E*Trade stock halves in a day following sub-prime shocks

15 November 2007

E*Trade has a large stake in mortgage bonds tied to the American housing market. The US Securities and Exchange Commission (SEC) has ordered an inquiry into its investments. The company has admitted that it would have to write down its stake in collateralised debt obligations and other debt instruments.

Citigroup financial services analyst Prashant Bhatia said a bankruptcy filing could not be ruled out if customers lost confidence in E*Trade and withdrew their deposits, leaving the company without enough financing to operate. The company has $29 billion in customer deposits, around half of which are over the $100,000 threshold covered by federal deposit insurance.

It isn''t an improbable scenario. The run on British mortgage lender Northern Rock earlier this year was prompted by concerns about the company''s ability to finance itself in the short-term debt market. The run petered out only after public officials assured customers that the government would back their deposits.

In a note to customers on the company''s website, E*Trade president R Jarrett Lilien has assured customers that the brokerage has enough capital to meet regulatory requirements and would be able to absorb a write-down of as much as $1 billion.

Like many other financial companies, E*Trade built a significant mortgage business during the housing boom, giving housing loans and packaging them into securities, as well as by a investing in bonds backed by mortgages. The company''s approach was similar to the model followed by many investment banks.

On Friday, the company said it would have to write down part of its $3 billion portfolio of asset-backed securities, including bonds backed by first- and second-lien home loans. E*Trade also withdrew its earning forecast, which had already been lowered several times during the year.