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Corner Office

Keeping above the subprime mess

Kai Ryssdal Jun 10, 2008
Corner Office

Keeping above the subprime mess

Kai Ryssdal Jun 10, 2008


Who: Wells Fargo & Company CEO and President John Stumpf.

Education: Stumpf earned a bachelor’s degree in finance from St. Cloud State University and an MBA from the University of Minnesota.

What you may not know: Stumpf works out the stress of being CEO doing yoga twice a week.

Kai Ryssdal: John Stumpf, welcome to the program.

John Stumpf: Thank you, nice to be here.

Ryssdal: Do me a favor and situate this company for me in the world of banking. Put it into context.

Stumpf: It is 156 years old and it is the fourth largest commercial bank in the country in terms of market cap. It is the fifth largest in asset size and it’s in 80 different businesses, so we are much more than a bank. We’re really in the financial services business which really remains an exiting fragmented business. So there isn’t any one player that controls 30, 40, 50% market share like you’d see in other industries.

Ryssdal: This is obviously a tricky time for banks. How is business for you?

Stumpf: Business is actually not bad. Now . . . that’s a statement on average. Clearly parts of the industry and parts of the business are stressed because we feel what our customers feel. So if you are in housing or in autos, things are tough; but if you are in agriculture or technology or energy, things are pretty good. And the thing I look at most of all is unemployment. If unemployment, which is around 5, 5 ½ % unemployment so it’s fairly benign. If that unemployment stays low, we’re going to get through this.

Ryssdal: You are feeling alright then about the economy.

Stumpf: Well not necessarily. The economy though, is still difficult. The housing is still a big drag on the economy but we have still some positive GDP growth, albeit small, and housing does have a big negative influence on that and there’s a lot of discussion: are we in a recession or are we not in a recession? The technical term of recession is two consecutive quarters with negative GDP growth. We’ve not seen that but it sure feels like we’re in a recession from how people are hurting and the big influence housing has. So I don’t think we are through this. I think these are challenging times, clearly difficult, but there are parts of the economy that are doing well and make up for the challenges in residential housing, autos and other things.

Ryssdal: Challenge is kind of a “kind” word.

Stumpf: It feels like more of a challenge when you’re the one who has your home in foreclosure, you happen to have your income derived from residential real estate, you happen to be in manufacturing in an area that’s having difficulty. Clearly, on the other hand, if you are in oil and gas or you are shipping things over seas, because of the weak dollar and technology, if you’re in any kind of commodity . . . things are better than challenging, in fact they’re pretty good.

Ryssdal: You got this job about a year ago. Just when most of the rest of the country and the world was beginning to learn the phrase “sub-prime”, what were your thoughts when the board came to you and said, “listen, we need you to take over the company?”

Stumpf: I don’t think I’ve been asked that question quite that way before. I have been at the company a long time. I’m a 26 year veteran of this company and Dick is . . . my predecessor, is the best that our industry has produced in a generation. He is simply the best. I’ve been honored to have worked for someone, closely with him for so many years. But we all have a role to play on this team, and it’s not about John Stumpf being CEO, it’s about all of us . . . all 168,000 of us in our 80 businesses all across the country serving our customers. So, someone has to lead . . . it was a job I’m thrilled to have but it wasn’t one I necessarily set up my career to achieve. I’d have been as happy doing other things as long as I could add value for the company.

Ryssdal: There was no inner moment of, “Oh man, what’s going on?”

Stumpf: No, I’ve been through this . . . you know, I’m old. When you’re old you go through . . .

Ryssdal: But you look good.

Stumpf: This is my third big cycle that I’ve been through in my career. This one is different, but we have lots of customers to serve, we have things to do, we have opportunities to distinguish ourselves from our competitors and we typically do that better in tough times than in good times. So, yeah! Would I like benign credit? Everything’s growing, market’s up . . . sure, that would be easier but I’ll take it whichever way it comes.

Ryssdal: I want to read you something from last July, about a month after you took this job. It’s the Associated Press and it says . . . “The mortgage division of Wells Fargo said Thursday that it planned to withdraw from the increasingly risky business of issuing home loans to people with blemished credit records.” This is July of 2007. What did you guys know? What did you know back then that none of the rest of Wall Street seems to have known?

