Wall Street slides on Lehman fears
The Dow is down 280 points on talk that the brokerage won't be able to raise capital - Lehman shares, down 45%, hit a decade low. AIG & WaMu dropped 20%.
NEW YORK (CNNMoney.com) -- Stocks tumbled Tuesday, erasing most of the previous session's rally, as worries about Lehman Brothers' ability to raise capital, and about the extent of AIG's mortgage-related losses, exacerbated broad recession fears.
Late Tuesday Lehman Brothers said it will unveil "key strategic initiatives" for the firm, along with its expected third-quarter earnings Wednesday morning before the market opens.
Insurers and regional banks slumped in the aftermath of the government rescue of Fannie Mae and Freddie Mac. Meanwhile, falling oil prices added to worries about the slowing global economy and also dragged on oil stocks.
Small caps were hit too, with the Russell 2000 (RUT) falling 3.5%.
In part, the day's decline was in reaction to the previous day's huge rally, when the Dow jumped 290 points after the government bailout of Fannie and Freddie.
While the initial reaction showed investors were relieved, Tuesday's reaction indicated investors are now sifting through the fine print, said Darin Pope, chief investment officer at United Advisors of Secaucus, N.J.
He said Tuesday's market response was a bit of a reality check.
"It's the day after, and yes, the ability of the consumer to get a mortgage is better," he said. "But the economy is still struggling, the consumer is still strapped and we still have more work to do on the housing and credit market mess."
A weak reading on pending home sales in July demonstrated the persistent problems in the housing market, while the battering of AIG and Lehman Brothers reminded investors that the credit crisis is far from over.
Meanwhile, regional banks and insurers tumbled in the wake of the government takeover of the two mortgage giants. (Full story).
In other news, Standard & Poor's said late Tuesday that Fannie and Freddie will be removed from the Standard & Poor's 500 index after the close of trade Wednesday. The news is likely to send the stocks lower tomorrow as managers of index funds need to dump the stocks and buy their replacements.
Also after the close, FedEx (FDX, Fortune 500) lifted its fiscal first-quarter earnings forecast, saying it now expects to earn $1.23 per share versus current expectations for a profit of 95 cents. Shares gained 5% after the close.
Financials get hit: Lehman Brothers (LEH, Fortune 500) skidded 45% on worries that its going to have a hard time raising capital now that talks with the state-run Korea Development Bank have reportedly ended. KDB was thought to be considering buying as much as a 25% stake in the troubled bank.
In response to the stock decline, ratings agency Standard & Poor's put Lehman's debt on CreditWatch Negative, meaning it could cut the company's ratings within months.
Lehman says it will release details about its third quarter Wednesday. The company is expected to post a loss of between $2 billion and $4 billion.
The stock has been sliding of late, as investors worry about the brokerage's ability to raise capital, and whether it can sell some or all of its operations. Lehman has also been struggling in the shadow of Bear Stearns, which the government had to rescue earlier this year, and in the wake of Fannie and Freddie.
Lehman is a different situation than Bear Stearns in that it has more value, said Thomas Nyheim, portfolio manager at Christiana Bank & Trust Co. He said that, at Bear Stearns, the bad loans ultimately engulfed their other assets. But although the circumstances are different, the concerns are similar.
Additionally, Nyheim said Lehman is suffering in the wake of Fannie and Freddie because while the government intervention helped the mortgage giants' bonds, the stocks have been tumbling. There may be a similar bet about Lehman, he said.
"The thought is if the Fed comes in and takes action, Lehman bonds might be OK, like Fannie and Freddie, but Lehman equity-holders are going to get hit," Nyheim said.
Among other financial stocks falling, Washington Mutual (WM, Fortune 500) lost 20%, AIG (AIG, Fortune 500) lost 20%, Wachovia (WB, Fortune 500) lost 14.5% and Merrill Lynch (MER, Fortune 500) lost 10%. Citigroup (C, Fortune 500) and Wells Fargo (WFC, Fortune 500) both lost 7%, while Morgan Stanley (MS, Fortune 500) and Bank of America (BAC, Fortune 500) each lost over 6%. Dow components American Express (AXP, Fortune 500) and JP Morgan Chase (JPM, Fortune 500) each lost 5%.
The broad Philadelphia Bank sector index dropped 6% and the Amex Securities Broker/Dealer index tumbled nearly 10%.
Economic reports: Pending home sales fell 3.2% in July after rising in June, according to a report from the National Association of Realtors released Tuesday. The report is a forward-looking indicator of the housing market, tracking contracts signed during the month. (Full story).
Wholesale inventories rose 1.4% in July, according to a government report released Tuesday. That topped forecasts for an increase of 0.7%, according to a consensus of economists surveyed by Briefing.com. June wholesale inventories rose a revised 0.9%.
Meanwhile, federal officials warned Tuesday that the budget deficit will be substantially higher this year, rising $246 billion to $407 billion, reflecting the tax rebates and an increase in spending. (Full story).
Fannie and Freddie: The Bush administration said Sunday that it was taking control of the two companies in an attempt to help stabilize the battered housing market and bring down mortgage rates.
The plan included putting the companies under a government conservatorship, and replacing both chief executives. Additionally, the Treasury Department will put up to $100 billion in each company to keep them afloat, in exchange for senior preferred stock. (Full story)
The two government-sponsored firms own or back about half the mortgage debt in the country and have lost billions in the housing market collapse. The plan should lower mortgage rates by lowering Fannie and Freddie's borrowing costs.
There's a certain level of risk that's been taken out of the market as a result of this plan, said Tom Sowanick, chief investment officer at Clearbrook Financial, but that doesn't mean it can stabilize the housing market.
"It mitigates some of the pressure on housing, but it can't create demand," said Douglas Peta, market strategist at J. & W. Seligman. "Regulators have led would-be home buyers to water, but they can't make them drink."
What is more likely is that the plan means that "Wall Street will, at least for a while, be on good behavior," Sowanick said.
Companies will need to create structured products that will work, and there will be new regulation that will help better protect the investor, he said. "The way companies manage risk is going to be on the front burner for quite some time."
Dell (DELL, Fortune 500) founder Michael Dell bought $100 million of Dell shares last week, it was announced after the close of trade Monday. Shares of the PC-maker ended lower, giving up morning gains.
Market breadth was negative. On the New York Stock Exchange, losers beat winners by almost seven to one on volume of 1.69 billion shares. On the Nasdaq, decliners topped advancers by over four to one as 2.64 billion shares changed hands.
Fuel prices: Oil prices closed at a 5-month low Tuesday on bets that OPEC, meeting in Vienna, will hold production levels steady despite the recent price slide.
Also impacting oil prices: signs that Hurricane Ike is weakening and is less likely to cause severe damage to oil facilities in the Gulf of Mexico, which accounts for about 25% of U.S. oil production. (Full story).
U.S. light crude oil for October delivery slid $3.08 to settle at $103.26 a barrel on the New York Mercantile Exchange, the lowest close since April 1.
Prices have fallen more than $40 a barrel from a record high of $147.20 in July, on bets that a sluggish global economy is cutting into demand.
Gas prices declined for a ninth straight day, according to a national survey of credit-card activity.
Other markets: In the bond market, Treasury prices rallied, lowering the yield on the benchmark 10-year note to 3.59% from 3.67% late Monday. Prices and yields move in opposite directions.
The dollar slumped versus the yen and was barely lower versus the euro.
COMEX gold for December delivery fell $10.50 to $792 an ounce.