US bank profits withstand trading hit from China

Large US banks reported mostly higher second-quarter earnings this week even as a pullback in trading revenues due to crises in Greece and China dented results.

The biggest hit came at Goldman Sachs, where revenues in bonds, foreign exchange and commodities trading fell 28 percent in the second quarter.

"Obviously Greece has been in the headlines continuously and that certainly weighed on spread-sensitive parts of the business like credit and mortgages," said Goldman Sachs chief financial officer Harvey Schwartz.

"And so it's not surprising that we saw reduced client activity in the quarter."

He said volatility in the Chinese stock market since mid-June also had rattled investors.

JPMorgan Chase, the biggest US bank by assets, cited Greece as a key factor in a 10 percent decline in bond, foreign exchange and currency trading. Bank of America saw a nine percent drop in this category, while Citigroup's fell one percent.

"The quarter was dominated by EMEA (Europe, the Middle East and Africa) with a bond sell-off and economic and political uncertainty, including Greece," said JPMorgan chief financial officer Marianne Lake.

"This uncertainty slowed the momentum we saw in the first quarter."

Bank executives said fewer bank clients are willing to step in and provide key liquidity to facilitate trading.

Banks have also cut back on activities following US regulations imposed since the 2008 financial crisis to rein in risk.

These include the so-called "Volcker Rule," which takes effect on July 21 and prohibits banks from using their own funds to make some speculative trades.

Analysts say bond trading could be especially vulnerable to further pullback in the months ahead due to a plan by the US Federal Reserve to raise zero-level interest rates later this year.

- Boost from cost-cutting -

Despite the hit from trading, four of five large US banks either met analyst expectations on earnings, or exceeded forecasts, in some cases by a wide margin.

The biggest jump came at Citigroup, which reported $4.8 billion in profits, up from just $181 million in the year-ago period. The 2014 quarter had been marred by a $3.7 billion legal charge to settle mortgage securities litigation.

The great exception was Goldman Sachs, which saw earnings drop by almost half, to $1.05 billion from $2.04 billion, due to a $1.45 billion legal charge.

To boost profits in the wake of the trading pullback, banks are cutting costs and boosting lending to consumers.

Citigroup expenses fell 30 percent from the 2014 year-ago period, or seven percent if the effects of huge legal costs were excluded. Bank of America's expenses fell 25 percent, or six percent if its large 2014 legal charge is excluded.

Banks have eliminated thousands of jobs, shuttered bank branches and exited non-strategic ventures. Citigroup said it has reduced its North American branch count by 15 percent over the last year.

With the exception of Goldman Sachs, large banks "seem to be putting the period of large litigation charges behind them," said a note from Zacks Equity Research.

"Underlying loan demand is improving, as is the outlook for investment banking, with momentum on the advisory side of the business helping offset weakness on the fixed-income trading side," Zacks said.

"These modest improvements in business coupled with tight cost controls should keep bank profits in the positive column in an otherwise very unhelpful interest rate backdrop."

JPMorgan, BofA and Citigroup reported increases in some key consumer lending categories, or, in some cases, gains among the company's core clients.

Lending to consumers is expected to become more profitable for banks in a rising interest-rate environment.

Large banks currently pay near-zero interest on money they borrow and then charge clients two-three percent, a gap known as the net interest margin.

A move by the Fed to lift rates to 0.25-0.50 percent could permit banks to charge four-five percent on lenders, said Gregori Volokhine, president of Meeschaert Capital Markets.