Stumpf: We never participated in some of the real exotic things that the industry and others participated in. For example: we never understood why it made sense to make someone a loan, a home mortgage with negative amortization. So you would owe more on the home later than what you started with. That didn’t seem sensible to us. We don’t do it in any other credit products, not in credit card, why would you do it on someone’s home? Because you don’t know what’s going to happen in the future. You don’t know what’s going to happen to home values, so you owe more than what you start with some time later, or you underwrite somebody so they can pay a ‘teaser rate’ . . . part of the rate, and they can’t afford the full rate. How can that possibly make sense? So as we saw, and we probably didn’t see as early as we should have, but as you see 5-6 years of unprecedented appreciation, some time it is going to go down. So we started to trim back and thank goodness we didn’t do a lot of those things, but here’s the real secret . . . many companies not only did that for their portfolio, they also structured off balance sheet vehicles known as ‘SIV’s and CDO’s and CLO’s. I thought a SIV was a four-wheel drive; I had no idea what it was! And they put these products, and they leveraged their balance sheets with these off-balance sheets things, these vehicles that add NO value and now they’re coming back on-balance sheet. And that’s where the 380 billion dollars of losses have happened around the industry and we didn’t participate in that.

Ryssdal: So when you had conversations with some of your peers like Ken Lewis of Bank of America and people who are running big banks in this country, did you say, “What are you guys thinking?”

Stumpf: Well, I didn’t have any of those kinds of conversations. We are busy enough working on our own things and others can do what they choose to do. But we shared pretty openly with investors and with regulators about the things that we would not do. Let me be clear about this . . . we didn’t do everything right. I wish I could say that everything that Wells Fargo did was the right thing. In hindsight, we made some loans in home equity that through the corresponding channel we should not have done, I wish we wouldn’t have done. But in large part, we avoided the big problems the industry is seeing because of our culture. Our culture puts the customer at the center of what we do. If it’s good for the customer, it will ultimately be good for us.

Ryssdal: Where does the responsibility lie then for the sub-prime crisis?

Stumpf: The responsibility lies in lots of corners. First of all, there were a bunch of lenders . . . about 60% of all the loans originated in America today or during that time were originated by brokers. And there’s nothing wrong with brokers, we do business with a lot of them.

Ryssdal: The middleman in the mortgage business.

Stumpf: Yes, but they get paid when someone signs a loan, and they’re out of it. Well you can imagine the opportunities for not telling the truth; the so-called ‘liar loans’. A number of borrowers said and thought themselves, this thing is going to the moon. And they told fibs about their occupancy interests, in other words . . . they said they were gonna live there but they really weren’t. It was their fifth loan. Or they lied about their income. Or they expected that somehow this would all work out, and it didn’t. So the originators are part of the problem. Over-aggressive borrowers have some blame. The rating agencies, the syndicators . . . So, and what happened to the days I used to borrow money, I still borrow money for home loans . . . I went to a bank or an S & L and that person took your application, reviewed all your information, verified your income, verified all of what you could afford and said, “here’s how much you can afford to borrow.” And then they put that loan on their books. Today, many times you go to . . . the originator says, “What would you like to buy and I’ll figure out a way to make the paperwork justify it.” It was done in just the opposite way in a lot of situations. So, but let’s also keep this in perspective. I’m not minimizing the problems at all. But the Treasury Department recently shared information that’s pretty interesting. There are 80 million homes in America. Of those 80 million homes, 25 million have no debt on them at all. Of the 55 million that have debt on them, 51 million are fully current. 4 million are in some situation of past due and of that 4 million, 1 million are in foreclosure. Now that’s a big number. It’s problematic. Congress is working on that, regulators are working on that, the banks through help now are working on that. These are big issues, but it has to be kept in perspective.

Ryssdal: When was the last time you checked with Henry Paulson, the Secretary of the Treasury? What do you guys talk about when you talk?

Stumpf: We talk about things that we’re talking about right now . . . about housing. How can we work together, keep people in homes? When someone loses a home, it does not help the investor. It does not help us, the servicer. It does not help the customer. Everybody loses in that situation.

Ryssdal: There are people now, though with really good credit who are having tough times getting loans. Doesn’t it make sense in this economy to get people spending and to get people buying houses?

Stumpf: Absolutely. I’m not sure that I would buy that statement. Now maybe that’s true but what I’m hearing more from customers is, “I want credit on the same terms that I got at 3 or 4 years ago.” With no documentation, no income verification and at the rate, and frankly, we didn’t put mortgages in our books or even a lot of credit in our books a few years ago because there was no return built in for risk. These were viewed as riskless assets, and they’re not. So today, we are getting paid for the risk and frankly for some of the liquidity. So it’s built into the rate, but for the most part . . . and while credit, there’s always this talk about credit crunch and liquidity crunch, I’m not so sure there’s a liquidity crisis. There’s plenty of money out there. Now on the credit side, if you qualify, you can get credit.

