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US banks: costs will be swing factor for 2022

US banks should have plenty to be happy about heading into 2022. Investment banking fees continue to be buoyed by frenzied dealmaking and IPO activity. Loan demand, after nearly two years of tepid to negative growth, shows signs of improving. Elsewhere, interest rate rises — the first of which could come as soon as March — will finally bring an upturn in interest income and margins.

Expectations that the industry is poised for another bumper year have sent banking stocks soaring. The KBW Bank Index is up 8 per cent so far this year, following a 35 per cent gain in 2021. Shares in the likes of Goldman Sachs, Morgan Stanley, JPMorgan and Bank of America have all hit new highs in recent weeks.

But this dramatic sector rally also leaves scope for disappointment. In particular, success in investment banking has meant rising costs and overheads.

For proof, look no further than the beating JPMorgan took on Friday. Investors wiped nearly $28bn off the bank’s market value after the company reported sharply higher expenses in the fourth quarter and cautioned on further increases this year.

Similarly Citigroup’s operating expenses, excluding the impact of asset disposals in Asia, climbed 8 per cent during the last quarter. Its efficiency ratio — which measures how much it costs to produce a dollar of revenue — jumped nearly 12 percentage points to 79.5 per cent.

Banks are under pressure to stump up on pay to keep rainmakers from defecting following a record year for deals. A need to invest heavily in technology to keep fintech upstarts at bay only adds to the expense burden.

JPMorgan warned that ballooning costs and moderating Wall Street revenue could mean the bank misses its 17 per cent target for return on equity. The bank does have a history of surprising on the upside. But senior bank executives will no doubt hope that its plain-vanilla lending, for a change, can drive the group’s profits in 2022.

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