Expenses expected to keep weighing down bank profits

Rising expenses put a damper on earnings growth during the fourth quarter, as banks paid higher salaries and spent more on both marketing and technology, in a trend that’s expected to continue in 2022.

While the industry benefited late last year from strong credit quality, robust fee income and early signs of renewed loan demand, it also grappled with inflation, which helped drive up the cost of doing business.

Over time, interest rate hikes that the Federal Reserve is planning to implement starting next month should help rein in inflation. Another expected benefit: higher interest rates tend to result in a rise in interest income that's bigger than the increase in the prices that banks pay for deposits.

Still, in the short term, banks may have a hard time achieving positive operating leverage, which occurs when revenue growth outpaces expense growth.

“As rates go up, you should see inflation moderate, but the question is how long it will take and to what level,” said Christopher McGratty, managing director with Keefe, Bruyette & Woods.

He expressed hope that operating leverage will widen in 2023 as inflationary pressures abate and bank revenues increase.

At JPMorgan Chase, fourth-quarter noninterest expenses totaled $17.8 billion, up 11% from the same period a year earlier, largely as a result of higher employee compensation and more spending on technology and marketing.

The nation’s largest bank expects its noninterest expenses to rise 8% in the year ahead, executives said during the company’s Jan. 14 earnings call. Those expenses are expected to include a 35% increase in the bank’s marketing budget and a 20% increase in tech spending.

CEO Jamie Dimon defended the spending as necessary to compete against other banks and fintech upstarts. “It’s a lot of competition, and we intend to win,” he said.

Employee compensation and benefits, which are typically the largest costs at a bank, have been growing at a faster rate during the pandemic than they did previously, according to data from the Federal Deposit Insurance Corp.

Industrywide salaries and benefits rose to $189 billion through the third quarter of 2021, up 6.6% from the first nine months of 2020, the FDIC data shows. One year earlier, the comparable increase was 4.7%, and the year before that it was 3.3%.

For BankUnited in Miami Lakes, Florida, higher compensation expenses drove a 52% increase in noninterest expenses from the fourth quarter of 2020. Near the end of last year, the $36 billion-asset bank paid each of its employees a special $5,000 bonus to recognize their hard work throughout the COVID-19 pandemic and to boost morale during a time of widespread burnout.

“This is a very wise, long-term investment in our people,” Chairman and CEO Rajinder Singh said during a Jan. 20 conference call.

M&T Bank in Buffalo, New York, posted operating expense growth of 5.6% in 2021, which Chief Financial Officer Darren King described as “an uncharacteristically high rate.”

The $155.1 billion-asset bank also predicted expense growth of 3% to 5% in the year ahead, anticipating higher employee compensation and benefits, more advertising spending, and higher data processing and software costs.

M&T executives said that all of those costs are tied to revenue growth. For example, data processing costs are affected by volume, and an increase in fee income will mean some increase in expenses.

“It's hard to say what the new normal is, given the inflationary environment we're in,” King said during a Jan. 20 conference call.

At Citizens Financial Group, noninterest expenses totaled $1.06 billion during the fourth quarter, up 5% from the same period a year earlier. The increase was driven by both higher employee compensation and costs associated with acquisitions, according to executives.

The Providence, Rhode Island, company said it expects expense growth of about 5% to 6% in 2022, driven in part by the full impact of its recent purchase of JMP Group, a capital markets firm in San Francisco.

At Capital One Financial in McLean, Virginia, marketing expenses rose about 33% from the prior quarter to $1 billion. The $488 billion-asset credit card issuer said it intends to keep spending on marketing as long as those expenditures remain productive, citing a desire to capitalize on renewed consumer borrowing.

“When we see opportunities, we really lean into them,” Chairman and CEO Richard Fairbank said during a Jan. 25 conference call.

For bankers, the hope is that higher interest rates will help to moderate inflation, and that the competitive labor market will cool. Ongoing consolidation within the banking industry could also offset some of the effects of wage inflation, since M&A deals often involve certain cost-cutting measures, McGratty said.

He said that in hindsight, industry observers should not have been surprised by expense growth during the fourth quarter, given the inflationary pressures across the U.S. economy.

“We’re in a period where margins are expanding, but how much of that is going to be offset by wage inflation?” McGratty said.

Allissa Kline contributed to this story.