Third-quarter earnings for US banks are
the lowest in a decade, as the effects of the US subprime mortgage
meltdown continue to be felt throughout the financial services
industry. Increasing reserves for loan losses and rising credit
costs are indicators of the scale of the problem. Truong
Mellor
reports.

Both Citigroup and Washington Mutual announced third-quarter
earnings figures that were down by as much as 70 percent, and even
at Bank of America, whose exposure to the housing market woes was
minimal, profits dropped by 32 percent. Although JPMorgan Chase was
able to post relatively positive numbers, in large part due to a
robust cards services department, the bank was also adversely
affected by an increase in credit loss provisions. Rising credit
card loan losses resulted in Wells Fargo posting its lowest quarter
earnings in six years, while Wachovia’s third-quarter earnings fell
by 10 percent to $1.69 billion.

Citigroup hit hard

Domestic cards business at Citigroup, the world’s largest banking
group, plummeted in the third quarter. A 21 percent decline in net
income reflected lower securitisation revenues, combined with a
rise in expenses and credit costs. Average managed loans in the US
card sector essentially remained static, as a 6 percent increase in
purchase sales due to growth in Citigroup’s travel and business
portfolios was counterbalanced by lower overall promotional
balances. Due to increased collection and servicing expenses, and
lower marketing costs in the prior-year period, total expenses
within Citi’s US card sector grew by 4 percent. Higher credit costs
during this period were largely due to a $134 million pre-tax
charge to increase loan loss reserves to deal with the struggling
macro-economic environment created by the subprime mortgage
situation.

The bank’s international card revenue grew 88 percent, driven
primarily by higher purchase sales and average loans, which were up
by 37 and 52 percent, respectively, as well as the added buoyancy
of recent acquisitions. Although this figure is inflated by the
$729 million pre-tax gain on the sale of Brazilian card processor
Redecard shares, revenues nonetheless increased by a healthy 40
percent during this period. Notably, Citi’s loan balances
experienced double-digit growth in several markets such as Latin
America, Asia and the EMEA region. Organic card purchase sales
increased 22 percent.

Although net income for the bank’s international cards operations
increased slightly in the third quarter, this was again largely due
to the profit from the sale of Redecard shares. Discounting this,
net income declined by 38 percent during this period.

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By GlobalData

Profit drops at Bank of America

Similarly, profit at Bank of America dropped considerably during
the third quarter: the bank posted a 32 percent decline in net
income. Executives at the bank pointed to the huge increase in
consumer credit costs and the poor performance of the investment
banking division. The bank’s large consumer division absorbed heavy
losses as it bolstered its reserves by $865 million – a 52 percent
increase from last quarter – in anticipation of higher losses due
to consumer and small business credit costs arising from
post-bankruptcy reform lows in the previous year. Stress in several
portfolios fuelled by the subprime fallout also contributed to the
bank’s struggling figures for the quarter.

Bank of America said that it had set aside just over $2 billion for
credit losses, up more than 73 percent from $1.17 billion a year
earlier.

Credit card losses during this period reached $2 billion, up from
$1.81 billion in the second quarter, as personal bankruptcies rose
from the low levels recorded since the revision of the US
bankruptcy code in 2005. Contributing to the weak credit figures
was a $607 million trading revenue loss, due principally to the
breakdown in traditional pricing relationships, making hedges
ineffective, and the widening of credit spreads. Debit card
purchase volume increased 11 percent during this period, driven
primarily by higher card income and service charge income. Net
income within the consumer unit, which includes the largest credit
card business in the US, decreased by 16 percent to $2.45 billion
from the year-ago period as credit costs rose.

Bank of America was not directly affected by the credit crunch in
the US housing market, as it had exited the subprime lending market
in 2001, calling it a business that had “become unattractive from a
risk-reward standpoint”. Its disappointing results highlight how a
downturn in the market can have wide-reaching ramifications for all
the major financial players. “While the significant dislocations in
the capital markets have hurt most participants, we are still very
disappointed in our third-quarter performance,” said Kenneth Lewis,
chairman and chief executive officer.

Not so bad at JPMorgan Chase

By comparison, JPMorgan Chase posted relatively positive results
for the third quarter. Despite heavy losses in its investment
banking arm amounting to a 70 percent drop in income, earnings for
the period rose by 2.3 percent overall. A key factor in this was an
11 percent rise in profits for the bank’s card services division,
which grew $75 million to $786 million, as well as a 59 percent
increase in credit card sales. Net managed revenue totalled $3.9
billion, a growth of $221 million or 6 percent from the third
quarter of 2006. Net interest income was $3.1 billion, up $224
million, representing an 8 percent increase from the prior year.
The growth in net interest income was driven by an increased level
of fees and higher average loan balances.

However, this growth was tempered by a larger provision for credit
losses. The managed provision for credit losses was $1.4 billion, a
7 percent rise of $93 million from the prior year due to a higher
level of net charge-offs. JPMorgan Chase’s third-quarter figures
were also offset partially by the discontinuation of certain
billing practices such as the elimination of some over-limit fees
and the two-cycle billing method for calculating finance charges,
as well as a narrower loan spread.

Non-interest revenue for the quarter was $759 million, relatively
static compared with the previous year. Increased net interchange
income, which benefited from higher charge volume, was offset by
lower net securitisation gains. Charge volume growth of 3 percent
reflected an approximate 10 percent growth rate in sales volume,
offset primarily by a lower level of balance transfers.