#71 - Hoodies Versus Suits
Jamie Dimon’s 2020 Annual Letter
Hi 👋 - Businesses need to meet customers where they are. Increasingly, that’s online. As Jamie Dimon notes in JP Morgan’s 2020 annual letter, adopting cloud computing and leveraging machine learning are fast becoming table stakes on Wall Street. This note looks at the firm’s annual letter with an eye towards competition from Silicon Valley and fintech. Thanks for reading.
🏦 Many new readers discover Below the Line when a friend or coworker forwards it to them:
💵 If you aren’t subscribed yet, you can subscribe here:
Jamie Dimon is like a Caesar salad. Because they’re delicious, Caesar salads are on my always-order list. Similarly, because he’s a strong operator and has a ringside view of the US economy, Dimon, CEO of JP Morgan Chase, is on my always-read list alongside Berkshire Hathaway’s Warren Buffett, Shopify’s Tobias Lütke and a few others1.
In 2020, JP Morgan raised and extended $2.3 trillion of capital for consumers and clients. The firm is central to the US financial system and ergo the US economy. Competition from big tech and fintech, the need for banks to adopt new technologies and regulation were recurring themes of its 2020 annual letter, published on April 7th.
Allbirds versus Gucci Loafers
JP Morgan, which traces its roots back to 1799, has a strong brand, mammoth balance sheet and deep relationships with consumers and corporates. None of this shields it from competition. Finance’s competitive landscape is quickly and rapidly changing. Big tech, fintech and shadow banks are gunning for JP Morgan’s market share:
Banks already compete against a large and powerful shadow banking system. And they are facing extensive competition from Silicon Valley, both in the form of fintechs and Big Tech companies (Amazon, Apple, Facebook, Google and now Walmart), that is here to stay. As the importance of cloud, AI and digital platforms grows, this competition will become even more formidable. As a result, banks are playing an increasingly smaller role in the financial system.
While shadow banking sounds ominous, other names for it are Klarna, PayPal and Square.
Between 2010 and 2020, big tech’s market cap has quintupled while US banks grew 70%. Banks are losing share to fintech and shadow banks in several markets. Payments are moving out of the banking system to firms like Square and Stripe. Similarly, banks are feeling the heat from non-bank competitors in consumer lending, mortgages and student loans. Lastly, digital-only neobanks like Chime and N26 are gaining share in consumer accounts. Dimon acknowledges that for JP Morgan to succeed, it will need to move faster and be more creative.
Why Do You Rob Banks?
When asked why he robbed banks, Willie Sutton, one of the FBI’s most wanted criminals in the 1950s replied, “because that’s where the money is.”2 As brain power, revenue and market cap shifts from banking to tech, regulators will follow, because that’s where the money is.
Dimon identifies two threats to established banks: competition, which is healthy, and regulatory arbitrage, which is dubious. On the competitive product front, a visit to the local bank branch is slightly more enjoyable than a trip to the DMV. Additionally, not being burdened by legacy systems held together by duct tape and bubble gum gives fintech an advantage over banks in building products that consumers like:
We believe that many of these new competitors have done a terrific job in easing customers’ pain points and making digital platforms extremely simple to use. But growth in shadow banking has also partially been made possible because rules and regulations imposed upon banks are not necessarily imposed upon these nonbanks...While it is not clear that the rise in nonbanks and shadow banking has reached the point of systemic risk, this trend is accelerating and needs to be assiduously monitored.
Losing market share because products are clunkier or more expensive are signs of healthy competition and a properly functioning market. Losing market share because of regulatory mismatches may signal the opposite.
Throughout the letter, Dimon advocates for a fair and balanced playing field against fintech and shadow banks. This would mean more regulation for tech, or less regulation for banks. Given Wall Street’s penchant for repeatedly touching the hot stove (some recent examples: Credit Suisse and Archegos; also, Credit Suisse and Greensill3) and occasionally throwing the global economy into a tailspin, less regulation isn’t in the cards for banks. However, big tech and fintech will face more scrutiny looking ahead. In the US, pressure from federal regulators and state attorney generals is mounting. In China, regulators are treating some fintech more like banks. The Chinese government recently ordered Ant Financial to turn itself into a financial holding company - drastically curtailing its revenue growth - and forced the company to shelve its highly-anticipated IPO4. It's unclear whether the primary motivation for this were concerns about financial stability or Alibaba-founder Jack Ma flying too close to the sun (Alibaba owns 33% of Ant Financial). As tech and fintech grow, so will regulatory scrutiny.
