Expected loan losses drag down bank earnings

By John Poirier and Karey Wutkowski

WASHINGTON (Reuters) - U.S. banks and thrifts set aside record amounts of money last year in anticipation of higher loan losses, driving down their earnings, as the housing and credit markets soured, U.S. regulators said on Tuesday.

Bank earnings plunged 83.5 percent in the fourth quarter to a 16-year low of $5.8 billion, from $35.2 billion a year earlier, the Federal Deposit Insurance Corp said.

For the year, net income slid 27.4 percent to $105.5 billion from a record $145.2 billion in 2006, ending six straight years of record earnings, the agency said.

FDIC Chairman Sheila Bair linked the earnings drop to weakness in the housing sector and the credit squeeze in financial markets. "We can expect these problems to continue in 2008," she told reporters.

Bair said examiners will focus on asset quality at banks, including other stressed loan areas such as commercial real estate, credit cards and small business.

Analysts said they see broad signs of deterioration in bank credit quality, mostly concentrated in a half dozen states led by Michigan, Florida and Georgia.

"Construction lending tends to have the highest nonaccrual rates," Jaret Seiberg of the Standford Group Company said. "Despite widespread concerns over mortgage lending, the nonaccrual rates in most states on one-to-four family residential mortgages remain low."

A non-accrual rate is the percentage of loans whose principal and interest have gone unpaid for 90 or more days.

Banks set aside record reserves in the fourth quarter and for the year to cushion against expected loan losses. They set aside $31.3 billion in the fourth quarter to offset weakening conditions in the housing and credit markets, and $68.2 billion for the full year.

"It was the largest single factor that caused the decline in earnings," said Ross Waldrop, the FDIC's chief financial analyst.

Average return on assets shrank to 0.86 percent last year from 1.28 percent in 2006.

Bair said 99 percent of banks were well-capitalized at the end of 2007.

"As expected, banks are adjusting to the economic stress in the housing and capital markets and are taking the necessary steps to put the losses behind them," said James Chessen, chief economist at the American Bankers Association trade group.

COMMERCIAL BANKS PROFITABLE, THRIFTS SUFFERED

The FDIC's data cover more than 8,500 institutions with federal deposit insurance and include institutions regulated by the Office of Thrift Supervision (OTS), the Office of the Comptroller of the Currency and the Federal Reserve.