Bank Failure Danger

Aug. 6 (Bloomberg) --
Royal Bank of Scotland Group Plc’s investment banking unit posted a 30 percent decline in revenue in the first-half, as income from trading bonds and currencies dwindled during the sovereign debt crisis.

Sales at the Edinburgh-based lender’s global banking and markets unit dropped to 5 billion pounds ($7.9 billion) in the first six months from 7.2 billion pounds in the year-earlier period, RBS said in a statement today. Equities revenue also fell as the crisis sapped demand for stock offerings, RBS said.

The Scottish lender follows Barclays Plc and HSBC Holdings Plc in posting a drop in revenue at its securities unit. Barclays Capital said yesterday first-half revenue fell 32 percent, while HSBC, Europe’s biggest bank, said this week revenue at its global banking and markets unit declined 12 percent.

“The problem the banks face as they move towards 2011 is that the outlook for investment banking earnings is not particularly exciting,” said Christopher Wheeler, an analyst at Mediobanca Securities in London, who covers investment banks. “Investment banking earnings will continue to weigh on any bank’s valuations.”

From St. Louis Fed

To better understand the financial and supervisory characteristics of failed banks, we at the St. Louis Fed examined data on commercial banks that failed from 1990 to 2009. We looked to see when each of the CAMELS scores—capital, asset quality, management, earnings, liquidity and sensitivity to risk—started to deteriorate for these banks as a group. The threshold for “started to deteriorate” was when each rating first hit 3 on the CAMELS’ 1 to 5 ranking system (with 1 being best and 5 being worst). Our review of each failed bank started 14 quarters before its failure.

The results of our analysis were not surprising. Banks that fail experience deterioration in asset quality. The deterioration first shows in a bank’s earnings level (the “E” component of CAMELS) as banks begin to provision for potential loan losses. This occurs well in advance of other financial health indicators.

From Reuters:

Bank's credit improved in Q3, growth uncertain

JPMorgan Chase & Co (JPM.N) is slated to be the first big bank to report third-quarter results. On Wednesday, analysts expect the second-largest U.S. bank to report an anemic 1.3 percent increase in profits over the same period last year.

That may set the tone for a tough earnings season. For the last two quarters, U.S. banks have boosted earnings by setting aside less money to cover loan losses -- less than even the bad loans they wrote off during the quarter.

Setting aside less money made sense when credit losses seemed to be stabilizing. But with economic growth slowing, it is not clear whether it makes sense to reduce loan loss reserves, or earnings set aside to cover losses.

"You can only go to that well so much. You can only take so much of it, and then it's not there," said Matt McCormick, a portfolio manager and banking analyst with Bahl & Gaynor.

With loan demand weak and lending profit margins narrowing, banks have few other sources of profit growth compared with the second quarter, analysts said.

Bank of America Corp (BAC.N) and Citigroup (C.N) are both expected to post lower profits for the third quarter compared with the second, although they may outpace the extremely weak levels of a year before.

"It was a pretty dismal quarter," said Michael Nix, principal at Greenwood Capital Associates.

One bank that is probably systemically important is RBS.  I have watched its results for some time due to its global importance.  We won't know the Q3 results from RBS until November 5th.

If we see deteriorating earnings, it would indicate that the systemic problems are far from over.  We should be mindful that bank results are not necessarily reported on a GAAP basis, so often it is difficult to accurately measure performance.

It is also possible that we would see Libor and the TED spread rise as the result of  poor results.

RBS is the 2nd largest bank in the world by assets ($2,747 billion).  Approximately 84% of its shares are owned by the UK government, and has a market capitalization of 51.7 billion British Pounds.