Thu Jan 15, 2015 2:07pm EST

Bank of America Corp (BAC.N), the second largest U.S. bank by assets, reported a 14 percent fall in quarterly profit as a decline in bond yields further crimped earnings.

A nearly $600 million markdown of a mortgage bond portfolio used to hedge interest rate risk ate into the bank's profits.

Chief Financial Officer Bruce Thompson described the fourth quarter as a "challenging rate environment," but said the bank expected to earn an extra $3.7 billion from higher loan and securities yields once interest rates increase by a percentage point, above previous estimates of $3.1 billion.

Much of a bank's loans are tied to the level of interest rates, so they are able to earn more income from the same assets when rates go up.

The company reported net income for common shareholders of $2.74 billion, or 25 cents per share, after adjusting the mortgage bond portfolio and recording two other charges related to its valuation of derivatives and debt.

The bank earned 32 cents per share, or 1 cent more than analysts expected, according to Thomson Reuters I/B/E/S, without the special items.

Bond trading revenue also weighed on earnings, falling 30 percent to $1.46 billion due to a poor quarter in trading corporate and mortgage securities, two key areas for the bank.

The bank had unexpected gains of $220 million in the year-ago fourth quarter from recoveries on positions dated before the financial crisis.

JPMorgan Chase & Co (JPM.N) posted a 14 percent drop on Wednesday and Citigroup Inc (C.N) recorded a 16 percent fall on Thursday.

Total revenue for Bank of America fell 13 percent to $18.73 billion, excluding accounting adjustments. But costs fell more. Fourth-quarter operating expenses dropped 18 percent to $14.2 billion and were at their lowest since the bank acquired Merrill Lynch in 2009.

Legal costs plunged 83 percent to $393 million, and it reached a goal of reducing costs in the division that handles delinquent mortgages ahead of schedule. Chief Executive Officer Brian Moynihan said the bank has put the bulk of its legacy mortgage problems behind it, following a $16.65 billion settlement with the U.S. Justice Department in August. [ID:nL3N0SA4I9]

"In a weak environment ...[the bank] is executing on what's in its control, expenses," Morgan Stanley bank analyst Betsy Graseck wrote in a Thursday research report.

BofA's shares fell 3.5 percent to $15.48.