Big banks' fuzzy math
JPMorgan and Wells Fargo play up an obscure measure of their profitability to show how strong they are - but surging credit losses may hint otherwise.
NEW YORK (Fortune) -- Just in time for TARP repayment season, the big banks have found a new way to show off their supposedly good health.
CEO Jamie Dimon has spent the past year boasting of his bank's "fortress balance sheet," but he shifted gears Thursday, stressing another factor that he said will see JPMorgan through the economic crisis: the underlying earnings power of its core consumer, commercial and investment banking businesses.
JPMorgan said its pretax, pre-provision earnings -- reflecting the profits the firm brings in before paying Uncle Sam or taking account of current and future loan losses -- were $13.5 billion in the first quarter.
The bank hasn't previously publicized this figure, which is favored by analysts but isn't recognized under generally accepted accounting principles, in its earnings releases. But JPMorgan isn't the only bank trotting it out.
A week ago, for instance, Wells Fargo (WFC, Fortune 500) surprised investors by saying it expected to post a $3 billion profit in its first quarter -- double Wall Street's expectations. Just in case the message wasn't clear, the bank also said in that release that its pretax, pre-provision earnings for the quarter were $9.2 billion.
"Business momentum in the quarter reflected strength in our traditional banking businesses, strong capital markets activities, and exceptionally strong mortgage banking results," Wells said last Thursday.
Big bank profits won't make everyone happy, given the uproar in Congress over rising fees and weak loan volumes at financial firms taking federal help over the past year.
But with the biggest institutions awaiting the results of federally administered stress tests, due in coming weeks, executives are eager to paint a picture of their institutions as healthy and stable.
After all, investors - who have flooded back in to bank shares over the past month - may soon be called on to buy more stock.
Analysts are anticipating a flurry of capital-raising among banks once the stress tests end. They expect to see the healthiest institutions following in the footsteps of Goldman Sachs and selling stock en route to an early exit from the Troubled Asset Relief Program. Weaker banks are expected to try to raise money, with less certain success, to bolster their capital cushions.
The good news at JPMorgan and Wells is that the first quarter's pretax, pre-provision profits are -- like the bottom lines the banks reported -- better than analysts were expecting.
JPMorgan benefited from a much stronger performance at its investment bank, where revenue more than doubled from a year ago. Wells enjoyed the fruits of a federally engineered mortgage refinancing boom.
The bad news is that credit costs -- reflecting the expenses tied to writing off bad loans and reserving for future losses -- are rising and expected to go higher.
JPMorgan said first-quarter credit costs surged 97% from a year ago to $10 billion, including a $4 billion addition to its loan loss reserve. The bank's loan loss reserve stands at 4.5% of total loans -- up from 3.6% at the end of 2008. It's also well above rivals' levels.
Yet nonperforming loans rose even faster in the first quarter, with the bank's reserves falling to 241% of nonperforming assets from 260% at year-end.
That's why even with all JPMorgan's firepower, Dimon isn't breathing easy.
"If the economic environment deteriorates further, which is a distinct possibility, it is reasonable to expect additional negative impact on our market-related businesses, continued higher loan losses and increases to our credit reserves," he said.