UNITED STATES


SECURITIES AND EXCHANGE COMMISSION


WASHINGTON, D.C. 20549





Form 10-Q





R

Quarterly report pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934For the quarterly period ended June 30, 2009OR*

Transition report pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934











Commission File Number 000-51507





WATERSTONE FINANCIAL, INC.





(Exact name of registrant as specified in its charter)








Federal
20-3598485(State or other jurisdiction of
incorporation or organization)
(IRS Employer Identification No.)








11200 W. Plank Ct.


Wauwatosa, WI  53226


(414) 761-1000


(Address, including Zip Code, and telephone number,


including area code, of registrant’s principal executive offices)





Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements
for the past 90 days.





Yes
R

No
*





Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, or a non-accelerated filer.  See definition of “accelerated filer and large accelerated filer” in Rule 12b-2 of the Exchange Act.





Large accelerated filer
*

Accelerated filer
R

Non-accelerated filer
*

Smaller Reporting Company
*





Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).





Yes
*

No
R





Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).
Yes  No





The number of shares outstanding of the issuer’s common stock, $0.01 par value per share, was 31,249,897 at July 31, 2009.











WATERSTONE FINANCIAL, INC.





10-Q INDEX


























Page No.PART I. FINANCIAL INFORMATIONItem l. Financial StatementsConsolidated Statements of Financial Condition as of June 30, 2009 (unaudited) and December 31, 2008


3Consolidated Statements of Operations for the three and six months ended June 30, 2009 and 2008 (unaudited)


4Consolidated Statements of Changes in Shareholders’ Equity for the six months ended June 30, 2009 and 2008 (unaudited)


5Consolidated Statements of Cash Flows for the six months ended June 30, 2009 and 2008 (unaudited)


6-7Notes to Consolidated Financial Statements


8-21Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations


22-44Item 3. Quantitative and Qualitative Disclosures about Market Risk


45Item 4. Controls and Procedures


46PART II. OTHER INFORMATION


47Item 1. Legal Proceedings


47Item 1A. Risk Factors


47Item 4. Submission of Matters to a Vote of Security Holders


47Item 6. Exhibits


48Signatures


48CertificationCertificationCertificationCertification





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 Table of Contents


PART I — FINANCIAL INFORMATION


Item 1. Financial Statements





WATERSTONE FINANCIAL, INC AND SUBSIDIARIES


CONSOLIDATED STATEMENTS OF FINANCIAL CONDITION





(Unaudited)June 30,


December 31,2009


2008Assets

(In Thousands, except share data)Cash

$
50,956



14,847Federal funds sold


21,719



9,002Short term investments


22,196



-Cash and cash equivalents


94,871



23,849Securities available for sale (at fair value)


191,007



179,887Securities held to maturity (at amortized cost)fair value of $8,049 in 2009 and $8,165 in 2008


9,938



9,938Loans held for sale


30,530



12,993Loans receivable


1,481,000



1,559,758Less: Allowance for loan losses


25,638



25,167Loans receivable, net


1,455,362



1,534,591Office properties and equipment, net


29,660



30,560Federal Home Loan Bank stock, at cost


21,653



21,653Cash surrender value of life insurance


33,087



32,399Real estate owned


45,000



24,653Prepaid expenses and other assets


16,575



14,909Total assets

$
1,927,683



1,885,432Liabilities and Shareholders’ EquityLiabilities:Demand deposits

$
55,085



53,434Money market and savings deposits


90,978



100,930Time deposits


1,061,379



1,041,533Total deposits


1,207,442



1,195,897Short term borrowings


53,000



4,100Long term borrowings


459,000



482,900Advance payments by borrowers for taxes


15,415



862Other liabilities


19,521



30,406Total liabilities


1,754,378



1,714,165Shareholders’ equity:Preferred stock (par value $.01 per share)Authorized 20,000,000 shares, no shares issued


—



—Common stock (par value $.01 per share)Authorized - 200,000,000 shares in 2009 and 2008Issued - 33,974,250 shares in 2009 and in 2008Outstanding - 31,249,897 shares in 2009 and in 2008


340



340Additional paid-in capital


108,356



107,839Accumulated other comprehensive loss net of taxes


(4,221
)


(6,449
)Retained earnings


118,787



119,921Unearned ESOP shares


(4,696
)


(5,123
)Treasury shares (2,724,353 shares), at cost


(45,261
)


(45,261
)Total shareholders’ equity


173,305



171,267Total liabilities and shareholders’ equity

$
1,927,683



1,885,432








See Accompanying Notes to Consolidated Financial Statements.


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WATERSTONE FINANCIAL, INC AND SUBSIDIARIES


CONSOLIDATED STATEMENTS OF OPERATIONS


(Unaudited)





Six months ended
June 30,


Three months ended
June 30,2009


2008


2009


2008(In thousands, except per share data)Interest income:Loans

$
44,374


$
44,418


$
22,107


$
22,539Mortgage-related securities


3,764



3,740



1,852



1,919Debt securities, cash and cash equivalents


1,666



1,667



855



790Total interest income


49,804



49,825



24,814



25,248Interest expense:Deposits


19,091



21,420



9,354



10,356Borrowings


9,978



10,162



5,007



5,142Total interest expense


29,069



31,582



14,361



15,498Net interest income


20,735



18,243



10,453



9,750Provision for loan losses


10,202



11,276



3,001



8,577Net interest income after provision for loan losses


10,533



6,967



7,452



1,173Noninterest income:Service charges on loans and deposits


571



975



277



439Increase in cash surrender value of life insurance


508



583



292



347Mortgage banking income


3,889



1,979



2,989



1,229Total other-than-temporary impairment losses


(8,555
)


-



(7,648
)


-Portion of loss recognized in other comprehensive income (before taxes)


7,443



-



7,443



-Net impairment losses recognized in earnings


(1,112
)


-



(205
)


-Other


437



442



221



237Total noninterest income


4,293



3,979



3,574



2,252Noninterest expenses:Compensation, payroll taxes, and other employee benefits


8,391



8,294



4,581



4,469Occupancy, office furniture and equipment


2,368



2,419



1,146



1,166Advertising


450



532



228



368Data processing


708



697



343



329Communications


349



344



155



176Professional fees


692



513



350



296Real estate owned


1,209



1,240



389



857Other


2,915



1,616



1,985



992Total noninterest expenses


17,082



15,655



9,177



8,653Income (loss) before income taxes


(2,256
)


(4,709
)


1,849



(5,228
)Income taxes (benefit)


(5
)


(2,782
)


498



(2,692
)Net income (loss)


(2,251
)


(1,927
)


1,351



(2,536
)Earnings (loss) per share:Basic


(0.07
)


(0.06
)


0.04



(0.08
)Diluted


(0.07
)


(0.06
)


0.04



(0.08
)Weighted average shares outstanding:Basic


30,661,074



30,535,674



30,333,527



30,545,141Diluted


30,661,074



30,535,674



30,333,527



30,545,141










See Accompanying Notes to Consolidated Financial Statements.





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 Table of Contents


WATERSONE FINANCIAL, INC AND SUBSIDIARIES


CONSOLIDATED STATEMENTS OF CHANGES IN SHAREHOLDERS’ EQUITY


(Unaudited)





AccumulatedAdditional


Other





UnearnedCommon Stock


Paid-In


Comprehensive


Retained


ESOP


Treasury


Shareholders'Shares


Amount


Capital


Income (Loss)


Earnings


Shares


Shares


Equity(In Thousands)Balances at December 31, 2007


31,251


$
340



106,306



44



146,367



(5,977
)


(45,261
)


201,819Comprehensive income:Net income


—



—



—



—



(1,927
)


—



—



(1,927
)Other comprehensive loss:Net unrealized holding loss onavailable for sale securities arising during the period, net of taxes of $1,250


—



—



—



(2,322
)


—



—



—



(2,322
)Total comprehensive loss






























(4,249
)ESOP shares committed to be released to Plan participants


—



—



42



—



—



426



—



468Stock based compensation


—



—



874



—



—



—



—



874Balances at June 30, 2008


31,251


$
340



107,222



(2,278
)


144,440



(5,551
)


(45,261
)


198,912Balances at December 31, 2008


31,250


$
340



107,839



(6,449
)


119,921



(5,123
)


(45,261
)


171,267Cumulative effect adjustment related to a
change in accounting principle relatedto available for sale securities, net of
taxes of $448














(669
)


1,117











448Comprehensive loss:Net loss


—



—



—



—



(2,251
)


—



—



(2,251
)Other comprehensive income:Net unrealized holding gain onavailable for sale securities arising during the period, net of taxes of $652


—



—



—



2,231



—



—



—



2,231Reclassification of adjustment for net
losses on available for salesecurities realized during the period, net of taxes of $446


—



—



—



666



—



—



—



666Total comprehensive income






























646ESOP shares committed to be released to
Plan participants


—



—



(320
)


—



—



427



—



107Stock based compensation


—



—



837



—



—



—



—



837Balances at June 30, 2009


31,250


$
340



108,356



(4,221
)


118,787



(4,696
)


(45,261
)


173,305


See Accompanying Notes to Consolidated Financial Statements.


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 Table of Contents


WATERSONE FINANCIAL, INC AND SUBSIDIARIES


CONSOLIDATED STATEMENTS OF CASH FLOWS


(Unaudited)








Six months ended June 30,2009


2008(In Thousands)Operating activities:Net loss

$
(2,251
)


(1,927
)Adjustments to reconcile net loss to netcash provided by (used in) operating activities:Provision for loan losses


10,202



11,276Depreciation


1,012



1,260Deferred income taxes


(308
)


(2,210
)Stock based compensation


837



874Net amortization of premium on debt and mortgage-related securities


(109
)


(181
)Amortization of unearned ESOP shares


107



468Gain on sale of loans held for sale


(3,500
)


(1,237
)Loans originated for sale


(367,362
)


(165,464
)Proceeds on sales of loans originated for sale


353,326



177,544(Increase) decrease in accrued interest receivable


108



(654
)Increase in cash surrender value of bank owned life insurance


(508
)


(583
)Increase (decrease) in accrued interest on deposits and borrowings


(1,341
)


1,669Increase (decrease) in other liabilities


5,698



(651
)Loss on impairment of securities


1,112



—Loss (gain) on sale of real estate owned and other assets


(356
)


376Other


(1,114
)


(265
)Net cash provided by (used in) operating activities


(4,447
)


20,295Investing activities:Net decrease (increase) in loans receivable


40,589



(139,213
)Purchases of:Debt securities


(19,349
)


(5,000
)Mortgage-related securities


(13,010
)


(24,529
)Structured notes, held to maturity


—



(4,289
)Premises and equipment, net


(3,480
)


(774
)Bank owned life insurance


(180
)


(5,180
)FHLB stock


—



(2,364
)Proceeds from:Principal repayments on mortgage-related securities


18,011



10,458Maturities of debt securities


5,000



984Calls on structured notes


—



1,998Sales of real estate owned and other assets


8,723



6,193Net cash provided by (used in) investing activities


36,304



(161,716
)








See Accompanying Notes to Consolidated Financial Statements.


- 6 -
 Table of Contents


WATERSTONE FINANCIAL, INC AND SUBSIDIARIES


CONSOLIDATED STATEMENTS OF CASH FLOWS


(Unaudited)








Six months ended June 30,2009


2008(In Thousands)Financing activities:Net increase in deposits


11,545



98,322Net change in short-term borrowings


25,000



(21,188
)Proceeds from long-term borrowings


—



65,000Net increase (decrease) in advance payments by borrowers for taxes


2,620



(2,001
)Net cash provided by financing activities


39,165



140,133Increase in cash and cash equivalents


71,022



(1,288
)Cash and cash equivalents at beginning of period


23,849



17,884Cash and cash equivalents at end of period

$
94,871



16,596Supplemental information:Cash paid or credited during the period for:Income tax payments


1,247



1,283Interest payments


30,410



29,913Noncash investing activities:Loans receivable transferred to real estate owned


28,438



14,517Noncash financing activities:Long-term FHLB advances reclassified to short-term


23,900



—




































































See Accompanying Notes to Consolidated Financial Statements.


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 Table of Contents


WATERSTONE FINANCIAL, INC AND SUBSIDIARIES


NOTES TO CONSOLIDATED FINANCIAL STATEMENTS





Note 1 — Basis of Presentation





The consolidated financial statements include the accounts of Waterstone Financial, Inc. (the “Company”) and the Company’s subsidiaries.





The accompanying unaudited consolidated financial statements have been prepared in accordance with generally accepted accounting principles for interim financial information, Rule 10-01 of Regulation S-X and the instructions to Form 10-Q. The financial statements do not include all of the information and footnotes required by
generally accepted accounting principles for complete financial statements. In the opinion of management, the accompanying unaudited consolidated financial statements contain all adjustments (consisting of normal recurring accruals) necessary to present fairly the financial position, results of operations, changes in shareholders’ equity, and cash flows of the Company for the periods presented.





The accompanying unaudited consolidated financial statements and related notes should be read in conjunction with the Company’s December 31, 2008 Annual Report on Form 10-K. Operating results for the six months ended June 30, 2009, are not necessarily indicative of the results that may be expected for the year ending December 31,
2009.





The preparation of the unaudited consolidated financial statements requires management of the Company to make a number of estimates and assumptions relating to the reported amount of assets and liabilities and the disclosure of contingent assets and liabilities at the date of the consolidated financial statements and the reported amounts
of revenues and expenses during the period.  Significant items subject to such estimates and assumptions include the allowance for loan losses and deferred income taxes.  Actual results could differ from those estimates.  Subsequent events have been evaluated through the issuance of the unaudited consolidated financial statements which is August 6, 2009.








Note 2 — Reclassifications





Certain items in the prior period consolidated financial statements have been reclassified to conform to the June 30, 2009 presentation.


- 8 -
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Note 3 — Securities





Securities Available for Sale





The amortized cost and fair values of the Company’s investment in securities available for sale follow:







June 30, 2009(In Thousands)Gross


GrossAmortized


unrealized


unrealizedcost


gains


losses


Fair valueMortgage-backed securities

$
46,039



1,450



(2
)


47,487Collateralized mortgage obligations


87,714



1,714



(8,367
)


81,061Mortgage-related securities


133,753



3,164



(8,369
)


128,548Government sponsored entity bonds


18,003



219



(19
)


18,203Municipal securities


39,046



326



(1,882
)


37,490Corporate notes


1,998



—



(12
)


1,986Other debt securities


5,250



—



(470
)


4,780Debt securities


64,297



545



(2,383
)


62,459$
198,050



3,709



(10,752
)


191,007










December 31, 2008(In Thousands)Gross


GrossAmortized


unrealized


unrealizedcost


gains


losses


Fair valueMortgage-backed securities

$
38,966



1,133



(14
)


40,085Collateralized mortgage obligations


100,896



1,068



(10,507
)


91,457Mortgage-related securities


139,862



2,201



(10,521
)


131,542Government sponsored entity bonds


11,007



335



—



11,342Municipal securities


32,697



291



(1,626
)


31,362Corporate notes


992



—



(51
)


941Other debt securities


5,250



—



(550
)


4,700Debt securities


49,946



626



(2,227
)


48,345$
189,808



2,827



(12,748
)


179,887










- 9 -
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At June 30, 2009, $10.2 million of the Company’s government sponsored entity bonds and $92.0 million of the Company’s mortgage related securities were pledged as collateral to secure repurchase agreement obligations of the Company.




The amortized cost and fair values of investment securities by contractual maturity at June 30, 2009, are shown below. Actual maturities may differ from contractual maturities because issuers have the right to call or prepay obligations with or without call or prepayment penalties.







