Profitability declined at most of the 10 biggest U.S. banks in the first quarter, and large second-tier regional banks posted mixed results, according to American Banker's latest quarterly survey.

Among banks with $70 billion or more in assets were Citicorp, with a 21.59% return on equity, First Chicago Corp. with 18.61%, First Union Corp. with 16.92%, and Banc One Corp. with 16.38%. Citicorp was the only one of those four to show an improvement in ROE. (Tables begin on page 6.)

Others in the top 10 by asset size, including Chase Manhattan Corp., J.P. Morgan & Co., and Bankers Trust New York Corp., showed significant declines in return on equity, which analysts said were partially attributable to higher interest rates.

Superregional and regional banks outperformed the biggest banks. Wells Fargo & Co. was the top performer among banks with assets of between $20 billion and $70 billion, with a 26.59% return on equity, up from 20.80% a year earlier. First Interstate posted a 25.45% return on equity, up from 21.57% a year earlier, while Norwest Corp. registered 23.32%, up from 20.42%.

Analysts said the sharp drop in ROE at most of the biggest U.S. banks is probably the first sign that the strong performance of the last couple of years, when banks posted record earnings as interest margins spread, may be coming to an end.

The stock market seems to agree with that verdict. Share prices as a multiple of earnings fell virtually across the board, even at Wells Fargo, one of the top banks in return on equity.

Banks are increasingly competing for deposits at a time when the credit cycle is poised to dip, forcing up loan loss provisions. And many institutions are still having trouble generating additional revenues.

As a result, banks are left with few alternatives except to try and grab market share away from other institutions.

Although second-tier banks posted better returns than the biggest players, it was mainly because of lower loan loss provisions. Both groups of banks, as well as third-tier regional banks with assets of between $10 billion and $20 billion, all face common problems.

"The revenue growth rate of the commercial banking industry has been low for a decade," said James McCormick, president of First Manhattan Consulting Group. "Consolidation is the single biggest lever banks can pull to generate income growth."

Adding to difficulties in building new sources of revenues, banks are also confronting an unexpected dilemma: their capital is rising. This, analysts said, means that although net income is up, capital is rising even faster and increasing excess capital will continue to depress return to shareholders and prevent banks from boosting their share prices.

"Return on average common equity is basically even," said Thomas Hanley, a bank analyst with CS First Boston. The firm predicts that return on equity over the next 2 1/2 years is likely to vary only slightly, from 15.16% in 1994 to 15.24 in 1995, 15.65% in 1996, and 15.43% in 1997.

"A lot of banks only recently said they were targeting a 20% return on equity," said Mark Gross, senior vice president at the rating agency IBCA Inc. "But both money-centers and regionals now look like they're heading back to a norm of 15% to 16% ROE."

Analysts said banks are now confronted with can keep interest margins wide and risk losing deposits and customers to other financial companies, such as nonbanks. Or, banks can raise the interest they pay on deposits and risk depressing earnings and share prices.

Although some analysts believe that banks have been moving to improve their performance by cost cutting, others believe that the so-called efficiency ratio, or operating costs as a percentage of revenues, is actually a bogus ratio.

"If spreads go up and costs stay the same, the ratio improves," Mr. McCormick observed. "But that's got nothing to do with cost effectiveness and a lot to do with spreads."

So is it all gloom and doom for the banking industry? Not necessarily, depending on what strategy banks choose to adopt going forward.

Banks, Mr. McCormick predicted, have learned something from the mistakes of the past and will not get back into price wars, sacrificing credit quality for added business.

"I believe pricing will hold because banks need higher levels of profitability to support their stock prices and to acquire other banks. And because they have also improved their underwriting standards," he said.

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