked like a book smart person backed by smart money but I am neither and it would’ve been total luck because COVID-19 just accelerated what was happening to the NIMs for the past decade. I agree too the economy usually randomly rebounds when no one expects it so I’m probably be a good tell that the bottom is in for banks.

 

I guess I’ll just miss out on this one, because I have yet to see a logical explanation that shows how the big banks, WFC specifically, can not get clipped and still earn a reasonable rate of return from this price. That is unfortunate because there probably is a simple explanation that I’m missing and I’m not intelligent enough to figure it out. I meanI thought someone may have a loan demand growth story or something to offset the NIMs.

 

Either way thanks for your thoughts.

 

Sounds like you just want someone to talk you into buying.

 

Just out of curiosity, what have you bought lately & why?

 

No I don’t want to be talked into buying it. I just want to see the rationale why to go long, besides it’s a banks stock and bank stocks are levered plays on the economy. 

 

Your question is irrelevant but haven’t bought anything in a while.

 

Didn't mean to offend.

 

I simultaneously welcome, and am made uncomfortable by, negative pushback & am curious as to what businesses you feel comfortable with (more comfortable than banking, rather) because you sound thoughtful & this is a difficult time to get warm & fuzzy about any business.

 

One thing I've learned is that amateurs (like me) make huge mistakes, but so do the pros (frequently & in more spectacular fashion).

 

I already spend an inordinate amount of time reading & learning about businesses & investing but believe there's a point of diminishing returns.

 

I do what passes for diligence & make my leaps of faith, and if I'm honest, will say that I rely largely on luck over time.

 

---

 

edit: FWIW, my home is the only investment that I truly feel great about & it is unlevered which some would say makes me a poor capital allocator but I say bollocks.

[ERICOPOLY]

5% is within a range that I think would be reasonable and I get to around 12x’s at that price.  I guess where you see it different is they get back to 10% ROTCE and I have a hard time seeing that over the next 5+ years.

 

To spice it up, suppose they earn 0% for the next 7 years.

 

At $12, that will reward us with returns of 20% annualized for the next 7 years if the overall situation makes it back to a reasonable one by then.  By reasonable I mean a 13% ROTCE and 13x P/E by 2027.

 

That's well beyond historical returns, and looks more like equity-option returns but without strike or expiry risk.

 

Based on this scenario, $12 does not look like the appropriate price to me if one assumes 5% returns on equity for the next 5+ years.. 

 

[erdospi]

And why do you assume the NIM has to go back up?

 

To address this other part, here is what I think:  the banks were earning enough to support current stock prices or much higher until COVID hit us.  And that occurred despite Europe and Japan being in worse situation back then just as they are now.  That's pretty much the end of my thought on that. 

 

The other thing I'd add is that each and every time we hit one of these recessions, it takes little time before I see people coming up with complex book-smart justifications for a very long and sustained period of gloom.  It is always backed by the "smart money", and the reasoning looks sound,... and each time when the economy turns around nobody could have expected it.

 

I'm not going to debate you, it just doesn't matter IMO because I'm not going to justify my investment decisions based on this kind of forecasting.  However you should do so if you think it is necessary and I won't talk you out of it, but I may ask questions from time to time.

 

WFC NII was going down YOY for quite some time before covid-19. You are right in that the outcome had been fairly good while the NIMs declined. That just gets significantly more difficult mathematically as you get to the zero bound.

 

I agree with your book smart comment. I’m not book smart and am backed by no money so not sure what applies there. I just want to see how to justify purchasing WFC here makes sense and I don't get a lot of clarity and this board is an intelligent group of investors that has always constructively discussed investments from both sides.

 

Definitely not trying to debate you Eric and I didn’t know you owned the stock and really would not expect anyone to justify ones own investment decision to some random person in a message board. My apologies if that is what you thought I am attempting to do. I really don’t care who does or doesn’t own WFC.  I just want to understand why and how WFC can handle the likely NIM compression and potential deflation or if no one expects that here that’s fine. The banks in the EU all trade at half book or less and have mid single digit ROEs, I know they have zombie loans but hard to see how that is avoided here without the multiplier effect and population growth.

