The SEC Lets Wells Fargo Off The Hook Over Mortgage Securities

In what comes as a welcome relief for Wells Fargo (NYSE:WFC) and its investors, the U.S. Securities & Exchange Commission (SEC) has decided to drop its inquiry into the bank’s alleged misrepresentation of facts while selling mortgage-backed securities worth around $60 billion. ^[1] The SEC had announced the investigation early this year, and had also involved the federal court in procuring requisite information from the bank in March (see Wells Fargo Takes Heat From SEC in $60 Billion RMBS Investigation). Unlike its peers Bank of America (NYSE:BAC) and JPMorgan Chase (NYSE:JPM) who are jousting with a long list of mortgage-backed securities (MBS) related lawsuits, Wells Fargo has no similar lawsuit filed against it. And with the SEC’s investigation being closed, the bank has essentially been given a clean sheet about its conduct in securitizing mortgages before 2008.

We maintain a $37 price estimate for Wells Fargo’s stock, which is at a premium of under 10% to current market prices.

See our complete analysis of Wells Fargo here

The SEC’s investigation into Wells Fargo’s mortgage securitization practices between September 2006 to early 2008 was a major source of worry because of the bank’s significant focus on the mortgage business over recent years. This is because of two reasons:

1. The immediate fear of litigation and settlement-related fees which Wells Fargo would potentially have to shell out as a result of the lawsuit that the investigation could spawn. This would increase Wells Fargo’s non-interest expense considerably when such charges are imposed – hitting profitability for the bank which has seen record profits over the last few quarters.
2. In our opinion, the bigger concern rising from the investigation was its impact on Wells Fargo’s stature in the mortgage industry. As seen in the chart below, mortgages contribute to nearly a quarter of Wells Fargo’s total value. And any signs of wrong-doing established by the SEC would have severely tarnished the bank’s reputation in the industry – making it difficult for it to originate or service mortgages. Moreover, such a discovery would also call to question the underlying quality of its huge mortgage portfolio, hitting investor confidence in the country’s largest bank in terms of market capitalization.

Wells Fargo is the second bank which saw the mortgage-related inquiry against it dropped by the SEC, after Goldman Sachs (NYSE:GS). JPMorgan Chase and Credit Suisse (NYSE:CS) were not so lucky, though, with the two banks entering into settlements totaling $417 million with the SEC this month.

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1. Wells Fargo says it won’t face SEC action on mortgages, Reuters, Nov 28 2012 [↩]