Merrill's credibility and stock take hit
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By Tim McLaughlinNEW YORK (Reuters) - Merrill Lynch & Co Inc's credibility and stock took a big hit on Friday after reports said the biggest brokerage sought to delay billions of dollars of losses on troubled assets by moving them to hedge funds.Renewed worries about U.S. banks' exposure to subprime mortgage-related assets punished financial stocks across the board. Merrill, which does not have a chief executive after the departure of Stan O'Neal earlier this week, led the declines.Merrill shares fell as much as 12 percent -- their biggest single-day drop in 18 years -- before the company said that it was not aware of any inappropriate transactions. The stock then recaptured some of its losses, but it was still down 8.2 percent at $57.10 in afternoon trading."We have increasingly lost confidence in the financials of Merrill, especially after the sudden increase in (collateralizeddebt obligation) write-downs," Deutsche Bank analyst Mike Mayo said. He cut his rating on Merrill shares to "buy" and said the company might need to find a partner to restore credibility and financial strength.In the fourth quarter alone, large U.S. banks and brokerages could suffer additional write-downs of more than $10 billion as deteriorating credit trends continue to undercut the value of subprime mortgages and related securities, Mayo said.Merrill has been in turmoil after an $8.4 billion write-down in the third quarter caused a $2.3 billion loss, the biggest in the company's history. Analysts expect additional write-downs on collateralized debt obligations, with estimates of $5 billion to $10 billion.Write-downs at Citigroup , the No. 1 U.S. bank, could be $4 billion in the fourth quarter, Mayo said. Citigroup shares fell 3.8 percent to $37.05.In afternoon trading, Bear Stearns Cos Inc shares were down 3.2 percent to $104.47. Shares of Goldman Sachs Group Inc fell 5 percent to $228.10 and Morgan Stanley's stock was down 6.4 percent at $58.52.Meanwhile, analysts are puzzled how Merrill reduced its net exposure to $15 billion from $32 billion in the third quarter with only $6 billion in write-downs.Mayo said that leaves the question of how Merrill reduced the other $11 billion.Janet Tavakoli, a structured finance analyst, said in a note last week that Merrill had asked hedge funds to take its troubled assets for a year in an off-balance sheet credit facility. The effect of such a deal would reduce Merrill exposure to CDOs, but only temporarily."One fund claimed that Merrill was offering a floor return (set buy-back price), so this risk would return to Merrill," Tavakoli said in her note. "That would explain the magnitude of the exposure disappearance, but only if Merrill was able to find counterparties."In July, as turmoil ripped through the global credit markets, analysts and investors began pressing Merrill for more detail about its CDO exposure. Merrill's point-man for those questions has been Chief Financial Officer Jeff Edwards.Edwards, who was an investment banker before becoming CFO, declined to give any specific figures on Merrill's CDO exposure but assured analysts and reporters that the company had effective and aggressive risk management in place."Risk management, hedging, and cost controls in this business are especially critical during such periods of difficulty, and ours have proven to be effective in mitigating the impact on our results," he said on a conference call in July.When further pressed about CDO exposure, Edwards said the company had significantly reduced exposure to lower-rated segments of the CDO market. He declined to give specific numbers on total CDO exposure and any reduction."And I think the majority of our exposure continues to be now in the highest credit segment of the market," Edwards said on the July call. He added that Merrill's CDO business was only part of a larger fixed-income operation.One senior executive at a large Wall Street hedge fund, who asked to remain unnamed, said that if Merrill entered into any arrangement, which he doubted, it would likely be done by in-house proprietary trading desks looking to reduce liabilities which could affect year-end bonuses.And Merrill's partners, this executive said, would more likely be mid-sized hedge funds with around $500 million looking for added fee income from the assets, rather than bigger hedge funds where "an extra $5 million to $10 million" would not be worth the legal risks.(Additional reporting by Dane Hamilton in New York)
(c) Reuters 2007. All rights reserved. Republication or redistribution of Reuters content, including by caching, framing or similar means, is expressly prohibited without the prior written consent of Reuters. Reuters and the Reuters sphere logo are registered trademarks and trademarks of the Reuters group of companies around the world.
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