New Home Loan Aid May Help Banks

The expansion of a bailout program for struggling homeowners on Wednesday is the latest sign that bank earnings will be unpredictable for at least the next few quarters, due to factors outside of core earnings.

The Obama administration said it has expanded its refinancing program to include borrowers whose mortgages are up to 125% greater than the value of their homes. The previous guideline was set at 105%. Homeowners who fall under the expanded umbrella and have a loan owned or guaranteed by Fannie Mae ( FNM) or Freddie Mac ( FRE) will be able to refinance their debt at a more attractive rate, bringing monthly payments down significantly.

Home borrowers in states like California, Nevada and Florida, where house prices have dropped dramatically, stand to benefit the most from this plan. But the move will also help extend a recent profit boon for banks that earn fees from servicing and processing the refinancings.

The country's largest banks shocked the markets a few months ago when reporting far healthier first-quarter results than investors had expected. The trend began with Wells Fargo ( WFC) in early April, followed by big competitors like Bank of America ( BAC), JPMorgan Chase ( JPM), Citigroup ( C) and Goldman Sachs ( GS).

Some analysts and critics have noted that the booming profits, or narrower-than-expected losses, might not be repeated. They were simply the result of one-time items, like big counterparty payments from American International Group ( AIG), changes to accounting standards, and government initiatives to improve the capital, credit and housing markets. Asset sales also stand to provide some hardy one-time gains in the quarters to come, as banks sell off major holdings to boost capital levels.

High-profile banking analyst Meredith Whitney said at an economic conference last month that she expects to see some "funky stuff" occur on bank balance sheets for the next couple of quarters.

"I think you're going to see a lot of manufactured growth, but not core, earnings growth" until 2010, she said.

At the other end of the spectrum, higher payments to the Federal Deposit Insurance Corp., and litigation that some companies like BofA, Citi, Wells Fargo, AIG and others are facing, may also hinder results. Rochdale Securities analyst Richard Bove said on Tuesday that this week's Supreme Court decision to allow state oversight of national banks will also allow attorneys general to open racial-discrimination lawsuits that had been put on hold pending the case.

Bove predicts that the decision, along with another proposal to expand oversight with the creation of a Consumer Finance Protection Agency, will create more headaches and hinder results.

" It appears that the courts, the Obama administration, and the Congress feel the need to pass more laws that duplicate what is already in place rather than simply executing the existing laws," said Bove, noting that several statutes already cover bad lending practices.

"Nothing good will come from this," he asserts.

Another wild card may lie far in the distance, but still poses a risk to economic recovery: Interest rates and inflation. As mortgage rates ticked up recently, the rush to refinance abated significantly, showing that consumer demand for new homes and loan modifications wasn't as strong as it seemed. The trend put profits at risk, as banks work to write down bad legacy loans, and make more prudent, profitable ones.

The expansion of the refinancing initiative will certainly support demand by expanding the customer base to those that need loan modifications the most. Whether that support will last long enough to keep banks in the black until they get to the "core" growth Whitney referred to is unclear.

For now, Treasury Secretary Tim Geithner said Wednesday, "it's a crucial step in our broader efforts to get America's housing market and economy on the path to recovery."

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