Chase, Wells Fargo say they can weather subprime storm

Standard & Poor’s warns of bigger losses on 2006 loans

Wednesday, January 16, 2008

Inman News

Investors showed renewed confidence that financial markets will weather the subprime mortgage crisis after JPMorgan Chase & Co. and Wells Fargo & Co. reported write-downs on mortgage-related investments dented fourth-quarter profits but that the firms remain adequately capitalized.

Standard & Poor’s Ratings Service, however, said home-price declines and losses on subprime loans made in 2006 will be greater than expected, raising the specter of further tightening of credit to prospective home buyers.

Shares of JP Morgan Chase and Wells Fargo both got a boost Wednesday after the companies disclosed that write-downs on mortgage-related investments were smaller than at some rival firms, and that both companies posted record revenue for the year.

Although JP Morgan Chase wrote down $1.3 billion in bad mortgage-related investments during the fourth quarter, it managed to turn a $3 billion profit and boost credit reserves to $10 billion. Fourth-quarter mortgage loan originations were $40 billion, up 2 percent from the previous quarter and 34 percent from a year ago, the company said.

For the year, JP Morgan Chase had record profits of $15.4 billion on revenue of $71.4 billion, growing its payroll by 6,307 positions, to 180,667.

At Wells Fargo, charge-offs on bad loans hit $1.2 billion, up from $726 million a year ago, and the bank boosted loan loss provisions by $1.4 billion. Fourth-quarter mortgage originations declined 20 percent from a year ago to $56 billion, largely because Wells Fargo has cut back or stopped making nonprime, nonconforming and home equity loans through third-party channels, the bank said.

Nevertheless, Wells Fargo posted a $1.36 billion profit for the quarter, and $8.06 billion in net income for the year. All told, Wells Fargo originated $272 billion in mortgages in 2007, down 7 percent from the year before, and grew its servicing portfolio by 12 percent, to $1.53 trillion.

Moody’s Investors Service said today Wells Fargo can keep its “A” financial strength rating and “Aaa” rating on deposits, as the bank’s diverse business model will help it endure greater-than-expected losses in its home-equity portfolio.

Stocks also got a boost today from a Labor Department report showing the Consumer Price Index rose by just 0.3 percent in December, raising expectations that the Federal Reserve will make a dramatic, 50-basis-point reduction in its target for the federal funds overnight rate when it meets at the end of the month.

The Dow Jones Industrial Average plunged 277 points Tuesday after Citigroup Inc. reported a $9.83 billion fourth-quarter loss driven by $18.1 billion in write-downs on investments tied to subprime mortgages. Investors were also alarmed by a Commerce Department report that showed retail sales fell 0.4 percent in December, a sign that the economy may be headed into a recession (see Inman News story).

Although stock market investors are rooting for short-term interest-rate cuts to stimulate economic growth, a dramatic move by the Fed could also send long-term interest rates up — including those on 30-year fixed-rate mortgages — if bond investors become concerned about inflation.

Falling home prices and rising delinquencies and defaults could also put upward pressure on mortgage rates, if investors who fund home loans demand higher returns for risk.

Analysts at Standard & Poor’s Ratings Services said this week they now expect losses on subprime loans bundled up as collateral for investments in 2006 to reach 19 percent, up from a previous estimate of 14 percent.

The revisions were based on “growing economic consensus that U.S. home-price declines will be larger than previously forecasted and that the slump in the U.S. housing market is expected to last far longer than previously anticipated,” Standard & Poor’s analysts said.

Home prices have declined about 6 percent nationwide since the beginning of 2006, and Standard & Poor’s Chief Economist David Wyss now estimates that before bottoming out in the middle of the year, home prices will have come down 8 percent to 11 percent from their peaks.

The rating agency said it has also changed other assumptions it uses to evaluate investments backed by mortgage loans, which could lead it to downgrade its ratings on those investments. Downgrades would force banks and bond insurers to undertake another round of write-downs, and further restrict mortgage lending.

Alt-A lender IndyMac Bancorp Inc. said Tuesday it was laying off 2,403 workers because the secondary market for loans it makes remains frozen, and it expects 2008 loan volume will dwindle to less than half of that seen two years ago (see Inman News story).

Today, bond insurer Ambac Financial Group Inc. said it is attempting to raise $1 billion in capital in order to keep its AAA ratings from Standard & Poor’s and Moody’s.

Ambac announced fourth-quarter write-downs of $5.4 billion on its credit derivative portfolio, and a $143 million loss provision related to securities backed by home-equity lines of credit and second loans.

With Ambac facing a fourth-quarter loss of up to $32.83 per share, Chief Executive Officer Robert J. Genader had been replaced by Michael A. Callen. The company promised further details when it reports fourth-quarter results on Jan. 22, a week earlier than planned.

While the news was not as grim at JP Morgan Chase and Wells Fargo, both companies did see increasing delinquencies and defaults on consumer loans, including auto loans and credit cards.

At Wells Fargo, the charge-off rate on credit-card debt rose grew from 4.3 percent to 5.01 percent, which the bank said was in line with industry standards. Credit-card losses for the quarter totaled $223 million, while losses on other revolving credit and installment loans, including auto loans, totaled $421 million.

The $1.2 billion in fourth-quarter charge-offs also included $277 million in bad second mortgages, up from $153 million in the third quarter, and $34 million in first mortgages, double the $16 million seen in the third quarter. The charge off rate on second mortgages rose to 1.46 percent, compared with 0.83 percent in the previous quarter.

Total nonperforming assets grew to $3.87 billion, up from $3.18 billion, including $649 million of foreclosed real estate and repossessed vehicles.

The bank said growth in nonperforming assets was due to a national increase in foreclosure rates. Due to “illiquid market conditions,” Wells Fargo has decided to hold more foreclosed properties than it has historically.