 

I haven’t been able to figure it out before COVID-19 and if I would’ve posted all this prior I would’ve looked like a book smart person backed by smart money but I am neither and it would’ve been total luck because COVID-19 just accelerated what was happening to the NIMs for the past decade. I agree too the economy usually randomly rebounds when no one expects it so I’m probably be a good tell that the bottom is in for banks.

 

I guess I’ll just miss out on this one, because I have yet to see a logical explanation that shows how the big banks, WFC specifically, can not get clipped and still earn a reasonable rate of return from this price. That is unfortunate because there probably is a simple explanation that I’m missing and I’m not intelligent enough to figure it out. I meanI thought someone may have a loan demand growth story or something to offset the NIMs.

 

Either way thanks for your thoughts.

 

Sounds like you just want someone to talk you into buying.

 

Just out of curiosity, what have you bought lately & why?

 

No I don’t want to be talked into buying it. I just want to see the rationale why to go long, besides it’s a banks stock and bank stocks are levered plays on the economy. 

 

Your question is irrelevant but haven’t bought anything in a while.

 

Didn't mean to offend.

 

I simultaneously welcome, and am made uncomfortable by, negative pushback & am curious as to what businesses you feel comfortable with (more comfortable than banking, rather) because you sound thoughtful & this is a difficult time to get warm & fuzzy about any business.

 

One thing I've learned is that amateurs (like me) make huge mistakes, but so do the pros (frequently & in more spectacular fashion).

 

I already spend an inordinate amount of time reading & learning about businesses & investing but believe there's a point of diminishing returns.

 

I do what passes for diligence & make my leaps of faith, and if I'm honest, will say that I rely largely on luck over time.

 

---

 

edit: FWIW, my home is the only investment that I truly feel great about & it is unlevered which some would say makes me a poor capital allocator but I say bollocks.

 

I didn’t take any offense. I do not have anything interesting that I have purchased and just have not bought anything really I’ve been holding cash because of the wide range of outcomes and obviously I think there is a higher probability of lower rates and less marginal demand and I don’t know what is rational under that scenario.

 

Also, I appreciate your intellectual honesty. 

[erdospi]

5% is within a range that I think would be reasonable and I get to around 12x’s at that price.  I guess where you see it different is they get back to 10% ROTCE and I have a hard time seeing that over the next 5+ years.

 

To spice it up, suppose they earn 0% for the next 7 years.

 

At $12, that will reward us with returns of 20% annualized for the next 7 years if the overall situation makes it back to a reasonable one by then.  By reasonable I mean a 13% ROTCE and 13x P/E by 2027.

 

That's well beyond historical returns, and looks more like equity-option returns but without strike or expiry risk.

 

Based on this scenario, $12 does not look like the appropriate price to me if one assumes 5% returns on equity for the next 5+ years..

 

If I believed that reversion to the mean on ROTCE and they won’t take an impairment on their assets at time zero then yes that sounds great.

 

All those assumptions rely on the TBV not declining in the middle of a crisis and a reversion to the mean on the ROTCE?  This is what I don’t see happening, a return to the average ROTCE (it was already in a declining trend because the banks weren’t able to lend out their capital on quality loans and regulators, rightfully so, forced them to build capital after the banking crisis, but it was still a solid 10% even with interest rates compressing their NIMs) and that in my view is due to too much leverage in the system / now needing to delever, potential change in consumer spending depending on the unknown outcome of COVID-19, losses in businesses/asset values and/or jobs, and lack of population growth going forward. As I mentioned before this was already happening prior COVID-19 just accelerated it in a few months.

 

Say WFC takes more losses and TBV drops to start, maybe $25/share on TBV and they earn 0% on that for 10 years and stay at 5-7% going forward. Is that a good investment or is that a probability of 0 in people’s view? 

 

The main question obviously is why do so many assume ROTCE will revert to the mean. I don’t think if I was analyzing a desktop manufacturer I would have the luxury of saying the demand for desktop PCs will return to the mean demand. So I don’t get why when others look at banks they get to say we can’t predict interest rates yet a banks business is based of earning a spread on interest rates and the money center banks spreads have been going down for a long time.  They have done a good job of managing that and I am just repeating myself but at low sustained rates it becomes very difficult to earn the double digit ROTCE. 

