Mortgage Fear Moves Over to Lehman, Again

Last month, it was fear that Lehman Brothers Holdings Inc. (LEH) would need capital to survive as an independent mortgage bank; this month, it’s an emerging consensus that mortgage and related asset-backed woes are likely to yet again tug at the Wall Street firm’s bottom line. After inexplicably expecting Lehman to post a Q3 profit in the wake of second quarter’s $2.8 billion loss — the company’s first loss since going public — analysts are realizing that the bank still has some writing down to do. The Wall Street Journal suggested Monday afternoon that Lehman could lose another $1.8 billion in the third quarter; a team of analysts at JP Morgan Chase & Co. (JPM) suggested that Lehman may have to write-down another $4 billion in mortgage and related positions, according to a story published Tuesday by Bloomberg News. The analysts at JP Morgan slashed Q3 estimates to a loss of $3.30 per share, compared to an earlier estimate of $.35 per share profit; full-year losses are now expected to total $6.77 per share, as a result. “Lehman continues to have significant exposure to mortgages and asset backed securities,” JPMorgan’s Worthington said in the report, according to Bloomberg’s coverage. “We believe management wants to leave its mortgage troubles behind and restore confidence.” It’s starting to sound a lot like a broken record for many Street firms, and we’re surprised that the financial press hasn’t given this more of a nod; after all, analysts have been expecting a so-called “kitchen sink” quarter for at least three quarters now. Every time they’ve been proven wrong, so far. Lehman absorbed $2.4 billion in write-downs to its residential mortgage-related positions in Q2; the firm reduced its residential mortgage exposure from $31.8 billion to $24.9 billion during the quarter. MBS and ABS assets remain dominant on Lehman’s overall book, however, valued at $72.5 billion of the company’s $248.7 billion in total assets at the end of May; the second-largest asset category is the firm’s corporate debt, by comparison, which represents $50 billion. Rumors that Lehman has been looking to sell off some of its riskier (read: money-losing) investments have been circulating ever since Merrill Lynch & Co. (MER) announced a sale of ABS CDO assets that largely involved its financing its own deal. That sale put the value of such assets at 22 cents on the dollar — and much less than that once you account for Merrill’s funding of its own deal. The JP Morgan report suggested that Lehman may have already sold of commercial mortgage assets, although it did not specify any estimates of the amount of selling activity; officials at Lehman have not commented to the press on any asset sales or pending capital raising plans. Disclosure: The author held no positions in LEH, JPM, or MER when story was published; indirect holdings may exist via mutual fund investments. HW reporters and writers follow a strict disclosure policy, the first in the mortgage trade.