Regional Banks Face New Risks From AI and Deposit Competition

SPEAKER_1 (0:00)

I'm back on Morning Trade Live. The banks have been the main event when it comes to the start of Q3 earnings reports this week. Here is the price action for the regionals that reported this morning. We're seeing a mostly positive picture here, all but M&T right now down 1%, but the rest are holding up okay.

As far as what we got, the majority of these regional lenders have cleared the bar as far as Wall Street's expectations, but revenue generation has been a mixed bag. So let's dig in to some of these earnings now with another Alex, Alexander Yokum, Senior Finance Vice President over at CFRA. Alexander, thank you so much for your time today. What have been your biggest takeaways from what we've heard from the banks? Are any surprises or fairly consistent with the expectations going into this reporting season?

Alexander Yokum (0:49)

Yeah. Thanks for having me on.

In terms of biggest takeaways, probably the biggest takeaway is just about consumer credit quality. Of course, there's been a lot of talk about the consumer. Is the consumer getting worse? But if you look at the actual bank results, credit quality has been quite strong.

There's been concern even about the lower end, but for bank credit quality, it's been good. They have talked about the K shape. It's actually not necessarily getting worse, low end still performing pretty well. We haven't seen that credit stress that maybe some were worried about. In fact, if you look at what banks actually are setting aside for bad times, that number is actually going down. So despite the fact that inflation has gone up, despite the fact that we're now expected to have a couple more rate increases, we're still seeing banks be pretty optimistic about the credit picture.

SPEAKER_1 (1:40)

What does that tell you about consumer health? Do you believe that it is sustainable given other parts of the business which have been a mixed bag?

Alexander Yokum (1:49)

Yes. That's what banks have been saying. I'm a little bit more skeptical.

I do think, like I said, here in the third quarter, I was a bit surprised, at least so far, that most banks have cut the amount of money they've set aside for loans to go bad rather than increased. I think there is risk to the upside for the fourth quarter that they'll set aside more money for a weakening consumer because right now, consumers are in really good shape. If you look at credit quality, it's some of the best levels over the last few years. I think it's a bit unlikely that that will continue so I do think there's risk to upside in terms of provisions for credit losses which would be risk to the downside for earnings in the fourth quarter.

SPEAKER_1 (2:30)

What about the AI disruption risk, Alex? I mean, banks seem to have largely been dismissive of this, but you think that's a mistake?

Alexander Yokum (2:39)

Yes. This has gotten more and more attention. Pretty much every conference call we've heard, at least one question has been on this. Basically, they're asking Beck executives, are you concerned that AI agents will come in and start moving deposits to get higher deposit yields? That's the concern.

Basically, bank management teams have said, no, we're not concerned. It's not really worth it for consumers to move their money. Balances are small and we haven't seen any indication that this has occurred so far.

That being said though, I think it's a bit naive because these agents really have just started.

The fact of the matter is most people are comfortable yet, giving their details to an agent, their financial details, but I think over time, they will do that more and more. Even let's just say 10 percent of deposits, if they move into higher yielding accounts, that would have a pretty big impact on bank net interest margins. I think that's a concern for sure.

SPEAKER_1 (3:40)

I wanted to ask you about NIMS just very quickly because we're going to run out of time here. I know that going into this earnings season, there had been a question mark around the regionals and net interest margins to your point, particularly with what we've been seeing in the treasury market that yield curve. How did that hold up, particularly given that critical spread that obviously we've seen between what the bank earns and obviously what it pays on some of those deposits?

Alexander Yokum (4:06)

For a third quarter, a bit mixed. Basically, banks that leaned into loan deposit growth, they saw a little bit more NIMS compression and banks that didn't lean in, they saw NIMS expansion. Now, generally speaking, the group is expecting NIMS expansion in the fourth quarter.