Big US banks set for stronger trading and dealmaking revenue

Large US banks are expected to report sharply higher second-quarter Wall Street revenue this week, with KBW analyst Chris McGratty estimating investment banking revenue could rise 26% from a year earlier and trading revenue 14%. The results will test whether gains from the SpaceX initial public offering, volatile markets tied to the Iran conflict and firmer corporate borrowing can extend a two-year run of outperformance for financial shares.

JPMorgan Chase, Bank of America, Citigroup, Wells Fargo and Goldman Sachs are scheduled to release results early Tuesday, followed by Morgan Stanley on Wednesday, according to CNBC. Expectations are elevated after trading in equities and fixed income set a strong pace earlier in the year.

Wells Fargo analyst Mike Mayo told CNBC that the sector is benefiting from simultaneous strength in its two main earnings streams: capital markets activity and traditional lending. He cited the SpaceX IPO, merger activity and broad trading strength across asset classes and regions as factors supporting the quarter.

SpaceX fees lift investment banks

The SpaceX listing was a central event for investment banking desks in the quarter. CNBC reported that banks led by Goldman Sachs and Morgan Stanley earned hundreds of millions of dollars in fees from the offering. The firms also worked on debt financing for SpaceX after the listing and may compete to manage money for employees and investors whose holdings rose in value after the transaction.

Jay Ritter, professor emeritus of finance at the University of Florida’s Warrington College of Business, told CNBC that Goldman and Morgan Stanley also likely benefited from “soft dollars” linked to the oversubscribed IPO. Ritter described those payments as fees from hedge funds to investment banks in connection with access to sought-after IPO allocations.

That mechanism can make an oversubscribed offering more valuable to underwriters than the headline advisory fee alone. In an IPO where investor demand exceeds available shares, banks decide how to allocate stock among institutional clients. Some active funds and hedge funds may compensate banks through broader trading or research relationships, a practice Ritter said can be a large profit source for investment banks.

Volatility supports trading desks

Trading revenue is also expected to show strength. McGratty told CNBC that equities desks benefited from rising stock markets during the quarter, while fixed-income businesses saw increased activity after the Iran conflict moved oil prices, interest rates and currencies.

Market volatility can lift bank revenue when clients trade more frequently or need hedges against price swings. Banks earn spreads, commissions and financing revenue by intermediating that activity. McGratty said banks have been more effective in capturing gains from volatility than in some previous periods, when rapid moves left firms exposed on the wrong side of trades.

Lending may be improving

Mayo said the development with broader implications may be a recovery in commercial lending. He told CNBC that companies are beginning to proceed with factory construction, plant investment and other spending plans after a period of caution. He also said banks are trying to regain business from private credit lenders as artificial-intelligence-related investment spreads through the economy.

Regional banks could see a larger effect from that shift because commercial lending accounts for a greater share of their business than it does at diversified Wall Street firms, Mayo said, citing Fifth Third as one possible beneficiary.

Consumer credit has remained stable, according to CNBC, helped by low unemployment that has kept borrowers current on mortgages, auto loans and credit cards. The main risks cited by analysts include stress in private credit and renewed competition for deposits. McGratty said some banks may need to pay higher rates to retain savers, which could weigh on lending margins if interest rates remain steady or rise.

After two years in which financial stocks beat the broader market, investors are expected to focus less on whether the quarter was strong and more on how durable the earnings drivers are. McGratty told CNBC the central issue is sustainability.

This story draws on original reporting from CNBC.