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April 4, 2007 FRB 2006 Supervisory Letter Federal Reserve Bank ofRichmond - Charlotte Office Post Office Box 30248 Charlotte, North Carolina April 4, 2007 Mr. G. Kennedy Thompson President and Chief Executive Officer Wachovia Corporation 301 South Tryon Street Charlotte, North Carolina 28288-0100 Mr. Joseph Neubauer Chairman of the Audit Committee Wachovia Corporation 201 North Tryon Street Charlotte, North Carolina 28288-0040 Dear Messrs. Thompson and Neubauer: This letter conveys the Federal Reserve Bank of Richmond's annual supervisory assessment ofWachovia Corporation (Wachovia). The assessment considers the company's risk profile, the effectiveness of corporate governance, risk management practices, internal controls, and financial strength and assigns a supervisory rating for the consolidated organization. The supervisory rating is based on the results of our continuous monitoring effol1s, regular discussions with management, horizontal reviews, and targeted examinations conducted during 2006. The findings of the targeted examinations were communicated to senior management through letters issued after the conclusion of each examination. In addition, we worked closely with the lead bank's primary supervisor and developed an understanding of the newly acquired thrift, GoldenWest Financial (GoldenWest), by meeting with thrift management and the Office of Thrift Supervision (OTS). With the company's significant retail brokerage activity and insurance businesses, we held regular meetings with the functional regulators and management in these businesses. SUPERVISORY RATING Wachovia continues to be assigned a composite supervisory rating of"2" reflecting its overall satisfactory condition. The same rating was accorded to each ofthe component ratings: risk management, financial condition, and the potential impact of the parent and non-bank subsidiaries on the depository institutions. Wachovia's overall rating is represented as follows: R-Risk Management 2 F - Financial Condition 2 I - Impact on Bank Subsidiaries 2 C - Composite 2 (D) - Depository Institutions (2) Each of the component ratings, as well as the subcomponent ratings for Risk Management and Financial Condition, are discussed on the following pages. CONFIDENTIAL FCIC-134580 Messrs. Thompson and Neubauer 2 April 4, 2007 OVERALL ASSESSMENT The consolidated corporation continues to be operated in a sound manner. Board and senior management governance and oversight are satisfactory and continue to evolve with the growth and changing business profile ofthe company. The company has an effective enterprise risk management program that works closely with the business lines to establish both risk tolerances and strategies. The audit department remains in satisfactory condition. Internal controls are generally effective, although continued management attention is warranted towards IT/Operational risk internal controls. The assessment of operational internal controls remains fair or "3" as the efficacy of the four key remediation projects has not been validated by internal audit. During 2006 management continued to make sound progress on a number of critical initiatives to improve the risk management and control environment of the firm. This included improving the infrastructure of the corporate investment bank (Crn) and increasing the staffing in the market risk management function. The company has devoted appropriate resources to the proximity risk issue and has developed a comprehensive plan for the Oxmoor data center. It is our expectation that funding for the build out of the Oxmoor data center will be approved by senior management in 2007. Also, we are satisfied with the performance ofthe compliance risk management function as the department is well positioned to monitor the risk associated with new acquisitions and business expansion. Notwithstanding the noted improvements, the institution continues to face significant challenges going forward with the management of critical infrastructure projects. Despite the success of certain initiatives, other high profile projects have been delayed, redesigned, cancelled, andlor suffered cost overruns. Project execution challenges are further amplified by current and expected expansion plans. Wachovia altered its business mix with the acquisition of Go lden West, significantly increasing the company's retail exposure and heightening merger integration risk. The company has stated it will maintain Golden West's people-dependent business model and expand the option adjustable rate mortgage (option ARM) product distribution across the legacy Wachovia franchise. To date, the merger has been executed with little disruption to normal business activities, but the significant systems and account conversions will occur in the fomth quarter of2007. In addition to this domestic expansion, the company continues to grow internationally with the recent opening of a subsidiary bank in Ireland and fUlther expansion into Asian markets. Wachovia is shifting from a large regional banking company with a commercial lending focus to a global financial services company with a greater retail risk concentration. The key supervisory issues noted below all revolve around supervising the heightened level of project execution risk and the need for management to be proactive in managing the infrastructure improvement projects. While the current management team appears well equipped to manage this high execution risk, the underlying issues require management's continued attention. KEY SUPERVISORY ISSUES Elevated Project Execution Risk and Monitoring Project Management: Our supervisory focus is on the issue of execution risk. We are patticularly concerned with inconsistent project management practices, the multitude of key projects, the recognized scarcity of experienced project management resources, and possible funding limitations given potential earnings pressures. Many of the projects have a direct impact on the strength of the company's risk management infrastructure and controls. These include the Oxmoor data center build out, the Basel II1RDS project, and crn infrastructure improvements. We expect that the company will be proactive in managing current and future projects to limit execution risk by prioritizing investments appropriately. CONFIDENTIAL FCIC-134581 Messrs. Thompson and Neubauer 3 April 4, 2007 Inconsistent project management performance was noted earlier in this letter, and management will need to he particularly vigilant to ensure that that the risk management infrastructure keeps pace with expansion plans and business needs. This concern is recognized by senior management and many projects receive significant attention. The company has an inventory of over 30 "must do" initiatives, which are defined as projects that cannot be deferred, are critical to a line of business or the enterprise, present significant reputational or financial risk, and/or may have an associated external commitment. The inconsistency issue is further complicated and amplified by the limited number of qualified senior project managers and the company's desire to control costs. As with many organizations, there is a recognized scarcity ofIT/Project management resources and this limitation will challenge the company's ability to execute effectively. Similar to many of its peers, Wachovia's margins will be pressured in 2007 with the flat yield curve environment. This challenge, coupled with the expectation for a return to more normal credit provisioning expenses, present earnings challenges for the company and the potential inclination to limit funding for certain projects. Accordingly, management needs to remain attentive to these infrastructure projects and provide appropriate funding. With limited resources and numerous initiatives, the company will need to be proactive in identifying and addressing project management issues. In 2006, the Investment Review Board (IRB) began monitoring key projects and serves as a positive control process to insure oversight of end-to-end investment management decisions. While this process has led to greater accountability, management also recognizes the need to have an investment review process that insures future expenditures align with strategic needs. In pmiicular, the company will need to carefully distribute project management resources given the continued growth of the franchise and potential funding constraints. The Golden West Integration: The integration of GoldenWest will present new challenges to the organization. The GoldenWest business model is highly dependent on judgmental processes that have allowed the company to offer its products to the full spectrum of borrowers yet limit credit losses. Wachovia management recognizes the importance of knowledge transfer to the continued success of the Golden West model, and this process will be emphasized during the integration given the potential that key managers of legacy Golden West could leave the company. Based on that "flight risk", talent rctention effOlis are also important. RISK MATRIX Wachovia's overall inherent risk profile remains moderate. Comments regarding our assessment of risk management have been integrated into the following discussion of the supervisory rating. Overall Credit Market Liquidity Operational Legal/Compliance CONFIDENTIAL Inherent Moderate Moderate Moderate Limited Considerable Considerable Risk Management Satisfactory SatisfactOlY Satisfact~ Satisfactory Satisfactory Satisfactory_ FCIC-134582 Messrs. Thompson and Neubauer April 4, 2007 4 RISK MANAGEMENT Wachovia's risk management program remains satisfactory based on the fIrm's effective corporate-wide processes for identifying, measuring, monitoring and controlling risk. Risk Management Board and Senior Management Oversight Policies, Procedures and Limits Risk Monitoring and Management Information Systems Internal Controls Satisfactory (2) Satisfactory (2) Satisfactory (2) Satisfactory (2) Satisfactory (2) Board and Senior Management Oversight Board and senior management oversight is satisfactory. The rating continues to reflect active Board oversight with strong interaction evidenced in the company's business activities, risk management, and compliance practices. In 2006, there were some changes to the senior management team with CFO Wurtz and CIO Enos replacing seasoned leaders in the company. The management team effectively transitioned these key players into new roles with minimal impact to the corporation. CEO Thompson and his executive management team continue to provide capable, experienced leadership while also demonstrating a solid understanding of the risks facing the company. The Board committee structure effectively completed its oversight duties as evidenced by the work ofthe Risk Committee and Audit Committee. Senior level discussions were noted around emerging risks and industry issues in key senior management committees including the Senior Risk Committee, the Operating Committee, the Credit Risk Policy Committee, and ALCO. The business line leadership governance structure ensures ownership and accountability for risks and appropriately rewards risk mitigation practices. Enterprise-wide risk management is suffIciently aligned with key business lines. Appropriate attention continues to be centered on key risks including long standing IT/Operational risk weaknesses, strategic investment decisions, strengthening BSA compliance across all parts of the company, and reviewing new/complex product offerings. Policies, Procedures and Limits Policies and procedures across the fInancial institution are considered satisfactory. The company has established a conservative limit structure for credit, trading exposures, interest rate risk, and liquidity. In some areas, however, the updating of corporate policies has not kept pace with the business activity of the company. Throughout 2006, there were a signifIcant number of relationships and some industry exceptions to the current credit capital guideline structure. Management is aware of the issues surrounding the credit capital limit exceptions and is reviewing the guidelines, which are dated given the growth in the company's capital base. While this process has been somewhat protracted, the reassessment is appropriate as the large number of exceptions makes it difficult to determine if the company is exceeding its risk tolerance. Risk Monitoring and Management Information Systems The institution's risk monitoring and management information systems (MIS) are satisfactory. Wachovia continues to demonstrate effective risk management oversight given the risk profile ofthe company. During 2006, our compliance monitoring and testing examination noted a satisfactory monitoring program while recommending consistent usage of the issues tracking database and the formalization of the issues escalation procedures. Firm-wide stress scenario analysis is still evolving. Risk reporting for interest rate, market, and liquidity risk include stress scenarios but specifIc credit event stress tests are only completed on an ad-hoc basis. While the current practice may be appropriate, additional consideration should be given to a more rigorous and frequent credit stress test regimen given the expectation of a return to a more normal credit loss environment. Operational risk metrics continue to evolve as management develops methodologies for quantifying top-of-the-house metrics. CONFIDENTIAL FCIC-134583 Messrs. Thompson and Neubauer 5 April 4, 2007 Internal Controls Corporate-wide internal controls are satisfactOlY. We note the improvement in the control environment, which is reflected in the results of internal audits, external reviews, and regulatory examinations. However, long-standing weaknesses with IT/Operational controls remain. It is expected that completion and validation of the four key IT remediation projects will address many of the weaknesses with operational internal controls. Data center risk has also been a longstanding concern, but we are satisfied with the company's progress on the issue and management's plans to utilize the third data center in Birmingham as a meaningful backup resource. Other control functions, including business line risk management and compliance, demonstrate a solid understanding of the risks facing the company. Internal audit remains satisfactory and it appears the sclcction of former controller Julian to replace retiring General Audit Schild is reasonable. Credit review continues to demonstrate its stature as an independent control function which helped reinforce the risk tolerance of the company. Credit risk pOltfolio hedging continues to be proactive by implementing measured credit risk mitigation activities. While not currently an issue, management should ensure that any future cost reduction and efficiency improvement targets do not affect the control functions in compliance, risk management, or audit. FINANCIAL PERFORMANCE Wachovia's Financial Condition rating is Satisfactory, or "2", unchanged from our assessment one year ago. Within the sub-components of this rating, we have lowered the Liquidity rating from" 1" to "2" reflecting a shift in the funding structure to an increased reliance on wholesale funding subsequent to the Golden West acquisition. Financial Performance Asset Quality Earnings Capital Liquidity Satisfactory (2) Strong (1) Satisfactory (2) Satisfactory (2) Satisfactory (2) Asset Quality Asset quality remains strong, reflecting lower than peer levels of nonperforming and criticized assets. While charge-offs have increased moderately with the acquisition of WestCorp Financial, this increase was expected due to the subprime nature of the portfolio. Overall the firm's credit risk exposure is well diversified by industIy and concentrations are not a supervisory concern. The acquisition of GoldenWest has lowered the average FlCO score of the consumer portfolio with 20% of the acquired pOltfolio having a FICO score below 620 (the secondary market standard for subprime mortgages). This credit risk is offset by the emphasis on collateral coverage. Earnings Consolidated earnings are satisfactory. The acquisitions completed in 2006 suppOited strong annual earnings growth. However, the flattening yield curve environment led to a further contraction in net interest margin, which was compounded by an expansion of long term debt in anticipation of the GoldenWest acquisition. Provisioning for loan losses increased as a result of Westcorp charge-offs. The benefits of diversified noninterest income streams were seen during 2006, with improved capital market related revenues towards the close of the year compensating for some reduction in banking fee growth. Stronger revenues, including through acquisition, improved overhead efficiency ratios. Earnings relative to average assets and average equity improved on a year-on-year basis, but trended lower over the second half of the year and continue to lag peers. CONFIDENTIAL FCIC-134584 Messrs. Thompson and Neubauer 6 April 4, 2007 Capital Wachovia continues to maintain adequate capital, although its core capital ratios trended lower over the course of the year and continue to track below peer norms. In 2006, the corporation shifted the mix of regulatory capital by significantly increasing the level of tier 2 capital through subordinated debt issuance. The WITS issuance in the first