Oppenheimer analyst Meredith Whitney cut the North Carolina-based bank to "underperform," blaming too-rosy valuations on the bank's mortgage assets. She called the outlook "bleak" for shareholders.
Basically, the bank's current path means losses are rising as assets are shrinking, and as Whitney titled her report, "Shrinking to Grow Historically Doesn't End Well for Financials."
She says on-balance-sheet loans will drop by 5 percent by year-end and warns that "in this very real scenario, expenses simply cannot come down fast enough, seriously jeopardizing [Wachovia Bank's] ability to grow earnings." She predicts losses at the bank in 2008 and 2009.
Wachovia shares have lost three quarters of their value this year, falling 10 percent so far today.
The Bigger Problem Is...
It's not just Wachovia. Banks, Whitney says, are still too optimistic about the severity of the drop in home prices. She says Wachovia, the worst of the bunch, is still operating on the assumption that home prices will drop just 12.9 percent because that's what Office of Federal Housing Enterprise Oversight data are telling them.
The problem is that almost nobody is using OFHEO numbers as a benchmark. Data from the Case-Shiller index show prices could fall by a third from peak to trough (they're off 15 percent already). Whitney says Bank of America, JPMorgan Chase, and Citigroup look as if they're expecting less severe declines as well.
The result? Investors will keep selling until the banks "get real" about the value of the assets on their books.
Meanwhile, Standard & Poor's cut its outlook for the S&P 500 Financials even after the pain of the past few weeks because "we believe additional erosion in credit quality, particularly among regional banks and thrifts, will likely continue to exert downward pressure on the sector." That translates to a 31 percent drop in operating earnings for 2008.
And no post on financials would be complete without a look at Fannie Mae and Freddie Mac. Their shares slumped again today despite the government's bailout plan to up lending or buy shares of the troubled lenders. Fears continue to mount that their capital positions will come up short or that any plan to revive the pair will come at a large cost to shareholders.