Servicing

Morgan Stanley took net writedowns of $640 million in its mortgage proprietary trading business in the fiscal third quarter, but it was able to realize relatively strong overall net income of about $1.4 billion. The firm's net income was down from approximately $1.5 billion a year earlier, but market participants and observers considered it relatively strong compared with larger mortgage writedowns and poorer results at other Wall Street firms. "Despite unprecedented market conditions, Morgan Stanley's core client franchise achieved solid revenue growth, profitability, and [return on investment] this quarter," said John Mack, the company's chairman and chief executive officer.

Barclays PLC, London, has agreed to pay an estimated combined price of 1 billion pounds ($1.75 billion) for three of the bankrupt Lehman Brothers' New York-area facilities and for certain of Lehman's North American businesses -- including its partially mortgage-related fixed-income sales, trading, and research unit. Barclays said it plans to pay an estimated 800 million pounds ($1 billion) for Lehman's head office in New York as well as two data centers in New Jersey. It is also set to pay just 140 million pounds ($250 million) for Lehman's North American investment banking and capital markets businesses. The North American Lehman businesses that Barclays plans to buy have about 10,000 employees, trading assets with an estimated value of £40 billion ($72 billion), and trading liabilities with an estimated value of £38 billion ($68 billion), according to Barclays.

Impac Mortgage Holdings, a subprime lender based in Irvine, Calif., has reported a net loss of $31.3 million ($0.51 per share) in the first half, compared with a net loss of $274.2 million in the first half of 2007. Impac, a real estate investment trust, said the "broad repricing of mortgage credit risk continued the severe contraction in market liquidity" and that the volatile capital markets "have effectively been unavailable" to the company. The mortgage REIT said it hopes to "align the costs of our operations to the cash flows from our long-term mortgage portfolio (residual interests in securitizations), master servicing portfolio, and real estate advisory fees." The company said other goals include reducing or eliminating dividend payments on its preferred stock and modifying its trust preferred securities. Impac can be found online at http://www.impaccompanies.com.

The Department of Housing and Urban Development is very close to finalizing guidelines for the Hope for Homeowners program that will allow second lienholders on restructured loans to share in future appreciation of the property, according to a Federal Housing Administration official. "This would be the one method" that the board overseeing the Hope program "can use to entice those subordinated lienholders to participate in the program," FHA director for single-family program development Meg Burns told a Mortgage Bankers Association compliance conference. "So we are looking at that particular feature and planning to share that appreciation with the existing subordinated lienholders." The foreclosure prevention program is targeted at rescuing borrowers with underwater mortgages. All subordinate liens much be extinguished before the homeowner is refinanced into a new FHA-insured mortgage with a 90% loan-to-value ratio. In a successful restructuring, HUD and the homeowner would split any appreciation 50-50 if the property is sold after five years. The Hope board still has to decide how much should be shared with second lienholders. However, the 10% equity cushion that is created by the writedown (to a 90% LTV ratio) cannot be shared with a second lienholder, Ms. Burns said.

The Goldman Sachs Group Inc., New York, saw year-to-year declines in mortgages and credit products contribute to a whittling down of its fiscal third-quarter earnings to $845 million on a net basis. Credit products and mortgages "were adversely affected by broad-based declines in asset values," but in the fiscal period ended Aug. 29 the Wall Street firm continued to avoid the kind of multibillion-dollar mortgage-related writedowns suffered by many of its peers. The company's net losses in the mortgage area during the quarter included about $500 million on residential loans and approximately $325 million on commercial loans and securities.

