SpaceX IPO and Iran War Lift Q2 Earnings for Big Banks

JPMorgan Chase and Bank of America lead a parade of big banks reporting second-quarter results Tuesday, with analysts expecting trading and investment banking revenue to approach or exceed records set earlier this year.

KBW analyst Chris McGratty projects investment banking revenue for the group could surge 26% from a year ago, while trading revenue could jump 14%. The largest U.S. banks are collecting rising fees from helping corporations tap the markets, punctuated by last month's SpaceX IPO, the largest in history. Traders are also thriving after the Iran conflict sent oil prices, interest rates and currencies swinging, McGratty said.

Wells Fargo analyst Mike Mayo called the current environment a “sweet spot.” Both of banking's profit engines – Wall Street and Main Street – are in growth mode at the same time, he said.

“You saw the largest IPO in history, a pace of mergers that's on track to be a record year, and a broadening out of trading to include equity and fixed income across myriad geographies,” Mayo told CNBC.

SpaceX paid banks led by Goldman Sachs and Morgan Stanley hundreds of millions of dollars in fees for the IPO itself. The firms also earned fees for raising debt for the newly public company and have a shot at managing wealth for newly minted millionaires and billionaires. Beyond those visible fees, Goldman and Morgan Stanley likely reaped so-called “soft dollars” – fees hedge funds pay investment banks for a slice of an oversubscribed IPO, according to Jay Ritter, professor emeritus of finance at the University of Florida's Warrington College of Business.

“The big money maker for investment banks in IPOs is not the bankers' fee, the ability to allocate shares to hedge funds and some active mutual funds that pay soft dollars,” Ritter said.

Trading gains were driven by strength in equities as stock markets climbed during the quarter, as well as heightened activity in fixed income after the Iran conflict, McGratty said.

“Banks are doing a good job these days of capturing the upside of volatility, whereas in previous cycles, they've been caught offsides,” McGratty said.

Mayo argued the more important development this quarter might be happening away from Wall Street. Commercial lending could be turning the corner after years of weakness. Banks are looking to wrest market share from private credit lenders, and the artificial intelligence-fueled spending boom is spreading to the rest of the economy, he said.

“Demand is back as companies treat the uncertainty as the new normal and build that new factory, invest in plants and get on with business,” Mayo said.

The trend could benefit regional lenders including Fifth Third because commercial lending represents a larger share of their business, Mayo said. Consumer banking also appears healthy. Low unemployment has kept borrowers current on mortgages, auto loans and credit cards, limiting losses.

JPMorgan, Bank of America, Citigroup, Wells Fargo and Goldman Sachs are set to post results early Tuesday, with Morgan Stanley reporting Wednesday. Among the group, JPMorgan carries an AlphaScala Alpha Score of 66, indicating moderate momentum. Bank of America scores 49 and Wells Fargo 63, both in the mixed to moderate range.

Some risks remain. Potential blowups in private credit could surface, even though concern has subsided for most banks in the absence of new “cockroaches” emerging. JPMorgan CEO Jamie Dimon warned analysts last year after the collapse of subprime car lender Tricolor Holdings that “when you see one cockroach, there are probably more.”

Another risk is whether competition over deposits is intensifying. Some players have been forced to pay higher rates to attract and keep savers' dollars, McGratty said. In an environment where interest rates are steady or rising, that could pressure lender margins.

After two years of market-beating returns, investors are becoming less interested in how strong the last quarter was than whether this unusually favorable backdrop can last.

“We know the quarter's going to be strong, so I think the question that you ask yourself is around sustainability, right?” McGratty said. “Is it all sustainable?”

For more on the sector, see AlphaScala's stock market analysis.