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Sub-prime & Nontraditional Mortgages Matthew Swibel, Forbes 2-26 / AP 2-09 If interest-rate jumps on adjustable mortgages lead to higher defaults, they could hurt loan volume for lenders that do big business in exotic mortgages. WFC has 22% of its loan originations through September 2006 that consisted of nontraditional mortgage products. Bear Stearns analyst David Hilder wrote in a research report that Citigroup only has 6% of its loan portfolio tied to subprime mortgages. Wells Fargo has $21.3 billion in subprime mortgage loans, or 7% of its portfoilo. Just 2% of JPMorgan's loans are subprime, Hilder said, and Bank of America Corp.'s subprime mortgage exposure is essentially nonexistent. Sub-prime Loan Anxiety David Gaffen, WSJ 2-15 Chill out on those worries about subprime blowups, say analysts at Citigroup. Anxiety over defaults among subprime mortgage lenders has increased in recent weeks, as a WSJ article points out today, but Tobias Levkovich, chief strategist at Citigroup, counsels patience in a note this week. “In the past, an upturn in consumer delinquency rates from very low levels did not signal an imminent recession — and is unlikely to crater consumer spending again, in our opinion,” he writes. Mr. Levkovich notes that bearish types have cried wolf before, expecting the decline in mortgage refinancings, and later the housing slump, would result in a sharp downturn in the economy, which hasn’t happened. “The Mortgage Bankers Association notes that 35% of homeowners own their homes outright while 47% have fixed-rate mortgages,” he writes. “Only 6% are subprime borrowers with adjustable-rate mortgages. Thus, we suspect that further subprime problems are unlikely to derail the consumer economy.” For now, the firm notes, investors seem to be distinguishing between those affected by this and those shielded. The yields on credit default swaps, which offer a measure of protection against certain risky investments, have widened for those related to subprime mortgage lenders, but not for high-yield bonds issued by homebuilders. Mr. Levkovich’s words echo similar comments from Richard Berner of Morgan Stanley, who argued earlier this week that such fears of a wider credit crunch are “dramatically overblown.” Subprime loans have increased, accounting for “$605 billion or 11% of the $5.5 trillion in outstanding securitized mortgages (which in turn account for 54% of all mortgages outstanding),” but Mr. Berner points out that “disciplined industry lenders” have not experienced early payment defaults, unlike more aggressive lenders. Still, he considers this a wake-up call to investors who had gotten used to ignoring risk. “Reinforced by the perception that the spring 2006 selloff was a buying opportunity, complacency among market participants about credit quality has led to indiscriminate buying of high-risk assets,” he writes. “Now, our longstanding strategic view that investors should trade up in quality is starting to bear fruit, and the subprime mortgage bust could be a catalyst for a rerating of the riskier portions of other asset classes.” Moving Money & Paying Bills By Cellphone Is Getting Easier Jane Kim, WSJ 2-21 Last week, Bank of America introduced a service that lets customers check balances, pay bills and transfer money between their accounts on their mobile devices. It comes on the heels of a similar service that Wachovia kicked off last year. Later this year, Citibank plans to introduce a mobile-banking application that customers can download to their cellphones. Wells Fargo has been pilot-testing three different approaches to mobile banking, and it expects to fine-tune its strategy later this year. Financial institutions, which stand to save a bundle since transactions over a mobile phone cost a fraction of face-to-face transactions, have big hopes for mobile banking in the U.S. Yet fewer than 1% of Americans use mobile-banking services, compared with 3% in Western Europe and Japan. Dan Schatt, an analyst at Boston-based consultant Celent LLC, says he expects that by the end of this year, 10% of people who currently bank online will use mobile banking. "It's the young folks that are going to drive this forward because they are already using their mobile phones for so much more than just conversation," he says. Wachovia says its mobile-banking service attracts between 8,000 and 12,000 users a day. What customers see when they bank over their phone will depend on their bank. With Bank of America and Wachovia's mobile-banking offerings, users can surf to the banks' Web sites. Because the browsers are designed to fit the smaller screens, customers will be able to move through the sites in much the same way they bank online. Others will be able to punch a short text code into their cellphone and get a text message back from their bank -- with their account balance, for example -- within seconds. Customers can also request to have their bank send them a text message if their account balance falls below specified levels or if the bank notices any questionable activity, and customers can message back. Still other banks are working on new downloadable applications that are designed to be easier and faster to use than Web browsers or text-messaging services. Citibank's mobile-banking application, which is developed by mFoundry Inc., works much like an iPod: Instead of scrolling through a Web site, users click through a menu of options. Banks Keeping Less Money in Reserve Robin Sidel & David Reilly, WSJ 2-27 Banks might be putting too much faith in their borrowers. As more consumers and companies start having difficulty paying their debts, the funds that banks set aside to cover soured loans stand at the lowest level since at least 1990. The situation is causing consternation among regulators. And as credit quality begins to deteriorate from unusually strong levels, the issue also is causing jitters on Wall Street, where analysts predict the need to boost loan-loss reserves will cut into banking-industry profits this year. Banks establish reserves for a portion of loan portfolios or big individual loans that they estimate could go unpaid. The reserves ensure that banks have enough capital to cover any losses from loans that go bad. But each increase in those reserves results in a charge that cuts into banks' profits. Typically, investors and regulators fret that banks overestimate these charges during good times so they will have a cookie-jar to dip into when times are rougher. Now, though, the worry is that banks haven't put aside enough money to cover bad loans because times have been so good and because they haven't wanted to damp profit growth. In a December advisory, regulators