October 3, 2011 / 4:01 PM / in 8 years

Banks could face new source of mortgage losses

(Reuters) - A federal housing insurance program may be forced to deny bank claims for money lost in home loan foreclosures, costing them another $13.5 billion in mortgage-related losses, according to a report on Monday from bank analyst Paul Miller of FBR Capital Markets.

Bank of America Corp, JPMorgan Chase & Co and Wells Fargo, three of the four largest U.S. banks, are at risk for the biggest losses, the analyst estimated.

The Federal Housing Authority, which insures about 10 percent of all mortgage debt outstanding, faces financial and political pressure to deny claims that in the past it paid almost automatically, Miller wrote in the report.

FHA claims could be “the next shoe to drop,” on banks and the mortgage market after, he said. The banks have already been hit by claims from government-run mortgage finance companies Fannie Mae and Freddie Mac, as well as from private investors, for selling them bad mortgage loans and related securities.

Banks servicing mortgage loans could be hit with as much as $13.5 billion in losses under a scenario in which the agency contends the banks made mistakes in those processes, Miller wrote. Or, the FHA may deny claims based on mistakes in lending, in which case the losses could reach $11.5 billion. Miller pegged possible losses at about $3 billion for Wells Fargo, $2 billion for Bank of America and $1 billion for JPMorgan.

It could take time for either scenario to unfold, he said. “Until there is more widespread evidence of FHA claim denials, we believe that the risk is more of a headline risk than a capital concern,” Miller wrote.

Battles with the FHA over losses could prompt banks to further tighten lending standards and “ultimately result in another leg down in housing prices as borrowers find it harder to access credit,” Miller said.

While the FHA has taken steps to strengthen its finances, it could come under mounting pressure from rising mortgage defaults to limit its payouts.

The FHA may also seek punitive damages from the banks by alleging they made false claims for reimbursement of losses on foreclosed properties, Miller said.

Reporting by David Henry in New York; Editing by Tim Dobbyn

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