Marcial: Bullish on Merrill Lynch? No

Take your pick: dump Lehman Brothers (LEH), or Merrill Lynch (MER)? While Lehman's free fall on Sept. 9 (BusinessWeek.com, 9/9/08) seized the market's attention, some big investors have decided to jettison Merrill's shares, too. Why? They say with additional writedowns expected from the investment bank, its stock, now at 25.15 a share, looks more vulnerable to downswings than Lehman's, which hit a new 52-week low, at 8.59 a share. Just a week ago shares of Lehman traded at more than 16, tumbling from a 52-week peak of 66 on Feb. 1.

Merrill had also been one of the market's highfliers, streaking to a 52-week high of 78.66 nearly a year ago on Sept. 19. However, the firms shares have since been on the ropes and are poised to sink below a 52-week low of 23.82 reached on Aug. 18. (A Merrill spokeswoman declined comment for this story.)

The reason: Merrill is expected to report more writedowns of distressed assets for its third quarter ending Sept. 30. According to Oppenheimer (OPY) analyst Meredith Whitney, the firm may report writedowns of $8.2 billion, including previously reported charges of $5.7 billion. As a result, Whitney, who rates the stock underperform, figures the giant securities and investment company will post a loss of $10.50 a share in 2008, only slightly better than a reported loss of $10.73 in 2007.

Headed for a New Low?

Also negative on Merrill is Goldman Sachs (GS) analyst William Tanona. He downgraded the firm's rating to a sell on Sept. 4, anticipating the stock will decline to 22 a share within six months. (Goldman owns Merrill stock and has conducted investment banking and other business services for the company in the past 12 months.)

With the credit markets still under pressure, Tanona believes Merrill's shares will continue to be plagued by writedowns—in addition to those the firm took after the partial sale of its collateralized debt obligations to private equity firm Lone Star—and deterioration in its book value. As a result, he sees no reason why the stock should be trading at its current price. Tanona wrote in a recent note to clients that Merrill is still trading at the highest price-to-book value multiple in Goldman's large-cap brokerage universe, "despite having some of the most significant exposures to troubled assets such as CDOs, mortgages, and leveraged loans."

Moreover, the Goldman analyst expects Merrill's stock to fall further when the firm reports third-quarter financial result, which he expects to be "very weak," in part due to softness in investment banking and other financial services. Tanona figures Merrill will be unable to avoid additional writedowns in the coming quarters because of further deterioration in the credit markets, particularly mortgages.

In the third quarter, he expects Merrill to report a loss of $5.75 a share, vs. his earlier estimated loss of $4.75 a share. For the year, Tanona forecasts a loss of $11.55 a share on revenues of $14.6 billion, higher than his earlier expected loss of $10.25 a share on revenues of $16.8 billion. He figures Merrill will return to profitability by the end of 2009 with earnings of $2.50 a share.

But that's a long way off for Wall Street. Until then, Merrill, famous for its slogan "bullish on America," may have a hard time outrunning the bears.

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