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Long toxic, mortgages now seen boosting U.S. bank results
One of the few businesses working well for the biggest banks these days is the same one that got them in trouble just five years ago: mortgages.
Wells Fargo & Co (WFC.N) and JPMorgan Chase & Co (JPM.N) are both expected to post more than $4.5 billion in profits for the third quarter, an increase of more than 15 percent from last year, according to Thomson Reuters I/B/E/S.
Other businesses at big banks will likely benefit from the mini-mortgage boom. Fixed-income trading revenue will likely rise at Goldman Sachs Group Inc (GS.N) and other investment banks, thanks in part to more trading in mortgage-backed securities.
A booming mortgage business will help make up for a challenging environment that includes low interest rates squeezing lending profits and slow merger activity pressing earnings from investment banking. Analysts said banks may announce new rounds of cost cutting.
While banks are making new mortgages, the home loan business is still tough. Lenders have millions of foreclosures to process, and all the current refinancing will translate into lower income from mortgage securities they choose to hold.
Legal settlements stemming from the housing bubble and financial crisis are still weighing on results. Bank of America Corp (BAC.N) said on Friday it will pay $2.43 billion to settle a class-action lawsuit by investors who claimed the bank lied to them when it was acquiring Merrill Lynch. With the settlement, the bank will likely post a quarterly loss.
Many lenders scaled back mortgage operations after the housing crash, which turned into a financial crisis that cost banks trillions of dollars globally.
But for banks that stuck with the home lending business, such as Wells Fargo, JPMorgan, and U.S. Bancorp, (USB.N) the fees generated from making mortgages will be a big boon in the near term, analysts said.
"They're the ones that are going to be the winners," said Paul Miller, an analyst at FBR Capital Markets. "We think the refi boom lasts four to five more quarters."
Wells Fargo, the No. 4 U.S. bank by assets, and JPMorgan, the biggest, are scheduled to release third-quarter results on October 12 - the first major financial institutions to do so.
The remaining four of the six biggest banks - Bank of America, Citigroup Inc (C.N), Goldman, and Morgan Stanley (MS.N) are due to report the following week.
A Ride on The QE3
The U.S. Federal Reserve plans to buy up to $40 billion of mortgage-backed securities each month for as long as it takes for unemployment to fall. That demand for mortgage bonds is lowering lending rates. On Thursday, Freddie Mac said the average rate for a 30-year home loan fell to a record low of 3.4 percent.
The Fed's latest effort is intended to reverse the severe damage done by reckless investors, lenders and borrowers who leveraged up homes in the mid-2000s.
Banks benefit from the fees they get from closing loans, but also from the fact that investors want more mortgages than lenders can easily make.
When a bank makes a new loan, it can quickly sell it off to investors at a relatively high price, analyst Dick Bove of Rochdale Securities said in a research note this week.
Wells Fargo has already told investors to expect a significant decline this quarter in its net interest margin, a measure of how much profit a bank makes from interest on its loans.
Banks are trying to make up for the reduced margins by making more loans. Loans on balance sheets of commercial banks grew 5 percent over the 12 months through August, according to Fed data.
"We think there will be a reasonable amount of loan growth, especially on the commercial side," Guggenheim Partners analyst Marty Mosby said. "That's the way the banks have been able to hold their own."
But with investors looking for more improvement, banks are under pressure to cut costs to boost profits. Analysts want details on expenses from Bank of America, which is reportedly accelerating plans to lay off 30,000 workers.
JPMorgan's results are expected to improve from the second quarter, when it booked what appears to be the vast majority of losses from its London Whale trading scandal.
Through the first six months of the year, San Francisco-based Wells Fargo earned more than JPMorgan and could challenge the New York bank for the title of most profitable in a calendar year.
Alongside the basic business of taking deposits and making loans, five of the biggest six banks have substantial operations in securities trading and investment banking - which have had mixed success.
Revenues from fixed income trading are expected to be up, but equity trading will be down, according to estimates by analyst David Trone of JMP Securities. Debt and stock underwriting are up sharply from a year ago, when turmoil in European markets discouraged financing.
But completed takeovers that deliver payoffs for advisory work are lagging. All told, revenue from trading and investment banking will be up about 6 percent, according to Trone's estimates.
Citigroup is seen by some analysts as barely breaking even because it is taking a one-time charge - which it has estimated at $2.9 billion - on the value of its stake in a brokerage joint venture with Morgan Stanley.
Analysts see Morgan Stanley's profit sliding by 75 percent, largely because of accounting adjustments that, ironically, will reflect an increase in the market value of its debt stemming from improvements in its creditworthiness.
[Source: By David Henry and Rick Rothacker, Reuters, NY, 28Sep12]
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