Amortized


FairCost


Value(In Thousands)Debt securitiesDue within one year

$
7,500



7,515Due after one year through five years


21,390



21,213Due after five years through ten years


10,084



10,208Due after ten years


25,323



23,523Mortgage-related securities


133,753



128,548$
198,050



191,007








Gross unrealized losses on securities available for sale and the fair value of the related securities, aggregated by investment category and length of time that individual securities have been in a continuous unrealized loss position were as follows:








June 30, 2009Less than 12 months


12 months or longer


TotalFair


Unrealized


Fair


Unrealized


Fair


Unrealizedvalue


loss


value


loss


value


loss(In Thousands)Mortgage backed securites


1,769



(2
)


—



—



1,769



(2
)Collateralized mortgage obligations


876



(5
)


29,598



(8,362
)


30,474



(8,367
)Government sponsored entity bonds


4,478



(19
)


—



—



4,478



(19
)Municipal securities


4,979



(286
)


16,613



(1,596
)


21,592



(1,882
)Corporate notes


1,986



(12
)


—



—



1,986



(12
)Other debt securities


4,530



(470
)


—



—



4,530



(470
)$
18,618



(794
)


46,211



(9,958
)


64,829



(10,752
)





In the first quarter of 2009, the Company elected to adopt Financial Accounting Standards Board (FASB) Staff Position Nos. 115-2 and 124-2 Recognition and Presentation of Other-Than-Temporary Impairments, 157-4 Determining Fair Value
When the Volume and Level of Activity for the Asset or Liability Have Significantly Decreased and Identifying Transactions That Are Not Orderly and 107-1 and APB 28-1, Interim Disclosures about Fair Value of Financial Instruments.  In evaluating whether a credit loss exists for a given debt security, management considers the length of time and extent to which the fair value has been less than cost, financial condition of the issuer and
the underlying obligors, quality of credit enhancements, volatility of the fair value of the security, the expected recovery period of the security, payment structure of the security and ratings agency evaluations.




- 10 -
 Table of Contents





At June 30, 2009, this evaluation indicated that collateralized mortgage obligations with a combined carrying value of $22.4 million and municipal securities with a combined carrying value of $2.0 million may be other-than-temporarily impaired.  Estimates of discounted cash flows based on expected yield at time of original purchase,
prepayment assumptions based on actual and anticipated prepayment speed, actual and anticipated default rates and estimated level of severity given the loan to value ratios, credit scores, geographic locations, vintage and levels of subordination related to the security and its underlying collateral resulted in a projected credit loss on two collateralized mortgage obligations.  Both of these securities had been deemed other-than-temporarily impaired in prior periods and a cumulative-effect adjustment
of $1.1 million was made to retained earnings as of January 1, 2009 to reflect the difference between the present value of cash flows expected to be collected and the amortized cost basis as of the beginning of the period in which the aforementioned FASB Staff Positions were adopted.  Additional estimated credit losses on the two collateralized mortgage obligations of $205,000 and $1.1 million were charged to earnings in the three- and six-month periods ended June 30, 2009, respectively.  These
two securities had a fair value of $3.4 million and $11.6 million and an amortized cost of $5.4 million and $17.1 million, respectively as of June 30, 2009.  As of June 30, 2009, unrealized losses on collateralized mortgage obligations include other-than-temporary impairment recognized in other comprehensive income (before taxes) of $7.4 million.




The following table presents the change in other-than-temporary credit related impairment charges on collateralized mortgage obligations for which a portion of the other-than-temporary impairments related to other factors was recognized in other comprehensive loss.









(in thousands)Credit related impairments on securties as of December 31, 2008

$
755Credit related impairments not previously recognized


1,112Credit related impairments on securities as of June 30, 2009

$
1,867







Exclusive of the two aforementioned collateralized mortgage obligations, the Company has determined that the decline in fair value of the remaining securities is not attributable to credit deterioration, and as the Company does not intend to sell nor is it more likely than not that it will be required to sell these securities before recovery
of the amortized cost basis, these securities are not considered other-than-temporarily impaired.




Continued deterioration of general economic market conditions could result in the recognition of future other than temporary impairment losses within the investment portfolio and such amounts could be material to our consolidated financial statements.




Securities Held to Maturity




As of June 30, 2009, the Company held three securities that have been designated as held to maturity.  The securities have a total amortized cost of $9.9 million and an estimated fair value of $8.0 million.  Each security is callable quarterly.  Two of the securities have a final maturity in 2022 and the remaining
security has a final maturity in 2023.  A significant portion of the difference between fair value and amortized cost with respect to this portfolio relates to one structured note with an amortized cost of $2.6 million and a fair value of $1.2 million.  Due to the magnitude of the difference between fair value and amortized cost and considering additional factors as previously described, the Company assessed whether this security is other-than-temporarily impaired.  Based primarily
on the ongoing financial support of the company that issued the security by the United States government, the Company has determined that the security is not other-than-temporarily impaired at June 30, 2009.




- 11 -
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Note 4 — Loans Receivable





Loans receivable are summarized as follows:









June 30,


December 31,2009


2008(In Thousands)Mortgage loans:Residential real estate:One- to four-family

$
751,009



790,486Over four-family residential


514,416



512,746Commercial real estate


51,846



55,193Construction and land


87,900



131,840Home equity


87,804



89,648Consumer loans


649



365Commercial business loans


45,069



43,006Gross loans receivable


1,538,693



1,623,284Less:Undisbursed loan proceeds


55,626



61,192Unearned loan fees


2,067



2,334Total loans receivable, net

$
1,481,000



1,559,758










The Company provides several types of loans to its customers, including residential, construction, commercial and consumer loans.  The Company does not have a concentration of loans in any specific industry.  Credit risks tend to be geographically concentrated in that a majority of the Company’s customer base lies
in the Milwaukee metropolitan area.  Furthermore, as of June 30, 2009, 86.8% of the Company’s loan portfolio involves loans that are secured by real estate properties located primarily within the Milwaukee metropolitan area.  Residential real estate collateralizing $157.3 million or 10.2% of total mortgage loans is located outside of the state of Wisconsin.





The unpaid principal balance of loans serviced for others was $4.8 million and $4.9 million at June 30, 2009 and December 31, 2008, respectively. These loans are not reflected in the consolidated financial statements.







- 12 -
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A summary of the activity in the allowance for loan loss is as follows:








For the Six Months EndedJune 30,2009


2008(Dollars in Thousands)Balance at beginning of period

$
25,167



12,839Provision for loan losses


10,202



11,276Charge-offs


(9,843
)


(4,709
)Recoveries


112



205Balance at end of period

$
25,638



19,611Allowance for loan losses to loans receivable


1.73
%


1.29
%Net charge-offs to average loans outstanding (annualized)


1.26
%


0.62
%Allowance for loan losses to non-performing loans


26.63
%


21.37
%Non-performing loans to loans receivable


6.50
%


6.03
%








Non-accrual loans totaled $96.3 million at June 30, 2009 and $107.7 million at December 31, 2008.





During 2007 and into 2008, the Company experienced significant deterioration in credit quality, primarily in its residential and construction and land portfolios.  These two segments represent a significant portion of the overall loan portfolio.  The downturn in the residential real estate market that has continued into
2009 has reduced demand and market prices for vacant land, new construction and existing residential units.  The economic downturn and the depressed real estate market have negatively impacted many residential real estate customers and have resulted in the elevated level of nonperforming loans.




The following table presents data on impaired loans at June 30, 2009 and December 31, 2008.








June 30,


December 31,2009


2008(In Thousands)Impaired loans for which an allowance has been provided

$
46,286



41,970Impaired loans for which no allowance has been provided


72,097



56,382Total loans determined to be impaired

$
118,383



98,352Allowance for loan losses related to all impaired loans

$
7,629



9,832







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Determination as to whether an allowance is required with respect to impaired loans is based upon an analysis of the value of the underlying collateral.  The valuation process is subject to the use of significant estimates and actual results could differ from estimates.  This analysis is primarily based upon third party appraisals, or a discounted cash flow analysis in the case of an income producing property.  In
those cases in which no allowance has been provided for an impaired loan, the Company has determined that the estimated value of the underlying collateral exceeds the remaining outstanding balance of the loan.  Of the total $72.1 million of impaired loans for which no allowance has been provided, $30.9 million represent loans on which a total of $10.4 million in charge-offs have been recorded to reduce the outstanding loans balance to an amount that is commensurate with the estimated net realizable
value of the underlying collateral.  To the extent that further deterioration in property values continues, the Company may have to reevaluate the sufficiency of the collateral servicing these impaired loans resulting in additional provisions to the allowance for loans losses or charge-offs.




As of June 30, 2009 and December 31, 2008, troubled debt restructurings totaled $21.5 million and $2.4 million, respectively.  All but five of these loans totaling $3.2 million are performing in accordance with the terms of the restructuring as of June 30, 2009.




The Company serves the credit needs of its customers by offering a wide variety of loan programs to customers, primarily in Wisconsin. The loan portfolio is widely diversified by types of borrowers, property type, and market areas. Significant loan concentrations are considered to exist for a financial institution when there are amounts
loaned to one borrower or to multiple borrowers engaged in similar activities that would cause them to be similarly impacted by economic or other conditions. At June 30, 2009 and 2008, no loans to one borrower or industry concentrations existed in the Company’s loan portfolio in excess of 10% of total loans.








Note 5 — Deposits





A summary of the contractual maturities of certificate accounts at June 30, 2009 is as follows:














(In Thousands)Within one year

$
902,445One to two years


129,787Two to three years


15,840Three to four years


9,886Four through five years


3,421$
1,061,379







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Note 6 — Borrowings




Borrowings consist of the following:









June 30, 2009


December 31, 2008Weighted





WeightedAverage





AverageBalance


Rate


Balance


Rate(Dollars in Thousands)Federal Home Loan Bank Chicago (FHLBC) advances maturing:2009

$
4,100



4.23
%


4,100



4.23
%2010


73,900



3.61
%


48,900



4.80
%2016


220,000



4.34
%


220,000



4.34
%2017


65,000



3.19
%


65,000



3.19
%2018


65,000



2.97
%


65,000



2.97
%Repurchase agreements maturing
2017


84,000



3.96
%


84,000



3.96
%$
512,000



3.85
%


487,000



3.99
%












The $73.9 million in advances due in 2010 consist of five advances with rates ranging from 1.29% to 4.94% callable quarterly until maturity.




The $220 million in advances due in 2016 consist of eight advances with rates ranging from 4.01% to 4.82% callable quarterly until maturity.




The $65 million in advances due in 2017 consist of three advances with rates ranging from 3.09% to 3.46% callable quarterly until maturity.




The $65 million in advances due in 2018 consist of three callable advances.  The call features are as follows: two $25 million advances at a weighted average rate of 3.04% callable beginning in May 2010 and quarterly thereafter and a $15 million advance at a rate of 2.73% callable quarterly until maturity.




The $84 million in repurchase agreements have rates ranging from 2.89% to 4.31% callable quarterly until maturity.




The Company selects loans that meet underwriting criteria established by the FHLBC as collateral for outstanding advances.  The Company’s FHLBC borrowings are limited to 60% of the carrying value of qualifying, unencumbered one- to four-family mortgage loans, 25% of the carrying value of home equity loans and 60% of the carrying
value of over four-family loans.  In addition, these advances are collateralized by FHLBC stock of $21.7 million at June 30, 2009 and December 31, 2008.




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Note 7 – Income Taxes




We recorded an income tax benefit of $5,000 for the six months ended June 30, 2009.  This total was comprised of a $503,000 benefit recorded in the first quarter of 2009 offset by a $498,000 expense recorded in the second quarter of 2009.  The $503,000 benefit was the result of a Wisconsin state tax law change (retroactive
to January 1, 2009) related to the net unrealized loss on securities available for sale owned by the Company’s Nevada subsidiary.  The $498,000 federal tax expense recorded in the second quarter of 2009 was the result of an increase in the deferred tax asset valuation allowance due to the second quarter filing of the 2008 federal return.  During the first six months of 2008, we recorded an income tax benefit of $2.8 million.  During this period, the Company recognized future
benefits related to deferred tax assets including state net operating loss carry forwards.





Under generally accepted accounting principles, a valuation allowance is required to be recognized if it is “more likely than not” that a deferred tax asset will not be realized. The determination of the realizability of the deferred tax assets is highly subjective and dependent upon judgment concerning management's evaluation
of both positive and negative evidence, the forecasts of future income, applicable tax planning strategies, and assessments of current and future economic and business conditions. Positive evidence includes the existence of taxes paid in available carry back years as well as the probability that taxable income will be generated in future periods, while negative evidence includes the cumulative losses in the current year and prior two years and general business and economic trends. At June 30, 2009 and December
31, 2008, the Company determined that valuation allowances of $14.1 million and $13.5 million, respectively were necessary, largely based on the evidence represented by a cumulative loss in the most recent three-year period caused by the significant loan loss provisions recorded during 2009 and 2008. In addition, general uncertainty surrounding future economic and business conditions have increased the potential volatility and uncertainty of projected earnings. Management is required to re-evaluate the deferred
tax asset and the related valuation allowance quarterly.












Note 8 – Financial Instruments with Off-Balance Sheet Risk







Off-balance sheet financial instruments or obligations whose contract amounts represent credit and/or interest rate risk are as follows:









June 30,


December 31,2009


2008(In Thousands)Financial instruments whose contract amounts representpotential credit risk:Commitments to extend credit under first mortgage loans

$
13,668



15,340Unused portion of home equity lines of credit


29,616



30,368Unused portion of construction loans


15,405



20,241Unused portion of business lines of credit


10,604



10,584Standby letters of credit


1,866



1,866







In connection with its mortgage banking activities, the Company enters into forward loan sale commitments.  Forward commitments to sell mortgage loans represent commitments obtained by the Company from a secondary market agency to purchase mortgages from the Company at specified interest rates and within specified periods of time.  Commitments
to sell loans are made to mitigate interest rate risk on commitments to originate loans and loans held for sale.  As of June 30, 2009 and December 31, 2008, the Company had $30.5 million and $13.0 million, respectively in forward loan sale commitments.  A forward sale commitment is a derivative instrument under Statement of Financial Accounting Standards No. 133 (“SFAS No. 133”), “Accounting for Derivative Instruments and Hedging Activities,”(as amended),
which must be recognized at fair value on the consolidated balance sheet in other assets and other liabilities with changes in its value recorded in income from mortgage banking operations.  In determining the fair value of its derivative loan commitments for economic purposes, the Company considers the value that would be generated when the loan arising from exercise of the loan commitment is sold in the secondary mortgage market. That value includes the price that the loan is expected to be sold for
in the secondary mortgage market.





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Note 9 – Earnings (loss) per share





Earnings per share is computed using the two-class method.  Basic earnings per share is computed by dividing net income allocated to common shares by the weighted average number of common shares outstanding during the applicable period excluding outstanding participating securities.  Participating securities include unvested
restricted shares.  Unvested restricted shares are considered participating securities because holders of these securities have the right to receive non-forfeitable dividends at the same rate as holders of the Company's common stock.  Diluted earnings is computed by dividing net income (loss) by the weighted average number of common shares outstanding adjusted for the dilutive effect of all potential common shares.  Unvested restricted stock is considered outstanding for dilutive earnings
(loss) per share only.  Unvested restricted stock and stock options totaling 149,900 and 462,000, respectively for the six and three month periods ended June 30, 2009 and 201,200 and 626,000, respectively for the six and three month periods ended June 30, 2008 are antidilutive and are excluded from the earnings (loss) per share calculation.




