On Tuesday, Wells Fargo reported its Q3 results. Earnings per share of $1.27 beat expectations of $1.15, while non-GAAP revenue of $22.0BN also fared better than the $20.93 billion expected.
Hidden below the surface, however, was a troubling trend in Wells’ net interest margin. So-called NIM dropped to 2.66%, down from 2.82% last quarter and 2.94% for Q3 a year ago.
Wells added to its total loan portfolio, which rose $10.3BN to $949.8BN during the quarter. The amount of money the bank earned on these loans slumped, however, as the total average loan yield of 4.61% was down 19 bps Q/Q and 11 bps YoY. The bank conceded that this lower rate on loans was a function of the repricing impacts of lower interest rates.
Meanwhile, as Wells was making less money on its loan book, it had to pay more to fund its loans. While the bank reported average deposits of $1.3 trillion, up $25.0 billion, or 2% YoY, the average cost of deposit rose to a new post-crisis high of 71 bps. This represents a 1bp increase from Q2, and a 24 bps increase YoY. As the bank’s spread continues to shrink, the profit keep sliding. According to one commentator, this “explains why banks were so desperate for the Fed to cut rates and resume QE.”
We are encouraging our credit union clients to take this spread compression seriously. We believe that it is a trend that is likely to continue for the foreseeable future.
The average yield on loans in the credit union space has actually bounced a bit off of its 4.51% low in Q2 2017. As of Q2 2019, it stood at 4.88%. When total Q3 numbers are tabulated, it will be interesting to see if this recovery holds.
On the liabilities side of the balance sheet, locally-sourced member deposits are simply harder to come by. Fintech startups and larger commercial banks are challenging for deposits with elevated rates, aggressively courting deposits to break into retail banking. This competition is driving the cost of credit union deposits higher. In the past year, for example, the industry-wide average cost of funds has risen from 70 bps to 97 bps.
As final Q3 numbers are being tallied, we continue to advise our credit union clients that, in light of lower interest rates and a rising cost of funds, liquidity should be top of mind.
More liquidity sources means more optionality. And, in a world of compressing spreads, managing those sources is as important as ever.