Time to Call Out Wells Fargo's Balance Sheet

I have not written for a long time - roughly a month - as the market has turned me into a hermit. I am afraid of the people in my industry, recommending or buying stocks based on what the person next to them just bought. My service, ChangeWave Shorts, only recommends puts so short term momentum can kill a fundamentally sound position. That being said, I sense the beginnings of a turn to rationality - a light turn, a hesitant turn, but a turn - and the first place the market should and will get rational is the banks. They led us into the mess, they led us out, and they will lead us to stagnation and decline as reality sets in.

And the bank I really don't understand - excuse me, the bank stock I don't understand - is Wells Fargo (WFC), an $8-$10 stock masquerading as a $28 plus stock and trading at a multiple well beyond the rest of the banking segment. It isn't that Wells should be valued alongside the segment; it should be valued lower than the segment due to current and future problems in its business, led by its balance sheet.

I have spent weeks pulling apart their balance sheet and reading other analysts' deciphering of their financial Esperanto - a universal language no one understands. And what I present below may include mistakes but they are not of my own making - they are due to what at best can be considered willful obfuscation - a time honored practice in most financial reports - of extremely complex financial statements. But I gave it a shot using my fourth grade math and common sense.

First, let's look at the garbage - excuse me, am I being too negative? - on the balance sheet as it is written as of March 31 according to the TARP oversight folks. The garbage bin is called Level III assets, their dodgiest class of assets (the Brits know how to coin a phrase, don't they?) which according to recently and frantically revised accounting rules, is an asset without a market, leaving management free to assess and declare its value based on a model. Wells had, as of March 31 (and I am using these numbers because they have been blessed by regulators), $61.7 billion in Level III assets. What are they really worth? Who knows - but even if it is 50%, which I believe would be very high, that is 23% of the company's market cap.

Second, they are using arcane - and perfectly legal - rules of purchase accounting to mask loan losses. A Wall Street Journal article (September 21) had a nice discussion of these rules. Under the rules of purchase accounting, and these came into effect when Wells purchased Wachovia, losses must be accounted for in the purchase price and subsequent paper write off and cannot be incurred after an acquisition, with the loans on the books now set at a new and lower value to reflect the write-off at the time of the Wachovia acquisition. They must have been busy with Christmas because this year they have adjusted these write offs and increased them by $7.1 billion in the first half of 2009 - write-offs that do not hit current earnings. This wonderful accounting chicanery can continue for one year after the merger date, so they have until New Year's eve to "discover" new losses.

It gets better. The company acquired $110 billion in what it calls Pick and Pay and everyone else calls option ARM mortgages with the purchase of Wachovia. These were valued at $90 billion and change when the deal was closed. Wells shoved a big chunk under the umbrella of purchase accounting and using these rules then got rid of $20 billion in losses. Remember that write downs under these rules do not hit your current books. Some percentage of the remainder, $38.9 billion, can still be adjusted retroactively under purchase accounting - I think, I am not sure, don't quote me - and ain't life grand? Of the option ARM mortgages still held by the company, the loan to value ratio based on quarterly adjustments is 87.2% but with home prices still falling I am willing to bet - as is Meredith Whitney, who is predicting another sharp drop in nationwide home values -- this is 100% in a year. And that means owners have no incentive to stay in their homes as mortgages reset. More importantly, while the company assumes future losses on these mortgages in a manner I literally cannot fathom (but I think they are assuming a 31%-35% default rate), analysts from Goldman Sachs (GS) see almost 61% of option ARMs originated in 2007 will fall into default. The Goldman guys assumed a 10% decline in home prices, and, over time, these same analysts estimate more than half of all option ARMs ever issued will eventually default. If Goldman is correct, or close, that is 25% of, well, what? They can write off a lot of this stuff via purchase accounting. But let's be kind to me and my hard work and say it will cost them $5 billion more than they are assuming.

Third, proposed accounting rule changes would force banks, including WFC, to put off balance sheet assets on their balance sheet. WFC has more than $2.0 trillion of this off balance sheet nonsense - using the same acronyms, I might add, used by Enron (and that other great bank, Citigroup (C)). Some healthy percentage of these assets can be assumed to be headed to the balance sheet if the FDIC says they agree with the FASB rules and insist banks live by them. In theory, and based on history, WFC would then have to raise enormous amounts of capital or dump assets to stay within regulatory guidelines. They cannot dump assets - they would have done so if they could have - which means pounds of new shares and shareholder dilutions. Of course, the FDIC is free to ignore GAAP rules when creating regulatory requirements and it is possible they will do so again. But the cat (let's say the cat's name is transparency), will be out of the bag and lazy investors who have yet to consider Wells' off balance sheet follies will now get a closer look at them.

The off balance sheet assets are almost impossible to decipher let alone explain. The company claims, in its second quarter financial statements, that only $155 billion - or maybe 7% - of off balance sheet assets will be forced onto their balance sheet. Games and more games, mainly due to the ability to loosely interpret the proposed FASB guidelines. They have concluded, and I quote their earnings statements, that "$1.1 trillion of conforming residential mortgage loans involved in securitizations are not subject to consolidation under FAS 166 and FAS 167." They do not say why--just because these are insured mortgages and they, according to someone's interpretation of the new rules, do not have to hit the balance sheet (I was unable to locate an FDIC or FASB opinion on this). I spoke with someone on the staff of the Senate Banking Committee - in relation to the off balance sheet assets held by Citi - and the first thing I heard was government guarantees, which shut down the conversation, so it is possible this rule, when and if implemented, will be faked, like the stress tests. But investors will have a much better idea about WFC's real exposure to the real world. If $155 billion hit the balance sheet, that would be 12% of current assets and 19% of their current loan portfolio - to my mind that means the capital base would have to increase 12%.

