S&P, Moody's Downgrade Subprime Backed Bonds: Indymac's Response

On Tuesday, July 10th, S&P and Moody’s collectively downgraded, or placed on credit watch, 1,011 bonds that are backed by subprime mortgage securitizations. S&P put all bonds on credit watch and stated that they would initiate downgrades over the next several weeks, while Moody’s actually went through with the downgrades. According to Moody’s, “the negative rating actions were based on credit enhancement levels (including excess spread) that may be too low to maintain current rating levels in view of projected losses.” Clearly, the erosion in the subprime marketplace has been occurring for some time now and the actions taken by the ratings agencies had been largely reflected in the widening market spreads on these bonds.

How will this affect Indymac Bancorp (IMB)?

Indymac was the issuer of 20 (or approximately 2%) of the 1,011 bonds that were downgraded or placed on credit watch Tuesday. Of those 20 bonds, Indymac owns one bond with a $3.8 million book value.

The result of these actions taken by S&P and Moody’s will have a few longer term effects. For example, we believe:

• There will be fewer subprime loans made, generally at higher rates, and there will be a reduction in these consumers’ ability to purchase homes and refinance their existing mortgages.

• As a result of increased subordination levels, there will be a lower percentage of loans sold in private label securities in favor of sales to the GSEs.

• Those institutions with portfolio capabilities will hold a higher percentage of loans in their portfolios.

We have previously made our earnings forecast for the second quarter public, and we’re standing by that forecast. The only exception is that we had included in that forecast the sale/leaseback of a commercial property that we owned, which houses one of our mortgage loan centers, and that sale (which has now closed) ended up occurring in early July. An 8K was filed today describing the $60 million gain on the transaction, $24 million of which will be recorded in Q307 with the remainder deferred over the life of the lease.

As we have stated time and time again, our subprime volume is very small, less than 4% of our total volume, and therefore our exposure to the ills of the subprime marketplace is relatively small as well. As a well-capitalized thrift, we have all the tools and resources at our disposal to adapt successfully to this new market reality. While we wanted to comment on these recent events regarding the bond downgrades, we will be providing more information on this topic and a thorough review of our business when we release earnings on July 31, 2007.

P. S. Another positive bit of news is that loan repurchase demands (not actual repurchases, but new demands) are down significantly, as we have previously forecasted, from $527 million in Q107 to $221 million in Q207, with May and June coming in at $44 million and $43 million respectively. In addition to those numbers, the S&P lifetime loss on our current loan production is down materially as a result of our early response to the market corrections described above, including product cuts and credit tightening. Based on the current S&P model, our lifetime loss is down from 85 bps in Q107 to 63 bps in Q207…down further in June to 59 bps. Both of these events are strong signs that the actions we have previously discussed have resulted in our credit quality improving.