4 Things to Expect from Q2 Bank Earnings

With the second quarter now in the books, investors and analysts are turning their attention to bank earnings results, which will start to come out mid-July. Banks have spent much of the first half of 2021 seeing their stock prices move upward, as the economy has been on the mend. Most banks reported strong first-quarter earnings results and got a nice jolt recently when restrictions on capital distributions expired, enabling most large banks to announce increases to dividends and in some cases new stock buyback plans. Here are four things to expect from bank Q2 earnings results.

1. Banks might have difficulty topping Q1 earnings 

To give you an idea of what to expect in terms of earnings per share (EPS) and revenue, here is what banks actually generated in Q1 and what the Street is expecting them to generate in Q2 from a consensus standpoint.

Data source: Bank financial statements, Yahoo! Finance.

There is a clear pattern from the Street in that analysts on average expect EPS and revenue to decline from levels seen in the first quarter, and quite significantly in some cases. But keep in mind that banks blew away earnings estimates by analysts last quarter.

For instance, JPMorgan beat the consensus estimate for EPS by 45%, while Goldman Sachs absolutely walloped estimates by 82%.JPMorgan outperformed with a large release of reserves that were previously stowed away for loan losses that didn't end up materializing, while Goldman's investment bank and trading operations blew away forecasts.

I think analysts have been quite conservative and I would not be surprised to see most banks beat estimates, but I am more uncertain on whether banks can beat their strong Q1 results.

Image source: Getty Images.

2. Expect banks to release more reserves

On the topic of reserve releases, I would expect to see more in the second quarter, particularly from the big four lenders -- JPMorgan, Bank of America, Citigroup, and Wells Fargo. Banks stashed away billions to prepare for loans losses that would come about from the pandemic, but government intervention and actions by the Federal Reserve helped build a bridge that enabled most borrowers to get back into better financial health.

And banks for the most part have said throughout the quarter that the credit outlook continues to look quite strong. Through a release, banks essentially record a negative provision for loan losses, which goes back onto the income statement and adds to profits.

I would expect to see a large release from Wells Fargo. Not only has CEO Charlie Scharf said to expect a significant release, but if you look at all of the banks' reserve coverage ratios, Wells Fargo's is still quite high. As I've written previously, at the end of the first quarter, Wells Fargo was technically $9 billion above its reserve levels prior to COVID. While I don't expect the bank to get down to that level, the release should be big.

JPMorgan also has room to keep releasing reserves after releasing $5 billion in the first quarter, and Citigroup CFO Mark Mason said to expect a release, but not as much as the nearly $4 billion the bank released in Q1.

3. Banks are likely to see similar net interest income

I am not expecting to see a huge change in net interest income levels from the first quarter, which is the amount of money banks make on interest-earning assets such as loans and securities. Federal Reserve data shows that loans and leases in domestically chartered commercial banks remained stable between January and May of this year, but then dipped from May levels through June 16.

Securities purchases, which is where banks tend to put excess liquidity when they can't find loan growth, have grown consistently for the year and are up close to $450 billion between January and June 16 for U.S. domestically chartered commercial banks.

In June, JPMorgan CEO Jamie Dimon announced that the bank had cut its annual net interest income estimates from $55 billion to $52.5 billion, largely because the bank didn't want to invest in securities at their current rates and loan growth remained muted.And that's another thing: The yield on the U.S. 10-year treasury bill, a common security that banks invest in, declined a decent amount from the end of the first quarter, making me wonder how many banks took the route of JPMorgan and stockpiled cash, which could hurt net interest income in the near term.

10 Year Treasury Rate data by YCharts

Wells Fargo maintained its net interest income outlook for the year of flat to down 4%. Bank of America was perhaps the most hopeful, with CEO Brian Moynihan saying that loan growth stabilized in March and grew a little in April and May. Overall, I am not expecting to see much change in net interest income, which hopefully starts to visibly pick up in the third quarter.

4. Investment banking and trading should start to normalize

The massive increase in investment banking and sales and trading revenues that powered many large banks through the depths of the pandemic looks to be normalizing. Dimon said that he expects fixed-income and equities revenues at JPMorgan to come in north of $6 billion for the second quarter. That's significantly lower than the more than $9 billion JPMorgan did in those categories last quarter and from fixed income and equities revenue in the first quarter. However, Dimon did say that investment banking "could be one of the best quarters we have ever seen."

Mason said he expects Citigroup to see its fixed income and equities markets revenues down in the low 30s percentage range from Q2 of 2020. But remember, Citigroup's fixed income and markets revenue jumped 50% in Q2 2020 from Q2 2019, so it should still be up from pre-pandemic levels. Mason also said he expects investment banking down in the low- to mid-single percentage digit range.

Ultimately, investment banking and trading profits are still quite strong, but are starting to cool off from the incredibly high levels that have been seen over the past five quarters.