The company does provide a caveat to what I view as their generous analysis of the new FASB regulations. Again, I quote their second quarter 10Q: "FAS 166 and 167 are principles based and limited interpretive guidance is currently available. We will continue to evaluate QSPE and VIE structures applicable to us, monitor interpretive guidance, and work with our external auditors and other appropriate interested parties to properly implement these standards. Accordingly, the amount of assets that actually become consolidated on our financial statements upon implementation of these standards on January 1, 2010, may differ materially from our preliminary analysis..."

What about the rest of their business? They hold $330 billion plus in commercial and commercial real estate loans - one third in California and Florida - and $450 billion plus in consumer loans, including more than $117 billion in home equity lines that are second tier to primary mortgage holders and end up in the junk bin after a foreclosure. And 37% of these home equity line are in California and Florida. Need I say more?

I do not want to go through their balance sheet and earnings statement ad nauseum so let's leave it at this - their loan loss reserves are, to my mind, completely out of whack with the reality facing these portfolios, as are consensus earnings estimates. I quote that second quarter 10Q again. "We believe our balance sheet is well positioned given the current economic environment. Our allowance for credit losses was $23.5 billion at June 30, 2009, compared with $21.7 billion at December 31, 2008. Our allowance covers expected consumer loan losses for approximately the next 12 months and inherent commercial and commercial real estate loan losses expected to emerge over approximately the next 24 months." Translation - on more than $800 billion in balance sheet assets, two trillion in off balance sheet assets and in the face of 10% unemployment and contracting GDP, an all time high for mortgage defaults, credit card defaults, home equity defaults, not to mention commercial real estate problems that are beginning to accelerate, they increased net reserves less than $2 billion.

Let's go on - I may be wrong because reading their SEC filings could give a dead man a migraine, they had $3 billion in non-performing loans in Q2 that they had yet to reserve against (see what these reports do to my grammar?). To simplify, let me quote one of the only clearly written parts of their report. "The ratio of the allowance for credit losses to total nonaccrual loans was 149% and 319% at June 30, 2009, and December 31, 2008, respectively...." They saw an increase of non-accrual loans - busted loans - of $5 billion in Q2 alone, which they blamed, perversely, on purchase accounting. True, but not of the real world. And Wells had $16.6 billion (with a b) in loans more than 90 days past due - more than $10 billion without guarantees by the taxpayers. So let's say the dearth of reserves is worth another $12 billion they need to raise this year or soon.

And what about operating earnings going forward to compensate for the probable need for far more reserves? It is hard to imagine they will duplicate the $3 billion in mortgage origination fees they had in 2Q - and even if they pull it off in Q3 it should not happen in Q4. Meredith Whitney said as much the day she turned the market around with her call on Goldman Sachs, the same market that missed the last half of her statements on CNBC saying bank earnings this year would not be matched next year. Stumpf recently pounded the table, calling out Uncle Sam for messing things up and saying they were going to pay Uncle Sam back and oh, by the way, can you have Freddie (FRE) and Fannie (FNM) buy jumbos so we can make more mortgage origination fees.

Wells was one of the companies told to raise capital after the fake stress test results showed you can only fake something so much. They claim they can raise that capital by the end of Q3 by internally generated means - including, in Q2, $2.7 billion in deferred tax liabilities, the same accounting gimmick that bit Fannie Mae big time.
Do they think we are stupid? Yes - and they are pretty much right. Maybe it is Buffett - but remember he values businesses based on cash and cashflow and brand, and Wells is a great consumer bank, arguably the best in the country and has no problem with cash or cashflow. Maybe it is the bellicose statements by CEO Stumpf - maybe it is their legendary customer service - maybe it is fear - but no one is calling them out. Line up ten thousand more readers and maybe we can start the hue and cry.

What will we cry out?

You need more capital.

To write off more Level III assets, someday - maybe as much as $30 billion.

To support off balance sheet assets coming on - maybe as much as $15 billion.

For greater loan loss reserves - maybe as much as $12 billion.

For more option ARM losses - maybe as much as $5 billion.

To pay back Uncle Sam - no maybes, $25 billion.

Total: $87 billion. (Maybe)

I use the word maybe because this analysis is based on financial statements that make Vladimir Putin's inner soul seem transparent. November and beyond may provide some market support for this skeptic's view of their balance sheet as FDIC guarantees of bank bonds goes away and Wells will eventually go to short term capital markets and raise money based on what people know about Wells.

The bottom line: subtract current reserves of $23 billion and you get $64 billion in new capital of some sort. Sure, I am mixing apples and oranges but in the bars around the world where real analysts do their best work, this is how calculations are done and decisions made. Slightly less than half their market cap. Cut the stock in half and you get $15 and change. Bring the multiple down to the rest of the segment and voila - $8-$10.

Simple math - works for me.

Disclosure: I have recommended to subscribers to buy puts on Wells and I have no position in the stock.