Presented below are the calculations for basic and diluted earnings (loss) per share:







Six Months Ended


Three Months EndedJune 30,


June 30,2009


2008


2009


2008(In Thousands, except per share data)Net income (loss) available tocommon stockholders

$
(2,251
)


(1,927
)

$
1,345



(2,536
)Weighted average shares outstanding


30,661



30,536



30,334



30,545Effect of dilutive potential common shares


-



-



-



-Diluted weighted average shares outstanding


30,661



30,536



30,334



30,545Basic earnings (loss) per share

$
(0.07
)


(0.06
)

$
0.04



(0.08
)Diluted earnings (loss) per share

$
(0.07
)


(0.06
)

$
0.04



(0.08
)








Note 10 – Fair Value Measurements





The Company uses fair value measurements to record fair value adjustments to certain assets and to determine fair value disclosures.  Securities available for sale and loans held for sale are recorded at fair value on a recurring basis.  Additionally, from time to time, we may be required to record at fair value other
assets on a nonrecurring basis, such as portfolio loans and real estate owned.  These nonrecurring fair value adjustments typically result from the write-downs of individual assets.





Effective January 1, 2009, under guidance set forth in FAS 159, The Fair Value Option for Financial assets and Financial Liabilities (FAS 159), the Company elected to measure loans held for sale at fair value prospectively for new loans held for sale originations.  We believe
that the election for loans held for sale will reduce timing differences and better match changes in the value of these assets with the changes in the value of forward commitments to sell mortgage loans which are used as economic hedges for these assets.





Presented below is information about assets recorded on our consolidated statement of financial position at fair value on a recurring basis and assets recorded in our consolidated statement of financial position on a nonrecurring basis.




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Assets and Liabilities Recorded at Fair Value on a Recurring Basis





The following table presents information about our assets recorded in our consolidated statement of financial position at their fair value on a recurring basis as of June 30, 2009, and indicates the fair value hierarchy of the valuation techniques utilized to determine such fair value.  In general, fair values determined by Level
1 inputs use quoted prices in active markets for identical assets or liabilities that we have the ability to access.  Fair values determined by Level 2 inputs use inputs other than quoted prices included in Level 1 inputs that are observable for the asset or liability, either directly or indirectly.  Level 2 inputs include quoted prices for similar assets and liabilities in active markets, quoted prices for identical or similar assets or liabilities in markets where there are few transactions
and inputs other than quoted prices that are observable for the asset or liability, such as interest rates and yield curves that are observable at commonly quoted intervals.  Level 3 inputs are unobservable inputs for the asset or liability and include situations where there is little, if any, market activity for the asset or liability.











Assets
Measured at
Fair Value at
June 30, 2009


Quoted Prices in
Active Markets
for Identical
Assets
(Level 1)


Significant
Other
Observable
Inputs
(Level 2)


Significant
Unobservable
Inputs
(Level 3)(In Thousands)Available for sale securities

$
191,007



-



176,025



14,982











The following summarizes the valuation techniques for assets recorded in our consolidated statements of financial condition at their fair value on a recurring basis:





Available for sale securities –The fair value of available-for-sale securities is determined by a third party valuation source using observable market data utilizing a matrix or multi-dimensional relational pricing model.  Standard inputs to these models include observable
market data such as benchmark yields, reported trades, broker quotes, issuer spreads, benchmark securities and bid/offer market data.  For securities with an early redemption feature, an option adjusted spread model is utilized to adjust the issuer spread.  Prepayment models are used for mortgage related securities with prepayment features.





The table below presents reconciliation for all assets measured at fair value on a recurring basis using significant unobservable inputs (Level 3) during 2009.








Available-for-sale securties(In Thousands)Balance December 31, 2008

$
4,242Transfer into level 3


9,870Unrealized holding losses arising during the period:Included in other comprehensive loss


1,127Other than temporary impairment included in net loss


(1,112
)Principal repayments


(267
)Net accretion of discount/amortization of premium


5Cumulative-effect adjustment


1,117Balance June 30, 2009

$
14,982








Level 3 available-for-sale securities include two corporate collateralized mortgage obligations.  The market for these securities was not active as of June 30, 2009.  As such, following the guidance set forth in FASB Staff Position 157-4Determining
Fair Value When the Volume and Level of Activity for the Asset or Liability Have Significantly Decreased and Identifying Transactions That Are Not Orderly the Company valued these securities based on the present value of estimated future cash flows





Loans held for sale – Under FAS 159, the Company elected to carry our loans held for sale at fair value.  Fair value is generally determined by estimating a gross premium or discount, which is derived from pricing currently observable in the market.  At June
30, 2009, loans held-for-sale totaled $30.5 million.  Loans held-for-sale are considered to be Level 2 in the fair value hierarchy of valuation techniques.








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Assets Recorded at Fair Value on a Non-recurring Basis





Loans –On a non-recurring basis, loans determined to be impaired are analyzed to determine whether a collateral shortfall exists, and if such a shortfall exists, are recorded in our consolidated statements of financial condition at fair value.  Fair value is determined
based on third party appraisals.  At June 30, 2009, loans determined to be impaired with an outstanding balance of $46.3 million were carried net of specific reserves of $7.6 million for a fair value of $38.7 million.  Impaired loans are considered to be Level 2 in the fair value hierarchy of valuation techniques.








Real estate owned –On a non-recurring basis, real estate owned, is recorded in our consolidated statements of financial condition at the lower of cost or fair value.  Fair value is determined based on third party appraisals obtained at the time the Company takes title
to the property and, if less than the carrying value of the loan, the carrying value of the loan is adjusted to the fair value.At June 30, 2009, real estate owned totaled $45.0 million.  Real estate owned is considered to be Level 2 in the fair value hierarchy of valuation techniques.





The carrying amounts and fair values of the Company’s financial instruments consist of the following at June 30, 2009 and December 31, 2008:









June 30, 2009


December 31, 2008Carrying


Fair


Carrying


Fairamount


value


amount


value(In Thousands)Financial AssetsCash and cash equivalents

$
94,871



94,871



23,849



23,849Securities available-for-sale


191,007



191,007



179,887



179,887Securities held-to-maturity


9,938



8,049



9,938



8,165Loans held for sale


30,530



30,530



12,993



12,993Loans receivable


1,481,000



1,495,507



1,559,758



1,553,577FHLB stock


21,653



21,653



21,653



21,653Cash surrender value of life insurance


33,087



33,087



32,399



32,399Accrued interest receivable


4,213



4,213



4,323



4,323Financial LiabilitiesDeposits


1,207,442



1,213,402



1,195,897



1,202,939Advance payments byborrowers for taxes


15,415



15,415



862



862Borrowings


512,000



511,192



487,000



501,858Accrued interest payable


4,197



4,197



5,539



5,539Obligations under capital leases


-



-



3,308



3,308Other Financial InstrumentsStand-by letters of credit


7



7



12



12







The following methods and assumptions were used by the Company in determining its fair value disclosures for financial instruments.




a)      Cash and Cash Equivalents




The carrying amounts reported in the consolidated statements of financial condition for cash and cash equivalents approximate those assets’ fair values.




b)      Securities




Fair values for securities are based on quoted market prices of these or comparable instruments or valuation techniques previously discussed.




c)      Loans Held for Sale




Fair value is estimated using the prices of the Company’s existing commitments to sell such loans and/or the quoted market price for commitments to sell similar loans.




d)      Loans Receivable




Fair values for loans receivable are based upon third party appraisals or are estimated using a discounted cash flow calculation that applies current interest rates to estimated future cash flows of the loans receivable.  Fair values for loans deemed to be impaired are determined as previously discussed.




e)      FHLB Stock




For FHLB stock, the carrying amount is the amount at which shares can be redeemed with the FHLB and is a reasonable estimate of fair value.




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f)      Cash Surrender Value of Life Insurance




The carrying amounts reported in the consolidated statements of financial condition for the cash surrender value of life insurance approximate those assets’ fair values.




g)       Deposits and Advance Payments by Borrowers for Taxes




The fair values for interest-bearing and noninterest-bearing negotiable order of withdrawal accounts, savings accounts, and money market accounts are, by definition, equal to the amount payable on demand at the reporting date (i.e., their carrying amounts). The fair values for fixed-rate certificates of deposit are estimated using a discounted
cash flow calculation that applies interest rates currently being offered on certificates of similar remaining maturities to a schedule of aggregated expected monthly maturities of the outstanding certificates of deposit. The advance payments by borrowers for taxes are equal to their carrying amounts at the reporting date.




h)      Borrowings




Fair values for borrowings are estimated using a discounted cash flow calculation that applies current interest rates to estimated future cash flows of the borrowings.




i)      Accrued Interest Payable and Accrued Interest Receivable




For accrued interest payable and accrued interest receivable, the carrying amount is a reasonable estimate of fair value due to their short-term nature.




j)      Obligations under Capital Leases




The fair value of obligations under capital leases is determined using a present value of future minimum lease payments discounted at the current interest rate at the time of lease inception.  The Company executed a purchase option on its capital lease during the first quarter of 2009.




k)      Standby Letters of Credit




Commitments to extend credit and standby letters of credit are generally not marketable. Furthermore, interest rates on any amounts drawn under such commitments would be generally established at market rates at the time of the draw. Fair values for the Company’s commitments to extend credit and standby letters of credit are based
on fees currently charged to enter into similar agreements, taking into account the remaining terms of the agreements, the counterparty’s credit standing, and discounted cash flow analyses.







Note 11 – Recent Accounting Developments





The Company has adopted Financial Accounting Standards Board (“FASB”) Staff Position 157-2, “Effective Date of FASB Statement No. 157” (“FSP 157-2”), issued February 2008. FSP 157-2 delayed the effective date of FAS 157 for non-financial assets and non-financial liabilities until January 1, 2009.
The provisions of FAS 157 for non-financial assets and non-financial liabilities were applied as of January 1, 2009, which had no effect on the Company’s financial position, results of operation or liquidity.





In February 2007, the FASB issued SFAS No. 159, The Fair Value Option for Financial Assets and Liabilities. The statement allows an entity to elect to measure certain financial assets and liabilities at fair value with changes in fair value recognized in the income statement
each period. The statement also requires additional disclosures to identify the effects of an entity’s fair value election on its earnings.  The Company adopted SFAS 159, when required, on January 1, 2008 and the adoption did not have a material impact on financial position, results of operation or liquidity.  On January 1, 2009 the Company elected to measure loans held for sale at fair value prospectively for new loans held for sale originations.  This election did not have
a material impact on the Company’s financial position, results of operation or liquidity.





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In May 2009, the FASB issued SFAS No. 165, Subsequent Events.  The objective of the statement is to establish general standards of accounting for and disclosure of events that occur after the balance sheet date, but before financial statements are issued or are available to
be issued.  The Company adopted SFAS 168, when required, in conjunction with the first interim period ending after June 15, 2009 and the adoption did not have an impact on financial position, results of operation or liquidity.





In June 2008, the FASB issued FASB Staff Position EITF 03-6-1 Determining Whether Instruments Granted in Share-Based Payments Transactions Are Participating Securities.The FSP addresses whether instruments granted in share-based payment transactions are participating securities
prior to vesting and, therefore, need to be included in the earnings allocation in computing earnings per share under the two-class method described in FASB Statement No. 128, Earnings per Share.  All prior period earnings per share data presented is to be adjusted retrospectively to conform to the provisions of this FSP.  The Company adopted EITF 03-6-1, when required, on January 1, 2009 and the adoption did not have a material impact.




In April 2009, the FASB issued FASB Staff Position FAS 157-4, “Determining Fair Value When the Volume and Level of Activity for the Asset or Liability Have Significantly Decreased and Identifying Transactions That Are Not Orderly” (“FSP 157-4”). FSP 157-4 indicates that if an entity determines that either the volume
and/or level of activity for an asset or liability has significantly decreased (from normal conditions for that asset or liability) or price quotations or observable inputs are not associated with orderly transactions, increased analysis and management judgment will be required to estimate fair value. FSP 157-4 is effective for interim and annual periods ending after June 15, 2009, with early adoption permitted. FSP 157-4 must be applied prospectively. The Company elected to adopt FSP 157-4 in the first
quarter of 2009. The adoption of FSP 157-4 had no material impact on the Company’s financial position, results of operation or liquidity.




In April 2009, the FASB issued FASB Staff Position FAS 107-1 and APB 28-1, “Interim Disclosures about Fair Value of Financial Instruments” (“FSP 107-1”). FSP 107-1 relates to fair value disclosures in public entity financial statements for financial instruments that are within the scope of Statement of Financial Accounting
Standards No. 107, “Disclosures about Fair Value of Financial Instruments” (“SFAS 107”). This guidance increases the frequency of those disclosures, requiring public entities to provide the disclosures on a quarterly basis (rather than just annually). The quarterly disclosures are intended to provide financial statement users with more timely information about the effects of current market conditions on an entity’s financial instruments that are not otherwise reported at fair
value. FSP 107-1 is effective for interim and annual periods ending after June 15, 2009. FSP 107-1 must be applied prospectively. The Company elected to adopt FSP 107-1 and APB 28-1 in the first quarter of 2009.  The adoption of FSP 107-1 and APB 28-1 had no material impact on the Company’s financial position, results of operation or liquidity.




In April 2009, the FASB issued FASB Staff Position FAS 115-2 and FAS 124-2, “Recognition and Presentation of Other-Than-Temporary Impairments” (“FSP 115-2 and FSP 124-2”). FSP 115-2 and FSP 124-2 collectively establish a new method of recognizing and reporting other-than-temporary impairments of debt securities. FSP
115-2 and FSP 124-2 also contain additional disclosure requirements related to debt and equity securities. FSP 115-2 and FSP 124-2 change existing impairment guidance under Statement of Financial Accounting Standards No. 115, “Accounting for Certain Investments in Debt and Equity Securities”(“SFAS 115”). For debt securities, the “ability and intent to hold” provision is eliminated, and impairment is considered to
be other-than-temporary if an entity (i) intends to sell the security, (ii) more likely than not will be required to sell the security before recovering its cost, or (iii) does not expect to recover the security’s entire amortized cost basis (even if the entity does not intend to sell). This new framework does not apply to equity securities (i.e., impaired equity securities will continue to be evaluated under previously existing guidance).The
“probability” standard relating to the collectability of cash flows is eliminated, and impairment is now considered to be other-than-temporary if the present value of cash flows expected to be collected from the debt security is less than the amortized cost basis of the security. FSP 115-2 and FSP 124-2 also provide that for debt securities which (i) an entity does not intend to sell and (ii) it is not more likely than not that the entity will be required to sell before the anticipated recovery of
its remaining amortized cost basis, the impairment is separated into the amount related to estimated credit losses and the amount related to all other factors. The amount of the total impairment related to all other factors is recorded in other comprehensive loss and the amount related to estimated credit loss is recognized as a charge against current period earnings. FSP 115-2 and FSP 124-2 are effective for interim and annual periods ending after June 15, 2009, with early adoption permitted. The Company elected
to adopt FSP 115-2 and FSP 124-2 in the first quarter of 2009. See further discussion in Note 3 on the impact of adoption.




















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Item 2.  Management’s Discussion and Analysis of Financial Condition and Results of Operations





Cautionary Statements Regarding Forward-Looking Information





This report contains or incorporates by reference various forward-looking statements concerning the Company’s prospects that are based on the current expectations and beliefs of management.  Forward-looking statements may also be made by the Company from time to time in other reports and documents as well as in oral presentations.  When
used in written documents or oral statements, the words “anticipate,” “believe,” “estimate,” “expect,” “objective” and similar expressions and verbs in the future tense, are intended to identify forward-looking statements.  The statements contained herein and such future statements involve or may involve certain assumptions, risks and uncertainties, many of which are beyond the Company’s control, that could cause the Company’s actual
results and performance to differ materially from what is expected.  In addition to the assumptions and other factors referenced specifically in connection with such statements, the following factors could impact the business and financial prospects of the Company:





·
adverse changes in the real estate markets;


·
adverse changes in the securities markets;


·
general economic conditions, either nationally or in our market areas, that are worse than expected;


·
inflation and changes in the interest rate environment that reduce our margins or reduce the fair value of financial instruments;


·
legislative or regulatory changes that adversely affect our business;


·
our ability to enter new markets successfully and take advantage of growth opportunities;


·
significantly increased competition among depository and other financial institutions;


·
changes in accounting policies and practices, as may be adopted by the bank regulatory agencies and the Financial Accounting Standards Board; and


·
changes in consumer spending, borrowing and savings habits.





