Merrill Lynch: Suckers For A Bubble

January 17, 2008

There seems to be quite a bit of surprise among Wall Street today at how much money Merrill Lynch (MER) lost in the great housing bubble:

Merrill Lynch & Co., the world's largest brokerage, lost nearly $10 billion in the last three months of 2007, its biggest quarterly loss since it was founded 94 years ago, after writing down $14.6 billion of investments slammed by the ongoing credit crisis….Merrill Lynch posted a net loss after preferred dividends of $9.91 billion, or $12.01 per share, compared to a profit of $2.3 billion, or $2.41 per share, a year earlier….Wall Street analysts had been forecasting a loss of $4.93 per share…"

This shouldn’t surprise mutual fund investors: Merrill Lynch is a sucker for bubbles.

Sure most investment banks are guilty of letting irrational exuberance get in the way of rational analysis, but Merrill Lynch has earned a special place among big money managers as the firm that thinks rising tides that lift all boats never recede.

One gem is this New York Times editorial by Bruce Steinberg (then chief economist for Merrill Lynch) penned in October 1999, countering the growing belief among skeptics that the stock market had become a dangerous bubble:

But the doomsayers are looking for signs of disaster where none exist. The American economy has performed better in the 1990's than at any time in history, and there is no end of that success in sight….The bubble theory rests on arguments that the stock market is overvalued…Assets are said to have become overvalued, leading to overconsumption and an overheating of the economy that will inevitably end in a violent correction -- a stock market crash. But this argument will not stand up to a careful analysis…

The pessimists' misinterpretations begin with stock prices, which have indeed grown rapidly... However, values are highest in the sector where growth prospects are highest and demand is accelerating: technology. With the technology stocks excluded, the price-earnings ratio for the rest of the companies in the index is around 19. Adjusted for interest rates, that's comfortably in line with the experience of the past few decades."

This was less than five months before the S&P 500 peaked and then promptly fell around 50%. The S&P 500 today is almost exactly at the level it was over eight years ago when this cry for more insanity was penned (Merrill Lynch stock is currently lower than it was then, but that hasn’t stopped hundreds of millions in bonuses from being paid). Steinberg was fired in 2002 at the very bottom of the market.

Mutual fund investors know Merrill’s past bubble follies. Merrill Lynch launched the infamous (at MAXfunds anyway) Merrill Lynch Internet Strategies fund on March 22, 2000, within days of the market peak. The launch arrived just in time to bring in over a billion dollars (with a sales load…) before diving nearly 80% in the first year alone.

Merrill quietly swept this fund under the rug, just in time to miss the second wave of internet investing which has carried Jacob Internet (JAMFX) up 240% over the last five years. Apparently Merrill moved on to home loans. Talk about buy high, sell low.

As a nervous fed chairman noted today in congressional testimony, one out of every five dollars of the $1 trillion in subprime mortgages outstanding are now delinquent – and expectations are for this number to rise.

Investment banks are supposed to be run by the best of the best when it comes to allocating capital – that’s why they get paid the multimillion dollar bonuses right? Who decided owning billions worth of loans made to people with bad credit who stretched to buy a home that doubled in price before they bought was a good way to make 6-8% on your money? Probably people who got some very big bonuses in recent years.


Merrill Lynch
Anonymous — POSTED January 18th, 2008 3:01PM

They must still have plenty of money, every other recent TV add is about how they are still the greatest thing since sliced bread !!