Comments

[markfl:]

What explains the long interest in BAC, WFC, and C? I will admit I agree that many fundamentals are awful. Option ARM resets are on the horizon, and CRE's worst days may be ahead. One argument--NOT necessarily one I endorse personally--seems to be the re-monopolization in the post-Lehman banking world. Maybe you liked WAMU or Wachovia or Chase because these distinctive brands oftered something that appealed to you in a competitve retail banking free market. Doesn't matter, because you're now doing business with WFC or JPM. Maybe you hated WFC and opened an account at Wachovia because you wanted a change. Doesn't matter, because that option is now foreclosed.

The argument I HEAR (THEIRS, not mine) is that a small number of the largest banks now will dominate commercial banking. Have a deposit account at a WFC brand? Chances are, they say, you may seek them out for other loans. The argument seems to be that the banking Warsaw Pact will tighten their iron grip over the next decade and you will like it or lump it; the government has already decided who is or is not too big to fail. Regardless, you have fewer choices as a banking customer. Time was you couldn't touch the wiring on a residential phone without permission of Western Electric or Bell System's approval--a so-called benevolent monopoly. Such monopolies, like utilities, are supposed to be highly regulated to prevent abuse of power. We will see.

Sep 22 04:13 AM

[Roger Knights:]

Apparently banks are off-loading the risks of NEW mortgages onto the FHA. See seekingalpha.com/artic...

I wonder if there's government backing for some of WFC's other dodgy assets. Bill Gross has been quoted as saying that these sort of investments are free money, and I'm sure Buffett must be aware of this angle.

If Whitney comes out with a Sell on WFC, that ought to inject some realism. Sooner or later that will be the prescient call to make. And making prescient calls is what her reputation is based on.

Sep 22 08:09 AM

[Roger Knights:]

PS: Here's another critical SA article, from Sept. 17, "Is WFC playing a mortgage shell game?":
seekingalpha.com/artic...

Sep 22 08:28 AM

[RiskAverseA...:]

Reports like this make easy the argument that equity is dead money, and support the view that, presently, time is being bought to offload as many shares as possible to as many suckers willing to believe in fantasies...

Sep 22 08:33 AM

[Anthony Har...:]

I believe this is the case with most of large cap banks in the US and seem to be more fragile than ever. It is quite astonishing to know that most of the large banking institutions have derivative contracts touching almost 40 times their total assets! This solely does not represent the maximum loss exposure for them, but nevertheless does signify the extent to which they have leveraged themselves apart from the market risk and counterparty risk exposures. Theses banks seems to vulnerable even to the slightest disturbance in the markets as their respective gross values of derivative contracts, both receivables and payables, range from 36 to 114 times their tangible equities!

A similar analysis of JPM reveals that the notional value of derivatives that it has exposed itself to, is approximately $80 trillion - a staggering 39 times its total assets and a mind boggling 850 times its tangible equity. Accounting standards allow banks to net off contracts under FIN 39 under which JPM has net off its gross derivative receivables and gross derivative payables having a balance of $165 billion (as of 2Q09). 35.4% of their net exposures were rated BBB an below (the junk, basically) which is sufficient to wipe of 24% of the banks tangible equity.

The acquisition of WaMu, which seemed to be a good deal earlier, only seems to have worsened things further, with its troubled loan portfolio

Again, with regards to Mortgage Servicing Rights (MSRs), a part of the "garbage" level 3 assets, had it not been for the aggressive change in the management inputs, JPM's 2Q09 would also be in the red.

There's a detailed forensic report with regards to JPM which includes all this stuff.... Thought this could elighten you :)
boombustblog.com/Reggi...

Sep 22 08:49 AM

[Vasiliy:]

cashflow is a King. That's right. Too much maybe in your speculations. Try to analyse the US Goverment Balanse Sheet from your point of view and you'll jump from the roof.
We have 300+ mln people un the US and it gets bigger an bigger.
We want to marry, give birth , build and buy buy buy and so on.
We need help from those guys from WFC or BAC or JPM , that's it.
just cashflow.

Sep 22 08:51 AM

[adiposity:]

Why do those that short banks completely ignore operating cash flow or earnings? Looking at the balance sheet in a vacuum without operating cash flow is a huge flaw in your analysis. If I charge off a loan by $100 but earn $100 in cash from other business, what happens to my balance sheet? ABSOLUTELY NOTHING. WFC is currently producing $39 billion annually in pre-provision pre-tax income (PPPI), a.k.a. cash, that it will use to offset future losses. Using your pessimistic loss numbers that would leave $25 billion to raise ($87 [pessimistic losses] - $23 [current reserve] - $39 [PPPI]), assuming all losses occur in one year. If the losses occur over two years, WFC doesn't need to raise any capital as that $39 billion or some number in its vicinity is recurring. On a $1.3 trillion balance sheet, PPPI is more likely to grow over the next couple of years as WFC resets the cost of Wachovia's liabilities and fee and spread income improves due to the recovery. Which timing scenario is more likely? Why do you ignore actual cash coming in the door and choose to only look at a static balance sheet? This ignores business reality. As a result, your analysis is completely flawed.

Sep 22 10:15 AM

[BSexposer:]

"Why do those that short banks completely ignore operating cash flow or earnings?"

Why? Could it be BECAUSE THEY ARE SHORT? No, no - that's too cynical...

Sep 22 10:16 AM

[MattZN:]

Well, the author makes a reasonable assessment of the negative side of the balance sheet (even if a bit exaggerated in my view), but falls into the same trap that all shorts fall into... you aren't being neutral in your thinking and thus you aren't accounting for any of the mitigation from the positive sides. Until you do that, seriously, you will remain confused as to why so many people are long Wells Fargo.

