The three areas contributing most to poor loan quality and charge-offs are option-payment adjustable-rate mortgages, home equity loans and lines of credit, and subprime mortgages.
Washington Mutual's portfolio of option-ARMs has been a center of attention over the past year. This portfolio has been shrinking over the past two quarters, and the company has exited this business, along with closing down its entire wholesale mortgage business. Option-ARMs totaled $52.9 billion as of June 30, with $2.05 billion in negative amortization. This represents the amount principal loan balances exceed the original loan balances.
During the conference call, John McMurray, WaMu's chief enterprise risk officer, stated that "in a typical month you may have on the order of three quarters of those negatively amortizing," meaning their loan balances are going up.
When an option-arm hits the negative amortization limit, the loan "recasts," meaning that the payment is amortized like a regular mortgage, including principal and interest. The earnings release presentation included predictions of $2.2 billion in recasts for the second half of 2008 and $7.1 billion in 2009. This paints an ugly picture, since we can assume that many of these borrowers will not be able to afford the fully-amortized payments, since they aren't making those payments now.
Nonaccrual option-ARMs totaled $3.23 billion as of June 30, or 6.11% of the total option-ARM portfolio. The annualized net charge-off rate for this portfolio was 3.91% of average loans.
For its home equity portfolio, Washington Mutual stated that the loss rate on charged-off loans was "drifting to 100%." This is understandable, since most of the loans are second-lien mortgages, secured by homes that have lost value. Prime home equity loan and line of credit nonaccruals totaled $1.5 billion, or 2.5% of total loans of this type. The annualized net charge-off rate for the prime home equity portfolio was 4.65%.
Philip van Doorn
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