Stock of the Day
|
Lehman Brothers (LEH)
Can Lehman Brothers Escape the Pressure Cooker?
Lehman Brothers is feeling the heat again and this time, things look to be getting really hot. When Bear Stearns went down in March, you couldn't walk a block around Wall Street without hearing prognostications about how Lehman was going to be the next to fold. It got past that with a strong Q1 earnings report and the Fed's decision to start lending directly to investment banks. Then those rumors cropped up again a few weeks later and Lehman nipped them in the bud by raising $4 billion and proving to investors that it has access to plenty of capital. Now, the vultures are circling around again as the stock lost 8.1% on Monday before losing another 9.5% on Tuesday. Why is Lehman in trouble again? Does this week's sell-off make the stock especially compelling now?
|
| Daily Chart |
If you are not able to see the chart, your email client probably does not support javascript. To view it, please click here
|
| Stock Analysis |
Lehman is trading down at levels not seen since 2003. The stock has lost 59% of its value over the last 12 months. Shares are trading well below book value. So is the stock cheap? Yes, of course - if you believe that the company is not going bankrupt. That is a big 'if' at this point. There are a lot of rumors out there about Lehman which is why it's hard to separate fact from fiction. And even though the Bear Stearns comparisons have been overplayed - there are a number of similarities such as a huge bond business and massive inventory of depreciating fixed-income assets. Lehman also has put out statements saying its liquidity is sound, the latest press release says the bank did not borrow from the Fed yesterday and has over $40 billion in available funds. Anytime a bank is forced to come out and say it has enough money, half the battle has already been lost. Plus, the options activity in Lehman is almost scary. Traders are running over each other to buy put options in Lehman's stock. A lot of put options which expire this month are being sold at strike prices south of $15 (the stock is currently trading at $31.77). Therefore, a lot of people are betting that Lehman's stock is going to be halved from the current depressed levels - real soon.
|
Buy Lehman Brothers for just $4
|
But having said that, there is one huge difference between the Bear Stearns situation and Lehman's. Lehman has access to the Federal Reserve lending window. So, at least in theory, Lehman could use the illiquid mortgage assets sitting on its balance sheet as collateral and get access to a virtually unlimited amount of funds from the central bank. Plus, Lehman is generally considered to be better managed. It has been deleveraging fairly rapidly and has shed about $100 billion of assets. Its gross leverage ratio is expected to be around 25, when it reports Q2 earnings in a couple of weeks, down from 31.7 at the end of Q1. The counter to this argument is that the Lehman management has had more than a few missteps in the last few months. After Lehman somewhat unexpectedly raised $4 billion in a swift, non-dilutive manner in early April, people started believing in it again. Then, CEO Dick Fuld, in late April, said that the worst of the credit-crunch was over. But now, it looks like the firm is back to square one again. One of the problems is that the hedges that Lehman's traders put on to protect the firm from further depreciation in its mortgage holdings have backfired, losing the firm a reported $2 billion. That has led to internal discussions about raising additional capital. News of that has leaked out and that is making Lehman management look bad because investors are effectively saying 'look you just raised $4 billion a few weeks ago, then you said things were getting better but now you are talking about raising more money, there is a credibility problem here.' The amount that Lehman is looking to raise now is in the $3-4 billion range (which is close to 25% of the firm's current market cap). Plus, the offering is going to have be in the form of common-stock (last time, it was in the form of non-dilutive preferred stock), which is massively dilutive for current shareholders, because that's what the rating agencies and regulators would like to see.
|
Lehman is trading up today because Merrill Lynch (MER: Charts, News, Offers) upgraded the stock (two days after downgrading it). Also, Lehman is doing some stock re-purchases in the open market, which is calming investors down. Will Lehman ultimately survive this whole situation? That's getting to be a tough call. Even if Lehman does everything right, it can be hard to control self-fulfilling prophecies. It doesn't look like Lehman controls its destiny right now. Its $40 billion liquidity cushion could evaporate in days if other firms starting viewing it as counterparty risk and stop trading with the firm. However, as long as the Fed window is available as a backstop, the odds do favor Lehman. A Chapter 11 filing or a fire sale probably will not happen, though the firm may be an acquisition target for some private equity players, at a reasonable price.
|
Special Offer
|
| Buy LEH for just $4
|
Profile |
Click here to view a detailed profile of Lehman Brothers.
|
|
|
|
|
Back to newsletter list
