By Laura Noonan and Sarah White
LONDON/MADRID (Reuters) - The dramatic earnings turnaround boasted by four Spanish banks obscures the uphill battle they still face to contain bad debts, grow their businesses and increase shareholder value against the backdrop of one of Europe's most challenging economies.
Sharply lower provisions for soured property loans were the rising tide that lifted almost all boats, and are expected to do the same for Spain's flagship international banks Santander
Impairments for those property loans peaked in 2012, as the Spanish authorities passed laws forcing banks to make greater provisions. Popular's impairments continued to rise in the first half of 2013 as small companies struggled with debts and more real estate companies fell into arrears.
The path beaten by banks in other challenged European economies shows that a peak in loan impairments and a subsequent sharp bounce in earnings rarely mark the beginning of a smooth road to recovery.
Bank of Ireland
A problem for the Irish bank was that provisions failed to fall consistently after their initial peak, and periodically spiked, making it harder for executives to speak of a consistent recovery. It was a similar story at National Bank of Greece
Over in Portugal, the country's largest quoted lender Millenium BCP
All three banks failed to enjoy a consistent share price recovery after their impairments peak, not just because investors weren't convinced the worst really was over for loan losses. The underlying economic situation in all three countries put the banks' net interest income - their core measure of underlying profitability - under severe pressure and recovery there was far from uniform.
Last week's Spanish results bonanza showed provisions at Sabadell fell 43 percent in the first half of 2013, Bankinter's fell 44 percent and Bankia's were down 89 percent.
"It's been a good year for provisions," Sabadell boss Jaime Guardiola told a conference call.
Burned by their experiences with other struggling eurozone countries, investors will be tough to persuade that the worst is over. Several of the Spanish banks last week reported that while the number of non performing loans on their books continued to swell, the rate of new entries to the non-performing category was slowing, a positive sign, they said.
"I haven't really got the sense that there is much to suggest a real slowdown in the rate of deterioration (of loans)," said Darragh Quinn, a Madrid-based banks' analyst at Nomura.
"Corporate bankruptcies this year will likely be significantly higher...Unless you're positive on Spanish GDP, any Spanish bank is a risk as provisioning will remain high."
The threat from an asset quality review by the European Central Bank also looms large, an added unknown that could force extra provisions on Spain's larger banks whether they believe they need them or not.
As well as threatening to trigger a fresh wave of provisions, the sluggish economy, where unemployment has nudged downwards but is problematically high at 26.3 percent (ID:nL6N0FV1QG), also severely constrains the banks' earnings.
The first-half profits revealed by Spain's banks between July 22 and 26 were impressive only in the context of the horrific prior year comparison. The average return on equity (RoE) across Bankinter, Sabadell, Popular and Caixa came in at about 3.25 percent for the half year; Credit Suisse, which also reported results on July 25, boasts an RoE of 12 percent. Bankia did not provide RoE figures as its equity base was overhauled with its bailout and the figures would not be meaningful.
Regaining internationally-respectable profits will be nigh impossible for the Spanish banks if they cannot rebuild their lending books by advancing new loans to credit-worthy borrowers, a tall order in an economy like Spain's.
"Right now, in almost all aspects of the P&L in our national domestic activity we are subject to a great deal of pressure," Sabadell's Guardiola told investors. "The economic situation in the crisis has made it very difficult for us to have good performance in margins."
"It's been more difficult to grow credit than we expected," Bankinter CFO Gloria Ortiz acknowledged to analysts on a conference call, sentiments echoed by Bankia's second most senior official Jose Sevilla at a news conference.
Despite the bleak conditions, the Spanish bank bosses sounded a note of confidence, with Caixa chief financial officer Gonzalo Gortazar stating that net interest income was stabilizing and would begin recovering next year.
Sabadell's Guardiola was more colourful, telling investors the bank had "hit rock bottom already" and Sabadell believed its results would "explode" over the coming months.
(Reporting By Laura Noonan; Editing by Peter Graff)