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Wachovia Defends Balance Sheet

The firm says its exposure to hung bridge loans is modest.

A stage is likely the last place banking CEOs want to be in the midst of a credit crisis.

But executives at diversified money center banks

Bank of America





took the podium Monday at the Lehman Bros. financial services conference in New York. The execs aimed to quell investors' fears about the banks' exposure to the troubled mortgage and credit markets -- though, judging by another round of modest stock declines across the financial sector, it's not entirely clear they succeeded.

Consumer credit at BofA is holding up well "despite some pockets of stress," said Liam McGee, the company's president of global consumer and small business banking. Meanwhile Wachovia is "well positioned to benefit" from the mortgage turmoil, according to chief executive Ken Thompson, during a presentation at the Lehman conference immediately following BofA's.

The remarks come as lenders struggle with rising loan delinquencies and defaults that led to a breakdown of the secondary markets for mortgage securities.


Countrywide Financial





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announced massive layoffs on Friday, while several other lenders have sought Chapter 11 bankruptcy protection.

On Monday, consumer-centric West Coast bank

Washington Mutual


also appeared at the Lehman conference in Midtown Manhattan. But the Seattle-based lender had less room to sugar-coat its current troubles.

WaMu shares dropped as much as 3% after CEO Kerry Killinger said the housing industry is headed for a "near perfect storm." The lender, which has already boosted its provision for loan losses this year, may have to sock away an added $500 million as housing markets continue to weaken, he said. WaMu shares later gained back much of their lost ground in action Monday afternoon.

Last month, BofA helped Countrywide by taking a $2 billion stake in the company. During Monday's question-and-answer session, McGee dismissed recurring speculation that the bank is moving toward a merger or deeper strategic partnership.

"We're a passive investor and that's the role we are going to play," he said.

Wachovia's Thompson tried to assuage investors' concerns about possible pain from upcoming mortgage rate resets, given the popularity in recent years of adjustable-rate mortgages. Last year, Wachovia acquired California residential mortgage lender Golden West, which focused mainly on option ARMs that face rate resets annually.

Thompson said the bank stress-tested its option ARM loan portfolio by assuming 5.5% home price declines in 2007 and 6.5% in 2008. In such a scenario, the portfolio would only see a 0.1% loss for 2008. Option ARM mortgages allow customers to pay what they can afford monthly, while adding the shortfall to the outstanding loan balance.

One analyst says these are not similar to the subprime mortgage resets coming up. "This product is a lot more accommodative to consumers and helps consumer under stress," says Jefferson Harralson, an analyst at Keefe Bruyette & Woods.

"If rates move down here it really improves the credit quality of

Wachovia's book," he adds. Still, he adds, if rates were to move higher, the bank would face "higher negative amortization, faster recasting and higher pressure over time."

Thompson suggested that Wachovia's strength is that the firm holds its mortgages in its own loan portfolio instead of selling them in the secondary market. Wachovia says this should insulate it from the problems in the mortgage-securities market. Lenders that originated mortgages with the intent of selling bonds backed by those loans have had to find alternative funding sources as investors have fled the market for riskier bonds -- a development that has driven a number of firms over the edge.

"We are in a situation where portfolio lenders are in a much more competitive position than the last two to three years," Thompson said. "We are not chasing gain-on-sale accounting treatment. We are not pressed to do volume just to keep the wheels turning."

News from Wachovia's corporate lending ledger sounded worse. Wachovia's Thompson said "the bank has a 3% to 4% market share of the $300 billion to $400 billion of unfunded LBOs." A quick calculation using the midpoints of 3.5% and $350 billion, brings that exposure to $12.25 billion. Thompson called this "modest exposure."

But Thompson said the firm is retreating from the leveraged loan and bond business. Year-to-date, Wachovia ranks fourth in the league tables for leveraged loans, with 5.5% of the total market share. Wachovia is the 10th-ranked corporate junk bond underwriter with 4.5% of the market share year-to-date.

Thompson noted that the firm's structured products business, which is responsible for underwriting difficult-to-value securities like collateralized debt obligations, is at "very managed levels." He added that the firm is "not in the prime brokerage business" and has no exposure to hedge funds.

On Monday afternoon, Bank of America was down 25 cents to $48.77, Wachovia was down 80 cents to $47.25 and WaMu was off 17 cents to $34.85.