Some banks to take hit on GSEs' preferred stock

Sovereign Bancorp and Cascade Financial are among the banks that could take a hit on the value of preferred stock they hold in Fannie Mae and Freddie Mac after the U.S. government's move to bail out the mortgage giants.

Investment, banking and insurance companies are thought to be particularly vulnerable as a result of the government rescue because they hold billions of dollars' worth of the government-sponsored entities' preferred shares.

Many classes of the pair's preferred stock plunged around 80 percent in value Monday. Banks hold the preferred stock as part of their core capital and will likely have to write off those losses.

Analysts singled out Sovereign Bancorp Inc., a Philadelphia-based regional bank, and Cascade Financial Corp., the parent of Washington state-based Cascade Bank, as among the biggest potential losers.

Sovereign, a Philadelphia-based regional bank, held about $639 million of the mortgage titans' preferred securities at the end of the second quarter.

The company could be facing a $500 million writedown, "and this number may be exceeded," Matthew Schultheis of Boenning & Scattergood Inc. said in a research note.

Such a steep decline in its investments would represent a setback in the company's efforts to strengthen capital levels but would not affect its credit rating, Standard & Poor's said.

Cascade faces a "high likelihood" of needing to raise additional capital because of its Fannie and Freddie vulnerability, according to analyst Tim O'Brien of Sandler O'Neill. He noted that total risk-based capital at Everett, Wash.-based Cascade was $139 million as of June 30 and must stay above $130 million for Cascade to remain well-capitalized for regulatory purposes.

Investors punished both stocks Monday. Sovereign shares shed 64 cents, or 6.6 percent, to $9.02 while Cascade tumbled $1.05, or 11.7 percent, to $7.94.

Two other regional banks with among the largest exposure to Fannie and Freddie as a proportion of their capital suffered even worse selloffs of 25 percent. Chicago-area banker Midwest Banc Holdings Inc. sank $1.46 to $4.48 and Gateway Financial Holdings Inc. shed $1.75 to $5.35. Midwest Banc later issued a statement saying it remains well-capitalized despite the bailout.

JPMorgan Chase & Co. was among bank stocks that drew more investor optimism after Sandler O'Neill analyst Jeff Harte said its exposure to Fannie and Freddie preferred "seems manageable" even though it held $1.2 billion in Fannie and Freddie preferred stock as of Aug. 25.

Shares in the investment bank finished up $1.95, or 4.9 percent, at $41.55.

Smaller bank companies Astoria Financial Corp., Flushing Financial Corp. and Webster Financial Corp. are others that are vulnerable to Fannie- and Freddie-related losses, according to Sandler O'Neill analyst Mark Fitzgibbon. Astoria reported $83 million of Freddie Mac preferred shares at the end of last quarter, Webster had $15 million, and Flushing had $28.2 million in both Freddie and Fannie preferred.

Seeing all of those holdings become worthless, if the worst-case scenario happens, would be an "unfortunate" but "very manageable event" for the three, Fitzgibbon said in a note.

Astoria Financial shares surged $1.89, or 8.6 percent, to $23.81; Webster Financial shares jumped $1.79, or 7.8 percent, to $24.65, and Flushing Financial shares rose 32 cents, or 1.9 percent, to $16.90.