Barclays and Lloyds: A Tale of Two Banks

Profits at Barclays (BCS) leapt 15 per cent in the first three months of the year, despite a significant rise in bad debts, with one analyst calling it potentially "the best quarter" the bank has ever had.

The UK bank yesterday announced pre-tax profits up from £1.1bn to £1.3bn, sending the shares to the highest level since October. The chief executive, John Varley, talked up the "continued benefit of diversification" at the group.

Barclays shares have risen from 51p in January to 275.75p at the close yesterday, as the market hopes it has seen off the worst of the financial crisis. Investors were also cheered by the group's announcement that it would once more pay a dividend in the last three months of the year.

Jonathan Pierce, an analyst at Credit Suisse, said that excluding the writedowns "we suspect this is by far and away the best quarter Barclays has ever had".

Income growth was strong across the business "driven by the investments we have made in expanding our international network and in buying Lehman. This together with good cost control, has enabled us to shield the anticipated increase in impairment and absorb further credit market writedowns on legacy assets," Mr Varley said.

Income rose 42 per cent from £5.7bn between January and March 2008 to £8.1bn in the first three months of this year, driven by stellar results at its investment banking arm, Barclays Capital, where pre-tax profit more than trebled to £907m.

The global retail and commercial banking operations were also solid with growth from abroad, particularly in the United Arab Emirates, India and Egypt.

Strength at the commercial business came from a rise in debt fees and treasury products, but the group added "there was a significant decline in profit before tax driven by deterioration in impairment resulting from the impact of the recession in the UK, with rising default rates and falling asset values".

The impairment charge was up 79 per cent from £1.2bn to £2.3bn, as credit provisions jumped and the worsening economy and maturing loans also weighed. Costs were up 37 per cent to £4.4bn following last year's acquisitions and higher pension charges.

Net losses from credit market writedowns doubled from £1bn in 2008 to £2.1bn, but the group outlined again last night its commitment to reducing its leverage "over time". Barclays added that it expects "the loan loss rate to increase further across all business lines and the rate of increase across our international books to be higher than our UK books".

Barclays is one of the UK banks that turned down investment from the state, and chose instead to raise money from Middle Eastern investors and sell its iShares division.

Sandy Chen, an analyst at Panmure, added a sobering note: "The strong first-quarter trading performance will prove unsustainable, leaving Barclays and the rest of the banks vulnerable to further rises in impairments." Mr Chen, who has long held a "sell" rating on the stock, said the driver of revenue growth in the first quarter was Barclays Capital, adding: "The question, of course, is sustainability…We think this is unlikely to repeat itself."

Lloyds Banking Group (LLOY.L) yesterday predicted that its bad debts would rise by half in 2009 as the financial crisis rumbled on, and confirmed it is likely to make a full-year loss.

The part-nationalised lender suffered a "significant rise in impairment" at its lending portfolios in the first quarter, it said in a trading update yesterday.

The shares dropped by more than 10 per cent as the group blamed the economic conditions for the prospective impairments. It cited rising unemployment, falling house prices and a drop in the value of commercial real estate.

Alex Potter, an analyst at Collins Stewart, called the statement "disappointing," adding that the "asset quality was even worse than expectations". He also raised the prospect that the Government's debt rescue package may be renegotiated.

The legacy HBOS portfolios are particularly vulnerable, Lloyds said, and "as a result, corporate impairments in 2009 are expected to be more than 50 per cent higher than in 2008". Retail impairment levels are expected to rise "significantly".

Lloyds' chief executive, Eric Daniels, said the integration of Lloyds TSB and HBOS had made "good progress" despite the challenging market. He added that the group was on course to hit its target of £1.5bn worth of synergies by 2011.

Lloyds said it had delivered "good revenue growth" in the first quarter in its wholesale division. However, it was hit by lower deposit margins and higher funding costs.

The group added that its participation in the Government's Asset Protection Scheme would reduce risk and "significantly strengthen our capital position".

Before it's here, it's on the Bloomberg Terminal.