The Federal Deposit Insurance Corp was named receiver for the bank and promptly worked out a deal selling most of WaMu’s assets to
With some US$310bn in assets, WaMu was the largest bank failure in US history, triggered by a classic run on the bank as depositors lost confidence. Depositors pulled nearly US$17bn from WaMu in a matter of weeks, forcing the regulator to step in.
Similarly, according to the FDIC, depositors were pulling cash from
As WaMu foundered, the company tried desperately to sell itself in the weeks leading up to its collapse, drawing interest from Citi, JPMorgan, Wells Fargo, Toronto-Dominion Bank and Santander.
None of the banks, however, were willing to buy WaMu and assume its massive mortgage portfolio, including some toxic sub-prime loans, without government assistance. None was forthcoming.
The government’s intervention so far has been a patchwork, leaving bondholders prepared to sit on the sidelines as banks look to raise fresh capital.
“This is classic contagion,” said one hedge fund manager looking for bargains in distressed bonds. “It’s impossible to know who’s next or if there will be support in the face of a collapse,” the manager said. While funds are looking for bargains, few are willing to invest in new issues.
The Federal Reserve and US Treasury backstopped losses when JPMorgan stepped in to buy Bear Stearns and offered American International Group US$85bn in rescue loans while Lehman Brothers and WaMu were allowed to fail.
As Wachovia found itself in the same predicament as WaMu, watching helplessly as depositors pulled cash from the bank, the FDIC offered assistance to ensure a transaction.
Facing imminent collapse, the FDIC negotiated a deal to sell Wachovia’s banking operations to Citi. The FDIC agreed to backstop losses in Wachovia’s mortgage portfolio above US$42bn in exchange for US$12bn in Citi warrants.
As with WaMu, the FDIC said Wachovia would not have been allowed to operate independently for much longer. The bank would probably have been seized within a week if a deal had not been struck. Sources involved in the negotiations said that the bank was facing an imminent liquidity crisis and the FDIC didn’t have the luxury of waiting.
The FDIC’s obligation is to protect depositors, not bondholders. But that mandate offers limited insulation from criticism. To the extent that bondholders don’t participate in bank funding, it would also limit the efficient operation of the banking system, fund managers said.
Under pressure to prevent the failure, the FDIC negotiated a deal under which Citi agreed to assume US$53bn in Wachovia senior and subordinated bonds. It helped to sooth jittery bondholders.
Wachovia’s 5.50% 2013 notes, which traded at 71.5 before WaMu was seized, plummeted nearly 25 points on news that WaMu bondholders would be wiped out. Golden West Financial 4.75% notes plummeted 25 points to 40. Wachovia’s troubles have been traced to its acquisition of Golden West for US$25bn two years ago. The bonds recovered after Citi agreed to assume the debt obligation.
“The move was not altruistic on Citi’s part,” said one banker. “The ability to tap the bond market for short-term funding would have collapsed if Wachovia’s bonds were scrapped and Citi understood that,” the banker said.
The FDIC came to that understanding as well, but too late for WaMu bondholders. Citi stood to take Wachovia’s banking operations, some US$700bn in assets, for about US$2.16bn or US$1 a share.
The FDIC-backed deal with Citi died, however, as Wells Fargo, which had been an early favourite to take Wachovia, stepped up with US$15.1bn for all of Wachovia, including its money management and investment banking operations on Friday with no backstop from the FDIC (See story in People & Markets).
For WaMu bondholders the only hope of recovery depends on the bank’s ability to claw back cash. WaMu filed for protection in Delaware listing US$32.8bn in assets and US$8.2bn in debt, including more than US$7bn in bond debt.
The US$32.8bn plus a further US$500m to US$1bn in assets at WMI Investment Corp are largely paper assets. Heading into this year WaMu reported a nearly US$30bn equity investment in its subsidiaries. The value of that investment was washed out when the OTS and FDIC seized its assets. Of what is left, US$5bn cash is in its banking units that are now part of JPMorgan.
Washington Mutual raised about US$7.2bn in April, selling equity to a group of private investors led by TPG Capital. The bank contributed about US$5bn of the proceeds from that sale to its Washington Mutual Bank.
That is the cash that will become the centre of the bankruptcy case. TPG’s equity position, above 5% of the shares outstanding, is essentially worthless. WaMu says it has a standstill in place with JPM as the accounts are untangled.
WaMu bondholders are optimistically looking to a pool of between US$4bn and US$4.5bn. The bank’s senior unsecured bondholders could recover more than 80% of their principal if that cash is reclaimed at the holding company level.
WaMu had about US$4.1bn in senior bonds outstanding when it filed. Its 2009 notes rose more than 15 points to 61.937 after the company filed on the expectation that the cash would be recovered.