quarter of 2006 lifted tier I capital, but the effect was more than offset by an active share re-purchase program. The company plans to adjust repurchase activity as necessary in 2007 to compensate for tier I capital requirements, including the reduction associated with prior leveraged leasing arrangements. The company has an economic capital model and granular analysis further SUPpOltS the adequacy of the firm's capital base. The dividend payout is reasonable and consistent with the company's stable earnings stream. Liquidity The company's liquidity position has shifted with a greater emphasis on wholesale funding. The GoldenWest purchase resulted in an increase in borrowing from the Federal Home Loan Bank and the cash requirements of the purchase terms necessitated the issuance oflong-term debt. As a result, traditional liquidity measures are lower that that in 2005 and the "2" rating reflects this change. Notwithstanding, the company's debt ratings have improved with the industry as a whole and current funding mix does not raise supervisory concerns. IMPACT OF PARENT AND NON-BANK SUBSIDIARIES The parent company and the non-bank subsidiaries present limited likelihood of a significant negative impact to the depository institutions and the Impact rating is "2". Although the parent company is less liquid due to the cash used to purchase GoldenWest, cash flow to meet funding needs is in excess of 12 months. Of the non-bank subsidiaries, the retail and wholesale broker dealers poses the highest degree of potential stress through losses or litigation costs. In our discussion with functional regulators and through knowledge gained from our continuous supervision program, it was noted that the control environment has improved in these businesses. Other parent investments including the private equity holdings pose little risk relative to the corporation as a whole. In closing, thank you for your attention to the information in this letter. Should you have any questions or comments, please contact me at (704) 358-2558. In addition, please note that this letter contains confidential supervisory information and should be treated accordingly. As such, the contents of this letter are subject to the rules of the Board of Governors of the Federal Reserve System regarding disclosure of confidential information. Sincerely, Richard F. Westerkamp, Jr. Assistant Vice President Central Point of Contact CC. Donald K. Truslow, Senior Executive Vice President and Chief Risk Officer Thomas WUltZ, Senior Executive Vice President and Chief Financial Officer Jerry Enos, Jr., Senior Executive Vice President and Head of Operations Peter J. Schild, Senior Vice President, General Auditor David Wilson, Office ofthe Comptroller ofthe Currency Robert Burns, Federal Deposit Insurance Corporation CONFIDENTIAL FCIC-134585 July 22, 2008 Federal Reserve Memo 2008 Smith Chaim1an of the Wachovia Corporation South Charlotte, North Carolina 100 This assessment of Wachovia Corporation (Wachovia) as of June 30,2008, the RFIIC (D) for bank holding The IS on the results of our continuous supervision program over the past which consists monit0l1ng activities conducted by a team and a examinations. assessment also the examination work other primary bank and functional vUl\.vllvU and the RFI/C CD) rating is m::m::tg(;menr, including board and senior (MIS) and risk monit0l1ng, coupled financial condition ofthe corporation, led by poor capital cushion. Since our dne to disruption write-downs, required over enors. were partially due to "top ofthe house" board was inadequate or 111 not fully business lines. Going forward, we "~""""''- BHCs in this group exhibit a combination of weaknesses ill risk management and financial condition that range from fair to severe. These are less resistant to the onset of adverse business conditions and would deteriorate if concerted action is not effective in the areas of weakness. more than normal financial surveillance. of the company, of the llondepository entities on the CONFIDENTIAL FCIC-134717 July 2 Smith will to 3 2 2 institution, as of June will be adjusted as needed. 2007. -3 We have downgraded our assessment ofWachovia's from "satisfactory" to oversight and the based on concerns with the efficacy of board and senior HH;"lUjSvl quality and flexibility and risk monitoring. Board alld Senior 1YHUlU.t::C..W Oversight Fair or of directors and senior oversight is considered This of management provided by the board of concerns about the adequacy of risk management including its independence and of and response to errors. Also, the board of directors and not always developed clearly defined risk tolerances for of risk functions. The board of established by our direction lWlrvr,l'"\fcOllcerns and have the MRIAs may rcpresem c".>;"a,,",u.tH criticisms that have escalated in due m"vwt·~"t and that the must or that suggest a means communicated in the report or CONFIDENTIAL FCIC-134718 3 July board of directors must conduct an at and of the of the I"",+~d to the positions, the risk in nonbank bOITowers in the conCC111S are partially offset by some where the functioned adequately both in business lines and with centralized function. With trading book VaR limits, management and the business or obtained overlimit exceptions from chief risk bank (Crn) took actions to limit risk and sold much orthe super originate to distribute model. lack strong independent risk management functions also contributes to our concem with oversight, especially with investing outside the nom131 course of business. p31iicular concem Bank and noted in recent examinations completed by the ace is the lack shared by this of strong independent over the Treasury and We understand to usc treasury functions to additional tax benefit appropriate. risk is usually taken in the form of structured transactions have not performed as planned. andlor other investments and many of to insure that investments are made within fOlward, it is incumbent on risk corporation's appetite and potential dmvnside risk is ll\oLHoL'C>. CONFIDENTIAL management must conduct an independent both as a function and within the the overall and areas of the FCIC-134719 4 July 2008 company. oversight is also influeneed by changes in has a limited in traditional culture ofthe company. Finally, the leadership at the banking and will have to Policies Procedures and Limits Policies, procedures, and limits generally worked effectively during the market dis11lption and as the market began to tU111. Established limits helped to note quickly the depth and serious nature of the market dis11lption. VaR limits and trading controls worked adequately and appropriate attention/approval was The company monitored counterpaliy limits, despite in exposures within limits, company hedged on counterpmties. Accounting policies were conservative and the company was quick to recognize losses in thcir especially in the eno book. It is expected that policy limits will need to be to reflect weakened condition of the company. areas include capital liquidity policies and credit approval limits. Risk Information or monitoring and is fair. The corporation's MIS did not fully which contributed to identification. minimal content to other institutions and are oftcn more business/product-focused which assessment cumbersome. VVJlHU.Hhl> CONFIDENTIAL FCIC-134720 2008 5 Management must take to improve overall MIS. inability to in a prompt fashion and the assessmenl of the adequacy fceding is nel:;essar overall MIS. stress can be conducted effectively. An emphasis should be placed on number of manual required to complete consolidated MIS over key risks. where manual processes are involved include, but are not limited, the production consolidated liquidity reports, counterpart credit and CDO UHLLUU5 Internal Controls or Internal controls are satisfactory and we are pleased with the company's effOlis to address long standing IT infrastructure our 2006 which required a satisfactory plan to with two vVinston Salem data centers, remediate the unacceptable level of proximity that progress on the Oxmoor data center conversion has been satisfactory. It is our this project will continue to adequate funding despite almounced reduction effOlis. The IT remediation projects are substantially complete, but distributed server access controls umesolved. Additionally, the control enviromnent has benefited iiom a satisfactory audit hl 2008, the company successfully transitioned to a new general discussed further auditor and it appears the stature of the department is improving. enhancements the audit depmtment should to help organization improve include continuing to define and communicate audit's role as a reassurance line It is that audit will become CONFIDENTIAL FCIC-134721 Smith 6 July -3 has the appropriate steps to ensure capital adequacy, but recent and capital proj cctions highlight the vulnerability of the capital to current business affair. September 30, the company has conditions and SUppOlt a capital significant capital funds to insure adequate capital. In December 2007 January 2008 Wachovia raised a combined billion in preferred capital and in April 2008 Wachovia an additional S8.0 billion of common and conveltible equity. To capital, the corporation has cut the dividend and is adopting strategies to limit asset , even after these actions, 1 capital ratio is projected to be 7.8% at 2008 versus the 9.0% projection for year-end in Aplil. With rapidly changing projections, the l capital ratio will continue to move to the "dated" pre-disruption policy limit Required economic largely due capital has grown also as the profile of the company has been increased credit In addition, the required provision in 2009 will continue to strain capital ratios. a result, \Ii'e to consider additional actions including nnther reducing its dividend additional capital to ensure that corporation maintains sufficient capital. must update and maintain current capital policies and plans. expect to f01111ally its current for the tier one capital ratio in light of the corporation's cunent condition and near term and asset quality board of to update plan to deterioration. In include capital would require action as as providing the potential ",{'f'A,""" of 3 indicates that the consolidated BRC exhibits a combination of weaknesses severe. The company has less than modest substandard asset qnality, weak or liquidity the BBC and its subsidiaries are less resistant to adverse business conditions. The financial condition of the BBC will deteriorate if concerted action is not taken to COHect areas of weakness. The cash flow is sufficient to meet inullediate but may not remain if action is not ta ken to coneet weaknesses. rmcpnllPllT." the BRC is vulnerable and more than normal Overall financial and are still such as to pose only a remote threat to the of the company. CONFIDENTIAL FCI C-134 722 July 7 2008 3 concems are estate "''''' ~h~ 1 property CUlTent to is probable and as a result management to dimensi011 the extent of the embedded in portfolio is quickly and the cumulative loss rate is estimated in excess 9%. Nonperfonning assets for this portfolio consolidated are to $11.4 billion by year-end 2008. In total to grow to S1 billion and will 3.71 oftota! outstanding and other estate owned by year-end. Portfolio net loss rates are very dependent on the underlying value of residential real estate which is projected to as housing markets decline. The projected in nonperfonning assets and loan losses will continue to negatively consolidated asset To date, has taken steps to increase collections and explored mitigation The analysis developed to isolate FICO score, loan-to-value, and geography of the is a positive and further mitigation strategies will be necessary to lower credit risk. actions to provide additional funds for loan loss reserves and the company's declines in the reserve model are also appropriate. recognition of projected housing on To dimension extent of potential write downs and to understand vulnerabilities, company must pCliodically stress at p011folios and sub portfolios. The stress tests should both regional concentrations and product concentrations. Once the stress tests are completed, mitigation should be to reduce -3 While the corporation was prC>1ltabJle historical nonus to . n,"',Hu,,,,,'4U' the fourth . The billion in the CONFIDENTIAL FCI C-134 723 July 8 -2 must update and continually liquidity policies and plans. in our Liquidity inspection letter dated June 2008, management must update the CFP with an assessment of all potential funding and various that could the corporation's access must undertake a of to both and tenl1 funding. In addition, in the treasury funds management group and identified key man ensure continual and appropl1ate management of liquidity across all well as on a consolidated basis. -2 The likelihood that the or nonbank subsidiary will have a impact on the depository institution remains limited4 but is increasing. The parent has acted as a source of strength to the depository institutions by capital funds and the market for additional liquidity. Nonbank. assets remain low relative to the of the consolidated organization and nonbank activity has not required additional equity funds. the COll)Oration's most significant nonbanks, have not required additional liquidity and are selffunded with , the parent has expe11enced wlite-downs on investment an insurance subsidiary, purchased assets at a loss from a money market fund and another fund advised by a subsidiary, and liquidity support to another nonbank. draw on parent company resources that would be available to support subsidiaries. 4 Likelihood of excessive dividend payments from subsidiaries. The the control risk corlcerltratlorls, or or reputational issues within the 1l0l1depos,1tOl the normal course ofbusincss. CONFIDENTIAL FCI C-134 724 9 · Smith July Richard Westerkamp, Jr. Assistant Vice President Central Point of Contact ce. Joseph Robelt Steel, Dave Wilson Robert Burns FDIC Nicholas Dyer, 5 THIS DOCUMENT IS STRICTLY CONFIDENTIAL This document has been an examiner selected or by the Board of Govemors of the Federal Reserve The document is the of the Board of Govemors and is fumished to directors and management for their confidential use. The document is and confidential under and the Board of Governors has forbidden its disclosure in any malmer without its in limited ns.c 1 and 1831111) and in the of the Board of (JovemOIS circumstances in the law C.F.R.261 Under 110 circumstances should the auditors disclose or make this document or any in accordance with law and "'ES,·.,uo.,v,,,, of the Board of Govemors. unauthorized disclosure of the document may the person or U!~\AU'~!!!.'" or such information to the of Section 641 of the U.S. Criminal Code (18 Each director or tmstee, in with his or her should become fully infonned the contents oft11is document. In this it should be noted that this document is not an and should not be considered as such. CONFIDENTIAL FCIC-134725 July 27, 2008 Federal Reserve Memo Date: September 27, 2008 To: Jennifer Burns, VP-LCBO From: Elizabeth Gress, Senior Examiner 2, Market risk Team John A. Beebe, Market Risk Team Leader Subject: Wachovia Liability Structure The following memo 1 outlines some key features of Wachovia’s liability structure. It provides reference points for how their liabilities divide into major classes. This memo should be reviewed in conjunction with the Wachovia Large Funds Providers memo of the same date. Key information included in this memo include: 1. Deposit structure 2. Liability breakdown 1. Deposit structure: According to SNL, Wachovia ($393 bn in deposits) was the third largest deposit holder in the United States as of the end of 2007, behind Bank of America ($663 bn) and JPMorgan ($440 bn). Wachovia had the fourth largest number of branches at 3,348. As of September 24, 2008, the deposit base breaks down as follows: September 24 2008 DDA $ 53,521 Sav & NOW $ 74,785 $ MM 118,011 $ Time 133,267 $ Total 379,584 As of 9/24, they are reporting $26.8 bn in brokered deposits. 1 This memo was constructed using various MIS reference reports. As a result there may be timing or data aggregation differences in some of the numbers. The differences are not significant in relation to the main themes of this memo. Restricted- FR Deposits by source/business line are as follows: FDIC Sweep AGE Sweep Comm Sweeps Int'l E$ Sweep 29,832,752 22,949,731 12,773,000 7,066,000 CIB 9,302,532 Core Interest Bearing Deposits GBG CMG 254,751,870 50,673,913 2. The liability structure breaks down as follows: Wachovia Liabilities Non Final Numbers: source G/L 9/24/2008 Core Deposits DDA Sav & NOW Money Market Time Total Core Deposits $ $ $ $ $ 53,521 74,785 118,011 133,267 379,584 NonCore Deposits National Market Brokered CD Foreign Deposits Other Total Noncore $ $ $ $ 26,873 24,365 8,427 59,665 Total Deposits $ 439,249 Short Term Borrowings Fed funds Purchased Repos & Lent Securities CP Paper Other ST Borrowings Total Short Term Borrowings $ $ $ $ $ 15,129 28,904 2,992 6,363 53,946 Trading Account Liabilities Total Shorter Term Debt $ $ 86,893 140,839 Bank Long Term Debt Extendible Notes CIB Borrowings Senior Notes - Foreign Medium Term Notes Subordinated Notes Total $ $ $ $ $ $ 5,300 1,984 6,507 35,486 19,617 68,895 FHLB Borrowings FHLB Borrowings $ 57,391 Corporate Long Term Debt Corporate Senior Notes Corporate Sub Notes Other Corporate Notes Other Borrowings Total Corporate $ $ $ $ $ 35,308 2,007 1,250 17,752 56,316 Trust Preferreds Congress Notes (Canada affil) Risk Mgt Derivatives $ $ $ 58 374 669 Total Long Term Debt $ 183,704 Equity Minority Interest Equity Total Equity $ $ $ 2,629 77,457 80,086 Total Liabiltities & Equity $ 843,878 Restricted- FR Wealth 11,460,425 Date: September 27, 2008 To: Jennifer Burns, VP-LCBO From: John A. Beebe, Market Risk Team Leader Subject: Wachovia Large Funds Providers The following memo 1 outlines some key features of Wachovia’s large funds providers, looking at the composition of these providers through various prisms to show their links with the financial system. Key systemic integration points include: 1. Fund holdings of Wachovia debt (Systemic risk-“break-the-buck”) 2. Broker-dealer money markets (Systemic risk-market confidence) 3. Financial institutions A key issue to consider under a Wachovia lead disruption is that they would more resemble a Bear Stearns or AIG case, where counterparties have not had time to reduce their exposure to Wachovia. This is unlike WaMu or even Lehman, which had long periods where investors had time to reduce exposure. Even in the latter two cases, the disruption to the liquidity markets has been severe. 