Bear Stearns Shrugs Off Subprime Worries

The Wall Street firm overcame weakness in its mortgage biz thanks to its strength in fixed-income

Since Bear Stearns (BSC) does much of its business in debt markets including mortgage lending, investors have worried about the New York financial services firm during recent weeks as the subprime market melts. But Bear Stearns has a diverse mix of businesses. The company on March 15 posted stronger profits during the three months ended Feb. 28, as its sales improved in other businesses besides mortgages.

Net income for the February quarter amounted to $554 million, up 8% compared to the same period last year. "We are pleased with this excellent performance," CEO James E. Cayne said in a press release March 15.

To be sure, Bear Stearns' residential mortgage-related revenues did suffer compared to the same period last year, as the high-risk lending market implodes. Subprime specialists like New Century Financial, NovaStar Financial (NFI), and Accredited Home Lenders (LEND) have barraged investors with news in recent months that has ranged from major losses to bankruptcy.

But the more companies struggle, the more work there is to do in distressed debt, which is sold by those who are in dire financial straits. Bear Stearns' business in that area as well as credit derivatives ended up producing record results during the quarter. The company's net revenues were $2.5 billion for the 2007 first quarter, up 14% year over year.

"Even though Bear's bread and butter has historically been in fixed income, given the slowdown in the residential mortgage market--meaning lower demand for mortgage-backed securities--we were impressed that Bear's credit derivative and distressed debt products more than picked up the slack," Morningstar analyst Philip Guziec said in a note.

Not that Bear Stearns is necessarily out of the woods.

"We remain concerned by the firm's exposure to the subprime mortgage market, although we believe much of the recent selling on the news has been overdone, and we see a number of positive catalysts for the business," Standard & Poor's equity analyst Matthew Albrecht said in a research note. (S&P, like, is owned by The McGraw-Hill Companies.) Albrecht reduced his earnings forecast for the year ending November, 2007, which brought his 12-month target price on the stock down by $8 to $157 per share.

Investors bid up Bear Stearns by 2.4% to $148.80 per share in afternoon trading on the New York Stock Exchange Mar. 15. The stock has fallen from its high of the year at $172.61 on Jan. 18, as market players worried about the mortgage lending industry's potential toll on the bank.

Bear Stearns wasn't the only one to try to assuage market fears on March 15. IndyMac Bancorp, Inc. (NDE) insisted that its exposure to subprime mortgages is small and it has been inappropriately categorized by many media sources as a subprime lender.

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