MADRID (Reuters) - Santander (SAN.MC), the euro zone's largest bank, reported a 26 percent drop in first-quarter net profit as slowing growth in some South American markets added to the gloom at home in Spain.
The bank, which relies on South America for about half its profit, missed analysts' forecasts as lending in continental Europe shrank and lower interest rates ate into margins.
Santander is one of Spain's healthier lenders and survived a real estate market crash without state help. The country was forced to seek 41 billion euros ($53 billion) of European aid for its ailing banks last year.
But while Santander's overseas businesses have helped offset problems at home, earnings have come under pressure in Brazil, which contributes a quarter of profit.
And like domestic rivals including rescued Bankia (BKIA.MC), it is suffering in Spain's deep recession which has reduced demand for loans and driven up bad debt.
Shares in Santander, Spain's largest bank by market capitalization, were the biggest losers among European financial stocks .SX7P on Thursday, down 4 percent at 5.4 euros.
Net interest income, the profit margin on its loans, slid 6.3 percent from the fourth quarter and was down 14.3 percent from a year ago. In Spain, it dropped 17 percent.
"Net interest income was very weak, in Spain and Brazil. There is a lot of revenue pressure, and we expected downward pressure on asset quality," said Daragh Quinn, analyst at Nomura in Madrid.
The bank did post strong loan growth in some South American countries such as Mexico, but lending in Brazil was little changed from the previous year as economic growth there remained tepid.
Lending in continental Europe, including Spain, shrank by 4.5 percent from a year ago.
Santander said the first quarter compared unfavorably with a strong start in 2012 and insisted this year would be one of strong earnings growth, although Chief Executive Alfredo Saenz said he saw no "drastic change" in the economic outlook.
Net profit fell to 1.21 billion euros, below the average estimate of 1.3 billion euros in a Reuters poll. Net profit from Latin America fell 18 percent and in Britain it was down by nearly a quarter.
Spanish banks wrote billions of euros off the value of their property loans after the government enforced a clean-up of their books last year.
They face rising bad loans as the economy keeps shrinking. Spain's unemployment rate rose to a new record of 27 percent in the first quarter, with 6.2 million people out of work, more than the population of Denmark.
Santander's Spanish bad debts rose to 4.12 percent at the end of March from 3.84 percent at the end of last year but that figure does not include all of the impact from soured property loans after the shifted most of its property exposure to a separate unit.
Barcelona-based Caixabank, Spain's third-largest lender and its biggest domestic lender, said non-performing loans as a percentage of its overall loan book rose to 9.4 percent at the end of March from 8.62 percent at the end of last year.
Mid-sized lender Sabadell (SABE.MC) posted a 36 percent drop in first-quarter net profit and a jump in bad loans to 9.7 percent from 6 percent at the end of December after it purchased some of the country's state-rescued lenders.
Bankia, which came to symbolize Spain's banking crisis after making a record 19.2 billion euros loss in 2012, said on Wednesday its bad debt ratio remained stable. It posted a 72 million euro first- quarter profit.
Writing by Carmel Crimmins; Editing by Erica Billingham