1. Fund holdings of WB liabilities represent a significant systemic risk. Based on the August 31, 2008 report, US Mutual funds hold $66.1 bn of WB’s liabilities. This breaks down into the following debt types: a. Corporate Notes: $34.6 bn b. CDs: $10.1 bn c. Floaters: $7.5 bn d. Tender Option Bonds: $8.0 bn 1 This memo was constructed using various MIS reference reports. As a result there may be timing or data aggregation differences in some of the numbers. The differences are not significant in relation to the main themes of this memo. Data for provider by Wachovia legal entity was not available. Restricted- FR Exposed Funds include 2 2. US broker-dealers are also large investors in Wachovia with investments totaling $38.9 bn. The investment banking sector is already weak and exposed to low levels of confidence. Broker dealers could become even more reliant on Federal Reserve support programs, such as the PDCF, to support operations in the event of a Wachovia lead disruption. Wachovia liabilities on BD balance sheets include $23.9 bn in money markets 3, $5.7 bn in ABCP (VFCC), $4.3 bn in corp notes, and $2.0 bn in Tender option bonds. 3. Financial institution exposure to Wachovia is $15.4 bn, primarily in the form of corporate notes of $9.4 bn. Again, this is a weak sector exposed to already eroded confidence. 2 The fund listing was done by large fund provider by name, not provider type. Other large fund providers may also have been included in the categorization, but that data wasn’t readily available. 3 The money market volume is notable in reference to WB liquidity, since it is likely to leave the company quickly should a Wachovia specific event occur. Restricted- FR 4. Breakdown of investors by investor type and product WACHOVIA BANK and WACHOVIA CAPITAL MARKETS, LLC All Products Combined as of 08.31.2008 Stated as Combination BOOK VALUE/P OUTSTANDING LIABILITIES (MILLIONS) Low Floater Tender Option Bonds Affiliate 513 Broker/Dealer(US) 364 2,012 5,663 1,016 100 959 Corporation/Companies(US) Fed Govt & Agencies Financial Institutions(FGN) Financial Institutions(US) Individual(US) Mutual Funds(US) Other(FGN) Other(US) State & Muncipalities Trust 1 1,577 (0) VFCC-CP - United Hamilton Bank Notes - BKEL CD CDEL Wachovia CP 20 - 503 165 - 685 622 - 1,338 26 0 60 220 - 1,915 1 3,842 Deposit Note 1 - EUROS Fed Funds (ON) MMDA MMDEPGIC PC - - 10,102 - - - - - - 4,298 23,944 - - - 6,800 - 3,214 41 - - - - - 1,385 - - - - - - 129 - 376 - 206 - 1,437 24 12,500 250 2 Loan Part TDOA 1 0 - - - - - 841 - - - - - - 7,021 - 500 - - - 9,388 - - - - - - - - - - 34,607 - - - - - 236 - - 2,477 - 642 - 9 808 225 - - - - - 0 - 4 - 0 - - 7,481 8,043 4,121 1,255 206 - 10,108 - 250 - 16 - - 96 131 1,388 - - - 104 11 - 871 - - 4,121 - - - - - (559) 90 - - 4,908 11 - 41 - - 12,112 - - - - - - 50 - - 142 1 10 10,639 5.3% * includes inventory and unidentified contras 22 43 - - - - 10,633 12,175 2,000 8,631 5.3% 6.1% 1.0% 4.3% 30 50 - Corporate Notes 344 - 0 Fed Funds (Term) (0) 159 (0) - 275 - 123 - 24 - - 1,109 - 40 - 20 - 15 - 8 - - 201 - 0 30 0.0% 16,717 352 4,462 8.3% 0.2% Restricted- FR 2.2% 1 0.0% 5,965 3.0% 13,374 6.7% 475 0.2% 90,600 45.2% 23,944 11.9% 542 0 - 0 0.3% 0.0% 1 0.0% 0.0% September 28, 2008 Federal Reserve Memo Restricted Controlled (FR) BOARD OF GOVERNORS OF THE FEDERAL RESERVE SYSTEM Date: September 28, 2008 To: Board of Governors From: Staff 1 Subject: Considerations regarding invoking the systemic risk exception for Wachovia Bank, NA Background Wachovia Corporation (“Wachovia”), a financial holding company, provides commercial and retail banking services and other financial services in the United States and internationally. The company has a very large retail operation, offering households and businesses deposit and credit products. The company also provides a wide range of investment banking, private banking, and asset management services. The company is headquartered in Charlotte, North Carolina. At the end of the second quarter, Wachovia Corp. had assets of $812 billion, making it the fourth largest banking organization in the United States in terms of assets. 2 Its main bank subsidiary is Wachovia Bank, NA, which had assets of $671 billion. Total assets of the insured depository institution subsidiaries of Wachovia Corp. are about $782 billion (about 95 percent of the holding company), with two thrift subsidiaries comprising about $105 billion. Wachovia’s depository institution subsidiaries have more than 27 million deposit accounts. As of September 24, 2008, deposits of Wachovia’s depository institution subsidiaries totaled $439 billion, including nearly $30 billion of foreign deposits. 1 Monetary Affairs (Madigan, English, Nelson), Research and Statistics (Parkinson and Kwast), Banking Supervision and Regulation (Bailey, Stefansson, Wassom), Reserve Bank Operations (Marquardt, Stehm), and Legal (Alvarez, Fallon). 2 All asset, deposit and capital data are as of June 30, 2008, unless otherwise stated. As of September 24, 2008, Wachovia Corp. had assets of $805 billion. Restricted Controlled (FR) Wachovia reported tier 1 capital of $49 billion and tier 2 capital of $29 billion. The consolidated tier 1 capital ratio of Wachovia was 8.0 percent and the total risk-based capital ratio was 12.7 percent. The company reports a tangible net capital ratio of 5.1 percent. Wachovia Bank, NA reported tier 1 capital of $39 billion and tier 2 capital of about $23 billion, resulting in a tier 1 ratio of 7.3 percent and a total risk-based capital ratio of 11.6 percent. Wachovia owns a very large retail-oriented broker-dealer network through Wachovia Securities and the recently acquired AG Edwards, Inc. Combined, these firms have more than 3,500 brokerage locations and employ approximately 15,000 registered representatives throughout the United States. Recent difficulties Over the first half of this year, Wachovia posted losses of $9.6 billion, reflecting writedowns on available-for-sale securities and high provisions for loan losses. In part the high provisions reflect losses on option ARM mortgages acquired in the 2006 purchase of Golden West Financial Corporation, a $125 billion OTS-regulated thrift holding company based in California. Investors have become increasingly concerned about Wachovia’s prospects in recent months as the outlook for home prices and mortgage credit quality has deteriorated. These concerns were reportedly reinforced last week by the FDIC’s resolution of Washington Mutual, under which senior and subordinated debt holders at both the holding company and the insured depositories were not supported and face large losses. Market sentiment was bolstered for a time last week by the prospect of quick agreement and passage of legislation authorizing Treasury’s Troubled Asset Relief Program (TARP). But as the legislative outlook for the TARP became uncertain late in the week, Wachovia’s stock price tumbled and CDS spreads on five-year Wachovia debt surged to more than 1500 basis points on Friday. Wachovia reported that it was finding it difficult to obtain funding and was running down its liquidity reserves. It seems likely that very soon, possibly tomorrow, the firm will not be able to fund its operations. Page 2 of 11 Restricted Controlled (FR) Interdependencies The firm is the third largest deposit holder in the United States. As of September 24, 2008, Wachovia reported $439 billion of domestic and foreign deposits including almost $12 billion from state and other political subdivisions. Total deposits include $30 billion of sweep accounts that are swept into accounts that are insured by the FDIC and $40 billion of other sweep accounts. Uninsured deposits total $183 billion, including $4 billion to foreign governments and central banks. Wachovia Bank, NA has $12.5 billion of borrowings outstanding in the Term Auction Facility (TAF) program and $57.4 billion in FHLB borrowings. Debt issued by Wachovia’s depository institution subsidiaries is $68.9 billion, of which $19.6 billion is subordinated debt. The holding company has $56.3 billion of debt, of which $13 billion is subordinated debt. Commercial paper outstanding is $3 billion. Senior debt issued by the holding company is rated A1, while that of Wachovia Bank, NA is rated Aa2. Subordinated debt issued by the holding company is rated A2, and subordinated debt of Wachovia Bank, NA is Aa3. The main financial entities exposed to Wachovia are given in table 1. Mutual funds are prominent among these counterparties; they hold $35 billion of notes among other obligations. The amount held by money market mutual funds is not clear. In addition to being a market maker in the debt and equity markets, the firm is a large correspondent banker in Latin America and Asia. Wachovia’s bank in Hong Kong is considered critically important by Hong Kong authorities. In the United States, Wachovia clears significant values over CHIPS and Fedwire and is a participant in the full range of systemically important clearing and settlement systems. Wachovia Bank, NA settles foreign exchange transactions through CLS as a third party and is a direct participant in the Fixed Income Clearing Corporation (FICC) for settling U.S. government securities, and is a settlement bank and participant in the Depository Trust Company (DTC). Its securities affiliates directly participate in FICC, DTC, NSCC and various derivatives clearing organizations. In addition, Wachovia processes the most trade-related SWIFT messages, significant ACH volumes, and as much as 30 percent of Page 3 of 11 Restricted Controlled (FR) . all checks drawn on the U.S. east coast. Thus, staff would expect some payment and settlement concerns with a Wachovia failure. The firm’s retail brokerage is the second largest in the United States in terms of client assets, with $1.12 trillion in client assets and $259 billion of assets under management. The firm’s mutual fund company, Evergreen, is the 22nd largest in the US with $113 billion of fund assets. Least-cost resolution The FDIC has conducted a planning exercise for the failure of a bank much like Wachovia Bank, NA. The conclusion of the exercise was that the FDIC could likely resolve Wachovia Bank, NA through a least-cost resolution at zero cost to the Deposit Insurance Fund because there are sufficient uninsured obligations (including foreign deposits, senior debt, and subordinated debt) to absorb all of the bank’s losses. Potential least-cost resolution options that would be available to the FDIC under the FDI Act would include a liquidation and deposit payoff. In addition, because of the substantial franchise value associated with Wachovia’ businesses, there almost surely would be other least-cost resolution methods – such as an assisted acquisition after appointment of a receiver – that would satisfy the least-cost test and be less disruptive than a liquidation. Nevertheless, given the forecasted size of the losses at Wachovia Bank, NA, it appears likely that any assisted transaction effected by the FDIC under a least-cost framework would require that the FDIC impose significant haircuts on subordinated debtholders of the bank and quite possibly senior note holders as well. In addition, absent invocation of the systemic risk exception, the FDIC is prohibited from using deposit insurance funds to benefit the senior or secured debtholders of the holding company. Staff believes that a least-cost resolution of Wachovia Bank, NA would have significant adverse effects on financial markets. Term funding markets have been under considerable stress for more than a year, and these pressures increased greatly following the failure of Lehman Brothers, the difficulties at AIG, and the closing of WaMu. Libor rates have jumped more than 100 basis points since early September. Commercial paper Page 5 of 11 Restricted Controlled (FR) rates have also risen dramatically, and the volume of financial paper outstanding has declined sharply. In both of these markets, the maturity of new issues has shortened a great deal as investors have become much less willing to lend beyond overnight. Concerns about actual and potential losses on financial institutions’ obligations caused outflows from prime money market mutual funds (MMMFs) totaling nearly $400 billion over the past two weeks. Since these funds are normally substantial purchasers of commercial paper and short-term bank obligations, these outflows added to the pressures in those markets. More generally, investors appear to have become more concerned about the outlook for a number of U.S. banking organizations, putting downward pressure on their stock prices and upward pressure on their CDS spreads. In this environment, a least-cost resolution of Wachovia Bank, NA, with no assistance provided to creditors of Wachovia and the potential for meaningful losses imposed on the debt of the bank, would almost surely have significant systemic consequences. A default by Wachovia and a partial payout to debtors of Wachovia Bank, NA would intensify liquidity pressures on other U.S. banks, which are extremely vulnerable to a loss of confidence by wholesale suppliers of funds. Investors would be concerned about direct exposures of other financial firms to Wachovia or Wachovia Bank, NA. Furthermore, the failure of Wachovia would lead investors to doubt the financial strength of other institutions that might be seen as similarly situated. Market participants are already concerned about National City Corp. Like that of Wachovia, National City’s stock price fell sharply late last week, and its CDS spreads widened to levels higher than those of Wachovia. Other financial institutions that are seen as potentially weak – perhaps SunTrust or PNC– could also come under considerable pressure, particularly if the failure of Wachovia led to even greater dislocations in funding markets. Wachovia’s sudden failure despite its solid regulatory capital position could also lead investors to reassess the riskiness of U.S. commercial banks more broadly, particularly given the current fragility of financial markets generally and the term funding markets for financial institutions. In addition, if a least-cost resolution did not support foreign depositors (who are considered nondeposit, general creditors under the FDI Act), the resolution would imperil Page 6 of 11 Restricted Controlled (FR) this significant source of funding for many major U.S. financial institutions. 3 More generally, given Wachovia’s international presence, global liquidity pressures could increase and confidence in the dollar could decline. Moreover, losses on Wachovia and Wachovia Bank, NA paper could lead more money market mutual funds to “break the buck,” accelerating runs on those and other money funds. The resulting liquidations of fund assets along with the further loss of confidence in financial institutions might well lead short-term funding markets to virtually shut down. Moreover, the individuals and businesses whose deposits have been swept into non-deposit investments or foreign deposits (e.g., at a Cayman branch) would find all or part of their funds unavailable and likely face losses. In the current environment, such an event could well shake the public confidence in bank deposits. All of these effects would likely cause investors to raise sharply their assessment of the risks of investing in similar (albeit smaller) regional banks, making it much less likely that those institutions would be able to raise capital and other funding. Staff believes the consequences of a least-cost resolution would extend to the broader economy. The worsening of the financial turmoil that would result from a leastcost resolution of Wachovia Bank, NA would further undermine business and household confidence. In addition, with the liquidity of banking organizations further reduced and their funding costs increased, banking organizations would become even less willing to lend to businesses and households. These effects would contribute to weaker economic performance, higher unemployment, and reduced wealth, in each case materially. Benefits and costs of using the systemic risk exception If the systemic risk exception were invoked, staff believes that a resolution method could be designed that would avoid all or most of the adverse impacts discussed above. In particular, if all uninsured creditors of the insured depositories were fully 3 Citibank, NA, for example, reported having approximately $478.8 billion in deposits in its foreign offices (including deposits held through Edge and Agreement corporations and international banking facilities). Page 7 of 11 Restricted Controlled (FR) protected and similar protections were provided to holding company creditors, the adverse effects would be mitigated substantially. While extending the protection only to senior creditors would presumably have some beneficial effect, allowing material losses on the subordinated debt of the bank or the holding company could still result in significant adverse effects in financial markets. Use of the systemic risk exception, however, would involve some perhaps substantial costs. 