WaMu Cut To Junk

NEW YORK (Reuters) – Washington Mutual Inc (WM.N) was downgraded to below investment-grade status by Moody’s Investors Service, after the largest U.S. savings and loan projected a $4.5 billion third-quarter increase in reserves for bad loans but said it has more than enough capital.

Moody’s cut the Seattle-based thrift’s senior unsecured debt rating two notches to “Ba2,” its second-highest “junk” grade, from “Baa3,” with a “negative” outlook. It also lowered its rating for the banking unit to “Baa3” from “Baa2.”

“Washington Mutual’s access to the debt and equity markets remains severely constrained,” Craig Emrick, a Moody’s senior credit officer, said in an interview.

He added, though, that “there are no significant ratings triggers from a downgrade like this, because Washington Mutual is not reliant on wholesale short-term funding.”

Shares of the thrift rose 20 cents to $3.03 after-hours but gave back some gains following Moody’s downgrade. The shares rose 51 cents, or 22 percent, in regular trading on the New York Stock Exchange, after touching an 18-year low of $1.75.

Investors are worried that Chief Executive Alan Fishman, who replaced the ousted Kerry Killinger this week, might fail to raise sufficient capital to cover mortgage losses that the thrift has said could reach $19 billion through 2011.

Washington Mutual said it expected the third-quarter increase in loss reserves to decline from $5.9 billion in the second quarter, when its overall net loss was $3.33 billion.

It also said it expects net charge-offs, or loans it does not expect to be paid back, to be roughly $2.7 billion in the third quarter, up from the second quarter’s $2.17 billion.

In a statement, the thrift called the Moody’s downgrade “inconsistent” with its finances, but said it does not expect a “material” impact on borrowings, collateral or margin requirements, or to suspend dividends on its preferred stock.

It also said it has $50 billion of liquidity from “reliable funding sources,” and expects capital to remain “significantly above” regulatory minimums for “well-capitalized” lenders.

Fitch Ratings on Thursday cut its credit rating to “BBB-minus,” the same level as Standard & Poor’s, and those agencies’ lowest investment grades.

The thrift expects to report full results on Oct. 22.

About $3.4 billion of the reserve increase is expected to come from residential mortgages. Credit card reserves would rise by $600 million from the second quarter as the thrift moves securitizations back onto its balance sheet, not because credit quality is deteriorating, a spokesman said.

Fishman is a former chief operating officer of Sovereign Bancorp Inc (SOV.N: Quote, Profile, Research, Stock Buzz) and chief executive of Brooklyn, New York’s Independence Community Bank Corp.

Washington Mutual said it will take a charge for losses on $282 million of Fannie Mae (FNM.N: Quote, Profile, Research, Stock Buzz) and Freddie Mac (FRE.N: Quote, Profile, Research, Stock Buzz) preferred stock it owns. It also may take a non-cash goodwill write-down to reflect the lower value of various assets.

Non-interest income is expected to be about $1 billion, up from $561 million in the second quarter, reflecting growth in deposit and retail banking fees.

Investors remain worried about the thrift’s capital even after Washington Mutual raised $7 billion this year from investors led by private equity firm TPG Inc [TPG.UL].

“Unfortunately, their options have narrowed significantly, even over the past two days,” Sean Egan, manager of the ratings desk at Egan-Jones Ratings Co, said in an interview. He said the thrift may need to raise well over $10 billion.

TPG spokesman Owen Blicksilver declined to comment.

Earlier this week, Washington Mutual said its main regulator, the Office of Thrift Supervision, had stepped up its oversight into how the thrift manages risk. OTS spokesman William Ruberry said the agency is monitoring the situation.

Separately, in a regulatory filing, Washington Mutual said it awarded Fishman a $1 million annual salary, a $7.5 million signing bonus, stock options and restricted stock, as well as eligibility for performance-based bonuses and incentives.

By Jonathan Stempel

(Additional reporting by Megan Davies in New York, Doris Frankel in Chicago and John Poirier in Washington, D.C.; Editing by Andre Grenon, Gary Hill)