Home lending woes bite Wall St.
As foreclosures on sub-prime mortgages mount, the market for such loans is taking a bite out of Wall Street earnings.
During the housing boom, the sub-prime sector helped fan record earnings at the major investment banks. But on Thursday, Goldman Sachs Group Inc. and Bear Stearns Cos., two of Wall Street’s biggest sub-prime players, reported weak quarterly results that they blamed partly on their exposure to mortgages issued to people with bad credit.
The earnings reports came the same day that the Mortgage Bankers Assn. said foreclosures rose in the first quarter, particularly on sub-prime loans in California and other former housing-boom states. The rate of sub-prime adjustable loans entering foreclosure soared to a record.
As these once-sizzling markets cool, speculators who bought homes with little or no money down are abandoning them because faltering prices make it impossible to “flip” the properties for a profit, said Doug Duncan, senior economist at the mortgage association.
And in a development that could worsen the crisis, home-loan giant Freddie Mac reported Thursday that interest rates on 30-year fixed-rate loans had jumped to an average of 6.74%, their highest level in 11 months. The increase could boost defaults by making it more difficult for homeowners in distress to buy time by refinancing.
Sub-prime lenders make loans to people with blemished credit, heavy debt loads or little equity in the property.
Rising defaults by borrowers have forced dozens of sub-prime firms to file for bankruptcy, put themselves up for sale or simply shut down.
“The reports we’re seeing from the investment banks are the culmination of troubles we’ve been seeing in these [sub-prime] markets for several months,” said James Bianco, president of Bianco Research in Chicago.
Goldman reported a 1% rise in earnings for its fiscal second quarter, which ended May 25. Revenue at its fixed-income division sagged 24%, in part because of sub-prime weakness.
Excluding a one-time charge, profit slipped 10% at Bear Stearns in its fiscal second quarter, which ended May 31. Its fixed-income revenue was down 21% because of “challenging market conditions” in the sub-prime sector, the firm said.
“The sub-prime business continues to be weak. We haven’t seen the bottom of the market,” David Viniar, Goldman’s chief financial officer, said in a call with reporters. “There will be more pain.”
Goldman shares fell $7.89, or 3.4%, to $225.75. Bear Stearns shares edged up 11 cents to $149.60.
Wall Street emerged as a huge force in the sub-prime market in recent years.
Investment banks lent money to sub-prime companies that were used to make mortgages. The banks also bought loans from the firms and packaged them into sophisticated mortgage-backed securities. The Wall Street firms also were heavy traders of mortgage bonds.
But now the sub-prime business is mostly a headache for Wall Street.
Bear Stearns is said to be trying to dump a huge chunk of sub-prime bonds that have caused sharp losses at a hedge fund it runs. A Bear Stearns spokesman declined to comment.
Some analysts said Wall Street’s sub-prime woes would continue, especially given the recent jump in interest rates. Rising rates could prompt increased defaultsby cash-strapped borrowers.
The sub-prime market is not a dominant part of the investment banks’ business, said Gary Gordon, analyst at independent research firm Portales Partners in New York. “But that portion of their business is going to be pretty painful for an extended period of time.”
For the quarter, Goldman earned $2.33 billion, or $4.93 a share, up from $2.31 billion, or $4.78 a share, a year earlier.
At Bear Stearns, profit slipped 33% to $361.7 million, or $2.52 a share, from $539.3 million, or $3.72 a share. Excluding a $227-million charge to cover the diminished value of its “specialist” trading business, profit fell 10%.
At the other end of the mortgage food chain, the rate of loans entering foreclosure in January, February and March was 0.58% nationwide, up from 0.54% in the fourth quarter of 2006, the mortgage bankers group said. Foreclosures on sub-prime adjustable-rate loans -- the “exploding” mortgages on which payments rise sharply after two or three years -- rocketed to 3.23%, a record, from 2.7%.
The increases weren’t uniform across the country, said Duncan, the association’s economist. In fact, 24 states saw a decline in foreclosure starts.
The entire increase can be attributed, he said, to California, Nevada, Arizona and Florida -- states where many speculators “are walking away from properties now that home prices have started to fall” and the payments on their adjustable-rate mortgages are going up.
During 2005 and much of 2006, Duncan said, investors proved so hungry for mortgage-backed bonds that Wall Street was able to sell interests in pools of unusually risky loans, including those to borrowers with poor credit who put no money down and were allowed to state their incomes without proof. Lenders obligingly filled that demand by writing ever-riskier mortgages.
Many of the loans now going into foreclosure were made as the home market peaked -- and covered 100% of the value of the properties at the time, Duncan said. No-money-down mortgages traditionally were given only to people who planned to live in the homes and weren’t just hoping for a quick resale at a profit.
But the sub-prime frenzy generated so much mortgage business that it became difficult for lenders to check, Duncan said. He added that many loans were made on homes that ostensibly were to be “owner occupied” -- but no one ever moved in.
As those homes go into foreclosure and are put back on the market, the extra volume of “for sale” houses is further depressing prices, Duncan said.
scott.reckard@latimes.com
The Associated Press was used in compiling this report.
