A surge in mortgage banking income lifted Wells Fargo & Co's first-quarter profit by 13 percent, but its shares fell on concern that the bank is falling behind on its drive to cut expenses.

Wells Fargo, the fourth largest U.S. bank and the country's biggest mortgage lender and servicer, said on Friday that net income increased to $4.25 billion, or 75 cents a share, from $3.76 billion, or 67 cents a share, year earlier.

The results beat analysts' average forecast of 73 cents per share, according to Thomson Reuters I/B/E/S, but the bank's shares opened lower and were off 1.4 percent in early trading.

Shares of JPMorgan Chase & Co , which also reported stronger-than-expected results on Friday, were trading down by 2.2 percent and the KBW Banks Index <.BKX> was off 2.4 percent.

Total revenue at Wells rose to $21.6 billion, from $20.3 billion a year earlier, signaling stronger demand for consumer and commercial loans.

We're seeing improvement, Wells Chairman and Chief Executive John Stumpf said in a conference call with respect to the U.S. housing market. Profit in general benefited from improvement in the economy, he said.

The San Francisco-based bank's expenses increased to $13 billion from $12.5 billion in the fourth quarter, partly because of higher personnel costs related to mortgage banking compensation and higher legal reserves.

Wells said it is targeting expenses of $11.25 billion in the fourth quarter, at the upper end of the range set out in its efficiency program called Project Compass. The bank previously said expenses could drop to as low as $10.75 billion, but it said on Friday higher-than-expected revenue from its mortgage business and acquisitions would also result in higher costs.

Analysts peppered Stumpf and Chief Financial Officer Tim Sloan throughout the conference call with concerns that expenses were not failing as quickly as the bank previously signaled.

Loan growth was softer than anticipated, while expenses were elevated. Barclays Capital analyst Jason Goldberg wrote in a note to clients. Goldberg has an overweight rating on Wells shares.

We're feeling good about this quarter, Stumpf said, asking analysts to focus on revenue growth rather than expenses.

Low interest rates, however, will depress the company's net interest margin -- the difference between what banks earn on their investments and pay for their funding -- for at least the rest of the year, he said.

Mortgage banking income at Well Fargo increased to $2.8 billion from $2 billion a year ago. The bulk of the bank's mortgage applications were for refinancings.

Wells Fargo recorded a loan-loss provision of about $2 billion, down from about $2.2 billion a year earlier. The bank for the eighth straight quarter boosted results by freeing up cash reserves it had previously booked for bad loans.

Loan growth in the bank's core portfolios grew by $984 million in the first quarter, on gains in commercial, auto and student lending. However, some analysts noted that 87 percent of the increase reflected asset-based loans purchased by Wells during the quarter, instead of organic growth, a sign of fundamental improvement in the economy.

The bank's total loans at the end of the first quarter fell 4 percent from the previous three months to $766.5 billion.

It was a good quarter, said Gary Townsend, chief executive of Hill-Townsend Capital, but I had actually expected them to do a bit better.

Wells Fargo and JPMorgan have emerged as two of the healthiest U.S. banks following the financial crisis. Both fared well in the Federal Reserve stress tests released last month and announced plans to increase their quarterly dividends and to buy back more of their own shares. Wells bought back 8 million shares during the quarter, primarily under a forward purchase contract it negotiated in the fourth quarter.

(Reporting By Rick Rothacker in Charlotte, North Carolina; Additional reporting by Jed Horowitz and Ilaina Jonas in New York; Editing by Gerald E. McCormick and Steve Orlofsky)

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