Home Equity Loans Remain a Concern for Some Banks

by: Research Recap

While exposure to home equity losses alone will not likely cause negative rating actions for U.S. banks, it remains a significant concern for several banks, according to Fitch Ratings.

As institutions deal with losses in this as well as other lending segments, further loan losses will keep provisioning elevated and be a drag on historical earning levels.

Excerpts from U.S. Banks’ Home Equity Portfolios: A Revisit (Premium)

Home equity loans and lines past due 30-89 days or more have declined for 12 of the 20 institutions highlighted in this report. The highest level of delinquent loans were at regionally concentrated institutions in depressed real estate markets, including Citizens Republic (NASDAQ:CRBC) -Michigan- at 2.26% and BankAtlantic (NYSE:BBX) -Florida- at 2.14%. Both institutions have experienced increasing delinquent loans over the past year.

The next highest grouping includes the national lenders JPMorgan Chase (NYSE:JPM), Bank of America (NYSE:BAC) and Wells Fargo (NYSE:WFC) at 2.03, 1.99, and 1.55%, respectively. These institutions have experienced a declining trend year over year.

Of the 20 institutions, 17 reported a year-over-year increase in the percentage of loans on non-accrual. The highest level of non-accruals loans were at Bank of America, Citizens Republic, Wells Fargo, and SunTrust (NYSE:STI). Of these institutions, SunTrust was the only one showing a year-over-year decline (91 bps).

At year-end 2009, FDIC-insured institutions collectively held approximately $842 billion of junior liens and home equity loans, averaging almost 12% of total gross loans. Fitch stress analysis suggests that home equity losses could approach $65 billion in 2010 under a severe stress scenario. Fitch focuses on 20 publicly traded banks whose home equity exposure exceeds the 12% average and account for over 60% of total outstanding junior lien and home equity loans outstanding.

In aggregate, Fitch estimates losses for these 20 institutions could range between $20 billion-$40 billion, or 4%-8% with the 8% considered a more severe stress loss level. The analysis considers the elevated unemployment forecasts for 2010 and 2011; home price indices; and an assessment of combined loan-to-value (CLTV) of home equity loans and junior lien loans.

Most banking institutions are currently performing significantly better than Fitch’s stress scenarios. However, Fitch remains concerned that loss rates will remain elevated across most consumer portfolios in addition to anticipated higher losses in commercial real estate portfolios.

The mitigating rating factors are that through the credit crisis institutions have built substantial loan loss reserves and have augmented their capital positions. Furthermore, liquidity and funding profiles for most institutions have improved and are generally quite strong.