4 The FDIC would suffer some direct losses from its protection of uninsured creditors at both the bank and, if desired, the holding company level. The size of these losses is unknown at this time, as is the potential impact of such losses on the FDIC’s resources. In addition, moral hazard would be exacerbated and the potential for market discipline in the future reduced for the very largest depository institutions, especially if all holding company creditors were protected. Finally, if the systemic risk exception is invoked and used, the FDIC must “expeditiously” recover any losses incurred as a result of the use of the exception through one or more special assessments on insured depository institutions. Unlike normal deposit insurance assessments, these special assessments would be allocated across institutions based on average total assets (rather than deposits) and, thus, would hit larger banks proportionally harder than smaller depository institutions. Conclusion Staff believes that imposition of a least-cost resolution on Wachovia would almost surely have major systemic effects. Both financial stability and overall economic conditions would likely be adversely affected for the reasons discussed above. A nonleast-cost resolution that protects all depository institution and holding company creditors would best ameliorate the adverse effects of the failure on financial markets and the real economy. At a minimum, senior creditors of the depository institutions and the bank holding company should be protected. In creating the systemic risk exception, the Congress clearly envisioned that circumstances could arise in which the exception should be used. In view of the current Page 8 of 11 Restricted Controlled (FR) intense financial strains which have already seriously impaired the functioning of the financial system, and the likely consequences for the financial system and the economy of a least-cost resolution of the fourth-largest commercial bank in the United States, the staff believes that circumstances such as the Congress envisioned are clearly present and that invocation of the systemic risk exception can readily be justified. 4 Invoking the systemic risk exception does not lift the guidelines on discount window lending to troubled institutions established by the Federal Deposit Insurance Company Act (1991). Page 9 of 11 Restricted Controlled (FR) Prudential Financial Inc Wachovia Corp. Wachovia International Banking Corp Everen Capital Corp. Golden West Financial Corp Wachovia Bank N.A. Evergreen Investment Corp. Wachovia Mortgage FSB, CA Wachovia Securities International Wachovia Bank FSB, TX Capital Finance Canada Atlas Securities Wachovia Investors Wachovia Securities Holdings Wachovia Capital Investments Wachovia Securities Financial Holdings Wachovia Development Corp Wachovia Securities Financial Network Cardinal International Leasing First Clearing Monument Street Int. Funding I&II Wachovia Financial Services Wachovia Re Union Hamilton Reinsurance Wachovia Capital Markets Wachovia Securities/A.G. Edwards Wachovia Insurance Services Bluepoint Reinsurance Palmer & Cay Wachovia Bank of Delaware N.A. Bank Edge, Agreement or Edge Sub. Domestic & Foreign Insurance Sub. Thrift or Nonbank Hold. Co. of Thrift Broker/Dealer, Investment Firm, or Hold. Co. Investment Banking August 4, 2008 OCC Letter and Exam September 29, 2008 FDIC Memo to the Board September 29,2008 Directors ~ MEMORANDUM: The THROUGH: Mitchell L. Glassman, Director ~ ~ Board of Division of Resolutions and Receiverships Sandra L. Thompson, Director i3 \ ~~ Division of Supervision and Consumer Protection James R. Wigand, Deputy Director ~ FROM: Franchise and Asset Marketing Branch Division of Resolutions and Receiverships Herbert J. Held, Assistant Directo.ø~ Franchise and Asset Marketing Branch Division of Resolutions and Receiverships SUBJECT: Wachovia Ban, National Association, Charlotte, North Carolina Wachovia Mortgage, FSB, North Las Vegas, Nevada Wachovia Bank, FSB, Houston, Texas Delaware, National Association, Wilmington, DE Wachovia Ban of Wachovia Card Services, National Association, Atlanta, Georgia Wachovia Corporation (Ban Holding Company) Information (As of June 30, 2008): Total Assets: $781,883,478,000 Total Deposits (including Foreign): $475,172,374,000 Uninsured Deposits: $157,100,000,000 Foreign Deposits: $53,170,000,000 Tier 1 Leverage/Total Risk Based (Lead Bank): 6.27%/11.58% UFIR Rating (Lead Bank): 3-3-3-4-5-2/3 (9/28/08 Interim Downgrade) Recommendation Staff recommends that the Board find that the failure of Wachovia Corporation and its affliate banks and thrifts would have serious adverse effects on economic conditions and financial stability. Its failure would seriously and negatively affect already disrupted credit markets, including short-term interban lending, counterparty relationships in Qualified Financial Contract markets, and ban senior and subordinated debt markets, and would further disrupt the related markets in derivative products and other markets. Staff recommends that the Board accept the bid of Citigroup, Inc., as the least costly available method of dealing with this systemic risk, and that the Board authorize staff to take all steps needed to implement this decision. Based on preliminary information, staff estimates no loss to the Deposit Insurance Fund. Executive Summary Wachovia Ban, NA (Bank) is a nationally chartered ban founded in 1879 that is wholly owned by Wachovia Corporation, a financial holding company regulated by the Federal Reserve. The Ban is the fourth largest ban in the country and the predominant legal entity within Wachovia Corporation, representing 83 percent of consolidated holding company assets. The insured legal entities ofWachovia Corporation consist of three national bans and two Federal savings bans. Other significant holding company subsidiaries include Wachovia Capital Markets, LLC, and Wachovia Securities, LLC. The Ban operates approximately 3,400 banking centers in 21 states, primarily along the eastern and gulf coasts and in California, and engages in foreign activities. The risk profie ofthe Ban is declining rapidly because of deteriorating liquidity and poor quality assets. Liquidity has reached crisis proportions, such that the Bank is unable to meet its obligations. Most recently, on Friday, September 26,2008, the Ban was unable to roll $1.1 bilion of its asset backed commercial paper. More short term obligations are due this week that the Bank wil likely be unable to pay and there are an estimated $157.1 billon in uninsured deposits. 2 The company's rapidly deteriorating financial condition is due largely to its portfolio of pay-option ARM products, commercial real estate portfolio, and weakened liquidity position. On Friday September 26,2008, market acceptance ofWachovia liabilities ceased as the company's stock plunged, credit default swap spreads widened in excess of 1,400 points (to over 2,000 points), some paries declined to advance the Bank overnight funds, and counterparies advised that they would require greater collateralization on any transactions with the Bank. Citigroup, Inc., and Wells Fargo performed due diligence in an attempt to acquire the Banks in a private transaction; however, neither were able to reach definitive agreements. The FDIC entered into negotiations with Citigroup and Wells Fargo on September 28,2008. Both Banks submitted open bank assistance bids to the FDIC on September 28,2008; however, only the Citigroup proposal resulted in serious negotiations. Based on the analysis of Citigroup' s proposal, staff recommends accepting the Citigroup, Inc. bid to resolve the five insured depository institutions and to resolve the systemic risk posed by a possible failure of Wachovia Corporation and its affliate banks and thrifts. Supervisory History and Condition Condition Unless the Ban immediately attracts a merger partner, the FDIC and other regulators project that the Ban wil likely be unable to pay obligations or meet expected deposit outflows. 3 The FDIC and the OCC anticipate a number of funding outflows during the week beginning September 29,2008. Near-term funding outflows include: . Maturing asset-backed commercial paper, which is not expected to be placed with external paries and, therefore, will need to be funded by the Ban; . Maturing repurchase agreements, which are not expected to be placed with external paries and, therefore, will need to be fuded by the Bank; . Maturing Variable Rate Demand Notes supported by liquidity facilities/letters of credit issued by the Ban which are not expected to be placed and wil be put to the Ban; . The loss of overnight sweep deposit representing large commercial deposits; . The loss of a substantial portion of money swept from retail brokerage accounts maintained with affliated entities; and . An assumed 1.5 percent daily deposit ru-off, which is based on recent experience by other large insured institutions experiencing extreme stress. WIlJ:ll~ Total Cash Equivalents & Sources ($BN) Overnight FFS Federal Reserve T-Bills & Term CP Less: Overnight FFP Cash Equivalents Discount Window (Post Haircut) Unpledged Securities (Pre-Haircut) FHLB Available Sources 8.0 2.6 10.0 -3.5 17.1 52.0 29.0 5.0 86.0 103.1 Less: Actual Maturity & Stress 1. 1.5% Daily Deposit Outfow 2. Corporate Sweeps 100% outflow 3. Retail Brokerage Outflow 4. VRDN Maturity & Stress 5. Maturing Debt 6. ABCP (VFCC) Maturity 7. Maturing Repo Agreements -42.0 -12.0 -30.0 -15.8 -9.7 -3.3 -2.7 -12.4 Total Cash Equivalents & Sources 103.1 4 Potentially available funding sources considered in the above analysis include $17 billon in liquid assets, $52 bilion of "after-haircut" borrowing capacity based on collateral already posted with the Federal Reserve, $29 bilion in unencumbered securities, and $5 bilion of available funding from the Federal Home Loan Bank. Additional eligible collateral for pledging totals $117 bilion and is comprised of $97 bilion in commercial loans and $20 bilion in consumer loans that are not pay option ARMs. Uninsured deposits are reported at $157.1 bilion as of June 30, 2008, with $76 billon comprised of corporate, non-time deposits that are considered highly sensitive. This could result in deposit outflows greater than the 1.5 percent daily withdrawals included in the FDIC stress scenario depicted above. Supervisory History The insured legal entities of Wachovia Corporation are shown in the table below. Wachovia Bank, N.A 450,929 2-3-3-3-2-2/3 a 6/30/08 Wachovia Mortgage, FSB 18,009 3-3-2-4-2-1/3 4/30/08 Offsite 4/30/08 Offsite Wachovia Bank, FSB 2,809 3-3-2-4-2-1/3 Wachovia Card Services, N.A 0 2-2-2-2-2-2/2 Wachovia Bank of Delaware, N.A 4,814 4,175 2-2-2-2-2-2/2 6/30/08 6/30/08 (a) 9/28/08 - acc downgraded Capital to a 3, Earings to a 4, and Liquidity to a 5 Wachovia Bank, NA The Bank is subject to a continuous examination program by the Office of Comptroller of the Currency (OCC). The June 30, 2008, OCC examination of the the Ban resulted in a composite rating downgrade to a "3." The following table displays the Bank's historical examination and financial data: 5 Total Assets $670,639,000 $653,269,000 Total Loans $413,994,000 $413,349,000 Total Deposits $450,929,000 $458,186,000 Tier 1 Leverage Ratio 6.27% 6.71% Total Risk Based Capital Ratio i 1.8% 11.45% Option ARM'srrier 1+ALLL 138% 146% Brokered Deposits to Total Deposits 10.98% 8.97% $518,123,000 $302,764,000 $353,234,000 6.66% 10.90% 0% 10.20% $472,143,000 $262,173,000 $33,780,000 6.26% 10.70% 0% 11.48% (a) 9/28/08 - acc downgraded Capital to a 3, Earnings to a 4, and Liquidity to a 5 The Bank operates under a Memorandum of Understanding issued in August 2008 that addresses weaknesses cited in the most recent OCC report of examination. On October 12,2007, the Ban acquired from Wachovia Mortgage FSB and Wachovia Ban FSB (formerly World Savings Bank FSB and World Savings Ban Texas FSB, respectively) all of those institutions' retail deposits totaling $76 bilion. The Bank also acquired almost $90 bilion dollars in assets, including approximately $65 bilion in pay-option ARM mortgage loans. The pay-option ARM portfolio is concentrated in the California and Florida markets, which represent approximately 60 percent and 10 percent of the total portfolio, respectively. Since the loans were transferred, significant declines in home prices, combined with the effects of previously lax collateral-based underwiting by the World Savings Bank entities, led to serious deterioration in the pay-option ARM portfolio; rising nonperforming loan levels and the need for considerable provisions to the allowance for loan and lease losses resulted in quarterly losses. During the week of September 22, 2008, the Ban increased its cumulative loss estimates for the pay option ARM portfolio from 12 percent to 20 percent. The pay-option portfolio represents approximately 138 percent of capital and reserves. 6 The Ban's former chief executive offcer, Ken Thompson, was removed on June 2, 2008, and Robert Steel was selected as his replacement on July 9,2008. The Bank's chief financial offcer and chief risk officer were also subsequently replaced. These actions to replace senior management failed to dispel market concerns regarding the Ban's condition. Wachovia Mortgage FSB and Wachovia Bank FSB The two thrifts retain almost $70 bilion in residential mortgage exposure, which consists almost entirely of pay option ARMs sharing the same risk characteristics as the pay-option ARM portfolio in the Ban. During the first and second quarters of 2008, both thrifts required substantial capital contributions from Wachovia Corporation in order to maintain capital ratios at satisfactory levels. Wachovia Bank of Wachovia Ban of Delaware NA and Wachovia Card Services Delaware NA represents a more traditional institution with no pay- option ARM exposure. Likewise, Wachovia Card Services is a recently formed credit card lending operation. Marketing An electronic data room was established by the Bans for potential buyers to perform due diligence. No proposals were accepted. 7 On September 28, 2008, FDIC staff both of began discussions with Citigroup and Wells Fargo, which submitted bids to the FDIC on the same day. Both bids sought open ban assistance from the FDIC. The Wells Fargo bid requires that the FDIC cover potential losses on a pool up to $127.3 bilion in assets (includes $80.7 bilion funded). Wells Fargo assumes the first $2 bilion in losses on the pool of assets, following which the FDIC wil share in the losses at the rate of 80 percent. Wells Fargo proposed that total FDIC loss exposure be capped at $20 h,¡iIU,i estimated this proposal would cost the FDIC between $5.6milloii to $7.2 bilion.