Profits at large U.S. banks are up, but not as much as they could be. This week and next, banks are reporting their earnings as Wall Street investors cautiously note the factors that could mean lower earnings.
Among the various revenue streams from large banks, which include equities trading and credit cards, is income from the basic business activity of borrowing and lending.
With ongoing governmental worries about inflation, monetary policy makers have been applying the fiscal brakes to the economy by increasing interest rates. This has translated into higher borrowing costs for banks and less profits from lending.
The continual stream of interest rate boosts by the Fed for the last 17 quarters has resulted in smaller returns at community banks where business relies mostly on securing deposits and granting loans.
UBS Analyst Matthew O'Connor, referring to the spread in borrowing and lending rates, known as the interest rate margin, said in a research report released ahead of the earnings reports this week that banks may be a bit more cautious going forward given slightly more net interest margin pressure than previously expected.
Citigroup, Wells Fargo, and U.S. Bancorp have already posted results and all were affected by the rates. However, large institutions, have weathered the situation, posting steady gains by relying on a diversity of other business activities.
Several of the biggest banks are set to announce their earnings this week and next, including Wachovia, Bank of America and Morgan Stanley. In what could be a preview for what is to come, Citigroup, the U.S. and world's largest financial services company, announced on Monday a modest profit of four percent profit for the second quarter, powered in large part by non-retail banking activity.
While corporate and investment banking income at Citigroup grew 26 percent globally with 44 percent growth in the U.S. for a total of $2.05 billion, the company's total U.S. consumer income was up 11 percent to $1,723 billion.
More strikingly, however, total U.S. consumer revenue outpaced revenue growth by 30 percent. The latter increased by 1 percent to $7.57 billion, while the corporate and investment banking revenues jumped 31 percent to $6.761.
Given the pressure regarding interest rates O'Connor expected most banks to be vocal that the Fed should pause/stop at current levels.
In a statement accompanying the release of the report on Monday, Citigroup referred to net interest margin four times as a factor that offset income gains.
Meanwhile, Wells Fargo, another of the nation's top banks, was able to better endure the tightening Fed rates, even though its net interest margin decrease by 0.09 percent.
The bank reported that its net interest income increased 10 percent to $3,321 million from $3,121 a year ago as deposits at its banks continued to grow.
Another positive factor for the company was that it was also able to sell off adjustable rate mortgages (ARMs) that are particularly susceptible to reduced interest income given the higher rates.
Our second quarter net interest margin of 4.76 percent remained one of the highest in banking, said Wells Fargo Chief Financial Officer Howard Atkins.
Citigroup was less able to cope. The company's net interest margin dropped to 2.72 percent from 2.86 in the first quarter and 3.12 percent from the same period last year.
The net interest margin declined 14 basis points versus the first quarter 2006, with the increase in the sequential quarter decline driven by trading activities in capital markets and banking, the company said.
Despite beating Wall Street earnings estimates by posting 7.4 percent in profits over the same period last year, U.S. Bancorp was stung in the net interest income category.
The company's net interest income dropped to $1,697 million from $1,761 in the second quarter of 2005. The company said that while the number of mortgages and commercial loans had increased, the figure was more than offset by a lower net interest margin.
The net interest margin for the company was 3.68 percent compared with the 3.99 percent a year ago.