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UPDATE 1-UniCredit profit beats forecasts on stronger fees, lower loan losses

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MILAN, Aug 3 (Reuters) - Italy's largest bank by assets, UniCredit, posted a stronger-than-expected net profit for the second quarter on Thursday, thanks largely to a drop in loan-loss charges and better fee income.

Chief Executive Jean-Pierre Mustier, appointed just over a year ago to turn around the then weakly capitalized bank, said a more benign European economic environment had helped results.

He also said weaker costs and stable net-interest income -- a measure of how much a bank makes from its core retail business -- had contributed to the strong performance.

"The engine is working very well," Mustier told reporters, confirming that the bank would pay a cash-only dividend on this year's accounts, the first time in five years.

The bank, which has operations in 17 countries, mostly in Europe, reported a net profit of 945 million euros, well above a consensus forecast of 676 million euros distributed by the bank. UniCredit also reported a lower-than-expected fall in trading income, and it booked a one-off gain in Germany.

The lender, which this year completed a 13 billion euros capital increase, further boosted its core capital ratio to 12.8 percent at end-June through the sale of Polish unit Pekao. That ratio, up from 11.45 percent three months earlier, ranks as one of the strongest in Italy.

"We expect stock to be up on the back of solid revenue trends, improving asset quality and another quarterly beat on capital generation," analysts at Jefferies said in a note.

Mustier has been selling assets, including asset manager Pioneer, shutting branches and offloading bad loans to strengthen the bank's balance sheet.

Under a plan dubbed FINO (Failure Is Not An Option), the bank last month closed a deal to sell 17.7 billion euros of "sofferenze," the worst kind of bad loans, to a vehicle majority-owned by U.S. funds Pimco and Fortress.

Loan-loss charges in the three months to June totalled 564 million euros, compared with analyst forecasts of around 700 million euros. Net fees and commissions rose 7.6 percent from a year earlier, helped by a distribution agreement UniCredit struck with French asset manager Amundi after selling it Pioneer. (Reporting by Silvia Aloisi; Editing by Mark Bendeich)