Wells Fargo (NYSE:WFC) found itself in national headlines again recently when Sen. Elizabeth Warren (D-Mass.) urged the Federal Reserve to annul the megabank's financial holding company license. She further asked the Fed to essentially break up Wells Fargo, making it sell its non-banking business units and investment banking operations, saying that "continuing to allow this giant bank with a broken culture to conduct business in its current form poses substantial risks to consumers and the financial system."
Such a strong request from Warren -- a member of the Senate Banking Committee and a staunch advocate for breaking up the nation's largest banks -- coupled with Wells Fargo's longstanding regulatory issues over consumer abuses and compliance failures, could leave some investors worried that the Fed or other regulatory agencies might indeed try to split up the bank. But I still think this is an extremely unlikely scenario. Here are three reasons why.
1. Breaking up Wells Fargo wouldn't address its core problems
Wells Fargo's biggest regulatory issues stem from its phony accounts scandal, in which thousands of employees at the bank opened millions of depository and credit card accounts for customers without those customers' approval or knowledge. It was one of the biggest scandals in banking history, but it had little to do with the institution's investment banking or non-bank activities. It had everything to do with Wells Fargo's high-pressure sales culture and its lending practices.
Of the four U.S. megabanks, Wells Fargo has the smallest investment banking operation, although it is seeking to expand that unit. It also left the Great Recession with the smallest loan losses of the four, and has consistently had good credit quality. In addition, Wells Fargo's structure has gotten a lot simpler in recent months. It announced several sales in asset management, its equipment financing business in Canada, its student lending portfolio, and its corporate trust services business. These divestments were made after management determined that the best strategy for the institution would be to focus on its core U.S. franchise.
2. It may not make the banking system safer
More than a decade after the Great Recession, some aspects of U.S. and global banking regulation are still in flux. While it's true that Wells Fargo could sell everything other than its traditional banking operations, it's unclear to me how that would make the overall banking system safer. Wells Fargo has actually performed worse than its large bank peers during the pandemic, and a big reason for that is that its investment banking unit isn't as large as theirs are.
All banks set aside significant amounts of capital early on in the pandemic to prepare for what they thought could be tens of billions in loan losses. At the time, those loan-loss provisions cut into bank earnings. Many banks likely would have experienced big losses in the first half of 2020 had it not been for the high volatility in the market, which set up a massive year for investment banking. For instance, JPMorgan Chase, the largest U.S. bank by assets, set aside a whopping $10.5 billion in loan-loss provisions in 2020's second quarter, but because the bank's corporate and investment banking division generated $16.5 billion in revenue, it still turned a profit for the period.
The Dodd-Frank Act was set up to regulate banks in their current forms. The largest banks have built up a ton of capital over the last decade, and their stability during the unprecedented conditions of the coronavirus pandemic shows that the regulations put in place after the 2008 financial crisis are at least in some ways working as intended. Revenue diversity played a key part in allowing banks to succeed during the pandemic. Stripping a bank of that diversification may not make it any safer in today's system.
3. Management is relatively new and has made progress
In her letter to the Fed, Warren cited the Bank Holding Company Act, which requires financial holding companies to be "well managed." She argues that the numerous consent orders that regulators have had to impose on Wells Fargo, and its failures to fully address the issues that led to them, show how poorly managed it is. This, she asserts, justifies breaking up the bank.
But Wells Fargo's current management team is still quite new. CEO Charlie Scharf was hired in 2019. He's only been in charge for two years, and he's been dealing with the challenges of the pandemic for more than half his tenure. But in his annual letter to shareholders, Scharf pointed to significant changes in the leadership and regulatory infrastructure at the bank.
The senior management team has seen major turnover. The operating committee, which as Scharf notes is the "senior-most group responsible for running the company," is largely new: Nine of its 18 members were hired by Scharf, and another four were new additions when he arrived. Ultimately, he says, roughly half of Wells Fargo's top 150 executives started their roles at the bank in 2020.
Scharf has also made progress in designing a new regulatory infrastructure at the bank. While there have been setbacks as well, Wells Fargo has seen consent orders lifted or terminated, and made progress toward getting its $1.95 trillion asset cap removed. It's also not uncommon for banks to take three to four years to get consent orders removed.
All in all, when you consider the number of consent orders the bank has to deal with, its asset cap, and the fact that it has brought in an entirely new management team -- not to mention dealing with the issues caused by the pandemic -- I think it would be tough for regulators to say that Wells Fargo hasn't made progress.