See also the factors referred to in reports filed by the Company with the Securities and Exchange Commission (particularly those under the caption “Risk Factors” in Item 1A of the Company’s 2008 Annual Report on Form 10-K).





Overview





Generally, our results of operations are highly dependent on our net interest income and the provision for loan losses.  In recent periods our results of operations have also been impacted by the conclusion that a portion of our securities portfolio has experienced an other than temporary impairment.  Net interest income
is the difference between the interest income we earn on loans receivable, investment securities and cash and cash equivalents and the interest we pay on deposits and other borrowings.  The Company’s banking subsidiary, WaterStone Bank SSB (“WaterStone Bank”), formerly Wauwatosa Savings Bank, is primarily a mortgage lender with such loans comprising 97.0% of total loans receivable on June 30, 2009.  Further, 82.2% of loans receivable are residential mortgage loans with over
four-family loans comprising 33.4% of all loans on June 30, 2009.  WaterStone Bank funds loan production primarily with retail deposits and Federal Home Loan Bank advances.  On June 30, 2009, deposits comprised 68.8% of total liabilities.  Time deposits, also known as certificates of deposit, accounted for 87.9% of total deposits at June 30, 2009.  Federal Home Loan Bank advances outstanding on June 30, 2009 totaled $512.0 million, or 29.2% of total liabilities.  During
this period of low interest rates and economic weakness, we have determined that an investment philosophy emphasizing short-term liquid investments is prudent and will position the Company to take advantage of the opportunities that will exist as the local and national economies recover from the recession.




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During the six and three month periods ended June 30, 2009, our results of operations continued to be adversely affected by elevated levels of  nonperforming  loans and real estate owned and corresponding provision for loan losses and loan charge-offs.  We have sought to address the impact of the real estate
market by increasing our provisions for loan losses over the past two years.  The continued downturn in the local real estate market prompted the Company to reevaluate the assumptions used to determine the fair value of collateral related to loans receivable to ensure that the allowance for loan losses continued to be an accurate reflection of management’s best estimate of the amount needed to provide for the probable loss on impaired loans and other inherent losses in the loan portfolio.  As
a result, the Company determined that a provision for loan losses of $10.2 million was necessary during the six months ended June 30, 2009 in order to maintain the allowance for loan losses to an appropriate level.  Additional information regarding loan quality and its impact on our financial condition and results of operations can be found in the Asset Quality discussion.  Our results of operations are also affected by noninterest income and noninterest expense.  Noninterest income
consists primarily of mortgage banking fee income and service charges.  A significant increase in the sale of mortgage loans on the secondary market, resulting from a decline in mortgage interest rates during the period, yielded a $1.9 million increase in mortgage banking income during the six months ended June 30, 2009 compared to the six months ended June 30, 2008.  The increase in mortgage banking activity during the six month period ended June 30, 2009 was partially offset by a $1.1 million
impairment charge of securities considered to be other than temporarily impaired.  Noninterest expense consists primarily of compensation and employee benefits, FDIC insurance premiums, occupancy expenses and real estate owned expense.  In 2009 our noninterest expense has been and will continue to be affected by higher deposit insurance premium assessments from the FDIC.  FDIC insurance premium expense, which includes a $875,000 special assessment during the six months ended June
30, 2009, has increased $1.3 million compared to the six months ended June 30, 2008.  The FDIC has stated that it is probable that an additional special assessment will be necessary in the fourth quarter of 2009, although the amount of such a special assessment is uncertain.  Our results of operations also may be affected significantly by general and local economic and competitive conditions, governmental policies and actions of regulatory authorities.




The following discussion and analysis is presented to assist the reader in the understanding and evaluation of the Company’s financial condition and results of operations. It is intended to complement the unaudited consolidated financial statements, footnotes, and supplemental financial data appearing elsewhere in this Form 10-Q
and should be read in conjunction therewith. The detailed discussion focuses on the results of operations for the six and three month period ended June 30, 2009 and 2008 and the financial condition as of June 30, 2009 compared to the financial condition as of December 31, 2008.




Critical Accounting Policies





Critical accounting policies are those that involve significant judgments and assumptions by management and that have, or could have, a material impact on our income or the carrying value of our assets.




Allowance for Loan Losses.WaterStone Bank establishes valuation allowances on loans considered impaired. A loan is considered impaired when, based on current information and events, it is probable that
WaterStone Bank will not be able to collect all amounts due according to the contractual terms of the loan agreement. A valuation allowance is established for an amount equal to the impairment when the carrying amount of the loan exceeds the net realizable value of the underlying collateral.  WaterStone Bank also establishes valuation allowances based on an evaluation of the various risk components that are inherent in the credit portfolio. The risk components that are evaluated include past loan loss
experience; the level of nonperforming and classified assets; current economic conditions; volume, growth, and composition of the loan portfolio; adverse situations that may affect the borrower’s ability to repay; the estimated value of any underlying collateral; regulatory guidance; and other relevant factors. The allowance is increased by provisions charged to earnings and recoveries of previously charged-off loans and reduced by charge-offs. The adequacy of the allowance for loan losses is reviewed and
approved at least quarterly by the WaterStone Bank board of directors. The allowance reflects management’s best estimate of the amount needed to provide for the probable loss on impaired loans and other inherent losses in the loan portfolio, and is based on a risk model developed and implemented by management and approved by the WaterStone Bank board of directors.




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Actual results could differ from this estimate and future additions to the allowance may be necessary based on unforeseen changes in loan quality and economic conditions.  In addition, state and federal regulators periodically review the WaterStone Bank allowance for loan losses. Such regulators have the authority to require WaterStone
Bank to recognize additions to the allowance at the time of their examination.




Income Taxes.The Company and its subsidiaries file a consolidated federal income tax return. The provision for income taxes is based upon income in the consolidated financial statements, rather than amounts reported on the income tax return.  Consequently,
our federal income tax returns do not include the financial results of our mutual holding company parent.  Deferred tax assets and liabilities are recognized for the future tax consequences attributable to differences between the financial statement carrying amounts of existing assets and liabilities and their respective tax bases.  Deferred tax assets and liabilities are measured using enacted tax rates expected to apply to taxable income in the years in which those temporary differences
are expected to be recovered or settled.  The effect on deferred tax assets and liabilities of a change in tax rates is recognized as income or expense in the period that includes the enactment date.





Under generally accepted accounting principles, a valuation allowance is required to be recognized if it is “more likely than not” that a deferred tax asset will not be realized.  The determination of the realizability of the deferred tax assets is highly subjective and dependent upon judgment concerning management's
evaluation of both positive and negative evidence, the forecasts of future income, applicable tax planning strategies, and assessments of current and future economic and business conditions. Positive evidence includes the existence of taxes paid in available carry-back years as well as the probability that taxable income will be generated in future periods, while negative evidence includes the cumulative losses in the current year and prior two years and general business and economic trends.  At June
30, 2009 and at December 31, 2008, the Company determined that valuation allowances were necessary, largely based on the cumulative loss during the most recent three-year period caused by the significant loan loss provisions recorded during 2009 and 2008.  In addition, general uncertainty surrounding future economic and business conditions have increased the potential volatility and uncertainty of projected earnings.  Management is required to re-evaluate the deferred tax asset and the related
valuation allowance quarterly.




Positions taken in the Company’s tax returns may be subject to challenge by the taxing authorities upon examination.  The benefit of uncertain tax positions are initially recognized in the financial statements only when it is more likely than not the position will be sustained upon examination by the tax authorities.  Such
tax positions are both initially and subsequently measured as the largest amount of tax benefit that is greater than 50% likely of being realized upon settlement with the tax authority, assuming full knowledge of the position and all relevant facts.  Interest and penalties on income tax uncertainties are classified within income tax expense in the income statement.




Management believes its tax policies and practices are critical because the determination of the tax provision and current and deferred tax assets and liabilities have a material impact on our net income and the carrying value of our assets.  We have no plans to change the tax recognition methodology in the future.  If
our estimated deferred tax valuation allowance is adjusted it will affect our future results of operations.  At June 30, 2009, the Company had a deferred tax valuation allowance of $14.1 million.  The net recorded deferred tax asset, after valuation allowance, at June 30, 2009 was $5.6 million.  The remaining deferred tax asset was supported by remaining carry-backs of income taxes paid in prior years and available tax planning strategies.  The deferred tax asset is also
net of deferred tax liabilities associated with net unrealized gains on available for sale investment securities recorded in other comprehensive income.  The comparable net deferred tax asset valuation allowance at December 31, 2008 totaled $13.5 million and the net deferred tax asset after valuation allowance was $5.6 million.







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Comparison of Operating Results for the Six Months Ended June 30, 2009 and 2008





General - Net loss for the six months ended June 30, 2009 totaled $2.3 million, or $0.07 for both basic and diluted loss per share compared to net loss of $1.9 million, or $0.06 for both basic and diluted earnings per share for the six months ended June
30, 2008.  The six months ended June 30, 2009 generated an annualized loss on average assets of 0.24% and an annualized loss on average equity of 2.66%, compared to an annualized loss on average assets of 0.22% and an annualized loss on average equity of 1.92% for the comparable period in 2008.  The comparable net losses for the two periods reflect continuing asset quality issues resulting in a $10.2 million provision for loan losses for the six months ended June 30, 2009.  The current
year to date provision represents a $1.1 million decrease from the $11.3 million provision for loan losses for the six months ended June 30, 2008.  Increases of $2.5 million in net interest income and of $1.9 million in mortgage banking income for the first six months of 2009 over the prior period were offset by securities impairment charges of $1.1 million, FDIC insurance expense increases of $1.3 million (which include the FDIC special assessment) and a reduction in income tax benefits of $2.8 million.  Loan
charge-off activity and specific loan reserves are discussed in additional detail in the Asset Quality section.  The net interest margin for the six months ended June 30, 2009 was 2.28% compared to 2.15% for the six months ended June 30, 2008.





Total Interest Income - Total interest income remained constant at $49.8 million during the six months ended June 30, 2009 and 2008.  Interest income on loans remained constant at $44.4 million for the six months ended June 30, 2009 and 2008.  An  increase
of $92.2 million, or 6.3%, in the average loan balance to $1.55 billion during the six-month period ended June 30, 2009 from $1.46 billion during the comparable period in 2008 was offset by a 33 basis point decrease in the average yield on loans to 5.76% for the six-month period ended June 30, 2009 from 6.09% for the comparable period in 2008.  Unrecognized interest income on non-accrual loans totaled $3.5 million during the six months ended June 30, 2009.  This had the effect of reducing
the average yield on loans during the same period by 45 basis points.  Unrecognized interest income on non-accrual loans totaled $2.1 million during the six months ended June 30, 2008 effectively reducing the average yield on loans for that period by 29 basis points.





Interest income from mortgage-related securities remained constant at $3.7 million for the six months ended June 30, 2009 and 2008.  This was primarily due to a 26 basis point increase in the average yield to 5.70% for the six months ended June 30, 2009 from 5.44% for the comparable period in 2008.  The increase in interest
income reflecting an increase in average yield was partially offset by a decrease in average balance.  The average balance of mortgage related securities decreased $4.8 million, or 3.5%, to $133.1 million for the six months ended June 30, 2009 from $138.0 million during the comparable period in 2008.  The decline in the average balance of mortgage related securities during the six months ended June 30, 2009 reflects management’s decision to deemphasize investments in mortgage related
securities and emphasize more liquid government agency and higher yielding municipal debt securities.





Finally, interest income from debt securities, federal funds sold and short-term investments remained stable at $1.7 million for both the six months ended June 30, 2009 and 2008.  Interest income decreased due to a 97 basis point decline in the average yield on other earning assets to 2.33% for the six months ended June 30, 2009
from 3.30% for the comparable period in 2008.  The decline in average yield provided by these investments reflects the overall interest rate environment as opposed to a shift in investment strategy or product mix.  The decrease in average rate was offset by an increase of $42.8 million, or 42.2%, in the average balance of other earning assets to $144.1 million during the six months ended June 30, 2009 from $101.3 million during the comparable period in 2008.  The increase in average
balance reflects a strategic shift towards higher levels of liquidity.  The Company intends to maintain higher than usual liquidity given the current economic environment and relatively low rates of return available on loans and mortgage related securities.  The average balance of debt securities, federal funds sold and short-term investments includes FHLBC stock of $21.7 million and $20.1 million for the six month-periods ended June 30, 2009 and June 30, 2008, respectively.  On
October 10, 2007, the FHLBC entered into a consensual cease and desist order with its regulator, the Federal Housing Finance Board. Under the terms of the order, dividend declarations are subject to the prior written approval of the Federal Housing Finance Board.  The FHLBC has not declared a dividend since it entered into the cease and desist order.  At the request of the FHLBC, on July 24, 2008, the Finance Board amended the cease and desist order to allow the FHLBC to redeem incremental
purchases of capital stock tied to increased levels of borrowing through advances after repayment of those new advances.






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Total Interest Expense-Total interest expense decreased by $2.5 million, or 8.0%, to $29.1 million during the six months ended June 30, 2009 from $31.6 million during the six months ended June 30,
2008.  This decrease was the result of a decrease of 68 basis points in the cost of funding to 3.37% for the six months ended June 30, 2008 from 4.05% for the comparable period ended June 30, 2008, partially offset by an increase of $175.5 million, or 11.2%, in average interest bearing deposits and borrowings outstanding to $1.74 billion for the six months ended June 30, 2009 compared to an average balance of $1.56 billion for the six months ended June 30, 2008.





Interest expense on deposits decreased $2.3 million, or 10.9%, to $19.1 million during the six months ended June 30, 2009 from $21.4 million during the comparable period in 2008.  This was due to a decrease in the cost of total average deposits of 86 basis points to 3.17% for the six months ended June 30, 2009 compared to 4.03%
for the comparable period during 2008.  The decrease in interest expense attributable to the decrease in the cost of deposits was partially offset by an increase of $148.5 million, or 13.9%, in the average balance of other interest bearing deposits to $1.21 billion during the six months ended June 30, 2009 from $1.07 billion during the comparable period in 2008.  The decrease in the cost of deposits reflects the shorter term interest rate environment which has significantly decreased as a
consequence of the Federal Reserve’s reduction of short term interest rates which are typically used by financial institutions in determining the market rate for deposit products.





Interest expense on borrowings decreased $184,000, or 1.8%, to $10.0 million during the six months ended June 30, 2009 from $10.2 million during the comparable period in 2008.  The decrease resulted primarily from a 25 basis point decrease in the average cost of borrowings to 3.90% during the six months ended June 30, 2009 from
4.15% during the comparable period in 2008.  The decrease due to rate was partially offset by a $31.6 million, or 6.6%, increase in average borrowings outstanding to $512.3 million during the six months ended June 30, 2009 from $480.7 million during the comparable period in 2008.  The increased use of borrowings as a source of funding during six months ended June 30, 2009 reflected our assessment that such sources of funds provided favorable rates and terms compared to alternate retail funding
sources.  The reduction in short term interest rates by the Federal Reserve allows banks such as WaterStone Bank to borrow funds at lower rates, helping to reduce our cost of borrowing.





