Opting Out of Option ARMs

THE FAILURE OF WaMu certainly seems to have clarified things for whoever can still afford to speculate in banking stocks these days. WaMu turns out to have been felled by a bank run of sorts -- by depositors pulling out funds above the FDIC's $100,000 insurance limit. Could Wachovia be next? That's what the credit default market is strongly implying, by demanding almost $2.5 million up front to insure $10 million of its debt against default for the next five years.

The sixth-largest U.S. bank (by assets, natch,) Wachovia is sitting on a time called Option ARMs, $122 billion of them to be exact accounting for perhaps 60% of all manifestations of this lousy idea. If its portfolio is anything like the overall pool analyzed by Fitch this month, perhaps half of such loans are expected to reset in the next two years. At that time, borrowers will be in for a rude shock, especially those who opted for a lower initial down payment. Overall, such resets will boost the average monthly payment by $1.053, or 63%, Fitch estimated.

How much do you think the bank will lose on such loans if that comes to pass. Because Wachovia is sticking to its forecast that it will lose 12% of the principal. Someone check the vault for the Brooklyn Bridge, the diaries and a little something by Damien Hirst.