This executive overview of the MD&A highlights selected information and may not contain all of the information that is important to readers of this Annual Report. For a complete description of events, trends and uncertainties, as well as the enterprise risks and critical accounting estimates affecting the Firm and its various lines of business, this Annual Report should be read in its entirety.
Economic environment
The global economy regained momentum in 2013, led by faster growth in the advanced economies, helped by decisive policy actions in the U.S., European Union, U.K., and Japan. Uncertainties about U.S. fiscal policy were reduced substantially by year-end, as were extreme downside risks to performance in the Eurozone and China that had been concerns earlier in the year. In addition, real consumer spending in the U.S. was supported late in the year by solid job growth, falling gasoline prices, and rising equity and house prices.
The U.S. economic forecast for 2014 looks for a gradual acceleration in real sales growth and for inflation to remain well below the Federal Reserve’s Open Market Committee’s long-run target of 2%. If the economic forecast for 2014 is realized, the tapering of asset purchases by the Federal Reserve’s Open Market Committee will proceed and is expected to be completed before the end of 2014. However, the forecast does not look for a first rate hike by the Federal Reserve’s Open Market Committee until sometime in 2015.
The European Central Bank’s (“ECB”) support in stabilizing European financial markets, along with the constructive steps taken by the European Union to lay the groundwork for a more coherent banking union, helped the region to return to growth during the first half of 2013. However, later in the year, the pace of the Eurozone’s recovery remained slow, high unemployment tested the social and political stability of several of Europe’s weaker economies, and Cyprus became the fourth country in the Eurozone to receive a full bail-out. While Germany and the northern European economies continued to drive growth, elsewhere in Europe growth was more subdued. More encouraging were signs that the peripheral economies in the region are showing signs of healing.
Economic performance in Asia was mixed in 2013. Japan boomed; in contrast, activity decelerated across much of the rest of the region. Growth outcomes were also mixed across Latin America. Economic activity decelerated in Mexico. Brazil began 2013 with positive momentum but then lost significant steam, with a widening gap between projected growth outcomes and inflation indicators. Policy uncertainties, slowing China demand for commodities, credit overhangs, and elevated inflation all weighed on investment in many emerging countries.
In summary, there is reason to be optimistic about the U.S.
economic outlook in 2014. The economy finally appears to have broken out of the 2% range of growth experienced in the first several years of recovery, and the extent of both fiscal policy restraint and fiscal policy uncertainty should be sharply reduced. While growth in emerging markets is expected to remain subdued, economic activity is expected to continue accelerating in Europe.
Financial performance of JPMorgan Chase
Year ended December 31, (in millions, except per share
data and ratios) 2013 2012 Change
Selected income statement data
Total net revenue $ 96,606 $ 97,031 — %
Total noninterest expense 70,467 64,729 9
Pre-provision profit 26,139 32,302 (19)
Provision for credit losses 225 3,385 (93)
Net income 17,923 21,284 (16)
Diluted earnings per share 4.35 5.20 (16)
Return on common equity 9% 11%
Capital ratios
Tier 1 capital 11.9 12.6
Tier 1 common 10.7 11.0
Summary of 2013 Results
JPMorgan Chase reported full-year 2013 net income of
$17.9 billion, or $4.35 per share, on net revenue of $96.6 billion. Net income decreased by $3.3 billion, or 16%, compared with net income of $21.3 billion, or $5.20 per share, in 2012. ROE for the year was 9%, compared with 11% for the prior year.
The decrease in net income in 2013 was driven by a higher noninterest expense, partially offset by lower provision for credit losses. The increase in noninterest expense was driven by higher legal expense. The reduction in the provision for credit losses reflected continued favorable credit trends across the consumer and wholesale portfolios.
The decline in the provision for credit losses reflected lower consumer and wholesale provisions as net charge-offs decreased and the related allowance for credit losses was reduced by $5.6 billion in 2013. The decline in the
allowance reflected improved home prices in the residential real estate portfolios, as well as improved delinquency trends in the residential real estate, credit card loan and wholesale portfolios. Firmwide, net charge-offs were $5.8 billion for the year, down $3.3 billion, or 36%, from 2012, which included $800 million of incremental charge-offs related to regulatory guidance. Nonperforming assets at year-end were $9.7 billion, down $2.2 billion, or 18%. Total firmwide allowance for credit losses was $17.0 billion, resulting in a loan loss coverage ratio of 1.80%, excluding the purchased credit-impaired portfolio, compared with 2.43% in 2012.
