Bank United Non-Performing Loans Doubled in Fourth Quarter

BankUnited (BKUNA) Announces First-Quarter Results for Fiscal 2008: "BankUnited Financial Corporation today reported a loss of $25.5 million, or $0.73 per diluted share, for the quarter ended Dec. 31, 2007."

BankUnited non-performing loans more than doubled during the fourth quarter of 2007.

In this environment of rising delinquencies and falling collateral values, both Bank United and Downey are lowering their allowance for loan losses as a percentage of their non-performing loans.

BankUnited was a big option-ARM lender. Notice how more and more of their interest, and income, are coming in the form of non-cash negative amortization.


In theory, this could be OK. It all depends on whether the negative amortization balance will eventually be collected. I predict that it won't.

I think of them as the Downey of Florida, and you know how bearish I am on Downey. Florida has worse real estate markets than California.

Astonishing Inventory in Palm Beach County

From the Palm Beach Post:

In Palm Beach County, the supply of unsold homes - called "inventory" in real estate-speak - has risen to astonishing levels as the housing boom continues to go bust.

"Fifty-five months!" McCabe said.

Actually, there's a 57-month supply - nearly five years - of single-family homes in Palm Beach County, based on the current pace of sales, according to Illustrated Properties Real Estate. The South Florida brokerage tracks listings in the Regional Multiple Listing Service.

Does anyone know what the record is for a market that size?

BankUnited (BKUNA) Negative Amortization Update

Here are some quick notes I took regarding negative amortization at BankUnited (BKUNA) during the past couple quarters.




I'll write more on this later - I just wanted to post these statistics before I forgot.

I don't have as much anecdotal experience with BKUNA as I do with Downey. Please comment if you have anything to add.

Disclosure: Author is short BankUnited (BKUNA).

Why I'm Not Covering

Another violent bear market rally. The market should have tanked instead after the awful news this week:

• Citadel bought a portfolio of E*Trade's residential loans. "Citigroup investment bank analyst Prashant Bhatia said E*Trade actually received 11 cents on the dollar for its portfolio, if you factor in that the brokerage received $800 million in cash minus 85 million shares it issued."
  
• E*Trade operated a bank, and these were relatively high quality loans. "...73 percent of the assets were backed by prime mortgages, or loans to people with solid credit." Downey and BankUnited have arguably lower quality loans, but the market is pricing them much higher than what E*Trade sold their loans for.
  
• Florida municipalities invest cash in a state-run investment pool. It seems that they were invested in low quality securities, and now Florida Halts Withdrawals From Local Investment Fund. There was a run on the fund, and some lucky cities got out in time. But not Jefferson County - their CFO says "I might not be able to pay our employees tomorrow."
• The Treasury's scheme to have lenders restructure loans has been on the news constantly. Russ Winter points out:
  
• "How exactly does the New Hope Alliance secure the agreement of ten or fifteen MBS holders to lower coupons and terms. ... Credit insurance is also put on against default and against altered conditions. If somehow some MBS were restructured under new terms this would in turn trigger a wave of claims against the credit insurance written against this securities. Would the insurers (if even still around) agree to pay these claims? This scheme as it applies to the mountain of MBS in the marketplace is just too much of a tangled web to ever be seriously implemented."

Ever calm and rational, Gary North wrote a good explanation of the rally:

On Tuesday, November 27, the Dow Jones Industrial Average rose by 215 points. The next day, it rose by 330 points.

Why? ... The news had broken that morning of the offer by the government of Abu Dhabi to pay $7.5 billion for 4.9% of America's largest and most prestigious bank, Citigroup.

The stock fund managers started buying as soon as the news hit. The official interpretation: "This decision by Abu Dhabi indicates that America's largest bank is in good shape. This is the end of the subprime crisis."

Here is my interpretation: A small percentage of a gigantic pool of oil-generated capital, which is managed by government bureaucrats in a city-state whose nation did not exist as recently as 1970, was used to buy 4.9% of the largest bank in the United States because this purchase was perceived as a better deal than buying T-bills denominated in a falling dollar.

Another reason for the rally is the eager anticipation of another cut in the Fed Funds rate. Bespoke did a post showing the reaction of various sectors to the last three Federal Reserve interventions in our markets:

Oops! Similar results in the homebuilding sector, of course. Rate cuts aren't going to keep the lights on if you're a real business that made bad investment decisions.

I put together a chart showing the performance of the Credit Bubble Stocks from this blog. Each data series begins on the date the stock was first mentioned on the blog.

