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Financial Stocks a Trojan Horse?

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Will the freefall in financial stocks take a breather?

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Whether it is today or the near future, I expect that the free fall in financial stocks will take a breather as the difference between what the market knows about the economy and what the market has priced into financial stocks reaches a breaking point.

But I would caution those looking to bottom fish in the financial space that over the past week, the cost of lifeboats has gone up dramatically. What do I mean by that?

First, as I wrote last week, the latest capital injections for Citigroup (C) and Merrill Lynch (MER) include "ratchet" provisions entitling these latest capital providers to improved terms should either Citigroup or Merrill Lynch return "in size" to the equity markets. And to be clear, those improved terms, should such a subsequent transaction occur, will cause significant dilution to existing shareholders.

Second, for investors in Countrywide (CFC), the merger agreement with Bank of America (BAC), with its abundant list of "conditions precedent to sale" make "signed, sealed and delivered" look much like "open to further negotiation" should things get worse.

For those financial services investors counting on further sovereign wealth capital or merger activity to buoy wounded bank and brokerage stocks, I would suggest that the actions of this past week look far more like "Trojan horses" than "good Samaritan" rescue missions. And with it, greater and greater risk is being transferred to existing shareholders.


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No positions in stocks mentioned.
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