Wells Fargo May Need Capital – WSJ.com

An initial U.S. stress test identified Wells Fargo & Co. as among the banks needing a buffer against future losses, said a person close to the company.

But it was unclear Monday whether Wells would be forced to raise fresh capital or if regulators would accept its argument that Wells can earn its way through losses in future years. San Francisco-based Wells expects more clarity Tuesday when 19 banks are briefed on final stress test results, following more than a week of appeals and negotiations. A bank spokeswoman declined comment.

Bank of America Corp., Citigroup Inc. and Wells, three of the nation’s four largest financial institutions, were among those with gaps when the government’s initial findings were released to the 19 banks last month. Some banks will still have capital needs once the final numbers are made public this week, according to the White House.

“There undoubtedly will be banks that need more capital,” White House spokesman Robert Gibbs said Monday.

But “everyone involved will be looking for banks to raise this through either private means or the selling of some assets that they have or that they control.”

Bank of America’s initial gap was in the billions, according to people familiar with the situation. The Charlotte, N.C. bank has contemplated a new share offering if its stock price climbs high enough, according to people familiar with the matter. It has also discussed the sale of certain assets, such as private bank First Republic, and shrinking the size of its balance sheet to preserve capital. It is not clear whether the bank would need to convert existing securities held by the government to common stock. One person close to the bank said regulators recently assured the bank that the “last thing” the U.S. wanted was government ownership of Bank of America.

Citigroup may need to raise as much as $10 billion in new capital, according to people familiar with the matter, although the bank may need less – or none at all — if regulators accept the bank’s arguments about its financial health.

Wells, despite its emergence as one of the survivors of the U.S. banking crisis, may be among the most capital deficient, some analysts said Monday. Keefe, Bruyette & Woods said Wells may need as much as $50 billion; SNL Financial said Wells will need $66.3 billion if it wants to maintain a tangible common equity ratio of 3%. Tangible common equity is one measure of a bank’s capital strength.

What worries some analysts is the risk Wells assumed with its recent purchase of troubled Charlotte, N.C.-based Wachovia Corp. Wells is now heavily exposed to commercial real estate, another weakening sector of the U.S. economy, and future earnings may come under pressure if Wells looks to reduce certain balance sheet items largely inherited from Wachovia, such as $6 billion in commercial mortgage securitizations and $137 billion of exposure to credit default swaps.

“Did they buy more of this risk than they anticipated?” said analyst Fred Cannon of Keefe, Bruyette & Woods.

Mr. Cannon, who predicts Wells will need $50 billion as a result of the stress test, said Wells could raise $25 billion by converting preferred shares held by the government into common stock. But he expects the bank instead to raise the money through “alternatives sources.”

Investor Warren Buffett, a big Wells holder, is among those critical of the stress test process, saying on Sunday that regulators were judging loss expectations too broadly. He is among those who could take a financial hit if Wells is diluted by an infusion of tangible common equity.

“To the cynical mind, he is talking his books,” Mr. Cannon said.

Interesting that the news in the Journal seems to be focussing on Wells Fargo, rather than Citigroup or Bank of America (although neither company escapes completely unscathed); but with Citigroup expected to need $10 billion in additional capital, and Bank of America possibly being able to shore up their balance sheet primarily by shedding assets (possibly avoiding having to convert preferred shares into common shares, diluting the shareholders), expectations that Wells Fargo may need as much as $50 billion in additional capital, today’s $4.64/share gain may not last.

It’s going to be interesting to see how this all plays out over the rest of the week once the final results of the stress tests are announced.