I was asked to come on a news programme the other day to talk about the state of banking. The latest third quarter results have come in, and most of the banks have produced stonking results, thanks to rising interest rates. Increasing rates rapidly on loans, while dragging their feet on savings rates, has created a basis points differential that delivers excellent profits and returns to shareholders.
A few examples:
- Revenue at Chase was up 34%;
- Citi’s revenue was up 10% and net income up 2%;
- Wells Fargo’s revenue was up 6.5%, net income up 6%; and
- Bank of America’s (BofA) revenue was up 3% and profits rose by 10%.
Clearly, the US banks have done pretty well. And the same is generally true in Europe, where Santander’s quarterly net profit leapt by 20% year on year, mainly by charging its borrowers higher interest on their debts.
Improved results also gave valuations a bit of a bump, as expected. For example, Deutsche Bank’s stock rose almost 7% on the back of its third quarter results; its look-ahead statement indicates that the bank could pay out more cash to shareholders over the next two years than previously anticipated. In addition, HSBC announced profits jumped 235%, to $7.7bn, along with a $3bn share buyback programme. So everyone should be happy.
But then share prices dipped. For example, Citi’s stock is down 8% year on year, Wells Fargo’s is down 1.3% and BofA’s dipped by 5%.
A fragile growth
So what’s going on? My view is that banks can create shareholder returns and good growth, but it is all fragile and purely tied to economic developments like rising interest rates. More generally, however, investors see banks as a dying breed.
This is highlighted in a new report by McKinsey, The Great Banking Transition, released in October. The consultancy firm notes that the largest banks lose value at a rate of 1% to 2% per year. As a sector, banking is underperforming all other industries by 70% on a price-to-book ratio.
In my opinion, this is because banks are not rising to the challenges of the future. In fact, I find it interesting that the tech industry has the highest price-to-book value. Why? Because tech is the future.
This combination is why fintech firms see their valuations far exceeding their delivery, and why banks like Goldman Sachs get frustrated with their poor delivery.
In 2019, speaking at an awards ceremony, David Solomon — at that time the new CEO of Goldman Sachs following Lloyd Blankfein — said: “If we were out in Silicon Valley and made 20% of the progress that we’ve made, we would get a lot of credit and people would be throwing money at us to own a piece of this business. But nestled inside little old Goldman Sachs, we’re just going to have to prove it over time.”
Four years later, Goldman Sachs’ consumer banking project Marcus has been a thorn in Mr Solomon’s side. It has failed. After losing money hand over fist following massive marketing investments and the huge costs of customer acquisition with little success, it has all been cut back.
What went wrong?
In the latest results round, Mr Solomon noted: “It was clear we lacked [a] certain competitive advantage and we did too much too quickly, which affected our execution … there were some clear successes but there were also some clear stumbles … we could have done a better job.”
What went wrong at Marcus? Was it the Apple partnership, under which analysts estimate the average cost to acquire a card customer is $350, or the millions of dollars invested in failed marketing campaigns? Or was it the failed leadership of Mr Solomon himself? According to various reports, Marcus leaders disagreed with him over products, acquisitions and branding. Many believe that the decisions made by Goldman Sachs’ CEO led to the collapse of its consumer ambitions.
Either way, Marcus is a good example of why many banks’ price-to-book ratios are far below those of fintechs and tech firms. It’s all about execution. And, in this case, execution failed because banks are really not fit for digital.
This was illustrated for me by a friend who shared an anecdote the other day. He was catching a flight to Frankfurt and saw countless middle-aged men in suits (presumably bankers) with their airline tickets printed out and in a plastic wallet. Who prints these things these days? Why aren’t they using apps? This just shows that they are living in 2000, rather than 2023.