 

Have factors not potentially changed that may not make the reversion to even the 10% WFC was earning prior to the crisis different? 

 

 

 

 

 

 

 

 

 

 

 

[A_Hamilton]

I can't simultaneously worry about their assets and capital taking a massive whack because of all the loan charges from the impending depression and also worry about their inability to ramp up lending for the last several years prior to said economic disaster or I will get a nosebleed.  Do you really want to book a bunch of "growth" for the years 2017 through 2020 if you think anything like what you are worried about is going to happen? 

 

They have a lot of expenses to trim even aside from the regulatory burdens.  This week Shrewsberry was already putting people on notice that cuts are coming.

 

You absolutely want growth right now. It is very unlikely that there will be net fixed capital formation on the bank end of this for a very long time. Thus, net loans across the system will very likely be muted to down over the next several years. You want to steal every relationship you possibly can in this environment and early before spreads begin to narrow dramatically for the shrinking pool of corporate borrowers. Too, on the bank end of this if loan demand starts to pick back up you want to be in pole position with CFO's/Treasurers of more companies. Wells is going to be forced to exit good relationships. It is hard to get back in once you volunteer out.

 

Too on the securities side a larger balance sheet is going to allow you to serve as the intermediary throughout markets. Listen to Daniel Pinto at JPM's most recent fireside chat. That scale you gain is invaluable and makes it very difficult to lose money in fixed income trading businesses.

 

We'll see how Wells does, but the asset cap in the current environment is similar to the death penalty for SMU (no, I'm not suggesting WFC will be a $0 or anything close to it)...you'll be able to field a team again, it is just going to be very badly hindered for a long long time.

[ERICOPOLY]

but it was still a solid 10% even with interest rates compressing their NIMs) and that in my view is due to too much leverage in the system

 

Look at BAC which has TBV of $20.  BAC earned $2.75 in 2019, and $2.61 in 2018.

 

Why are you saying 10% when this looks like 13%?  JPM did even better.

 

These were not the best NIM environments as you've pointed out.

 

Seven years from now, why can't WFC do as well as BAC has been doing over the most recent pre-COVID years?

 

 

[erdospi]

but it was still a solid 10% even with interest rates compressing their NIMs) and that in my view is due to too much leverage in the system

 

Look at BAC which has TBV of $20.  BAC earned $2.75 in 2019, and $2.61 in 2018.

 

Why are you saying 10% when this looks like 13%?  JPM did even better.

 

These were not the best NIM environments as you've pointed out.

 

Seven years from now, why can't WFC do as well as BAC has been doing over the most recent pre-COVID years?

 

Because those returns were really only the last 1-2 years. They were earning 10% or so prior.

 

Yes, not the best NIM environment and now it’s deteriorating worse. Not saying there can’t be one year of 15% ROE on the way down.

 

Because of the lack of population growth and loan demand as rates likely remain low due to the FED trying to stimulate economic growth where that leverage does not get the same return on GDP as it has in the past.

[erdospi]

but it was still a solid 10% even with interest rates compressing their NIMs) and that in my view is due to too much leverage in the system

 

Look at BAC which has TBV of $20.  BAC earned $2.75 in 2019, and $2.61 in 2018.

 

Why are you saying 10% when this looks like 13%?  JPM did even better.

 

These were not the best NIM environments as you've pointed out.

 

Seven years from now, why can't WFC do as well as BAC has been doing over the most recent pre-COVID years?

 

Because those returns were really only the last 1-2 years. They were earning 10% or so prior.

 

Yes, not the best NIM environment and now it’s deteriorating worse. Not saying there can’t be one year of 15% ROE on the way down.

 

Because of the lack of population growth and loan demand as rates likely remain low due to the FED trying to stimulate economic growth where that leverage does not get the same return on GDP as it has in the past.

 

I don’t think this is a WFC specific problem either.

