Wall Street says it is braced for losses. Now what?

Goldman Sachs and Morgan Stanley, which are more skewed towards investment banking, posted stellar profits. Wells Fargo, a mostly commercial …

As the perils of higher provisions and the spoils from market volatility became less dramatic, investors’ attention turned towards a more prosaic influence on earnings: banks’ net interest incomes, or the difference between the interest collected on loans and other assets and the interest paid on deposits and other funding. These have been squeezed by interest-rate cuts by the Federal Reserve and low long-term bond yields. America’s five large banks earned $44bn in net interest income in the third quarter, 13% less than in the same period last year. All together, reduced interest income, calmer trading revenues and subsiding credit costs meant that profits were lower than they were a year ago, but less starkly so than in the second quarter. Profits fell by 11% across Bank of America, Citigroup and JPMorgan in the third quarter, compared with a drop of 56% in the second.

The question now is what banks will do with their earnings. Regulators, still scarred by the global financial crisis of 2007-09, want well-padded shock absorbers. On September 30th the Fed said that the 33 banks with more than $100bn in assets would remain barred from buying back shares in the fourth quarter. Dividend payments are allowed, in contrast to Europe, but capped. As a result many banks are accruing capital. JPMorgan’s common-equity capital ratio rose to 13.0%, from 12.3% in the third quarter last year. At Bank of America the ratio climbed to 11.9%, from 11.4%. That is about $35bn above regulatory requirements, Paul Donofrio, its chief financial officer, told analysts.

With buy-backs off the table, bosses can either spend or save the cash. Some are splashing out. Bank of America said it had invested in adding branches in the third quarter, pandemic notwithstanding. Others are acquiring new businesses. On October 8th Morgan Stanley announced that it was buying Eaton Vance, an asset manager, for $7bn. That came just days after it completed its purchase of E*Trade, an online trading platform.

The extra capital could also come in handy if the economy fares worse than even the dismal scenarios baked into loan-loss provisions. Banks’ bosses sounded cautiously optimistic that this would not be the case. But investors have their doubts. Banks’ share prices are still a third below their levels at the start of the year.