DBRS Confirms JPMorgan Chase & Co. - Senior at A (high); Changes Trend to Stable

DBRS has today confirmed all ratings for JPMorgan Chase & Co. (JPMorgan or the Company) and related entities, including JPMorgan’s Issuer & Senior Debt rating of A (high). At the same time, DBRS has revised the trend on all long-term ratings and the short-term rating at JP Morgan Chase Bank, N.A., JPMorgan’s primary bank subsidiary, to Stable from Positive. The Positive trend was introduced on September 26, 2008 following JPMorgan’s acquisition of Washington Mutual’s (WaMu) banking operations.

While DBRS expects the acquisition to enhance the Company’s franchise strength and earnings power, the rapidly deteriorating economic environment will put significant pressure on earnings over the short to intermediate term. As a result of the increasing headwinds and likelihood of diminished earnings, DBRS does not expect to upgrade JPMorgan over the next year and has accordingly changed the trend back to Stable. DBRS still perceives that JPMorgan will benefit from the successful integration of WaMu. The acquisition will further broaden JPMorgan’s super-regional banking franchise by adding strong positions in key markets in the West, although acquiring WaMu has added to the Company’s concentration in consumer-related assets that are experiencing increased stress. This franchise strengthening, along with the successful integration of Bear Stearns and JPMorgan’s success in coping with turbulent markets, underlay the change in trend to Positive in September. The environment, however, has continued to deteriorate, impacting the Company’s prospects.

JPMorgan reported Q4 2008 net income of $702 million, up modestly from Q3 2008, but down a substantial $2.3 billion from Q4 2007. Compared with a year ago, earnings declined due to write-downs on legacy assets in the Investment Bank (IB) and increased provisioning due to further weakening in consumer credit. Notable items in Q4 2008 included $1.8 billion of after-tax write-downs on leveraged lending and mortgage-related exposures, and $700 million of after-tax private equity write-downs. Partially mitigating these losses were a $1.3 billion (after-tax) extraordinary gain related to the WaMu acquisition, a $600 million gain related to the Paymentech joint venture and $900 million of after-tax gains from the hedging of mortgage servicing rights (MSRs). With the Company working down its exposures, the IB had $14.7 billion of remaining mortgage exposure and $12.6 billion of legacy leveraged lending commitments at year-end.

Reflecting JPMorgan’s success in sustaining its franchise strength and core earnings capacity that underpin its ratings, pre-tax pre-provision income was $6 billion in Q4 2008, which includes WaMu for the entire quarter, but not the extraordinary WaMu gain. This was up $2.4 billion over the prior quarter due in part to an increase in net interest income of 54% in the quarter, to $13.8 billion, which reflected a sharp decline in the cost of interest-bearing deposits. Net interest margin improved 55 bps to 3.28%.

Indicative of the strength of the Company’s diverse IB businesses, client flow businesses continued to perform well with rates and currencies generating record revenues. Investment banking fees were relatively stable at $1.4 billion in Q4 2008. The Company reported improved market shares in most capital-raising categories and ranked first in Global Fees for 2008, according to Dealogic. IB expenses were down $1 billion from Q3 2008 as JPMorgan rationalized its IB businesses.

The Retail Financial Services (RFS) segment generated positive net income in Q4 2008, despite a much increased provision. Elevated credit costs, however, swung the Card Services segment to a $371 million loss. JPMorgan’s non-consumer, less market-sensitive businesses, Commercial Banking (CB) and Treasury & Securities Services (TSS), remained solid contributors, despite deteriorating economic conditions. CB and TSS generated $480 million and $533 million, respectively, of quarterly earnings, each a record performance. Asset Management net income declined 27% from Q3 2008 to $255 million, driven by lower markets. The Company reported strong net inflows of $61 billion in the quarter (primarily in lower-yielding liquidity products), although overall assets under management (AUMs) were down slightly to $1.1 trillion.

With the weakening credit outlook, JPMorgan’s quarterly provision rose to $8.5 billion on a managed basis, adding $4 billion to loan loss reserves. With this reserve build to $23 billion, the Company has a solid loan loss reserve-to-loans ratio of 3.62%, excluding the previously marked credit impaired WaMu portfolio, and has cover of 2.6x for non-performing loans.

As expected, the quarter’s provision was driven by deterioration in JPMorgan’s sizable $211 billion (ex-WaMu’s credit impaired loans) residential mortgage-related portfolio and its $190 billion (including WaMu) managed card portfolio. Consumer loan net charge offs (NCOs) (comprising home loans, student loans and auto) increased 28% from Q3 2008 to $1.7 billion in the fourth quarter, while the managed NCO ratio for credit cards was 5.56%, a 56 bps rise from the prior quarter. Delinquencies were up across nearly all loan categories, as were non-performing assets. Company-wide non-performers totaled $12.7 billion, representing 1.70% of loans plus assets acquired in loan satisfactions, up from 1.25% at the end of Q3 2008.

Benefiting from the $25 billion U.S. Treasury preferred stock investment, JPMorgan’s regulatory capital position improved to an estimated 10.8% Tier 1 Ratio at year-end, up from 8.9% last quarter, providing a substantially increased cushion over regulatory requirements. However, its tangible common equity-to-assets ratio declined slightly to 3.8% due to a $3.5 billion linked-quarter increase in accumulated other comprehensive loss. Positively, liquidity and funding remains sound, with JPMorgan benefiting from a strong, broadly diversified deposit base of $1.0 trillion at year end, as well as the various liquidity facilities and debt guarantees established by the Federal Reserve and the Federal Deposit Insurance Corporation (FDIC).

Notes:
All figures are in U.S. dollars unless otherwise noted.

The applicable methodology is Rating Banks and Bank Holding Companies Operating in the United States, which can be found on our website under Methodologies.

This is a Corporate (Financial Institutions) rating.