Investors selling Wells Fargo stock after earnings are focusing on the wrong things
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Wells Fargo reported better-than-expected quarterly results before the opening bell Friday. We were also happy to see that as of the end of 2023, management has officially delivered on its $10 billion multiyear cost-saving program. However, the stock came under pressure on weaker-than-expected guidance. Total revenue for the three months ended Dec. 30 advanced a little over 2% year-on-year, to $20.48 billion, exceeding analysts’ expectations for $20.3 billion, according to LSEG. Adjusted earnings-per-share of $1.29 came in above Wall Street’s consensus estimate of $1.17 per share, LSEG data showed. However, several one-time items impacted EPS in the quarter. There was a 40-cent charge relating to a Federal Deposit Insurance Corporation (FDIC) special assessment in Q4 on big banks to pay for the rescue of regional banks after last year’s failure of Silicon Valley Bank; a 20-cent severance expense; and a 17-cent discrete tax benefit. The consensus did not account for these special items, which is why we don’t compare the after-item earnings of $0.86 to estimates. WFC 1Y mountain Wells Fargo 1 year Still, shares of Wells Fargo were down more than 3.5% as the bank warned net interest income (NII) for 2024 could come in lower year over year. Bottom line While the results were a bit noisy, they were largely better than expected once factoring out one-time costs. Revenue exceeded expectations on the back of beats for both net interest income and non-interest income in the fourth quarter. Core earnings performance — after adjusting for one-time factors — came in above expectations as did tangible book value at the end of 2023 and several key operating metrics that are crucial to the bank’s valuation multiple. The charges that impacted earnings also factored into the misses we see on efficiency ratio, non-interest expense, and return on tangible common equity (ROTCE) lines. Excluding all that, they were above estimates. ROTCE was better-than-expected at 13.4% in the fourth quarter and management continues to see an “achievable path to a sustainable ROTCE of 15% over the medium term.” The expenses noted above also added $2.28 billion to the non-interest expense line — so, the result was also better than expected on a core basis at about $13.51 billion Using this core non-interest expense number, we can calculate a core efficiency ratio (non-interest expense divided by total revenue) of about 66%, which is better than expectations. Ultimately, these three crucial operating metrics on a core basis — which is what long-term investors should concern themselves with — were better than the reported results appear to indicate. Wells Fargo’s common equity tier-one (CET1) ratio also came in ahead of expectations. This is a key metric to be aware of — especially ahead of an expected increase in capital requirements from global regulators. CET1 ratios highlight the bank’s ability to continue supporting cash returns to shareholders like us. To that end, management returned $2.4 billion to shareholders in the fourth quarter via the repurchase of 51.7 million shares and paid out a common stock dividend of 35 cents per share during the final three months of 2023. That said even if we look past these items, we have to acknowledge that management’s 2024 outlook is weaker than what the Street was looking for. However, we’re not too concerned and it certainly doesn’t change our outlook on shares in 2024. In fact, Jim Cramer said Friday during the Club’s Morning Meeting that he thinks a level of about $45 per share for Wells Fargo would present a buying opportunity . ROTCE is the key metric for investors to consider when determining the appropriate multiple to place on a bank’s tangible book value. Currently, shares are trading at around 1.2 times — but if we can get ROTCE up toward that 15% target, we think the stock could trade at a multiple closer to 1.5 times, which based on the tangible book value exiting 2023 amounts to just under $59 per share. That’s before accounting for the upside to tangible book value that would result from improving the ROTCE rate. That said, we still have work to do to get there — and as a result, reiterate our 1 rating and $54 price target. It’s important to be mindful that bank guidance in general depends on interest rates, which firms such as Wells Fargo have little to no control over. Timing is also important. In this case, management is assuming five Federal Reserve rate cuts hitting NII outlook for 2024. Lower rates mean less money for traditional lenders like Wells Fargo. Should we get fewer cuts, Wells Fargo could see higher NII than management is forecasting. Wells Fargo’s guide was based on the market’s forward interest rate curve as of Jan 5, which put the average fed funds rate at 4.16% in the fourth quarter of 2024. That implies about five, 0.25 percentage point rate cuts. If the Fed ends up cutting rates less aggressively than what the curve suggests, it could mean upside to Wells Fargo’s NII forecast. For some perspective on what the difference could be, management explained on the call that its current rate sensitivity means every 100 basis point move in rates could impact NII by a couple billion dollars. Given the consumer price index reading for December that we got Thursday, which was hotter than expected, we think the risk to the downside (meaning more than Fed five cuts) is limited but as always it will depend on the data. We also see some areas for management to pull back on expenses if needed as guidance for $2.7 billion in planned efficiency initiatives is being completely offset