E-Trade Financial Carries High Risk-Reward

E-Trade Financial (ETFC) has had its share of problems. A few years back, E-Trade was the biggest competitor to TD Ameritrade (AMTD) and the stock traded together with the brokerage stocks. Yet, since the mortgage headlines began to hit the wires last year, the stock has dropped from $23 to $3 today. In fact, the stock hit $2.25 back in January of this year. In other words, the stock has been hit like it were a Countrywide.

What the market might have overlooked is that ETFC's primary line of business has been its trading business. In fact, the number of net new retail accounts in July totaled 19,583. Total number of accounts is now at over 4.4 million. Total retail customer assets are at $162 billion at the end of July.

Having said that, the company did report a net loss of $94.6 million, or 19 cents per share, due to loan delinquencies. That compares with a profit of $159.1 million, or 37 cents per share a year earlier.

Make no mistake, TD Ameritrade is a better run company, with good earnings, no mortgage or credit risk, and a lower amount of debt. But that is exactly the reason E-Trade is a more compelling stock. It has managed its business horribly by moving away from its core business of online trading and involving itself in mortgages and has been slow to react to the situation it has found itself in. With all the wrong moves, there is hardly anything else that it can do wrong.

In terms of what E-Trade is doing to turn itself around - it is setting aside $100 million for mortgage losses, hax reduced the available credit lines on existing home equity lines of credit, shedding its investment in Fannie and Freddie, and focusing on growth in the online trading business.

The company has some ways to go before the turn-around is complete. Meanwhile, the stock carries plenty of headline risk. However, I believe that among the financials, it carries one of the highest risk-reward. If you take out its mortgage-based business (losses), the stock deserves a higher price and patient investors will be rewarded sooner or later.

Full Disclosure: I own ETFC but my position can change anytime without notice.

Comments

[mikeylikesit41:]

It's been tough hanging onto this stock and increasing my positions evertime it dips heavily... but I concur with your brief analysis. Sometime in the next year (probably Feb-Mar '09), this stock will double to around $6.5.

I'm basing this on a few assumptions with some analysis of expected trading volumes and the mortgage crisis flattening out sometime in Dec-Jan.

1) The fear of E*Trade going bankrupt is gone from the investors mind. Maybe not totally, but it's suppressed at least.
2) The market has been volatile and trading volume goes up during those times.
3) While the housing crisis still has a little ways to go before bottoming out, I'm seeing houses in AZ, FL and CA that are now in a price range I'd be comfortable with purchasing. I spent some time traveling since Jan and I've been monitoring prices. The homes in Phoenix that I wanted to buy were still too high in May but are now around the sweet spot of $85/sq ft.
4) As more folks realize what they have to sell their homes for (or not move), all prices will be in the sweet spot instead of huge variations within neighborhoods.
5) Purchases will begin to pick up with no price increases for the next 2 years at that time.
6) The global economy is suffering now. Inflation is on the rise. I figured out that the fed wanted that to happen last November. I think my exact statement was " the fed is going to inflate our way out. That way folks can sell their house for a decent price that psychologically makes them happy even though based on inflation, they lost a lot more then they know"..

All of that will help E*trade reduce more losses and increase income.

Please keep in mind, based on the math, there is now way this stock will be worth more than $6 for a loooong time.

For now though, keep selling your shares, I'll keep buying the heavy dips and make a nice killing next year.

Thanks

2008 Aug 20 07:48 AM

[Wall_St_Geek:]

OK - I'll bite....While I am a frustrated LONG position holder in E-Trade at the moment, I really don't buy your analysis. Your statement that "With all the wrong moves, there is hardly anything else that it can do wrong."

Well....actually there is PLENTY else it can do wrong, and probably continues to do so:

1. Not apply the right focus to customer service. I closed 6 accounts with E-Trade last summer because of their horrible customer service and policies.

2. Continue the same path that brought them into the mess in the first place. While I've seen plenty of talk from them about focusing on their core business, and I'll admit they've been prudent about managing their exposure, I've seen very little news in the past 6 months that demonstrates anything BUT the status quo.

3. Fail to realize the extent of their problem. While they are busy sorting out their mess, the market is not standing still. Other online discount brokers continue to increase the quality of their service and in the main, offer lower/competitive fees. E-Trade runs a very real risk that they will emerge from this mess and no one will care.

