News reports on Thursday stated mortgage lender Countrywide Financial (CFC) has siphoned off an $11.5 billion credit facility to fund its operations as they are having an increasingly hard time raising money. This news prompted Fitch (a stock rating agency) to lower Countrywide’s long-term default rating from A to BBB+.
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Countrywide has already lost over 20% in trading on the New York Stock Exchange today. Yesterday, the stock plummeted 18%.
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The firm has also stated it will be more cautious in determining which loans to fund. Countrywide recently said 90% of its loans will be prime credit; these are loans with historically lower default rates. Funds in the secondary mortgage market have become increasingly scarce as lenders fear more borrower defaults and homeowners being forced to sell a home worth less than is owed.
In the press release announcing the drawing down of funds, David Sambol, Countrywide’s president stated, “For many years, Countrywide’s liquidity management framework has focused on maintaining a diverse, multi-layered assortment of financing alternatives. A primary component of this framework is a committed, unsecured credit facility of $11.5 billion provided by a syndicate of 40 of the world’s largest banks. In response to widely reported market conditions, Countrywide has elected to draw upon this entire facility to supplement its funding liquidity position.”
An LA Times story on the lending market woes quoted Merrill Lynch analyst Kenneth Bruce as saying, “If enough financial pressure is placed on Countrywide or if the market loses confidence in its ability to function properly, then the model can break.”
Some are predicting “chicken little” type scenarios where the world will crumble as the US housing market collapses. Other market experts, possibly with cooler heads, are thinking this is all part of the long predicted housing correction. Either way, it’s a very interesting puzzle from an investor’s standpoint.
Countrywide, for their part, has been fairly open in announcing its position. Last week in a regulatory filing, the company said, “Unprecedented disruptions” could lower their earnings and financial condition. The report also stated, “The situation is rapidly evolving and the potential impact on the company is unknown.”
Countrywide makes 1 in 7 of the home loans in America. If they did go into bankruptcy, it could be difficult for US economy to go unaffected.
Looking at this news from an options trading perspective:
Below the assumption is made an investor thinks the long term trend in the housing lending market is down. Building on this, we will take a look at bear call credit spreads. This is a trade where one call option is bought and another is sold at two different strike prices. The net effect is a net credit.
With a bear call credit spread, the maximum profit is the difference between the ask and the bid price of the options (listed below as the net credit). The maximum risk is difference between the strike prices of the options minus the maximum profit.
|Bear Call Credit Spreads|
|CFC||$18.79||CFCID||07 SEP 20.0 (37)||$3.80||CFCIE||07 SEP 25.0 (37)||$1.90||61.3||$1.90||$21.90|
|CFC||$18.79||CFCIX||07 SEP 22.5 (37)||$2.75||CFCIE||07 SEP 25.0 (37)||$1.90||51.5||$0.85||$23.35|
|CFC||$18.79||CFCID||07 SEP 20.0 (37)||$3.80||CFCIX||07 SEP 22.5 (37)||$3.00||47.1||$0.80||$20.80|
|CFC||$18.79||CFCIX||07 SEP 22.5 (37)||$2.75||CFCIY||07 SEP 27.5 (37)||$1.20||44.9||$1.55||$24.05|
|WM||$32.62||WMIG||07 SEP 35.0 (37)||$1.50||WMIU||07 SEP 37.5 (37)||$0.80||38.9||$0.70||$35.70|
|CFC||$18.79||CFCIE||07 SEP 25.0 (37)||$1.85||CFCIY||07 SEP 27.5 (37)||$1.20||35.1||$0.65||$25.65|
|HOV||$11.76||HOVIV||07 SEP 12.5 (37)||$1.45||HOVIC||07 SEP 15.0 (37)||$0.80||35.1||$0.65||$13.15|
|ETFC||$12.92||EUSIC||07 SEP 15.0 (37)||$0.95||EUSIQ||07 SEP 16.0 (37)||$0.70||33.3||$0.25||$15.25|
|CFC||$18.79||CFCIE||07 SEP 25.0 (37)||$1.85||CFCIF||07 SEP 30.0 (37)||$0.70||29.9||$1.15||$26.15|
|TOL||$20.74||TEPIX||07 SEP 22.5 (37)||$1.05||TEPIE||07 SEP 25.0 (37)||$0.50||28.2||$0.55||$23.05|
|IMB||$17.99||IMBIX||07 SEP 22.5 (37)||$1.40||IMBIE||07 SEP 25.0 (37)||$0.85||28.2||$0.55||23.05|
Competitors for CFC include: Bank of America Corporation (BAC), Wells Fargo & Co. (WFC), American Home Mortgage Investment Corp. (AHM), Fieldstone Investment Corp. (FICC), Fremont General Corp. (FMT), Fannie Mae (FNM), Freddie Mac Corp. (FRE), MortgageIT Hldgs. Inc. (MHL), Indymac Mortgage Hldgs. (NDE), New Century Fin. Corp. (NEW), Ocwen Financial Corp. (OCN), and PHH Corp. (PHH).
Competitors for WM include: Bank of America Corporation (BAC), Wachovia Corp. (WB), Wells Fargo & Co. (WFC), Countrywide Financial Corp. (CFC), Downey Financial Corp. (DSL), Greater Bay Bancorp (GBBK), Indymac Mortgage Hldgs. (NDE), Washington Federal Inc. (WFSL), and Zions Bancorp. (ZION).
Competitors for HOV include: DR Horton Inc. (DHI), Lennar Corp. (LEN), and Pulte Homes Inc. (PHM).
Competitors for ETFC include: Charles Schwab Corp. (SCHW), TD AMERITRADE Holding Corporation (AMTD), and FMR Corp. (private).
Competitors for TOL include: DR Horton Inc. (DHI), Hovnanian Enterprises Inc. (HOV), Pulte Homes Inc. (PHM), and WCI Communities Inc. (WCI).
Competitors for IMB include: Bank of America Corporation (BAC), Countrywide Financial Corp. (CFC), and Wells Fargo & Co. (WFC).
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[tags] FMR Corp., AMTD, Ameritrade Hldg. Corp. Class A, BAC, BankAmerica Corp., CFC, Countrywide Financial Corp., DHI, D.R. Horton Inc., DSL, Downey Financial Corp., FMT, Fremont General Corp., FNM, Fannie Mae, FRE, Freddie Mac Corp., GBBK, Greater Bay Bancorp, HOV, Hovnanian Enterprises Inc., LEN, Lennar Corp., OCN, Ocwen Financial Corp., PHH, PHH Corp., PHM, Pulte Corp., SCHW, Charles Schwab Inc., WB, Wachovia Corp., WCI, WCI Communities Inc., WFC, Wells Fargo & Co., WFSL, Washington Federal Inc., ZION, Zions Bancorp., bear call credit spreads, covered call investment strategy, investment strategy, iron condor, options trading, poweroptions, stock option trading, stock options [/tags]