Net Interest Income - Net interest income increased by $2.5 million or 13.7%, to $20.7 million during the six months ended June 30, 2009 as compared to $18.2 million during the comparable period in 2008.  Net interest income continues to be positively
affected by a decrease in interest rates in 2009, as compared to 2008 and given that our interest bearing liabilities have repriced at a faster rate than our interest earning assets.  The increase in net interest income resulted primarily from a 29 basis point increase in our interest rate spread to 2.11% for the six month period ended June 30, 2009 from 1.82% for the comparable period in 2008.  The 29 basis point increase in the interest rate spread resulted from a 68 basis point decrease
in the cost of interest bearing liabilities, which was partially offset by a 39 basis point decrease in the yield on interest earning assets.  The increase in net interest income resulting from an increase in our net interest rate spread was partially offset by a decrease in net average earning assets of $45.3 million, or 32.5%, to $94.3 million for the six months ended June 30, 2009 from $139.6 million from the comparable period in 2008.  The decrease in net average earning assets was primarily
attributable to an increase in loans transferred to real estate owned and an increase in the allowance for loan losses.  The average balance of real estate owned totaled $32.9 million for the six months ended June 30, 2009 compared to $10.8 million for the six months ended June 30, 2008.  The average balance of the allowance for loan losses totaled $26.4 million for the six months ended June 30, 2009 compared to $13.9 million for the six months ended June 30, 2008.





Provision for Loan Losses - Provision for loan losses decreased $1.1 million, or 9.5%, to $10.2 million during the six months ended June 30, 2009, from $11.3 million during the comparable period during 2008.  While it has decreased from the prior
year, the provision for loan losses remains at historically high levels.  The provision for the six months ended June 30, 2009 was primarily the result of $9.7 million of net loan charge-offs combined with continued weakness in local real estate markets.  The increase in charge-offs reflects management’s continued evaluation of assumptions used to determine the fair value of collateral supporting nonperforming loans.  In addition, compared to prior periods, the Company has
observed an increased likelihood of the borrower being unable to resolve the ongoing default in the terms of the loan prior to completion of a sheriff’s sale.  As such, charge-offs are generally being recognized earlier in the foreclosure process then they have been in prior periods.  See the Asset Quality section for an analysis of charge-offs, nonperforming assets, specific reserves and additional provisions.





Noninterest Income - Total noninterest income increased $314,000, or 7.9%, to $4.3 million during the six months ended June 30, 2009 from $4.0 million during the comparable period in 2008.  The increase primarily resulted from an increase in mortgage
banking income, partially offset by an impairment loss recognized on securities.  Mortgage banking income increased $1.9 million, or 96.6%, to $3.9 million for the six months ended June 30, 2009, compared to $2.0 million during the comparable period in 2008.  The increase was the result of increased mortgage loan refinancing  triggered by a decrease in  mortgage rates during the period.  During the six months ended June 30, 2009, the Company sold $349.8 million
in mortgage loans on the secondary market, as compared to $176.5 million during the comparable period in 2008.  The increase in mortgage banking income was partially offset by losses realized on available for sale securities.  During the six months ended June 30, 2009, the Company recognized other than temporary impairment losses totaling $1.1 million on two collateralized mortgage obligations.  There were no such losses during the comparable period in 2008.




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Noninterest Expense - Total noninterest expense increased $1.4 million, or 9.1%, to $17.1 million during the six months ended June 30, 2009 from $15.7 million during the comparable period in 2008.  The increase was primarily attributable to increased
FDIC insurance premiums, including a special assessment charged during the second quarter of 2009.





Compensation, payroll taxes and other employee benefit expense increased $97,000, or 1.2%, to $8.4 million during the six months ended June 30, 2009 compared to $8.3 million during the comparable period in 2008.  This increase resulted primarily from an increase in compensation and payroll taxes and health insurance expense, partially
offset by a reduction in expense related to the ESOP.  Due primarily to an increase in loan sales on the secondary market, total compensation, in the form of commissions, and payroll taxes increased $335,000, or 5.1%, to $6.9 million for the six months ended compared to $6.5 million during the comparable period in 2008.  Expense related to the Company’s health insurance plan increased $141,000 to $543,000 during the six months ended June 30, 2009 compared to $402,000 during the comparable
period in 2008.  Partially offsetting the increase in expense related to compensation and health insurance, expense related to the Company’s ESOP decreased $362,000, to $106,000 during the six months ended June 30, 2009 compared to $468,000 during the comparable period in 2008.  This decrease reflects the decrease in the Company’s average share price during the six months ended June 30, 2009 compared to the comparable period in 2008.





Real estate owned expense remained constant at $1.2 million for the six months ended June 30, 2009 and 2008, respectively.  Real estate owned expense includes the net gain or loss recognized upon the sale of a foreclosed property, as well as the net operating and carrying costs related to the properties.  During the
six months ended June 30, 2009, net operational expenses increased $526,000 to $1.6 million from $1.1 million during the comparable period in 2008.  The increase in net operational expense compared to the prior period results from an increase in the number of foreclosed properties.  The average balance of real estate owned totaled $32.9 million for the six months ended June 30, 2009 compared to $10.8 million for the six months ended June 30, 2008.  Net gains on the sale of real estate
owned totaled $405,000 during the six months ended June 30, 2009, compared to a net loss of $151,000 during the comparable period in 2008.  Sales activity during the second quarter of 2009 included a multi-family residential property that was originally acquired in the first quarter of 2009 that sold at a gain of $399,000 and a multi-family residential property that was originally acquired in the fourth quarter of 2008 at a gain of $233,000.





Other noninterest expense increased $1.3 million, or 80.4%, to $2.9 million during the six months ended June 30, 2009 from $1.6 million during the comparable period in 2008.  The increase resulted primarily from an increase in the FDIC insurance premium related to deposits.  FDIC insurance premium expense increased $1.3
million to $1.4 million during the six months ended June 30, 2009 from $99,000 during the comparable period during 2008.  The increase results from both an increase in the premium rate as well as a special assessment totaling $875,000 payable on September 30, 2009.





Income Taxes – We recorded an income tax benefit of $5,000 for the six months ended June 30, 2009.  This total was comprised of a $503,000 benefit recorded in the first quarter of 2009 offset by a $498,000 expense recorded in the second quarter
of 2009.  The $503,000 benefit was the result of a Wisconsin state tax law change (retroactive to January 1, 2009) related to the net unrealized loss on securities available for sale owned by the Company’s Nevada subsidiary.  The $498,000 federal tax expense recorded in the second quarter of 2009 was the result of an increase in the deferred tax asset valuation allowance due to the second quarter filing of the 2008 federal return.  During the first six months of 2008, we recorded
an income tax benefit of $2.8 million.  During this period, the Company recognized future benefits related to deferred tax assets including state net operating loss carry forwards.




Net Loss-As a result of the foregoing factors, net loss for the six months ended June 30, 2009 was $2.3 million as compared to a net loss of $1.9 million during the comparable period in 2008.







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Comparison of Operating Results for the Three Months Ended June 30, 2009 and 2008





General - Net income for the three months ended June 30, 2009 totaled $1.4 million, or $0.04 for both basic and diluted loss per share compared to a net loss of $2.5 million , or ($0.08) for both basic and diluted earnings per share for the three months
ended June 30, 2008.  The three months ended June 30, 2009 generated an annualized return on average assets of 0.28% and an annualized return on average equity of 3.16%, compared to a loss on average assets of 0.56% and a loss on average equity of 4.99% for the comparable period in 2008.  The net income reflects a $5.6 million decrease in the provision for loan losses, a $1.3 million increase in noninterest income and a $703,000 increase in net interest income, partially offset by a $3.2 million
decrease in income tax benefit and a $524,000 increase in noninterest expense.  Loan charge-off activity and specific loan reserves are discussed in additional detail in the Asset Quality section.  The net interest margin for the six months ended June 30, 2009 was 2.29% compared to 2.24% for the three months ended June 30, 2008.





Total Interest Income - Total interest income decreased $435,000, or 1.7%, to $24.8 million during the three months ended June 30, 2009 compared to $25.2 million for the three months ended June 30, 2008.  Interest income on loans decreased $432,000,
or 1.9%, to $22.1 million for the three months ended June 30, 2009 compared to $22.5 million for the comparable period of 2008.  The decrease resulted primarily from a 24 basis point decrease in the average yield on loans to 5.77% for the three-month period ended June 30, 2009 from 6.01% for the comparable period in 2008.  The decrease in interest income due to the decline in average yield  was partially offset by an increase of $48.1 million, or 3.2%, in the average loan balance
to $1.54 billion during the three-month period ended June 30, 2009 from $1.49 billion during the comparable period in 2008.  Unrecognized interest income on non-accrual loans totaled $1.7 million during the three months ended June 30, 2009.  This had the effect of reducing the average yield on loans during the same period by 44 basis points.  Unrecognized interest income on non-accrual loans totaled $1.1 million during the three months ended June 30, 2008 effectively reducing the
average yield on loans for that period by 29 basis points.





Interest income from mortgage-related securities decreased $67,000, or 3.5%, to $1.8 million for the three months ended June 30, 2009 compared to $1.9 million for the comparable quarter in 2008.  This was primarily due to a decrease of $10.0 million, or 7.0%, in the average balance of mortgage related securities to $131.8 million
for the three months ended June 30, 2009 from $141.8 million during the comparable period in 2008.  The decline in average balance during the three months ended June 30, 2009 reflects a strategic shift in the investment portfolio mix towards more liquid government agency securities and higher yield municipal debt securities.  The decrease in interest income on mortgage related securities due to a decline in average balance was partially offset by a 26 basis point increase in the average yield
to 5.63% for the three months ended June 30, 2009 from 5.37% for the comparable period in 2008.





Finally, interest income from debt securities, federal funds sold and short-term investments increased $65,000, or 8.2%, to $855,000 for the three months ended June 30, 2009 compared to $790,000 for the comparable period in 2008.  The increase in interest income was the result of an increase in average balance of $64.7 million,
or 66.4%, to $162.3 million during the three months ended June 30, 2009 from $97.5 million during the comparable period in 2008.  The Company intends to maintain higher than usual liquidity given the current economic environment and relatively low rates of return available on loans and mortgage related securities.  The increase in interest income due to an increase in average balance was partially offset by a 110 basis point decrease in the average yield on other earning assets to 2.11% for
the three months ended June 30, 2009 from 3.21% for the comparable period in 2008.  The average balance of debt securities, federal funds sold and short-term investments includes FHLBC stock of $21.7 million and $20.5 million for the three month-periods ended June 30, 2009 and June 30, 2008, respectively.  On October 10, 2007, the FHLBC entered into a consensual cease and desist order with its regulator, the Federal Housing Finance Board. Under the terms of the order, dividend declarations
are subject to the prior written approval of the Federal Housing Finance Board.  The FHLBC has not declared a dividend since it entered into the cease and desist order.  At the request of the FHLBC, on July 24, 2008, the Finance Board amended the cease and desist order to allow the FHLBC to redeem incremental purchases of capital stock tied to increased levels of borrowing through advances after repayment of those new advances.





Total Interest Expense-Total interest expense decreased by $1.1 million, or 7.3%, to $14.4 million during the three months ended June 30, 2009 from $15.5 million during the three months ended June
30, 2008.  This decrease was the result of a decrease of 57 basis points in the cost of funding to 3.30% for the three months ended June 30, 2009 from 3.87% for the comparable period ended June 30, 2008, partially offset by an increase of $151.3 million, or 9.5%, in average interest bearing deposits and borrowings outstanding to $1.74 billion for the three months ended June 30, 2009 compared to an average balance of $1.59 billion for the three months ended June 30, 2008.





Interest expense on deposits decreased $1.0 million, or 9.7%, to $9.4 million during the three months ended June 30, 2009 from $10.4 million during the comparable period in 2008.  This was due to a decrease in the cost of total average deposits of 71 basis points to 3.08% for the three months ended June 30, 2009 compared to 3.79%
for the comparable period during 2008.  The decrease in interest expense attributable to the decrease in the cost of deposits was partially offset by an increase of $135.0 million, or 12.5%, in the average balance of other interest bearing deposits to $1.22 billion during the three months ended June 30, 2009 from $1.08 billion during the comparable period in 2008.  The decrease in the cost of deposits reflects the shorter term interest rate environment which has significantly decreased as
a consequence of the Federal Reserve’s reduction of short term interest rates which are typically used by financial institutions in determining the market rate for deposit products.





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Interest expense on borrowings decreased $135,000, or 2.6%, to $5.0 million during the three months ended June 30, 2009 from $5.1 million during the comparable period in 2008.  The decrease in interest expense resulted primarily from a 17 basis point decrease in the average cost of borrowings to 3.91% during the three months ended
June 30, 2009 from 4.08% during the comparable period in 2008.  The decrease due to rate was partially offset by a $21.9 million, or 4.5%, increase in average borrowings outstanding to $512.0 million during the three months ended June 30, 2009 from $490.1 million during the comparable period in 2008.  The increased use of borrowings as a source of funding during three months ended June 30, 2009 reflected our assessment that such sources of funds provided favorable rates and terms compared
to alternate retail funding sources.  The reduction in short term interest rates by the Federal Reserve allows banks such as WaterStone Bank to borrow funds at lower rates, helping to reduce our cost of borrowing.





Net Interest Income - Net interest income increased by $702,000 or 7.2%, to $10.5 million during the three months ended June 30, 2009 as compared to $9.8 million during the comparable period in 2008.  Net interest income continues to be positively
affected by a steeper yield curve in 2009, as compared to 2008 and given that our interest bearing liabilities have repriced at a faster rate than our interest earning assets.  The increase in net interest income resulted primarily from a 20 basis point increase in our interest rate spread to 2.13% for the three month period ended June 30, 2009 from 1.93% for the comparable period in 2008.  The 20 basis point increase in the interest rate spread resulted from a 57 basis point decrease in the
cost of interest bearing liabilities, which was partially offset by a 37 basis point decrease in the yield on interest earning assets.  The increase in net interest income resulting from an increase in our net interest rate spread was partially offset by a decrease in net average earning assets of $48.4 million, or 35.5%, to $87.9 million for the three months ended June 30, 2009 from $136.3 million from the comparable period in 2008.  The decrease in net average earning assets was primarily
attributable to an increase in loans transferred to real estate owned and an increase in the allowance for loan losses.  The average balance of real estate owned totaled $39.4 million for the three months ended June 30, 2009 compared to $11.8 million for the three months ended June 30, 2008.  The average balance of the allowance for loan losses totaled $28.0 million for the three months ended June 30, 2009 compared to $14.7 million for the three months ended June 30, 2008.





Provision for Loan Losses - Provision for loan losses decreased $5.6 million, or 65.0%, to $3.0 million during the three months ended June 30, 2009, from $8.6 million during the comparable period during 2008.  Beginning with the second quarter
of 2008 we have sought to address the impact of deteriorating real estate market by increasing our provisions for loan losses.  The downturn in the local real estate market that began in 2007 prompted the Company to reevaluate the assumptions used to determine the fair value of collateral related to loans receivable to ensure that the allowance for loan losses continued to be an accurate reflection of management’s best estimate of the amount needed to provide for the probable loss on impaired
loans and other inherent losses in the loan portfolio.  The $8.6 million provision for the three months ended June 30, 2008 was reflective of this reevaluation as well as a significant and sustained increase in nonperforming loans throughout 2007 and the first two quarters of 2008.  While still at a level that exceeds the historical average, the provision for the three months ended June 30, 2009 is reflective of a decrease in both nonperforming loans and overall delinquent loans compared to
the comparable period in the prior year.  See the Asset Quality section for an analysis of charge-offs, nonperforming assets, specific reserves and additional provisions.





Noninterest Income - Total noninterest income increased $1.3 million, or 58.7%, to $3.6 million during the three months ended June 30, 2009 from $2.3 million during the comparable period in 2008.  The increase primarily resulted from an increase
in mortgage banking income, partially offset by an impairment loss recognized on securities.  Mortgage banking income increased $1.8 million, or 143.2%, to $3.0 million for the three months ended June 30, 2009, compared to $1.2 million during the comparable period in 2008.  The increase resulted from an increase in mortgage refinancing triggered by a decrease in mortgage rates.  During the quarter ended June 30, 2009, the Company recognized an other than temporary impairment loss
totaling $205,000 on two collateralized mortgage obligations, with no comparable amounts in the comparable prior period.





