As interest rates continue to head higher, banks should earn more money from net interest income. Yet, even though the Federal Reserve has raised rates twice since the beginning of December, Citigroup's (C 1.91%) net interest margin fell in the first quarter, meaning that it generated a lower net yield from its portfolio of interest-earning assets this year than it did in the first quarter of 2016.
In the segment below of Industry Focus: Financials, The Motley Fool's Gaby Lapera and John Maxfield explain why Citigroup is bucking this trend.
A full transcript follows the video.
This video was recorded on April 17, 2017.
Gaby Lapera: Even though JPMorgan and Citi did generally well, Citi's net interest margin went down. Can you talk a little bit about that?
John Maxfield: Yeah, and I'm really glad you brought that up. One of the narratives in the banking industry right now is that banks are going to earn a lot more money as interest rates continue to go up. Since the financial crisis, interest rates have been really low. But in December of 2015, the Federal Reserve increased interest rates by 25 basis points. They did so again in December of last year and did so again one more time in March of this year. When interest rates go up, that means it costs more to borrow. And because the principal product that commercial banks in particular sell are loans, if the prices of those loans go up, that translates into higher revenue. What we're seeing with Citigroup, and we're going to see a lot of that with Bank of America when it reports earnings tomorrow and throughout the year, because it's come out and said, "Look, on a quarterly basis, just because of that 25 basis points," that's a 0.25% increase in the fed funds rate, which is the rate that banks lend money, the reserves that are held at the Federal Reserve, if they have excess reserves held there, they lend those reserves out on an overnight basis to other banks that need more liquidity.
So as that has gone up, Bank of America is going to make all this additional money. But here's the thing. In Citigroup's case, and JPMorgan Chase is seeing the same thing, and other banks are expected to see that, too, but Citigroup didn't see that, and the reason is because it is still dealing with a lot of churn on its balance sheet related to toxic assets that date back to the financial crisis. So there's all this other noise in the numbers that is disguising the positive impact of higher interest rates on Citigroup's bottom line.
Lapera: Yeah. I will say, it's 2017, it's been a while. You would think they would have sorted through this a little bit quicker, and I think that speaks to the complex structure that Citibank has, that it's so difficult for them to unload these assets, with the regulations on them. But hopefully we see a little bit more hustle on that.
Maxfield: It also speaks to the magnitude of the issues that Citi ran into in the financial crisis. It has taken a long time to work through these things. The other bank that had a similar thing was Bank of America, and it really didn't turn the corner until two years ago. So Citigroup is just a little behind it, but it eventually will turn the corner, and you'll see that in the bottom-line numbers.
Lapera: Yeah, eventually, one day, hopefully.