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Credit crisis seen extending into 2009

Tue Jul 1, 2008 9:57am EDT

(Reuters) - Analysts at Morgan Stanley said the credit crisis fallout would extend into 2009, and that mortgage asset overhangs will drive additional write-downs as brokers struggle to de-risk their balance sheets.

"Risk management failures stemming from the credit crisis will continue to weigh on the group as brokers try to draw down illiquid assets, deleverage balance sheets, and fortify liquidity and capital positions," analysts Patrick Pinschmidt and Avi Ghosh said.

They initiated coverage of the U.S. brokers' sector with an "in-line" view, and said they favor U.S. brokers over U.S. large-cap banks and European universal banks.

Goldman Sachs (GS.N: Quote, Profile, Research, Stock Buzz) and Lehman Brothers Holdings Inc (LEH.N: Quote, Profile, Research, Stock Buzz) were started with "overweight" ratings and price targets of $205 and $31, respectively.

The analysts said they expect Merrill Lynch & Co Inc (MER.N: Quote, Profile, Research, Stock Buzz) to write down an additional $6.4 billion, or $4.4 billion after tax, over the next three quarters, and said the world's largest brokerage will need to raise $4 billion more in capital through the year-end.

They started Merrill with an "equal-weight" rating.

Merrill and Lehman are both susceptible to continued credit market erosion, but Lehman has raised sufficient capital to absorb expected losses over the next two quarters, they said.

"We see a forced fire sale at a distressed discount to book value as highly improbable, and thus see little reason for the firm (Lehman) to explore a sale at this juncture."

Morgan Stanley named Goldman Sachs as its top pick in the group, saying balance sheet restructuring was less of an issue for Goldman relative to more hobbled peers.

It, however, said it sees more upside potential in Lehman shares.

Shares of Lehman Brothers were trading up nearly 3 percent at $20.37 in morning trade on the New York Stock Exchange, while those of Merrill were up almost 2 percent at $32.20. Goldman shares were trading down 0.68 percent at $173.71.

Through Monday, Lehman shares have plunged nearly 70 percent this year, compared with a 30 percent drop in the Amex Securities Broker-Dealer Index .XBD.

Shares of Merrill have fallen 41 percent this year, while those of Goldman are down 19 percent.