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Banks earn record profit in second quarter on lower loss reserves

WASHINGTON -- The nation's banks posted a record $42.2-billion profit in the second quarter as the improving housing market allowed them to set aside less money for losses on mortgages and other loans, the Federal Deposit Insurance Corp. said Thursday.

Profits were up 22.6% in the April-through-June period compared with a year earlier. It marked the 16th straight quarter that total profits at the nation's approximately 7,000 federally insured banks increased year over year, FDIC Chairman Martin J. Gruenberg said.

"The industry’s condition clearly is improving," he said.

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The industry's second-quarter performance topped the previous record of $40.3 billion in profits set in the first quarter of the year.

The number of so-called problem banks -- those at risk of failure -- dropped to 533, from 612 the previous quarter. It was the first time that figure was below 600 since 2009, and it was well below the peak of 888 in early 2008.

Just 20 banks have failed so far this year, half the number as in the same period in 2012, the FDIC said.

The lower loan-loss reserves have helped fuel the banking sector's continued recovery from the financial crisis, Gruenberg said.

Banks reported $14.2 billion in loan losses in the second quarter, down 30.7% from a year earlier and the smallest quarterly figure since 2007. That allowed them to set aside just $8.6 billion for future losses in the second quarter, the lowest amount since 2006.

But the ability to continue to reduce those reserves has just about run out. And that, combined with rising interest rates that threaten to reduce mortgage business, will make continuing the streak of improving profits more difficult, Gruenberg said.

Banks instead will have to depend on revenue growth, which has been slow. Industry revenue is up less than 2% over the last four years, largely because of historically low interest rates.

The low-interest-rate environment could lead banks to look for riskier investments, Gruenberg warned. Regulators have been watching to make sure banks don't take on too much risk.

Interest rates have risen sharply in recent weeks as investors anticipate the Federal Reserve soon will begin reducing its stimulus efforts. The higher interest rates will give banks more opportunity to increase their revenue, but also will affect the values of their portfolios, Gruenberg said.

"The banks need to be very attentive to their portfolios, to the terms of the loans they are making and how they will manage those portfolios as the interest rate environment changes," he said. "That's really going to be the challenge going forward. It is a tricky balance to strike."

[For the Record, 2:55 p.m. PDT Aug. 29: An earlier version of this post said there had been 20 bank failures through the first six months of this year. That figure is as of Aug. 28.]

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