Tuesday, August 28, 2007
The second punitive phase in the financial sector is unfolding here, with too many johnny come late-lies trying to put on last minute shorts on banks and insurers they don't know how to value. Its likely to lead to unpleasant surprises for many piling on at the last moment. There were two significant opportunities to short; (1) earlier in the year, when the red light was flashing on credit and leverage, and the broker dealers like GS and LEH were discounting 25% to 30% ROE's as far as the eye could see and spreads were as tight as ever; and (2) a week or so ago, after vicious rally pushed up the group toward the first layer of resistance, that may hold for months to come. Is it too late to short during this swoon; Absolutely. With the broker dealer stocks down some 30%, bank stocks off some 10% to 15% and yielding 4.5% to 5%, and insurers now as close to book value as they have been in several years (with some down as much as 30% to 40% in mid cap space at their August lows), investors ought to find new profitable themes else where, and wait for possibly better short opportunities in late 2007 and 2008. The chance of a second major positive liquidity event is rising and will likely send the shorts scampering toward the same exit at the same time, attempting to cover ill advised positions . Given the relative under-performance of the sector over the last two months, even bad "market news" would likey make the group a relative outperformer for the next few months.