July 26, 2007 4:01 p.m. EDT STREET SAVVY Banks, Brokers Get Thumped As Loan Woes Escalate By SPENCER JAKAB A DOW JONES NEWSWIRES COLUMN NEW YORK -- How many times in the past few months have we heard phrases like: "the subprime issue is contained" or "corporate balance sheets are still in great shape" when confronted with fears about the unfolding credit mess? The problems don't seem very contained anymore to the shareholders of large commercial and investment banks who have taken it on the chin the past several weeks and who face considerable uncertainty today. The collective lost market value since mid-June of just eight large banks and brokers -- Goldman Sachs Group Inc. (GS), Morgan Stanley (MS), Merrill Lynch & Co. (MER), Bear Stearns Cos. (BSC), Lehman Brothers Holdings Inc. (LEH), Bank of America (BAC), Citigroup (C) and JP Morgan Chase (JPM) -- is $120 billion as of Thursday afternoon, equivalent to four times the economy of Bulgaria. The AMEX Broker/Dealer Index was 4% lower in late afternoon trading Thursday but still above its lows for the year. Share prices of big banks and brokers had recovered nicely from the initial bout of subprime mortgage jitters earlier this year, soothed in part by good quarterly results, but the recent slump in market values has reignited fears that their most profitable businesses may take a big hit. "Now that we're starting to spiral a bit today, people are getting a lot more nervous," said Peter Boockvar, equity strategist at Miller Tabak. "We don't know what their true exposure is because they reported earnings before this stuff hit." An early bout of weakness following February's swoon was quickly forgotten as problems in the housing and mortgage market seemed unlikely to derail the main profit-drivers of the investment banks. The recent sell-off came in conjunction with the woes at Bear Stearns, which saw two mortgage funds get into trouble and eventually write down their assets to zero. This coincided with increasing nervousness about the health of the private-equity boom and, in the past several days, a concern that banks may get stuck with tens of billions of risky loans used to finance LBOs that they never intended to keep. The LCDX, an index of the value of several leveraged loans, reached an all-time low of 92.75 Thursday after being launched at par only in late May. Reassuring earnings results from large brokers somewhat eased the mood in recent weeks, but the sharp sell-off in their share prices the past few days have made even sanguine investors stand up and take notice. A senior trader at a New York hedge fund said it's unclear who holds what risky assets on their balance sheets and how much of a hit to their value this may mean once illiquid securities are fairly valued. "The issue is one of mark-to-market," he said. In addition to getting stuck with loans that they may have to offload at a loss, Boockvar said that the forward earnings expectations of the investment banks may be a lot lower if the leveraged-buyout boom flounders. "Just look at what the biggest contributors to earnings were -- private equity and all the CDO (collateralized debt obligation) packaging," he said. "The whole mortgage business is falling off and the corporate markets are having their worst time since 2002." Responding to questions earlier this year about the impact of the mortgage crisis, New York University economist Nouriel Roubini seemed surprised that the markets were not more concerned about the health of banks and brokers. "They are exposed potentially in dozens of ways," he said. "Financial institutions, in a financial downturn, do particularly poorly." Boockvar, who has been cautious for some time, said it's not surprising to see the big loss of value Thursday. What's surprising to him is how long it took equities in general and the stock prices of banks and brokers in particular to really react to the seizing up of the corporate loan market. "There's knee-jerk carnage going on (in the credit market) and for some reason the stock market has just ignored it for weeks," he said. (Spencer Jakab, a columnist who provides insightful and unique takes on financial markets, previously wrote about energy.) --- By Spencer Jakab, Dow Jones Newswires, 201-938-2429; spencer.jakab@dowjones.com URL for this article: http://www.djtopstories.com/article/0,,SB118547993694222935,00.html