Home Equity Loans Finally Rise Above Water

February 25, 2013

Bank portfolios have been the ones to hold the majority of home equity loans instead of other avenues, which includes line of credit and the piggyback liens that were popular as a substitute for down payments during the mortgage bubble. As a matter of fact, consolidation put the Big Four United States banks in a world of hurt when the values of homes dropped below the amount homebuyers borrowed against several properties. The home prices at this time are recovering, which has helped reduce the amount of underwater loans, however, they still are causing issues when you look at the comparison against bank capital.

When you compare the Big Four, Wells Fargo has the largest exposure to home equity loans in comparison to their capital base. When you look at the underwater principal balances, in the middle of 2011 it fell 13 percentage points to 34% of Tier 1 common capital at the end of the 3rd quarter in 2012. The actually amount of unsecured debt is smaller due to the collateral that can cover some of the amounts that is owed on underwater loans.

The improvement of a 20% increase in Wells Fargo Tier 1 common equity shows a better housing market along with the erosion of charge offs that averaged $1 billion a quarter since 2008. Banks across the industry have charged off close to $90 billion of home equity loans since 2008 while the outstanding balances have dropped by $220 billion to stand at $670 billion.

At Bank of America, Tier 1 common, dropped 16 percentage points to 28% for underwater home equity loans and at JPMorgan Chase, the drop was 10 percentage points to 24%. The smallest relative exposure was seen at Citigroup, with the Tier 1 common dropped 6 percentage points to 11%,

After regulatory guidance brought on tougher standards when dealing with loans that are behind overdue first liens along with borrowers that have filed Chapter 7 bankruptcy, credit metrics have suffered.

Non-current loans increased in the 1st and 3rd quarters of 2012 under revised practices along with charge offs during the 3rd quarter. Lenders downplayed the financial impact explaining their loss reserves were already considered with the poor performance of the loans reclassified or written down.

At Wells Fargo, JPMorgan Chase, and Bank of America the charge offs rates on home equity lines copied the 3rd quarter increases in the last 3 months of 2012 to fall below the levels that were seen in 2009 and 2010. Non-current loan rates stayed elevated.

Those that are worrisome about the health of home equity portfolios are suspecting that banks are holding them together by foisting losses on homeowners of first liens while they refuse to take hits on junior positions.

JPMorgan Chase has $70 billion of home equity loans not including those it received when it purchased Washington Mutual, which has around $3 billion of its current junior liens behind delinquent or modified first mortgages, as well as owning close to 5% and other services around 25% of the first mortgages.

What will happen next, from those that are skeptical say will arrive in the coming years at a time when home loan borrowers will no longer be able to make only monthly interest payments due to their revolving loans entering amortization periods which is normally 10 years after origination.


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