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Federal Deposit Insurance Corporation (FDIC)-insured commercial banks and savings institutions reported first-quarter 2013 earnings of $40.3 billion, outpacing the year-ago earnings of $34.8 billion by 15.8%. This marks the 15th consecutive quarter in which earnings soared on a year-over-year basis.

Overall, the banking industry is exhibiting signs of gradual improvement as evident from the first-quarter results. The number of troubled assets and institutions marked a decline and are striving to improve.

Further, reduced loan loss provisions and higher non-interest income were recorded. Lower non-interest expenses reflect prudent expense management by the banks. However, these positives were partially offset by reduced net interest income.

Banks with assets worth more than $10 billion contributed to the overall earnings growth during the first quarter. Though these constitute only 1.5% of the total U.S. banks, the banks account for approximately 83% of the industry earnings.

Such major banks include Wells Fargo & Company (WFC - Analyst Report), Citigroup Inc. (C - Analyst Report), JPMorgan Chase & Co. (JPM - Analyst Report) and Bank of America Corporation (BAC - Analyst Report).

Performance in Detail

Banks are striving hard to be profitable and are bolstering their productivity.
Around 50% of all institutions insured by the FDIC reported improvement in their quarterly net income compared to the prior-year quarter. Moreover, shares of institutions reporting net losses for the quarter slumped to 8.4% from 10.6% in the last-year quarter.

The profitability measure – average return on assets (ROA) surged to 1.12% from 1.00% in the prior-year quarter. Notably, the current quarterly ROA for the industry is the highest since 1.22% recorded in the second quarter of 2007.

Net operating revenue stood at $170.6 billion, up 1.6% year over year. The increase was due to a rise in non-interest income, partially offset by lower net interest income.

Net interest income was recorded at $104 billion, down 2.2% year over year, reflecting the lowest level of average net interest margin since 2006. The average net interest margin declined to 3.27%, from 3.51% in the prior-year quarter, as average asset yields were less than the average funding costs.

Non-interest income rose 8.3% year over year to $66.5 billion for the banks. Moreover, trading income reflected a year-over-year increase of 17.8%, while gains from asset sales jumped 30.1%.

Total non-interest expenses for the institutions were $102.3 billion in the quarter, down 3.9% on a year-over-year basis. The decline was aided by lower other non-interest expenses, partially offset by higher salaries and employee benefits expenses and elevated premises and equipment expenses.

Credit Quality

Overall, credit quality marked an improvement in the first quarter of 2013. Net charge-offs plummeted to $16.0 billion from $21.8 billion in the first quarter of 2012. The decline was primarily due to lower charge-offs in residential mortgage loans and home equity lines.

Loss provisions for the institutions in the reported quarter were recorded at $11.0 billion, down 23.2% year over year, reflecting the lowest quarterly loss provision since the first quarter of 2007. Notably, around 53.1% of all institutions reported lower loss provisions in the quarter as compared with the prior-year quarter.

The level of non-current loans and leases (those 90 days or more past due or in non-accrual status) declined 5.7% year over year. Moreover, the percentage of non-current loans and leases reached the lowest level since 2008.

Balance Sheet

The banks represented a strong capital position. Total deposits continued to rise and were recorded at $10.8 trillion, up 4.9% year over year. However, total loans and leases came in at $7.7 trillion, down 4.1% year over year.

As of Mar 31, 2013, the net worth of Deposit Insurance Fund (DIF) increased to $35.7 billion, up from $33.0 billion at the end of 2012. Moreover, assessment revenues primarily impelled growth in the fund balance.

Bank Failures and Problem Institutions

During the first quarter of 2013, 4 insured institutions failed, marking the smallest number of failures in a quarter since the second quarter of 2008, when it had recorded 2 failures. Moreover, as of Mar 2013, 13 failures were recorded, as compared with 24 failures in the comparable prior-year period.

As of Mar 31, 2013, the number of "problem" banks declined from 651 to 612, reflecting the eighth consecutive quarter of decrease. Total assets of "problem" institutions also plummeted to $213 billion from $233 billion.

Our Viewpoint

Besides the encouraging decline in the list of problem institutions, the 15th straight quarter of consolidated profit from FDIC-insured banks is quite impressive. U.S. banks started 2013 with uninterrupted expense control, a sound balance sheet, an uptick in mortgage activity and lesser credit loss provisions in the first quarter. Moreover, a favorable equity and asset market backdrop, falling unemployment, a progressive housing sector and a flexible monetary policy facilitated a smoother path to growth.

Yet top-line growth remains uncertain due to continued sluggishness in loan growth, pressure on net interest margins from the sustained low rate environment and less flexible business models owing to stringent risk-weighted capital requirements (Basel III standard). However, banks have been gradually easing their lending standards and trending toward higher fees to dodge the pressure on the top line.

Overall, structural changes in the sector will continue to impair business expansion and investor confidence. Several dampening factors -- asset-quality troubles, mortgage liabilities and tighter regulations -- will decide the fate of the U.S. banks in the quarters ahead. However, entering the new capital regime will ensure long-term stability and security for the industry.

Though the improving performance by the banks seems already priced in and there remain significant concerns, the sector's performance in the upcoming quarters is not expected to disappoint investors.

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