Rise in Sub-Prime Defaults Leave Investors Asking Who's Next

by: Jonathan Liss

Investors received a rude wake-up call Wednesday when instead of reporting earnings as scheduled, New Century Financial Corp., the nation's second-largest sub-prime lender, announced it was pushing off its earnings release, and that shareholders should expect a surprise loss in 4Q06 instead of the $1.06 EPS the Street was expecting.new Research firm First American LoanPerformance says that in November, payments were overdue on 12.9% of sub-prime loans packaged into mortgage securities, vs. 8.1% a year earlier. New Century's announcement came less than a day after HSBC reported its sub-prime division was also under significant pressure from rising defaults. In the past sub-prime lenders stayed afloat due to rapidly appreciating real estate prices; a house could always be turned around at a profit just months after purchase. But with housing prices experiencing steep declines, lenders and their backers have begun to bear the brunt of defaulted payments. The market punished sub-prime lenders, fearing the worst may still be ahead: shares of New Century fell $10.92 (36%) to $19.24, Accredited Home Lenders Holding Co. (-6% to $27.25), Novastar Financial Inc. (-11% to $18.31), Fremont General Corp. (-11% to $12.41) and American Home Mortgage Investment Corp. (-8.1% to $33.06). HSBC shares slid 2.65% to $89.78. Wells Fargo CEO Richard Kovacevich believes the negative implications may spread well beyond the mortgage lenders: "The assumption is that [sub-prime mortgage securities] are well-diversified. If [they're] concentrated, it's going to be a disaster."

Sources: NEW Press Release, HSBC Press release, Wall Street Journal, Bloomberg, Forbes, MarketWatch
Commentary: Questioning Sell-Side Research On The Subprime LendersDelinquencies in Sub-prime Mortgages Hit HSBC, Shares Trade LowerGeographic Distribution of House Price Risk and Gains
Stocks/ETFs to watch: New Century Financial (NEW), HSBC Holdings (HBC), Accredited Home Lenders Holding Co. (LEND), Novastar Financial Inc. (NFI), American Home Mortgage Investment Corp. (AHM), Fremont General Corp. (FMT). Competitors: Fannie Mae (FNM), Freddie Mac (FRE), Wells-Fargo (NYSE:WFC). ETFs: Vanguard REIT ETF (NYSEARCA:VNQ)

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