*" bilion. Staff The Citigroup bid requests that the FDIC provide loss sharing on a $312 bilion pool of assets. Losses would be shared as follows: (i) the first $30.0 bilion of losses in the pool, Citigroup assumes 100 percent, and (ii) Citigroup assumes $4 bilion a year of losses for three years. Additionally, FDIC wil receive face value of$12 bilion in preferred stock and warrants. Wachovia Corporation submitted an open ban assistance proposal. Approximately $200 the Bank's loans would receive FDIC credit protection, of bilion of provide $25 bilion of which the Bank would first loss protection. In return, Wachovia would issue to FDIC, $10 bilion of preferred stock and warrants on common shares. Considering current market conditions, staff estimates the Citigroup transaction could result in aggregate losses ranging from approximately $35 to $52 billon. However, based upon the terms of the Citigroup proposal, these losses would be absorbed by Citigroup and result in no loss to the Deposit Insurance Fund. 8 All proposals submitted required some form of regulatory capital relief from their primar federal regulators. Systemic Risk Given the forecasted size of the losses at Wachovia Bank NA, it appears likely that any transaction effected by the FDIC under a least-cost framework would require the FDIC to impose significant losses on the Bank's subordinated debt-holders and, possibly, senior note holders. In addition, absent invocation ofthe systemic risk exception available under the FDI Act, the FDIC is prohibited from using deposit insurance funds to benefit senior or secured debt-holders of a company. However, staff believes that a least-cost resolution ofWachovia Ban NA would have significant adverse effects on economic conditions and the financial markets. Term funding markets have been under considerable stress for more than a year, and these pressures have increased greatly following the failure of closing of Lehman Brothers, the difficulties at AIG, and the Washington MutuaL. LIBOR rates have increased more than 100 basis points since early September; commercial paper rates have also risen dramatically, and the volume of financial paper outstanding has declined sharply. In both of these markets, the maturity of new issues has shortened a great deal as investors have become much less wiling to lend beyond overnight. Concerns about actual and potential losses on financial institutions' obligations have caused outflows from prime money market mutual funds totaling nearly $400 bilion over the past two weeks. Since these funds are normally substantial purchasers of commercial paper and short-term ban obligations, these outflows have added to the pressures in those markets. More 9 generally, investors appear to have become more concerned about the outlook of a number of U.S. banking organizations, putting downward pressure on their stock prices and upward pressure on their collateralized debt security spreads. In this environment, a least-cost resolution ofWachovia Bank NA with no assistance to creditors and the potential for meaningful losses imposed on the Bank's debt would be expected to have significant systemic consequences. A default by Wachovia Corporation and a partial payout to debtors ofWachovia Ban NA would intensify liquidity pressures on other U.S. banks, which are extremely vulnerable to a loss of confidence by wholesale suppliers of funds. Investors would likely be concerned about direct exposures of other financial firms to Wachovia Corporation or Wachovia Bank NA. Furthermore, the failure ofWachovia Corporation would lead investors to doubt the financial strength of other institutions that might be seen as similarly situated. Wachovia's sudden failure could also lead investors to reassess the risk in U.S. commercial bans more broadly, paricularly given the current fragility of financial markets generally and the term funding markets for financial institutions. In addition, if a least-cost resolution did not support foreign depositors (who are considered non-deposit, general creditors under the FDI Act); the resolution could imperil this significant source of funding for other U.S. financial institutions. More generally, given Wachovia's international presence, global liquidity pressures could increase and confidence in the dollar could decline. Further, losses on Wachovia Corporation and Wachovia Ban NA paper could lead more money market mutual fuds to "break the buck," accelerating rus on those and other money funds. The resulting liquidations of fud assets, along with the further 10 loss of confidence in financial institutions, might well lead short-term funding markets to virtually cease. Moreover, the individuals and businesses whose deposits have been swept into non-deposit investments or foreign deposits (e.g., at a Cayman branch) would find all or part of their funds unavailable and likely face losses. In the curent environment, such an event could shake the public's confidence in ban deposits. All of these effects would likely cause investors to sharply raise their assessment ofthe risks of investing in similar (albeit smaller) regional bans, making it much less likely that those institutions would be able to raise capital and other funding. Staff believes the consequences of a least-cost resolution could extend to the broader economy. The financial turoil that could result from a least-cost resolution of Wachovia Bank NA and the likely consequent failure ofWachovia Corporation would further undermine business and household confidence. In addition, with the liquidity of baning organizations further reduced and their funding costs increased, baning organizations would become even less wiling to lend to businesses and households. These effects would contribute to weaker economic performance, further damage financial markets, and have other material negative effects. Conclusion Staff believes that the imposition of a least-cost resolution on Wachovia would almost surely have major systemic effects. Both financial stability and overall economic conditions would likely be adversely affected for the reasons discussed above. A resolution that protects all 11 depository institution and holding company creditors would best mitigate the adverse effects of the failure on the financial markets and the broader economy. In creating the systemic risk exception, Congress clearly envisioned that circumstances could arise in which the exception should be used. In view of the curent intense financial strains, as well as the likely consequences to the general economy and financial system of a least-cost resolution of the fourth-largest commercial bank in the United States, staff believes that circumstances such as Congress envisioned are clearly present and that invocation of the systemic risk exception is justified. Staff fuher believes that the Citigroup proposal represents the least cost alternative available for dealing with this systemic risk. Other Information If you have any questions concerning this case, please call Herbert Held at extension 87329, or Sharon Yore at extension 8-7336. 12 This recommendation is prepared by: Sh~~ Franchise and Asset Marketing DRR - Washington This recommendation is supported by: George French Deputy Director, DSC a+r~.L~ ~a A. Kelsey I.. General Counsel 13 RESOLUTION - Citibank WHEREAS, staffhas advised the Board of Directors ("Board") of the Federal Deposit Insurance Corporation ("FDIC") that Wachovia Bank, National Association, Charlotte, North Carolina, Wachovia Mortgage, FSB, North Las Vegas, Nevada, Delaware, National Association, Wilmington, Delaware, Wachovia Wachovia Ban of Ban, FSB, Houston, Texas, and Wachovia Card Services, National Association, Atlanta Georgia ("Banks"), are in danger of default; and WHEREAS, the Division of Resolutions and Receiverships ("DRR") has solicited bids from financial institutions for the resolution ofthe Bans; and WHEREAS, DRR has received no closed bank proposals for the resolution ofthe Banks from other financial institutions; and WHEREAS, a proposal for the resolution of the Banks without the appointment the FDIC as receiver has been received from Citigroup, Inc., New York, New York ("Citi"), which involves the merger or consolidation of the Banks with another insured of depository institution or the sale of any or all of the assets of the Bans or the assumption the Banks' liabilities by another insured depository institution, or the of the Bans, any of which would benefit the shareholders of the I (a) (4)(C) of the Bans and except under limited circumstances is precluded by Section I Federal Deposit Insurance Act, as amended ("Act"), 12 U.S.C. 1821(a) (4)(C); and of any or all of acquisition of the stock WHEREAS, the Board has been advised that the Citi bid wil be less costly than the other bid received and that it represents the least costly of the available methods of resolving the systemic risks presented by the failure of the Banks; and WHEREAS, staff has presented to the Board information indicating the the Act, 12 U.S.C. 1821, would have serious the Banks under Section 11 of adverse effects on economic conditions or financial stability; and liquidation of WHEREAS, staffhas advised that assistance to the Bans under Section 13(c) of the FDIC as receiver wil avoid or mitigate the serious adverse effects on economic conditions or financial stability; and the Act, 12 USC 1823(c)(1), without the appointment of WHEREAS, staffhas advised that severe financial conditions exist which threaten the stability of a significant number of insured depository institutions or of insured depository institutions possessing significant financial resources and the Banks are insured depository institutions under such threat of instability. NOW, THEREFORE, BE IT RESOLVED, that by the vote of at least two-thirds of the members of the Board, the Board finds that the liquidation of the Banks, as well as the likely consequent failure ofWachovia Corporation, would have serious adverse effects on economic conditions or financial stability and would create systemic risk to the credit markets. the members of the Board, the Board finds that the proposal received from Citi which BE IT FURTHER RESOLVED, that by the vote of at least two-thirds of involves the merger or consolidation of the Bans with another insured depository institution or the sale of any or all of the assets of the Banks or the assumption of any or the Bans' liabilities by another insured depository institution, or the acquisition of all of the stock of the Bans and which requires the provision of assistance under Section the Act, 12 USC 1823(c)(2), in the form ofloans to, deposits in, the purchase 13(c)(2) of of assets or securities of, the assumption of liabilities of, guarantees against loss to, or contributions to, the Banks or their acquiror wil mitigate the serious adverse effects on economic conditions or financial stability that would be caused by the Banks' failure. BE IT FURTHER RESOLVED, that severe financial conditions exist which threaten the stability of a significant number of insured depository institutions or of insured depository institutions possessing significant financial resources and the Banks are insured depository institutions under such threat of instability and that the Board takes this action in order to lessen the risk to the Corporation, and systemic risks, posed by the Banks, and that the proposal by Citi wil do so in the least costly of all available methods.. BE IT FURTHER RESOLVED, the Board hereby authorizes the Chairman, or her designee, to provide the written recommendation to the Secretary of the Treasury specified under Section 13(c)(4) (G)(i) of the Act, 12 USC 1823(c)(4)(G)(i). BE IT FURTHER RESOLVED, the Board hereby authorizes the Director, DRR, to take all appropriate action to implement the or his designee, and all other FDIC staff provision of assistance authorized hereunder, including but not limited to: credit support in the form of loan guarantees, the purchase of warrants, and loss sharing; and to take any other action necessary and appropriate in connection with this matter. September 29, 2008 FDIC Meeting Minutes Minutes of The Meeting of the Board of Directors of the Federal Deposit Insurance Corporation By Conference Call Closed to Public Observation September 29, 2008 - 6:04 A.M. A t 6 : 0 4 A.M. on Monday, September 2 9 , 2 0 0 8 , the Chairman called a s p e c i a l meeting of t h e Board of Directors of t h e Federal Deposit Insurance Corporation which was held by means of a telephone conference call. Sheila C. Bair, Chairman of the Board of Directors; Martin J. Gruenberg, Vice Chairman of the Board of Directors; Thomas 5. Curry, Director (Appointive); John C. Dugan, Director (Comptroller of the Currency); John M. Reich, Director (Director, Of £ice of Thrift Supervision); John F. Bovenzi, Deputy to the Chairman and Chief Operating Officer; Jason C. Cave, Acting Deputy to the Chairman; Jesse 0. Villarreal, Chief of S t a f f ; Barbara A. Ryan, Deputy to the Vice Chairman; Lisa K. Roy, Deputy to the Director (~ppointive);Claude A. Rollin, Deputy to the Director (Director, Office of Thrift Supervision); Sandra L. Thompson, Director, Division of Supervision and Consumer Protection; Arthur J. Murton, Director, Division of Insurance and Research; Mitchell L. Glassman, D i r e c t o r , Division of Resolutions and Receiverships; Andrew S. Gray, Director, Office of Public Affairs; and Robert E. Feldman, Executive Secretary, participated in the meeting. Also participating in the meeting were: Christopher J. Spoth, John H. Corston, Donald R. H a m , and Patricia A. Colohan, from the Division of Supervision and Consumer Protection; John V. Thomas, Richard T. Aboussie, and David N. Wall, from the Legal Division; Miguel D. Browne, from the Division of Insurance and Research; James R. Wigand, Herbert J - Held, and Sharon L, Yore, from the Division of Resolutions and Receiverships; and William F. Harral, from the Division of Information Technology. Julie L. Williams, First Senior Deputy Comptroller and Chief Counsel, Office of the Comptroller of the Currency, also participated in the meeting. Chairman Bair presided at the meeting; Mr. Feldman acted as Secretary of the meeting. Chairman Bair called the meeting to order. Vice Chairman Gruenberg then moved that the Board of Directors determine that Corporation business required its consideration of the matters which were to be the subject of the meeting on less than seven days1 notice to the public; that no earlier notice of the meeting was practicable; that the public interest did not require consideration of the matters which were to be the subject of the meeting in a meeting open to public observation; and that the matters could be considered in a meeting closed to public observation by authority of subsections (c)(4), (c)(6), (c)(8), (c)(9)(A)(ii), and (c)(9)(B) of the "Government in the Sunshine Act" (5 U.S.C. 552b( (c)(4), (c)(6), (c)(8), (9)(A)(ii), and (c)(9)(B)) . Chairman Bair seconded the motion and, with Director Dugan, Director Curry, and Director Reich concurring, the motion was carried. James R. Wigand, Deputy Director, Franchise and Asset Marketing Branch, Division of Resolutions and Receiverships ("DRR"), advised the Board that the prospective failure of Wachovia Corporation, Charlotte, North Carolina, and its affiliate banks and thrifts-Wachovia Bank, National Association, Charlotte, North Carolina ("Wachovia Bank, N.A.") ; Wachovia Mortgage, FSB, North Las Vegas, Nevada; Wachovia Bank of Delaware, National Association, Wilmington, Delaware; Wachovia Bank, FSB, Houston, Texas; and Wachovia Card Services, National Association, Atlanta, Georgia-would have serious adverse effects on economic conditions and financial stability. He continued, observing that Wachovia Corporation's failure would seriously and negatively affect already disrupted credit markets, including short-term interbank lending, counterparty relations in Qualified Financial Contract markets, and bank senior and subordinated debt markets, and would further disrupt the related markets in derivative products and other markets. As a consequence, Mr. Wigand set forth staff's recommendation that the Board accept the bid of Citigroup Inc. as the least costly available method of dealing with this systemic risk, and that the Board authorize staff to take all steps needed to implement the decision. He indicated to the Board that, based on preliminary information, staff estimates no loss to the Deposit Insurance Fund as a result of the transaction. September 29, 2008 (Closed) John H. Corston, Associate Director, Large Institutions and Analysis Branch, Complex Financial Institutions, Division of Supervision and Consumer Protection, informed the Board that Wachovia Bank, N.A. is a nationally chartered bank founded in 1879 that is wholly owned by Wachovia Corporation, a financial holding company regulated by the Board of Governors of the Federal Reserve System; that Wachovia Bank, N.A., is the fourth largest bank in the country and the predominant legal entity within Wachovia Corporation, representing 83 percent of consolidated holding company assets; that the insured legal entities of Wachovia Corporation consist of three national banks and two Federal savings banks; that other significant holding company subsidiaries include Wachovia Capital Markets, LLC, and Wachovia Securities, LLC; that Wachovia Bank, N.A., operates approximately 3,400 banking centers in 21 states, primarily along the eastern and gulf coasts and in California, and engages in foreign activities; that the risk profile of Wachovia Bank, N.A., is declining rapidly because of deteriorating liquidity and poor quality assets; that liquidity has reached crisis proportions, such that the Wachovia Bank, N.A., is unable to meet its obligations; that, most recently, on Friday, September 26, 2008, Wachovia Bank, N.A., was unable to roll $1.1 billion of its asset-backed commercial paper; that more short-term obligations are due this week that Wachovia Bank, N.A., will likely be unable to pay; and that there are an estimated $157.1 billion in uninsured deposits. He concluded his portion of the presentation by informing the Board that the company's rapidly deteriorating financial condition is due largely to its portfolio of pay-option ARM products, commercial real estate portfolio, and weakened liquidity position; and that, on Friday, September 26, 2008, market acceptance of Wachovia Corporation's liabilities ceased as the company's stock plunged, credit default swap spreads widened in excess of 1,400 points (to over 2,000 points), some parties declined to advance Wachovia Bank, N.A., overnight funds, and counterparties advised that they would require greater collateralization on any transactions with the Bank. Next, Miguel D. Browne, Associate Director, Division of Information and Research, informed the Board that, given the forecasted size of the losses at Wachovia Bank, N.A., it appears likely that any transaction effected by the Corporation under a least-cost framework would require the Corporation to impose significant losses on the Wachovia Bank, N.A.'s subordinated debt-holders and, possibly, senior