Higher Bankruptcy Filings Foreshadow Deeper Pain For Lenders

More cash-strapped borrowers are being pushed over the edge; personal bankruptcy filings in the first quarter shot up 35% from a year ago, according to a report published Wednesday by an equity research firm.

In the first quarter, 308,530 bankruptcies were filed, an increase of 6% compared with the last quarter of 2008, said the Fox-Pitt Kelton Cochran Caronia Waller report. In March alone, filings totaled 121,413, a nearly 41% increase from a year earlier, and a 23.5% increase from February.

The data, in conjunction with dismal unemployment figures for March, foreshadow deeper pain for mortgage lenders, credit-card issuers and auto-finance lenders, as consumers buckle under financial pressures brought on by the economic downturn.

Rising bankruptcy filings have "negative consequences," said Christopher Wolfe, an analyst at Fitch Ratings.

U.S. employers shed 663,000 jobs in March, pushing the nation's unemployment rate, at 8.5%, to its highest level since 1983.

Troubles among borrowers put pressure on already fragile companies, ranging from mortgage finance giants to credit card issuers.

For the mortgage sector, the continued rise in bankruptcies means a greater number of borrowers will fall behind on their home loans, fueling foreclosures and pressuring housing prices.

Mortgage finance giants Fannie Mae (FNM) and Freddie Mac (FRE), whose federal takeovers in September were triggered by mounting losses on home loans and thin capital reserves, have seen delinquency rates on mortgage payments overdue by 90 days or more touch record highs.

Last week, Fannie reported that for January, 2.77% of the single-family loans held in its $785 billion investment portfolio were delinquent. That's a 0.35 percentage point increase from the month before, the largest such increase since the company started tallying the data in 1998. This is more than double the 1.06% rate a year earlier. Freddie's level stands at 2.13%.

Higher bankruptcy filings also spell trouble for credit-card companies.

"We expect issuers to continue to report higher charge-off rates as the number of personal bankruptcy filings rises in 2009," said Bill Carcache, an analyst at Fox-Pitt Kelton Cochran Caronia Waller, in the report.

Credit card issuers are already struggling under the weight of rising delinquencies that have forced them to squirrel away capital to account for souring credit-card loans.

Discover Financial Services (DFS) expects credit card loan losses to be at or around 7.5% in the second quarter.

In January, JP Morgan Chase & Co. (JPM) said losses from defaults on card payments could reach 7% in early 2009, climbing to 8% through the end of the year. At the time, this guidance was up a full percentage point from the third quarter.

The bankruptcy data come at a time when lenders are bracing for larger losses if a proposed change in bankruptcy legislation, backed by the Obama administration, goes through.

The White House is calling for a controversial provision to allow bankruptcy judges to rework the terms of mortgages in court.

If the changes to bankruptcy legislation are beneficial to borrowers, "more people may take advantage" and file, said Fitch's Wolfe.

A rise in bankruptcies will increase charge-offs, or, credit card loans deemed uncollectible, for plastic issuers. Historically, bankruptcies have accounted for roughly 30%-50% of credit-card charge-offs.

-By Aparajita Saha-Bubna, Dow Jones Newswires; 617-654-6729; [e-mail]

(Prabha Natarajan contributed to this report.)