During the Chase investor day last week, Charlie Scharf (CEO of Retail Financial Services) made comments that were as good as I’ve heard in probably two years. Scharf suggested he can see the peak of home equity losses. That’s not all, Scharf also said he also sees a bottom forming in the California market. If I was just dreaming, please don’t wake me!
Scharf sounded more like a Chief Credit Officer than the head of retail banking. Scharf spent the majority of his time speaking about the credit performance of the company’s roughly $300 billion residential portfolio. Nearly one third of that portfolio is home equity. For 2009, the company said quarterly losses could range from $1.1 - $1.4 billion – the primary determinant of which will be home price depreciation.
Scharf echoed views we’ve heard before – that consumer behavior changes significantly when the underlying equity in the home turns negative. Effectively, why continue making the payment on the home when it is worth less than you owe? For the fourth quarter, those home equity loans with the highest original combined loan to value ratio (90 – 100%) accounted for only 15% of balances, but 55% of losses.
Scharf believes Chase may be at or near the peak of home equity losses as the amount of loans moving into a negative underlying equity position begins to slow. The percentage of the Chase home equity portfolio with zero or negative underlying equity rose from 3% in January 2007 to 27% (>$25 billion) by the end of 2008. Scharf estimates that the amount of loans migrating into that negative equity bucket has already peaked and will shrink by nearly 50% in the second half of 2008.
Scharf also believes there is a bottom forming in California’s real estate market. He said the discounts and days on market for the company’s re-possessed inventory in the state have both improved. Chase said it took an average of 153 days to sell re-possessed homes in California at the beginning of 2008. By year-end, it took 120 days, a better than 20% improvement. Chase also estimated that the discount the company had accepted in order to sell the homes improved from 17.7% to 5.6% over the same period.
From where I sit, that is about the best news I have heard since before the crisis began. That being said – Chase still has at least $25 billion of home equity loans with no equity – that exceeds the company’s $23 billion allowance for loan losses at year-end.
Steven Audino is the CEO and founder of GlobalBankVision Consulting, Inc (www.globalbankvision.com). GlobalBankVision Consulting, Inc is a knowledge services practice focused on providing strategic intelligence about the retail banking industry to clients.