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Noninterest Expense - Total noninterest expense increased $523,000, or 6.1%, to $9.2 million during the three months ended June 30, 2009 from $8.7 million during the comparable period in 2008.  The increase was primarily attributable to an increase
of $1.1 million in FDIC insurance premiums, including a special assessment charged during the second quarter of 2009.  The increase in noninterest expense attributable to FDIC insurance was partially offset by a $468,000 decrease in real estate owned expense.





Compensation, payroll taxes and other employee benefit expense increased $112,000, or 2.5%, to $4.6 million during the three months ended June 30, 2009 compared to $4.5 million during the comparable period in 2008.  This increase resulted primarily from an increase in compensation and payroll taxes, partially offset by a reduction
in expense related to the ESOP.  Due primarily to an increase in loan originations and sales on the secondary market, total compensation, in the form of commissions, and payroll taxes increased $283,000, or 7.8%, to $3.9 million for the three months ended compared to $3.6 million during the comparable period in 2008.  Expense related to the Company’s ESOP decreased $177,000, to $58,000 during the three months ended June 30, 2009 compared to $235,000 during the comparable period in 2008.  This
decrease reflects the decrease in the Company’s average share price during the three months ended June 30, 2009 compared to the comparable period in 2008.





Real estate owned expense decreased $468,000, or 54.6%, to $389,000 for the three months ended June 30, 2009 compared to $857,000 during the three months ended June 30, 2008, as a result of a significant gain recognized during the quarter ended June 30, 2009 on the sale of two properties.  Real estate owned expense includes the
net gain or loss recognized upon the sale of a real estate property acquired through foreclosure, as well as the net operating and carrying costs related to the properties.  During the three months ended June 30, 2009, net operational expenses increased $312,000 to $947,000 from $635,000 during the comparable period in 2008.  The increase in net operational expense compared to the prior period results from an increase in the number of foreclosed properties.  The average balance of
real estate owned totaled $39.4 million for the three months ended June 30, 2009 compared to $11.8 million for the three months ended June 30, 2008.  Net gains on the sale of real estate owned totaled $558,000 during the three months ended June 30, 2009, compared to a net loss of $222,000 during the comparable period in 2008.  Gains related to the sale of real estate owned during the second quarter of 2009 included a multi-family residential property that was originally acquired in the first
quarter of 2009 that sold at a gain of $399,000 and a multi-family residential property that was originally acquired in the fourth quarter of 2008 that sold at a gain of $233,000.





Other noninterest expense increased $993,000 to $2.0 million during the three months ended June 30, 2009 from $992,000 during the comparable period in 2008.  The increase resulted primarily from an increase in the FDIC insurance premium related to deposits.  FDIC insurance premium expense increased $1.1 million to $1.2
million during the three months ended June 30, 2009 from $67,000 during the comparable period during 2008.  The increase results from both an increase in the quarterly premium rate as well as a special assessment totaling $875,000 payable on September 30, 2009.





Income Taxes – Income tax expense was $498,000 for the three months ended June 30, 2009 as compared to income tax benefit of $2.7 million for the three months ended June 30, 2008.  The $498,000 federal tax expense recorded in the second quarter
of 2009 was the result of an increase in the deferred tax asset valuation allowance due to the second quarter filing of the Company’s 2008 federal return.  During the quarter ended June 30, 2008, the Company recognized future benefits related to deferred tax assets including state net operating loss carry forwards.




Net Income-As a result of the foregoing factors, net income for the three months ended June 30, 2009 was $1.4 million as compared to net a net loss of $2.5 million during the comparable period in
2008.




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 Table of Contents





Comparison of Financial Condition at June 30, 2009 and December 31, 2008





Total Assets - Total assets increased by $42.3 million, or 2.2%, to $1.93 billion at June 30, 2009 from $1.89 billion at December 31, 2008. The increase in total assets is reflected in increases in cash and cash equivalents of $71.0 million and loans held
for sale of $17.5 million and an increase in real estate owned of $20.3 million.  These increases were partially offset by a decrease in loans receivable of $78.8 million.





Cash and Cash Equivalents–Cash and cash equivalents increased by $71.0 million to $94.9 million at June 30, 2009 from $23.8 million at December 31, 2008.  The increase in cash and
cash equivalents reflects the Company’s decision to maintain higher than usual liquidity given the current economic environment and relatively low rates of return available on loans and securities investments.





Securities Available for Sale– Securities available for sale increased by $11.1 million or 6.2%, to $191.0 million at June 30, 2009 from $179.9 million at December 31, 2008.  The increase in the available for sale portfolio relates to an
increase in government agency and municipal securities.  The $11.1 million increase in securities available for sale was primarily comprised of a reinvestment of $5.4 million in earnings and a $2.8 million reduction in the net unrealized loss.





The balance of debt securities increased by $14.2 million to $62.5 million at June 30, 2009 compared to $48.3 million at December 31, 2008.  The increase in debt securities was partially offset by a $3.0 million decrease in mortgage related securities to $128.5 million at June 30, 2009 from $131.5 million as of December 31, 2009.  The
shift in the mix of the portfolio towards less volatile, shorter-term debt securities reflects a strategic decision to increase portfolio liquidity.  During the six months ended June 30, 2009, the Company identified one previously unimpaired available for sale security with a June 30, 2009 fair value of $11.6 million that was determined to be other than temporarily impaired.  As a result of the Company’s analysis, a $6.1 million impairment has been recognized as of June 30, 2009, with
respect to this security.  Of the total impairment on this security, $977,000 has been identified as a credit loss and has been recognized as a current period expense.  The remaining $5.5 million impairment (before taxes) is included in other comprehensive income.





Loans Held for Sale–Loans held for sale increased by $17.5 million, or 135.0%, to $30.5 million at June 30, 2009, from $13.0 million at December 31, 2008.  The increase in loans held
for sale results primarily from an increase in origination activity driven by a decrease in mortgage rates during the current period.





Loans Receivable - Loans receivable decreased $78.8 million, or 5.0%, to $1.48 billion at June 30, 2009 from $1.56 billion at December 31, 2008.  The decrease in loans receivable reflects a decline in loan demand combined with the Company’s
more stringent loan underwriting requirements given the current challenging economic environment.  The 2009 decrease in loans receivable was primarily attributable to a $39.5 million decrease in one- to four-family loans and a $43.9 million decrease in land and construction loans.  During the six-month period ended June 30, 2009, $28.4 million in loans were transferred to real estate owned.





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 Table of Contents





The following table shows loan origination, principal repayment activity, transfers to real estate owned, charge offs and sales during the periods indicated.







As of or for the


As of or for theSix Months Ended June 30,


Year Ended2009


2008


December 31, 2008(In Thousands)Total gross loans receivable and held for sale atbeginning of period

$
1,636,277


$
1,495,970



1,495,970Real estate loans originated for investment:ResidentialOne- to four-family


16,591



122,364



205,526Over four-family


28,108



54,837



122,113Construction and land


2,731



43,131



51,367Commercial real estate


7,116



7,599



14,876Home equity


4,747



10,393



20,672Total real estate loans originated for investment


59,293



238,324



414,554Consumer loans originated for investment


122



115



280Commerical business loans originated for investment


6,601



9,874



21,934Total loans originated for investment


66,016



248,313



436,768Principal repayments


(112,438
)


(109,313
)


(228,099
)Transfers to real estate owned


(28,438
)


(14,517
)


(32,946
)Loan principal charged off


(9,731
)


(4,504
)


(25,301
)Net activity in loans held for investment


(84,591
)


119,979



150,422Loans originated for sale


367,363



165,464



255,891Loans sold


(349,826
)


(176,307
)


(266,006
)Net activity in loans held for sale


17,537



(10,843
)


(10,115
)Total gross loans receivable and held for sale at end of period

$
1,569,223


$
1,605,106



1,636,277








Real Estate Owned– Total real estate owned increased $20.3 million, or 82.5%, to $45.0 million at June 30, 2009 from $24.7 million at December 31, 2008.  The $20.3 million increase was primarily due to a $7.6 million increase in over four-family
real estate properties (with $5.6 million attributable to one property) and a $5.2. million increase in construction and land properties (with $4.8 million attributable to four properties).





Deposits – Total deposits increased $11.5 million, or 1.0%, to $1.21 billion at June 30, 2009 from $1.20 billion at December 31, 2008.  Total time deposits increased $19.8 million, or 1.9%, to $1.06 billion from $1.04 billion at December
31, 2008.  The increase in time deposits reflected the Company’s decision to offer competitive rates for time deposits in our local retail market.  Time deposits originated through local retail outlets increased $48.2 million, or 5.1%, to $985.7 million at June 30, 2009 from $937.4 million at December 31, 2008.  The increase in time deposits originated through local markets was partially offset by a decrease in time deposits originated through the wholesale market.  Time
deposits originated through the wholesale market decreased $28.4 million, or 27.3%, to $75.7 million at June 30, 2009 from $104.1 million at December 31, 2008.  The shift in the mix of deposits away from the wholesale market is intended to decrease our reliance on this source of funding. Total money market and savings deposits decreased $10.0 million, or 9.9%, to $91.0 million at June 30, 2009 from $100.9 million at December 31, 2008.  Total demand deposits increased $1.7 million, or 3.1%,
to $55.1 million at June 30, 2009 from $53.4 million at December 31, 2008.





Borrowings – Total borrowings increased $25.0 million, or 5.1%, to $512.0 million at June 30, 2009 from $487.0 million at December 31, 2008.  Early in 2009 a $25.0 million FHLBC advance was entered into to fund the disbursement of advance
payments by borrowers for taxes.  The FHLBC advance matures in January of 2010 and bears an interest rate of 1.29%.





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 Table of Contents





Advance Payments by Borrowers for Taxes - Advance payments by borrowers for taxes and insurance increased $14.6 million to $15.4 million at June 30, 2009 from $862,000 at December 31, 2008.  The increase was the result of payments received from
borrowers for their real estate taxes and is seasonally normal, as balances increase during the course of the calendar year until real estate tax obligations are paid out in the fourth quarter.





Other Liabilities - Other liabilities decreased $10.9 million, or 35.8%, to $19.5 million at June 30, 2009 from $30.4 million at December 31, 2008.  The decrease resulted from a $12.8 million decrease in outstanding escrow checks and a $3.3 million
decrease in capital lease obligation.  The decrease related to outstanding escrow checks is seasonally normal.  The Company receives payments from borrowers for their real estate taxes during the course of the calendar year until real estate tax obligations are paid out in the fourth quarter.  These amounts remain classified as other liabilities until paid.  The balance of these outstanding checks was $11,000 at June 30, 2009 and $12.8 million at December 31, 2008.  With
respect to the elimination of the capital lease obligation, the Company executed a purchase option of its capital lease on a branch location during March 2009.  The decrease in other liabilities related to escrow checks and the capital lease obligation was partially offset by a $7.2 million increase in amounts due to third parties.  Of the $7.2 million, $6.3 million relates to security purchases that had not settled as of June 30, 2009 and $875,000 represents the FDIC insurance special assessment
that is payable on September 30, 2009.





Shareholders’ Equity – Shareholders’ equity increased $2.0 million, or 1.2%, to $173.3 million at June 30, 2009 from $171.3 million at December 31, 2008.  The increase was primarily due to a $2.2 million decrease in accumulated
other comprehensive loss resulting from an increase in the market value of available for sale securities.  In addition to the decrease in accumulated other comprehensive loss, shareholders equity was positively affected by a $517,000 increase in additional paid in capital and a $427,000 decrease in unearned ESOP shares.  The increases in shareholders’ equity were partially offset by an $1.1 million decrease in retained earnings.  The decrease in retained earnings was the result
of the net loss of $2.3 million loss recognized during the six months ended June 30, 2009, partially offset by a $1.1 million cumulative-effect adjustment for a change in accounting principle.  The cumulative-effect adjustment resulting from the adoption of FASB Staff Position Nos. 115-2 and 124-2 relates to a security that had been deemed other-than-temporarily impaired during the year ended December 31, 2008.  The adjustment was made to reflect the difference between the present value of
cash flows expected to be collected and the amortized cost basis as of January 1, 2009, the effective date of the change in accounting principle.


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 Table of Contents


Average Balance Sheets, Interest and Yields/Costs




The following tables set forth average balance sheets, average yields and costs, and certain other information for the periods indicated.  No tax-equivalent yield adjustments were made, as the effect thereof was not material.  Non-accrual loans were included in the computation of average balances.  The yields
set forth below include the effect of deferred fees, discounts and premiums that are amortized or accreted to interest income or expense.









Six Months Ended June 30,2009


2008Average Balance


Interest and Dividends





Yield/Cost


Average Balance


Interest and Dividends





Yield/Cost(Dollars in Thousands)Interest-earning assets:Loans receivable, net

$
1,554,348



44,374



(1
)


5.76
%

$
1,462,151



44,418



(1
)


6.09
%Mortgage related securities(2)


133,141



3,764







5.70



137,969



3,740







5.44Debt securities (2), federal funds sold and short-term investments


144,108



1,666







2.33



101,322



1,667







3.30Total interest-earning assets


1,831,597



49,804







5.48



1,701,442



49,825







5.87Noninterest-earning assets


85,559















77,798Total assets

$
1,917,156














$
1,779,240Interest-bearing liabilities:Demand and money market accounts

$
120,983



229







0.38


$
145,547



1,339







1.84Savings accounts


31,474



65







0.42



24,235



116







0.96Certificates of deposit


1,062,108



18,787







3.57



896,258



19,949







4.46Total interest-bearing deposits


1,214,565



19,081







3.17



1,066,040



21,404







4.03Borrowings


512,276



9,919







3.90



480,717



9,951







4.15Other interest-bearing liabilities


10,436



69







1.33



15,051



227







3.01Total interest-bearing liabilities


1,737,277



29,069







3.37



1,561,808



31,582







4.05Noninterest-bearing liabilities


9,382















15,974Total liabilities


1,746,659















1,577,782Equity


170,496















201,458Total liabilities and equity

$
1,917,155














$
1,779,240Net interest income






20,735















18,243Net interest rate spread (3)














2.11
%














1.82
%Net interest-earning assets (4)

$
94,320














$
139,634Net interest margin (5)














2.28
%














2.15
%Average interest-earning assets to average interest-bearing liabilities














105.43
%














108.94
%


__________




(1)  Includes net deferred loan fee amortization income of $534,000 and $871,000 for the three months ended June 30, 2009 and 2008, respectively.


(2)  Average balance of mortgage related and debt securities is based on amortized historical cost.


(3)  Net interest rate spread represents the difference between the yield on average interest-earning assets and the cost of


average interest-bearing liabilities.


(4)  Net interest-earning assets represent total interest-earning assets less total interest-bearing liabilities.


(5)  Net interest margin represents net interest income divided by average total interest-earning assets.