Ryssdal: That’s funny you don’t think there is a liquidity crisis.

Stumpf: Well, there can’t be. Look at what happened . . . 380 billion dollars of losses in the industry have been recapitalized. I mean, just look around. Capital is flowing everywhere. We saw in our industry where Wamu got 7 or 8 billion dollars of capital recently, and Citigroup has raised capital, and National City has raised capital; I mean there’s capital all over the place.

Ryssdal: What does it tell you though, that all these institutions have to go out and raise new capital?

Stumpf: Well I only think about our institution. We haven’t had to do that.

Ryssdal: Where do you think we are in the lifecycle of the sub-prime mess?

Stumpf: I get that question all the time and it’s always in baseball parlance. Which inning are we in? Are we in the fifth inning? You just got to tell me if it’s an extra inning game or a double header. I would say this . . . we are clearly in the throes of it right now and my guess is that we have more to go, more downward pressure on home values. But I also think we will hit bottom at some point in time, whether it’s later this year or some time in 2009 . . . I don’t know when that’s going to happen. But my guess is this . . . that it will probably go further than it should, it will bounce back off the bottom, and that when it does hit the bottom, because of cheap interest rates . . . remember rates are still at very, very low rates . . . 30, 40 year lows, if you will . . . people have jobs. Housing is becoming more affordable, because of those things; and I think the inventory will be taken off the table faster than you think.

Ryssdal: Wells Fargo is, if not the largest, then one of the largest owners of foreclosed homes in this country.

Stumpf: Well, that’s not quite true. We are one of the largest servicer of mortgages in the country, so we service one in seven mortgages in America and we are the middle person between the borrower and the investor. So we contract with the investor to collect the payments from the borrower, pay the taxes and then pay them for their interest and their principal. When those loans get foreclosed, and about 1% of our loan portfolios in foreclosure, we have mostly our prime portfolios . . . 92% of all loans we service are prime mortgages, we’re not a big sub-prime player either as an originator or a servicer . . . and when they do go into foreclosure and that 1% rate is lower than other servicers, because of the quality of our portfolio we really foreclose for the benefit of the owner, the investor and not for our own benefit.

Ryssdal: Somebody is going to hear you say for the benefit of somebody and they are going to say, “Wait a minute. How can a foreclosure be for the benefit of somebody?”

Stumpf: It’s for the owner. We foreclose on behalf of the owner. You’re right. When you foreclose, everybody’s lost at that point and time. But the point is, we foreclose . . . and actually, we are legally obligated to do that on behalf of the owner so we foreclose, and we give them the loan and they reimburse us for our costs.

Ryssdal: On a personal level, what’s your sense of obligation or responsibility for what’s been happening in the banking and finance industry?

Stumpf: Responsibility? I don’t know if I understand the question.

Ryssdal: Not to say personal liability, but my question is . . . when you think about what’s been happening as a result of your industry has done, do you have regrets?

Stumpf: I would say it this way. I feel badly anytime anyone from our industry does something that does not put the customer at the center of everything that they do. So it’s for the benefit and for to help our customers. In fact, the first two lines in our vision is about helping customers succeed financially and earning all of their business. We feel what our customers feel. It helps us not at all to put a customer into a loan, into a product, into a home that they cannot afford. They lose, we lose. So when our customers grow and benefit and succeed, we grow and benefit and succeed. So if anybody that doesn’t do that, have that as the primary motivation of their business model, I think is not serving our industry well and is not serving customers well.

Ryssdal: One of the uglier sides of the foreclosure mess has been the way people lose their homes . . . fees, unexpected tax bills. In the case of this company . . . charges of discrimination against African Americans . . . what about those and how do you make that right?

Stumpf: Congress has done some work on the tax situation and how that arises is if you . . . if an organization, if a bank, if an owner of a mortgage instead of foreclosing does a short sale and it’s for less than what the amount’s owed, that could be imputed income to the foreclosed customer. And they are doing some work, I think they have actually done some work to not have that situation happen. In the case of problems that are around fees and for those who are in the minority communities, all I can say on behalf of our company . . . we’ve been the number 1 lender to lower and moderate income borrowers. We’ve helped more persons of color own more homes in this country than any other organization. And with respect to accusations that we have in any way taken advantage of our position with any community is totally false and I absolutely do not accept that.