JPMorgan Chase & Co./2013 Annual Report 67
The Firm’s results reflected strong underlying performance across its four major reportable business segments, with strong lending and deposit growth. Consumer & Business Banking within Consumer & Community Banking was #1 in deposit growth for the second year in a row and #1 in customer satisfaction among the largest banks for the second year in a row as measured by The American Customer Satisfaction Index (“ACSI”). In Card, Merchant Services & Auto, credit card sales volume (excluding Commercial Card) was up 10% for the year. The Corporate
& Investment Bank maintained its #1 ranking in Global Investment Banking Fees and reported record assets under custody of $20.5 trillion at December 31, 2013.
Commercial Banking loans increased to a record $137.1 billion, a 7% increase compared with the prior year. Asset Management achieved nineteen consecutive quarters of positive net long-term client flows into assets under management. Asset Management also increased loan balances to a record $95.4 billion at December 31, 2013.
JPMorgan Chase ended the year with a Basel I Tier 1 common ratio of 10.7%, compared with 11% at year-end 2012. The Firm estimated that its Tier 1 common ratio under the Basel III Advanced Approach on a fully phased-in basis, based on the interim final rule issued in October 2013, was 9.5% as of December 31, 2013. Total deposits increased to $1.3 trillion, up 8% from the prior year. Total stockholders’ equity at December 31, 2013, was $211.2 billion. (The Basel I and III Tier 1 common ratios are non-GAAP financial measures, which the Firm uses along with the other capital measures, to assess and monitor its capital position. For further discussion of the Tier 1 common capital ratios, see Regulatory capital on pages 161–165 of this Annual Report.)
During 2013, the Firm worked to help its customers, corporate clients and the communities in which it does business. The Firm provided credit to and raised capital of more than $2.1 trillion for its clients during 2013; this included $19 billion lent to small businesses and $79 billion to nonprofit and government entities, including states, municipalities, hospitals and universities. The Firm also originated more than 800,000 mortgages.
The discussion that follows highlights the performance of each business segment compared with the prior year and presents results on a managed basis. Managed basis starts with the reported results under accounting principles generally accepted in the United States of America (“U.S.
GAAP”) and, for each line of business and the Firm as a whole, includes certain reclassifications to present total net revenue on a tax-equivalent basis. For more information about managed basis, as well as other non-GAAP financial measures used by management to evaluate the
performance of each line of business, see pages 82–83 of this Annual Report.
Consumer & Community Banking net income increased compared with the prior year due to lower provision for credit losses and lower noninterest expense, predominantly offset by lower net revenue. Net interest income decreased, driven by lower deposit margins, lower loan balances due to net portfolio runoff and spread compression in Credit Card, largely offset by the impact of higher deposit balances.
Noninterest revenue decreased, driven by lower mortgage fees and related income, partially offset by higher card income. The provision for credit losses was $335 million compared with $3.8 billion in the prior year. The current-year provision reflected a $5.5 billion reduction in the allowance for loan losses and total net charge-offs of $5.8 billion. The prior-year provision reflected a $5.5 billion reduction in the allowance for loan losses and total net charge-offs of $9.3 billion, including $800 million of incremental charge-offs related to regulatory guidance.
Noninterest expense decreased compared with the prior year, driven by lower mortgage servicing expense, partially offset by investments in Chase Private Client expansion, higher non-MBS related legal expense in Mortgage
Production, higher auto lease depreciation and costs related to the control agenda.
Corporate & Investment Bank net income increased by 2%
compared with the prior year. Net revenue included a $1.5 billion loss from the implementation of a funding valuation adjustment (“FVA”) framework for over-the-counter (“OTC”) derivatives and structured notes in the fourth quarter, and a
$452 million loss from debit valuation adjustments (“DVA”) on structured notes and derivative liabilities. The prior year net revenue included a $930 million loss from DVA. Banking revenue increased compared with the prior year, reflecting higher lending and investment banking fees revenue, partially offset by Treasury Services revenue which was down slightly from the prior year. Lending revenue increased driven by gains on securities received from restructured loans. Investment banking fees revenue increased compared with the prior year driven by higher equity and debt underwriting fees, partially offset by lower advisory fees. Excluding FVA (effective fourth quarter 2013) and DVA, Markets and Investor Services revenue increased compared with the prior year. The provision for credit losses was a lower benefit reflecting lower recoveries compared with the prior year. Noninterest expense was slightly down from the prior year primarily driven by lower compensation expense.
