Being big could pay off for battered banks this earnings season.
Five of the biggest U.S. banks, including struggling Bank of America Corp., are expected to report profits for the January to March period. Analysts are split about a profit at Citigroup Inc. — some say it might have eked out a small gain.
All the big banks are finally seeing losses from credit cards, mortgages and other consumer loans slow. And the rallying stock market and interest rates holding near zero are allowing the companies to borrow cheaply and profit from higher-yielding investments.
But these are just a handful of companies, the top tier of banks. Go down to the next few levels in the industry, and you'll find regional and small banks losing more money on commercial real estate loans. Nearly 40 percent of all banks are expected to post first-quarter losses, according to Keefe, Bruyette & Woods.
And although the big banks starting with JPMorgan Chase & Co. on Wednesday are expected to have good news, analysts say their continuing rebound is unlikely to boost lending. Banks are still conservative about loans, while consumers and business remain wary about adding to their debt burdens.
A profitable quarter for all six banks has only happened once since the 2008 financial crisis, during the second quarter of last year. The big companies also include Wells Fargo & Co., Goldman Sachs Group Inc. and Morgan Stanley. Goldman Sachs and Morgan Stanley are focused on investment banking rather than the retail operations that have been hurt by millions of loan defaults.
Analysts say the loan business is progressing as expected at this point in the economic recovery. Losses on residential real estate have slowed, but a wave of commercial real estate defaults is hammering small and midsize banks. Analysts forecast that trend will continue through 2010 and beyond.
That's forcing even big money-making banks to set aside billions of dollars, money that will protect against losses but that will also eat into profits. Wells Fargo, Bank of America, JPMorgan Chase and Citigroup may have to allocate a combined $33.2 billion over the next two years just to cover home equity losses, according to CreditSights Inc.
"Things aren't as bad as they were six months ago, but that doesn't mean everything is rosy," said Paul Miller, a managing director for FBR Capital Markets. "We still think normalized (bank) earnings are still two years off at best."
Along that line, analysts don't see lending picking until unemployment falls from its current level of 9.7 percent and small and midsize businesses start expanding.
Delinquencies for consumer loans have slowed in the past year as people paid down debt and banks reduced credit lines. At U.S. commercial banks, 4.8 percent of consumer loans not secured by real estate were delinquent in 2009, according to SNL Financial. That's only slightly higher that the 4.4 percent of delinquencies banks saw in 2008.
Meanwhile, delinquencies on commercial real estate loans have soared. Eleven percent of commercial real estate loans made by commercial banks were delinquent in 2009, almost double the amount in 2008, SNL Financial data shows.
That is the root of the growing problems at regional and smaller banks. And it has triggered a wave of failures among small banks, which were the biggest financiers of commercial properties and development before the recession. Forty-two banks have failed so far this year. The number is expected to peak this year and could surpass the total for 2009, when 140 banks failed — the highest annual tally since 1992, the height of the savings and loan crisis.
Several regional banks, including Huntington Bancshares Inc. and Regions Bank, are winding down parts of their commercial real estate portfolios, according to CreditSights.
Others, including US Bancorp and BB&T Corp., were aggressive early on in setting aside money to guard against losses, helping them weather the troubles, banking analyst Bert Ely said.
"The stronger guys put the credit problems behind them, and they don't have the earnings drag because of it," Ely said. "The question is will this be the breakout quarter in terms of further separating the strong from the weak among the regionals."
At the biggest banks, profits from investment banking and trading operations will likely help offset loan losses, as they have done in past quarters. That means gains could be even bigger for Goldman Sachs and Morgan Stanley, who already bet big and won on bonds, currencies and commodities in 2009. Analysts have warned, however, those profits could fall in 2010 because of uncertainty over the direction of interest rates.
Banks have been taking advantage of low rates to borrow cheaply and plow the funds into higher-yielding bonds and other securities, a practice known as "playing the spread." If rates rise this year or next as some analysts predict, that revenue source could be threatened, Ely said.
Others say a big challenge for banks and the wider economy will be how smoothly the government untethers itself from the financial system after pouring trillions of dollars into financial companies to stop them from collapsing. The Federal Reserve last month ended its $1.25 trillion program to buy up mortgage-backed securities issued by Freddie Mac and sibling company Fannie Mae.
Some analysts fear that mortgage rates could rise when the government stops buying the securities. That, they say, could weaken the fragile recovery in housing and the overall economy.
"We still have a very vulnerable housing market," said Miller of FBR Capital Markets. "So the question for banks is how does the government pull itself out of all these programs without causing a major hiccup."
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