The bloom is off the rose for stocks of companies that lend to customers with credit problems-at least as far as stock investors are concerned.
Subprime mortgage and auto lenders, once the darlings of Wall Street, have experienced phenomenal declines in share price since the beginning of the year, and analysts wonder if the sector is ever going to come back.
The exodus of momentum investors-those who buy when a sector is hot and move quickly away when it cools-has caused the drop, said Len Blum, analyst with Prudential Securities.
Such investors "have the tendency to make the pendulum swing fast, because they control so much money," he said.
In late January, subprime auto lender Mercury Finance significantly restated earnings after discovering that its profits had been inflated by unauthorized accounting for four years.
The fallout from the announcement was felt throughout the subprime sector, with home lenders' stock taking the hit along with auto lenders. Even established companies like Aames Financial Corp. suffered declines of up to 40% in share price.
Analysts and subprime home lenders insist that business is very different from subprime auto lending, but investors don't seem to be listening.
"There's a lot of trepidation out there" about subprime lending in general, said Michael Durante of Prudential Securities. "Everyone is suspicious now, and it will take some time for investors to regain confidence."
Recent events in the auto sector havn't helped matters much. Last week, First Merchants Corp., Deerfield, Ill., announced it would restate earnings because of employee fraud, and Olympic Financial Ltd., Minneapolis, reported a $75.3 million loss after a special charge to correct accounting irregularities.
First-quarter earnings for subprime mortgage companies have been strong, with most companies reporting increases of more than 50% over the year- earlier period. But rising delinquency rates reported by Money Store and Southern Pacific Funding Corp. jarred investors again.
Credit Acceptance Corp. reported strong earings, but its stock price plummeted nonetheless.
Analyst Jordan Hymowitz of Montgomery Securities Inc. downgraded the stock on the basis that the Southfield, Mich., company's loan growth was slipping.
The decline has made "sitting ducks" of the companies, leaving them wide open for takeovers, said Bear, Stearns & Co. analyst Jonathan Leiberman. "Stocks are trading at ridiculously low prices," he added.
Analysts expect prices to creep back up as companies consolidate, and clear industry leaders emerge. The sector rallied on Thursday, with some companies' shares gaining as much as $2; the plunge resumed on Friday.
Stock for subprime mortgage lenders may never return to pre-January heights, analysts say.
"This industry hasn't been tested in a recession," said Moody's Investors Service analyst Thomas Foley, adding that investors seem to be wondering whether the companies will survive.
Mr. Foley recently downgraded the subordinated debt of Cityscape Financial Corp., Elmsford, N.Y., citing high delinquencies and risky leverage. Some other companies in the sector are also highly leveraged, he noted, because they overbook projected earnings from securitized loan pools.
And Oppenheimer & Co. analyst Steven Eisman cut his 1997 earnings-per- share projection for Cityscape to $2.40 from $2.75.
Though disheartened by the downturn and frustrated by being swept into the subprime auto hole, executives in the subprime mortgage industry swear the segment will rebound.
"There are still a lot of good companies out there," said Mark Mason, chief financial officer for First Alliance Corp., an Irvine, Calif., subprime lender.
Both Mr. Mason and First Alliance chief executive officer Brian Chisick are "significant investors" in other companies in the sector, Mr. Mason said.
The two have already committed to purchase shares of Long Beach Mortgage, a subprime mortgage lender that is going public. Pricing for the deal, which was originally scheduled for April 17, has been postponed to today because of market conditions.
"I personally am very optimistic about return of investors and value" to the sector, said Mr. Chisick. "The fundamentals are there, the companies are making money."
