Pick-a-Pay Loans: Worse Than Subprime

By MARSHALL ECKBLAD For the third straight month, option adjustable-rate mortgages are generating proportionally more delinquencies and foreclosures than subprime mortgages, the scourge of the U.S. Option ARMs were typically issued to creditworthy homeowners and allow borrowers to make a range of monthly payments. The payment options include a partial-interest payment that adds the unpaid interest to the loan's balance. On many such loans, balances have risen while values of the underlying properties have plummeted amid the housing crisis. As of April, 36.9% of Pick-A-Pay loans were at least 60 days past due, while 19% were in foreclosure, according to data from First American CoreLogic, a unit of Santa Ana, Calif.-based First American Corp. In contrast, 33.9% of subprime loans were delinquent, with 14.5% of those loans in foreclosure, the figures show. Payment-option mortgages are heavily concentrated in the worst-hit regions in the housing market, including California and Florida, making borrowers inordinately vulnerable to declining property values. The deepening loan turmoil could mean higher-than-expected losses for Wells Fargo & Co., J.P. Morgan Chase & Co. and the Federal Deposit Insurance Corp.'s own insurance fund. "The realization of the issues related to option ARMs is just beginning," said Chris Marinac, director of research at Atlanta-based FIG Partners. Option-ARM loans are a much smaller portion of outstanding mortgages than subprime loans, but they occupy substantial chunks of certain banks' balance sheets. San Francisco-based Wells Fargo holds a mountain of Pick-A-Pays, having acquired $115 billion of the loans in its purchase of teetering Wachovia Corp., which it agreed to buy late last year. Due to complicated accounting rules, Wells Fargo assigns the loans a value of $93.2 billion, giving it room to absorb future losses on the loans. The bank, however, won't say whether losses from the loans have risen beyond the firm's original expectations. Wells Fargo declined to comment Friday. In a securities filing in May, the company said that borrowers accounting for 51% of its outstanding Pick-A-Pay balances made only the minimum payment as of March 31. Wachovia used the Pick-A-Pay name for its option ARMs. J.P. Morgan holds $40.2 billion in option ARMs that the bank acquired when it purchased most of Washington Mutual Inc. last year. The Seattle company's banking operations were seized by regulators, and the holding company filed for bankruptcy protection. The New York company said in a filing it has some exposure to an additional $46.5 billion in option-ARMs sitting in complex off-balance-sheet entities. J.P. Morgan declined to comment. The FDIC also could face future losses due to rising problems with the loans. The federal agency agreed to soak up most future losses from about $5 billion in option-ARMs once held by Coral Gables, Fla.-based BankUnited FSB, which the FDIC seized in May and sold to private investors. Write to Marshall Eckblad at marshall.eckblad@dowjones.com