Software is Eating the Bank
After a certain size, all companies need to become tech enabled. This threshold is shrinking. Technology has become foundational to banking. Dimon sees strong tech infrastructure as a necessity, views inflexible, legacy systems as liabilities and believes that banks need to move to the cloud to remain competitive:
Sometimes a new product or an investment should simply be considered table stakes – meaning there’s no need to do analysis at all. Think about banks adding the capability of opening new accounts digitally, for example, or maintaining a strong technology infrastructure and adopting new technologies, like cloud or artificial intelligence (AI). These could be life-or-death decisions for a company, so instead of focusing on net present value, the emphasis should be on getting the work done properly, efficiently and quickly.
JP Morgan is no slouch when it comes to tech. The bank has 55M digital customers and over 70% of payment volumes are digital. Technology appears 23 times and cloud is mentioned 12 times in the annual letter, compared to nine mentions of lending. The firm spends $600 million a year on cybersecurity, which it views as a significant threat. Lastly, it has implemented AI to support fraud and risk detection, marketing, trading and other areas.
Tech businesses are built off data. Fortunately, banks have reams of data:
We also have an extraordinary amount of data, and we need to adopt AI and cloud as fast as possible so we can make better use of it to better serve our customers. We need to make our extraordinary number of products and services a huge plus by improving ease of use and reducing complexity. We need to move faster and bolder in how we attack new markets while protecting our existing ones. Sometimes new markets look too small or appear not to be critical to our customer base – until they are. We intend to be a little more aggressive here.
However, data is only valuable if you can access it. For banks, this requires replatforming so it’s accessible to cloud applications and refactoring code5. This requires time and investment. Dimon has been willing to slap leather: JP Morgan’s tech budget was $11 billion in 20206. The bank is in an enviable position. In addition to its large, existing client base, economies of scale, fortress balance sheet and trusted brand, it generated $29 billion in adjusted net income in 2020. That’ll buy a lot of cloud computing. Or Caesar salads. Banks that can’t or won’t invest in technology will increasingly find themselves eating off the dollar menu7.
For more like this once a week, consider subscribing👇
Have a friend who works in fintech or banks at Chase? Please share this with them! 💸
More Good Reads
While not germane to the material above, Dimon’s views on reputation are worthwhile:
To a good company, reputation is everything. That reputation is earned day in and day out with every interaction with customers and communities. This is not to say that companies (and people) do not make mistakes – of course they do. Often a reputation is earned by how you deal with those mistakes.
There’s an asymmetry in trust: it takes a long time to build but can be destroyed in an instant. Discussions of company culture can quickly veer off into ping-pong table and cold brew on tap territory, but what really defines culture are issues like how a company handles mistakes. Not everything that counts can be quantified. Reputation and trust are some of the traits that great long-term investors Nick Sleep and Qais Zakaria at Nomad Investment Partners screened for. If you’re a people manager, Dimon's section on leadership (Lessons from Leadership) is a good read. Spending $11 billion a year on technology gives you solid tech capabilities, but doesn’t make you a tech company. Stratechery on what is a tech company?
Disclosure: The author owns shares of Alibaba, Berkshire Hathaway and Shopify.
Other always reads: Amazon founded Jeff Bezos and Spotify founder and CEO Daniel Ek. On the want to learn more list: Constellation Software founder Mark Leonard, LVMH CEO Bernard Arnault and Restoration Hardware CEO Gary Friedman.
FBI, Famous Cases: Willie Sutton, accessed April 10, 2021.
The Wall Street Journal, Credit Suisse Ignored Warnings Before Archegos and Greensill Imploded, April 8, 2021.
The Wall Street Journal, Alibaba Hit With Record $2.8 Billion Antitrust Fine in China, April 10, 2021.
Wikipedia, Code refactoring, accessed April 10, 2021.
The Wall Street Journal, Alibaba Hit With Record $2.8 Billion Antitrust Fine in China, April 10, 2021.
This is one reason why European banks have fallen behind recently: a less forgiving interest rate environment (negative real rates in Germany) translates into lower profitability and less ability to invest in technology.