Ryssdal: What are your thoughts on relieving the mortgage crisis with public money? There are bills going through Congress, the White house is working on some things?

Stumpf: I think that is really an interesting issue. We all know, the industry knows what to do and I think Congress and the regulators on a prospective basis . . . you should always underwrite to the fully indexed rate. You should verify and you can do all these sort of things . . .

Ryssdal: That’s not tough coming out of the sub-prime mess.

Stumpf: Exactly. And that’s frankly . . . those are the responsible lending principles we’ve used all along. So on a prospective basis, everyone agrees. On a retrospective basis, that’s the natty problem. I have a general aversion to using public money, our citizen’s money, to bail out problems for a particular sector. Why then shouldn’t we bail out problems for people who lose money in the stock market and other industries? And so forth and so on . . . If people did things improper, those lenders should be held accountable. But to use public money . . . I don’t know where that thing stops. Because if you say that your house is under water and you’re past due and you get helped out, what if you’re under water and you’re current? I mean, where do you stop this situation? In a capitalistic system, those who fly too close to the sun, get burned. It’s a tough way to say it but that’s what happens.

Ryssdal: The logical following question when you are talking about sacrificing one to save the many is Bear Sterns. And the Feds backed bailout of that investment bank.

Stumpf: Now that’s a bit of a different situation.

Ryssdal: Absolutely.

Stumpf: Let me tell you why I think it’s different. Today, companies have so much counter-party risk.

Ryssdal: Explain that.

Stumpf: What that means is that when one company does business with another company, they’re buying and selling swaps, transactions, assets, investments and so forth. They’re doing it on the credit and faith of their counter party. If you pull one party out of the chain, the whole fence could fall. And I think that was a situation where the Treasury and the Fed came together and said, “This one is too important for the entire industry because of those counter-party transactions.” And the pain from that would be more painful than to keep that up.

Ryssdal: Were you in on the conference calls that weekend?

Stumpf: We don’t comment on that. Nice try.

Ryssdal: Well, let’s try a different tact. What did you think when you first heard about it?

Stumpf: I thought that the Treasury and the Fed did the right deal and I think that it was helpful for this country and for this industry to have it work out the way it did.

Ryssdal: Last time you guys reported quarterly profits, it was not great news but it wasn’t terrible news and it was greeted with a sense of relief, what does it tell you about the health of this industry when no bad news equals good news?

Stumpf: I think we actually had a pretty good first quarter. We actually had a 17% return in equity . . .

Ryssdal: Well you’re making money and that’s all well and good but basically the gist was “Phew! No skeletons in that closet.”

Stumpf: Well these are tough times. I mean, these are times where we have strong head winds and we are at the upper end of the credit loss cycle, and in our company’s case, to be able to not only pay for the credit hits we took, we actually added to our reserves. We’ve added almost 2 billion dollars to our reserves in the last two quarters. We paid a 31 cent dividend, and yet on top of that we still added money to our retained earnings. We added organically to capital, I think does suggest that Wells Fargo is different from everybody else. We don’t have a lot of these manufactured things on the asset side and we kept our customers at the center of what we do and we are now receiving the benefit from that.

Ryssdal: So are you and Jaime Diamond from J.P Morgan the smartest guys in the room? I mean, how can it be that you are the only guys making money?

Stumpf: Jaime might be the smartest in the room; I wouldn’t put me in that group but I would say it’s the company’s culture. 156 years stand for something and when you look at our culture . . . putting customers first, creating an environment where team members believe and adopt this idea of working together, a place where we invest in our communities, we also strive to give a good return to our shareholders . . . those four constituencies are critically important. And if you stick to those, you don’t need to be the smartest person in the room. Put customers first and that always works out well.

Ryssdal: When I told people, friends of mine and associates around the office that I was going to come up and talk to you, they said, “Oh I bank at Wells Fargo.” A good number of them did. But they also said, “Listen, you have to ask him about what’s up with all the fees that they charge us in retail banking these days.” So there you go. We’ve got the head man sitting right here.

Stumpf: Clearly fees get charged by all organizations in our industry for particular services. There is a fee if you go and pay something by credit card but the fee actually gets paid by the merchant. Most of the products we have here at our company you can get from us and avoid fees or have free accounts. And for those accounts that do have fees, we believe that the services provide more value than what the fee is charged.

Ryssdal: Since business is so good these days for you . . .

Stumpf: You keep saying that . . . there are very good aspects of our business . . . We are growing our balance sheet, we are making . . . were winning new households. The credit side is very challenging.