Personally, I'm betting on a price just south of $5 in the next 6 months, but this company still stands a very real change of going out of business or being acquired....

2008 Aug 20 08:22 AM

[dassaultdriver:]

it carries one of the highest risk-reward.
Shouldn't that read "one of the highest reward-to risk" (ratios)?
JJD

2008 Aug 20 08:41 AM

[H. T. Love:]

To wall_st_geek:

To #1, AMEN! I've been trying to transfer 3 accounts to them since my first FAX on 7/1/08. Two done, 1 (hopefully) getting there.

IMO, not enough "shoe leather" on the floor. Not enough expertise in systems. Bottom line: management may have a good recovery plan, attitude and goals, but if the organization can't execute they're in a world of hurt.

That said, I'm long and cautious. I could easily be convinced to take short-term profits if there's even a modest rally. I don't expect one near-term, but I do have patience.

2008 Aug 20 09:25 AM

[muguwmper12:]

"Make no mistake, TD Ameritrade is a better run company, with good earnings, no mortgage or credit risk, and a lower amount of debt. But that is exactly the reason E-Trade is a more compelling stock. It has managed its business horribly by moving away from its core business of online trading and involving itself in mortgages and has been slow to react to the situation it has found itself in. With all the wrong moves, there is hardly anything else that it can do wrong."

Let's see if I get your logic. Because E*Trade has horrible management, bad debt, has abandoned its core business, and is generally poorly run...therefore, it is a good investment. I'm not sure if I'm missing something...but, that makes no sense at all. I'll stick with well run companies with low debt. Thanks.

2008 Aug 20 09:53 AM

[prescient11:]

I'm not sure where the high risk is. If you look closely at the books, you'll see that they could potentially take a total loss of 40-50% of their entire HELOC portfolio and still make it through without raising further equity.

If you can hold through the storm I believe you will be richly rewarded. They are currently trading below a bankruptcy price. By the way, you can get a free blackberry and mobile trading, features that blow away the other jokes of the OLBs.

We all know the score here, the price of this stock is being artificially depressed by the powers that be until the time is right. By 1Q of '09 this should make people very happy. This stock is worth at a minimum $10/share, imho.

2008 Aug 20 10:24 AM

[prescient11:]

mikeylikesit, you are dead on, about most of that, especially being worth more than $6.

I like your inflation idea as well, have been thinking about that for some time. They don't want to let the genie out of the bottle, they just want the bottle to float up a bit.

2008 Aug 20 10:29 AM

[Ben Williams:]

ETFC will make a comeback or be bought out. Share price is undervalued slightly, but don't expect a breakout in this crappy financial environment. Let's wait until next quarters report to see if there are any more surprises regarding debt until we load the wagon. ETFC needs to stabilize its losses and prove it has turned the corner before I load the wagon anymore. I am long ETFC and have been a big bull on this one only to get disappointed time after time. Still keeping the faith, but also accepting the reality that this is one beaten down stock that the shorts don't seem willing to give it a chance to catch a breath.

2008 Aug 20 10:38 AM

[Chris B:]

My question is: Did they clean house and fire ALL the idiots who made the decisions that got them where they are today? Anybody know?

If not, fugetaboutit.

2008 Aug 20 10:51 AM

[muguwmper12:]

I think it's undervalued. I'm basing that on the assets/liabilities. But to say that the management has screwed up so bad they can't possibly screw up anymore and, therefore, it's time to buy. Well, that's just about the dumbest thing I've ever heard. Seriously...

2008 Aug 20 10:55 AM

[helplessobs...:]

I sold ETrade at $16 taking a $2K hit on my position, reduced my balance and put it in their FDIC protected account. Except for not providing option quotes on their regular account screens, I find their service superior to TDAmeritrade and light years ahead of BofA which I inherited from Fleet.

2008 Aug 20 11:25 AM

[guliamo:]

I totally agree and would like to add that Etrade has sold all of it's mortgage portfolio. Need to own this stock and give it a year... it will triple by then.

2008 Aug 20 11:30 AM

[arawak:]

HardToLove - "Not enough expertise in systems. Bottom line: management may have a good recovery plan, attitude and goals, but if the organization can't execute they're in a world of hurt."

