HSBC Holdings Plc, the British bank accused of laundering moneyfor Mexican drug lords, apologized to investors for compliancefailings as it set aside $2 billion more to cover the costs ofregulatory fines and lawsuits.

The lender made a $1.3 billion provision in the first half tocompensate British clients wrongly sold payment-protectioninsurance and derivatives, HSBC said in a statement today as itposted an 8.3 percent drop in net income. It also made a $700million provision for U.S. fines after a Senate committee found thebank gave terrorists, drug cartels and criminals access to the U.S.financial system, a sum Chief Executive Officer Stuart Gulliversaid may increase.

“Regulatory and compliance events in the first six months of theyear overshadowed financial performance,” Chairman Douglas Flintsaid in a statement today. “HSBC has made mistakes in the past, andfor them I am very sorry.”

HSBC, like its British competitors Barclays Plc and LloydsBanking Group Plc, has been ordered by regulators to compensateclients sold interest-rate swaps that cost them money and insuranceon mortgages and credit cards they didn't require.

The lender apologized on July 23 to U.S. Senators for anti-money after the bank was accused of giving terrorists, drug cartelsand criminals access to the U.S. financial system.

HSBC is also one of more than a dozen named in probes into themanipulation of the London interbank offered rate, for whichcompetitor Barclays was fined a record 290 million pounds ($456million) last month.

Net income fell to $8.44 billion from $9.2 billion a yearearlier, missing the $9.1 billion median prediction of 10 analystssurveyed by Bloomberg. Total operating income rose 3.2 percent to$43.7 billion.

HSBC rose as much as 1.3 percent and was up 0.4 percent at 533pence at 533 pence at 11:10 a.m., lagging the 1.9 percent gain inthe Bloomberg Europe Banks and Financial Services Index.

The bank's European unit had a pretax loss of $667 millioncompared with a profit of $2.15 billion in the year-earlier period.HSBC said the economic outlook in the region will be “subdued.”

“Our assumption is that European leaders will take the necessarymeasures to preserve the euro but, even so, we expect the eurozone's economy to contract this year,” Gulliver, 53, said in thestatement.

Investment Bank

Pretax profit at HSBC's investment bank, overseen by SamirAssaf, increased to $5.05 billion from $4.81 billion. Wall Street'sfive biggest banks, including JPMorgan Chase & Co. and GoldmanSachs Group Inc., posted the lowest first-half revenue since 2008in the first half of 2012 as trading and deal-making dried up.

HSBC set aside an additional $1 billion to compensate customerswho were mis-sold payment protection insurance and $240 million forthose wrongly sold interest rate swaps, Gulliver told reporters ona call today.

The bank had already made a $717 million provision for PPIcompensation through the end of 2011. Lloyds increased provisionsfor customer redress by 700 million pounds in the second quarter,bringing the total it's set aside to 4.3 billion pounds.

Gulliver has overseen more than 28 asset sales since he becameCEO in 2011 to focus on emerging economies in which the bank has agreater market share, while targeting $3.5 billion of cost savingsby the end of next year. The bank in May doubled its target forgenerating additional revenue from greater co- operation among itsfour businesses, including corporate and investment banking, to $2billion.

Costs as a proportion of revenue were unchanged at 57.5 percent,more than Gulliver's 48 percent to 52 percent target.

“Excluding the additional customer redress and law enforcementprovisions, underlying cost performance is improving,” said GaryGreenwood, an analyst at Shore Capital in Liverpool who rates thestock a hold. “The key area of weakness remains top line incomegrowth, which at 4 percent on an underlying basis remains toolow.”

HSBC is the third of U.K.'s biggest lenders to report first-halfearnings. Barclays, Britain's second largest bank by assets, lastweek posted a 13 percent rise in pretax profit to 4.23 billionpounds. Lloyds, the country's largest mortgage lender, posted anunexpected loss of 641 million pounds after setting aside moremoney to compensate clients mis-sold loan insurance.

Bloomberg News

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