Publicly traded companies release financial statements (unaudited) on a quarterly basis. For the quarter ended December 31, 2009, Market Watch reported that Bank of America (B of A) and Wells Fargo had improved their results over the same period in 2008 but that “lingering signs of credit trouble” still existed for the banks. B of A reported a smaller loss than in 2008, bur past-due loans in home mortgages, home equity loans, and commercial real estate loans all grew, as did past-due loans in its business loan portfolio. At Wells, the company showed a quarterly profit versus the prior year’s loss, but its net write-offs as a percentage of loans rose to 2.71 percent from 2.11 percent for the same period a year earlier. MarketWatch quoted an analyst who follows the banking industry as saying that he believes the problem loan situation is worse than what the banks have been disclosing.
REQUIRED:
Discuss the implications of a weakened real estate market on bank profitability. How would high unemployment, in addition to soft housing prices, affect banks’ earnings? How does the provision for loan loss affect the balance sheet and the income statement of banks? Why do banks adjust the provision when market conditions change, and why do analysts sometimes question the amount of the reserve set aside by the banks?