note holders. In addition, he said, absent invocation of the systemic risk exception September 29, 2008 (Closed) available under the Federal Deposit Insurance Act, the Corporation is prohibited from using deposit insurance funds to benefit senior or secured debt-holders of a company. Mr. Browne then said, however, that staff believes that a least-cost resolution of Wachovia Bank, N.A., would have significant adverse effects on economic conditions and the financial markets; that term funding markets have been under considerable stress for more than a year, and these pressures have increased greatly following the failure of Lehman Brothers, the difficulties at AIG, and the closing of Washington Mutual Bank, Henderson, Nevada; that LIBOR rates have increased more than 100 basis points since early September; that commercial paper rates have also risen dramatically; and that the volume of financial paper outstanding has declined sharply. In both of these markets, Mr. Browne stated, the maturity of new issues has shortened a great deal as investors have become much less willing to lend beyond overnight. Mr. Browne continued, observing that concerns about actual and potential losses on financial institutionst obligations have caused outflows from prime money market mutual funds totaling nearly $400 billion over the past two weeks; that, since these funds are normally substantial purchasers of commercial paper and short-term bank obligations, these outflows have added to the pressures in those markets; and that, more generally, investors appear to have become more concerned about the outlook of a number of U.S. banking organizations, putting downward pressure on their stock prices and upward pressure on their collateralized debt security spreads. Mr. Browne said that, in the current environment, a leastcost resolution of Wachovia Bank, N.A., with no assistance to creditors and the potential for meaningful losses imposed on Wachovia Bank, N.A.'s debt would be expected to have significant systemic consequences. A default by Wachovia Corporation and a partial payout to debtors of Wachovia Bank, N.A., he said, would intensify liquidity pressures on other U.S. banks, which are extremely vulnerable to a loss of confidence by wholesale suppliers of funds. Furthermore, Mr. Browne said that investors would likely be concerned about direct exposures of other financial firms to Wachovia Corporation or Wachovia Bank, N.A.; that the failure of Wachovia Corporation would lead investors to doubt the financial strength of other institutions that might be seen as similarly situated; and that Wachoviats sudden failure could also lead investors to reassess the risk in U.S. commercial banks more broadly, particularly given the current September 2 9 , 2008 (Closed) fragility of financial markets generally and the term funding markets for financial institutions. In addition, Mr. Browne stated that, if a least-cost resolution did not support foreign depositors (who are considered non-deposit, general creditors under the Federal Deposit Insurance Act), the resolution could imperil this significant source of funding for other U.S. financial institutions. More generally, he said that, given Wachovia's international presence, global liquidity pressures could increase and confidence in the dollar could decline. Further, Mr. Browne said that losses on Wachovia Corporation and Wachovia Bank, N.A., paper could lead more money market mutual funds to "break the buck," accelerating runs on those and other money funds. The resulting liquidations of fund assets, said Mr. Browne, along with the further loss of confidence in financial institutions, might well lead short-term funding markets to virtually cease. Moreover, he said, the individuals and businesses whose deposits have been swept into non-deposit investments or foreign deposits (e.g., at a Cayman branch) would find all or part of their funds unavailable and likely face losses. In the current environment, such an event could shake the public's confidence in bank deposits, Mr. Browne said, and, as a consequence, all of these effects would likely cause investors to sharply raise their assessment of the risks of investing in similar (albeit smaller) regional banks, making it much less likely that those institutions would be able to raise capital and other funding. Mr. Browne set out staff's belief that the consequences of a least-cost resolution could extend to the broader economy. The financial turmoil that could result from a least-cost resolution of Wachovia Bank, N.A., and the likely consequent failure of Wachovia Corporation, he said, would further undermine business and household confidence. In addition, with the liquidity of banking organizations further reduced and their funding costs increased, Mr. Browne stated that banking organizations would become even less willing to lend to businesses and households, and that these effects would contribute to weaker economic performance, further damage financial markets, and have other material negative effects. Then, Mr. Browne expressed to the Board staff's conclusion that the imposition of a least-cost resolution on Wachovia Bank, N.A., would almost surely have major systemic effects. He said that both financial stability and overall economic conditions would likely be adversely affected for the reasons discussed September 29, 2008 (Closed) above. Conversely, Mr. Browne stated that a resolution that protects all depository institution and holding company creditors would best mitigate the adverse effects of the failure on the financial markets and the broader economy. Mr. Browne expressed the view that, in creating the systemic risk exception, Congress clearly envisioned that circumstances could arise in which the exception should be used. In view of the current intense financial strains, as well as the likely consequences to the general economy and financial system of a least-cost resolution of the fourth-largest commercial bank in the United States, he affirmed that staff believes that circumstances such as Congress envisioned are clearly present and that invocation of the systemic risk exception is justified. As a result, he said, staff further believes that the Citigroup Inc. proposal represents the least cost alternative available for dealing with this systemic risk. Herbert J. Held, Assistant Director, Institution Sales Unit, Franchise and Asset Marketing Branch, DRR, then informed the Board that, on September 28, 2008, Corporation staff began discussions with Citigroup Inc., New York, New York, and Wells Fargo & Company ("Wells Fargo"), both of which submitted bids to the Corporation on the same day. Both bids, he said, sought open bank assistance from the Corporation. Mr. Held stated that the Wells Fargo bid would require that the Corporation cover potential losses on a pool up to $127.3 billion in assets (includes $80.7 billion funded); that Wells Fargo would assume the first $2 billion in losses on the pool of assets, following which the Corporation will share in the losses at the rate of 80 percent; and that total Corporation loss exposure be capped at $20 billion. He set out staff's estimate that this proposal would cost the Corporation between $5.6 million to $7.2 billion. The Citigroup Inc. bid, Mr. Held said, requests that the Corporation provide loss sharing on a $312 billion pool of assets, with losses to be shared as follows: (i) the first $30.0 billion of losses in the pool are to be assumed by Citigroup Inc. 100 percent, and (ii) Citigroup Inc. is to assume $4 billion a year of losses for three years. Additionally, Mr. Held said that the Corporation will receive face value of $12 billion in preferred stock and warrants. Mr. Held said that Wachovia Corporation had submitted an open bank assistance proposal. Approximately $200 billion of the Wachovia Bank, N.A.'s loans, he stated, would receive credit protection from the Corporation, of which the Bank would provide September 29, 2008 (Closed) $25 billion of first loss protection. In return, Mr. Held said that Wachovia Corporation would issue to Corporation $10 billion of preferred stock and warrants on common shares. Considering current market conditions, Mr. Held informed the Board that staff estimates the Citigroup Inc. transaction could result in aggregate losses ranging from approximately $35 to $52 billion. However, based upon the terms of the Citigroup Inc. proposal, Mr. Held said that staff also held the view that these losses would be absorbed by Citigroup Inc. and result in no loss to the Deposit Insurance Fund. Following staff's presentation, Vice Chairman Gruenberg noted the significance of the proposal and observed that this will be the Board's first exercise of the systemic risk exception provided by Congress to the Corporation in the Federal Deposit Insurance Corporation Improvement Act of 1991. He indicated that the staff proposal was the best of a set of undesirable options, but noted that approving the proposal would be an appropriate action in the face of extraordinary times. Director Curry agreed with Vice Chairman Gruenberg and observed that all of the elements for the systemic risk exception are amply supported in the case submitted by staff to the Board and by the circumstances both at Wachovia Corporation and external conditions within the economy at large. Director Dugan also noted the extraordinary times and said that it was remarkable that this situation has been reached because the insured depository institution subsidiaries of Wachovia Corporation are, in many ways, a quite viable, attractive franchise. However, he said that they simply could not withstand the liquidity shock that it was facing because of the extraordinary circumstances in the markets. He indicated that the proposal sets out a clear example of the need for the systemic risk exception and that the views of the Board of Governors of the Federal Reserve System and the Department of the Treasury the prior two days confirmed that. Director Dugan commended staff for doing a very good job of developing the proposal over a very short time. As did Vice Chairman Gruenberg and Director Curry, he also observed that this was the best option among competing offers and would result in no cost to the Corporation. Then, in response to a question from Director Reich, Mr. Wigand indicated that Citigroup Inc.'s proposal requires the approval of the shareholders of Wachovia Corporation, and that it is for a dollar per share purchase price of the stock. September 29, 2008 (Closed) John V. Thomas, Deputy General Counsel, Supervision Branch, Legal Division, then informed Director'Reich that the Corporation may not benefit equity holders when resolving troubled financial institutions unless a systemic risk determination is made, and that is why such a determination is necessary in order to effectuate this transaction. In addition, Mr. Thomas said that all of the senior subordinated debt holders are being assumed in the transaction. Director Reich then inquired whether litigation risk could come about from the fact that equity and debt holders were wiped out in the acquisition of Washington Mutual Bank, Henderson, Nevada, by JPMorgan Chase, National Association, Columbus, Ohio, facilitated by the Corporation just on September 25, 2008. Mr. Thomas responded that no one has a right to a systemic risk determination. Director Reich then asked whether there is any exposure to the depository institutions industry for a special assessment. Mr. Thomas responded that, if the current projection of no cost to the Corporation for the instant transaction holds up, there will be no special assessment. On the other hand, Mr. Thomas said that if it turns out that there is a cost from the transaction as a result of the systemic risk finding, then the industry would be assessed on assets minus equity rather than on deposits. Chairman Bair then added that the Department of the Treasury has already agreed that, if there are any losses attendant with the transaction, it will separately fund those so that the Corporation's cash balance would not be depleted in any way. She said that this was in contrast to the Department of Treasury's usual rule that the Corporation must spend down its entire cash balance before the Corporation can borrow from the Treasury. She expressed her thought that it would probably be remote that the Corporation would suffer any losses from the transaction, given the sizable first loss position that Citigroup Inc. has taken, but she said that it was especially important that the Department of the Treasury has agreed to fund the losses separately in that it has vigorously advocated the transaction. In response to Director Reich's question whether any other large depositor institution failures might require resolution within the next several weeks, Chairman Bair responded that National City Bank, Cleveland, Ohio, is being watched closely. Director Dugan added that, if anything were to happen to National City Bank shortly, it would be a liquidity-based issued, not a capital-based issue as in the instant case. He added that it is difficult to predict what direction National September 29, 2008 (Closed) City Bank will take given the current financial "storm" affecting the country. Chairman Bair then agreed with Vice Chairman Gruenberg that the staff proposal was one of several not-very-good options. She noted the importance of the fact that the Board of Governors of the Federal Reserve System and the Department of the Treasury had acted quickly to find a systemic risk exception. She also observed how important that outcome was to the Office of the Comptroller of the Currency. She then said that she has acquiesced in the systemic risk exception decision based on the input of her colleagues and the fact that the Federal Deposit Insurance Act gives multiple decision makers a say in this process. She said, however, that she was not completely comfortable with that decision, but that the Corporation needed to move forward with it because of the tenuous position in which the insured depository institution subsidiaries of Wachovia Corporation find themselves. Chairman Bair commended staff for going above and beyond the usual challenges of the job in that staff did not know until approximately 5 : 0 0 p.m. the previous day that the transaction would be done on an open bank assistance basis. However, she noted that, while markets move quickly, the lack of time put staff in a bind, making for a very difficult night because of the requirement that a resolution was needed by morning. Then, in accordance with the recommendation of staff and on motion of Vice Chairman Gruenberg, seconded by Director Dugan, concurred in by Director Curry, Director Reich, and Chairman Bair, the Board adopted the following resolution: finding, by the vote of at least two-thirds of the members of the Board, that the liquidation of the insured depository institution subsidiaries of Wachovia Corporation ("Banks"), as well as the likely consequent failure of Wachovia Corporation, would have' serious adverse effects on economic conditions or financial stability and would create systemic risk to the credit markets; (2) finding, by the vote of at least two-thirds of the members of the Board, that the proposal received from Citigroup Inc. which involves the merger or consolidation of the Banks with another insured depository institution or the sale of any or all of the assets of the Banks or the assumption of any or all of the Banks' liabilities by another insured September 29, 2008 (Closed) depository institution, or the acquisition of the stock of the Banks and which requires the provision of assistance under section 13 (c)(2) of the Federal Deposit Insurance Act, 12 U.S.C. § 1823 (c)(2), in the form of loans to, deposits in, the purchase of assets or securities of, the assumption of liabilities of, guarantees against loss to, or contributions to, the Banks or their acquirer will mitigate the serious adverse effects on economic conditions or financial stability that would be caused by the Banks' failure; (3) finding that severe financial conditions exist which threaten the stability of a significant number of insured depository institutions or of insured depository institutions possessing significant financial resources and the Banks are insured depository institutions under such threat of instability and that the Board takes this action in order to lessen the risk to the Corporation, and systemic risks, posed by the Banks, and that the proposal by Citigroup Inc. will do so in the least costly of all available methods; (4) authorizing the Chairman, or her designee, to provide the written recommendation to the Secretary of the Treasury specified under section 13 (c)(4)(G)(i) of the Federal Deposit Insurance Act, 12 U.S.C. § 1823 (c)(4)(G)(i); and (5) authorizing the Director, DRR, or his designee, and all other Corporation staff to take all appropriate action to implement the provision of assistance authorized hereunder, including but not limited to: credit support in the form of loan guarantees, the purchase of warrants, and loss sharing, and to take any other action necessary and appropriate in connection with this matter: WHEREAS, staff has advised the Board of Directors ("Board") of the Federal Deposit Insurance Corporation ("FDIC") that Wachovia Bank, National Association, Charlotte, North Carolina, Wachovia Mortgage, FSB, North