What are you talking about? They have the best OLB platform in the business, have the ONLY mobile trading system, and regularly get ranked #1 amongst the brokerages.

The ETFC name is strong and Layton is a no-nonsense, stubborn SOB who seems to be turning the corner. Witness the recent sale of ETFC canada.. It was a fantastic sale price given the environment and pretty much every analyst comment I read was in agreement.

This stock is a sleeping gem.

2008 Aug 20 11:59 AM

[jackooo:]

Service is marginal. I transfered $100,000 plus out of there to Scottrade. They are just as bad. Then transfered to TD. Same difference.
I do not see any difference in the three.

2008 Aug 20 12:13 PM

[toytoy:]

ETFC has excellent management now, the CEO accepted getting paid by stock compensation. Etrade is a huge brand, the Etrade baby adds are working excellent with a very short airtime. watch the stock hit $ 12 by march of 2008.

2008 Aug 20 12:24 PM

[Pj568:]

Maybe some risk afterall. In looking at the June 30 statements, my calculation on a 50% writeoff of remaining Home Equity loans (around 3.8B on an after tax basis) would create a net equity deficit of 1.2B which would definitely create a need for additional equity.

2008 Aug 20 01:05 PM

[Urbane Gori...:]

I agree with the above statements. I too closed my accounts with Etrade for the same reasons. They can fail because:

- **Extremely** poor service.
- They still do carry loans and when the issue impacts Wall Street, it will hit them in sympathy.
- Paulson and Bernanke will not ail out this company.

Don't delude yourselves. Find a nice high day and sell. Buy something worthwhile. or short the stock.... At very least, buy some protective puts...

jegan ;-)

2008 Aug 20 02:37 PM

[acesez:]

seriously, folks, don't ALL the financials have to go under the sketchy-at-best heading right now? it seems that have ALL denied that they had made any bad loans, picked up any bad motgage parcels, ad infinitum...then came the writedowns...and they're still coming. call me cynical, but i suspect that the financial outfits who say they don't have anything to write down, in this world of fiscal insanity (id est, derivatives), simply haven't come clean yet. in short, there are still a LOT of skeletons in their closets, and we have NO WAY of knowing who is still playing the hiding game...it would be nice if we did, as there are some ridiculously low prices out there, but...we have seen enough to know these folks are all about covering themselves -- and the truth.

2008 Aug 20 06:01 PM

[yikes:]

I've been following Etrade since january, since its bottom. I am bullish on its turnaround plan, and I've been enthusiastic toward every Seeking Alpha article that comes out in support of ETFC. Im sure I wept alongside those authors during the June swoon.
That said, I watched (from the long side) the June- Mid July slide when i was reminded, or really taught, that this name trades just like financial stocks, and was hit just as hard as C, BAC, MER, etc.
SCHW and AMTD didnt take the plunge that ETFC experienced during that time, so I think its wise to keep that in mind - that its not just an online broker, even if they have sold their mortgage business.
The turnaround plan seems to be going well from what I've read, and long term, itd be great to see $5 again, let alone 10. However, I'm waiting for the CEO to come out and raise more money to deal with that debt, which will probably dilute the shareholders, so they can reach that $700m mark (is that right? somebody correct me if not).

2008 Aug 20 07:29 PM

[kurt walter:]

ETFC is priced like an option.

2008 Aug 20 07:36 PM

[OKMONEY:]

The "call report" filed by ETFC for Q2 lists $684,458MM in non-accruals. In the Q1 CC Don Layton talks about provisioning for expected losses of from $1B to $1.5B over 3 years. At the current non-accrual rate looks like ETFC will have lost their 3 year estimate of losses in just one (1) year. You won't see $6, $10 PPS or anything close unless these non-accruals drop dramatically. You've got to keep in mind ETFC is more bank than brokerage.

2008 Aug 20 10:00 PM

[WEBISKING:]

as a consumer I like them alot. They could be another GEIO who made some foolish decisios but the moat was not destroyed

2008 Aug 21 12:20 AM

[prescient11:]

Jegan, welcome back, this liar always pops up. Luckily he has nothing to say, ever.

2008 Aug 21 09:10 AM

[Go US:]

I feel like a fool on this one/ ETFC/ but I took my losses and made more with ABK ambac what a cool run 35% in 5 days after dumping etfc.

