Sep. 26, 2007: How does a “run” on a bank work? And someone is interested in mortgage banking

Sep. 26, 2007: How does a “run” on a bank work? And someone is interested in mortgage banking Rob Chrisman

What will September 2007 be remembered for? According to Moody’s, homeowners owing $31.8 billion in subprime adjustable-rate mortgages began paying higher interest rates this month. That is the highest amount of subprime ARMs due to reset over a one-month period in this housing cycle.

Will Rogers once said, “I’m more concerned about the return of my money than the return on my money.” During the Depression of the 1930’s, there were runs on banks rumored to be “out of money”. A run on a bank occurs when a large number of depositors, fearing that their bank will be unable to repay their deposits in full and on time, try to withdraw their funds immediately. This creates a problem because banks keep only a small fraction of deposits on hand in cash; they lend out the majority of deposits to borrowers or use the funds to purchase other interest-bearing assets like government securities. In fact, one of the policies of the Federal Reserve is to establish reserve requirements for banks: banks now have to set aside a certain amount of cash in “reserve.” The reserve balance that banks must maintain is typically a percentage of their total interest-bearing and non-interest-bearing checking account deposits (currently 3% to 10%), and therefore fluctuates with their account totals. A bank run is unlikely to cause insolvency (bankruptcy), since more often than not other banks will make loans to that bank that had the run! But if the depositors’ fears are justified and the bank is economically insolvent, other banks would be unlikely to throw good money after bad by loaning money to the insolvent bank.

Someone likes the mortgage biz! Wilbur Ross, who last year received $685 million in funding from Goldman Sachs Group Inc. to pursue larger buyouts of bankrupt companies, and who became a billionaire by investing in bankrupt steel companies, offered to pay $435 million for a unit of American Home Mortgage Investment Corp. and said he plans to “get into all aspects of the mortgage industry.” Ross formed AH Mortgage Acquisition Co. to buy American Home’s servicing unit that collects payments and maintains escrow accounts for about $57 billion in home loans. To complete the purchase, he must win a court-sanctioned auction for the unit next month. “We feel that the mortgage industry is a very fundamental industry to America,” Ross said today in an interview. “We felt the key starting place would be servicing.” Ross compared the state of the mortgage industry to the opportunities he saw in steel and auto parts five years ago when he bought four bankrupt steel companies and merged them to create North America’s second-largest steel producer.

Shares of WSB Financial Group Inc (Westsound Mortgage) dropped 19% on Monday after the bank holding company said on late Friday that it was cutting 33 jobs in its mortgage division, or a quarter of its full-time workforce.

And speaking of AMH, American Home Mortgage Investment Corp. bounced property tax checks for some Maryland homeowners, local and state officials said Monday, and they have demanded an explanation from the bankrupt mortgage lender and servicer. The Maryland Commissioner of Financial Regulation filed an inquiry with American Home Mortgage on Friday. Mortgage servicers typically collect property tax payments each month with a borrower’s mortgage payment. The property taxes are then placed in an escrow account and held until property tax bills are due. Because they are placed in an escrow account, funds should always be available to make the payments.

Yesterday we had a fair amount of economic news. Sales of Existing Homes were down by 4.3% in August from the previous month, according to the NAR, and worse than expected. Sales are running at their slowest pace since the summer of 2002. The Conference Board index of Consumer Confidence fell in September to 99.8 from an upwardly revised 105.6 in August (previously 105.0) – its lowest level since November 2005. The decline was led by the “present situation” component, although “expectations” rose but “assessments of labor market conditions” weakened. And this morning the yield on the 10-yr is back up to 4.65% and 30-yr A-paper prices are worse by about .125 in price.

A man was sprawled across three entire seats in a theater. When the usher came by and noticed this, he whispered to the man, “Sorry sir, but you’re only allowed one seat.”

The man groaned but didn’t budge. The usher became impatient.

“Sir,” the usher said, “if you don’t get up from there, I’m going to have to call the manager.”

Again, the man just groaned, which infuriated the usher who turned and marched briskly back up the aisle in search of his manager. In a few moments, both the usher and the manager returned and stood over the man. Together the two of them tried repeatedly to move him, but with no success. Finally, they summoned the police. The cop surveyed the situation briefly.

“All right, buddy. What’s your name?”

“Sam,” the man moaned.

“Where ya from, Sam?” the cop asked.

“The balcony.”