IndyMac Seems Hardy Enough to Survive

The level of reserving was certainly adequate during 2007, when IndyMac's net loan charge-offs for 2007 were a relatively low $66 million, or 0.53% of average loans.

IndyMac was forced to transfer most of its held-for-sale loans to its investment portfolio, because it traditionally focused on "Alt-A" mortgages. These are loans to individuals with strong credit scores, but with less documentation of income than required for the mortgages to be purchased by Fannie Mae(FNM - Cramer's Take - Stockpickr) and Freddie Mac(FRE - Cramer's Take - Stockpickr) (known as government-sponsored enterprises, or GSEs).

Starting last August when the mortgage crisis came to a boil, the secondary market for non-GSE mortgages dried up, and IndyMac started transferring loans from the held-for-sale category to its portfolio category and marking down the loans.

IndyMac has now switched to a "GSE production model," meaning it will steer clear of the "Alt-A" mortgages it concentrated on during the housing boom. By sticking with new lending that conforms to Fannie Mae and Freddie Mac guidelines, IndyMac will have a much easier time selling mortgages and controlling credit risk and the size of its balance sheet.

Another area of credit risk for IndyMac is its loan securitization. Mortgage-related securities were also written-down, with an "embedded reserve" of $1.26 billion. This left $6.1 billion in securities available-for-sale, as of Dec. 31.

Part of the risk associated with loan securitization is the requirement to repurchase loans from investors for various reasons, such as early payment default. On the holding company level, IndyMac repurchased $613 million in loans sold during 2007. This represented 0.86% of loans sold during the year.

As for risks associated with IndyMac's investment securities portfolio, Mr. Perry stated in his 2007 Shareholder Letter that the company's mortgage-backed securities portfolio "has no CDOs and no exposure to bond insurers. And, importantly, to date not one IndyMac AAA Alt-A bond has been downgraded by any of the rating agencies, and we estimate that less than one-tenth of 1% of all AAA Alt-A bonds in the industry have been downgraded."

In its fourth-quarter earnings presentation, IndyMac projected 2008 mortgage production of $41.7 billion. While this is far less than the total loan production of $78 billion in 2007, the 2008 production will be mainly "conforming" mortgages, as discussed above. The company also projected "a small profit" for 2008.

IndyMac's efforts to ride out the mortgage storm make for a fascinating story that investors with long horizons, good timing and strong stomachs should continue to follow. The holding company provides a lot of information, which they discussed with us in detail.

Know What You Own: IMB operates in the mortgage industry and some of the other stocks in its field include Fannie Mae(FNM - Cramer's Take - Stockpickr), Freddie Mac(FRE - Cramer's Take - Stockpickr), Countrywide(CFC - Cramer's Take - Stockpickr), Wells Fargo(WFC - Cramer's Take - Stockpickr), Bank of America(BAC - Cramer's Take - Stockpickr) and Washington Mutual(WM - Cramer's Take - Stockpickr). These stocks were recently trading at ($29.54, +12.31%), ($27.87, +10.07%), ($5.95, +8.18%), ($30.88, +6.12%), ($40.25, +6.17%) and ($11.08, +7.57%) respectively. For more on the value of knowing what you own, visit TheStreet.com's Investing A-to-Z section.