Broader Defaults Rock Countrywide

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It looks like Angelo Mozilo’s trusty crystal ball was a bit cloudy.


Two months ago, the longtime chief of Countrywide Financial Corp. made a bold move for market share amid the downturn in the housing market. The company dove into the pool of laid-off mortgage workers, hired 2,000 employees and announced plans for 100 retail outlets across the country just six months after it had cut more than 3,000 jobs, mostly in its subprime operation.


Mozilo’s move paid off to a point.


The Calabasas lending giant’s business is growing. Its overall market share is expected to grow to 17 percent in the fourth quarter from its current 16.3 percent, according to analysts.


The growth in market share helped prop up the company’s revenue, but it still fell 15 percent to $2.55 billion.


The problem? Mozilo didn’t foresee this: higher delinquency rates even among borrowers with good credit.


Countrywide helped trigger a plunge in the Dow and talk of a recession last week when it missed its quarterly numbers. The company reported a 33 percent drop in net income to $485 million largely driven by the higher than expected loan losses.


Wall Street was shocked to hear that the percentage of Countrywide customers with good credit who were delinquent on their loans rose to 4.6 percent for the quarter, up from less than 2 percent a year ago.


The delinquencies were blamed on looser underwriting standards, adjustable rate mortgages resetting at higher rates and falling home prices, which make it harder for struggling borrowers to refinance or sell their homes at a profit.


“The mortgage market continues to deteriorate beyond Countrywide’s expectations,” wrote Goldman Sachs analyst James Fotheringham in a research note last week.


Mozilo, 68, who co-founded Countrywide in 1969 and has helped steer it through booms and busts to become the nation’s No. 1 mortgage lender, wasn’t entirely blind to the issue of underwriting standards.


He moved months ago to shore up Countrywide’s own finances by tightening lending standards amid a rapid rise in delinquencies and defaults among subprime borrowers who have the poorest credit histories. Still he was blindsided, like many experts, by the depth of the housing downturn.


“We are experiencing home price depreciation almost like never before, with the exception of the Great Depression,” said Mozilo during a call with analysts, whose average second quarter revenue forecasts the company missed by a dime.



Earnings forecast

The rising delinquencies prompted Countrywide to lower its 2007 guidance to a range of $2.70 to $3.20 per share, from $3.50 to $4.30 per share.


However, with the housing market entering uncharted waters it’s unclear whether even those new numbers can be trusted.


The last time California and the nation experienced such a downturn in the housing market it accompanied a recession, driven by the reduction in defense spending after the sudden end of the Cold War. But this time the underlying economy is relatively healthy, though now worries are starting to build that the soft housing market could drag down the entire economy.


The National Association of Realtors expects that the median U.S. home price will fall 1.4 percent to $218,800 this year. That would be the first national decline since the Great Depression, according to Bloomberg News.


At this point, given the proliferation of exotic mortgages with adjustable rates even among prime borrowers, no one is sure when that decline will end. Rising delinquencies and default rates would drag down home prices even further by adding even more product to an already saturated home market.


“This has always been the wild card out there that we have been unsure of because we never had so many of these exotic mortgages. There is a lot of uncertainty out there,” said Delores Conway, director of the Casden Forecast at the University of Southern California Lusk Center for Real Estate. “As interest rates have moved up, (homeowners) are having difficulty making payments and they are having difficulty refinancing because the qualification criteria have tightened since last year.”


Moreover, Countrywide is in an especially difficult situation because about 45 percent of its portfolio is in California, which was home to some of the hottest housing markets. Those markets have long since turned south, led by the Inland Empire where foreclosure rates are through the roof.


Last week, DataQuick Information Services, a La Jolla housing data firm, released figures that showed foreclosures in the state had reached a record high, with 17,408 homes in foreclosure, an increase of almost 800 percent from a year ago. The rate also topped the previous record set in 1996 when the state’s previous housing slump reached its nadir.


The uncertainty over the housing market and the rising delinquencies has squelched rumors that had been circulating around Wall Street that Countrywide may be on the block. And for now at least, analysts who cover Countrywide are about evenly split on its stock. Seven analysts rate it a buy, five rate it a sell and six rate it a hold, according to Bloomberg News.


Analyst Paul Miller of Friedman Billings Ramsey & Co. Inc. downgraded the company last week to “under perform” from “market perform” until the current state of the mortgage market becomes clearer.


But with Countrywide having a nearly 20 percent share of the nation’s mortgage market, he noted in his research that “We still view (the company) as the ‘best of breed’ in the space.”


Countrywide did not return calls for comment.

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