[ERICOPOLY]

Because of the lack of population growth and loan demand as rates likely remain low due to the FED trying to stimulate economic growth where that leverage does not get the same return on GDP as it has in the past.

 

And that was the reason given for why things would not turn around after 2008.

[ERICOPOLY]

Because those returns were really only the last 1-2 years. They were earning 10% or so prior.

 

Sure, while they were running off the GFC.  And after 7 years passed...

 

Today there isn't a GFC book of loans to run off.  Only COVID-19 exacerbated recession, the end to the severity of which is a vaccine away.

 

[erdospi]

Because of the lack of population growth and loan demand as rates likely remain low due to the FED trying to stimulate economic growth where that leverage does not get the same return on GDP as it has in the past.

 

And that was the reason given for why things would not turn around after 2008.

 

Just look at the population pyramids for various countries and then the US and look at the US population pyramid back in 2007-2010. I am not of the opinion it’s 100% chance your scenario doesn’t happen but It seems fairly difficult given the population pyramid alone, if you want to remove the interest rate piece.

 

There a lot of different scenarios that could of come out of 08/09 that didn’t so I don’t think just think about the one that occurred. 

[erdospi]

Because those returns were really only the last 1-2 years. They were earning 10% or so prior.

 

Sure, while they were running off the GFC.  And after 7 years passed...

 

Today there isn't a GFC book of loans to run off.  Only COVID-19 exacerbated recession, the end to the severity of which is a vaccine away.

 

Why were the loan to deposit ratio so out of whack for the banking system? Because of regulations or lack of quality loans to be made?

[ERICOPOLY]

There a lot of different scenarios that could of come out of 08/09 that didn’t so I don’t think just think about the one that occurred.

 

I doubt that anyone on the board thinks only of the one scenario that occurred.

 

It does, however, answer much of your questions.  The stock isn't at $12 because yours is not the only outcome that people are thinking about, and the stock is not at $40 because the positive outcome is not the only outcome that people are thinking about.

 

Your negative potential outcome and the poor environment of today has always been in the future.  Today it is being considered in the pricing to a greater extent, and we don't know what will happen going forward.

[ERICOPOLY]

Because those returns were really only the last 1-2 years. They were earning 10% or so prior.

 

Sure, while they were running off the GFC.  And after 7 years passed...

 

Today there isn't a GFC book of loans to run off.  Only COVID-19 exacerbated recession, the end to the severity of which is a vaccine away.

 

Why were the loan to deposit ratio so out of whack for the banking system? Because of regulations or lack of quality loans to be made?

 

We don't know how many quality loans there are to be made 7 years from now, but we do know that we have been in a tough regulatory environment the past 10 years and there is no appetite to reverse it today.

[ERICOPOLY]

Just look at the population pyramids for various countries and then the US and look at the US population pyramid back in 2007-2010. I am not of the opinion it’s 100% chance your scenario doesn’t happen but It seems fairly difficult given the population pyramid alone, if you want to remove the interest rate piece.

 

First, I honestly don't have an opinion about the population period.  So much is muddied.  For example, where does "the lost generation" play into this?  Not the WWI version, but the one financially devastated this century.

 

[erdospi]

There a lot of different scenarios that could of come out of 08/09 that didn’t so I don’t think just think about the one that occurred.

 

I doubt that anyone on the board thinks only of the one scenario that occurred.

 

It does, however, answer much of your questions.  The stock isn't at $12 because yours is not the only outcome that people are thinking about, and the stock is not at $40 because the positive outcome is not the only outcome that people are thinking about.

 

Your negative potential outcome and the poor environment of today has always been in the future.  Today it is being considered in the pricing to a greater extent, and we don't know what will happen going forward.

 

That’s not my negative scenario but I get the I don’t know piece and the wide distribution of outcomes. I just can’t get over the NIMs and the probability seems to high that they shrink. Appreciate the candid “we don’t know” which I don’t disagree I’ll just move on and watch from the sides and put it in the too hard pile. Always enjoy your thoughts Eric.

[ERICOPOLY]

That’s not my negative scenario

 

Fair enough, but if there is 5% ROTCE (your numbers) a $12 stock price is a 12.5% earnings yield. 

