The attack on supersized banking is back, but this time it is aimed at one firm: JPMorgan Chase.
Stock pickers are modeling various scenarios to separate the country's most diversified and largest bank by assets and deposits into as many as four pieces based on the old argument that the sum of all its parts may be worth more to shareholders than what the conglomerate currently delivers.
"Why aren't they getting a better multiple?" bank analyst Jeff Harte of Sandler O'Neill asked during a phone interview, citing strong fundamental performance across JPMorgan's business lines. "It's not a new concept, but the capital and regulatory restrictions make the topic louder again."
Unlike the "too big to fail" hysteria that swept up banks in 2013, the conversation is focused on "too big" holding back shareholders' financial interests, and it is less about the threat of a failure that would strain the financial system.
Breaking up JPMorgan should at least be a "put option" for shareholders, Goldman Sachs analysts under Richard Ramsden argued in a note that set off a string of reaction when published on Monday, just a month after CLSA bank analyst Mike Mayo revived the topic in a similar note to clients. Goldman noted that a breakup could reduce or remove JPMorgan's 20%-plus "conglomerate discount" that investors tie onto the bank, due to its size and regulatory burden.
The strength of JPMorgan's four biggest business lines, and the fact that the bank touches almost every corner of financial services, appears to have made it exclusively vulnerable this time around.
As the memory of the financial crisis fades, investors are demanding better operational and stock performance. It is time for JPMorgan to deliver, argues Mayo. JPMorgan has done less than peers such as Bank of America and Citigroup to downsize since the crisis, he said. Mayo in early December upgraded his firm's rating on JPMorgan for the first time in three years, warning that the bank must demonstrate the benefit of its size.
The bank must "prove it, or lose it," he said.
A JPMorgan spokesman declined to comment about the breakup proposals except to reference comments last year by Chief Executive Jamie Dimon. "Each of our four major businesses operates at good economies of scale and gets significant additional advantages from the other businesses," Dimon wrote in a letter to shareholders.
Such calls are not new. Breaking up banks' business lines could double to triple shareholder value, former Morgan Stanley CEO Phil Purcell argued when the debate raged in 2012.
Bank analyst Richard Bove at Rafferty Capital Management said in a phone interview that he has been shooting down the argument "for 50 years."
The reason banks have historically moved toward "bigger," according to Bove, is that monolines are simply harder to fund in hard economic times. "You see this going on with some of the alternative lenders," he said in a phone interview. "They think this time is different."
Policymakers have for years struggled with ways to deal with banks perceived as "too big to fail." Officials are now discussing how they plan to implement new capital rules, which impose expensive levies on supersized banks.
Those capital plans driven by the Federal Reserve appear to have provided the grounding for Goldman's call. Among the eight U.S. banks affected by the Fed's capital surcharge proposal, JPMorgan is the only institution that would not meet the proposed requirement for global systemically important banks, Fed Vice Chairman Stan Fischer said at an open board meeting in December. Fischer described JPMorgan's shortfall as "pretty impressive." The bank would need to raise an additional $22 billion in common equity, while the other seven U.S. banks impacted would likely already meet the requirement. Goldman used the surcharge conversation as the backdrop to introduce its breakup call.
One scenario to break up JPMorgan would be to break it into two parts, the Goldman analysts said. The first unit would consist of the trust bank, the investment bank and asset management unit. The second unit would consist of everything else, namely, the consumer and commercial bank. Such a breakup could be 16% accretive "all in," they said, noting a total sum-of-all-parts value per share at $72.41, versus a consolidated value of $62.18.
Possibly less complex, they suggested, would be a spinoff of the trust bank and investment bank. That would free up $38 billion of capital, according to their estimates. Spinning off the bank's trust business alone would be "minor surgery" and not worth the execution risk, the analysts said. A total four-part breakup would, however, carry the most risk, they said.
Among some of the other requirements making it more expensive to be big is the capital needed for bank resolution plans. Wells Fargo analysts issued an underperform rating on JPMorgan debt in December, with analysts estimating that the country's largest lender may need up to $45 billion per year over the next several years to cover institutional financing needs. JPMorgan has raised $33.6 billion in financing over the past two years.
"Ultimately, it's the shareholders who have to say we are tired of not getting adequate returns," said Mayra Rodríguez Valladares,a managing principal at the consultancy MRV Associates. "But if it is too disruptive to separate them, it will never be a viable topic of conversation."
Matt Scully is a reporter at American Banker.
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