Although I agree with the view that financials are oversold and due for a short-term technical bounce, but that doesn't mean that:
The negative news flow will stop. The sector has hit the bottom (after all, there have been plenty of bogus trading rallies in the homebuilding stocks as they've worked their way towards zero). There won't be some individual disasters continually cropping up (like E*Trade's (ETFC) recent crash-and-burn over fears for the company's future).
In "Legg Mason's $10 Bln ABCP Exposure Raises Concern," Reuters details a development that may also limit the extent of any rebound in one particular company's shares.
Legg Mason Inc. (LM) has about $10 billion of investments in asset-backed commercial paper issued by structured investment funds, some of which have been recently downgraded by ratings agencies, the second-largest U.S. asset manager said.
The disclosure triggered a warning from Wachovia Capital Markets about the condition of Legg Mason's money market portfolio. Wachovia said there was a potential for future losses for the firm's money markets business.
"We suspect Legg Mason's reputation in this business will be impacted and the potential exists for more losses pending market conditions," Wachovia wrote in the note. It kept its "underperform" rating on the stock.
Legg Mason said in a regulatory filing on Friday that of the $167 billion it had in money market assets as of end-October, about 6 percent, or about $10 billion, were in asset-backed commercial paper issued by structured investment vehicles.
"This is likely the highest in the (asset management) industry," Wachovia Capital Markets said in a note on Monday.
Concerns about the rapid deterioration in credit asset values have been roiling markets for months and have hurt the financial sector, including money managers.
Many structured investment vehicles, or SIVs, had issued asset-backed commercial paper (OTCQB:ABCP) to raise cheap short-term funding to buy higher-yielding but risky subprime securities. These problem SIVs have been scrambling to find funding or have come under pressure to sell assets to meet their obligations.
Legg Mason said while some of the asset-backed securities held by its funds have been recently downgraded or placed on credit watch by ratings agencies, it was confident in the overall soundness of the funds.
Legg Mason also said it has procured letters of credit (LOCs) from a bank for $238 million in order to support the credit ratings of the firm's two money market funds.
"The LOCs support investments by the two rated funds in an aggregate of approximately $670 million in ABCP issued by two structured investment vehicles and may be drawn by the funds if they realize a loss on disposition or restructuring of the ABCP," it said.
Legg Mason said it will reimburse the bank any amounts drawn on the LOCs and it has put about $178 million as initial cash collateral with the bank. Unless the LOCs are terminated without being drawn, the firm will incur a $4.7 million charge to net earnings in the quarter ending December, it said.
Wachovia Capital Markets said it was unlikely Legg Mason could avoid the charge, calling it a "black eye" for the firm's money markets business.
Legg Mason spokeswoman Mary Athridge said the market turmoil has not affected the per share net asset value of the firm's money market funds and they "continue to provide necessary liquidity for our investors".
Legg Mason shares ended up 0.51 percent at $72.86 on Monday in a weak overall market. The firm's shares have fallen 23.3 percent so far in 2007 to be the sector's worst performers.