At a recent conference, Wells Fargo (WFC -0.37%) CFO Mike Santomassimo told investors to expect mortgage banking income to drop roughly 50% in the second quarter of this year compared to the first quarter. The news is not super surprising considering how much mortgage activity has fallen off due to the rapidly rising interest rate environment, but it's still concerning because Wells Fargo is a large mortgage lender.
Given this news and considering everything else happening in the market right now, is it time to buy or sell Wells Fargo? Let's take a look.
Does a mortgage dip hurt the bank's strategy?
It's not just Wells Fargo. Mortgage activity has plummeted across the industry due to soaring mortgage rates, which have recently started to hit 6% and higher. The Mortgage Banker's Association reported recently that total application volume last week fell close to 53% from the same week in 2021. Overall, mortgage banking income made up about 4% of Wells Fargo's total revenue in the first quarter of this year and close to 12% of total revenue in 2021.
Image source: Wells Fargo.
But the bank's broader strategy appears to be moving forward. Santomassimo at the conference said the bank still feels good about hitting its expense target of $51.5 billion for the year, which would be roughly $2.3 billion lower than 2021. Wells Fargo is in the midst of a multi-year effort to trim $10 billion of expenses. "I think there's opportunities everywhere," added Santomassimo when asked about reducing future expenses.
On the revenue side, although mortgage banking is down, Santomassimo said the bank's revamped credit card business continues to make progress. Not only has growth been outpacing the industry this year but the quality of the borrowers is better than the bank anticipated. Santomassimo said the bank will likely expand its credit card offerings as well. And then on net interest income (NII), the profits banks make on loans, securities, and cash after covering the cost of funding those assets, Santomassimo reiterated that the bank is still expecting NII to grow in the mid-teen percentage range from 2021, and it could be more depending on how everything plays out at the Federal Reserve.
And then at some point, I would expect Wells Fargo to eventually get a government-mandated asset cap removed, which has dogged the bank for more than four years now. The Fed placed the cap on the bank in 2018 as punishment for its phony-accounts scandal, in which employees opened credit cards and bank accounts for customers without their consent. The asset cap prevents Wells Fargo from growing its balance sheet past $1.95 trillion in assets, which has really cut into profits in recent years. It's hard to know when the cap will be removed, but the bank has made some progress and looks to be on its way toward asset cap removal.
Buy or sell Wells Fargo?
Although mortgage banking is taking a big hit, the benefit of NII should be more than enough to offset the impact. Wells Fargo also continues to make headway on its expense and efficiency initiatives and is finding some revenue opportunities in other areas such as credit cards. The bank is well capitalized and may be able to repurchase more stock later this year if things settle down, although Santomassimo said the bank hasn't repurchased any stock in the current quarter due to all of the volatility.
Finally, the stock price has fallen nearly 25% this year and currently trades at about 116% to its tangible book value, or net worth, and about nine times forward earnings. I find this to be an attractive valuation considering that the bank has a good strategic direction. Therefore, I would rate Wells Fargo as a buy.