I'll give you two examples. Actually three examples. First, the tax write-off you so glibly dismissed. You clearly don't understand what happened when Wells bought Wachovia, let alone why Citi wanted Wachovia and why Wells was willing to pull Citi onto the carpet to get it. One big reason was a change in the law that allows an acquiring bank to net profits against losses from an acquisition for tax purposes. The Wachovia purchase gave Wells something like 12-16 billion in tax credits all of which they are netting against the profits. That's real money.

Another positive is the net interest margin Wells enjoys. Isn't in something over 4% now? It's the best in the industry. The cost of money from their deposit base is virtually nil.

A third item which you mentioned only in passing in order to pooh-pooh it is their mortgage origination business. You are forgetting that Wells has a virtual lock on mortgage originations. Do you remember the shorts were saying that originations would peter out in Q2. They didn't. Now they are saying originations will peter out in Q3. That isn't likely either in my view.

And there are numerous other reasons as well. But the point here is that only focusing on the loan portfolio is what is getting you into trouble here. Wells at $8 with its asset base would be pricing it for bankruptcy. Most investors, including myself, do not believe that it is even remotely possible for Wells to go bankrupt hence the valuation of the company is considerably more then $8.

With regards to the game of chicken Wells is playing with the government on raising capital. Do you realize what they are arguing over now? It is a mere 5 billion. The government wanted Wells to raise something like 16 billion, Wells raised about 8 which became 12 due to demand (don't quote me on those numbers, its from memory)... Wells has now proven that they have no trouble whatsoever raising capital and they are calling the Government on it.

TARP is the same issue. It's just an accounting gimmick. The money doesn't even leave the Fed for gods sakes! Wells can't spend that money anyway, there are simply not enough high quality borrowers around. It is doing nothing more then burning a hole sitting their on their balance sheet and they have to pay the government hundreds of millions of dollars in interest for the privilege. There's no point to it. That interest is roughly equivalent to the dividend they could be paying their shareholders. Do people actually believe that the 25 billion in TARP money changes their tangible capital ratio in reality? What a joke.

What purpose would raising more capital at this juncture serve? None. Wells is watching out for their shareholders and trying to avoid unnecessary dilution. Not taking into account the clear capital raising capability they have and the near zero cost of money they enjoy is a huge mistake on the part of anyone on the short side. What has happened is that the media has focused on one metric out of a dozen and started screaming that the sky is falling, and you've gotten yourself sucked into it hook line and sinker.

So what is the real danger for a company like Wells Fargo? I'm guessing high inflation is the only real danger. Something that hits their net interest margin hard. The commercial loan portfolio is going to get hit, but not hard enough to suck Wells down the drain.

-Matt

Sep 22 01:22 PM

[BSexposer:]

"Well, the author makes a reasonable assessment of the negative side of the balance sheet (even if a bit exaggerated in my view)"

A "bit exaggerated"? C'mon, man - this guy is expecting another Great Depression. He's been 100% wrong [i.e., short] all along w/r/t WFC [just look at his prior blog entries] and now he's desperately trying to convince people of doomsday scenarios to save his short position. Sorry, but it's not going to happen. WFC will be at $75 within 5 years.

Sep 22 03:13 PM

[Neil Visnapuu:]

Well, let's talk about NIMS. They're based on lending.

WFC operates in the hardest hit regions in the country, with respect to unemployment. Roughly twice the rest of the country.

Lending in aggregate, irrespective of WFCs labyrinth, is dead. And to the extant that there's a death rattle, the values are roughly half what they used to be.

Furthermore, because everyone is potential deadbeat now, there's no incentive for the bank to lend, regardless of your hypothetical NIM.

And lastly, relying on operating earnings predicated on free money is only viable in an era where free money continues to flow, which is only true if pretty much the worst case scenario described here actually comes about.

Sep 22 03:32 PM

[MattZN:]

Heh. Ok, more then a bit exaggerated. I'm trying to be P.C. But extremism is something that can work both sides of the equation. It pays to take a more practical approach to analysis which removes both emotion and preconceptions.

Wells is going to take large losses on their loan portfolios, that is certain. If they were NOT going to take massive losses their stock price would be north of $100 now just from the revenue flow. The concept of Wells taking large losses is already built into the stock price. What is not built in, and what people do not really know, is how those losses balance against current and future revenue flows.

Trying to account for these losses all in a single year is even more extreme then what the author is accusing the bank of doing with their creative accounting. Interest-only payments on an option-arm can be calculated ten different ways. The concept of 'principle' is no more real then anything else. There's the cash the bank paid out, and the cash the bank got back, the time-value of money, and the resale value of the property. Those are the only hard realities when it comes to loan portfolios.

From a business standpoint, Wells is sitting on an actual monopoly position in ALL of its areas of interest. It is completely protected, probably for the next decade at least. Even a government mandated breakup, were it to occur, would not have much of an effect on stockholders. No other bank has even a remote chance of interfering with Wells Fargo's business model now. That might not be a good thing for consumers but it's great position for Wells Fargo to be in.

