There has been a flood of surprisingly strong profit news coming from the nation's banks in recent weeks. Asset sales and higher trading volumes have been a big help, but that's not all that got them there.
Federal debt guarantees and near-zero interest rates have given banks' earnings lots of juice, and they could both disappear soon.
"Cash and capital are fungible, and to the extent that they have been able to get their hands on it in any form, that has benefited them," said John Jay, a senior analyst at the market research and consulting firm Aite Group.
It was just last fall that the obituary of the banking sector was being written. That was the height of the financial crisis, when bank losses were mounting and investors were running scared.
Today, six of the seven biggest financial institutions have reported quarterly profits that exceeded expectations, even though the quality of loans on many of their balance sheets continued to deteriorate. Most are forecasting more losses in residential and commercial real estate lending for the rest of this year.
A variety of factors drove the earnings gains. Goldman Sachs Group Inc. cited wider profit margins on buying and selling securities for its record profits. Citigroup Inc.'s bottom line was boosted by the sale of its Smith Barney brokerage unit to Morgan Stanley. JPMorgan Chase & Co. reported a surge in its investment banking business.
But the banks shouldn't take all the credit for how far they've come. Even though many repaid some $70 billion in bailout money given to them through the federal Troubled Asset Relief Program, they aren't entirely out from under the government's thumb.
For proof, look at the power of the government's backing of new debt issued by financial institutions. The Financial Deposit Insurance Corp.'s Temporary Liquidity Guarantee Program began last November when banks couldn't raise money in debt markets because lenders were too fearful about the massive losses they were reporting.
Eight months later, it is considered a great success. Most importantly, it got lenders to return to the marketplace, a crucial step because banks are so reliant on short-term financing to fund their operations. Since the start of the program through the end of the second quarter, there were 141 debt deals with the FDIC backing, with a total value of $270 billion, according to data-tracker Dealogic.
Since the debt has a government guarantee, investors have been willing to accept a lower yield. That lowers borrowing costs for the banks.
The weighted average yield-to-maturity - the amount of interest the bank promises to the bondholder
- for the FDIC-backed debt issued between November and today is about 2.4 percent. That's about a third of the 6.6 percent weighted average yield-to-maturity for the non-TLGP debt issued during the same time, according to research firm SNL Financial.
"This means the banks will have some relatively cheap financing over the next two or three years," said JP O'Sullivan, senior banking analyst at SNL Financial in Charlottesville, Va.
How much all this is worth is up for debate. The Wall Street Journal estimates the banks are saving some $24 billion in borrowing costs over the next three years. Banking experts contacted by The Associated Press said the subsidy isn't entirely quantifiable since the benefit extends beyond just the interest costs.
