The four largest U.S. banks may incur losses of up to $42 billion if housing finance giants Fannie Mae (FNMA) and Freddie Mac (FMCC) force them to repurchase faulty mortgages, Fitch Ratings stated on Wednesday.
The four banks are JPMorgan Chase & Co. (JPM), Citigroup Inc. (C), Bank of America Corp. (BAC) and Wells Fargo & Co. (WFC). According to the rating agency, if these banks repurchase 25% of the mortgage giants’ troubled loans, the expected loss would be $17 billion. However, if the government-sponsored entities (GSEs) compel them to repurchase half of their faulty loans, the loss could extend to $42 billion.
Fitch also said that if the scenario becomes extremely worse, the faulty loan amount for these four banks could total $175 billion to $180 billion.
As of June 30, 2010, the two GSEs had a total of $355 billion of troubled mortgages on their books. Of these troubled mortgages, half were serviced by the four banks.
Earlier this week, Treasury Secretary Timothy F. Geithner said that the government should ensure that the GSEs won’t require more bailouts. According to Geithner, the government should reduce its support to Fannie and Freddie as these GSEs took market share from private competitors with support from the government.
However, the two GSEs are trying to recover losses on bad loans by forcing big banks to repurchase troubled mortgage loans. Buyback of faulty mortgages by the four largest banks would help offset billions of dollars of losses of taxpayers.
Based on investor lawsuits against lenders, Fitch could downgrade the banks’ issuer default ratings. Also, this could impact the overall banking industry rating.
In conclusion, we expect the loss related to the buyback of faulty mortgages along with the law signed by President Barack Obama in July 2010 to overhaul the banking system and Wall Street will keep the profitability of the big banks under significant pressure in the near-to-mid term.