Wednesday, March 26, 2008

MMM - Mortgage Market Meltdown and Financials

This is actually the second time I've seen this Goldman report on the total amount of credit-crunch losses.

Wall Street banks, brokerages and hedge funds may report $460 billion in credit losses from the collapse of the subprime mortgage market, or almost four times the amount already disclosed, according to Goldman Sachs Group Inc. Profits will continue to wane, other analysts said.
The basic implication is that despite all the calls of a market bottom, and the belief that we may be seeing a historic buying opportunity in financials, the market does not seem to have fully discounted how bad the fallout from this is going to be. According to the study, write-downs to date only reflect around 1/3 of the future total. This makes something like Rich Pzena's claim that the long term earnings power of many financials has not been damaged somewhat difficult to sustain. One would have to take a closer look at how any particular business (say Citibank) generates its earnings, but the correct general stance with respect to financials appears to me to be one of skepticism. Clearly, all of these stocks have been destoyed, but a crucial presumption in any sort of historic-buying-opportunity hypothesis is that they are cheap relative to normalized earnings. But what are normalized earnings in this case? The housing bubble was every bit as big as the internet bubble, and taking into account the massive benefit of a one-time run-up in debt as you calculate normalized earnings is every bit as difficult as it was for Or do we really think that the financial sector will always account for 40% of corporate profits?

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