 

If the US economy is turning Japanese, does that make sense when the Japanese stock market has traded at less than a 5% earnings yield for a couple of decades?

 

Why not 14x earnings when the overall market P/E exceeds 20x in a no-growth disinflationary or mildly deflationary environment?  I don't think that is the experience of Japanese banks but I'd like to understand why.  Did they hoard additional equity in order to buffer against recession (and more cushion is needed with a tight NIM)?

 

[rranjan]

I don't think that NIM will fall drastically to take return on tangible capital in 4-5% range for any extended period.

 

Absolute level of interest is less important than difference between long and short term rates.

 

Econommy in Japan is totally different due to very low return on investment by businesses. Bubble was too big in Japan and due to different set up, cleaning up takes a long time there.

 

 

 

 

[erdospi]

Just look at the population pyramids for various countries and then the US and look at the US population pyramid back in 2007-2010. I am not of the opinion it’s 100% chance your scenario doesn’t happen but It seems fairly difficult given the population pyramid alone, if you want to remove the interest rate piece.

 

First, I honestly don't have an opinion about the population period.  So much is muddied.  For example, where does "the lost generation" play into this?  Not the WWI version, but the one financially devastated this century.

 

Just go to this site or any population pyramid site and contrast US, Japan, and India.

 

https://www.populationpyramid.net/united-states-of-america/2020/

 

"the lost generation" is just another factor.  The age demographics are the issue on what percentage of the population can be productive in society.

[erdospi]

That’s not my negative scenario

 

Fair enough, but if there is 5% ROTCE (your numbers) a $12 stock price is a 12.5% earnings yield. 

 

If the US economy is turning Japanese, does that make sense when the Japanese stock market has traded at less than a 5% earnings yield for a couple of decades?

 

Why not 14x earnings when the overall market P/E exceeds 20x in a no-growth disinflationary or mildly deflationary environment?  I don't think that is the experience of Japanese banks but I'd like to understand why.  Did they hoard additional equity in order to buffer against recession (and more cushion is needed with a tight NIM)?

 

OK, so run the NIM at 100bps and tell me what you get?  I get a loss of $4B + if everything stayed the same.  If I take it to 150bps I get ROTCE of just under 2%.  If they can get 200bps I then get a ~6% ROTCE.  Now I also believe the equity is impaired from COVID-19 losses so even if they can maintain 150 to 200bps NIM to get 2 to 6% then I don't think that is all that attractive. 

 

The argument about the Japanese stock market is a good question.  I don't know the answer, are we going to have wells with a 2% ROTCE trading at 50x's earnings, maybe.  Obviously I don't know but mark me down as skeptical.

 

Then you're question on the Japanese banks (and clarify if I am wrong if you are asking if the US banks hoarded capital) as far as I understand it, someone correct me where I'm wrong, they carried the zombie loans and still have zombie loans to this day.  EU banks have a similar problem.  So the general idea was the banks were insolvent and kept lending to insolvent borrowers and they were trying to build equity unsuccessfully.  I'm sure I can find a better discussion than below but they are enough to get an idea of what the banks did there. 

 

This paper is worth a read on it: https://economics.mit.edu/files/1787

or these articles:

https://internationalbanker.com/banking/spectre-zombie-banks/

https://review.chicagobooth.edu/economics/archive/zombie-lending-japan

 

 

 

[erdospi]

I don't think that NIM will fall drastically to take return on tangible capital in 4-5% range for any extended period.

 

Absolute level of interest is less important than difference between long and short term rates.

 

Econommy in Japan is totally different due to very low return on investment by businesses. Bubble was too big in Japan and due to different set up, cleaning up takes a long time there.

 

OK please enlighten me with numbers from WFC specifically and why the NIM would hold up better?  That's exactly what I want to try to figure out more so than interim losses from COVID-19 which they can earn their way out of. 

 

What are you saying with the absolute level of interest rates you think the 10 year at 65bps or around there is below inflation? 

