Low Interest Environment Responsible For BNY Mellon’s Mixed Q1 Results

Bank of New York Mellon (NYSE:BK) reported a mixed performance for the first quarter of the year this Tuesday, with the global custody bank beating earnings expectations despite missing revenue estimates. ^[1] Revenues of $3.6 billion were essentially the same as what the bank reported in the previous quarter, as well Q1 2013, with asset servicing fees making up for notable declines in interest incomes and trading revenues. Appreciation in equity market valuation for the period helped the bank reach its highest levels of assets under custody & administration (AUC/A) and assets under management (AUM), of $27.9 trillion and $1.62 trillion, respectively, boosting its performance-linked fees. BNY Mellon did manage keep expenses in check, though, as total non-interest expenses of $2.7 billion in Q1 2014 were 3% lower than the figure for Q1 2013 and almost 5% below that for Q4 2013.

We maintain a $35 price estimate for BNY Mellon’s stock, which is slightly ahead of its current market price.

See our full analysis for BNY Mellon here

Falling Interest Margins Hitting BNY Mellon’s Top Line

Our analysis of BNY Mellon shows that the bank draws 30% of its value from its asset servicing business and another 25% from its asset management business. It is the world’s largest custody bank and also a key player in the global asset management business. But as can be seen from the chart above, the next biggest source of value for the bank is the interest it earns on its interest-earning asset base of just under $285 billion. While the size of these assets have grown considerably over recent years, the prolonged low-interest rate environment has put considerable pressure on interest margins across banks. BNY Mellon has seen a particularly sharp revenue hit from shrinking net interest margin (NIM) figures.

The current economic conditions have squeezed BNY Mellon’s NIM figure from a high of almost 1.9% in early 2010 to its current all-time low figure of 1.05%. This disparity between the figure three years ago and today is quite large. To put things in perspective, if BNY Mellon’s NIM figure for Q1 was 1.9% instead of the 1.05% it witnessed, then its net interest revenues for the period would have been roughly $1.3 billion instead of the reported figure of $728 million.

While we expect margins to pick up this year, you can estimate the impact of falling margins on BNY Mellon’s total share value by making changes to the chart below.

Expense Management Key To Future Profitability

As we mentioned above, BNY Mellon reported non-interest expenses of $2.74 billion for the first quarter of 2014 – the lowest in the last six quarters. In comparison, these figures were $2.83 billion in Q1 2013 and $2.88 billion in Q4 2013. The improvements can be traced back to considerably lower “Other Expenses,” which fell 14% quarter-on-quarter and 27% from the year-ago figure. No doubt, the pressure on BNY Mellon by investors to cut costs in an environment not conducive to growing revenues are an important factor behind the change. In fact, the bank’s management highlighted the need to control costs over the coming quarters to ensure profitability on the Q1 earnings call.

You can understand how sensitive BNY Mellon’s share price is to its non-interest expenses by making changes to the chart below.

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1. BNY Mellon Reports First Quarter Earnings Of $661 Million or $0.57 Per Common Share, BNY Mellon Financial Releases, Apr 22 2014 [↩]