Deutsche Bank legal, regulatory costs weigh on earnings By Edward Taylor and Arno Schuetze FRANKFURT (Reuters) - Deutsche Bank AG (DBKGn.DE) warned on Tuesday it will face hundreds of millions of euros in costs for litigation and compliance with new bank rules after reporting weaker-than-expected second quarter earnings. The new regulatory costs follow a push by bank watchdogs to make global lenders beef up capital or cut their balance sheets to reduce risk. This will force Germany's flagship bank to earmark an additional 250 billion euros ($331.34 billion) in assets which can be cut, a move which will reduce revenues. Shedding these assets could result in 600 million euros worth of one-off costs and 300 million euros in missed pretax profit, the bank said. "We are committed to further reducing (the) balance sheet in a manner that enables us to meet requirements on (the) leverage ratio," Co-Chief Executives Juergen Fitschen and Anshu Jain said in a joint statement. Regulators are keen on using the leverage ratio to gauge a bank's strength. This compares a bank's shareholder equity to its total assets without using a bank's own risk weightings. Deutsche said it will seek to achieve a leverage ratio of 3 percent under the more stringent bank safety rules after regulators questioned the bank's ability to absorb financial shocks in a possible future crisis. The Frankfurt-based group also has raft of legal costs related to the sale of residential mortgage-backed securities, allegations it manipulated global benchmark interest rates and a dispute with the representatives of deceased media magnate Leo Kirch. "We expect settlements to accelerate in the coming quarters," Jain said, without elaborating on which legal issues were on track to be resolved. The majority of legal issues relate to business from the investment bank, Deutsche said. In the second quarter, litigation provisions were 630 million euros. Germany's flagship lender posted an 18 percent fall in second-quarter pretax profit to 792 million euros, well below the 1.3 billion forecast by analysts in a Reuters poll. Revenues from sales and trading of debt and other products fell 11 percent year-on-year, leading some analysts to question Deutsche's earnings prowess in fixed income, an area which was often a key driver of earnings for the bank. Philipp Haessler bank analyst at Equinet said, "The fixed income pearl has not lost its luster but it didn't perform as well in Europe as it did in the U.S., where U.S. peers are stronger." So far this reporting season, investment banking rivals like Morgan Stanley (MS.N), Goldman Sachs (GS.N), JPMorgan Chase & Co (JPM.N), and Bank of America Corp (BAC.N) have beat analysts' profit expectations, thanks largely to strength in trading and underwriting. Co-chief executive Jain insisted the bank had not lost its competitive edge. "Deutsche Bank is on course despite continued headwinds we face," Jain told analysts. Deutsche Bank expects its asset reduction program to be completed by 2015, Chief Financial Officer Stefan Krause said. Around 3.3 billion euros worth of assets had already been reduced by changing the risk model on some of the assets in its Postbank unit. The bank had already raised capital in April to bolster its finances. But since then one of the top U.S. regulators, Thomas Hoenig, Federal Deposit Insurance Corp vice chairman, called Deutsche Bank "horribly undercapitalized. Deutsche's shares fell 3.6 percent, making it the biggest faller among European banks after Barclays (BARC.L), which fell sharply after announcing a share issue. Since June 1, 2012 when Deutsche's new leadership took over, the bank's share price has risen 32 percent, but has lagged key peers and the STOXX Europe 600 banking sector .SX7P, which has jumped 47 percent. By contrast, JP Morgan shares have gained 63 percent and UBS 58 percent, Thomson Reuters data show. link.reuters.com/kag99t. Editing by David Holmes and Jane Merriman