Drip Portfolio Report
Thursday, April 9, 1998
by Dale Wettlaufer (DaleW@fool.com)


ALEXANDRIA, VA (April 9, 1998) -- OK, let's get back to our regular programming today. We're nearing the end of the income statement part of the glossary, but we've still got a few things to go over. (When I've completed all the parts of the glossary, I will amend them and publish a new alphabetically arranged list).

Let's get to it.

Mortgage Servicing
Once a person has taken out a mortgage and the bank has booked the revenues for originating the loan, a bank has to service the loan. This includes making sure payments are up-to-date and insurance is in-force on the property, property taxes are paid, liens are in order, and that interest and principal are passed through to holders of securities representing master trusts, which buy the mortgages that banks and financial services companies sell.

Securitization
A bank or financial services company is said to securitize a mortgage or other loan when it sells the loan. Most large companies set up a master trust to acquire the loans. The master trust then issues its own securities called asset-backed securities, which represent claims on interest, principal, or both paid to the trust by the borrower. This allows banks to unload their assets and use the cash for other activities like making new loans or repurchasing shares or whatever.

Companies that sell their loans are now forced to recognize gains on sale of these assets by the Financial Accounting Standards Board Statement of Financial Accounting Standards No. 125 (FAS 125). The residual asset created when these loans are sold represents the net present value of cash flows the company will receive for servicing the assets held by the trust. The creation of these excess servicing rights, which are intangible assets, is represented on the income statement as a gain on sale of assets. That income is non-cash because it represents the present value of cash to be received in the future. Those cash flows are represented in future periods on the cash flow statement and on the balance sheet as a reduction in excess servicing rights.

Asset-Backed Securities
The story of the rise of asset-backed securities is well-told in a book with some otherwise fatuous conclusions titled Liar's Poker by Michael Lewis. These are securities that are backed by pools of mortgages, student loans, car loans, and now corporate loans. Bearers of these securities are entitled to receive streams of cash from principal, interest, or interest above a specified level. Two main classes of asset-backed securities are interest-only (IO) strips and principal-only (PO) strips. IO strips decline in value as interest rates decline because a higher percentage of loans on which the interest is earned are generally repaid as interest rates drop. That's why many PO strips increase in value -- because the principal that these assets entitle the holder ultimately to collect comes in sooner than expected.

Asset Management Fees
Any mutual fund holder can tell you what these are all about. These are the fees that a company generates for managing equity, bond, and money market mutual funds, private banking accounts, and investing the assets of institutional clients.

Credit Card Income
Most larger banks are also credit card issuers through Delaware- or South Dakota-domiciled subsidiaries. The income statements of these subsidiaries are usually consolidated into the income statement accounts of the parent. Some banks prefer to break out the pre-tax income of the credit card unit, which includes the net effect of interest income, interest expense, loan loss provision, and other operating expenses, on the income statement of the parent.

Personnel Expense
If broken out, employee efficiency can be assessed by dividing this expense into revenues (net interest income before loan loss provision plus noninterest income). The lower the resulting ratio, the better.

Have a great weekend, and if you're a Christian, happy Easter. If you're a Jew, happy Passover. If you're Canadian, happy Easter Monday. Happy National Heroes Day in Costa Rica, National Fast and Prayer Day in Liberia, and Bak Full Moon Poya Day in Sri Lanka. And please forgive me if I've left out any other holidays. And happy birthday to our top editor, Brian Bauer.

FoolWatch -- It's what's going on at the Fool today.


TODAY'S NUMBERS

Stock Close Change INTC 73 3/4 +1 3/16 JNJ 74 7/16 + 3/4
Day Month Year History Drip 1.05% (2.73%) 4.37% (11.12%) S&P 500 0.82% 0.81% 14.45% 16.75% Nasdaq 0.73% (0.84%) 15.91% 14.21% Last Rec'd Total # Security In At Current 03/02/98 8.625 INTC $80.572 $73.750 03/10/98 3.170 JNJ $67.087 $74.438 Last Rec'd Total# Security In At Value Change 03/02/98 8.625 INTC $694.94 $636.10 ($58.84) 03/10/98 3.170 JNJ $212.67 $235.97 $23.30 Base: $1300.00 Cash: $339.76** Total: $1211.82

The Drip Portfolio has been divided into 54.538 shares with an average purchase price of $23.837 per share.

The portfolio began with $500 on July 28, 1997, adds $100 on the 1st of every month, and the goal is to have $150,000 in stock by August of the year 2017.

**Transactions in progress:

03/17/98: Sent $81 to buy/enroll in CPB.
03/17/98: Sent $70 to buy more JNJ.
03/16/98: Sent $30 to buy more INTC.