Las Vegas, Nevada, Wachovia Bank of Delaware, National Association, Wilmington, Delaware, Wachovia Bank, FSB, Houston, Texas, and Wachovia Card Services, National Association, Atlanta, Georgia ("Banks"), are in danger of default; and September 29, 2008 (Closed) WHEREAS, the Division of Resolutions and Receiverships ("DRR") has solicited bids from financial institutions for the resolution of the Banks; and WHEREAS, DRR has received no closed bank proposals for the resolution of the Banks from other financial institutions; and WHEREAS, a proposal for the resolution of the Banks without the appointment of the FDIC as receiver has been received from Citigroup Inc., New York, New York ("Citi"), which involves the merger or consolidation of the Banks with another insured depository institution or the sale of any or all of the assets of the Banks or the assumption of any or all of the Banks' liabilities by another insured depository institution, or the acquisition of the stock of the Banks, any of which would benefit the shareholders of the Banks and except under limited circumstances is precluded by section ll(a) (4)(C) of the Federal Deposit Insurance Act, as amended ("Act"), 12 U.S.C. 5 1821 (a)(4)( C ) ; and WHEREAS, the Board has been advised that the Citi bid will be less costly than the other bid received and that it represents the least costly of the available methods of resolving the systemic risks presented by the failure of the Banks; and WHEREAS, staff has presented to the Board information indicating the liquidation of the Banks under section 11 of the Act, 12 U.S.C. 5 1821, would have serious adverse effects on economic conditions or financial stability; and WHEREAS, staff Banks under section 1823 (c)(l), without receiver will avoid effects on economic and has advised that assistance to the 13(c) of the Act, 12 U.S.C. 5 the appointment of the FDIC as or mitigate the serious adverse conditions or financial stability; WHEREAS, staff has advised that severe financial conditions exist which threaten the stability of a significant number of insured depository institutions September 29, 2008 (Closed) or of insured depository institutions possessing significant financial resources and the Banks are insured depository institutions under such threat of instability. NOW, THEREFORE, BE IT RESOLVED, that by the vote of at least two-thirds of the members of the Board, the Board finds that the liquidation of the Banks, as well as the likely consequent failure of Wachovia Corporation, would have serious adverse effects on economic conditions or financial stability and would create systemic risk to the credit markets. BE IT FURTHER RESOLVED, that by the vote of at least two-thirds of the members of the Board, the Board finds that the proposal received from Citi which involves the merger or consolidation of the Banks with another insured depository institution or the sale of any or all of the assets of the Banks or the assumption of any or all of the Banks' liabilities by another insured depository institution, or the acquisition of the stock of the Banks and which requires the provision of assistance under section 13 (c)(2) of the Act, 12 U.S.C. § 1823 (c)(2), in the form of loans to, deposits in, the purchase of assets or securities of, the assumption of liabilities of, guarantees against loss to, or contributions to, the Banks or their acquirer will mitigate the serious adverse effects on economic conditions or financial stability that would be caused by the Banks1 failure. BE IT FURTHER RESOLVED, that severe financial conditions exist which threaten the stability of a significant number of insured depository institutions or of insured depository institutions possessing significant financial resources and the Banks are insured depository institutions under such threat of instability and that the Board takes this action in order to lessen the risk to the FDIC, and systemic risks, posed by the Banks, and that the proposal by Citi will do so in the least costly of all available methods. BE IT FURTHER RESOLVED, the Board hereby authorizes the Chairman, or her designee, to provide the written recommendation to the Secretary of the September 29, 2008 (Closed) Treasury specified under section 13 (c)(4)(G)(i) of the Act, 12 U.S.C. § 1823 (c)(4)(G)(i). BE IT FURTHER RESOLVED, the Board hereby authorizes the Director, DRR, or his designee, and all other FDIC staff to take all appropriate action to implement the provision of assistance authorized hereunder, including but not limited to: credit support in the form of loan guarantees, the purchase of warrants, and loss sharing; and to take any other action necessary and appropriate in connection with this matter. [EXECUTIVE SECRETARY'S NOTE: On Monday, September 29, 2008, as a result of the Board's action earlier that day, Citigroup Inc. agreed to acquire the banking operations of Wachovia Corporation, Charlotte, North Carolina, in a transaction facilitated by the Corporation and concurred with by the Board of Governors or the Federal Reserve System and the Secretary of the Treasury in consultation with the President, resulting in all depositors being fully protected and the expectation that there will be no cost to the Deposit Insurance Fund. Citigroup Inc. will acquire the bulk of Wachovia Corporation's assets and liabilities on an open bank basis with assistance from the Corporation, including five depositor institutions: Wachovia Bank, National Association, Charlotte, North Carolina, Wachovia Mortgage, FSB, North Las Vegas, Nevada, Wachovia Bank of Delaware, National Association, Wilmington, Delaware, Wachovia Bank, FSB, Houston, Texas, and Wachovia Card Services, National Association, Atlanta, Georgia. Wachovia Corporation will continue to own AG Edwards and Evergreen. The Corporation has entered into a loss sharing arrangement on a pre-identified pool of loans, with Citigroup Inc. to absorb up to $42 billion of losses on a $312 billion pool of loans and the Corporation to absorb losses beyond that; and Citigroup has granted the Corporation $12 billion in preferred stock and warrants to compensate the Corporation for bearing the risk.] Documents and materials relevant to the Board's consideration of the foregoing are marked an exhibit for identification, are filed in the jacket of this meeting, and, by reference, are made a part of these minutes and the permanent files of the Board of Directors. September 29, 2008 (Closed) There being no further business, the meeting was adjourned. ~xecutiGeSecretary September 29, 2008 (Closed) September 29, 2008 FDIC Meeting Transcript 1 UNITED STATES OF AMERICA FEDERAL DEPOSIT INSURANCE CORPORATION + + + + + BOARD OF DIRECTORS + + + + + MEETING CLOSED SESSION + + + + + MONDAY SEPTEMBER 29, 2008 + + + + + The Board convened at 6:00 a.m. in the Federal Deposit Insurance Corporation Board Room at 550 17th Street, N.W., Washington, D.C., Sheila C. Bair, Chairman, presiding. PRESENT: SHEILA C. BAIR, Chairman MARTIN J. GRUENBERG, Vice Chairman THOMAS J. CURRY, Director JOHN C. DUGAN, Comptroller of the Currency JOHN M. REICH, Director, Office of Thrift Supervision STAFF PRESENT: Miguel Bran John H. Corston Herbert J. Held Jim Wigand NEAL R. GROSS (202) 234-4433 COURT REPORTERS AND TRANSCRIBERS 1323 RHODE ISLAND AVE., N.W. WASHINGTON, D.C. 20005-3701 (202) 234-4433 2 P R O C E E D I N G S 1 CHAIRMAN BAIR: 2 Okay. I have no 3 gavel, so we'll just begin this morning the 4 meeting. 5 (laughter.) 6 CHAIRMAN BAIR: Okay. 7 to call the meeting to order. 8 Sunshine motion. MR. 9 second? I need a I move. CHAIRMAN 10 11 : I'd like BAIR: I'll second. May I have a All in favor, say aye. 12 [Chorus of ayes] 13 CHAIRMAN BAIR: The 14 agreed to. 15 item 16 memorandum 17 Wachovia 18 Charlotte, North Carolina, and its affiliate 19 insured depository institutions. on the discussion and Bank, There's one agenda. resolution It is relating National a to Association, Jim Wigand, John Corston, Miguel 20 21 No summary agenda. motion's Bran and Herb Held will present the case. MR. WIGAND: 22 Good morning, Madam NEAL R. GROSS (202) 234-4433 COURT REPORTERS AND TRANSCRIBERS 1323 RHODE ISLAND AVE., N.W. WASHINGTON, D.C. 20005-3701 (202) 234-4433 3 1 Chairman, members of the Board. 2 to present a recommendation that the Board 3 find that the respective failure of Wachovia 4 Corporation 5 thrifts, would have serious adverse effects 6 on 7 stability. 8 negatively 9 markets, including 10 lending, counterparty 11 qualified financial 12 bank 13 would further disrupt the related markets and 14 derivative products in other markets. and economic its We're here affiliates, conditions and banks and financial Its failure would seriously and affect senior already-disrupted short-term credit interbank relationships contract subordinated debt and markets, and markets and Staff recommends that the Board 15 16 accept 17 costly available method, mitigating systemic 18 risk, and that the Board authorize staff to 19 take 20 decision. all bid steps of Citigroup needed to as the least implement this Based on preliminary information, 21 22 the staff estimates that there will be no NEAL R. GROSS (202) 234-4433 COURT REPORTERS AND TRANSCRIBERS 1323 RHODE ISLAND AVE., N.W. WASHINGTON, D.C. 20005-3701 (202) 234-4433 4 1 expected loss to the Deposit Insurance Fund 2 for this transaction. MR. CORSTON: 3 Wachovia Bank is a 4 nationally-chartered bank. It's wholly-owned 5 by Wachovia Corporation. The bank is the 6 fourth largest bank in the country and is the 7 predominant legal 8 Corporation representing 9 consolidated holding within 83 company entities Wachovia percent of assets. insured 11 Corporation consist of three national banks 12 and 13 operates approximately 3400 banking centers 14 in 21 states. federal savings of The 10 two legal entity banks. Wachovia The bank The risk profile of the bank is 15 16 declining rapidly 17 liquidity 18 liquidity has reached crisis proportions. and The 19 because poor of quality deteriorating assets, company's financial condition and rapidly 20 deteriorating is due 21 largely to its portfolio of pay option ARM 22 products, commercial real estate portfolio, NEAL R. GROSS (202) 234-4433 COURT REPORTERS AND TRANSCRIBERS 1323 RHODE ISLAND AVE., N.W. WASHINGTON, D.C. 20005-3701 (202) 234-4433 5 1 and weakened liquidity position. 2 On Friday, September 26, market 3 acceptance of Wachovia liability ceased as 4 the company's stock plunged, credit default 5 swap spreads widened, some parties declined 6 to 7 counterparties 8 require 9 transactions with the bank. advance the bank advised greater that funds, they collateralization Unless 10 overnight the bank and would on any immediately 11 attracts a merger partner, the FDIC and other 12 regulators project the bank will likely be 13 unable to pay obligations or meet expected 14 deposit outputs. 15 Miguel. 16 MR. BRAN: Thanks, John. 17 recommends the Board 18 resolution of Wachovia 19 banks and thrifts, and they'd have serious 20 adverse effects on economic conditions and 21 financial 22 disrupt an already moribund credit market. stability, find the Staff and and least-cost its would affiliate seriously NEAL R. GROSS (202) 234-4433 COURT REPORTERS AND TRANSCRIBERS 1323 RHODE ISLAND AVE., N.W. WASHINGTON, D.C. 20005-3701 (202) 234-4433 6 1 The least-costly resolution would 2 likely be a purchase and assumption after the 3 FDIC was appointed receiver. 4 first 5 financial circumstances we find ourselves in 6 in September 2008. describe some of I'd like to the economic and Short-term funding mechanisms in 7 8 interbank 9 strain. lending This are under pressure considerable is increasing 10 following the failure of Lehman Brothers, the 11 difficulties of AIG, the closing of WaMu. 12 Libor has jumped a 100 basis points in the 13 last three weeks. 14 have risen dramatically. 15 led to a strained liquidity position for many 16 banks and has resulted in downward pressure 17 on stock prices and upward pressure on credit 18 default swap prices. Commercial paper rates And this has all All of these effects would likely 19 20 cause investors 21 assessments 22 similar, of albeit to the rise risks smaller sharply of their investing regional in banks, NEAL R. GROSS (202) 234-4433 COURT REPORTERS AND TRANSCRIBERS 1323 RHODE ISLAND AVE., N.W. WASHINGTON, D.C. 20005-3701 (202) 234-4433 7 1 making it much less likely that those 2 institutions would be able to raise capital 3 and other funding. The potential also exists for the 4 5 harm to extend to the broader economy. 6 could 7 confidence and also cause banks to become 8 less 9 households. undermine willing to If 10 business the invoked, lend to systemic 11 were staff 12 transaction described -- and household businesses risk believes It and exception that the 13 [Teleconference is interrupted.] 14 MR. 15 : [inaudible] is now joining. 16 CHAIRMAN BAIR: 17 MS. 18 Williams [ph]. : Who joined? Hello. 19 CHAIRMAN BAIR: 20 MR. BRAN: This is Julie okay. -- described in this 21 Board case would avoid all or most of the 22 adverse impacts discussed previously. Use of NEAL R. GROSS (202) 234-4433 COURT REPORTERS AND TRANSCRIBERS 1323 RHODE ISLAND AVE., N.W. WASHINGTON, D.C. 20005-3701 (202) 234-4433 8 1 2 the systemic risk exception may involve cost. The FDIC could suffer some losses from 3 protection of certain asset pools, although 4 the expectation is not. 5 losses is not known and, as described by Mr. 6 Wigand, is likely to be zero. The size of the In addition, moral hazard will be 7 8 exacerbated 9 discipline in the future would be reduced for 10 and the potential for market the very largest depository institutions. In conclusion, staff believes the 11 12 imposition of a 13 Wachovia 14 systemic effects. 15 and overall economic condition would likely 16 be adversely affected for the reasons already 17 discussed. would least-cost almost surely have on major Both financial stability Staff 18 resolution believes we have 19 recommended the least-costly alternative, one 20 where equity holders take significant losses, 21 albeit 22 resolution that protects most creditors would not wiped out. A least-cost NEAL R. GROSS (202) 234-4433 COURT REPORTERS AND TRANSCRIBERS 1323 RHODE ISLAND AVE., N.W. WASHINGTON, D.C. 20005-3701 (202) 234-4433 9 1 best ameliorate 2 failure on financial markets and the real 3 economy. In 4 the adverse creating the effects the Congress of systemic risk 5 exception, 6 that circumstances could arise in which the 7 exception should be used. 8 current intense financial strains which have 9 already seriously impaired the functioning of financial clearly a In view of the 10 the 11 consequences for the financial system and the 12 economy of a least-cost resolution of the 13 fourth largest commercial bank in the United 14 States, staff believes that the circumstances 15 such 16 present and that invocation of the systemic 17 risk exception is justified. 18 Herb. 19 MR. as system envisioned Congress and envisioned HELD: An the are likely clearly Thank you. electronic data 20 room was established by the bank in order to 21 allow 22 diligence. potential buyers to perform due However, there were no proposals NEAL R. GROSS (202) 234-4433 COURT REPORTERS AND TRANSCRIBERS 1323 RHODE ISLAND AVE., N.W. WASHINGTON, D.C. 20005-3701 (202) 234-4433 10 1 submitted on an open basis. 2 On September 28th, the FDIC staff 3 began discussions with Citigroup and Wells 4 Fargo, both of which submitted bids the same 5 day. 6 from the FDIC. Both bids sought open bank assistance 7 The Wells Fargo bid required the 8 FDIC to cover potential losses on a pool of 9 up to $137.3 billion in assets, of which 80.7 10 billion has been funded. 11 assume the first $2 billion of losses, and 12 thereafter, 13 percent for FDIC and 20 percent for Wells. losses Our 14 Wells Fargo would would analysis be of shared, this 80 proposal 15 estimated the cost to be between 5.6 and 7.2 16 billion 17 transaction was capped at $20 billion net. dollars. The 18 Our Citi exposure bid, in Citigroup the bid 19 requested that FDIC provide loss-share (audio 20 drops for about a second) on a $312 billion 21 pool. 22 first $30 billion of losses would be absorbed Losses would be shared first. The NEAL R. GROSS (202) 234-4433 COURT REPORTERS AND TRANSCRIBERS 1323 RHODE ISLAND AVE., N.W. WASHINGTON, D.C. 20005-3701 (202) 234-4433 11 1 by Citigroup. Then Citigroup would absorb $4 2 billion in losses a year for the next three 3 years and after that, FDIC would absorb all 4 the losses. 5 or, we think, wholly offset by $12 billion of 6 preferred 7 would 8 transaction. These would be partially offset stock receive transference, at the which closing of FDIC the We -- our analysis of the (audio 9 10 breakup) group portfolio indicates that 11 losses range between 35 and (audio breakup) 12 billion dollars. 13 severe scenario, there would be no cost to 14 the DIF fund. And even under the most In addition, Wachovia Corporation 15 16 itself submitted a proposal for open-bank 17 assistance, and it required a pool of $200 18 billion of loans to have credit protection 19 from the FDIC, and the Wachovia would cover 20 the first $25 billion in losses, and the FDIC 21 would receive $10 billion in preferred stock 22 and warrants. NEAL R. GROSS (202) 234-4433 COURT REPORTERS AND TRANSCRIBERS 1323 RHODE ISLAND AVE., N.W. WASHINGTON, D.C. 20005-3701 (202) 234-4433 12 Based 1 on our analysis, the 2 proposal from Citigroup is no cost, and is 3 clearly the better of these proposals. MR. 4 : clarification, Now just for a point 5 of that is making an 6 assumption of the estimated high-end loss of 7 the range of losses. 