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Morningstar | Slow Growth In 2Q for BNY Mellon, But We Wouldn't Read Too Much Into a Single Quarter

Wide-moat-rated Bank of New York Mellon reported slightly disappointing second-quarter results. The firm lost two clearing clients during the quarter, which hit the quarterly clearing revenue run rate by about 5% compared with last quarter. Assets under management also saw lackluster growth, and net interest margin expansion could not make up for the decline in interest earning assets, leading to a decline in net interest income quarter over quarter. After updating our model for these results, we are reducing our fair value estimate to $57 from $58, only a minor adjustment, and we believe the market’s reaction today seems overdone.

While on the surface the trend discussed above are not the best trends, we would not make too much of a single quarter, and emphasize that BNY Mellon does not need amazing growth to meet our updated fair value estimate. We have noninterest income growing at a CAGR of 2.75% over the next five years, something we believe is still well within the bank’s grasp. Further, expense control is still solid, and the bank remains on track to have expense growth of 3% or less during the year. The return on tangible equity was still 23% during the quarter. Management noted they are seeing strong growth outside of the U.S. for clearing services and plan to onboard several new clients before the end of third quarter. We also note this industry tends to have the constant tailwind of rising global asset levels at its back. We believe the trend of financial services firms looking to outsource back-end functions for their wealth and investment segments remains intact, and the scale of the trust banks, where BNY Mellon is among the largest, allows them to offer these services at scale.

BNY Mellon referenced the stress tests in their call, and the constraints the current set up puts on them. Given the current regulatory climate, we would not be surprised to see some relief for BNY Mellon and the trust banks around the Tier 1 leverage ratio. This should allow the bank to increase capital returns in the future.

For a more in-depth take on capital returns in the banking industry and the effects of changing stress-test regulations, please see our special report entitled, "New Regulatory Proposals Will Change Stress Test Landscape," published on July 8.

BNY Mellon management is participating at the Management Behind the Moat conference held at Morningstar’s Chicago office on Nov. 7-8, 2018. If you are interested in attending the conference, please reach out to your sales representative for registration information.