Commercial Banking net income was slightly lower for 2013 compared with the prior year, reflecting higher noninterest expense and an increase in the provision for credit losses, partially offset by higher net revenue. Net interest income increased, driven by growth in loan balances and the proceeds from a lending-related workout, partially offset by lower purchase discounts recognized on loan repayments. Noninterest expense increased, primarily reflecting higher product- and headcount-related expense.
Management’s discussion and analysis
68 JPMorgan Chase & Co./2013 Annual Report
Asset Management net income increased in 2013, driven by higher net revenue, largely offset by higher noninterest expense. Net revenue increased, driven by net client inflows, the effect of higher market levels and net interest income resulting from higher loan and deposit balances.
Noninterest expense increased, driven by higher headcount related expenses, higher performance-based compensation and costs related to the control agenda.
Corporate/Private Equity reported a higher net loss compared with the prior year driven by higher noninterest expense partially offset by higher net revenue. Noninterest expense for 2013 included $10.2 billion in legal expenses compared with $3.7 billion in the prior year. The current year net revenue included a $1.3 billion gain from the sale of Visa shares and a $493 million gain from the sale of One Chase Manhattan Plaza. The prior year net revenue included losses from the synthetic credit portfolio in the CIO.
Consent Orders and Settlements
During the course of 2013, the Firm continued to make progress on its control, regulatory, and litigation agenda and put some significant issues behind it. In January 2013, the Firm entered into the Consent Orders with its banking regulators relating to the Firm’s Bank Secrecy Act/Anti-Money Laundering policies, procedures and controls, and with respect to the risk management and control functions in the CIO, as well as with respect to its other trading activities. Other settlements during the year included the Consent Orders entered into in September 2013 concerning oversight of third parties, operational processes and control functions related to credit card collections litigation practices and to billing practices for credit monitoring products formerly offered by the Firm; the settlements in November 2013 of certain repurchase representation and warranty claims by a group of institutional investors and with the U.S. Department of Justice, several other federal agencies and several State Attorneys General relating to certain residential mortgage-backed securitization activities of the Firm, Bear Stearns and Washington Mutual; the Deferred Prosecution Agreement entered into in January 2014 with the U.S. Department of Justice and related agreements with the OCC and FinCEN relating to Bernard L.
Madoff Investment Securities LLC and the Firm's AML compliance programs; and the February 2014 settlement entered into with several federal government agencies relating to the Firm's participation in certain federal mortgage insurance programs.
In addition to the payment of restitution and, in several instances, significant penalties, these Consent Orders and settlements require that the Firm modify or enhance its processes and controls with respect to, among other items, its mortgage foreclosure and servicing procedures, Anti-Money Laundering procedures, oversight of third parties, credit card litigation practices, and risk management, model governance, and other control functions related to the CIO and certain other trading activities at the Firm. The Firm believes it was in the best interest of the company and its
shareholders to accept responsibility for these matters, resolve them, and move forward. These settlements will allow the Firm to focus on continuing to serve its clients and communities, and to continue to build the Firm’s businesses.
Business outlook
The following forward-looking statements are based on the current beliefs and expectations of JPMorgan Chase’s management and are subject to significant risks and uncertainties. These risks and uncertainties could cause the Firm’s actual results to differ materially from those set forth in such forward-looking statements. See Forward-Looking Statements on page 181 of this Annual Report and the Risk Factors section on pages 9–18 of the 2013 Form 10-K.
As a global financial services firm, JPMorgan Chase is subject to extensive regulation under state and federal laws in the United States, as well as the applicable laws of each of the various other jurisdictions outside the U.S. in which the Firm does business. The Firm is currently experiencing an unprecedented increase in regulations and supervision, and such changes could have a significant impact on how the Firm conducts business. For a summary of the more significant rules and regulations to which it currently is or will shortly be subject, as well as the more noteworthy rules and regulations currently being proposed to be
implemented, see Supervision and Regulation on pages 1–9 of the 2013 Form 10-K.
Having reached the minimum capital levels required by the new and proposed rules, the Firm intends to continue to hold excess capital in order to support its businesses.
However, the new rules will require the Firm to modify its on- and off-balance sheet assets and liabilities to meet the supplementary leverage ratio requirements, restrict or limit the way the Firm offers products to customers or charges fees for services, exit certain activities and product offerings, and make structural changes with respect to which of its legal entities offer certain products in order to comply with the margin, extraterritoriality and clearing rules promulgated pursuant to the Dodd-Frank Wall Street Reform and Consumer Protection Act (the "Dodd-Frank Act").