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 Table of Contents







Three Months Ended June 30,2009


2008Average Balance


Interest and Dividends





Yield/Cost


Average Balance


Interest and Dividends





Yield/Cost(Dollars in Thousands)Interest-earning assets:Loans receivable, net

$
1,537,194



22,107



(1
)


5.77
%

$
1,489,112



22,539



(1
)


6.01
%Mortgage related securities(2)


131,832



1,852







5.63



141,803



1,919







5.37Debt securities (2), federal funds sold and short-term investments


162,251



855







2.11



97,525



790







3.21Total interest-earning assets


1,831,277



24,814







5.43



1,728,440



25,248







5.80Noninterest-earning assets


90,832















79,416Total assets

$
1,922,109














$
1,807,856Interest-bearing liabilities:Demand and money market accounts

$
116,410



100







0.35


$
147,452



514







1.38Savings accounts


34,398



38







0.45



25,912



59







0.90Certificates of deposit


1,067,171



9,209







3.46



909,637



9,773







4.26Total interest-bearing deposits


1,217,979



9,347







3.08



1,083,001



10,346







3.79Borrowings


512,000



4,985







3.91



490,136



5,041







4.08Other interest-bearing liabilities


13,393



29







0.86



18,973



111







2.35Total interest-bearing liabilities


1,743,372



14,361







3.30



1,592,110



15,498







3.87Noninterest-bearing liabilities


7,152















14,141Total liabilities


1,750,524















1,606,251Equity


171,584















201,605Total liabilities and equity

$
1,922,108














$
1,807,856Net interest income






10,453















9,750Net interest rate spread (3)














2.13
%














1.93
%Net interest-earning assets (4)

$
87,905














$
136,330Net interest margin (5)














2.29
%














2.24
%Average interest-earning assets to average interest-bearing liabilities














105.04
%














108.56
%


__________




(1)  Includes net deferred loan fee amortization income of $290,000 and $441,000 for the three months ended June 30, 2009 and 2008, respectively.


(2)  Average balance of mortgage related and debt securities is based on amortized historical cost.


(3)  Net interest rate spread represents the difference between the yield on average interest-earning assets and the cost of


average interest-bearing liabilities.


(4)  Net interest-earning assets represent total interest-earning assets less total interest-bearing liabilities.


(5)  Net interest margin represents net interest income divided by average total interest-earning assets.











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 Table of Contents




Rate/Volume Analysis


The following table sets forth the effects of changing rates and volumes on our net interest income for the periods indicated.  The rate column shows the effects attributable to changes in rate (changes in rate multiplied by prior volume).  The volume column shows the effects attributable to changes in volume (changes
in volume multiplied by prior rate).  The net column represents the sum of the prior columns.  For purposes of this table, changes attributable to changes in both rate and volume that cannot be segregated have been allocated proportionately based on the changes due to rate and the changes due to volume.







Six Months Ended June 30,


Three Months Ended June 30,2009 versus 2008


2009 versus 2008Increase (Decrease) due to


Increase (Decrease) due toVolume


Rate


Net


Volume


Rate


Net(In Thousands)Interest and dividend income:Loans receivable(1) (2)

$
2,595



(2,639
)


(44
)

$
599



(1,031
)


(432
)Mortgage related securities


(143
)


166



23



(150
)


83



(67
)Other earning assets(3)


578



(579
)


(1
)


397



(332
)


65Total interest-earning assets


3,030



(3,052
)


(22
)


846



(1,280
)


(434
)Interest expense:Demand and money market accounts


(276
)


(835
)


(1,111
)


(137
)


(276
)


(413
)Savings accounts


28



(79
)


(51
)


15



(35
)


(20
)Certificates of deposit


3,297



(4,458
)


(1,161
)


1,477



(2,042
)


(565
)Total interest-bearing deposits


3,049



(5,372
)


(2,323
)


1,355



(2,353
)


(998
)Borrowings


606



(638
)


(32
)


190



(245
)


(55
)Other interest bearing liabilities


(117
)


(40
)


(157
)


(50
)


(34
)


(84
)Total interest-bearing liabilities


3,538



(6,050
)


(2,512
)


1,495



(2,632
)


(1,137
)Net change in net interest income


(508
)


2,998



2,490



(649
)


1,352



703





______________


(1)
Includes net deferred loan fee amortization income of $534,000, $871,000, $290,000 and $441,000 for the six and three months ended June 30, 2009 and 2008, respectively.


(2)
Non-accrual loans have been included in average loans receivable balance.


(3)
Average balance of available for sale securities is based on amortized historical cost.





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 Table of Contents


ASSET QUALITY





The following table summarizes nonperforming loans and assets:




NONPERFORMING ASSETS







At June 30,


At December 31,2009


2008(Dollars in Thousands)Non-accrual loans:ResidentialOne- to four-family

$
48,070



42,182Over four-family


33,634



35,787Construction and land


8,249



18,271Commercial real estate


3,483



9,325Home equity


2,066



2,015Commercial


758



150Total non-accrual loans


96,260



107,730Real estate ownedOne- to four-family


20,053



16,720Over four-family


13,674



6,057Construction and land


6,261



1,094Commercial real estate


5,012



782Total real estate owned


45,000



24,653Total nonperforming assets

$
141,260



132,383Total troubled debt restructurings

$
21,502



2,409Total non-accrual loans to total loans receivable


6.50
%


6.91
%Total non-accrual loans and troubled debt restructuringsto total loans receivable


7.95
%


7.06
%Total non-accrual loans to total assets


4.99
%


5.71
%Total nonperforming assets to total assets


7.33
%


7.02
%











The following table summarizes loan delinquency in total dollars and as a percentage of the total loan portfolio:




LOAN DELINQUENCY








At June 30,


At December 31,2009


2008(Dollars in Thousands)Loans past due less than 90 days


31,914



56,013Loans past due in excess of 90 days


89,660



89,907Total loans past due


121,574



145,920Total loans past due to total loans receivable


8.21
%


9.36
%





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 Table of Contents





Total non-accrual loans decreased by $11.5 million to $96.3 million as of June 30, 2009, compared to $107.7 million as of December 31, 2008.  The ratio of non-accrual loans to total loans at June 30, 2009 was 6.50% compared to 6.91% at December 31, 2008.  The decrease in non-accrual loans was primarily attributable to
the transfer of loans to real estate owned upon completion of foreclosure action.  During the six months ended June 30, 2009, $28.4 million in loans were transferred to real estate owned.  Of the overall $11.5 million decrease in non-accrual loans, $10.0 million relates to a decrease in the construction and land category.  The decrease in this category was primarily attributable to a $5.8 million loan that was transferred to real estate owned during the second quarter.  The
underlying collateral with respect to this loan consisted of a multi-family apartment complex that was to be converted to condominiums.  The estimated net realizable value of this property has been deemed to exceed the current carrying cost.





Of the $96.3 million in total non-accrual loans as of June 30, 2009, $53.9 million related to six borrower relationships or types of relationships.  The first is a $9.6 million relationship with a borrower who has 12 loans that are secured by over four-family residential and mixed use commercial real estate properties.  Based
upon a review of the underlying collateral, the Company has determined that the value of the properties is not sufficient to allow for the recovery of the outstanding balance.  As a result, $1.6 million in charge-offs have been recorded with respect to this relationship.  The second is a relationship with a borrower who has four loans totaling $4.5 million.  The Company believes that the collateral, which consists of over four -family rental units, is not sufficient to recover the
outstanding principal balance of each of the loans, should the borrower cease efforts to return the loan to a performing status.  As a result, $1.2 million in charge-offs and $49,000 in specific reserves have been recorded with respect to this relationship.  The third is a relationship with a borrower who has eight loans totaling $4.4 million.  The Company believes that the collateral, which consists of one and two family rental units, is not sufficient to recover the outstanding
principal balance of each of the loans, should the borrower cease efforts to return the loan to a performing status.  As a result, $1.6 million in specific reserves have been established as of June 30, 2009 with respect to this relationship.  In addition to the three borrower relationships noted previously, a significant portion of total non-accrual loans relates to a number of lending relationships with small real estate investors, whose collateral consists of non-owner occupied one- to four-family
properties.  As of June 30, 2009, $19.9 million relates to this general category.  Based upon a review of the underlying collateral, the Company has determined that the value of the properties related to these loans is not sufficient to allow for the recovery of the outstanding balance.  As a result, $4.1 million in charge-offs and $1.7 million in specific reserves have been recorded with respect to this general category of borrowers.  An additional $5.1 million relates
to a number of lending relationships with real estate developers.  Based upon a review of the underlying collateral, the Company has determined that the value of the properties related to these loans is not sufficient to allow for the recovery of the outstanding balance.  As a result, $1.7 million in charge-offs have been recorded with respect to this general category of borrowers.  Finally, $10.4 million of the overall balance of non-accrual loans relates to a number of borrowers
with single family residences located outside of the state of Wisconsin.  Based upon a review of the underlying collateral, the Company has determined that the value of the properties related to these loans is not sufficient to allow for the recovery of the outstanding balance.  As a result, $2.6 million in charge-offs and $298,000 in specific reserves have been recorded with respect to this general category of borrowers.





Total real estate owned increased by $20.3 million, to $45.0 million as of June 30, 2009, compared to $24.7 million as of December 31, 2008.  During the six months ended June 30, 2009, $28.4 million was transferred from loans to real estate owned upon completion of foreclosure.  During the same period, proceeds from
the sale of real estate owned totaled $8.7 million.  The Company owned 165 properties as of June 30, 2009, compared to 136 properties at December 31, 2008.  Of this increase, $10.8 million relates to four former lending relationships.  The first property is a multi-family apartment complex that was to be converted into condominiums.  This income producing property has an estimated net realizable value of $5.6 million.  The second addition to real estate owned
is a commercial property with an estimated net realizable value of $2.1 million.  The third property is a mixed use property with a retail space and two condominium units.  The property has an estimated net realizable value of $1.6 million.  The third property is a condominium development consisting of partially completed units and raw land.  The property has an estimated net realizable value of $1.5 million.  Foreclosed properties are recorded at the lower of
carrying value or fair value with charge-offs, if any, charged to the allowance for loan losses upon transfer to real estate owned.  The fair value is primarily based upon updated appraisals in addition to an analysis of current real estate market conditions.


- 38 -
 Table of Contents


A summary of the allowance for loan losses is shown below:





ALLOWANCE FOR LOAN LOSSES





At or for the Six MonthsEnded June 30,2009


2008(Dollars in Thousands)Balance at beginning of period

$
25,167


$
12,839Provision for loan losses


10,202



11,276Charge-offs:MortgageOne- to four-family


7,150



3,098Over four-family


1,332



1,203Commercial real estate


676



-Construction and land


638



405Consumer


47



3Total charge-offs


9,843



4,709Recoveries:MortgageOne- to four-family


111



83Over four-family


-



10Construction and land


-



106Consumer


1



6Total recoveries


112



205Net charge-offs


9,731



4,504Allowance at end of period

$
25,638


$
19,611Ratios:Allowance for loan losses to non-accrual loans at end of period


26.63
%


21.37
%Allowance for loan losses to loans receivable at end of period


1.73
%


1.29
%Net charge-offs to average loans outstanding (annualized)


1.26
%


0.62
%


_______________





Net charge-offs totaled $9.7 million, or 1.26% of average loans for the six months ended June 30, 2009 on an annualized basis, compared to $4.5 million, or 0.62% of average loans for the comparable period in 2008.  The increase in charge-offs is a direct result of the significant increase in nonperforming assets that has occurred
over the past two years.  In addition, compared to prior periods, the Company has observed an increased likelihood of the borrower being unable to resolve the ongoing default prior to completion of a sheriff’s sale.  As such, charge-offs are generally being recognized earlier in the foreclosure process then they have been in prior periods.  Of the $9.7 million in net charge-offs for the six months ended June 30, 2009, $7.0 million related to loans secured by one- to four-family
loans.  The majority of charge-offs in this category relate to two borrower types, small real estate investors and out-of-state single family borrowers.  Lending relationships with small real estate investors, whose collateral consists of non-owner occupied one- to four-family properties accounts for $4.0 million of net charge offs related to one-to four-family loans for the six months ended June 30, 2009.  An additional $2.7 million of charge-offs relate to borrowers with single
family residences located outside of the state of Wisconsin.  In addition to one– to four-family loans, the commercial real estate category experienced a significant increase in charge off activity compared to the period year.  Of the total $638,000 in net charge-offs related to commercial real estate loans, approximately $517,000 related to one relationship with a borrower with four mixed used commercial real estate properties located in the City of Milwaukee and its surrounding suburban
areas.  The four properties are held by the Company as real estate owned as of June 30, 2009.


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The allowance for loan loss totaled $25.6 million or 1.73% of loans outstanding as of June 30, 2009 compared to $25.2 million or 1.61% of loans outstanding as of December 31, 2008.  The $471,000 decrease in the allowance for loan loss primarily results from a decline in the level of both nonperforming and delinquent loans.  In
addition to the decline in nonperforming and delinquent loans, the decrease in the allowance for loan loss reflects the $78.8 million decrease in the balance of the overall loan portfolio from to $1.56 billion at December 31, 2008 from $1.48 billion at June 30, 2009.  The allowance for loan loss remains at a historically high level due to the weak real estate market.  Weakness in the residential real estate market is well into its second year and the risk of loss on loans secured by residential
real estate remains elevated.





The allowance for loan losses has been determined in accordance with accounting principles generally accepted in the United States (GAAP). We are responsible for the timely and periodic determination of the amount of the allowance required. Future provisions for loan losses will continue to be based upon our assessment of the overall loan
portfolio and the underlying collateral, trends in nonperforming loans, current economic conditions and other relevant factors. To the best of management’s knowledge, all probable losses have been provided for in the allowance for loan losses.





The establishment of the amount of the loan loss allowance inherently involves judgments by management as to the adequacy of the allowance, which ultimately may or may not be correct. Higher than anticipated rates of loan default would likely result in a need to increase provisions in future years. See “Significant Accounting Policies”
above for a discussion on the use of judgment in determining the amount of the allowance for loan losses.





Impact of Inflation and Changing Prices





The financial statements and accompanying notes of the Company have been prepared in accordance with GAAP. GAAP generally requires the measurement of financial position and operating results in terms of historical dollars without consideration for changes in the relative purchasing power of money over time due to inflation. The impact of
inflation is reflected in the increased cost of our operations. Unlike industrial companies, our assets and liabilities are primarily monetary in nature. As a result, changes in market interest rates have a greater impact on performance than do the effects of inflation.


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Liquidity and Capital Resources





We maintain liquid assets at levels we consider adequate to meet our liquidity needs.  Our liquidity ratio averaged 3.5% and 1.9% for the six months ended June 30, 2009 and 2008 respectively.  The liquidity ratio is equal to average daily cash and cash equivalents for the period divided by average total assets.  We
adjust our liquidity levels to fund loan commitments, repay our borrowings, fund deposit outflows and pay real estate taxes on mortgage loans.  We also adjust liquidity as appropriate to meet asset and liability management objectives.  The operational adequacy of our liquidity position at any point in time is dependent upon the judgment of the Chief Financial Officer as supported by the full Asset/Liability Committee.  Liquidity is monitored on a daily, weekly and monthly basis using
a variety of measurement tools and indicators.




Our primary sources of liquidity are deposits, amortization and prepayment of loans, maturities of investment securities and other short-term investments, and earnings and funds provided from operations.  While scheduled principal repayments on loans are a relatively predictable source of funds, deposit flows and loan prepayments
are greatly influenced by market interest rates, economic conditions, and rates offered by our competitors.  We set the interest rates on our deposits to maintain a desired level of total deposits.  In addition, we invest excess funds in short-term, interest-earning assets, which provide liquidity to meet lending requirements.  Additional sources of liquidity used for the purpose of managing long- and short-term cash flows include advances from the FHLBC and access to the Federal
Reserve Bank discount window.




A portion of our liquidity consists of cash and cash equivalents, which are a product of our operating, investing and financing activities.  At June 30, 2009 and 2008, respectively, $94.9 million and $16.6 million of our assets were invested in cash and cash equivalents.  Our primary sources of cash are principal repayments
on loans, proceeds from the calls and maturities of debt and mortgage-related securities, increases in deposit accounts, federal funds purchased and advances from the FHLBC.




