Value Line is regarded as the best independent research available. More than just recommendations, Value Line provides the rationale behind its picks for greater understanding.
- Don D., California
Dow-30 Earnings: JPMorgan Chase - Second Quarter 2012
JPMorgan Chase (JPM – Free JPMorgan Stock Report), a global provider of financial services and a component of the Dow 30, has reported better-than-expected June-quarter earnings, despite losses related to a trading strategy that went awry, and announced the restatement of March-quarter earnings. It also addressed investor concerns by discussing events that led up to the trading mishap and detailing actions taken to avoid similar problems in the future. Investors apparently took some comfort from the additional information, as the stock advanced more than 5% on the news.
Reported earnings for the June quarter came in at $1.21 a share, well above our revised estimate of $0.70, but a bit short of the $1.27 a share earned in the 2011 June interim. Results included $4.4 billion of losses (a negative $0.69 a share) related to the aforementioned trading mishap that were entirely offset by $1 billion of securities gains, reductions in reserves for mortgage and credit card loan losses, and other positive items. Rumors had placed possible trading losses in the period at up to $10 billion.
On the whole, its six business groups turned in decent operating performances. Investment banking revenue and profits declined 7%, reflecting soft market conditions, but were still relatively healthy. On the other hand, retail financial profits soared, aided by higher fee-based revenues, lower expenses, and a $1.4 billion reduction in the loan loss reserve. Card services, the third-largest contributor to earnings in the period, benefited from a 12% increase in credit card sales volumes and lower expenses.
The operating environment remains difficult. Demands that the bank buy back mortgages previously sold to investors may stay high in the near term. Low interest rates are squeezing margins in the consumer business. Moreover, the situation in the euro zone and investigations concerning the LIBOR rate create some uncertainty. But credit losses have been declining and expenses are expected to flatten out. Too, JPMorgan has significantly reduced the risk in the Chief Investment Office (CIO) unit's trading portfolio and looks for treasury and the CIO unit's quarterly losses to fall to about $200 million. We now are tentatively looking for full-year 2012 reported earnings of $4.90 a share and 2013 results of $5.25. A resumption of the share-repurchase program by late 2012 could boost results in 2013.
Note that the $1.31 a share of earnings reported for the March quarter was restated at $1.19 a share. The restatement was based on evidence, including emails and interviews, that suggested traders may not have marked down their positions appropriately at the end of the March quarter in order to avoid showing the full amount of the losses.
JPMorgan has conducted an extensive review of the factors that led to the trading mishap, and has concluded that poor judgment by the office charged with managing the company's credit risk (the CIO) and a level of scrutiny that did not keep pace with the increasing complexity of the unit's trading activities, among other factors, were to blame.
The company has taken aggressive measures to avoid similar trading problems in the future. It has transferred the trading assets formerly managed by the CIO to its Investment Banking division, which is better equipped to manage the risks. Senior members of the CIO management team have been replaced and governance controls have been strengthened. The CIO office is confining its focus to managing the company's investment portfolio and more granular trading risk limits have been introduced. In addition, Morgan plans to claw back about two years of compensation from the CIO managers in London that were responsible for the trading disaster.
In sum, investors probably can draw some comfort from the fact that the trading loss wasn't as large as expected, underlying earning power still seems intact, and the company is aggressively addressing the cause of the trading disaster. The $0.30-a-share quarterly dividend is not in danger, in our view. Long-term investors should benefit as the company puts the recent trading mishap behind it. However, the stocks of banks with large trading and investment banking operations, like JPMorgan, still seem a bit too risky for conservative accounts.
About The Company: JPMorgan Chase & Co. is a global financial services company offering a variety of services with operations in over 60 nations. At the end of 2011, JPMorgan held $2.3 trillion in assets and operations. Operational divisions include investment banking, treasury & securities services, asset management, commercial banking, retail financial services, card services, and private equity investment. The company had previously merged with Washington Mutual in September, 2008, Bank One in July, 2004, and Chase Manhattan in the final month of 2000.
At the time of this article’s writing, the author did not have positions in any of the companies mentioned.