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Monday, April 13, 2009

Wells Fargo: Earnings Quality

FN: Some more color on the miraculous monster profit over at Wells Fargo (WFC) last week that so inspired the markets.

Wells Fargo May Need $50 Billion in Capital, KBW’s Cannon Says: “Wells Fargo & Co., the second- biggest U.S. home lender, may need $50 billion to pay back the federal government and cover loan losses as the economic slump deepens, according to KBW Inc.’s Frederick Cannon.

KBW expects $120 billion of “stress” losses at Wells Fargo, assuming the recession continues through the first quarter of 2010 and unemployment reaches 12 percent, Cannon wrote today in a report. The San Francisco-based bank may need to raise $25 billion on top of the $25 billion it owes the U.S. Treasury for the industry bailout plan, he wrote.”

FN: So, apparently WFC may need $50 billion more in capital. As of today’s close, WFC has a Market Cap of $82.89 billion. $25 billion would is 30% of $82 billion. Raising that much money in a secondary offering would be hugely dilutive and severely punish current shareholders. Raising another $25 billion to pay back TARP money early would be next to impossible.

“First-quarter net income rose 50 percent to about $3 billion, Wells Fargo said last week in announcing preliminary results that topped the most optimistic Wall Street estimates and sparked a 32 percent jump in the stock. The bank attributed the profit to a surge in mortgage originations and revenue from Wachovia Corp., acquired in December. Full results are scheduled for April 22.

“Details were scarce and we believe that much of the positive news in the preliminary results had to do with merger accounting, revised accounting standards and mortgage default moratoriums, rather than underlying trends,” wrote Cannon, who downgraded the shares to “underperform” from “market perform.” “We expect earnings and capital to be under pressure due to continued economic weakness.”

Wells Fargo raised its provision for loan losses by $4.6 billion in the quarter, below Cannon’s estimate of $5.4 billion. FBR Capital Markets analyst Paul Miller wrote after the announcement last week that he expected a $6.25 billion increase.”

FN: Basically accounting gimmicks and low loan loss provisions gave the earnings a good old fashioned pump. On top of that, default moratoriums (which have since expired) skewed the numbers a bit.

New bull market? Or rip your face off bear market rally?

“Net charge-offs were $3.3 billion in the quarter, compared with $2.8 billion in the previous period at Wells Fargo and $3.3 billion at Wachovia. The current numbers are artificially low because consumers received tax refunds and a there was a moratorium on some mortgage defaults, wrote Cannon, who predicts a “re-acceleration” of charge-offs in the second quarter.

The ability of Wells Fargo and 18 other U.S. banks to withstand further economic deterioration is being determined by the government’s stress tests, which will be completed by the end of April. Treasury Secretary Timothy Geithner expects that some lenders will require “large” amounts of capital.

While Wells Fargo is likely to pass the test, regulators may “push for higher capital levels,” wrote Credit Suisse analyst Moshe Orenbuch in New York, who initiated the shares with a “neutral” rating today.

“Given rising unemployment, continued home price declines and general macroeconomic headwinds, WFC’s consumer and commercial portfolios remain at risk for meaningfully higher credit losses over 2009 and 2010,” Orenbuch wrote.

Wells Fargo fell 36 cents, or 1.8 percent, to $19.25 at 2:22 p.m. on the New York Stock Exchange. It has dropped 35 percent this year. Wells Fargo trails only Bank of America Corp. in U.S. home lending.”


wunsacon said...

Yeah, these guys want to pay back the TARP and don't mind diluting existing shareholders. Gee, why is that? It's all about the bonuses, me thinks.

Let's face it: "Wall Street is mad as hell and they're not going to take it anymore!"

EDC said...


Thanks for the post, also enjoy the FN Highlights.

Anonymous said...

Ben - you are on a role dude. Good articles. Suckers getting drawn in for one good more blowoff top while the crooks at Goldman run up the market.

You can feel the suckers making a wheezing sound as the wind gets sucked out of them and the bulls flip to the short side of the trade.

Anonymous said...

3 words:

New Bull Market

Doug said...

This may be an orangutan rally which will "rip your eyes, nose, ears, jaw and hands off" but on the other hand, some of these bank stocks are trading for 20% of their peak (i.e. are handless, eyeless noseless). At this point, I'm just not that afraid that their jaw will be ripped off. I mean, some of the banks' share prices are less than they were from 11/08 - 1/09, when it was not clear whether our financial system would pull through. Now it looks like our financial system has survived but has a long recovery. I must be longer-termed in my approach but the risk actually feels less at this point.

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