Solid Quarter, but Can J.P. Morgan Keep it Up? - TheStreet

Updated from 9:23 a.m. EDT

For the first time in more than a year,

J.P. Morgan Chase

(JPM) - Get Report

put together two solid quarters in a row, saying Wednesday that second quarter profits rose 78% over a year ago.

The bank earned $1.83 billion, or 89 cents a share, in the quarter, compared with $1 billion, or 50 cents a share, a year ago. The nation's second-biggest bank exceeded easily the Thomson First Call consensus estimate of 63 cents a share.

J.P. Morgan's strong profit report continues a string of impressive earnings reported by big banks this week, beginning with

Citigroup

(C) - Get Report

and

Bank of America

(C) - Get Report

on Monday.

The bank's strong earnings, however, many be overshadowed by news that Sanford Weill, Citigroup's chief executive and chairman, intends to step down as chief executive at year's end and pass the reins at the nation's biggest bank to Charles Prince, the current chairman and chief executive of the Citigroup's investment banking division.

Total net revenues at J.P. Morgan rose 27% in the quarter to $8.6 billion. The rise in revenues more than outpaced a 12% gain in non-interest related expenses to $5.8 billion.

The earnings report, however, failed to impress investors, as shares of J.P. Morgan fell 98 cents, or 2.6%, to $36.31 in midday trading. Some of the decline may be due to the fact that the stock already is up 50% this year. It also may stem from concern about the sustainability of J.P. Morgan's revenue gains absent a roaring second-half recovery.

That's because much of the big gains at J.P. Morgan this quarter were fueled by soaring revenues from bond and commodity trading, a sharp decline in recorded losses in the bank's beleaguered venture capital group, a spike in a category described as "other revenue,'' and smart bets on interest rate fluctuations.

For instance, trading revenues, largely from bonds, rose 102% to $1.48 billion. In a conference call with analyst, J.P. Morgan executives said roughly 40% of those trading revenues are the result of proprietary trades made by the bank for its own benefit.

This year, bond trading, and in particular proprietary bond trading, has come to the rescue of many Wall Street brokerages and banks. But many analysts think the big gains from bond trading are coming to an end with the pick-up in the stock market and the belief that the Federal Reserve will hold the line on interest rates for much of the rest of the year.

The bank's J.P. Morgan Partners lost $29 million in the quarter a sharp drop from the $125 million in losses the venture capital group rung up a year ago. In prior quarters, big losses in the venture capital group --which invested in lots of telecom and ailing tech stocks -- weighed heavily on the bank's earnings.

Meanwhile, the line item ''other revenues'' on the bank's income statement came in at $497 million, up 70%. A bank spokeswoman said other revenues comes mostly from gains recorded on sales of mortgages or mortgage loans that have been securitized.

This year many banks have been shedding older mortgages in their loan portfolios to keep ahead of the consumer, who has taken advantage of low interest rates to either refinance or prepay high interest mortgages

For the year, J.P. Morgan has reported $978 million in other revenue, a 118% increase over 2002. So far this year, other revenues account for roughly 6% of the reported $16.26 billion in revenues J.P. Morgan has generated in the first-half of the year.

Another big revenue producer for J.P. Morgan in the second quarter were gains on securities. The firm recorded $768 million in securities gains, compared with $124 million a year ago. The bank said much of that gain can be attributed to shrewd bets by J.P. Morgan investment bankers and traders to capitalize on shifts in interest rates.

"It's successfully running the treasury business to make money,'' said William Harrison, the bank's chairman and chief executive.

Michael Stead, a Wells Capital Management portfolio manager who owns J.P. Morgan stock, said he'd prefer it if more of the bank's revenue came from traditional investment banking work rather than gains on securities trades and the sale of mortgages. But he said J.P. Morgan is merely doing what other Wall Street firms have done to ride out the recession.

"I don't fault them for it,'' said Stead. "It's prudent.''

The bank also announced that it is setting aside an extra $100 million in a litigation reserve account that is expected to cover the cost of an expected settlement with the

Securities and Exchange Commission

and the New York District Attorney over the bank's role in the

Enron

mess. Last year the bank set aside about $1billion in a legal reserve to cost potential liabilities arising from Enron, the tainted research scandal and other regulatory investigations and investor lawsuits.

J.P. Morgan also announced a management shuffle itself but as not as big as Citigroup's. It said Marc Shapiro, the bank's vice chairman, will retire at year's end as planned previously. Shapiro also headed up the bank's important risk management division. Don Wilson will assume Shapiro's risk management duties.

On the dividend front, J.P. Morgan, for now, is bucking the trend in the banking industry in raising its dividend. Of course, it was just a few months ago that many were predicting the bank would have to slash its dividend payout in order to maintain its profit margin.