Is The Recent Decline In JPMorgan’s Net Interest Margin Figure A Cause For Concern?

January 2nd, 2020 by Trefis Team
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JPMorgan (NYSE: JPM) has derived around 50% of its total revenues from net interest income over the last 5 years. This makes Net Interest Margin (NIM) a key operating metric for the bank, with slight fluctuations in the metric leading to sizable changes in JPMorgan’s revenues. Trefis has analyzed the change in JPMorgan’s Net Interest Margin and its impact on net interest income in an interactive dashboard, parts of which are highlighted below.

What Is Net Interest Margin?

Net Interest Margin is the difference between the interest income generated by the bank on its interest-generating assets and the amount of interest paid out on interest-bearing liabilities expressed as a percentage of the interest-earning assets

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Net interest margin = annualized net interest income for the period / average interest-earning assets for the period

What Happened?

  • JPMorgan’s net interest margin dropped 12 bps on a year-on-year basis, from 2.53% in Q3 2018 to 2.41% in the third quarter of 2019. Further, it decreased 8 bps on a sequential basis.
  • The figure improved from 2.53% in the third quarter of 2018 to 2.55% in the fourth quarter. It further increased to 2.57% in the first quarter of 2019, before recording a decline in the subsequent quarters.

Why Did It Happen?

  • Net Interest Margin is primarily dependent on the Interest Rate Spread a bank can maintain, as the other component (related to non-interest bearing funding) has a much smaller impact on the NIM figure.
  • Although average interest rate on interest-earning assets increased 3 bps from 3.53% in Q3 2018 to 3.56% in the third quarter of 2019 it dropped 17 bps sequentially from 3.73% in Q2 2019.
  • In fact, the average interest rate on interest-earning assets has decreased 24 bps from 3.80% in Q1 2019 to 3.56% in the third quarter signifying a negative trend over 2 quarters.
  • This decline in average interest rates could be attributed to Fed Rate cuts in the recent quarters.
  • On the other hand, average interest rates on interest-bearing liabilities have increased 19 bps from 1.28% in Q3 2018 to 1.47% in the third quarter of 2019.
  • While the interest rate showed a positive trend over Q3 2018 – Q2 2019, it reported a sequential decline of 9 bps in the third quarter.
  • This uptick in Q3 2019 can also be attributed to the Fed’s rate hike.
  • However, the decline in average interest rate on interest-earning assets for Q3 2019 was much higher than the decline in average interest rates on interest-bearing liabilities.
  • As a result, the interest rate spread has fallen 16 bps over the last 5 quarters from 2.25% in Q3 2018 to 2.09% in the third quarter of 2019, which is the main reason behind drop in net interest margin.

So What?

  • In Q3 2019, Average interest earning assets increased 7% y-o-y to $2.36 trillion. Further, it has been on a strong growth trajectory for several years now.
  • However, the same growth is not visible in the net interest income which increased just 2% y-o-y from $13.9 billion in Q3 2018 to $14.2 billion in the third quarter of 2019. Further, it is on a downward trajectory from the last two quarters.
  • This meager growth despite a steady increase in interest earning assets is due to a decrease in net interest margin.
  • If the trend continues, it could adversely impact JPMorgan’s Revenues in the near future, as net interest income constitutes more than 48% of the bank’s revenues.

Per Trefis, JPMorgan’s Revenues (shows key revenue components) are expected to cross $114.7 billion in 2019 – leading to an EPS of $10.12 for the year. This EPS figure coupled with a P/E multiple of 12.3x, works out to a price estimate of $124 for JPMorgan’s stock (shows cash and valuation analysis), which is 10% lower than the current market price (Our price estimate takes into account JPMorgan’s earnings release for the third quarter of 2019).

 

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