With the first quarter of 2022 now in the books, analysts are turning their attention to the top banks, which will formally kick off earnings season in mid-April. The investment bank Jefferies Financial Group (NYSE: JEF), however, already reported results for the first quarter of its fiscal 2022, which begins in December and lasts until the end of February.
This lower-profile investment bank can offer astute investors clues as to what the large banks will report on investment banking and sales and trading revenue, which can be less predictable. Let's take a look at what we can learn from Jefferies' results.
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Better than expected
Jefferies' Q1 earnings came in well ahead of expectations. Earnings per share of $1.23 in the quarter beat consensus analyst estimates by $0.43, while total revenue of $1.73 billion beat estimates by $180 million. Investors seemed to cheer the news, sending Jefferies' stock more than 7% higher on the day following the report.
The advisory services segment -- which includes both mergers and acquisitions (M&A) and restructuring and recapitalization -- came in at $544 million, a decline of $44 million from the quarter that ended in November but up more than $233 million on a year-over-year basis. Management attributed the success in this segment to the bank continuing to take market share. Equity underwriting, however, struggled, as initial public offerings and new special-purpose acquisition companies (SPAC) have dried up in 2022. Meanwhile, debt underwriting rose from the sequential quarter and year over year.
Revenue from equity capital markets -- which comes from helping clients buy and sell equity instruments such as common shares, exchange-traded funds, and types of derivatives to large institutional clients -- dipped a little from the previous three months but is down 48% year over year. Revenue from fixed-income capital markets, which comes from helping clients trade various bonds, is down significantly year over year but did rebound fairly well from the sequential quarter. Management said equities were affected by "market volatility and global instability," while fixed income has taken a hit from lower trading activity because of worries over inflation and interest rates.
What does it mean?
Jefferies' results were well received considering the slowdown that has occurred so far in 2022. Through March 14, M&A, equities, and fixed-income products are experiencing the lowest activity in five years, according to S&P Global Market Intelligence.
But all in all, advisory revenue held up pretty well. I also think seeing fixed income capital markets grow by 53% from the previous three months is a positive, considering the extreme normalization that has been projected for this segment. Equities underwriting came in as the biggest loser. Almost all segments of investment banking and sales and trading benefited during the pandemic, so normalization has been expected.
"The new issue markets are clearly more sensitive to [is] the increase in volatility, and while our investment banking backlog remains strong, our realization of this backlog is sensitive to market conditions," Jefferies management said in the company's earnings statement.
March could make the situation more difficult
The problem with using Jefferies' results as a forecasting aid for other banks is that because the quarter ends in February, it doesn't factor in the disruption that ensued in March due to Russia's ongoing war in Ukraine.
"So far, it seems like the industry got the worst of everything," Eric Li, a research director at Coalition Greenwich, told S&P Global Market Intelligence in an interview. Prior to the war, Coalition Greenwich predicted global investment banking revenue could fall 10% to 25% from 2021, largely due to rising rates. Now, Li believes a 50% drop is well within reach should the war drag on.
That doesn't bode well for the big investment banks. As Q1 earnings season approaches, it is possible banks like Morgan Stanley, Goldman Sachs, JPMorgan Chase, Bank of America, and Citigroup will surprise the market as Jefferies did because expectations appear to be quite low. But it will be key to listen to management's comments.
A tough second quarter for investment banking revenue is now likely, but most have hoped that conditions would improve in the second half of this year. Investors should look for comments as to whether bank management teams still expect this rebound later this year.
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