8 the cushion available with the transaction 9 with City would still not result in a loss to 10 the Deposit Insurance Fund, but, you know, 11 once again, you know, we have the range of 12 estimates there, and the point estimate is 13 certainly within the range of the absorption 14 amount (audio breakup) provided by Citi. It would appear that 15 CHAIRMAN BAIR: Okay. Thank you. 16 Vice Chairman Gruenberg. 17 VICE CHAIRMAN GRUENBERG: Thank 18 you, Madam Chairman. I will say, this is a 19 momentous proposal that's being placed before 20 the Board. 21 the Board of the systemic risk exception that 22 was provided in the Federal Deposit Insurance It will be the first exercise by NEAL R. GROSS (202) 234-4433 COURT REPORTERS AND TRANSCRIBERS 1323 RHODE ISLAND AVE., N.W. WASHINGTON, D.C. 20005-3701 (202) 234-4433 13 1 Corporation Improvement Act of 1991. 2 It is a decision, it seems to me, 3 we reach reluctantly, and in some sense, we 4 don't have a desirable option in front of us, 5 but 6 perhaps the best. among the options available, this is 7 So it's the least bad, perhaps, 8 of a set of undesirable options, and in that 9 regard we're facing extraordinary times, and 10 this is the appropriate action for us to take 11 at this time, and I'm prepared to support 12 this case. 13 CHAIRMAN BAIR: 14 Director Curry. 15 DIRECTOR CURRY: chairman. vice 17 elements of the systemic risk has seemed to 18 be 19 circumstances both at Wachovia, and external 20 conditions within the economy at large. 21 am also prepared to vote in favor of this. supported -- I agree with the 16 amply It's Thank you. by CHAIRMAN BAIR: 22 sadly, the case all and the the So I Director Dugan. NEAL R. GROSS (202) 234-4433 COURT REPORTERS AND TRANSCRIBERS 1323 RHODE ISLAND AVE., N.W. WASHINGTON, D.C. 20005-3701 (202) 234-4433 14 DIRECTOR DUGAN: 1 2 Chairman. 3 extraordinary time. 4 that we've come to this situation where an 5 institution like 6 ways, a 7 franchise, 8 liquidity shock that it was facing because of 9 the extraordinary circumstances in markets. 10 I think that this is a clear example of the 11 need 12 certainly 13 Reserve 14 discussions that we've had over the weekend, 15 I don't think we have any choice. 16 want to commend staff. I think they did a 17 very good job of putting this together in a 18 very short period of time, and I think among 19 the 20 option, and one that (audio breakup) no cost 21 to the FDIC fund. 22 and I support the resolution. is for I think Thank you, Madam which, viable, couldn't risk the of view offers, in the exception, the Federal Department, this many attractive withstand systemic Treasury competing absolutely I think it's remarkable quite the and are Wachovia, just with these was and I'd say I the best It certainly helps them, NEAL R. GROSS (202) 234-4433 COURT REPORTERS AND TRANSCRIBERS 1323 RHODE ISLAND AVE., N.W. WASHINGTON, D.C. 20005-3701 (202) 234-4433 15 1 CHAIRMAN BAIR: 2 DIRECTOR REICH: Director Reich. Thank you, Madam 3 Chairman. 4 unfortunately. 5 equity holders would take significant losses, 6 though not wiped out, and I guess I'd like to 7 know what, what that means. 8 - I heard staff indicate that Could somebody - CHAIRMAN BAIR: 9 10 There's a lot that I don't know, Do you want to take that, Jim. MR. 11 WIGAND: The proposal that 12 Citicorp is tendering, and of course it has 13 to 14 Wachovia, is for a dollar per share purchase 15 price of the stock. be approved 17 Act 18 equity holders? require with MR. 19 respect : shareholders of What does the FDI to treatment of John Thomas is coming to the table. MR. 21 22 the MR. POLAKOFF: 16 20 by THOMAS: It requires that (audio breakup) probably not benefit equity NEAL R. GROSS (202) 234-4433 COURT REPORTERS AND TRANSCRIBERS 1323 RHODE ISLAND AVE., N.W. WASHINGTON, D.C. 20005-3701 (202) 234-4433 16 1 holders unless there is That's why a 2 determination. 3 determination is necessary in this case in 4 order to do this transaction. a systemic systemic 5 I would add, I think in addition 6 to the dollar a share, there would be some 7 assets left behind in the holding company, 8 but the -- 9 MR. WIGAND: That's correct. 10 MR. THOMAS: -- bulk of its debt 11 would be assumed. I think Citi's guessing 12 about $2 or 2.60 a share value for stock. 13 That's their guess. MR. 14 It's not ours. : And what about the 15 debt holders, the subordinated debt, senior 16 debt? MR. 17 : In all cases the 18 senior subordinated debt holders are being 19 assumed in the transaction. MR. POLAKOFF: 20 21 do we think 22 litigation we're risk be How do we -- what doing, affected or -- how now will I'm NEAL R. GROSS (202) 234-4433 COURT REPORTERS AND TRANSCRIBERS 1323 RHODE ISLAND AVE., N.W. WASHINGTON, D.C. 20005-3701 (202) 234-4433 17 1 thinking of WaMu -- equity and debt holders 2 that were wiped out. 3 risk of increased litigation risk for -MR. 4 Are we -- do we run the : No one has a right, a 5 legal right to a systemic risk determination 6 and being bailed out. I think the answer is 7 this that It may 8 change the risk whether someone sues. It 9 will not change the risk where there's any does not change 10 significant 11 litigation. 12 you may get a law suit; but it does not 13 change the legal risk. risk of loss in that Any time somebody sees money, MR. 14 15 loss, risk. : Is there any exposure to the industry for a special assessment? MR. 16 : If it turns out that 17 the transaction actually does cost more than 18 a simple closing of the institutions here 19 would cost, and right now it looks like a 20 zero cost -- our best estimate, zero cost. 21 If 22 assessment. that's true, there'll be no special If it turns out that there is a NEAL R. GROSS (202) 234-4433 COURT REPORTERS AND TRANSCRIBERS 1323 RHODE ISLAND AVE., N.W. WASHINGTON, D.C. 20005-3701 (202) 234-4433 18 1 cost from doing the systemic finding, and 2 doing 3 industry 4 assessed based on assets minus equity rather 5 than on deposits. the transaction would be this way, assessed, CHAIRMAN BAIR: 6 then and the they're Treasury's also 7 agreed if there are any losses attendant with 8 this transaction, they will separately fund 9 those, so that our cash balance wouldn't be 10 depleted in 11 reserve balance*.. I guess that's still "up 12 in 13 accounting matter we could do that. the any air." way, What MR. 14 that and : they say 16 losses, 17 would not be assessed, or -- that CHAIRMAN 18 they -- as our an Does that -- when you 15 does would do hopefully separately mean that the BAIR: fund the industry No. 19 Unfortunately, with our statute, there's a 20 special assessment for any costs associated, 21 or losses associated with a systemic risk 22 exception. But the usual rule for Treasury NEAL R. GROSS (202) 234-4433 COURT REPORTERS AND TRANSCRIBERS 1323 RHODE ISLAND AVE., N.W. WASHINGTON, D.C. 20005-3701 (202) 234-4433 19 1 is that we have to spend down our entire 2 balance before the will allow us to borrow 3 from them. 4 fund any, any losses that we might suffer in 5 connection with this transaction, so that we 6 would not have to -- it would not deplete our 7 cash balance. I 8 9 In this case, they've agreed to happen. don't think that's going to I think that the -- at least given - 10 -I think staff is right, that it's probably 11 remote that we will suffer any losses under 12 this, given the sizeable first loss position 13 that Citi has taken. But 14 it since was important Treasury are to the me, 15 especially ones 16 vigorously pushing this, that they agree to 17 separately fund those losses if we do incur 18 them. 19 to determine whether they could give us some 20 type of language that would allow us not to 21 have to reserve against those losses if they 22 should occur. And we're trying, we're still trying NEAL R. GROSS (202) 234-4433 COURT REPORTERS AND TRANSCRIBERS 1323 RHODE ISLAND AVE., N.W. WASHINGTON, D.C. 20005-3701 (202) 234-4433 20 1 In other words, they would just 2 fund them immediately as they occurred so it 3 wouldn't impact our DIF balance. 4 not talking about that. 5 that out yet. MR. 6 other : possibility We haven't worked Are we anticipating 7 any 8 within the next couple weeks? of CHAIRMAN BAIR: 9 But we're a large failure Well, I know John 10 Dugan, he might have some thoughts on that. 11 We're watching that Citi closely. 12 need to have more discussions with OCC. 13 not aware on the staff. 14 anything? DIRECTOR DUGAN: 15 I think we I'm John, do you have What I would say 16 is if it happens, it will be a liquidity- 17 based issue, not a capital-based issue like 18 this one, and it'll depend on how markets 19 react, and we'll -- institutions have been 20 taking precautions but in the financial storm 21 that we're in, it's difficult to predict what 22 direction it will take for the particular NEAL R. GROSS (202) 234-4433 COURT REPORTERS AND TRANSCRIBERS 1323 RHODE ISLAND AVE., N.W. WASHINGTON, D.C. 20005-3701 (202) 234-4433 21 1 institution which Sheila just mentioned or 2 other institutions, whether supervised by us 3 or others. CHAIRMAN BAIR: 4 5 Any more questions, John? MR. 6 7 Okay. Sheila. : I think that's it, Thank you. 8 CHAIRMAN BAIR: 9 Well, i think this is, you know, 10 as Marty said, one option of a lot of not- 11 very-good 12 record, 13 Federal Reserve Board "weighed in" early on 14 for us to provide a systemic risk exception. 15 In fact, the Federal Reserve Board, several 16 hours ago, voted on a systemic risk exception 17 before we'd even acted. 18 both pressed for this, and I know it was 19 important to the OCC as well. options. that both I 20 have I the Thank you. would note Treasury for the and the So they clearly, acquiesced in that 21 decision based on the input of my colleagues, 22 and the fact the statute gives multiple NEAL R. GROSS (202) 234-4433 COURT REPORTERS AND TRANSCRIBERS 1323 RHODE ISLAND AVE., N.W. WASHINGTON, D.C. 20005-3701 (202) 234-4433 22 1 decision makers a say in this process. I'm 2 not completely comfortable 3 with it but we need to move forward with 4 something, clearly, because this institution 5 is in a tenuous situation. 6 I would like to very much thank 7 and commend the staff for really going above 8 and 9 challenges of the job. beyond a very -- you know, usual We did not really 10 know, until 5:00 o'clock yesterday afternoon, 11 that this was not going to get done on an 12 open bank and assisted basis, and it really 13 put us in a bind. 14 markets move quickly, and we just take the 15 balls as they come, or pitched at us. 16 was 17 that 18 resolution 19 resolution I don't know. But it a very difficult night and a resolution is a resolution, that, and whether we it's needed the a best So with that, I will -- may I 20 21 So it is what it is, have a motion with respect to Wachovia Bank. MR. 22 : I move. NEAL R. GROSS (202) 234-4433 COURT REPORTERS AND TRANSCRIBERS 1323 RHODE ISLAND AVE., N.W. WASHINGTON, D.C. 20005-3701 (202) 234-4433 23 CHAIRMAN BAIR: 1 2 second. 3 MR. 4 CHAIRMAN BAIR: 5 And may I have a : Second. All in favor say aye. 6 [Chorus of ayes] 7 CHAIRMAN 8 agreed to. 9 agenda. BAIR: The motion's That concludes the discussion Thank you, gentlemen, for all 10 getting up so early, and John, in your case 11 staying up all night. 12 business, we'll conclude the meeting. 13 you. (Whereupon, 14 15 And if there's no more the closed Thank meeting was concluded) 16 17 18 19 20 21 22 NEAL R. GROSS (202) 234-4433 COURT REPORTERS AND TRANSCRIBERS 1323 RHODE ISLAND AVE., N.W. WASHINGTON, D.C. 20005-3701 (202) 234-4433 24 1 2 3 4 5 6 7 NEAL R. GROSS (202) 234-4433 COURT REPORTERS AND TRANSCRIBERS 1323 RHODE ISLAND AVE., N.W. WASHINGTON, D.C. 20005-3701 (202) 234-4433 September 29, 2008 FDIC Board Resolution FEDERA DEPOSIT INSURCE CORPORATION CERTIFIED COpy OF RESOLUTION OF THE BOARD OF DIRECTORS I, Robert E. Feldman, Executive Secretary of the Federal Deposit Insurance Corporation, do hereby certify that the attached is a true and correct copy of a resolution duly adopted at a meeting of the Board of Directors of said Corporation, regularly called and held on the 29th day of September, 2008, at which a quorum was present, and that the same has not been amended or rescinded and is now in full force and effect. IN WITNESS WHEREOF, I have hereunto (SEAL) subscribed my name and caused the seal of the Corporation to be af fixed hereto, in the Ci ty of Washington and District of Columbia, this 29th day of September, 2008. 076709 ~~ecretary Federal Deposit Insurance Corporation RESOLUTION WHEREAS, staff has advised the Board of Directors (~Board") of the Federal Deposit Insurance Corporation (~FDIC") that Wachovia Bank, National Association, Charlotte, North Carolina, Wachovia Mortgage, FSB, North Las Vegas, Nevada, Wachovia Bank of Delaware, National Association, Wilmington, Delaware, Wachovia Bank, FSB, Houston, Texas, and Wachovia Card Services, National Association, Atlanta, Georgia (~Banks"), are in danger of defaul t; and WHEREAS, the Division of Resolutions and Receiverships (~DRR") has solicited bids from financial institutions for the resolution of the Banks; and WHEREAS, DRR has received no closed bank proposals for the resolution of the Banks from other financial insti tutions; and WHEREAS, a proposal for the resolution of the Banks without the appointment of the FDIC as receiver has been received from Citigroup Inc., New York, New York (~Citi"), which involves the merger or consolidation of the Banks with another insured depository institution or the sale of any or all of the assets of the Banks or the assumption of any or all of the Banks' liabilities by another insured depository institution, or the acquisition of the stock of the Banks, any of which would benefit the shareholders of the Banks and except under limited circumstances is precluded by section 11 (a) (4) (C) of the Federal Deposit Insurance Act, as amended (~Act"), 12 U.S.C. § 1821 (a) (4) (C); and WHEREAS, the Board has been advised that the Citi bid will be less costly than'the other bid received and that it represents the least costly of the available methods of resolving the systemic risks presented by the failure of the Banks; and WHEREAS, staff has presented to the Board information indicating the liquidation of the Banks under section 11 of the Act, 12 U. S. C. § 1821, would have serious adverse effects on economic conditions or financial stability; and WHEREAS, staff has advised that assistance to the Banks under section 13 (c) of the Act, 12 U. S. C. § 1823 (c) (1), without the appointment of the FDIC as receiver will avoid or mitigate the serious adverse effects on economic conditions or financial stability; and WHEREAS, staff has advised that severe financial conditions exist which threaten the stability of a significant number of insured depository institutions or of insured depository institutions possessing significant financial resources and the Banks are insured depository institutions under such threat of instability. NOW, THEREFORE, BE IT RESOLVED, that by the vote of at least two-thirds of the members of the Board, the Board finds that the liquidation of the Banks, as well as the likely consequent failure of Wachovia Corporation, would have serious adverse effects on economic conditions or financial stability and would create systemic risk to the credi t markets. BE IT FURTHER RESOLVED, that by the vote of at least two-thirds of the members of the Board, the Board finds that the proposal received from Citi which involves the merger or consolidation of the Banks with another insured depository institution or the sale of any or all of the assets of the Banks or the assumption of any or all of the Banks' liabilities by another insured depository institution, or the acquisition of the stock of the Banks and which requires the provision of assistance under section 13 (c) (2) of the Act, 12 U.S.C. § 1823 (c) (2), in the form of loans to, deposits in, the purchase of assets or securities of, the assumption of liabilities of, guarantees against loss to, or contributions to, the Banks or their acquirer will mitigate the serious adverse effects on economic conditions or financial stability that would be caused by the Banks' failure. BE IT FURTHER RESOLVED, that severe financial conditions exist which threaten the stability of a significant number of insured depository institutions or of insured depository institutions possessing significant financial resources and the Banks are insured depository institutions under such threat of instability and that the Board takes this action in order to lessen the risk to the FDIC, and systemic risks, posed by the Banks, and that the 2 proposal by Citi will do so in the least costly of all available methods. BE IT FURTHER RESOLVED, the Board hereby authorizes the Chairman, or her designee, to provide the written recommendation to the Secretary of the Treasury specified under section 13(c) (4) (G) (i) of the Act, 12 U.S.C. § 1823 (c) (4) (G) (i) . BE IT FURTHER RESOLVED, the Board hereby authorizes the Director, DRR, or his designee, and all other FDIC staff to take all appropriate action to implement the provision of assistance authorized hereunder, including but not limited to: credit support in the form of loan guarantees, the purchase of warrants, and loss sharing; and to take any other action necessary and appropriate in connection with this matter. 3