reminded bank executives that they should use the leeway available to them in calculating reserves because "we do believe there is risk building in the system," says Kathryn Dick, deputy comptroller for credit and market risk at the Office of the Comptroller of the Currency, which regulates banks. That guidance "was a heads up, a shot across the bow, if you will, to the banks," said Lynn Turner, managing director of proxy advisory and accounting-research firm Glass Lewis & Co. and a former chief accountant with the Securities and Exchange Commission. The low reserve levels aren't triggering any concern about the financial soundness of the nation's banking system. Bank failures are quite rare. When regulators closed a small bank near Pittsburgh this month, it was the first bank failure since June 2004. Still, the current level of loan-loss reserves is reigniting a longstanding debate among regulators about how banks calculate the amount of money to put aside for bad loans and the appropriate time to do so. The Financial Accounting Standards Board has recently started to consider whether banks should be required to disclose more information to investors about the way they calculate reserves. Banks set aside an average of 1.09% of the total value of their loans at the end of last year, according to data from 518 publicly traded banks compiled by SNL Financial for The Wall Street Journal. That is a dip from 1.14% in 2005 and from 1.63% in 1992 and 1.48% in 1990. The SNL figures date to 1990. "There is a growing concern about loan quality and it isn't reflected at all in the reserves," says Brian Shullaw, an associate director at SNL, a Charlottesville, Va., research firm that focuses on the financial-services industry. According to SNL, the nation's three biggest banks had above-average reserves at the end of 2006: 1.32% at Citigroup Inc., 1.28% at Bank of America Corp. and 1.51% at J.P. Morgan Chase. Some large regional banks' reserves are well below average. Among them: SunTrust Bank's 0.81%, First Horizon National's 0.87% and Washington Mutual's 0.60%, SNL says. "Our reserve levels are reflective of our strong credit culture and what we believe to be the lower loss-risk profile of our loan portfolio," said a SunTrust spokesman. Marlin Mosby, chief financial officer of First Horizon, said the bank's reserve level reflects the high percentage of its collateralized loans -- such as second mortgages -- which have a lower likelihood of default than other unsecured loans. He also noted that the bank increased its reserves in 2006 as the economy cooled somewhat. Said a spokesman for Washington Mutual: "At year end, WaMu's reserve levels were appropriate considering that our loan portfolio primarily consisted of the highest-quality loans." Investors will feel the pain if banks boost reserve levels. Over the past few years, investors have benefited from the lower reserve levels because they helped boost profits. The banks say that they have been draining their reserves because few borrowers have defaulted on their loans. From 2004 to 2006, the nation's biggest banks received 37% of their earnings growth from reductions in their loan-loss reserves, according to a Feb. 12 Morgan Stanley report. Big regional banks got a bigger boost, with the freed-up reserves accounting for 52% of earnings growth, according to Betsy Graseck, a Morgan Stanley banking analyst. A number of banks have drawn down their reserves for bad loans to "apparently unsustainably low levels," according to a recent report from the Center for Financial Research & Analysis, a Rockville, Md., accounting-research firm. Indeed, banks are expected to soon start reversing course and building reserves amid growing expectations that the boom times are drawing to an end. Although loan defaults and charge-offs remain at historically low levels, bank executives predict that credit quality, which has weakened, will erode further this year. Ms. Graseck, who is predicting that big-bank earnings will rise 5% this year, estimates that a 10% increase in reserves could reduce that earnings growth by four percentage points. The trend comes at a time when bank profits are also expected to be hurt this year by short-term interest rates going higher than long-term ones -- the so-called inverted yield curve. Banks typically profit by borrowing short-term and lending long-term, so when the yield curve inverts, profit margins get squeezed. "All of these banks are perfectly sound, but I do think a number of banks will miss earnings estimates based on rising loan provisioning," says Kevin St. Pierre, a banking analyst at Sanford C. Bernstein. Historically, banks tend to see their provisions for bad loans increase when interest rates start to rise because higher rates cause problems for weaker borrowers and slow the economy. But that hasn't yet happened, even as the Federal Reserve has steadily raised rates to a current level of 5.25% from historic lows. Whether and when banks should take additional provisions for loans that might not be repaid is a point of contention among bankers, regulators and accounting rule makers. Many bankers would like to set aside funds for possible bad loans in good times, forming a cushion for when things get tough. But that isn't permitted because such moves can be abused to manipulate earnings. As a result, accounting rules generally don't allow banks to use provisions as "rainy-day funds." Instead, they require banks to take a provision when it is "probable" that a loan has gone bad. So, a bank can't establish a provision for, say, 2% of a loan portfolio just because that is the amount that typically tends to turn bad. Instead, it must assess an array of events that lead it to believe a loss is probable. Ratings Changes On 2-14 Standard & Poor's has upgraded six of the largest U.S. banks, including Bank of America and Wachovia. According to Reuters, the ratings agency says the banks have shown good performance and built franchises strong enough to withstand short-term hits. Charlotte-based BofA was upgraded one notch to AA, while Charlotte-based Wachovia's rating rose one notch to AA-. The outlook on all of the ratings is stable, S&P says. They had been on CreditWatch positive at the end of last year. Wells Fargo became the only U.S. bank to have the highest possible credit rating from both S&P and Moody's -- with Standard & Poor's Ratings Services upgrading Wells Fargo Bank, N.A. to "AAA," its highest possible credit rating. On 2-14 SunTrust announced a 20% increase in the dividend on SunTrust common stock. A quarterly cash dividend of $0.73 per common share was declared payable on March 15, 2007 to shareholders of record on March 1, 2007. Home Page Factoids Previous Update |