Regional, Small Banks Feeling Fed Bailout Pain

The federal takeover of home mortgage lenders Freddie Mac and Fannie Mae is prompting banks nationwide to mull over their own rescue plans.

Many banks own common or preferred stock in the two government-sponsored agencies while a handful "have holdings that are significant," according to a Sept. 7 statement from federal bank regulators. Unfortunately, these stock investments risk being totally wiped out by the U.S. Treasury's recent seizure of Freddie and Fannie, a controversial bailout designed to stabilize the volatile housing industry by making a government-backed market for home loans.

Those investment losses are expected to slice into banks' capital reserves -- an important regulatory measure of financial health and stability -- while setting the stage for some significant earnings hits.

Among those expected to feel a capital pinch are: Gateway Financial Holdings Inc., Midwest Banc Holdings Corp., and Cascade Financial Corp., according to a September 8 report from investment research firm Keefe, Bruyette & Woods. The report states these three banking groups would "fall below any of its `well-capitalized' regulatory capital ratio levels" if they lost 100 percent of their Freddie and Fannie stock investments. If only 75 percent of the investment is lost then Midwest Banc "would fall just below the 'well capitalized' regulatory result," the KBW report states.

All banks mentioned state that under any stock loss scenario they are well capitalized and are capable of adapting to any changing investment situation.

Banks that are on the firing line will have to consider a number of ways to shore up their capital ratios. Those options include: Attracting new money from investors; cutting shareholder dividends; or reducing their business portfolios by limiting the corporate, small business and consumer credit.

Nonetheless, the upcoming quarter does not promise to be a happy time for lenders. This week, Wells Fargo & Co. started what may be a trend by saying it expects to take a charge related to a write down of its $480 million in Fannie and Freddie preferred stock.

Small community banks will also be forced to regroup, according to federal regulators. At the time of the Freddie and Fannies takeover, U.S. bank regulators issued a statement saying that they "were prepared to work" with lenders that needed to replenish their capital base.

Such a commitment could help ease any unintended consequences or pain that arises from the fed's takeover of Freddie and Fannie.

"I don't think you'll see any banks go out of business because of the bailout," says Richard Bove, industry analyst with Ladenburg Thalman.