The Big Banks have suddenly decided to move traditionally underserved borrowers into loans guaranteed by the Federal Housing Adminsitration (FHA).

For years, FHA lending made up only a small fraction of mortgage loans. One source quotes a Wells Fargo representative who says that FHA lending made up only three percent just a few years ago.

The main difference between FHA loans and conventional products is that there is a lower down payment requirement. FHA asks for a downpayment of at least 3.5 percent. Conventional loan terms fluctuate, but in the past year most borrowers have had to put up at least 20 percent in order to buy a home. For investors the number has been much higher.

FHA counters the risked posed by higher LTVs by requiring borrowers to purchase mortgage insurance at the outset of the loan, and to pay a premium for new insurance for as long at the LTV remains at a certain level. The result is that FHA loans, while bearing the same interest rate, will usually have a much higher APR.

There are other appeals for an FHA loan. Third parties (home builders, relatives, employers, non-profits) can contribute to the down payment. On the other side, sellers are allowed to contribute to closing costs.

Things have changed dramatically since the credit crisis. One of the interesting things is that there has been an improvement in the kinds of borrowers that use FHA. According to HUD, the average credit score for an FHA loan  went up from 621 in early 2008 to 692 by the middle of 2009. Do the math: that is a gain of more than 70 points!

Some lenders appear to have made a strategic decision to make loans to underserved groups through FHA. The table that follows lists twenty banks from the S&P 900, along with the share of loans that they originated through FHA. There are four segments: minority borrowers, low-income borrowers, low-income neighborhoods, and rural loans.  

The Big Banks are Making their Loans through FHA

The Big Banks are leading the charge. These top ten are most of the largest banks in the country. Citigroup is an absence, but they have pulled back in mortgage lending.

This analysis includes both FHA and conventional loans on site-built homes. Only loans by owner-occupants are included. There are no home equity loans here – only purchase and refinance loans.

Other observations:

Some banks rely on FHA in rural areas. Fifth Third scored high on this list because they are so dependent upon FHA outside of the cities. It is the same story with M&T Bank. Astoria Financial has a high score, but it can be discounted due to sampling size.  Almost all of AF’s loans are made in the New York metro area.

The big bank that isn’t relying on FHA? BB&T. The Best Bank in Town makes plenty of loans, but they’re not going after the FHA borrowers. For a long time, BB&T has insisted that they are happy to walk away from loans. Maybe their thinking is that they don’t want to let a guarantee push them into making a loan that they otherwise wouldn’t originate.  

A few banks are making almost all of the FHA loans. When the numbers show that JP Morgan, Bank of America, and Wells Fargo are active in FHA than are other banks, then it follows that their share of the market is very large.  These three banks accounted for 79 percent of FHA loans to minority borrowers.  Throw in SunTrust and Fifth Third, and five banks make 90.3 percent of FHA loans to minorities. For low-income borrowers and loans made in low-income neighborhoods, the top five’s share is nearly as dominant – 85.7 percent and 83.5 percent.

This leads into another issue. Rural lending is not the province of small town banks. There are about 60 lenders in this analysis. The big five had 73 percent of all FHA in rural areas, and 55.6 percent of all conventional loans.

In spite of the fact that there are numerous signs about the return of our economy, there are also plenty of signs that we are not out of the woods.

My last points suggested that some anecdotal events (home sales in my neighborhood, the new work enjoyed by my contractor) point to a recovery.

Then again, its hard to ignore the macro picture.

State coffers, unable to print money in order to escape problems, tell the real story.

Sales tax revenues continue to drop. In California, sales tax revenues have dropped more than 50 percent year over year. Personal income taxes, which have fallen 43 percent, are following suit. Sales tax is just about as current of an indicator that can be found.  This ought to tell us something, namely that today is still very bad.

Unemployment is still increasing.

And those bank stress tests are really more discouraging than the market appears to understand. We know that they were designed to inspire investor confidence.  We also know that the Treasury let banks negotiate stress test results.

Knowing that, are we supposed to feel good that Bank of America needs $33.9 billion?

I get a kick out of that.  It is just like grading at the private universities where many of these bankers have come from. A grade has become only the starting round of a longer process of negotiation.

Nonetheless, people ought to be a bit more hesitant before jumping on the bandwagon.  Earnings don’t justify more gains.

You may have heard claims by Bank of America’s about its stature in small business lending:

“With our scale and depth of resources, Bank of America offers small business owners unparalleled access to solutions to help run their businesses smoother, more profitably and with greater access to a wider business network.” — Mark Hogan, BAC Small Business Banking

True enough, BAC is the largest Small Business Administration Lender, measured by aggregate statistics for the entire country.  In fiscal year 2007, Bank of America made more than 10,000 SBA (7) a loans for a sum of more than $300 million.

Yet another look reveals that this position is really a product of the size of their business.  This is an mile-wide, inch-deep kind of commitment.

Take a look at the area where, of any in the country, Bank of America’s “leadership” in small business banking should translate into market dominance:  Charlotte, North Carolina.  This is BAC’s headquarters.  Charlotte is home to some other large banks, of course, but none that claim to be the leader in small business banking.

