Wells Fargo & Co (WFC) Weathered Oil and Wealth Management
Wells Fargo & Co (NYSE:WFC) delivered earnings for the fourth quarter last week that topped the expectations even though its revenue fell shy of the estimations. That was a clear-cut indication that there appeared to be something, which was not going as predicted or planned. While the financial institutions were set to gain from the increased interest rates, it appears that they might be losing a few advantages, at least, to some extent. For instance, the banking industry is poised to make increased provision for loan exposure to the oil and gas sector. As the oil price, which has already hit a 12-year low, is predicted to drop down further, there is a threat of the banks losing a major portion of the interest rate gains in the current year. However, that does not mean that there were no other strengths. Let’s look at some of the factors that might come into play to take a call on the stock.
Concern On Oil Prices
One of the weaknesses that Wells Fargo & Co (NYSE:WFC)’s fourth quarter brought out was the exposure to the oil and gas sector that is threatening to get widen in the current year. No one can ignore the amount of the potential losses it could inflict on the financial institutions’ balance sheet in the upcoming quarters. Global oil prices were trading above $30 a barrel or even higher until last month. The recent development of lifting sanctions on Iran by the United States, as well as, the Europe has triggered the oil price to trade below the $30 per barrel level for the first time in twelve years.
It did appear that banks were somewhat lenient towards cash-strapped energy firms and avoided tough constraints for lending. That was because Wells Fargo & Co (NYSE:WFC) and other top banks believed that it would make the very survival a hard task. However, they could not prevent the losses getting increased from the energy portfolios if the fourth quarter earnings number were of any indications. For instance, the bank had to increase its provision for oil and gas portfolio by $90 million in the fourth quarter from the preceding quarter. That resulted in increased commercial loan reserves. The company pointed out that the weakness in the energy sector was offset by continued improvement in the residential real-estate loan portfolio. The bank has over $17 billion in loan assets to the oil and gas, and it set aside $1.2 billion in reserves last year blaming the continued deterioration in the energy sector.
Additional Reserve Build Seen
Wells Fargo & Co (NYSE:WFC) and other banks will continue to have problems in respect of the oil price in the current calendar year too. For instance, Goldman Sachs Group Inc (NYSE:GS) was the only brokerage that saw the oil price plummeting to $20 a barrel until a few days ago. However, Morgan Stanley (NYSE:MS) and Standard Chartered Bank have also seen the possibility of oil price hitting the targeted price level in the current year. The worst was that Standard Chartered even believes that the oil price would touch a low of $10 per barrel. That is a clear indication that the banks would have to increase reserves in bad loans for oil and energy in this year.
However, none of the banks including Wells Fargo & Co (NYSE:WFC) were ready to run away from the oil portfolio. One of the reasons was the limited exposure. For instance, WFC claimed its loan portfolio represented only 2% of its total loan portfolio, and 90% of them were current. A banking analyst at FBR, Paul Miller, said that the big banks exposure towards oil sector would range between 1% and 6% only. According to him, this does not present the same threat that mortgages posed in 2008. He was also confident that the exposure would not kill any of the banks unlike the years 2006 or 2007. That could be a saving grace. In any case, it reduces the profitability of the banks.
Wealth Management Might Perform Poorly
Another reason that worries the investors of Wells Fargo & Co (NYSE:WFC) was its performance in the wealth management. There was no doubt much of its performance depend on the market. In the fourth quarter, choppy markets reduced its revenue by 5% to $3.51 billion. The prolonged low-interest regime has forced the company, as well as, other banks to look towards the wealth management to increase the returns. Currently, the bank appears to be facing multiple pressures like competition, shakier markets, and tough regulations. As a result, its results were less encouraging than one would have expected. The global economy and the domestic economic data will play a crucial role in dictating the markets behavior in the coming months. That will ultimately reflect in the wealth management’s performance.
Interestingly, analyst Dick Bove of Rafferty Capital Markets said that wealth management is one of the segments that will not perform creditably in the next few years for the banks. However, Wells Fargo & Co (NYSE:WFC)’s CEO, John Stumpf, did not agree with the view. During a conference conducted by Goldman Sachs Group Inc (NYSE:GS), he said that the wealth management would provide the biggest opportunity. He pointed out that though it has 11% of the deposits, only 1 – 2% accounted in the wealth management. He termed the business to be a whole lot bigger than not a great one. He also claimed that the bank was better positioned to sell wealth management products than its peers. Another factor is that unless the Federal Reserve boosts the interest rates by another 75 basis points in three phases in the current year, the bank will not likely to gain anything significantly.
Loans were at $916.6 billion on December 31st, 2015 up $13.3 billion from the previous quarter. The company touted fourth quarter loan growth was across all portfolios except real estate 1-4 family junior lien mortgages. While growth was modest over the third quarter, on a year-over-year basis this represented 6.3 percent growth, and 7.8 percent when compared to core loans.
There is nothing big to impact Wells Fargo & Co (NYSE:WFC) shares drastically due to the exposure in the oil sector or the weak performance of the wealth management or fee-based income. However, such weaknesses reduce the chances of getting increased valuation since the profitability will get impacted by increased loan loss provisions. Also, any strength in other segments gets offset by the weaknesses in other divisions. While the bank has potential headwinds with oil and energy, higher interest rates should continue to provide upside.
Disclaimer: The opinions and data expressed herein by the author are not an investment recommendation and are not meant to be relied upon in investment decisions. The author is not acting in an investment advisory capacity, nor is this an investment research report. The author’s opinions expressed herein address only select aspects of potential investment in securities of the company or companies mentioned and cannot be a substitute for comprehensive investment analysis. Any analysis presented herein is illustrative in nature, limited in scope, based on an incomplete set of information, and has limitations to its accuracy. The author recommends that potential and existing investors conduct thorough investment research of their own, including detailed review of the companies’ SEC filings, and consult a qualified investment advisor. The information upon which this material is based was obtained from sources believed to be reliable, but has not been independently verified. Therefore, the author cannot guarantee its accuracy. Any opinions or estimates constitute the author’s best judgment as of the date of publication, and are subject to change without notice.
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