Bank Sector Hit by String of Negative Earnings Reports

For evidence of Wall Street’s touchiness about the state of corporate earnings, look no further than the banking industry.

Negative earnings announcements from a string of banking companies last week slammed stocks in the sector, pushing an index of financial stocks down almost 10% for the week and adding steam to the market’s downward momentum.

The latest blows came Friday, when New Orleans’ Hibernia Corp. and Chicago’s Northern Trust Corp. said third-quarter profits would be lower than analysts expected, two days after similar warnings from Detroit’s Comerica Inc. and Bank of New York Co. Shares of Hibernia and Northern Trust both lost more than 5%, and all 52 members of Bloomberg’s index of U.S. bank stocks lost ground--a troubling reversal for a sector that reported record earnings in 2001.

Slower-than-expected economic growth has been a primary cause of the recent profit shortfalls as borrowers fall behind on loan payments. For instance, Comerica, a well-regarded business bank with a large presence in California, said it added more than $200 million to its loan loss reserves. Of the stocks in the Bloomberg index, Comerica had the worst week, with a 24.16% decline.

Regulators have been pressing regional bankers to add to reserves for bad loans, as Comerica was forced to do on its lending to independent filmmakers. That has created fears of more widespread troubles, especially since rising mortgage delinquencies, home foreclosures and other indicators are revealing that consumers may be less able to provide a crutch for the economy.

Comerica’s announcement, especially, seemed “to be the beginning of the reassessment to the negative” among investors in regional bank stocks, research firm CreditSights warned investors last week.

The pressure to increase reserves may make banks even more cautious in commercial lending, said analyst Michael Mayo at Prudential Securities, who has “sell” recommendations on five of the 18 banks he covers. The Federal Reserve has reported seven straight quarters in which banks have tightened their lending requirements.

Despite that, a Fed report to Congress last month said there is little evidence that creditworthy borrowers are having trouble getting loans. Lending to smaller businesses--the backbone of the California economy--held up better than to large companies.

Other big losers last week included banks that earn large fees for credit cards, for managing trusts and investments and for processing securities transactions. Among these were Bank of New York, down 21.81%; Synovus Financial Corp. of Columbus, Ga., down 17.15%; Northern Trust, down 15.6%; and Mellon Financial Corp., down 13.2%. By contrast, the Standard & Poor’s 500 index lost 3.2% for the week.

“The fee-based banks had been doing great, but the market is realizing that fee income won’t be as strong as it thought,” said Bert Ely, an Alexandria, Va., banking consultant.

The recent decline in bank stocks is a reversal of fortune for a sector that had enjoyed some success in the months after the terrorist attacks despite struggles at the biggest banks, Citigroup Inc. and J.P. Morgan Chase & Co., whose ties to corporate scandals were under scrutiny even as their loans to major corporations went south.

The Fed’s slashing of interest rates after the attacks allowed banks to cut rates on deposits just as huge sums were flowing out of the stock markets and into the safety of insured bank accounts. That pool of cheap funds propped up earnings despite rising delinquencies in commercial loans.

But as talk of yet another Fed rate cut continues, there’s no room to push deposit rates lower, and many banks are seeing large lending “spreads” shrink as their loan rates decline.

“Interest rates going lower is not good for us,” James Hance, Bank of America Corp. chief financial officer, said in a recent interview. “They’re already too low. We would be better served profit-wise if interest rates were higher, because the cost of funds can’t go any lower.”

Ely said the fall in bank stocks could allow San Francisco-based Wells Fargo & Co. to expand to the East Coast by acquiring weaker institutions. Wells is one of the few banks whose shares are still in the black for the year--up 3.7% as of Friday.

Bloomberg News was used in compiling this report.