Ryssdal: Granted. But overall, Wells Fargo is in pretty good shape, right?

Stumpf: I like our chances.

Ryssdal: O.K. That being the case, how do you like your chances for getting bigger? Are you planning any acquisitions? You want to grow? How are you going to do that?

Stumpf: There are only three ways that I know how to grow. You can buy someone, you can acquire a new household or you can do more with existing. Unless you do the third one well, you will fail miserably at the first two. The third one is called organic growth. About 80% of all of our growth comes from doing more with existing customers, so it’s a big part of our company. I always say the big O . . . small A. Acquisition. So we like to do smaller infield acquisitions. We did three that we’ve announce in the last year . . . that’s more than we’ve done in total asset size than the previous six years combined. We did Greater Bay here in the bay area. We did Plazo Sierra in Sacramento. And then we just announced a wonderful deal in Wyoming. So my guess is we’ll do some more smaller deals. As far as a large transformational deal, I view it as highly unlikely. These are challenging. You have to be so right. And part of the cost of those is what does it do to the organic strategy? Does it take focus away from that? A very expensive part.

Ryssdal: Do you see the sub-prime crisis as a business opportunity for you?

Stumpf: It’s an opportunity in this sense . . . Take it for example, on the mortgage side where that’s where sub-prime is really based. Many of the mortgage originators who lived on the sub-prime spreads and the earnings there used it to subsidize some of their prime business, and many of them are now gone. We always had been a big prime originator. So there’s actually good margins in that business, better margins today . . . we are getting paid for the work we do. And also, a lot of these mortgage companies are gone. In fact, there have been lots of failures so we are actually gaining share there and serving more customers. We are also hiring some of their bankers to come and work for us. We’re introducing them to our culture: putting customers first and so forth. So yes, we are getting chances at new business that we’ve not had before. Secondly, some of the problems in the industry that have hurt these other banks’ competitors, have caused them not to have capital and not to have capacity to make loans in other areas of the bank. So we’re winning new commercial customers and customers unrelated to mortgage because their banks can no longer serve them. So yes, it’s working to our advantage.

Ryssdal: What keeps you up at night?

Stumpf: Well, I live in the city so it would be sirens and my wife if she
snores from time to time. Seriously, I don’t worry a lot about
things I can’t control, not that I’m oblivious to it. What keeps
me up is more around things we can control. Do we continue to
reinforce and invigorate our culture? Do we have all the right
peoples; the right people in the right spot on the right bus going
in the right direction? Are we making the necessary investments
for the future? Are we investing enough in our communities? We
are the 19th largest earner in the country and we are the 10th largest
philanthropic organization in the country. We had a view that we
have not seen a bank do well over time in any one of our
businesses where the community does poorly. So we invest there.
so those are the things that I worry about; things that are within our

Ryssdal: One of the areas of growth for this company that’s been
highlighted is small businesses. (correct) What are you offering
small businesses that other banks can’t or won’t?

Stumpf: Well, I think people. We offer over 2500 business bankers in our
geographies in the stores that have the ability and they’re and
they’re encouraged to help customers make decisions very close to the customer. We are very much decentralized in our way of operating. We also, I think, have some of the best distribution with on-line offerings and so forth. And we also tend to package products, and it’s our view of the “Happy Meal”, and our customers get a better deal by doing more with us. So we share some of the value with them.

Ryssdal: I can’t let you go without asking you about the largest share-
holder in this company, a guy by the name of Warren Buffet.
how often do you talk to him, by the way?

Stumpf: Oh, maybe a couple times a year.

Ryssdal: That’s it. Really?

Stumpf: Yes. He’s a very ‘hands-off’ person. I used to see him more often.
On line we used to play Bridge together, although and he’s a very good Bridge player, but I’ve been too busy for that. I’d like to say I play customer Bridge, I lose on purpose so he buys more stock but he can win at will anyhow.

Ryssdal: C’mon. Really?

Stumpf: He’s a wonderful human being, a wonderful long-term investor
and he shares our values and that’s so very important.

Ryssdal: Did I read in some place that you like to bake?

Stumpf: Yes. I worked in a bakery before I got in banking.

Ryssdal: So what’s your favorite recipe?

Stumpf: I can make almost any bread known to man. I’m a big bread guy.

Ryssdal: John Stumpf is the president and CEO of Wells Fargo. Mr. Stumpf, thanks a lot for your time.

Stumpf: My pleasure. Thank you kindly.

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