The mortgage-related businesses that Bank of America Corp. would get from buying Merrill Lynch & Co. might look redundant after its July purchase of Countrywide Financial Corp., but some observers say one or both of Merrill's subprime servicing units might help BoA work through its problem Countrywide loans. BoA's deal, announced Monday, to buy Merrill for $50 billion of stock could also prompt a phasing out of the brokerage company's relationship with PHH Corp., analysts said. Merrill Lynch Credit Corp., a unit in Jacksonville, Fla., that makes prime jumbo mortgages for the brokerage's clients, has outsourced much of the work to PHH for at least 10 years. But Countrywide's capabilities would make such outsourcing unnecessary after Merrill's contract with PHH expires in 2010, observers said. BoA quit most subprime mortgage lending in 2001. Industry sources said Monday that Merrill's two servicing units -- Wilshire Credit Corp. in Beaverton, Ore., and Home Loan Services Inc. in Pittsburgh -- have room to take on additional loans. "I would think that, if BofA wanted to, it would be an effective way of getting additional capacity for the old Countrywide loans," said Phillip Comeau, a principal in the consulting firm Phillip Comeau Co. and a former executive at Freddie Mac. David McDonnell, a founder of Statebridge Co., a special servicing start-up in Denver, said BoA "should probably keep Wilshire Credit intact" because it is "a needed platform in today's market."

Following Lehman Brothers Holdings Inc.'s filing for Chapter 11 bankruptcy protection, two companies have announced that Lehman's shares will be removed from their stock indices. Standard & Poor's said Lehman will be removed from the S&P 500 and S&P 100 indices after the close of trading Sept. 16. (It will be replaced by Harris Corp., a communications equipment company, in the S&P 500 and by Occidental Petroleum Corp. in the S&P 100.) In addition, Keefe, Bruyette & Woods Inc., an investment bank, announced that Lehman will be deleted from its KBW Capital Markets Index before the opening of business on Sept. 17 and replaced by Stifel Financial Corp.

Asian financial institutions -- Japanese banks in particular -- are among the 30 largest unsecured creditors of Lehman Brothers, which collapsed Monday, filing for Chapter 11 bankruptcy protection. According to the company's petition, eight Japanese banks are owed $1.62 billion on loans they had extended to Lehman, once a major player in the subprime and alternative-A markets. (Lehman owns Aurora Loan Services of Colorado, the nation's largest alt-A servicer.) Citibank NA and The Bank of New York Mellon Corp. are serving as indenture trustees of the bankruptcy, representing bondholders that are owed upwards of $155 billion. (Separately, Citibank's Hong Kong division is owed $275 million.) According to Peter Chapman of bankrupt.com, a service that tracks bankruptcies, Lehman's junior bonds are now trading as low as 28 cents on the dollar. On Tuesday night Lehman's creditors' committee will hold its first meeting. At $600 billion in assets, Lehman is the largest American company ever to fail. "Before Lehman, Worldcom was the largest at $100 billion, and Enron $70 billion," Mr. Chapman noted.

Barclays PLC, London, has confirmed its interest in a possible acquisition of "certain Lehman Brothers assets on terms that would be attractive to Barclays shareholders." The British-owned investment bank said there would be "no assurance that the discussions will result in an agreement." The company also has confirmed that it "considered a combination with Lehman Brothers" prior to Lehman Brothers Holding Inc.'s bankruptcy filing and "did not proceed because it was not possible to conclude a transaction in the best interests of Barclays shareholders."

Twenty-five classes of notes issued by four collateralized debt obligations linked to subprime or alternative-A residential mortgage-backed securities have been downgraded by Fitch Ratings. The affected securities include eight classes from Bluegrass ABS CDO II Ltd., a structured finance CDO; seven classes from Tigris CDO 2007-1 Ltd./LLC, a cash flow structured finance CDO; five classes from Kleros Preferred Funding Ltd./Inc., a static CDO; and five classes from Inman Square Funding I Ltd./Inc. Seventeen of the downgraded classes were removed from Rating Watch Negative, and two were placed on Rating Watch Negative. The downgrades were attributed variously to collateral or credit deterioration in the portfolios' subprime or alt-A RMBS or structured finance CDOs with underlying exposure to subprime RMBS. Fitch can be found online at http://www.fitchratings.com.