Covering Sovereign Bancorp Short - The Worst May Be Over

Yesterday morning I decided to cover my Sovereign Bancorp (SOV) short at $24.05. Having looked at the recent results from Washington Mutual (WM) and Commerce Bank (CBH), both of whom beat estimates, it appears fairly obvious that the degrading mortgage climate has yet to really fall down to the bottom line as much as analysts have been expecting.

WaMu definitely showed some real weakness in its mortgage sector, and their guidance that residential mortgages would return to profitability by the 2nd half of the year struck me as a very risky prediction, but the market still believes what the companies are saying, so the stock is moving much higher.

I still believe that there are very grave dangers out there in the banking sector that warrant short positions, but it has become obvious that my timing is off on the trade. Rather than risk an upside surprise with SOV, the smart thing to do here is to close the trade and revisit it in a month. A brief lull in the bad news will probably send the entire sector higher over the near term, but the longer term risks in the banking sector remain.

SOV 1-yr chart