Downey Lags as Servicing Income Falls

Downey Financial Corp. saw its second-quarter earnings fall 32% from last year's level as lower net interest income, a decline in loan servicing income, an increase in loan-loss provisioning and other factors dragged on the company's performance.

The biggest component of Downey's weakness was a $20.9 million decline in net interest margin, which reflected a lower level of interest earning assets.

The company also increased its loan loss provision by $2.8 million, saw a $2.7 million decline in income from real estate and joint ventures held for investment, and a $1.2 million decline in income from loan servicing.

Daniel Rosenthal, president and CEO, said in the company's earnings release that the "ongoing softening of the housing market" as well as challenging interest rate conditions contributed to declines in the company's loan portfolio and an increase in nonperforming loans.

Downey said that net interest margin totaled $111.5 million in the second quarter of this year as average interest earning assets fell nearly 16%. However, the company's effective interest rate spread of 3.07% remained unchanged.

The company also said it generated less income from prepayment penalties than it had in the year-earlier period. Downey said a lower proportion of loans that prepaid during the quarter did so while prepayment fees were still in effect.

Also, the mix of loans on its balance sheet included more investment securities and hybrid adjustable-rate mortgages, and fewer high-margin option-payment ARMs than in the year-earlier period.

The company said an increase in the allowance for loan losses reflected weak housing conditions in California.

Downey said that its lower mortgage servicing income primarily reflected a $1.2 million increase in payoff and curtailment interest costs, which represent the difference between the contractual obligation to pay interest to the investor for an entire month and the actual interest received when a loan prepays prior to the end of the month. This cost does not include the benefit derived from the use of repaid loan funds until those funds are remitted to the investor, Downey noted. That can boost interest income.

Downey serviced $21.6 billion of home mortgages at the end of the first quarter.

Downey's balance sheet continues to be heavily weighted toward home loans that have negative amortization features.

Of the company's $14.9 billion in assets at June 30 were some $8.9 billion of single-family, ARM loans that are subject to negative amortization. The company said that this was down by $1.1 billion from March 31. These loans represented 76% of the company's single-family residential loan portfolio at the end of the second quarter, down from 89% a year earlier.

Downey reported that its delinquencies as a percentage of total loans stood at 2.11% at June 30, up from 1.03% at the beginning of the year. (c) 2007 Mortgage Servicing News and SourceMedia, Inc. All Rights Reserved. http://www.bondbuyer.com/ http://www.sourcemedia.com/