(Click for larger version.)
S&P and cash are included for comparison.
You can see that Fed interventions and mistaken bullishness have caused sharp rallies, but they are fleeting and reality quickly catches up with the market.

Comment on Journal Register Post

From the author of off the beaten path investments:

"your post on JRC was especially interesting to me as I have been watching the larger newspaper stocks for over a year but was not aware of JRC and its problems .....based on your post i am going to do my own work on JRC ....i am thinking about a long short trade ...going short JRC and MNI and long BLC and NYT"

My comment on newspaper stocks:

JRC was definitely the worst of breed. I covered JRC last week in the low 2.20s. I wouldn't want to own it but I would rather be short BKUNA.

I am actually short NYT. You should look into how the dual classes of stock allow the B share holders to finance their propaganda by leveraging capital of the ignorant institutional A share investors. Morgan Stanley recently realized this.

I don't think I would pair newspaper stocks as the entire sector is obsolete. Imagine being paired on adding machine companies when it became clear that computers would replace them.

Incentive Incompatibility at Mortgage Brokers

From a recent Washington Post:

"Maggie Hardiman cringed as she heard the salesmen knocking the sides of desks with a baseball bat as they walked through her office. Bang! Bang!

'You cut my [expletive] deal!' she recalls one man yelling at her. 'You can't do that.' Bang! The bat whacked the top of her desk. As an appraiser for a company called New Century Financial, Hardiman was supposed to weed out bad mortgage applications. Most of the mortgage applications Hardiman reviewed had problems, she said.

But 'you didn't want to turn away a loan because all hell would break loose,' she recounted in interviews. When she did, her bosses often overruled her and found another appraiser to sign off on it.

'There was instant notification to everyone as soon as you rejected a loan. And you dreaded doing it because you paid for it. Two guys would come with a bat, and they were all [ticked] off because you cut their deals.'

This sounds like something out of The Sopranos, except it was happening at the nation's third largest subprime lender, which wrote tens of billions in loans.

It's really not that surprising. This story could have come from a book about S&L Crisis I.

Marijuana Grow-Ops, Gutted Houses are Banks' Collateral

Here's a trend developing:

"California is in the midst of a major boom in large-scale marijuana cultivation operations run from inside homes... in middle-class and upscale suburbs, where the pot growers took advantage of cheap home financing — and minimal credit checks — to purchase homes and remodel them into sophisticated farms, authorities said.

Local authorities have discovered at least six indoor suburban pot farms in just the last month — including two this week in Rowland Heights.

Since last August, officials in Northern California have arrested 16 people and seized 50 suburban pot homes... linked to an Asian organized crime syndicate..."

It's left unstated, but when these houses get found the operators stop making the Option ARM payments and they end up being foreclosed. Typically they are severely damaged.

A related trend on the rise is foreclosed-upon homeowners who destroy "their" houses (either out of malice or in the process of stealing the appurtenances) on the way out the door:

"VIRGINIA BEACH - When Branson Barry saw the gated house off the Chesapeake Bay, he figured he could splash on a new coat of paint, lay new carpets and resell it for a profit.

So he bought the foreclosed house in July for $592,000 - as is. But the house at 2301 Beech St. is not what it was.

After the previous owner moved out last week, Barry found the house had been gutted of everything, including the bathroom sink.

Upstairs, the floor of the master bathroom resembled a quarry pit - crumbled, cracked and bare. Scraped chunks of marble left exposed white tile around the tub."

In this particular case, the bank was able to pawn the house off on an unsuspecting fixer-upper type. That will become more difficult if it turns out that a substantial number of foreclosures are gutted or former grow-ops.

Those are trends that increases the upside on the mortgage lender short plays. I mean, talk about increased loss severity.

Here's a suspicious fire that occurred in a CA house last week - the owner was about to be foreclosed. Lenders probably stand to benefit from suspicious fires assuming that the houses are probably insured for the principal balance on the first mortgage.

Savings & Loan Crisis I

New Century's financing was provided by its warehouse lenders: big investment banks. They pulled the plug once the subprime problem became obvious.

In contrast, the banks and S&L's mortgage portfolios are financed by depositors - owners of savings accounts or CDs. And these depositors needn't worry about what management is doing with their money, since the federal government guarantees that they will be made whole.

"The major indirect cost of deposit insurance comes from its potential to subsidize inefficient types of bank risk-taking. Deposit insurance undermines the incentives of depositors to monitor and police bank risk-taking. This is the problem of moral hazard..." (Kane 2002[pdf])

This problem of moral hazard has occured before:

"Back in the early 1980s when Ronald Reagan deregulated the savings and loan industry, Texas became the nation's biggest cesspool of S&L crookery. At the core of their thieving strategy was a little trick they described thusly: 'A rolling loan gathers no loss.'

