Fun with investment banks: With friends like these…

[Disclaimer: Nothing in this post should be construed as me being critical in any way of Countrywide. I know people at Countrywide, and I know them to be hardworking, ethical, high quality people. I am sure they are as frustrated by what I am about to relay to you as I am. Kenneth Bruce, on the other hand, can be assured that I am most definitely making fun of him.]

Merrill Lynch analyst Kenneth Bruce, August 10, discussing Countrywide: Buy rating, $28.66 stock price, $36.00 “price objective” (his target price):

Media fans the flames in an already skittish market… [Yes yes, clearly the media’s fault!]

News reports appear to sensationalize 10-Q disclosure… [First Paris Hilton, now 10-Q’s!]

After CFC [the ticker symbol for Countrywide] filed its [latest quarterly SEC report], last night, news reports highlighted a section of the risk section that said the secondary market [hedge funds that buy packaged mortgages from mortgage companies like Countrywide] is experiencing unprecedented disruptions from reduced investor demand for mortgages [lots of sellers, no buyers].

CFC traded to $25 in the after market, down 13% from the $28.66 close, presumably due to the sensationalized headlines [presumably!] in an already skittish market.

Based on our review of the [quarterly filing], the after-market move seems to be an over-reaction and we would recommend investors to accumulate stock on share price weakness. [Buy buy buy!]

Our initial review of the relevant sections of the filing failed to generate any new information, other than underscoring what the market already knows. The mortgage market is going through a period of significant disruption. CFC believes it will ultimately benefit from the disruption, with fewer competitors and disciplined underwriting. Of course, CFC has to survive to take advantage of the new order. To that end, we think CFC has the financial strength and management acumen to succeed…

The secondary market appears to have deteriorated further, based on the fevered pitch of news articles [that unscrupulous media again]… so concerns that [Countrywide] remains closed to [secondary market] are warranted. However, we think CFC is well positioned… Loan volumes may contract, as has already occurred, however, investors under-appreciate the dynamic nature of CFC’s business, in our view. [We’re about to find out exactly what he means by “dynamic”, that’s for sure.] It would not originate loans it cannot sell for long.

[Countrywide] remains single-A rated by the agencies [S&P, Moody’s, etc.] with a stable outlook, so we think it can access the capital markets [i.e. raise money]…

Merrill Lynch analyst Kenneth Bruce, August 13, three days later, discussing Countrywide: Buy rating, $26.61 stock price, $36.00 “price objective” (his target price):

CFC shares likely to remain volatile and range bound for immediate future, as the market works through a period of heightened liquidity concerns in addition to the more fundamental challenges of rising credit-losses [people not paying their mortgages] and a soft housing market [people not buying houses].

CFC shares already discount a fairly pessimistic view [here he is claiming that CFC’s then-current stock price is appropriate given the range of scenarios he considers plausible, including the bad ones], in our opinion, so investors with longer-term investment horizons and generous risk appetites [we’re about to find out what he means by “generous”, that’s for sure] could achieve an attractive total return for accepting higher levels of uncertainty and headline risks… [Buy buy buy!]

We think the stock could witness robust appreciation [i.e., rise], as investors sense some of the near-term pressure is abating.

We are maintaining a constructive [i.e. positive] view on the shares, because we think the market has largely discounted the near-term results plus additional uncertainty relating largely to liquidity.

Merrill Lynch analyst Kenneth Bruce, August 15, two days later, discussing Countrywide: Sell rating, $24.46 stock price, no “price objective” (his target price):

Liquidity is the Achilles heel… [Uh oh.]

Downgrade Countrywide from Buy to Sell, based on concerns that liquidity in the mortgage sector could further erode the value of CFC’s franchise. [Remember that research report I put out two days ago? Never mind…]

We fear that the acceleration of margin calls [banks demanding more collateral for outstanding loans] and forced asset sales [hedge funds and other financial entities selling anything they can at any price to make the margin calls] in the capital markets could lead to more problems for CFC to finance its mortgage operations. [Uh oh.]

Should a liquidity event occur, for which the likelihood is increasing, CFC shares would probably witness further selling pressure. [Uh oh.]

Near-term downside risk in share to $18-$20… [Remember that “price objective” of $36 from two days ago? Never mind…]

We have quickly [well, yes, it did happen quickly] re-assessed our position in CFC shares because the financial market situation appears to be getting worse at an accelerating pace, and we fear that market participants will start acting in self-interest [I cannot imagine that happening] as liquidity is quickly evaporating from the market [lots of sellers, no buyers, prices in free fall]…

The mortgage market is witnessing a severe contraction in liquidity across most every asset class, including the high-quality AAA sector, increasing the financial pressure on mortgage companies, including CFC… Lenders are nervous… There have been companies, mostly mortgage REITs, that have been unable to meet margin calls and credit facilities are being terminated [that roughly corresponds to that giant “boom” sound in an action movie when something real big blows up real good]…

We hesitate to mention the word contagion, but this market is feeling awfully similar to the fall of 1998. [UH OH.]

The market is concerned that CFC could have difficulty with its credit facilities, which are critical to it operating in the near-term.

CFC currently has about $185B in available credit facilities, though the concern is that these facilities could be terminated or the terms changed meaningfully, thus impacting CFC’s ability to operate normally [i.e., at all].

We cannot understate the importance of liquidity for a specialty finance company like CFC. If enough financial pressure is placed on CFC or if the market loses confidence in its ability to function properly then the model can break, leading to an effective insolvency. If liquidations occur in a weak market, then it is possible for CFC to go bankrupt.

You know that old quote about a million monkeys typing on typewriters for a million years would eventually produce the complete works of Shakespeare?

Well, I’m not sure about the Shakespeare part, but I think I know what the monkeys are producing in the meantime…