Downey’s Option ARM Woes Continue to Grow

Non-performing assets continue to mount at California-based Downey Financial Corp. (DSL: 0.33 0.00%), with the option ARM specialist reporting Thursday afternoon that NPAs had reached 13.24 percent of the bank’s $13.15 billion in total assets — or $1.74 billion — by the end of April.

More troublesome, perhaps, is that efforts by the bank to modify outstanding option ARM mortgages ahead of scheduled recapitalization appear to be losing steam. So-called troubled debt structurings grew by just 10 basis points to 4.59 percent in April versus one month earlier, while more traditional non-performing loans grew by 124 basis points to 8.65 percent (a basis point is one-hundredth of a percent).

Downey reports troubled debt restructuring in its non-performing assets category, as the refis represent “borrower retention” efforts — in other words, borrowers with option ARMs are refinanced into a fixed-rate, traditional mortgage without new underwriting or appraisals. The graph to the right illustrates just how quickly and consistently the company’s $10.7 billion residential mortgage portfolio has come under duress.

Roughly 65 percent of Downey’s mortgage assets come in the form of option ARMs, and the lender has reserved roughly $546.7 million against a balance of NPAs that appears set to break the $2 billion threshold in the next few months. The proportion of existing reserves to currently non-performing assets would seem to suggest that the company is likely to bump up its loss provision charges further during the second and third quarters.

Downey reported a loss of $247.7 million for the recently-completed first quarter, primarily due to rising credit losses.

Disclosure: The author held no positions in DSL when this story was originally published. HW reporters and writers follow a strict disclosure policy, the first in the mortgage trade.