Deutsche Bank AG (DBK), Europe’s largest investment bank by revenue, said third-quarter profit slid 94 percent after it set aside 1.2 billion euros ($1.65 billion) to cover expected legal costs and income from debt trading fell.

Net income in the three months through September dropped to 41 million euros from 747 million euros in the year-earlier period, the Frankfurt-based bank said in a statement on its website today. That missed the 430 million-euro average estimate of 12 analysts surveyed by Bloomberg.

Deutsche Bank co-Chief Executive Officers Anshu Jain and Juergen Fitschen have been forced to make provisions to settle legal probes over their firm’s alleged role in rigging interbank lending rates and lawsuits related to the U.S. housing market. The company is among investment banks experiencing a slowdown in fixed-income trading, a key portion of their earnings, as investors wait to see whether the Federal Reserve will begin reducing bond purchases.

“The size of the litigation charge was surprising,” Andrew Stimpson, an analyst at Keefe, Bruyette & Woods who has an outperform recommendation on Deutsche Bank shares, said by telephone from London. “Hopefully they will report settlements soon. Once that happens, investors can relax somewhat.”

Deutsche Bank fell 0.5 percent to 35.90 euros in Frankfurt trading yesterday. The stock gained 9 percent this year compared with an 18 percent increase for the Bloomberg Europe Banks and Financial Services Index.

Jain and Fitschen boosted reserves for legal costs to 4.1 billion euros in the three months through September, according to the statement. The 1.2 billion-euro increase compared with the 308 million euro average estimate of eight analysts surveyed by Bloomberg.

Legal Investigations

The bank is trying hard to put litigation behind it, Chief Financial Officer Stefan Krause said in a conference call with analysts after the earnings were released.

The company is interviewing about 50 employees as it investigates whether traders tried to rig benchmark interest rates, a person familiar with the matter said last week.

Regulators around the world are investigating whether more than a dozen lenders including Deutsche Bank colluded to rig Libor. Barclays, UBS AG (UBSN) and Royal Bank of Scotland Group Plc are among firms that have paid about $2.6 billion in fines after admitting wrongdoing. Rabobank Groep, the Netherlands’ biggest mortgage lender, will pay about $1 billion for the alleged rate rigging, two people said last week.

Deutsche Bank has said that its own internal probe indicates no wrongdoing by current or former management board members.

Foreign Exchange

The bank received requests for information from certain regulatory authorities who are investigating trading in the foreign exchange market, it said in today’s statement. It is cooperating with those investigations, which are in the early stages, it said.

Bloomberg News reported in June that traders at some banks said they shared information about their positions through instant messages, executed their own trades before client orders and sought to manipulate the benchmark WM/Reuters rates. In August, Bloomberg reported that recurring spikes in trading around the periods in which the rates are calculated suggested that dealers may have been trying to influence the benchmarks.

Deutsche Bank also said today that it is cooperating with regulators probing repo transactions it arranged for Banca Monte dei Paschi di Siena SpA, Italy’s third-largest bank. Deutsche Bank is contesting allegations of fraud and negligence. Italian prosecutors are also probing other unrelated transactions, it said.

Mortgage Sales

Germany’s largest bank also faces probes and lawsuits related to its origination and sale of mortgage-backed securities. The lawsuits allege the bank misrepresented the products. It has said that it is cooperating with regulators.

JPMorgan Chase & Co. (JPM) agreed last week to pay $5.1 billion to settle a U.S. regulator’s claims related to home loans and securities the firm sold to mortgage finance companies Fannie Mae (FNMA) and Freddie Mac (FMCC), resolving part of a $13 billion accord the firm is negotiating with the government. The bank reported its first quarterly loss under CEO Jamie Dimon earlier this month after taking a $7.2 billion charge to cover the cost of mounting litigation and regulatory probes.

Deutsche Bank draws inferences from settlements by other banks with regulators when calculating its legal risks, Jain told investors at a conference in London last month.

Capital Decline

Deutsche Bank’s capitalization, know as the common equity Tier 1 ratio, declined to 9.7 percent at the end of September from 10 percent three months earlier, the statement shows. That compares the 10.3 percent average estimate of seven analysts surveyed by Bloomberg.

The investment banking unit saw its pretax profit decline 68 percent to 345 million euros. That’s less than the 449 million-euro average estimate of 10 analysts surveyed by Bloomberg.

Revenue from trading debt and other products, which accounted for about 27 percent of earnings in 2012 according to company filings, fell 48 percent to 1.29 billion euros in the third quarter from a year ago. That missed the 1.59 billion euros in a Bloomberg survey.

“Their debt trading revenues are under pressure along with other investment banks,” Andreas Plaesier, an analyst with M.M. Warburg, who cut his recommendation on the stock to hold from buy last week, said by phone from Hamburg before the earnings were released. “The bank still faces a lot of costs to shrink, reorganize itself and settle litigation.”

By comparison, the five biggest U.S. investment banks saw their combined revenue from trading fixed income, currencies and commodities slide 25 percent from a year ago, data compiled by Bloomberg Industries show.

Tapering Effect

Fed officials have been debating when to slow their $85 billion-a-month pace of bond buying, known as quantitative easing, as the economy recovers and low interest rates prompt investors to take more risk. The Fed signaled in June it would begin tapering stimulus to the world’s largest economy.

In Europe, Credit Suisse Group AG, Switzerland’s second-largest bank, reported a third-quarter FICC slump in income of 42 percent last week, while Barclays (BARC) Plc, the U.K.’s second-largest lender by assets, said last month a drop in stock and bond trading in July and August sparked a “significant” fall in revenue at the investment bank.

Pretax profit at the company’s global transaction banking unit increased 18 percent to 379 million euros, surpassing the 300 million-euro average estimate of 10 analysts surveyed by Bloomberg. The asset and wealth management division’s pretax earnings more than doubled to 283 million euros, beating the 137 million euro average of 10 estimates.

The private and business clients unit saw pretax profit fall 14 percent to 347 million euros, missing the 429-million-euro average of 10 analyst estimates.

Bloomberg