Great news for Club stocks Wells Fargo and Morgan Stanley : The rebound in investment banking isn’t over yet. The catalyst? Dealmaking is expected to continue to rise as the Federal Reserve delivers more interest rate cuts. This should, in turn, boost revenues for a key business within both Wall Street firms. We’ll find out to what extent when Wells Fargo reports earnings on Oct. 11 and Morgan Stanley delivers quarterly results on Oct. 16. Lower borrowing costs tend to spur mergers and acquisitions (M & A) and initial public offerings (IPO), which means more business for the banks. Recent numbers from consulting firm KPMG and financial data provider S & P Global Market Intelligence indicate a solid pickup in activity for M & A and IPOs already. So far in 2024, mergers and acquisitions transaction values and money raised from initial public offerings are largely outperforming all of last year’s lackluster activity. U.S. mergers and acquisitions rose 37% to $1.3 trillion in the first nine months of 2024 compared to the same period a year ago, according to KPMG, citing data through Sept. 15. Global M & A transaction values so far this year of roughly $2 trillion have already beat 2023’s total of $1.6 trillion, according to S & P Global data captured on Oct. 1. The IPO market has improved, too. According to KPMG, public offerings listed in the U.S. raised $28.3 billion during the first nine months of 2024. That’s up 50% year over year. All of this bodes well for the kind of advisory and underwriting fees that investment banks can charge to facilitate these deals. To be sure, M & A and IPO values are still down significantly from their Covid peaks in 2021 after the Fed delivered two emergency rate cuts in March 2020 that took the cost of borrowing to near zero. Rates remained that way until March 2022 when central bankers started their tightening cycle to fight inflation. The Fed hiked rates 11 times over 18 months before cutting rates by 50 basis points last month. Speaking at a National Association for Business Economics event in Nashville, Tennessee, Fed Chairman Jerome Powell said Monday that he expects an additional 50 basis points worth of rate cuts this year — 25 in November and 25 in December. The market is not quite ready to take Powell at his word. As of Tuesday, the CME FedWatch tool was putting roughly 66% odds on a 50 basis point cut in December. Rebecca Brokmeier, group head of KPMG’s investment banking platform, sees “an increase in new deals in the market in the fourth calendar quarter and expects this trend to continue as we move into 2025” while the Fed continues to lower rates. Brokmeier told CNBC Tuesday that a lot of this activity is expected to be driven by private equity, which is “more reliant on low interest rates for transactions than corporations and have record levels of dry powder to deploy as well as long-held assets that must be exited in order to return cash to their investors.” MS YTD mountain Morgan Stanley (MS) year-to-date performance For Morgan Stanley, a resurgence in its investment banking division is crucial to our investment thesis and why we stuck with it. Following nearly two downbeat years, we saw reason to be optimistic about Morgan Stanley’s IB business last quarter, which was out in July. IB segment revenue jumped 51%. Breaking IB down further, advisory and equity underwriting fees both surged 30% and 56%, respectively, from the prior year. Last month, however, Jim Cramer criticized the stock’s underperformance , adding that he was considering exiting Morgan Stanley and swapping in investment banking rival Goldman Sachs , where he used to work during his days on Wall Street. Part of that underperformance came after co-president Dan Simkowitz said that M & A and IPOs will remain below trend for the rest of 2024 at an industry conference. To be sure, he also predicted that this activity would accelerate in 2025 as the Fed lowers rates. “Morgan Stanley is in no man’s land, too low to sell and too high to buy. That means wait, which is exactly what we are doing,” Jim said during the Club’s Monthly Meeting on Sept. 12, two days after Simkowitz’s comments. “It might be time to say goodbye and pick up some of the much better run Goldman Sachs.” A week later, Morgan Stanley stock rose on the Fed rate cut, and the Club settled for trimming the position . Morgan Stanley has diversified its portfolio and moved more heavily into wealth management in recent years to reduce its exposure to the volatility of the IB business. So, it remains to be seen how investment banking performance fits into the whole profit picture. WFC YTD mountain Wells Fargo (WFC) year-to-date Morgan Stanley’s IB business is much larger than Wells Fargo’s. However, Wells Fargo, known for its roots as a traditional money center bank, has been working diligently to build out its dealmaking side of the shop. It’s kind of the opposite of Morgan Stanley. Wells Fargo, which has a strong wealth management franchise, is branching out to take a slice of the IB pie. Wells has made a series of senior-level hires in recent years to expand its corporate and investment banking (CIB) division. This helps the bank rely less on interest-based incomes from its consumer lending business, which have been long at the mercy of the Fed’s monetary policy decisions. We’ve seen positive signs already, as CIB revenue jumped 38% year over year in the July quarter. “We continued to see growth in our fee-based revenue offsetting an expected decline in net interest income,” Wells Fargo CEO Charlie Scharf said during the July 12 earnings call. “The investments we have been making allowed us to take advantage of the market activity in the quarter with strong performance in investment advisory, trading and investment banking fees.” In another positive development in Scharf’s bid to clean up the bank’s past missteps and get regulatory permission to expand, Bloomberg News reported last week that Wells Fargo submitted a third-party review of its risk and control overhauls to the Fed in an effort to get the central bank-mandated $1.95 trillion asset cap removed. The restriction was put in place by the Fed in 2018 after a series of scandals under previous leadership. (Jim Cramer’s Charitable Trust is long WFC, MS. See here for a full list of the stocks.) 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Federal Reserve Chairman Jerome Powell speaks during a news conference following the September meeting of the Federal Open Market Committee at the William McChesney Martin Jr. Federal Reserve Board Building on September 18, 2024 in Washington, DC.
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