ETFC is what it is and the xperts state that this puppy is not going to show signs of movement until Volume increases and value of $5 is consistant.

I am learning a lot Grass Hopper on these crazy financials of which all are in the CAN!!!!!

I still like this stock but not until it hits the $2s low etc....Keep buying on the low/Hang Low on this one Late

was long on etfc now waiting!!!

2008 Aug 21 03:01 PM

[WEBISKING:]

I love e trade as a consumer.My gut feeling is it is like GEICO in 1977.A great franchise which had a prolem repricing risk. If they just stick to their core business they will do fine. Many like Jim cramer like to make fun of them because he knows they have areal franchise and his wall street buddies have had their butts handed to them by e trade

2008 Aug 22 08:44 AM

[stocktrader1:]

This article was weak. There was no quantitative analysis and the developments sited were well-known and just pasted from Yahoo news. This article was simply to create traffic for the site.

2008 Aug 25 10:58 AM

[oregonduck:]

Holding on to etrade and stopped trading after getting burned when they missed earnings. I have my shares parked in my retirement account for the long term, as I see this as a multi-year investment until the economy recovers. Go McCain!

2008 Aug 28 03:02 PM

[jackooo:]

ETFC is a long term stock! Like 20 yrs. if they are still in business. Put it in your IRA. You should be able to retire on it in 60 yrs.
If you like it at $3, you will love it at $2.
Customer service information is marginal. The simplest of things are not done. Never mind transfering an acct.

2008 Sep 09 01:28 PM

[Dennis Myhre:]

I don't know much about investing, but I DO know about customer service! And Etrade Financial absolutely STINKS in that area. I mistakenly tried to open a brokerage account with them this past week. After about 20 hours of messing with customer service and their website over two days, I gave up and asked them to close the brokerage and bank accounts, which they said they would do. The next day they took $600 out of my BofA account as a transfer, and when I called them to return the money, they said it would take 10 days to process my request, and there would be a $10 fee for closing the account. I think they lied to me earlier just so they could steal my $$$ for ten days and get their lousy ten bucks. This was after I was told that NO transfer request had been submitted the day before.

ANYONE thinking about using ETrade for their online trading partner needs to revisit their options....YUKKK!!!

2008 Oct 18 02:34 PM

[rafsolor:]

The article author does not give enough data regarding how much ETFC has already written off and how much more it may need to write off.

Without this data, the article can not ascertain the risk/reward the stock carries

2008 Dec 14 12:35 PM

[H. T. Love:]

With over 30 years in computer and systems design, development, implementation and support, I've learned to recognize the symptoms that ETrade presents. And they're not one-time issues either.

I would've replied sooner, but didn't check back on this thread 'till now - 2/15/09. Look where the stocj is at vs. your post date.

The quality of their platform is only one part of an integrated system. It may be great (although I've several cases where the user interface and implementation can be improved - but I use Linux/GNU systems only).

To this day, the supporting infrastructure still fails to execute properly. E.g. as a couple of weeks ago, the online documentation detailing SEC fees on sales had not been updated and the change was made in April of 2008.

Knowledgeable folks in the "backroom" tech support areas have left and not been replaced with similarly capable folks. Activities that the New York office assured me (JUuly-August 2008) were being aggressively pursued have not shown any progress.

The direct CS folks are doing well, but they must have adequate support infrastructure to contain costs and continue "world class" support quality.

MHO
HardToLove
On Aug 20 11:59 AM arawak wrote:

> HardToLove - "Not enough expertise in systems. Bottom line: management
> may have a good recovery plan, attitude and goals, but if the organization
> can't execute they're in a world of hurt."
>
> What are you talking about? They have the best OLB platform in the
> business, have the ONLY mobile trading system, and regularly get
> ranked #1 amongst the brokerages.
>
> The ETFC name is strong and Layton is a no-nonsense, stubborn SOB
> who seems to be turning the corner. Witness the recent sale of ETFC
> canada.. It was a fantastic sale price given the environment and
> pretty much every analyst comment I read was in agreement.
>
> This stock is a sleeping gem.

Feb 15 02:47 PM

[MyMoneyMD:]

I trade at both E-trade and Ameritrade and have written about their comparisons. I can say that though each has positives, the E-trade technology is easier for me to trade with and follow my results.

Mar 27 07:46 AM