This year has been quite a ride for America's financial stocks. Countrywide Financial is digging out from a mountain of defaults on high-risk loans. The CEOs of Citigroup and Merrill Lynch have been ousted, and the companies' recoveries will evolve over a matter of years. Other financial giants are holding billions in distressed paper. Two Bear Stearns hedge funds have collapsed. The financials have been slaughtered throughout 2007, and the fourth quarter may be even uglier.But from an investor's point of view, this is precisely the time to go in: you buy properties when they're down and nobody wants them. Bank of America (NYSE: BAC), JP Morgan Chase (NYSE: JPM), Wells Fargo (NYSE: WFC), US Bank (NYSE: USB), and on the regional side, Marshall & Ilsley (NYSE: MI), will emerge from this as huge winners.
So why am I recommending these financial companies, in the midst of deep turmoil throughout the sector? A friend of mine, Sara Maddox from Washington, D.C., really crystallized the issue for me when she emailed, "Georges, why exactly are you recommending some of these financial stocks, and how did we get into this mess anyways? Please explain, as the information out there is so confusing."
I decided Sara was right: the information is really confusing and needs to be explained in layman's terms. So here we go... I hope this helps you!
Real estate was a lay-up from the 1990s through most of 2006. You bought a home or a condo, and sure enough, in less than a year it was up in value anywhere from 10%-50%. Many of us saw our property values double in just a few years, and if you bought back in the 1980s or early 1990s, triple to quintuple gains were the norm. Americans were pulling equity off their homes as it was "pure profit." Credit was easy to obtain because the underlying collateral asset was appreciating faster than any other asset class.
We bought new homes, and many of us outright speculated in Florida, Nevada, and Arizona condos. Many investors were buying as many as five units, sometimes sight unseen. It was easy. It was the day-trading of the 1990s all over again. Credit providers were right there handing us the heroin, as they were hooked as well. If you could fog a mirror or had a pulse, you got a mortgage. Dentists were abandoning their daily jobs to parlay early real estate gains into more potential gains. Back in 1999, I knew we hit the top of the stock market when my plumber, Ralph, was making triple his plumbing income with his newfound day-trading skills. He had a "secret" system, and told me I was "too naive and spoiled by Wall Street ways to truly understand the secret system." Ralph is back to full-time plumbing, and my dentist is taking appointments again.
Mortgage pools were easy sells for the brokerage firms. Package 'em, get a ratings agency to slap a decent credit rating on them, and sell them to the thousands of mutual funds, hedge funds, foreign investors and pension funds lined up to buy the "quality" paper. Brokerage firms were printing profits from the easy sales. Life was good. What was the risk to these packaged pools of mortgages? Next to nothing because the underlying real estate values more than supported these loans.
Who were the players drinking this Kool-Aid? We all were guilty of this. Mortgage brokers, real estate brokers, home builders, banks, mortgage issuing companies, speculators, the government -- which frankly was lax on just about every rule and regulation -- ratings agencies, mom and pop homeowners, young first-time buyers, speculators, foreign investors -- a weak dollar attracted many foreign individuals into our real estate markets -- and last but not least, my dentist! We all bought the real estate dream hook, line and sinker. There were, as there invariably is with any bubble or excesses, some abuses. Many buyers were sold the salivating teaser rate mortgages and never explained the fine print since "the property will be up by 30% anyways and you can always sell." I hear my plumber all over again: I never quite got this real estate secret system....
Continue reading The Good, the Bad and the Ugly: The Financial Stocks, Part 2
Georges Yared is the CIO of Yared Investment Research and the author of Stop Losing Money Today.
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Reader Comments (Page 1 of 1)
11-27-2007 @ 4:46PM
Joe said...
Sit Back, relax. Be in no hurry to buy financial stocks. Secretary Paulson warned last week that 2008 will bring more bad information and be very difficult.
11-27-2007 @ 4:48PM
Harry said...
Amen...Be in no hurry to catch the falling knife!
11-28-2007 @ 6:26AM
PaulChristenson said...
Anyone jumping onto this stage...is still drinking the Kool-Aid...The bottom still is out there...
11-28-2007 @ 8:32PM
Jill Schottenstein said...
Bankers Plead Guilty in Enron Case
"By JUAN A. LOZANO,Associated Press"
Posted: 2007-11-28
HOUSTON (AP")
"David Bermingham, Giles Darby and Gary Mulgrew originally pleaded not guilty to seven counts of wire fraud. Prosecutors alleged that they colluded with Fastow in a secret financial scam in 2000 to enrich themselves at their employers' expense."
"The three former executives at Greenwich NatWest, a unit of Royal Bank of Scotland Group PLC, became a cause celebre in Britain throughout extradition proceedings that lasted two years."
NYSE Securities
"The Royal Bank of Scotland Group plc is a public limited company incorporated in ... stores operated as a division of Schottenstein Stores Corporation ("SSC" ...
www.nasdaq.com/asp/symbols.asp?exchange=... - 136k - Cached
Retail Ventures, Inc. RVI
"$326.7 We opened our first Value City department store in Columbus, Ohio in 1917. Until our initial public offering on June 18, 1991, Value City department stores operated as a division of Schottenstein Stores Corporation (“SSC”). As of February 3, 2007 SSC owned approximately 40.7% of the outstanding RVI Common Shares and beneficially owned approximately 51.5% (assumes issuance of (i) 8,333,333 RVI Common Shares issuable upon the exercise of conversion warrants..."