Lehman, Merrill and AIG roil small caps
After opening sharply lower, small caps continue to be rattled by Lehman Brothers’ weekend bankruptcy filing, Bank of America’s (NYSE:BAC) surprise acquisition of Merrill Lynch (NYSE:MER) and AIG’s unstable liquidity position.
At 12:00 p.m. ET all indices remained in the red, though the Russell 2000 has come off its session lows. The small-cap index is down 14.12 or 1.96%, to 706.14, the Dow plunged 302.64, or 2.65%, to 11,119.35 and the tech laden Nasdaq fell 31.36, or 1.62%, to 2,224.67.
Financial jitters remain off the charts as stocks crumbled in light of the Federal Reserve’s decision to allow investment bank Lehman Brothers (NYSE:LEH) to fail. After a drawn out uphill battle against overexposure to subprime loans and a 94% plunge in share price this year, Lehman Brothers will close its doors.
“The U.S. government can’t and should not bail out every large financial institution that’s out there,” said BMO Capital’s Andy Busch. “Lehman had a lot of time to do everything in their power to show that this didn’t happen and they made the decision not to. The United States made the right decision not to be involved with that. At some point they needed to make the critical decision to do something like this … this doesn’t necessarily mean it’s a bottom to be formed for financial stocks, though it certainly takes us one step closer to that point. The ultimate harbinger is when housing prices end up bottoming.”
In line with Bank of America’s (NYSE:BAC) historical strategy, the financial services goliath bought strained, 94-year old Merrill Lynch for $50 billion in a surprise transaction over the weekend. The addition of Merrill gives the Charlotte, N.C.-based bank exposure to roughly every slice of the financial services industry. Shares of Merrill bolted 19% midday, while Bank of America's shares sold off 16%.
The future of Merrill and Lehman’s employees remains undecided. “The biggest losers in all this are the employees of Lehman, people who had had their life savings in that company who are now seeing that evaporate,” said Busch.
In other financial news, AIG is actively seeking safe liquidity infusions that would not require the firm to liquidate itself and would avoid credit downgrades. Specifically, the firm is attempting to raise $20 billion and sell $20 billion in assets. The insurance juggernaut is reportedly seeking a loan from the Federal Reserve and is in talks with Warren Buffett, according to the Insurance Insider. The firm has rebuffed several private equity firms’ offers for capital. Shares plunged 50% midday.
As news of Lehman’s bankruptcy internalized in the market, credit default risk soared to an all time high. Investors remain jittery, as Lehman is a large buyer and seller of credit default swaps and has contracts with many firms. Investors poured into treasuries seeking shelter from the equity free fall. The yield on the two-year note fell below 2% for the first time since April.
As all of this unfolds, the Federal Reserve is expected to temporarily make it easier for banks to access short term funds by allowing a broader range of collateral in return for capital. Banks most likely will need access to capital in the short run as they unwind their positions with Lehman.
In the mean time a bracket of 10 commercial and investment banks have come together to create a $70 billion borrowing facility of their own to assist in wading the credit crisis.
Breaking the classic play we’ve seen all year, oil prices were in lock step with financials and equity markets as whole, gushing markedly lower as Hurricane Ike failed to cause major damage to oil refiners in the Gulf. Heightened concerns surrounding the financial strain on global markets and the downward pressure that would likely exert on demand, also added to the selling pressure. A barrel of light sweet crude plunged $4.07, following below $100 a barrel to $97.
As oil fell off a cliff, the greenback is mixed against the euro and the yen.
Overshadowed by the financial sector’s developments, economic reports out today were worse than expected. The industrial production report fell a more-than-expected 1.1%, which was worse than the projection for a slide of 0.3%. The figure, which tracks the ebb and flow of factories, mines and utilities, was the largest slide since September 2005.
The NY Manufacturing Survey clocked in at minus 7.41, well below the forecast for an increase of 1. Also, the prices paid index was down, but so was the employment index (and that number doesn’t include the sudden influx of bankers and brokers that Wall Street is adding to the jobless rolls lately).
In broader industry groups, nonferrous metals, platinum and precious metals and heavy construction are the few groups gaining ground, while full line insurance, recreational products and forestry are those groups leading the market lower.
In small-cap news, Take-Two Interactive Software, Inc. (Nasdaq:TTWO), a developer of entertainment software games, said Sunday that Electronic Arts Inc.’s (Nasdaq:ERTS) no longer intends to acquire Take-Two at this time. Shares plummeted 25% midday.
GFI Group Inc. (Nasdaq:GFIG), an inter-dealer broker specializing in over-the-counter derivatives products and related securities, said this morning that it perceives that it has no material exposure to Lehman Brothers. Yet shares were markedly lower in morning trading, as shares felt the brunt of investors' general jitters surrounding unwinding positions associated with Lehman’s bankruptcy. Shares sold off 22% mid-session.
Reddy Ice Holdings Inc. (NYSE:FRZ) slid 11% to a new 52-week low after the company announced it had suspended its quarterly cash dividends indefinitely and placed its executive vice president of sales and marketing on a leave of absence.
