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Monday, April 07, 2008 12:14 PM

WaMu Raises Capital: Market Cheers Dilution

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The Wall Street Journal is reporting Washington Mutual to Get $5 Billion.

Private-equity firm TPG and other investors are close to a deal to invest $5 billion in Washington Mutual Inc., people familiar with the matter said Sunday.

The injection of new capital would allow the country's largest savings and loan to ease its pressing capital requirements, the people said, amid punishing losses from the national mortgage crisis. But it would substantially dilute current WaMu shareholders, who have already lost 74% of their investment over the past year. WaMu's market capitalization on Friday was just under $9 billion, after its shares dropped 11% that day.
Market Cheers More Dilution

WaMu is up 32% on the session. That sounds significant but a chart will help put it into perspective.

Click on chart for sharper image

Professor Andrew Jeffery is writing WaMu Shores Up Balance Sheet.
The list of banks selling chunks of themselves to stay afloat keeps getting longer.

Private equity firm TPG and other investors will snatch up common and preferred stock in the Seattle-based retail bank, significantly diluting value for existing shareholders. The final terms of the deal are not yet finalized, but The Journal says TPG will receive a seat on Washington Mutual's 14-member board.

As is the case with WaMu, Professor Sedacca expects financial institutions to increase capital raising efforts in the coming months. Leverage has skyrocketed since the credit crunch began, as banks have been forced to bring bad debt onto their books. The value of this debt is eroding, so banks must raise money to remain solvent.

As of last month WaMu still had the largest subprime exposure of any major bank, at $19 billion.

WaMu was one of the chief issuers of Pay Option ARMs, which allow borrowers to choose between a variety of payment choices. The smallest is less than the monthly interest due, which creates what's known as "negative amortization." Countrywide (CFC) and Bear Stearns (BSC) were also in on the action, and Wachovia (WB), with its 2006 purchase of Golden West, took on over $100 billion of these negative amortization loans, primarily backed by homes in California.

If Washington Mutual is being forced to raise capital, it's only a matter of time until more deposit-holding institutions follow suit. Although many cheer these developments as signs the credit crunch is drawing to a close, this view is based on hope alone.
As with Another Swiss miss at UBS where Investors shrugged off a $19 billion writedown at UBS because of capital raising efforts, investors are pleased at the capital raising efforts of WaMu. But the big problem at WaMu is not subprime it's Alt-A.

At least UBS acted on that problem.

UBS announced that it has continued a vigorous effort to reduce exposure, with $16 billion now remaining in Alt-A mortgage paper, down from $26.6 billion. The bank also reported $15 billion in various pieces of collateralized debt obligations (CDOs), down from $27.6 billion at the end of the year. The reductions reflect asset sales as well as writedowns

The sharp reductions in the size of UBS' portfolio of investments backed by Alt-A mortgages, which are residential mortgages that fall between prime mortgages and sub-prime mortgages on the credit-quality scale, jibes with trading desk gossip: the firm is said to have traded as much as $10 billion to one unknown buyer earlier in the month.

WaMu Alt-A Problem Not Going Away

The Alt-A problem stands to be at least as serious if indeed not far worse than subprime because that is where the liar loans are hidden, and the amounts on those liar loans tend to be much larger because they are hugely from the bubble states of California and Florida, and places like Las Vegas that have been imploding.

Where Is The Reset Problem?

click on chart for sharper image

The above chart us from a Closer Look At The ARMs Reset Problem. Inquiring minds may wish to take a look at that article as well as Slow Motion Train Wreck.

Those wishing to see how one particular WaMu Alt-A pool is doing can take a look at WaMu Alt-A Pool Deteriorates Further. In less than a year 25.3% of an Alt-A pool 92.6% rated AAA is 60 days delinquent or worse, of which over 13% is in foreclosure.

More writedowns are coming and the next time WaMu (WM), Citigroup(C), Merrill Lynch (MER), Morgan Stanley (MS), and Lehman (LEH), etc. have to raise capital it will be interesting to see if the market cheers. Meanwhile, another $5 billion in sideline cash is no longer on the sidelines. History will be the judge of this decision, but I suspect this move by TPG was far too early and will be regretted down the road.

Mike "Mish" Shedlock
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