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By David Henry
(Reuters) - Citigroup Inc posted a 42 percent increase in quarterly profit, as stronger home prices reduced mortgage losses and bond trading revenue jumped, underscoring the bank's recovery since the financial crisis.
Still, storm clouds lie ahead for the third-largest U.S. bank by assets as rising bond yields in the United States are expected to cut into debt underwriting volume, and slowing growth in emerging markets may cut into profit from overseas. About 58 percent of its revenue last year came from outside of North America.
Analysts said Citigroup, which required three U.S. bailouts in 2008 and 2009, is getting its house in order after years of management problems. Chief Executive Michael Corbat is continuing many of the strategic changes started under predecessor Vikram Pandit, and the initiatives appeared to be bearing fruit in businesses like investment banking.
It is unclear if the operational improvements will be enough to offset the banking sector's headwinds, analysts said.
"Citigroup seems to be getting healthier, but the underlying economy is not," said Stanley Crouch, chief investment officer of Aegis Capital Corp, whose clients own Citigroup shares.
"You get this riptide, and it may not be good," Crouch added.
In the second quarter, Citigroup's biggest profit boosts came from its securities and banking unit, where bond trading revenue rose 18 percent, stock trading revenue soared 68 percent, and underwriting and advisory was up 21 percent.
Overall, second-quarter net income rose to $4.18 billion from $2.95 billion in the same quarter last year. Excluding gains from changes in the value of its debt and the sale of a stake in a Turkish bank, the company earned $3.89 billion, up from $3.08 billion.
Results beat analysts' average expectations, and Citigroup shares rose 0.8 percent to $51.20.
(For graphic on earnings: http://link.reuters.com/quk69t)
"What you see is the result of a lot of the repositioning and restructurings we have done over the last two to four years," Chief Financial Office John Gerspach said on a conference call with journalists, speaking of gains in the securities and banking unit.
The bank has been focusing more on client trading than making its own market bets, and hiring investment bankers who have brought in new deals, Gerspach said. The shift toward trading on behalf of clients was particularly helpful in the volatile markets for emerging market securities this quarter, he said.
Hires, including investment bankers, done under Pandit also paid off for the second consecutive quarter.
RISING TRADING REVENUE
On a per-share basis, excluding special items and after preferred share dividends, Citigroup earned $1.25 a share, up from $1 a share a year earlier. The result beat the average analyst estimate of $1.17, according to Thomson Reuters I/B/E/S.
Revenue from fixed income markets, part of the securities and banking unit, rose to $3.37 billion from $2.86 billion, while equity market revenue soared to $942 million from $561 million.
Trading revenue in the year-earlier quarter was weak across the industry as the European debt crisis brewed.
Net credit losses declined to $2.61 billion from $3.49 billion as higher house prices lifted the value of the home mortgage assets held since the financial crisis.
In Citi Holdings, it set aside $451 million for bad loans, benefits and claims, down from $1.23 billion in the same quarter last year. The bank used money it had previously set aside to cover loan losses, releasing $784 million of reserves, compared with $1.01 billion of reserves in the same quarter last year.
STICKING WITH STRATEGY
Citi's shares have risen about 28 percent this year through Friday's close, slightly better than the KBW bank index. They have doubled in value in the past year.
But investors are increasingly concerned about the bank's potential as emerging market growth shows signs of slowing. The bank's shares have faltered since early June.
CEO Corbat has sought to cut costs and increase earnings since October, when Citigroup's board put him in the job after ousting Vikram Pandit.
But Corbat and Chairman Michael O'Neill have said they are sticking with Pandit's strategy of positioning the company to benefit from global growth in emerging markets, urbanization and increasing digital commerce.
(This story is corrected with percentage change to 42 percent in headline and first paragraph)
(Reporting by David Henry; Additional reporting by Lauren Tara LaCapra in New York and Tanya Agrawal in Bangalore; Editing by Dan Wilchins, Ted Kerr and Jeffrey Benkoe)