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Wells Fargo Remains Best Bet Headed Into Big Banks' Earnings

NEW YORK (TheStreet) -- Wells Fargo's (WFC - Get Report) earnings may drop for the first time in 17 quarters, however, the nation's largest mortgage lender remains the surest way to invest in the U.S. banking sector. The bank has outperformed all of its peers this year, continuing gains it has made on the competition, and Wall Street analysts have a track record of incorrectly predicting Wells Fargo's declining profits.

Wells Fargo's earnings, scheduled for Friday, July 11, will be dictated by how fast ordinary Americans return to the housing market. Look for Wells Fargo's mortgage-related earnings to provide a clear picture of the state of the U.S. economy, after bad weather washed out much of the economic growth in the first half of 2014. Analysts expect this quarter that mortgage originations at Wells Fargo will return to 20%-plus growth.

If Wells Fargo produces strong results, the big question looming over Wall Street will be whether competitors such as JPMorgan (JPM - Get Report) and Bank of America (BAC - Get Report) can keep up.

Analysts forecast Wells Fargo will earn $1 a share in the second quarter, 5-cents below last quarter's EPS, possibly ending a multi-year trend of rising earnings. Revenue is forecast to drop about 3.4% to $20.8 billion, according to analyst estimates compiled by Bloomberg.

The San Francisco-bank is expected to originate $43 billion worth of mortgages, helping to drive a 3% increase in overall mortgage revenue. Even with strong growth in originations however, falling refinancing activity will likely make for a tough year over year comparison.

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The other numbers at Wells Fargo will be fairly consistent with past earnings. The firm's net interest margin is expected to decline; however, overall interest income still is likely to rise as Wells Fargo grows its balance sheet. Credit improvements are also likely to prove a continued tailwind for Wells Fargo's bottom line as analysts expect a drop-off in overall revenue.

Wells Fargo's non-performing assets are forecast to decline 3% quarter-over-quarter, according to Credit Suisse, while net charge-offs may rise slightly. Analysts at Credit Suisse forecast a $350 million reserve release in the quarter, vs. $500 million in the first quarter.

The Other Guys

If Wells Fargo's positive momentum is reflected in the bank's consistent earnings growth and stock price gains, it has been much harder for competitors to provide consistent results.

"Investor interest has been lackluster in the largest banks, so investors will be focusing on whether there are indicators of improvements in the capital markets environment, or whether the banks will be restructuring more aggressively," Moshe Orenbuch, an analyst with Credit Suisse, said in a July 6 earnings preview. He forecasts ongoing legal costs and expense controls to be a major issue across banking sector earnings

The six biggest U.S. banks, Wells Fargo, JPMorgan, Goldman Sachs (GS), Morgan Stanley (MS), Citigroup (C), and Bank of America, are all reporting earnings in the coming weeks. Wells Fargo's report on Friday will be the first of that group.

For the investment banks, the trading desks have been relatively quiet as this summer's low volume and low volatility bring in soft numbers for most banks. A heavy pickup in corporate merger and acquisition activity may prove a silver lining for investment banks, advisory and underwriting related revenues have proven a poor antidote for falling trading activity.

Only two of the big banks have stocks trading above their pre-crisis prices: JPMorgan and Wells Fargo. However, JPMorgan, with $2.5 trillion in assets, is up only 9.5% from their 2007 price while Wells Fargo, with $1.5 trillion in assets, is up 53.77% since 2007 and up 15% year-to-date as of Wednesday's close.

Litigation, Litigation, Litigation

Commenting on the outlook for the big banks' earnings, Credit Suisse said, "We anticipate expenses to remain elevated as firms continue to work through litigation and regulatory probes." 

In particular, Citigroup may announce a large mortgage-related settlement, according to a report from Reuters. Citigroup also continues to struggle from the fallout of fraud the firm uncovered at its Mexico-based Banamex division and its failure to win the Fed's support of its plan to increase dividends and share buybacks.

Mortgage litigation could also affect earnings for Bank of America, is negotiating what could be a $12 billion settlement with the Department of Justice, according to Credit Suisse's calculations.

JPMorgan, having paid a $13 billion fine in late 2013 for its servicing of mortgage, could also report adjustments to their litigation expenses depending amid ongoing proves into the firm's trading of LIBOR, commodities and foreign exchange.

Of the 40 analysts covering Wells Fargo, 48% had buys, another 48% had holds, and 4% had sells.

-- Written by Whalen MacHale in New York.

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