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Regulatory Cloud Stretches From JPMorgan to Europe (Update 1)

Updated from 11:30 a.m. ET with more on UBS and comment from Canacord Genuity analyst Arun Melmane.

NEW YORK (TheStreet) -- Regulatory issues wiped out third-quarter earnings for JPMorgan Chase (JPM), but European banks are also seeing a major hit to profits from multiple investigations.

Deutsche Bank (DB) on Tuesday reported third-quarter earnings of 51 million euros, which included 1.2 billion euros in "litigation related charges." The company's earnings were down from 335 million euros in the second quarter and 754 million euros in the third quarter of 2012. Even during the third quarter of 2012, the company's return on average equity was quite low, at 5.3%.

The third-quarter results were also hurt by weak trading and investment banking revenue. Deutsche Bank's co-CEOs Jurgen Fitschen and Anshu Jain in a statement said the bank was making progress in "key areas," including "approximately 15% of our 2015 balance sheet reduction target of EUR 250 billion."

UBS (UBS) on Tuesday reported a relatively weak third quarter, with a net profit of 577 million Swiss francs, compared to 690 million the previous quarter and a net loss of 2.124 billion francs in the third quarter of 2012, which resulted from goodwill impairment charges. During the most recent quarter, net trading income was down 69% sequentially and 33% year-over-year, to 543 million francs, while net fee and commission income was down 10% sequentially and 2% year-over-year, to $3.831 billion francs.

The company reported a third-quarter return on tangible equity of 5.9%.

UBS reported $586 million in third-quarter provisions for litigation, regulatory and similar matters, compared to $658 million in the second quarter and $239 million in the third quarter of 2012.

The company also hinted at major trouble ahead, announcing that after "an initial media report in June 2013 of widespread irregularities in the foreign exchange markets" it had started a review of its foreign exchange business and that it was cooperating in regulatory investigations. UBS also announced it had "taken and will take appropriate action with respect to certain personnel as a result of our review, which is ongoing."

UBS's actions against employees were first reported by the Wall Street Journal.

UBS has said that among its major goals is to reduce its risk-weighted assets (RWA). That's the denominator for key regulatory capital ratios the company has been boosting. The company reported that over the past four quarters it has reduced its RWA by 80 billion francs, or 27%, while reducing its total balance sheet by 300 billion francs. But there was bad news as well. The Swiss Financial Market Supervisory Authority (FINMA) in October ordered "a temporary 50% add-on" to the company's operational risk RWA "in relation to unknown litigation," according to USB. This has the effect of temporarily increasing RWA by 28 billion francs.

Shares of UBS were down over 8% to $19.61 in afternoon trading on the New York Stock Exchange.

Along with the continued elevation of litigation and regulatory expenses, the RWA hiccup and the foreign exchange investigation, UBS said that "without the complete removal of the temporary add-on if RWA, its goal of achieving a 15% return on equity (ROE) in 2015 "will be delayed by at least one year."

Canaccord Genuity analyst Arun Melmane in a note to clients on Tuesday struck a brighter tone, writing that "The capital story for UBS is coming along strongly," as the company's fully-implemented Basel III Tier 1 common equity ratio was 11.9% as of Sept. 30.

Melmane rates UBS a "buy."

"The ROE target being potentially postponed by 1 year, we view as less of a worry for the investment case. We see the capital level within UBS as still excessive for a restructured bank with a focus on wealth management with constrained [investment bank] RWAs. Management have shown good progress on de-leveraging and RWA reduction and we expect them to be able to offset the FINMA charge via management actions," Melmane wrote.

International regulators are clamping down on foreign exchange manipulation. Britain's Financial Conduct Authority (FCA) on Oct. 16 announced it was "conducting investigations alongside several other agencies into a number of firms relating to trading on the foreign exchange (forex) market." The regulatory body said the investigation was at an "early stage" and hadn't concluded whether there was misconduct. The Department of Justice, Commodities Futures Trading Commission and other regulators are also investigating foreign exchange trading.

LIBOR Settlements Continue, Rabobank Head Rolls

Rabobank of Utrecht, the Netherlands, on Tuesday announced it had agreed to pay various regulators 774 million euros ($1.068 billion) to settle investigations into the bank's "historical Libor and Euribor submission processes." EURIBOR stands for Euro Interbank Offered Rate, which is an average for overnight lending rates for banks within the eurozone.

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