Wells Fargo Is America's Most Profitable Bank

NEW YORK ( TheStreet) -- Wells Fargo ( WFC) is the most profitable bank in America after the nation's largest mortgage lender reported record third-quarter earnings and its competitor JPMorgan ( JPM) posted a first quarterly loss under CEO Jamie Dimon.

Through the first three quarters of 2013, Wells Fargo reported $16.1 billion in net income, while JPMorgan reported about $12.5 billion in net income, hampered by a $7.2 billion after-tax third quarter increase to the bank's litigation reserve that wiped out the firm's quarterly profit. Those results reflect a high likelihood that Wells Fargo will end 2013 with industry leading profitability, a dramatic change in the U.S. banking sector.

As TheStreet noted in August, much of that would likely be attributable to JPMorgan's growing legal mess, as it resolves claims tied to a $6.2 billion trading loss, crisis-time acquisitions of Washington Mutual and Bear Stearns, and more recent probes into the firm's trading activities.

Still, Wells Fargo's rise to the top of the banking industry -- in terms of profitability -- should be no surprise to those who have watched the sector evolve in the wake of the financial crisis. It is quite a coup for a bank with a balance sheet about half the size of some of its larger competitors and one with a fairly small presence in risky but profitable Wall Street-oriented trading businesses.

The San Francisco-based lender has picked up the most share of any lender in the U.S. mortgage market since the crisis and it has used recent acquisitions such as Wachovia to bolster its presence in wealth management and investment banking activities. Importantly, the bank hasn't faced the amount of litigation and mortgage-related losses of larger competitors such as JPMorgan, Bank of America ( BAC) and Citigroup ( C). Meanwhile, Wells Fargo remains one of the most over-reserved banks in the industry, an earnings tailwind in a flat economy, and its capital ratios allow for net share repurchases and dividend increases.

While Wells Fargo has posted consistent post-crisis profits, highlighted by 15 straight quarters of sequential earnings growth, Wall Street-oriented competitors have faced scores of litigation, trading losses and the general volatility that comes from dealing in capital markets. Importantly, the bank's earnings give a glimpse on how lenders across the U.S. can grow their earnings without taking on too much risk.

If the nation's four largest lenders were forced to divest or spin off their investment banking businesses from their commercial banks, it would have a relatively benign impact on Wells Fargo.

Now, it is the Main Street lender that has risen to the top of banking sector profitability.

As JPMorgan, Bank of America and Citigroup continue to de-risk their balance sheets, Wells Fargo has been able to use rising deposits to grow its overall lending activity and take market share in the tepid economic recovery of the past four years.

The recent results of investment-oriented competitors indicate that a flood of deposits hasn't allowed for a big uptick in lending. Many analysts and skeptics complain that deposits and Fed-liquidity have generally been used by universal banks to support their trading activity as new regulations take hold. Those banks continue to struggle to bolster their fully-loaded Basel 3 capital ratios, while Wells Fargo balances a lead on loan growth alongside capital returns to investors.

For now, we know which business model works best.

Wells Fargo shares are far higher than they were before the financial crisis, as are the bank's earnings. It is now the most profitable bank in the U.S. given JPMorgan's legal woes. Even without JPMorgan's $7.2 billion provision, there was the prospect that Wells Fargo's natural earnings growth would eventually allow the lender to eventually surpass its peers in profitability.

The contrasting earnings results of Wells Fargo and JPMorgan on Friday reflect ongoing trends in the banking industry.

Banking is, and will continue to become, a more boring business. Even JPMorgan CEO Jamie Dimon admitted so much on an earnings conference call. Dimon said the bank would "permanently" be de-risking its business.

As JPMorgan commits to a more streamlined strategy that also includes a large investment in compliance, Wells Fargo can focus on other things such as growth.

In an improving economy, Wells Fargo remains poised to continue to gain ground on its larger competitors. That is especially the case if firms such as JPMorgan and Bank of America remain mired in litigation from the crisis and efforts to reduce their risk exposures.

-- Written by Antoine Gara in New York

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