On Sep 22 03:13 PM BSexposer wrote:

> "Well, the author makes a reasonable assessment of the negative side
> of the balance sheet (even if a bit exaggerated in my view)"
>
> A "bit exaggerated"? C'mon, man - this guy is expecting another
> Great Depression. He's been 100% wrong [i.e., short] all along w/r/t
> WFC [just look at his prior blog entries] and now he's desperately
> trying to convince people of doomsday scenarios to save his short
> position. Sorry, but it's not going to happen. WFC will be at $75
> within 5 years.

Sep 22 04:40 PM

[David W:]

"a universal language no one understands." Pardonu min? Pli-malpli du milionoj da personoj parolas Esperanto!

Excuse me? More or less two million people speak Esperanto!

Vizitu / visit esperanto-usa.org for info.

Dankon! Thanks!

Sep 22 08:03 PM

[Mark Bern:]

You can all argue about the balance sheets and cash flows until the cows come home. Me? I only trust what I see in the real world. Let me relate to you what I know (not speculation).

I buy distressed houses. I travel a lot. I drive by a lot of homes with mortgages on them that I wouldn't pay $1,000 for because the expense required to refurbish them would be more than the price for which they might sell. I learned that lesson the hard way.

How do these properties get into such ill condition? Individuals and gangs break in the doors (destroying the door jams) or just break out windows, enter, strip everything of value (copper water lines, electric wiring, cabinets, appliances, fixtures, windows, siding, sinks, tubs, etc.). Then, for good measure, they often pound holes in the walls and ceilings for good measure.

The other way in which homes get into bad condition is through owner neglect. Many needed roofing work years ago; gutters have fallen off, the fascia and soffits are missing or badly weathered. Windows are broken and the water is getting in to destroy ceilings, walls and floors. If a house sits vacant for more than three years (and many mortgaged homes do before the banks take possession) after being neglected for five or ten years previously, they can become virtual money pits.

The problem is that banks are ignoring the assets that underlay their mortgages and equity loans. I drive by hundreds and thousands of such properties in my travels. And most have liens or mortgages held by banks. When the grass gets over a foot tall and a window or door is standing open, it is obviously vacant. I am seeing more homes in this condition than ever before. I am currently looking over a list of properties in one county that are going to be auctioned for taxes, sewer, and water liens. There are over 11,000 properties listed. In one county. There are probably less than 600 at which I will take a look. Through brief inspection, I will eliminate at least 400 of those. The ones I don't look at cost too much for very little value.

Another county in another part of the country was recently trying to auction over 21,000 parcels. For most of these properties, the delinquent taxes have mounted up over several years along with penalties and interest and other municipal liens (water, sewer, even grass cutting for $140 or more a pop).

My point? The banks are carrying the mortgages on these dumps at full or near full face value, even when they have stopped performing. The banks are also ignoring the fact that it will be prohibitive to foreclose because they will have a negative return on their investment if they do. There are hundreds of such properties in nearly every county of some Midwestern states. They number in the thousands in some of the larger counties and cities. Properties in California, Florida or Nevada may not have deteriorated to this degree yet. Give it a couple more years. They will. Too many of the banks have their proverbial heads in the sand. When they raise up to look around, the damage could be much more significant than they could dream.

This is not a prophesy I want to come about. It kills me every time I drive by another house like that. Winter is coming and the elements will drive more squatters inside the abandoned homes. They will light fires in the middle of a room in an attempt to cook and keep warm. They'll do their best to contain the fire, but sometimes they will fail. Poof! I've seen as many as four or five houses gutted by fires in a single block, many times in many blocks, in many cities.

It's worse in the low and middle income areas than MSM or our leaders are letting on. And, from what I am witnessing, it looks like it will get even worse before it gets better.

And that's our report from out on the street. Good night!

Sep 22 08:34 PM

[Mayascribe:]

Adiposity and Mattzn: Over the past year, I have spoken here several times with my Wells Fargo Senior Advisor about Well's M2M exposure. I do not need to redo what the both of you have so excellently written, only to tell you from an inside source, that Wells will be out of this mess within the next 40 months. That's what my broker says. I have numerous times written about Wells in my comments about how fabulous and highly connected he is within Wells. So, I'm not going to rehash old news.

At least six weeks ago my broker called this surge to keep on surging, puttting the screws to the shorters and underperforming hedgefunds, who have missed this rally. He put it like this: "The hedgies are like a Christian Scientist with a broken appendix. Sooner or later they will be forced to get in." Finally, in the last two weeks, the Street is finally seeing what he knew way before they did.

Certainly a snapshot of Wells" balance sheet shows a big mess. But, this author has completely missed Wells' earnings power, huge deposit base, that they dominate new mortgages, and yes, that they can always have another offering, if need be. My broker has Wells being a $50 to $60 stock within the next forty months. He knows what he's doing.

Bank on it.

Sep 22 09:24 PM

[Mayascribe:]

Mark: Conspiracy Theory 101: Maybe the banks themselves are lighting them on fire!

Maybe it's the insurance companies we should be more worried about. Surely, homes taken over by banks are insured, are they not. You would know better than me.

Something you wrote to me over on The Burning Platform is bugging me, in a good way. I have to get an email out to you about the matter. History-wise, we may have something in common.

Sep 22 09:30 PM

[Mark Bern:]

Maya - Usually these houses are no longer covered by insurance. The escrows for taxes and insurance have been delinquent for two years or more and the banks don't own them yet. They still hold a mortgage but the underlying asset goes up in smoke. Voila! No asset!

