Fitch: Energy Provisioning Weighs on Capital One's 1Q16 Earnings

CHICAGO--(BUSINESS WIRE)-- Capital One Financial Corporation's (COF) first quarter 2016 (1Q16) earnings were down due to higher provisioning across its platform, but particularly within the company's energy loan portfolio, according to Fitch Ratings.

COF's overall return on average assets (ROAA) was a still good 1.23% in 1Q16 relative to 1.12% in the sequential quarter and 1.47% in the year-ago quarter. Fitch notes that the 1Q16 ROAA still compares favorably to many regional bank peers during the quarter. However, the company's annualized return on average equity (ROE) during 1Q16 was 8.52%, which is below Fitch's estimate range of a cost of equity assumption for COF of between 10% to 12%.

As noted, the main driver of COF's earnings performance this quarter was higher provisioning. The overall provision expense in 1Q16 was $1.53 billion due to auto loan growth as well as incrementally higher auto loan net charge-off rates (NCO), coupled with higher levels of criticized energy assets.

Auto loans grew 3% from the sequential quarter and 10% from the year-ago quarter. NCO rates in auto loans were 1.60% in 1Q16, and management expects this to increase gradually. Additionally, there was some evidence of used car values declining during the quarter which also helped to push up the allowance.

Within the energy portfolio both criticized assets and non-performing assets increased in 1Q16, and as a result COF boosted the allowance for loan losses in the energy portfolio. The total allowance for energy related loans is now $262 million as of the end of 1Q16, which represents 8.15% of loans held for investment, which Fitch considers reasonable, though below the level of some peers.

To put COF's energy exposure in context, despite some customer draws on their lines of credit in 1Q16, total oil and gas loans ended the quarter at $3.2 billion, at only 1.5% of total company loans and 6.3% of total equity. COF's unfunded energy exposure decreased to $2.7 billion due to the customer draws noted above as well as some reductions in borrowing bases.

Fitch continues to view COF's energy exposure to be manageable within the context of the company's earnings performance.

Total revenue for COF excluding provisions was flat relative to the sequential quarter but up 10% relative to the year-ago quarter. This was due to higher net interest income (NII) given higher loan balances due in part to the closing of the GE Healthcare transaction as well as continued growth in credit card loans.

It was surprising that COF did not benefit more from the Federal Reserve's interest rate increase in the latter part of 2015, as the company's interest costs modestly ticked up on wholesale borrowings while overall asset yields remained steady. This asset yield impact was largely due to mix changes given the closing of the GE Healthcare transaction. As such, the net interest margin (NIM) ticked down 4 basis points relative to the sequential quarter to 6.75% at the end of 1Q16.

Non-interest income was down relative to the sequential quarter but up relative to the year-ago quarter largely driven by changes in interchange net revenue. This was not overly surprising as purchase volume seasonally declined during 1Q16 relative to the sequential quarter, but was up strongly relative to the year-ago quarter as COF's QuickSilver and Venture cards continue to gain traction.

Non-interest expenses continue to be comparatively well controlled, as COF demonstrated the ability to achieve positive operating leverage relative to both the sequential and year-ago quarters. As such, the company's efficiency ratio remained strong at 51.82% as of the end of 1Q16.

Fitch continues to consider COF's capital and liquidity positions as appropriate for its rating category.

COF's loan-to-deposit ratio was 100% which is lower than the sequential quarter, but somewhat higher than most other regional bank peers.

Additionally, the company's Basel III Common Equity Tier 1 (CET1) ratio as of the end of 1Q16 was 11.1% under the standardized approach and remains above 8% under the advanced approach.

Additional information is available at www.fitchratings.com

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Fitch Ratings
Justin Fuller, CFA
Senior Director
+1-312-368-5472
Fitch Ratings, Inc.
70 W. Madison Street
Chicago, IL 60602
or
Bain Rumhor, CFA
Director
+1-312-368-3153
or
Media Relations:
Alyssa Castelli, +1-212-908-0540
[email protected]
Elizabeth Fogerty, +1-212-908-0526
[email protected]

Source: Fitch Ratings

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