Wells Fargo & Co. Earnings: Has the Bank's Growth Peaked?

On Friday, Wells Fargo (WFC 0.99%) will release its quarterly report, and shareholders have been quite pleased with the big bank's recovery from the worst of the financial crisis almost six years ago, bidding up Wells Fargo stock to all-time record highs within the past month. Yet even as the bank has demonstrated an uncanny ability to outperform rivals Bank of America (BAC 1.55%) and Citigroup (C 2.17%), Wells Fargo still has to deal with the challenges that increased regulation could impose on it, with the danger that new limits could put a cap on potential future growth.

Wells Fargo suffered along with Citigroup, Bank of America, and the rest of the banking industry when the bottom fell out of the mortgage market.

Unlike many of its peers, though, Wells Fargo managed to get a good handle on its assets, and as a consequence, its stock has climbed back above its pre-crisis levels even as Citigroup and Bank of America continue to languish.

Nevertheless, with rising interest rates having hurt mortgage refinancing activity and with most of the benefit from falling loan-loss provisions having already been realized, can Wells Fargo keep its earnings moving in the right direction? Let's take an early look at what's been happening with Wells Fargo over the past quarter and what we're likely to see in its report.

Stats on Wells Fargo

Source: Yahoo! Finance.

Can Wells Fargo earnings keep topping expectations?
Investors have gotten more optimistic in recent months about Wells Fargo earnings, boosting their full-year earnings projections by almost 2%. The stock has kept climbing as well, with gains of 6% since early April.

Wells Fargo's first-quarter report showed yet again the success that the bank has had in keeping its business healthy. Even as mortgage borrowing activity slowed due to rising rates, Wells Fargo was able to boost its loan portfolio by increasing its exposure to commercial real estate and other types of consumer credit, such as credit cards and auto loans. As consumers become more comfortable with the trajectory of the economic recovery, they're becoming more comfortable taking on debt, and Wells Fargo did a good job of tapping into that demand for cash. At the same time, improving credit quality allowed the bank to release another half-billion dollars from its loan-loss reserves, and a strong stock market boosted Wells Fargo's brokerage unit as well.

Yet Wells Fargo is one of the few banks expected to see earnings rise from year-ago levels this quarter. Bank of America and Citigroup are both struggling from sluggish performance, with a large drop in revenue from trading activity likely to hit Citi's business especially hard. Looking forward, that trend is likely to continue, as the threat of new capital requirements would have a bigger impact on Bank of America and Citigroup than on Wells Fargo. Citigroup had its capital-distribution plan initially rejected by the Federal Reserve earlier this year, indicating the Fed's uncertainty about the adequacy of its current capital plan in light of its unusual global business strategy.

One essential component of Wells Fargo's success has come from the bottom up, with the bank's emphasis on basic sales practices. Wells Fargo prides itself on making the most of its existing customers, with cross-selling initiatives designed to get as large a percentage of each household's overall banking needs as possible. Moreover, by coordinating with its customers, Wells Fargo can anticipate their needs and develop new products tailored to meet them.

Yet the big question investors have to ask is whether Wells Fargo stock already reflects its superior internal performance. Wells trades at more than double the price-to-book ratio of Citi and Bank of America, and while investors remain more concerned about the potential impact of litigation and regulation on those two banks than on Wells Fargo, no large bank will emerge unscathed from regulatory action aimed at tightening leverage and reducing risk.

In the Wells Fargo earnings report, watch to see where the bank's pockets of strength are. With great uncertainty in the interest rate picture, Wells Fargo's competitive advantage will continue to be in drumming up new ways to make money in areas that its peers ignore. If Wells Fargo stops being successful on that front, then its long history of growth could come to a standstill at least temporarily.

Click here to add Wells Fargo to My Watchlist, which can find all of our Foolish analysis on it and all your other stocks.