Sep 22 09:53 PM

[Hmm?!:]

I believe the author's point was....no matter how much leeway you give for the possbility of mistakes.....there is absolutely no way Wells Fargo can be worth $28 a share.


On Sep 22 10:12 AM BSexposer wrote:

> "I have spent weeks pulling apart their balance sheet "
>
> Hmmm, OK, can't wait to see what you found out...
>
> "And what I present below may include mistakes ..."
> "I gave it a shot using my fourth grade math"
> "I think, I am not sure, don't quote me"
> "the company assumes future losses...in a manner I literally cannot
> fathom "
> "Do they think we are stupid? Yes - and they are pretty much right"
>
> "It is hard to imagine they will duplicate the $3 billion in mortgage
> origination fees they had in 2Q - and even if they pull it off in
> Q3 it should not happen in Q4"
>
> Uh, OK. So you DON'T understand WFC. Thanks for playing, dolt.

Sep 22 10:27 PM

[Hmm?!:]

Mayascribe,

So basically you are saying in about 3.5 years Wells will have paid off THEIR debts.

First off there is another round of foreclsoures to go (mortgage liquidity du jour, By Credit Suisse) and Wells Fargo was number one in low/no doc mortgages (same source). So there are are going to be a lot more debts to be paid off, before Wells can in fact make some cashflow that could actually go to shareholders.

This of course with the second shoe of commercial real estate still to fall. And the first shoe still in a downward, but slower drop. How could anyone know for sure......how much this will cost after the government props fade.

In the meantime 4, 5 or 10 years, apparently Wells won't need to invest in any changes. A completely changing landscape contains no risk for Wells. Eventually you will make money from this great deal, because your broker....... who only makes money if you buy something told you so.

On Sep 22 09:24 PM Mayascribe wrote:

> Adiposity and Mattzn: Over the past year, I have spoken here several
> times with my Wells Fargo Senior Advisor about Well's M2M exposure.
> I do not need to redo what the both of you have so excellently written,
> only to tell you from an inside source, that Wells will be out of
> this mess within the next 40 months. That's what my broker says.
> I have numerous times written about Wells in my comments about how
> fabulous and highly connected he is within Wells. So, I'm not going
> to rehash old news.
>
> At least six weeks ago my broker called this surge to keep on surging,
> puttting the screws to the shorters and underperforming hedgefunds,
> who have missed this rally. He put it like this: "The hedgies are
> like a Christian Scientist with a broken appendix. Sooner or later
> they will be forced to get in." Finally, in the last two weeks, the
> Street is finally seeing what he knew way before they did.
>
> Certainly a snapshot of Wells" balance sheet shows a big mess. But,
> this author has completely missed Wells' earnings power, huge deposit
> base, that they dominate new mortgages, and yes, that they can always
> have another offering, if need be. My broker has Wells being a $50
> to $60 stock within the next forty months. He knows what he's doing.
>
>
> Bank on it.

Sep 22 11:03 PM

[Stockmajor:]

MattZN, I just took the time to read back through most all of your prior comments, and I must say that I'm impressed. You have been spot on in your opinions. You really know what your talking about. I'd like to hear if you still think Citigroup is a zombie or if your more bullish about them now. You can reach me at stockmajor at yahoo.com. Thanks for your time.


On Sep 22 04:40 PM MattZN wrote:

> Heh. Ok, more then a bit exaggerated. I'm trying to be P.C. But extremism
> is something that can work both sides of the equation. It pays to
> take a more practical approach to analysis which removes both emotion
> and preconceptions.
>
> Wells is going to take large losses on their loan portfolios, that
> is certain. If they were NOT going to take massive losses their stock
> price would be north of $100 now just from the revenue flow. The
> concept of Wells taking large losses is already built into the stock
> price. What is not built in, and what people do not really know,
> is how those losses balance against current and future revenue flows.
>
>
> Trying to account for these losses all in a single year is even more
> extreme then what the author is accusing the bank of doing with their
> creative accounting. Interest-only payments on an option-arm can
> be calculated ten different ways. The concept of 'principle' is no
> more real then anything else. There's the cash the bank paid out,
> and the cash the bank got back, the time-value of money, and the
> resale value of the property. Those are the only hard realities when
> it comes to loan portfolios.
>
> From a business standpoint, Wells is sitting on an actual monopoly
> position in ALL of its areas of interest. It is completely protected,
> probably for the next decade at least. Even a government mandated
> breakup, were it to occur, would not have much of an effect on stockholders.
> No other bank has even a remote chance of interfering with Wells
> Fargo's business model now. That might not be a good thing for consumers
> but it's great position for Wells Fargo to be in.
>
> On Sep 22 03:13 PM BSexposer wrote:

Sep 22 11:53 PM

[Mayascribe:]

HMM?!: You completely dismissed my point. Wells has tremendous and undeniable earnings power. They also trade stocks, another vehicle toward earning their way out of the Wachovia real estate mess, thanks, in part to TARP. Why should Wells be in any hurry to pay TARP back, when they can use our money to make money in this rising market? Talk about being shareholder friendly!

Though, hints are, that Helicopter Ben may be addressing this matter tomorrow.

Did you skip by Adiposity and Mattzn's comments?

Very curious as to why the author isn't stepping up and making a comment?