"These wily Texas coyotes had figured out a win/win situation. S&L operators could help their buddies "borrow" money from their S&Ls, not pay it back, and still allow the S&L to book loan fees and other profits, upon which the S&L executives based their salaries and bonuses.

"Ah, you say, but wouldn't bank regulators notice that the loans were in default? No. Because each time a loan came due the S&L would "roll it over" -- renew it -- adding all interest due into the new loan and booking it as income. The loans got bigger and bigger, and never got paid off. The bankers got rich, the borrowers got rich, American taxpayers got the bill. A classic Texas "win/win" business deal."

This is from Stephen Pizzo's blog. He is the author of Inside Job: The Looting of America's Savings and Loans. There are a couple of choice pieces from the book:

"Of the 56 banks that failed in the U.S. between 1959 and 1971, 34 had passed their most recent examination in a 'no-problem' category, and 17 of the 34 had been given an 'excellent' rating." (Rep. St Germain, qtd in Pizzo p. 475)

"Buttoned-down appraisers, plugging along in boring jobs... learned that by simply raising their opinion of a property's value to match a borrower's needs or desires, they could raise their own standard of living as well - and the higher the opinion, the bigger the paycheck."

The parallels here are too numerous to count. Decades from now, it will be difficult to remember the difference between S&L Crises I and II.

Meanwhile, while I was on a long road trip and hence not posting, Cramer was pounding the table about these garbage stocks. Anyone who doesn't already know about his track record can look at this previous post.

I didn't make any trades as a result of the rally in these Alt-A stocks. You can look at the data coming in at the Crucial Credit/Housing Sites and see what is really going on.

Delinquencies Surge in DSL's and BKUNA's Markets

These are the 25 communities where the 30-day delinquency rate for all mortgages has increased the most since Q4 2005. (Take a look at the great dataset at the WSJ.)

Remember, this data includes all types of loans. That means that prime loans are probably bringing down the average, and the Alt-A and subprime delinquency rates are even higher than listed.



Modesto, Stockton, Vallejo, etc. - that's Downey Financial. Except their delinquency rate is probably significantly worse, because their portfolio is 88% stated or no-income, 85% option-ARM, etc.

And when you see those FL cities, think BKUNA.

Also note that DSL and BKUNA had Q4 operating cash flow of
-$100M and -$126M, respectively.

Quick Facts about BankUnited Financial Corp

Downey Financial is a great, pure play on SoCal Option ARMs. But what about other states?

BankUnited Financial (BKUNA) is a Coral Gables, FL based bank that primarily writes 1-4 family residential loans (84.7%), but also has home equity (3.3%) and land (2.8%) exposure.

Of the residential loans, FL represents 60.23%, with CA 6.06% and AZ 5.58%.

From a recent BKUNA investor presentation: "Tony Villamil echoed what we believe, Florida with it’s diverse economic influences and nationally leading population and job growth is the best banking market in the country."

Hmm. Is that claim sustained by the facts? "Florida had the most homes in the foreclosure process nationwide in February, according to RealtyTrac, which reported a two-fold year-over-year gain in delinquencies —more than 19,144 statewide." That is from the Florida Association of Realtors April newsletter. Per capita they have the 3rd most foreclosures.

Let's go to the 10-Q for a survey of facts:

87% of their 1-4 family residential loans are ARMs. 69.3% are option ARMs, 17.7% are non-option ARMs, the rest are fixed rate.

"The average LTV of the option ARM portfolio at inception was 73.67% with the adjustment for coverage of Private Mortgage Insurance (PMI)."

"Option ARMs represent 60.9% of BankUnited’s total loans outstanding as of December 31, 2006. ...Option ARM loans with a balance of $5.6 billion were negatively amortizing with approximately $129.7 million of their principal balances resulting from negative amortization. As of September 30, 2006, Option ARM loans with a balance of $5 billion were negatively amortizing with approximately $89 million of their principal balances resulting from negative amortization."

Their net income was $27M for 4Q 2006, but negative amortization balances increased by $40.7M. NegAm was 151% of net income.

BKUNA has a 115% cap for negative amortization.

"Upon reaching this limit the monthly payment increases to require full repayment of principal over the remaining term of the loan. The borrower has other options that would allow him to pay interest only or a higher amount that would reduce the outstanding loan balance in any month."

Risks to the trade:

• Watch out, because BKUNA sells for a bargain basement 0.98 P/BV ratio.

Fil Zucchi has a post on BKUNA at Minyanville.