Much of the financial sector took a pounding Monday, as investors parsed through the Friday failure of IndyMac Bank and worried about a similar fate for other large banks with significant mortgage exposure. Washington Mutual (WM) saw its shares fall 35 percent to $3.23 after Lehman Brothers Holdings Inc. (LEH) analyst Bruce Harting predicted the bank faced $26 billion of losses, including $21 billion for mortgages — and said the bank would set aside $4 billion in reserves for bad loans, driving a steep Q2 loss when it reports earnings on July 22. The bank’s portfolio includes some $57 billion in option ARM mortgages; and credit quality among negative amortization loan products has been quickly deteriorating among lenders that once specialized in the product. Shares rebounded sharply in after-hours trading after the bank released a statement saying it is “well capitalized” under regulatory definitions, pointing to liquidity of more than $40 billion and $150 billion in retail deposits — share prices jumped 8.36 percent on the news. News also broke Monday evening that WaMu is laying off further employees, after reportedly cutting 1,200 in its last round of layoffs on June 19. National City bleeds; Wachovia pinched, too Mega-regional bank National City Corp. (NCC) had similar little luck in Monday trading, and saw its shares tank to the tune of 15 percent, closing at $3.77. The Cleveland bank actually saw trading temporarily halted on Monday after the bank’s stock price fell to $3.21 a share, down 27 percent — the pause came so that the bank could attempt to reassure investors and prevent a possible run on deposits. “National City is experiencing no unusual depositor or creditor activity. As of the close of Friday’s business, the bank maintained more than $12 billion of excess short-term liquidity,” the bank said in its press statement. “Further, as a result of our recent $7 billion capital raise, National City maintains one of the highest Tier I regulatory capital ratios among large banks.” Wachovia Corp. (WB) also found itself caught up in investor worry Monday, with shares closing at $9.84, off nearly 15 percent, over fears that the bank’s substantial option ARM portfolio could take a larger chunk out of the bank than originally thought. Wachovia said last week that it expects to report an after-tax loss of between $2.6 and $2.8 billion, or $1.23 to $1.33 per share, for the second quarter, as it sets aside an additional $4.2 billion to build loan loss reserves tied mostly to its former Pick-a-Pay mortgage lending program. The bank holds a substantial $170 billion residential mortgage portfolio; a whopping $121 billion of that total was in the form of option ARMs at the end of Q1. Disclosure: The author was long FRE and held various put option contracts on WB when this story was originally published. HW reporters and writers follow a strict disclosure policy, the first in the mortgage trade.