Sep 23 11:04 AM

[DonFurio:]

I took a look back at some of his articles and he's been wrong a lot. On WFC in particular, I don't think he truly understands how big the earnings power is and how Wells practically doubled in size overnight and paid next to nothing (Wachovia acquisition). Yea, there are some bad loans, but remember that some of these loans can be sold / repackaged if the price is right. WFC has always commanded a premium because they cross sell better than anyone else, and traditionally their earnings have been much less volatile than anyone else.

People were writing tons of articles about GS's level III assets when the stock was at $60.00 and to short GS, but they were very wrong as the stock more than tripled.

The bottom line is that WFC was only $8.00 this year because idiots like the author and other talking heads who never ran a business were trying to get the gov't to nationalize the banks. They didn't and guess what it's been an awesome ride for all of us that bought the financials this year.

On Sep 22 03:13 PM BSexposer wrote:

> "Well, the author makes a reasonable assessment of the negative side
> of the balance sheet (even if a bit exaggerated in my view)"
>
> A "bit exaggerated"? C'mon, man - this guy is expecting another Great
> Depression. He's been 100% wrong [i.e., short] all along w/r/t WFC
> [just look at his prior blog entries] and now he's desperately trying
> to convince people of doomsday scenarios to save his short position.
> Sorry, but it's not going to happen. WFC will be at $75 within 5
> years.

Sep 23 11:19 AM

[JackRuby:]

You don't understand banking...and this report is filled with numerous errors!

WFC will earn $20 Billion in 2011. It is the best managed bank in the world. They have the most diversified revenue stream in the industry, and the best controls. Any risk in WFC is related to the purchase of Wachovia. They spent extra time in due diligence and have the issues identified, and reserved for on the balance sheet. I bought 200 shares at $7.99.....and will hold until the stock hits $75 in 2011-12.

Sep 23 12:08 PM

[MattZN:]

Hmm. I think I probably come off as rather combative in my posting history, because I really hate it when pundits write about companies in such a one-sided, non-objective manner. That gets me typing like nothing else. But the key here is that I only post (and act) on what I think I know with relative surety. I will be the first to say that I DO NOT KNOW where the market is going to go short-term from here.

I do think Citi is a zombie, but more importantly I do not think it is possible to 'invest' in it. Speculation levels are far in excess of actual investment so there's no point even touching it in my view. Investors often get cornered by speculative names when they see huge runups. Citi and AIG are good examples. You get speculators flocking to the names but it doesn't mean they are good investment opportunities. You would never see me invest OR speculate in Citi. People who play that game universally lose in the end, either by paying tax through the nose on short term investments, or screwing up on the trailing side of the market action by not realizing just how quickly those sorts of securities can crash back down.

I'm worried about the Fed action. I think they need to start pushing up interest rates. Slowly. Trying to ease much beyond what they have done already (which I support! It had to be done to avoid another great depression)... but doing it too much longer could result in disastrous inflation down the line.

There were many very obvious things going on in both the banking and the energy spaces from late 2008 through early 2009... obvious to people who actually knew the spaces. The media was not only getting their information wrong, they were getting it ass-backwards. I was flabbergasted at the number of people who thought the MLP space would go bankrupt simply because Oil prices had crashed, or who thought they wouldn't be able to raise capital for projects in that environment. Anyone who knew the space (and particularly how the space raises capital for new projects) would have known that the industry would have no trouble navigating it.

Financials had similar issues. All the banks were being thrown into the same sink by the pundits, with no differentiation. It was amazing to watch Wells get thrown into the same bucket as Citi.

Even now many pundits believe that Wells is playing games with off-balance sheet activities. Wells had virtually NO off-balance-sheet stuff prior to the Wachovia purchase. They don't believe in crap like that. They haven't suddenly switched to a more risky business operations profile. They are simply digesting Wachovia, and considering the size of the purchase it would be utterly ludicrous to expect Wells to be able to clear it all out and integrate it into their financials proper in a mere 1 year (or even 2 years).

The reason my portfolio is doing well is not that I predicted the crash, because I didn't. I held my DIA and SPY from Dow 14000 to 7000. I didn't sell one share (and still haven't). And yet my portfolio is fully recovered now. Not from the things I couldn't predict, but from the things I could. Being well diversified (and nicely risk-diversified too, by not using leverage) gave me plenty of positions I could sell well after the crash, positions which had not crashed along with the market, to build cash to invest. I then sector-shifted around new-years and went from 30% cash to nearly zero. And now I am rediversifying, paying special attention to risk.

And yet, those situations were very specific to the market as it was in the months around new-years. I CANNOT predict where those sectors will go in the current market. I would never go all-in again with the market in its current state. Times have changed. At the same time I feel quite comfortable, while I am de-concentrating and rediversifying, keeping Wells Fargo and numerous securities in the MLP space at significant investment levels for the next several years. I am comfortable holding my DIA and SPY (I invested more in it once it had dropped below 8000 so the DIA position at least is also nearly recovered just on its own)... I like the world economic exposure that the large-caps have which provides them some protection against a falling dollar.

If I can leave people with some advise it would be to wake up and realize that most companies these days have some level of world wide exposure, and if you don't know what that is or take it into account you are going to make some horrible investing decisions down the line. The 'dollar' is meaningful to the modern investor about as much as the 'yen' is. In fact, my preference is to see the dollar further weaken significantly as that would give a huge boost to our agriculture exports (something California desperately needs), not to mention tech exports, and a weak dollar reduces the prospects of inflation. Our heavy industry may be screwed to high heaven but we have plenty of things to export in other sectors. A strong dollar is the enemy right now.