by incremental tech and equipment expenses, expected merit increases, and other growth investments that could likely be delayed if needed. Should we get more rate cuts, it likely means the economy isn’t doing too hot, so holding off on growth investments would be prudent. We are only two weeks into the year and while the guide did come up a bit short, management has plenty of optionality that could lead to upward revisions as the year progresses. The guidance also assumes that the asset cap of $1.95 trillion that regulators imposed in 2018 due to past misdeeds will remain in place for the entirety of 2024. This is more likely a 2025 story than 2024. One knock against Wells Fargo relative to the other big banks is its higher exposure to office real estate loans. Wells Fargo said it has started to see some losses arise in its commercial real estate office portfolio due to weakness in this market, but reiterated its real estate team “has a rigorous monitoring process and continues to de-risk and reduce exposure.” We remain comfortable with Wells Fargo’s loan book. Guidance With the fourth quarter in the books, we get an initial look at how companies see business going in 2024. Starting with net interest income, management noted that based on their assumptions (again, those five Fed rate cuts), NII could be roughly 7% to 9% lower than the $52.4 billion level achieved in 2023, which implies a range of $47.7 billion and $48.7 billion, a miss versus the $49.69 billion consensus estimate coming into the print. Full-year expense guidance of roughly $52.6 billion appears to be a bit below expectations of $52.75 billion (which is a positive) and represents a decrease from 2023’s $53.6 billion level, excluding those FDIC charges. Included in this guide were $2.7 billion of efficiency initiatives. The outlook is a bit below what we were looking for as the NII forecast comes up $1.46 billion short at the midpoint while the expense guide is only about $150 million better than expected, amounting to a net miss of about $1.34 billion. Q4 segment results Consumer banking and lending revenue rose nearly 1% year-over-year in Q4 to $9.52 billion. Consumer-and-small-business banking (CSBB) revenue increased 1% year-over-year as the tailwind of higher interest rates was only partially offset by lower deposit balances. Home lending was up 7% from last year and flat sequentially. Credit card revenue decreased 1% annually and 2% on a sequential basis. Auto loan revenue was down 19% year-over-year and down 7% sequentially. Personal lending increased 13% from last year and was up 1% sequentially. Commercial banking revenue increased 7% to $3.37 billion. Middle-market banking revenue increased 6% year-over-year while asset-based lending and leasing revenue was up 9% annually Non-interest expenses increased 7% year-over-year as higher severance expenses and operating costs were only partially offset by the impact of efficiency initiatives. Expenses were up 6% sequentially due to increased severance expenses. Corporate and investment banking revenue jumped 14% to $4.74 billion. Total banking revenues increased 15% year-over-year, a result of higher lending revenues and “higher investment banking revenue on increased activity across all products.” Commercial real estate revenue increased 2% year-over-year, due to higher rates, though the benefit was partially offset by a decline in loan and deposit balances. Markets revenue was up 33% year-over-year. Non-interest expenses increased 16% annually, due to higher operating costs and personnel expenses (including severance expenses). But, as was the case in commercial banking, efficiency initiatives partially offset the increase. Wealth and investment management revenue fell 1% to $3.66 billion. NII fell 19% year-over-year, due to a decline in deposits from customers reallocating cash into higher-yielding securities, partially offset by higher rates. Notably, on the call, management highlighted that period-end deposits in the wealth and investment management were up sequentially for the first time in over a year. Non-interest income increased 7% year-over-year, a result of higher asset-based fees driven by an increase in market valuations. Non-interest expenses were up 11% annually on higher revenue-related compensation and severance expenses, again partially offset by efficiency initiatives. (Jim Cramer’s Charitable Trust is long WFC. See here for a full list of the stocks.) As a subscriber to the CNBC Investing Club with Jim Cramer, you will receive a trade alert before Jim makes a trade. Jim waits 45 minutes after sending a trade alert before buying or selling a stock in his charitable trust’s portfolio. If Jim has talked about a stock on CNBC TV, he waits 72 hours after issuing the trade alert before executing the trade. THE ABOVE INVESTING CLUB INFORMATION IS SUBJECT TO OUR TERMS AND CONDITIONS AND PRIVACY POLICY , TOGETHER WITH OUR DISCLAIMER . NO FIDUCIARY OBLIGATION OR DUTY EXISTS, OR IS CREATED, BY VIRTUE OF YOUR RECEIPT OF ANY INFORMATION PROVIDED IN CONNECTION WITH THE INVESTING CLUB. NO SPECIFIC OUTCOME OR PROFIT IS GUARANTEED.
Wells Fargo CEO and President Charles Scharf testifies during a Wall Street oversight hearing by the Senate Banking, Housing, and Urban Affairs committee on Capitol Hill in Washington, DC, December 6, 2023.
Saul Loeb | AFP | Getty Images
Wells Fargo reported better-than-expected quarterly results before the opening bell Friday. We were also happy to see that as of the end of 2023, management has officially delivered on its $10 billion multiyear cost-saving program. However, the stock came under pressure on weaker-than-expected guidance.
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