Downey, once solid, now at risk
When banks were failing in the 1980s, federal regulators turned to Downey Savings & Loan, a quietly successful, conservative Orange County institution, for help.
Butterfield Savings & Loan of Costa Mesa was one of hundreds of thrifts that fell apart after growing too fast and playing too loose in a newly deregulated market. When it crashed, it crashed hard. And the Federal Home Loan Bank Board appointed Downey executives to run Butterfield, hoping that it would help calm panicking customers and investors.
More than two decades later, Downey may now be the one that needs help.
Downey’s portfolio is laden with the kinds of risky mortgage loans that helped trigger the collapse of Countrywide Financial Corp. of Calabasas and IndyMac Bank of Pasadena. Investors have turned on the bank, sending shares of parent company Downey Financial Corp. down 91% this year. The stock rose 21 cents Wednesday to $2.73.
When the Newport Beach-based company reports its second-quarter earnings, expected today, analysts will be watching closely for clues to Downey’s ability to survive the mortgage banking meltdown.
“If the earnings are even more of a disaster than what we’ve seen so far this year, there will be a big question mark over Downey’s future,” said Bert Ely, a financial institutions consultant in Virginia who follows Downey.
The dollar value of so-called nonperforming assets, which are mainly loans that are going unpaid and are a key measure of potential trouble, has grown dramatically to more than 14% of Downey’s assets, from less than 2% a year ago. Most banks typically have fewer than 1% of their assets tied up in bad loans.
Downey executives and board members did not return repeated calls for comment.
Downey was founded in 1957 by a mortgage banker, Gerald H. McQuarrie, and a home builder, Maurice McAlister, with the idea of providing loans quickly to businesses and home buyers who had good credit. McQuarrie died in 1992, but McAlister remains as the chairman of the board and holds a 20% stake in the company.
The company went public in 1971 and maintained its core business of offering loans and keeping most of them, even as banks such as Countrywide and IndyMac expanded exponentially by bundling loans into securities and selling them to investors.
Eventually Downey grew to an institution with $12.8 billion in assets and 174 branches, all but five of them in California.
“They stuck with what they knew, and it paid off,” said Allan Bortel, a financial analyst in Tiburon, Calif., who has followed the thrift industry for more than 40 years. “They were a very highly respected smaller shop who had the right strategies at the right time. But that’s all history, of course.”
As the housing market heated up starting in the late 1990s, Downey shifted course and joined other lenders in offering loans to borrowers with dented credit, and in particular adjustable-rate mortgages with low introductory teaser payments.
Many of these adjustable loans are now in default, as borrowers find they cannot afford to make their escalating payments and are unable to qualify for a refinancing.
“Downey needed to move with the market if it wanted to stay in business,” said Fred Cannon, the chief equity strategist for Keefe, Bruyette & Woods Inc., a New York financial research firm that monitors Downey.
To shore itself up, Downey Savings’ parent company, Downey Financial, gave it $50 million, and its real estate subsidiary gave it $12 million before the end of June.
One ray of hope is Downey’s banking business. Countrywide and IndyMac grew mainly on the strength of their lending. In its first quarter, Downey Savings reported $10 billion in deposits, and it also owns most of its 84 stand-alone branches.
“Downey probably will have to make some cuts and close some branches, but it still has a lot of customers,” said Arthur Kraft, the dean of Chapman University’s business school in Orange. “That could be what makes the difference.”
At some of the Orange County branches this week, the scene was far different from the long lines of frantic people outside of IndyMac banks earlier this month. Typical were Rowland and Karen Rice, two retirees from Santa Ana who have banked at Downey for more than 15 years.
“We have never had a bank that has treated us like family the way this bank has,” Rowland Rice said.
His wife added: “If this bank fails, then we’re going back to the way things were in 1929, because this is a solid bank.”
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(BEGIN TEXT OF INFOBOX)
Downey Financial
* Headquarters: Newport Beach
* Founded: 1957
* Chief executive: Daniel D. Rosenthal
* Employees: 2,400
* Assets: $12.8 billion
* Total amount of deposits: $10 billion
* Total branches: 174
* Overview: Big option-ARM lender also made subprime mortgages; 14.3% of its loans
were in arrears as of May 31.
