Gun-To-The-Head Pick: FirstFed Financial Corp. (NYSE: FED) Short

This post was contributed by a guest author, and does not necessarily reflect the views of Richard or MovetheMarkets.com

I thought I’d give out a single stock pick, and as “The Fly” is wont to say, if someone had a gun to my head, I’d say “Shoot me if you must, but before you do…” Fly will probably melt this blog with an internets laser beam for stealing his shtick, but I live for action, remember?

Shoot me if you must, but before you do, short FED

Not to be confused with the Fed, FirstFed Financial Corp. (NYSE: FED) is a “holding company for First Federal Bank of California that provides various banking services in California”, including mortgages. They aren’t a sub-prime headliner since their specialty is in the Alt-A arena (which is starting to get attention along with sub-prime) in option Adjustable Rate Mortgages, where you can decide not to pay and the interest gets amortized negatively back into your loan balance. Note that American Home Mortgage used to be one of those lenders, and they imploded impressively recently.

This article from Seeking Alpha, while dated, does highlight the reasons why I think FED is in trouble. The gems below are for those who are “attention span challenged”:

Its mortgage portfolio is packed with risky loans known as option ARMS.

80% of its loans have little or no documentation to prove the borrower’s income or assets (Liar Loans –Prospectus).

The bulk of FirstFed’s income is derived from noncash earnings, largely from the deferred principal on its option ARMs. That so-called negative amortization constituted $223.9 million, or 68.4%, of the bank’s income before taxes in 2006, compared with 1.3% in 2004. In essence, FirstFed is booking profits on money it hasn’t collected.

Not only do they face default risk and the repricing of their mortgage portfolio, they also face the possibility of having to significantly restate their past income should they have a lot of defaults. They escaped relatively unscathed in the February-to-March sub-prime scare earlier this year, along with CFC, AHM, TMA and other “strong and unexposed to sub-prime mortgage troubles” lenders that are now being poleaxed. FED is kind of obscure, but once they make a few more headlines, I think that the bloodletting will begin in spades.

One problem is that a lot of the float is already sold short: 47.6%, so some strength in the stock or a change in the credit markets could start a good short squeeze. However, the short interest stayed high even in the face of the run-up from March to June this year, so I guess that’s a good sign that the shorts aren’t weak hands.

My price target on this one is 6, as in 6 feet under. I think they will cease to be, will join the choir invisible, push up the daisies and all that. I went short for a position trade today at $43.34, and with the sell off at the close today I may add more in the morning. A sharp rise here would cause me to reconsider the timing of my position.

As a side note, I had to LMAO at this timely recommendation. For your reference:

I guess $40 is the new $80? LOL

So “shoot me if you must, but” you know the rest…

**DISCLAIMER** I’m not recommending that you do anything. Do your own research and make up your own mind. Don’t just take the word of some moron from the internets about what you should do in the markets.

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This post was contributed by a guest author, and does not necessarily reflect the views of Richard or MovetheMarkets.com