Washington Mutual: Good, Bad and Ugly On Quarterly Earnings

The Good:

Washington Mutual (WM) Grew Accounts

* Mitigating factor: Interest-bearing deposit costs seem to be growing faster than other banks.

The Bad:

The Numbers:

* Missed consensus, by a lot, everywhere.

Credit quality deteriorated:

* NPA’s rose 69 bps to 62 bps in 3Q as the resident mortgage book saw an 11 percent increase in NPA.
* Compounding this: It would have been worse if WM did not transfer $403 million of higher risk credit card accounts to HFS.

The Ugly:

Reason for the earnings miss:

* NIM compression.
* Flat yield curve: Rise in short term rates drove up funding costs. ARMS reprice with lag. Led to NIM compressing even greater than expected.

Result:

* Drop in long-term rates resulted in a revaluation of the company’s mortgage servicing rights greater than its hedges could offset.
* I do not think that WM is the only bank facing this issue (JP Morgan (JPM) showed some of this, but had a broader business line to cushion blow. Regionals and mortgage lenders do not have this luxury and should start showing misses)

Bottom-line: It was a really bad quarter. Analysts will take down numbers, more interestingly, reading through reports, it actually has the lot rethinking the NIM compression questions. Most are starting to become bearish (as if they didn’t know this was going to happen). The same trends that appear under the ugly section at WM, will be present at any mortgage lender or non-diversified financial. For my firm's stocks, any of the regionals will/should face pressure, as should H&R Block (HRB)—if there isn’t a blow-up, there should at least be earnings problems.

Steve Zausner also contributed to this article.