On Sep 22 11:53 PM Stockmajor wrote:

> MattZN, I just took the time to read back through most all of your
> prior comments, and I must say that I'm impressed. You have been
> spot on in your opinions. You really know what your talking about.
> I'd like to hear if you still think Citigroup is a zombie or if your
> more bullish about them now. You can reach me at stockmajor at yahoo.com.
> Thanks for your time.

Sep 23 04:16 PM

[Mayascribe:]

Mattzn: Good comments in this thread. You have a new follower.

Sep 23 05:09 PM

[JCC:]

Your analysis is thought provoking. Warren Buffett was quoted as referring to Wells Fargo with the following:

"If I had to put all of my net worth into one stock, that would be the stock."

Of course, that was when WFC was ~$9 per share. Today it is close to $30. That aside, he has invested ~20% of Berkshires portfolio in WFC. Probably very few know more about WFC's balance sheet than does Warren. As far as I know Berkshire is holding tight on WFC, and I really think based upon this, that it is still a great investment.

Sep 23 07:14 PM

[Stockmajor:]

Thanks for the input. Sincerely appreciate it.


On Sep 23 04:16 PM MattZN wrote:

> Hmm. I think I probably come off as rather combative in my posting
> history, because I really hate it when pundits write about companies
> in such a one-sided, non-objective manner. That gets me typing like
> nothing else. But the key here is that I only post (and act) on what
> I think I know with relative surety. I will be the first to say that
> I DO NOT KNOW where the market is going to go short-term from here.
>
>
> I do think Citi is a zombie, but more importantly I do not think
> it is possible to 'invest' in it. Speculation levels are far in excess
> of actual investment so there's no point even touching it in my view.
> Investors often get cornered by speculative names when they see huge
> runups. Citi and AIG are good examples. You get speculators flocking
> to the names but it doesn't mean they are good investment opportunities.
> You would never see me invest OR speculate in Citi. People who play
> that game universally lose in the end, either by paying tax through
> the nose on short term investments, or screwing up on the trailing
> side of the market action by not realizing just how quickly those
> sorts of securities can crash back down.
>
> I'm worried about the Fed action. I think they need to start pushing
> up interest rates. Slowly. Trying to ease much beyond what they have
> done already (which I support! It had to be done to avoid another
> great depression)... but doing it too much longer could result in
> disastrous inflation down the line.
>
> There were many very obvious things going on in both the banking
> and the energy spaces from late 2008 through early 2009... obvious
> to people who actually knew the spaces. The media was not only getting
> their information wrong, they were getting it ass-backwards. I was
> flabbergasted at the number of people who thought the MLP space would
> go bankrupt simply because Oil prices had crashed, or who thought
> they wouldn't be able to raise capital for projects in that environment.
> Anyone who knew the space (and particularly how the space raises
> capital for new projects) would have known that the industry would
> have no trouble navigating it.
>
> Financials had similar issues. All the banks were being thrown into
> the same sink by the pundits, with no differentiation. It was amazing
> to watch Wells get thrown into the same bucket as Citi.
>
> Even now many pundits believe that Wells is playing games with off-balance
> sheet activities. Wells had virtually NO off-balance-sheet stuff
> prior to the Wachovia purchase. They don't believe in crap like that.
> They haven't suddenly switched to a more risky business operations
> profile. They are simply digesting Wachovia, and considering the
> size of the purchase it would be utterly ludicrous to expect Wells
> to be able to clear it all out and integrate it into their financials
> proper in a mere 1 year (or even 2 years).
>
> The reason my portfolio is doing well is not that I predicted the
> crash, because I didn't. I held my DIA and SPY from Dow 14000 to
> 7000. I didn't sell one share (and still haven't). And yet my portfolio
> is fully recovered now. Not from the things I couldn't predict, but
> from the things I could. Being well diversified (and nicely risk-diversified
> too, by not using leverage) gave me plenty of positions I could sell
> well after the crash, positions which had not crashed along with
> the market, to build cash to invest. I then sector-shifted around
> new-years and went from 30% cash to nearly zero. And now I am rediversifying,
> paying special attention to risk.
>
> And yet, those situations were very specific to the market as it
> was in the months around new-years. I CANNOT predict where those
> sectors will go in the current market. I would never go all-in again
> with the market in its current state. Times have changed. At the
> same time I feel quite comfortable, while I am de-concentrating and
> rediversifying, keeping Wells Fargo and numerous securities in the
> MLP space at significant investment levels for the next several years.
> I am comfortable holding my DIA and SPY (I invested more in it once
> it had dropped below 8000 so the DIA position at least is also nearly
> recovered just on its own)... I like the world economic exposure
> that the large-caps have which provides them some protection against
> a falling dollar.
>
> If I can leave people with some advise it would be to wake up and
> realize that most companies these days have some level of world wide
> exposure, and if you don't know what that is or take it into account
> you are going to make some horrible investing decisions down the
> line. The 'dollar' is meaningful to the modern investor about as
> much as the 'yen' is. In fact, my preference is to see the dollar
> further weaken significantly as that would give a huge boost to our
> agriculture exports (something California desperately needs), not
> to mention tech exports, and a weak dollar reduces the prospects
> of inflation. Our heavy industry may be screwed to high heaven but
> we have plenty of things to export in other sectors. A strong dollar
> is the enemy right now.
>
> On Sep 22 11:53 PM Stockmajor wrote:

Sep 24 11:52 PM