Brokerage Houses Generally Have Subprime And Private Equity Exposure, As Discussed Above

Category: Finance, Financial Planning.

The stock market is gyrating like a yoyo, and with each down stroke it s heading lower.

Let s start by dissecting the cause- it s not as simple as a slowdown in housing or defaults in the subprime market, and these are unrelated( for the most part) events. What s an investor to do? The housing market was headed for a correction regardless of the events taking place in the subprime market. Speculators in areas such as southern Florida and easy credit just pushed it over the edge. New home starts were running at twice the historical average during 2003- 200Granted, some of this was fueled by a relaxation( or abandoning) of underwriting standards in the subprime market but it also was the culmination of aging baby boomers buying second homes, and a strong, low interest rates economy. We would be in a housing slowdown regardless of the subprime problem, although this will exacerbate it, and a weak housing market will continue at least through 200Investors: avoid homebuilders.

The concerns over the creditworthiness of their businesses, not the level of defaults in the subprime market, have caused much of their funding to disappear. Mortgage lenders and financial companies in related businesses generally are leveraged and, rely on short, in many cases term debt to finance their operation. This is the biggest risk for many finance companies. This problem was not caused by rising interest rates. All finance companies are paying the piper for problems in the subprime market- lax underwriting standards and mortgage obligations that borrowers can t meet. Interest rates have gone up very little over the past year.

Do your homework in this sector to determine which companies have funding problems, subprime and related mortgage exposure, and which don t. The problem was artificially low teaser rates, the ability to skip payments, interest- only payments for a period of time and other contractual mechanisms which induced( or seduced) buyers to take on a bigger mortgage than they could afford. It s not obvious. Investors: Avoid originators, buyers, servicers/ holders of paper, and mortgage REITs, fixed income funds which are highly leveraged or focus on the subprime mortgage market. These problems will take a good year to sort out and companies will be destroyed or seriously damaged in the process. Banks generally hold some, but not a significant amount of, subprime mortgages relative to their total portfolio. The hit the banks took on the Chrysler deal is a good example.

The bigger risk for certain money center banks is their exposure to bridge loans and take- out financing guarantees for the many billions of dollars of private equity deals that are pending. This problem will work itself out by the end of the year. Banks without this exposure will do fine. Banks with private equity financing exposure could have one or two bad quarters. Investors: Buy banks without big private equity exposure now. Brokerage houses generally have subprime and private equity exposure, as discussed above.

Wait one or two quarters to buy banks with exposure to private equity. Investors: Give them one or two quarters to sort out their problems before you buy. These stocks have taken a hit. Mutual fund managers, and REITs that, investment advisors own income producing have little or no subprime exposure( again, do your homework on the specific investment to make sure) . Investors: Buy now.