Merrill Lynch Takes Drastic Step Which Could Be Beneficial In The Long Run
Merrill Lynch is raising capital once again, despite statements to the contrary just last week. The company will sell $8.5 billion in new common stock further diluting the shares of existing investors.
Merrill said it expects to take a $5.7 billion pre-tax write-down during the third quarter. Most of this — $4.4 billion - stems from the sale of its CDOs. The rest is from the termination of its Security Capital guarantees and possible terminations of guarantees bought from other bond insurers, the firm explained.
This is definitely a bitter pill for the proud investment bank but it may well be the right move for the long run. They probably didn’t need to make this move at this time but the worsening credit conditions would have weighed down the firm in upcoming quarters.
With Merrill dumping their illiquid CDOs in a virtual fire sale, their profit numbers will look extremely bad this quarter. However, with the housing slump getting worse, reducing exposure to the residential mortgage market is never a bad thing.
No one knows when the credit and housing crisis will end, financial firms have already taken nearly $500 billion in writedowns in the past year. Many experts think that number could reach $1 trillion before all is said and done.
It will be interesting to see if investors react to this move favorably in the upcoming weeks. After this move, the company should be in a much better relative position in upcoming quarters and it wouldn’t be surprising if they tried to reduce their exposure even further.
From the beginning Merrill was a big player in the CDO market and they would have had to pay the price sooner or later. Better to make this move now while they still have willing investors to shore up their capital position.