 

Let me put this another way and I'm sure I am wrong, I hope it doesn't fall as far as a negative scenario could take it and the FED doesn't stuff losses creating zombie banks, but again I am sure I am wrong and am missing something please show some data/numbers rather than how one gets to that thought.

 

WFC has roughly $65B in interest earning income with a cost of $20B or so including provisioning (or we can go of CECL if you want).  Then they have roughly $35B of Noninterest income and $55B of non interest expenses.  That $55B has a lot that can be taken out of it over time.  But just take the that and you get $25B in pretax earnings.  This is all on $1.7B or so of assets.

 

Take the NIM down or up as you please but the NIM at 150bps or where the EU banks were on average in 2015 when they stopped reporting the aggregate number, and you get roughly a 1.5 to 2.0% ROTCE.  I assume the costs will be cut and that can get towards 5%.  If they can't cut costs drastically an investor is getting $2-3B in earnings on 150bps after they pay out the $1.6B in preferred stock divs.  200bps it's just under $10B assuming everything else stays the same.

 

The upside is great if they can get back to 300bps, roughly $25B.  But I have a hard time seeing that given where rates are and are likely to remain glued. 

[SHDL]

On the long term direction of interest rates and NIMs, here are some things that I am keeping an eye on:

 

1. Inflation may go up and bring nominal rates up with them. This is a long term policy goal for the Fed, and I expect them to attain it at some point.

 

2. Real rates could go up (even if overall growth remains sluggish) if there is a big enough shift of resources toward capital intensive industries/activities (like electric/autonomous vehicles, robotics, clean energy infrastructure, space exploration, moving supply chains out of China, mass migration out of major cities, etc).

 

3. The possibility of further consolidation in the banking industry which improves margins/profitability.

 

I think the concerns about losses and impairments during this pandemic/recession are valid. I suspect they could be quite large and I have not bought bank stocks recently for this reason.

[CorpRaider]

I can't simultaneously worry about their assets and capital taking a massive whack because of all the loan charges from the impending depression and also worry about their inability to ramp up lending for the last several years prior to said economic disaster or I will get a nosebleed.  Do you really want to book a bunch of "growth" for the years 2017 through 2020 if you think anything like what you are worried about is going to happen? 

 

They have a lot of expenses to trim even aside from the regulatory burdens.  This week Shrewsberry was already putting people on notice that cuts are coming.

 

You absolutely want growth right now. It is very unlikely that there will be net fixed capital formation on the bank end of this for a very long time. Thus, net loans across the system will very likely be muted to down over the next several years. You want to steal every relationship you possibly can in this environment and early before spreads begin to narrow dramatically for the shrinking pool of corporate borrowers. Too, on the bank end of this if loan demand starts to pick back up you want to be in pole position with CFO's/Treasurers of more companies. Wells is going to be forced to exit good relationships. It is hard to get back in once you volunteer out.

 

Too on the securities side a larger balance sheet is going to allow you to serve as the intermediary throughout markets. Listen to Daniel Pinto at JPM's most recent fireside chat. That scale you gain is invaluable and makes it very difficult to lose money in fixed income trading businesses.

 

We'll see how Wells does, but the asset cap in the current environment is similar to the death penalty for SMU (no, I'm not suggesting WFC will be a $0 or anything close to it)...you'll be able to field a team again, it is just going to be very badly hindered for a long long time.

 

Thanks for the interesting response.  I was thinking:  Ideally the asset cap will come off during the crisis (likely, as a regulatory reaction thereto) right when competitors are struggling with digesting all the loans they made during the last 3 - 5 years (e.g., citi ramping up unsecured consumer lending and becoming distressed again as they do every 5 years or so). 

 

Wells wasn't expanding to take on those beautiful golden west and countrywide customer relationships going into the last crisis either.  At least not until regulators went to them and begged them to steal Wachovia (but this time nothing as dramatic, just saying "cuffs are off boys, go lend!").

 

I personally don't want anything to do with trading businesses other than required to support the commercial banking operation.  Like Munger, I would only own WFC, BAC, or USB (maybe PNC) among the very large, network effect, money-supply banks and I kind of hate the former Merrill business, so that would be my last choice.