Three’s a trend — Citi’s joined JP Morgan and Wells Fargo in reclassifying home equity (junior lien mortgage) loans as bad assets this quarter.
From a footnote in its Q1 results:
The first quarter of 2012 increase in non-accrual consumer loans in North America is attributable to an $0.8 billion reclassification from accrual to non-accrual status of home equity loans where the related residential first mortgage is delinquent. Of the $0.8 billion of home equity loans, $0.7 billion was current and $0.1 billion was 30 to 89 days past due as of March 31, 2012. This reclassification reflects regulatory guidance that was issued on January 31, 2012.
‘Twas this guidance from the FDIC, in case you missed it the first time. Peter Eavis at Dealbook has a good take on why regulators haven’t liked the idea that banks have “freeloaded” on delinquent first-liens to get paid out on second-liens.
The debate goes right back on this and it remains in interesting question why borrowers have kept up fealty to second-lien obligations. Among the possible reasons, as noted before are that 1) Some of the banks, which are also the biggest mortgage servicers, have reportedly pushed for second-lien payments even after it was clear that the first-lien payments were unlikely, 2) Home equity loans are much easier to maintain given prevailing low interest rates, and 3) The foreclosure process can take quite a while, years in some cases, while home equity loans are charged off after 180 days in delinquency.
In other words, there’s more pressure on borrowers to pay second-liens, and second-liens are easier to pay.
There are two other things we’d note:
— Q1 2012 sure is a much more convenient time for regulators to suggest banks take these hits than the disastrously low-revenue Q4 2011, pre-stress test period… Citi’s Q1 2012 wasn’t too bad.
— Is it too conspiratorial to connect this to the pressure for principal write-downs in (first-lien) agency mortgages?
As for the sums at stake in the loan books of other banks – here’s Nomura’s analyst on Monday:
The market has reacted to this, as the worst performing banks today are also the most exposed to home equity – eg, FHN, STI, RF. If we assume that 2% of everyone’s book is reclassified, cumulative losses are 55%, and there are no existing reserves, the hits to tangible book in all cases are <2% and only three banks are over 1% (FHN, HBAN, RF).
By Joseph Cotterill and Cardiff Garcia
The mystery of US banks’ second mortgage exposure – FT Alphaville (Oct 2011)