LONDON Aug 5 HSBC Holdings Plc will hasten the run down of its portfolio of U.S. mortgages with more sales of loans to hedge funds, potentially allowing it to bring an end to its disastrous U.S. subprime foray within three years.
Europe's biggest bank, which has been reducing a $118 billion book of U.S. consumer loans it no longer wants since 2008, said on Monday when it announced first-half results the portfolio was down to $27 billion.
That was down $8 billion in the past year as the bank accelerated the process by selling portfolios of mortgages to specialist hedge funds and other investors. It said more sales are underway.
HSBC has been cutting back in the United States since its $15 billion purchase of Household International in 2003 left it as one of the biggest subprime lenders when the U.S. housing market crashed in 2007. It racked up losses of $60 billion from bad loans in North America from 2007 to 2012.
Running down the massive book of consumer loans was expected to take a decade or more, yet the bank's latest update indicates it is ahead of that timescale - a significant development given it frees up capital to give the bank more strategic options.
HSBC has to hold about $7 billion of capital to cover for potential losses in the book because the loans are regarded as relatively risky.
"The book soaks up a huge amount of risk-weighted assets. So when it goes they get capital build up," said Chirantan Barua, analyst at brokerage Bernstein.
HSBC Chief Executive Stuart Gulliver has repositioned the bank in the United States to focus on commercial and investment banking and is directing capital to those businesses.
HSBC is one of the world's best capitalised banks, and analysts estimate it already has between $7 billion and $10 billion of surplus capital in its U.S. operations after selling businesses there.
But it is not expected to be able to take out big amounts any time soon. U.S. regulators want foreign banks to hold substantial capital in U.S. units and HSBC has a deferred prosecution agreement with the U.S. Department of Justice that puts it under extra scrutiny until the end of 2017.
The bank also has several U.S. litigation issues that could be costly, including investigations into foreign exchange trading and U.S. mortgage lending and a class action lawsuit over lending by Household, which the bank is fighting.
The bank said in a regulatory filing its U.S. consumer loan portfolio should be cut to about $18 billion by the end of 2016, and analysts said it should fall more sharply than that by then, potentially allowing the bank to sell the remaining assets in an auction to avoid the process dragging on for years.
Bernstein's Barua estimated the book will be reduced to about $10 billion by the end of 2016, at which point it would be small enough to try to auction it off to specialist investors.
"Initially they (HSBC) looked at bids coming in but did not do any dramatic sales ... it was more about damage control," Barua said. "They have been much more active selling it in the last 1-1/2 years."
Hedge funds and private equity firms specialising in real estate have bought the assets, attracted by decent yields and the chance to make a profit as housing markets improve.
HSBC sold a $3.2 billion tranche to Fortress Investment Group in March 2013. In May it sold $1.3 billion of loans to an unnamed buyer, and it sold a $289 million book of performing loans last month at a profit to what the loans were carried on its books at.
Early loan portfolios were sold at significant discounts to their face value, but prices have risen as the U.S. economy has improved and better quality loans have been sold.
As well as New York-based Fortress, other investment firms active in the market include Oaktree and Ranieri Partners, which was founded by Lewis Ranieri to buy distressed real estate.
HSBC said it is currently trying to sell $1.1 billion of loans and has another $1.3 billion earmarked for sale in multiple transactions over the next 15 months.
Some 9.4 percent of the loan portfolio is in California. New York, Ohio, Pennsylvania, Florida and Virginia each account for between 5 and 7 percent of the book.
After dragging on HSBC's profits until 2012, losses from the U.S. loan book have fallen sharply and the business made a profit in the first half of this year. (Additional reporting by Joy Wiltermuth at IFR in New York; Editing by David Holmes)