That’s too bad, because many of them outpace Bank of America.  Let’s look at the list of leading small business lenders in the area, in terms of loans by loan amounts.  We get data from the Federal Financial Institutions Examination Council (FFIEC), the leading publicly available provider of data on small business loans.  The FFIEC cuts has several ways of defining small business lending – this one applies to firms with less than $1 million in annual revenue.

1. Wachovia (now part of Wells Fargo), $120,000 million
2. BB & T, $89.9 million
3. First Citizen’s Bank & Trust, $56.1 million
4. First Charter (now part of Fifth Third), $38.2 million
5. FIA Card Services, $38 million
6. Suntrust, $30.2 million
7. Citizen’s South, $25.8 million
8. RBC Centura, $22.8 million
9. Bank of America, $19.1 million

So, in Charlotte, Bank of America actually lags 8 institutions.  Some significantly smaller institutions, most glaringly Citizen’s South, provide more funding to the region’s small businesses.

Now, it is possible that some could claim that $1 million is the wrong place to draw a line in the sand.  Sure, that’s reasonable.  Then again, its as reasonable as most other demarcations.  It means that businesses up to the size of a small deli or a local pest service are counted, but perhaps a local franchise is excluded.  The former are likely to have a particularly hard time getting loans.  They are also likely to be job generators, as they include many nascent firms with the potential to expand quickly.

Still, this is getting ahead of things.  What about in terms of loan volume?  Well, here, the list ahead of Bank of America is probably too long to write in a blog.  Suffice to say that Bank of America comes in 17th in Charlotte.

There is a caveat, applying to both lists.  FIA Card Services, which ranks fifth by amount and second by volume in Charlotte, is the former MBNA brand acquired in 2006 by Bank of America.  Taken together, BAC’s sums would increase a few places in each category.

Nonetheless, the impression remains off the mark.  If the pr surrounding BAC’s small business lending indicated that it mostly consisted of credit card loans (presumably with high interest rates, terms subject to constant revision, and few consumer protections) wouldn’t that seem different?

In fact, to make it more transparent – here is one disclosure statement of standard terms for a B of A card through FIA:  variable interest rates range from 12 percent to as high as 19.99 percent. Cash advances are almost 25 percent.  A default APR of 27.24 percent! Hardly the kind of lender that a small business would want to work with while it finds its way.  More like a lender of last resort.

Ouch!  Doesn’t sound like higher standards.

A little less than one year has passed since the Federal Reserve approved Fifth Third‘s acquisition of First Charter.

It is safe to say that things haven’t gone as expected.  Back in April 2008, Fifth Third agreed to pay $1.1 billion for the North Carolina bank.  It was a price that some said was a bit high, but nonetheless, it was an opportunity to get into some enviable markets in North Carolina – Charlotte, Asheville, and Raleigh-Durham.

Now, Fifth Third is trading at $1.47.  Its market capitalization is only $849 million.  That is less than the acquisition price of First Charter.  The bank still has assets of $126 billion, but they are being severely discounted in value.  It is pretty hard to say that an acquisition has been accretive under these circumstances.

Investors in First Charter had an option of taking shares or cash when the transaction was finalized.  Shares were valued at $31.  Its been quite a fast ride down for those holders.

More trouble could be on the way for other big banks, of course.  Christoper Whalen’s conversation with Henry Blodgett suggests that both B of  A and Citi will go into some form of government receivership before the end of 2009.  Depositors will be satisfied, he suggests, but a good resolution for bond holders might be even 50 cents on the dollar.  Its time, he says, “for an adult conversation.”

Commodes are interesting.  Commodes are important for bankers.  If you are going to lead a large bank through a credit crisis, you probably want a good commode.  Some of the smartest guys on Wall Street like fancy commodes.  Here is a nice commode, an “English Breakfast Commode,’ from 1772.  I am not sure if it helps you identify a bad loan.

The kind of commode John Thain can appreciate

Now that John Thain won’t have access to his $35,000 commode, he’ll have to find one for his “home office.”

More About Commodes

There are times when nothing else will do.  You just need a commode. Now, some people will argue that one commode (like John Thain’s) is different than some other commode.  And then again, some will say that a commode is a commode.

Tell you what: Wal-Mart has a nice bariatric steel commode.  It can be bought and delivered for just $77.68.  It will hold up to 850 pounds.

American Home Products has a stainless steel commode for just $54.  That’s a lot of savings!

Some people have pointed out that John Thain’s commode isn’t like the one at Wal-Mart.  I would have to agree.  John’s is a lot better.  It actually has a lot of functionality that you can’t get from one of these bariatric steel jobs.  You can wash your hands in it!

Now that’s good.  I suppose John is washing his hands of a whole lot these days.

Alternatively, John Thain could get himself a new commode that has a more rustic, open air of feeling.  Something that helps him get in tune with the feelings of the taxpayers, who are going to take the bath on the losses.

Remember, that the deal that BAC worked on the merger with MER said that BAC would only take the first $10 billion in losses.  Then, after that, the next $90 billion in losses are taken by either the Treasury Department or the Federal Reserve.  So, it looks like Ken Lewis is made because that $15.5 billion pretty much exhausts all of the $10 billion that he stood to lose.  But now, each additional dollar in losses is coming off of the taxpayer.

Here is a commode for the American taxpayer, after he is done paying the losses on these loans.  Maybe Ken Lewis can put some of those Merrill loans in it, too.

Taxpayer Commode