Duff & Phelps Credit Rating Co. last week put several specialty mortgage lenders on a ratings watch, citing shrinking capital.

The lenders, which rely on short-term warehouse facilities, securitization, and whole loan sales for funding, could be hurt as potential creditors become more conservative and profits dry up for securitization and loan sales, Duff & Phelps said.

Put on "ratings watch-down," indicating the potential for downgrades, were Aames Financial Corp. of Los Angeles; Advanta Corp. of Spring House, Pa.; FirstPlus Financial Group of Dallas; Mego Mortgage Corp. of Atlanta; and United Companies Financial Corp. of Baton Rouge, La.

Potential rating actions include a reaffirmation at the current level, a downgrade within the current rating category, and a more sizable downgrade outside the category, Duff & Phelps said.

Finance companies have suffered from stock slides in recent months. Rising prepayments due to interest rate declines caused several lenders to restate earnings, spooking equity investors.

Several large firms that grant warehouse lines to these companies are also pulling back from the sector.

Most recently warehouse lenders First Union Corp., Lehman Bros., Morgan Stanley, and Greenwich Capital discontinued lines to Southern Pacific Funding Corp., Lake Oswego, Ore. Last week the company filed for bankruptcy.

"As investment banks and Wall Street dealers are pressured to reduce certain exposures, the stability of warehouse facilities is of paramount concern," Duff & Phelps said.

In addition, the rating agency noted, highly leveraged firms must have resources to meet margin calls.

For companies that have announced they are looking for partners to provide cheaper capital, successful completion is essential, Duff & Phelps said. Aames, United Companies, and FirstPlus are all in this category.

Several banks have bought into the specialty finance markets and now compete against the remaining companies, "adding urgency" for stand-alone companies looking for a partner, Duff & Phelps said.

Several have also suffered hedging losses. Customary interest rate hedges using the U.S. Treasury yields are "no longer effective," Duff & Phelps noted.

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