updated 9/18/2007 9:12:34 AM ET 2007-09-18T13:12:34

Lehman Brothers Holdings Inc., the nation’s fourth-largest investment bank, on Tuesday said third-quarter profit fell less than expected, as strength in stock trading and investment banking offset losses from the struggling mortgage market.

The report provided investors a crucial first glimpse at how Wall Street fared in the fallout from the mortgage crisis, which started when borrowers with poor credit began defaulting at a sharply higher rate earlier this year.

The New York-based investment bank — the first of four to report results this week — said quarterly profit fell 3.2 percent to $887 million, or $1.54 per share, from $916 million, or $1.57 per share, a year earlier.

Lehman said revenue fell by $700 million because of “substantial valuation reductions” in mortgage-backed bonds and other investments. However, stronger investment banking and retail brokerage fees helped lift total revenue to $4.31 billion from $4.18 billion last year.

The results topped Wall Street projections for a profit of $1.47 per share on $4.23 billion of revenue, according to analysts polled by Thomson Financial. However, analysts lowered their earnings expectations by about 16 percent over the last month, as Wall Street remained uncertain about exactly how much exposure Lehman had to decaying credit and mortgage markets.

“Despite challenging conditions in the markets, our results once again demonstrate the diversity and financial strength of the Lehman Brothers franchise, as well as our ability to perform across cycles,” said Chairman and Chief Executive Richard Fuld in a a statement.

Fuld, who has led Lehman Brothers since the bank was spun off from American Express Co. in 1994, has tried to transform the company from a bond house into a full-service investment bank. The company has also made a big push overseas, which accounted for 53 percent of total revenue during the third quarter.

The expansion was well-timed: The U.S. credit markets descended into distress this summer, dragged by a mortgage industry suffering from decaying credit quality.

The mortgage meltdown has had ripple effects through Wall Street, pinching demand for some of the investment banks’ best-selling products. Mortgage-backed bonds, collateralized debt obligations and asset-backed commercial paper are all much tougher to sell now.

Lehman Brothers undertook major cutbacks in its mortgage business this year, shuttering its subprime mortgage lending arm, BNC Mortgage, and laying off about 2,500 people. Lehman recorded a $44 million charge related to the BNC shutdown this quarter.

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