(The following statement was released by the rating agency)
Oct 12 - Wells Fargo & Company (WFC) once again reported a record quarter with net income of $4.9 billion for the third quarter 2012 (3Q'12) for a strong ROA of 1.45%, according to Fitch Ratings. Results were favorably impacted by an increase in noninterest income while a low rate environment continued to weigh on interest income generated within the loan and investment portfolios contributing to a material reduction in the company's net interest margin (NIM).
Noninterest income was the primary driver of WFC's higher earnings. However, unlike prior quarters the $300 million increase in noninterest income was not propelled through the company's mortgage banking operations. Instead, noninterest income growth was positively impacted by a $252 million increase in market sensitive revenue, predominantly in trading gains along with growth in other fees and charges.
Fitch notes that WFC decided to retain close to $10 billion in conforming one to four family mortgages, forgoing around $200 million in additional noninterest income. Absent the retention of these mortgages and planned loan run-off, core loan growth was anemic at only 30 basis points (bps) on a sequential basis or just 1% on an annualized basis.
The company also provided another $462 million related to mortgage loan repurchase losses, down from $669 million in 2Q'12. Fitch continues to expect that provisions for mortgage loan repurchase losses will remain a modest drag on earnings performance over coming periods.
Litigation risk remains elevated for the industry. Most recently, WFC was named in a civil mortgage fraud lawsuit filed by the U.S. Department of Justice. The DOJ complaint alleges violations of the False Claims Act and FIRREA related to FHA loans. It is unclear what the ultimate outcome will be for WFC, but Fitch expects any fine or penalty related to this suit will be manageable in the context of WFC's earnings profile.
A persistent low rate environment adversely impacted WFC's NIM during 3Q'12. After multiple quarters of a NIM north of 3.80%, it fell a significant 25 bps from 3.91% in 2Q'12 to 3.66%. The company took in over $20 billion of deposits in the third quarter which were deployed in low earning cash, short-term investments, and loans. A sustained level of mortgage refinancing resulted in an increase in pay-downs on mortgage-backed securities, leaving WFC to reinvest cash flows in lower yielding, shorter duration securities.
Total nonperforming assets (NPAs) increased $368 million during 3Q'12 which included $1.4 billion related to new guidance from the OCC. Net charge-offs (NCOs) climbed to $2.4 billion in the third quarter from $2.2 billion in the second quarter primarily due to the new guidance. Excluding the effect of the new guidance, charge-offs were $1.8 billion during the quarter.
The new OCC guidance directs financial institutions to move those performing loans where the borrower's obligation to the bank has been discharged in bankruptcy and the borrower has not reaffirmed the debt to nonaccrual as well as write the loan down to the value of the underlying collateral.
Fitch notes that excluding the impact of the new guidance, underlying asset quality slightly improved during 3Q'12 with total commercial and consumer nonaccrual loans falling $1 billion from 2Q'12.
Fitch observes that capital ratios continue to be augmented through earnings generation. WFC's estimated Tier 1 leverage climbed 20 bps from 9.25% at 2Q'12 to 9.45% at 3Q'12. Risk-based capital ratios were mostly flat quarter-over-quarter due to a slight increase in risk-weighted assets. Under current Basel III proposals, WFC estimates its Tier 1 common equity ratio to be 8.02% up from 7.78% at 2Q'12.
(Caryn Trokie, New York Ratings Unit)