Neutral Rating on PNC Financial

We have reiterated our Neutral recommendation on PNC Financial Services Group Inc. ( PNC - Analyst Report ) based on its fundamentals, recent announcement to beef up its residential mortgage repurchase reserves and the current stretched operating environment.

PNC Financial’s first-quarter 2012 earnings per share came in at $1.67, comfortably surpassing the Zacks Consensus Estimate of $1.45. The company’s upbeat performance was attributed to improved revenue levels. Moreover, decreased non-interest expenses reflect better expense management.

Contraction in the provision for credit losses was also on the upside. Yet, the company incurred a couple of one-time charges in the quarter and nonperforming assets also increased.

Last week, at Morgan Stanley’s ( MS - Analyst Report ) financials conference, PNC Financial announced its plan to boost its residential mortgage repurchase reserves by around $350 million in the second quarter of 2012. The decision follows the recently elevated levels of government sponsored enterprise (GSE)-related repurchase demands.

The increased levels of GSE-related repurchase demands for PNC Financial are primarily in 2005-08 vintages and the major reasons cited for the recent claims include property values and missing documentation. The reserve additions will result in life-to-date accrued losses of $1.6 billion. The mortgages are mostly originated by National City Corp.

Going forward, we believe PNC Financial is well positioned to grow given its diverse business mix, balance sheet strengthening efforts, strategic acquisitions and solid capital levels. Stress test clearance, dividend hikes and share buybacks also serve as positive catalysts.

Yet, a protracted economic recovery, continued low interest rate environment, increased regulatory headwinds as well as elevated mortgage repurchase costs seem to somewhat limit growth in the company’s profitability.

The risk-reward profile of PNC financial seems somewhat balanced and therefore we have reaffirmed our Neutral recommendation on the stock. Additionally, PNC Financial shares currently retain the Zacks #3 Rank, which translates to a short-term Hold rating.