On October 10, 2007, the FHLBC entered into a consensual cease and desist order with its regulator, the Federal Housing Finance Board. Under the terms of the order, capital stock repurchases and redemptions, including redemptions upon membership withdrawal or other termination, are prohibited unless the FHLBC has received approval of the
Director of the Office of Supervision of the Federal Housing Finance Board ("OS Director"). The order also provides that dividend declarations are subject to the prior written approval of the OS Director.  At the request of the FHLBC, on July 24, 2008, the Finance Board amended the cease and desist order to allow the FHLBC to redeem incremental purchases of capital stock tied to increased levels of borrowing through advances after repayment of those new advances.  We currently hold, at cost,
$21.7 million of FHLBC stock, all of which we believe we will ultimately be able to recover.  Based upon correspondence we received from the FHLBC, there is currently no expectation that this cease and desist order will impact the short- and long-term funding options provided by the FHLBC.




Our cash flows are derived from operating activities, investing activities and financing activities as reported in our Consolidated Statements of Cash Flows included in our Consolidated Financial Statements.




During the six months ended June 30, 2009, the collection of principal payment on loans, net of loan originations provided cash flow of $40.6 million.  During the comparable period of the prior year, loan originations, net of collected principal, resulted in the use of $139.2 million in cash.  The decrease in loans receivable
is reflective of the general decline in loan demand combined with the Company’s tightened underwriting standards given the current economic environment.  The decrease in the loan portfolio during the six months ended June 30, 2009 was primarily attributable to a $39.5 million decrease in one- to four-family loans and a $43.9 million decrease in land and construction loans.




Deposit flows are generally affected by the level of interest rates, the interest rates and products offered by local competitors, and other factors.  Deposits increased by $11.5 million for the six months ended June 30, 2009 primarily as the result of competitive pricing offered on time deposits in our local market.




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Liquidity management is both a daily and longer-term function of business management.  If we require funds beyond our ability to generate them internally, borrowing agreements exist with the FHLBC, which provide an additional source of funds.  At June 30, 2009, we had $428.0 million in advances from the FHLBC, of which
$53.0 million was due within 12 months.  As an additional source of funds, we also enter into repurchase agreements.  At June 30, 2009, we had $84.0 million in repurchase agreements.  The agreements mature at various times beginning in 2017, however, all are callable quarterly until maturity.




At June 30, 2009, we had outstanding commitments to originate loans of $13.7 million, unfunded commitments under construction loans of $15.4 million, unfunded commitments under business lines of credit of $10.6 million and unfunded commitments under home equity lines of credit and standby letters of credit of $31.5 million.  At
June 30, 2009, certificates of deposit scheduled to mature in one year or less totaled $902.4million.  Based on prior experience, management believes that a significant portion of such deposits will remain with us, although there can be no assurance that this will be the case.  In the event a significant portion of our deposits is not retained by us, we will have to utilize other funding sources, such as FHLBC advances in order
to maintain our level of assets.  However, we cannot assure that such borrowings would be available on attractive terms, or at all, if and when needed.  Alternatively, we would reduce our level of liquid assets, such as our cash and cash equivalents and securities available-for-sale in order to meet funding needs.  In addition, the cost of such deposits may be significantly higher if market interest rates are higher or there is an increased amount of competition for deposits in our
market area at the time of renewal.




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Regulatory Capital







WaterStone Bank is subject to various regulatory capital requirements administered by the federal banking agencies. Failure to meet minimum capital requirements can initiate certain mandatory and possibly additional discretionary actions by regulators that, if undertaken, could have a direct material effect on the Company’s financial
statements. Under capital adequacy guidelines and the regulatory framework for prompt corrective action, the Bank must meet specific capital guidelines that involve quantitative measures of the Bank’s assets, liabilities, and certain off-balance-sheet items, as calculated under regulatory accounting practices. The Bank’s capital amounts and classification are also subject to qualitative judgments by the regulators about components, risk weightings, and other factors.




Quantitative measures established by regulation to ensure capital adequacy require the Bank to maintain minimum amounts and ratios (set forth in the table below) of total and Tier I capital (as defined in the regulations) to risk-weighted assets (as defined) and of Tier I capital (as defined) to average assets (as defined). Management
believes that as of June 30, 2009, the Bank met all capital adequacy requirements to which it is subject.  On November 18, 2008, WaterStone Bank entered into an informal agreement with its federal and state bank regulators whereby it has agreed to maintain a minimum Tier I capital ratio of 8.00% and a minimum total risk based capital ratio of 10.00%.  At June 30, 2009, these higher capital requirements were satisfied.




As of June 30, 2009 the most recent notification from the Federal Deposit Insurance Corporation categorized WaterStone Bank as “well capitalized” under the regulatory framework for prompt corrective action. To be categorized as “well capitalized,” WaterStone Bank must maintain minimum total risk-based, Tier I
risk-based and Tier I leverage ratios, as set forth in the table below. There are no conditions or events since that notification that management believes have changed WaterStone Bank’ category.




As a state-chartered savings bank, WaterStone Bank is required to meet minimum capital levels established by the state of Wisconsin in addition to federal requirements. For the state of Wisconsin, regulatory capital consists of retained income, paid-in-capital, capital stock equity and other forms of capital considered to be qualifying
capital by the Federal Deposit Insurance Corporation.




The actual capital amounts and ratios for WaterStone Bank as of June 30, 2009 are presented in the table below:









June 30, 2009To Be Well-CapitalizedFor Capital


Under Prompt CorrectiveActual


Adequacy Purposes


Action ProvisionsAmount


Ratio


Amount


Ratio


Amount


Ratio(Dollars in Thousands)WaterStone BankTotal capital (to risk-weighted assets)

$
190,178



11.34
%

$
134,124



8.00
%

$
167,655



10.00
%Tier I capital (to risk-weighted assets)


169,164



10.09
%


67,062



4.00
%


100,593



6.00
%Tier I capital (to average assets)


169,164



8.80
%


76,881



4.00
%


96,101



5.00
%State of Wisconsin (to total assets)


169,164



8.81
%


115,220



6.00
%


N/A



N/A


_____________




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Contractual Obligations, Commitments, Contingent Liabilities, and Off-balance Sheet Arrangements




The following tables present information indicating various contractual obligations and commitments of the Company as of June 30, 2009 and the respective maturity dates.









Contractual ObligationsMore than


More thanOne Year


Three Years


OverOne Year


Through


Through


FiveTotal


or Less


Three Years


Five Years


Years(In Thousands)Deposits without a stated maturity (5)

$
146,063



146,063



-



-



-Certificates of deposit (5)


1,061,379



902,445



145,627



13,307



-Federal Home Loan Bank advances (1)


428,000



53,000



25,000



-



350,000Repurchase agreements (2)(5)


84,000



-



-



-



84,000Operating leases (3)


52



52



-



-



-State income tax obligation (4)


1,242



1,242



-



-



-Salary continuation agreements


1,969



576



529



354



510$
1,722,705



1,103,378



171,156



13,661



434,510







_______________


(1)  Secured under a blanket security agreement on qualifying assets, principally, mortgage loans.  Excludes interest which will accrue on the advances.
All Federal Home Loan Bank advances with maturities exceeding five years are callable on a quarterly basis.


(2)  The repurchase agreements are callable on a quarterly basis until maturity.


(3)  Represents non-cancelable operating leases for offices and equipment.


(4)  Represents remaining amounts due to the Wisconsin Department of Revenue related to the operations of the Company’s Nevada subsidiary.


(5)Excludes interest.








The following table details the amounts and expected maturities of significant off-balance sheet commitments as of June 30, 2009.








Other CommitmentsMore than


More thanOne Year


Three Years


OverOne Year


Through


Through


FiveTotal


or Less


Three Years


Five Years


Years(In Thousands)Real estate loan commitments (1)

$
13,668



13,668



-



-



-Unused portion of home equity lines of credit (2)


29,616



29,616



-



-



-Unused portion of business lines of credit


10,604



10,604



-



-



-Unused portion of construction loans (3)


15,405



15,405



-



-



-Standby letters of credit


1,866



1,629



152



85



-Total Other Commitments

$
71,159



70,922



152



85



-





______________


General:  Commitments to extend credit are agreements to lend to a customer as long as there is no violation of any condition established in the contract and generally have fixed expiration dates or other termination clauses.


(1)  Commitments for loans are extended to customers for up to 90 days after which they expire.


(2)  Unused portions of home equity loans are available to the borrower for up to 10 years.


(3)  Unused portions of construction loans are available to the borrower for up to 1 year.


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Item 3. Quantitative and Qualitative Disclosures about Market Risk





Management of Market Risk





General.The majority of our assets and liabilities are monetary in nature.  Consequently, our most significant form of market risk is interest rate risk.  Our
assets, consisting primarily of mortgage loans, have longer maturities than our liabilities, consisting primarily of deposits and other borrowings.  As a result, a principal part of our business strategy is to manage interest rate risk and reduce the exposure of our net interest income to changes in market interest rates.  Accordingly, the WaterStone Bank Board of Directors has established an Asset/Liability Committee which is responsible for evaluating the interest rate risk inherent in our
assets and liabilities, for determining the level of risk that is appropriate given our business strategy, operating environment, capital, liquidity and performance objectives, and for managing this risk consistent with the guidelines approved by the Board of Directors.  Management monitors the level of interest rate risk on a regular basis and the Asset/Liability Committee meets at least weekly to review our asset/liability policies and interest rate risk position, which are evaluated quarterly.





Income Simulation.  Simulation analysis is used to estimate our interest rate risk exposure at a particular point in time.  At least quarterly we review the potential effect changes in interest rates could have on the repayment or repricing of rate sensitive assets
and funding requirements of rate sensitive liabilities.  Our most recent simulation used projected repricing of assets and liabilities at June 30, 2009 on the basis of contractual maturities, anticipated repayments and scheduled rate adjustments.  Prepayment rate assumptions can have a significant impact on interest income simulation results.  Because of the large percentage of loans and mortgage-backed securities we hold, rising or falling interest rates may have a significant impact
on the actual prepayment speeds of our mortgage-related assets that may in turn affect our interest rate sensitivity position.  When interest rates rise, prepayment speeds slow and the expected average lives of our assets tend to lengthen more than the expected average lives of our liabilities and, therefore, negatively impact net interest income and earnings.









Percentage
Increase (Decrease) in Estimated
Annual Net Interest Income
Over 24 Months300 basis point increase in rates


(2.97)200 basis point increase in rates


(0.35)100 basis point increase in rates


(0.01)100 basis point decrease in rates


(2.28)200 basis point decrease in rates


(4.57)300 basis point decrease in rates


(21.94)












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WaterStone Bank’s Asset/Liability policy limits projected changes in net average annual interest income to a maximum variance of (10%) to (50%) for various levels of interest rate changes measured over a 24-month period when compared to the flat rate scenario.  In addition, projected changes in the capital ratio are limited
to (0.15%) to (1.00%) for various levels of changes in interest rates when compared to the flat rate scenario.  These limits are re-evaluated on a periodic basis and may be modified, as appropriate.  Because our balance sheet is slightly liability sensitive, net interest income is expected to decline proportionately with increased interest rates.  However, due to the historically low short-term current interest rate environment and related low cost of deposits, significant declines
in interest rates do not result in a proportionate decline in the cost of deposits even though deposit liabilities reprice slightly faster than do loans.  At June 30, 2009, a 100 basis point immediate and instantaneous increase in interest rates had the effect of decreasing estimated net interest income by 0.01% while a 100 basis point decrease in rates had the affect of decreasing net interest income by 2.28%.  At June 30, 2009, a 100 basis point immediate and instantaneous increase in interest
rates had no effect on the estimated return on assets while a 100 basis point decrease in rates had the effect of decreasing the return on assets by 0.06%.  While we believe the assumptions used are reasonable, there can be no assurance that assumed prepayment rates will approximate actual future mortgage-backed security and loan repayment activity.










Item 4. Controls and Procedures





Disclosure Controls and Procedures:Company management, with the participation of the Company’s Chief Executive Officer and Chief Financial Officer, has evaluated the effectiveness of the Company’s
disclosure controls and procedures (as such term is defined in Rules 13a-15(e) and 15d-15(e) under the Securities Exchange Act of 1934, as amended (the “Exchange Act”)) as of the end of the period covered by this report. Based on such evaluation, the Company’s Chief Executive Officer and Chief Financial Officer have concluded that, as of the end of such period, the Company’s disclosure controls and procedures are effective in recording, processing, summarizing and reporting, on a
timely basis, information required to be disclosed by the Company in the reports that it files or submits under the Exchange Act.





Internal Control Over Financial Reporting:There have not been any changes in the Company’s internal control over financial reporting (as such term is defined in Rules 13a-15(f) and 15d-15(f)
under the Exchange Act) during the fiscal quarter to which this report relates that have materially affected, or are reasonably likely to materially affect, the Company’s internal control over financial reporting.


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PART II. OTHER INFORMATION








Item 1. Legal Proceedings





We are not involved in any pending legal proceedings as a defendant other than routine legal proceedings occurring in the ordinary course of business.  At June 30, 2009, we believe that any liability arising from the resolution of any pending legal proceedings will not be material to our financial condition or results of operations.




Item 1A. Risk Factors




In addition to the “Risk Factors” in Item 1A of the Company’s annual report on Form 10-K for the year ended December 31, 2008, we set forth the following additional risk factor:.




The Company Operates in a Highly Regulated Environment and is Subject to Supervision and Examination by Various Regulatory Agencies




As a bank holding company, the Company is regulated by the Office of Thrift Supervision, and the Bank is regulated separately by various federal and state banking regulators.  This regulation is primarily intended to protect the Bank’s customers and their deposits rather than the Company’s shareholders.  In
addition, the Company’s common stock is registered under the Exchange Act and it is subject to regulation by the Securities and Exchange Commission and to public reporting requirements.




Under applicable laws, the FDIC, as the Bank’s primary federal regulator and deposit insurer, and the Wisconsin Department of Financial Institutions as the Bank’s chartering authority, have the ability to impose sanctions, restrictions and requirements on the Bank if they determine, upon examination or otherwise, violations
of laws with which the Bank must comply, or weaknesses or failures with respect to general standards of safety and soundness.  Banking regulators can take actions at any time which could have an adverse impact on the Company.  These actions could include raising minimum capital amounts, restricting growth or other actions.  Applicable law prohibits disclosure of specific examination findings by an institution although formal enforcement actions are routinely disclosed by regulatory
authorities.




Item 4. Submission of Matters to a Vote of Security Holders




On May 12, 2009 at the Annual Meeting of Shareholders, shareholders took the following actions:





1.
Elected as directors all nominees designated in the proxy statement dated March 27, 2009 as follows:





Number of VotesFor


WithheldDouglas S. Gordon


26,784,428



255,070Patrick S. Lawton


26,767,546



271,952





Continuing DirectorsTerms expiring in 2011Micahel L. HansenStephen J. SchmidtTerm expires in 2010Thomas E. Dalum





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Item 6. Exhibits







(a) Exhibits: See Exhibit Index, which follows the signature page hereof.


Signatures





Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized.














WATERSTONE FINANCIAL, INC.
(Registrant)Date: August 6, 2009/s/Douglas S. GordonDouglas S. GordonChief Executive OfficerDate: August 6, 2009/s/ Richard C. LarsonRichard C. LarsonChief Financial Officer





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EXHIBIT INDEX





WATERSTONE FINANCIAL, INC.





Form 10-Q for Quarter Ended June 30, 2009











Exhibit No.
Description
Filed Herewith31.1
Sarbanes-Oxley Act Section 302 Certification signed by the Chief Executive Officer of Waterstone Financial, Inc.
X31.2
Sarbanes-Oxley Act Section 302 Certification signed by the Chief Financial Officer of Waterstone Financial, Inc.
X32.1
Certification pursuant to 18 U.S. C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 signed by the Chief Executive Officer of Waterstone Financial, Inc.
X32.2
Certification pursuant to 18 U.S. C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 signed by the Chief Financial Officer of Waterstone Financial, Inc.
X









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