The Firm intends to respond to the new financial
architecture resulting from this changing landscape in a way that will allow it to grow its revenues over time, manage its expenses, and comply with the new regulatory
requirements, while at the same time investing in its businesses and meeting the needs of its customers and clients. Initiatives will include a disciplined approach to capital and liquidity management as well as optimization of the Firm’s balance sheet. The Firm intends to continue to meet the higher U.S. and Basel III liquidity requirements and make progress towards meeting all of its capital targets in advance of regulatory deadlines, while at the same time returning capital to its shareholders. For further
information, see Liquidity Risk Management and Capital Management on pages 168–173 and 160–167,
respectively, of this Annual Report.
JPMorgan Chase & Co./2013 Annual Report 69
The Firm is also devoting substantial resources in order to continue to execute on its control and regulatory agendas.
In 2012, it established its Oversight and Control function, which works closely with all control disciplines, including Compliance, Legal, Risk Management, Internal Audit and other functions, to provide a cohesive and centralized view of control functions and issues and to address complex control-related projects that are cross-line of business and that have significant regulatory impact or respond to regulatory actions such as the Consent Orders. See Operational Risk Management on pages 155–157 in this Annual Report for further information on the Oversight and Control function. The Firm’s control agenda is receiving significant senior management and Board of Director attention and oversight, and represents a very high priority for the Firm, with 23 work-streams currently underway involving more than 3,500 employees. In 2013, the Firm increased the amount spent on the control agenda by approximately $1 billion, and expects to spend an
incremental amount of slightly more than $1 billion on the control agenda in 2014.
The Firm is also executing a business simplification agenda that will allow it to focus on core activities for its core clients and better manage its operational, regulatory and litigation risks. These initiatives include ceasing student loan originations, ceasing to offer traveler’s checks and money orders for non-customers, exiting certain high-complexity arrangements (such as third-party lockbox services), and being more selective about on-boarding certain customers, among other initiatives. These business simplification changes will not fundamentally change the breadth of the Firm’s business model. However, they are anticipated to reduce both revenues and expenses over time, although the effect on annualized net income is expected to be modest. In addition, the efforts are also expected to have the benefit of freeing up capital over time.
The Firm expects it will continue to make appropriate adjustments to its business and operations, capital and liquidity management practices, and legal entity structure in the year ahead in response to developments in the legal and regulatory, as well as business and economic,
environment in which it operates.
2014 Business Outlook
JPMorgan Chase’s outlook for the full year 2014 should be viewed against the backdrop of the global and U.S.
economies, financial markets activity, the geopolitical environment, the competitive environment, client activity levels, and regulatory and legislative developments in the U.S. and other countries where the Firm does business. Each of these inter-related factors will affect the performance of the Firm and its lines of business.
The Firm expects that net interest margin will be relatively stable in the near term. Firmwide adjusted expense is expected to be below $59 billion for the full year 2014, excluding firmwide (Corporate and non-Corporate) legal expenses and foreclosure-related matters, even as the Firm continues to invest in controls and compliance.
In the Mortgage Banking business within CCB, management expects that higher levels of mortgage interest rates will continue to have a negative impact on refinancing volumes and margins, and, accordingly, the pretax income of Mortgage Production is anticipated to be modestly negative for the first quarter of 2014. For Real Estate Portfolios within Mortgage Banking, if delinquencies continue to trend down and the macro-economic environment remains stable or improves, management expects charge-offs to decline and a further reduction in the allowance for loan losses.
In Card Services within CCB, the Firm expects that spread compression will continue in 2014; the shift from high-rate and low-FICO balances is expected to be replaced by more engaged customers or transactors, which is expected to positively affect card spend and credit performance in 2014. If current positive credit trends continue, the card-related allowance for loan losses could be reduced over the course of 2014.
The currently anticipated results for CCB described above could be adversely affected if economic conditions, including U.S. housing prices or the unemployment rate, do not continue to improve. Management continues to closely monitor the portfolios in these businesses.
In Private Equity, within the Corporate/Private Equity segment, earnings will likely continue to be volatile and influenced by capital markets activity, market levels, the performance of the broader economy and investment-specific factors.
For Treasury and CIO, within the Corporate/Private Equity segment, as the Firm continues to reinvest its investment securities portfolio, net interest income is expected to improve and to reach break-even during the second half of 2014.