JPMorgan Chase Less Risky Below Book Value

Money-center bank JPMorgan Chase (NYSE:JPM) reported third quarter profits on Wednesday that came in ahead of analyst expectations. Investing in the stock is a no-brainer for those that can stomach volatility in its non-traditional operating units, and the fact that the stock continues to trade below book value could imply that this risk is already baked into the valuation.

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Third Quarter Review
Total reported revenue fell 11% to $23.8 billion. This consisted of net interest income, or the spread between interest income from loans made and interest expense from paying interest on checking and savings accounts, of $12.5 billion, which fell 2% from last year's third quarter. The rest was made up of fee and other income from seven primary operating units. Total noninterest revenue fell 18%.

Investment banking fees fell 12% while securities gains fell 45% as the bank saw fewer profits on its own trading desk. JPMorgan competes with the likes of Goldman Sachs (NYSE:GS) and Morgan Stanley (NYSE:MS) in these businesses. The only segment to see a rise in the top line was asset management, which competes with pure-play firms such as Federated Investors (NYSE:FII) and Legg Mason (NYSE:LM) and benefited from a rising stock market and eked out a low single digit increase. The rest of the divisions, including credit cards, mortgages and lending saw fees and related income fall by the double-digits.

Net income improved 23% to $4.4 billion as a 33% decline in investment banking income was offset by big profit jumps in retail financial services and card services as the bank had to take significantly less provisions for credit losses. In the credit card division, the net charge-off rate fell to the single digits at 8.87%. Last year's third quarter saw a 10.30% charge-off rate and indicates that consumer are becoming better able to manage their debt levels.

Net income reached $1.01 per diluted share. In terms of other important financial metrics, return on equity returned to the double digits at 10%. Book value grew 8% to $42.29 per share while the tier-1 capital ratio remained strong at 11.9%. JPMorgan continued to refer to its "fortress balance sheet" to indicate that it considers itself financially-sound.

The Bottom Line
CEO Jamie Dimon summed up the quarter by stating that the bank witnessed "good underlying performance of our businesses", though mortgage losses could remain high for the next several quarters and "mortgage and credit card portfolios continued to bear very high net charge-offs" during the quarter.

Overall, JPMorgan remained solidly profitable even though considerable risk remains in its mortgage and credit card businesses. The investment banking and trading desk volatility demonstrate that the units are unpredictable and not to be counted on for consistent profit trends going forward.

However, the stock continues to trade below book value and capital adequacy measures are quite strong. A 10% ROE going forward equates to more than $4 in annual earnings and also means a very reasonable P/E ratio of 10. (For related reading, see The Rise Of The Modern Investment Bank.)

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