A Citi analyst has downgraded E*Trade to 'sell' and warned of a potential bankruptcy risk after the online broker reported news of further mortgage-related losses, the withdrawal of earnings guidance and an SEC investigation into its capital markets business.
Shares in E*Trade dived over 30% to $5.95 in early trading in the US after Citi analyst Prashant Bhatia reportedly downgraded the company from 'hold' to 'sell' and cut his price target to $7.50 from $13.
According to an AP report, Bhatia states that the "negative news flow" from E*Trade increases the likelihood of "significant client attrition" and therefore "bankruptcy risk cannot be ruled out".
Banc of America analysts also cut their price targets for E*Trade after the broker released a statement on Friday saying it expects further write-downs on its $3 billion asset-backed securities portfolio, which weren't taken into account when the firm updated its 2007 earnings outlook on 17th October.
E*Trade says its total exposure to collateralized debt obligations of asset-backed securities and second-lien securities was about $450 million in amortised cost as of 30 September. The $450 million includes about $50 million of "AAA" rated asset-backed CDOs that were downgraded to below investment grade, the company says.
"Actual securities-related losses will depend on future market developments, including the potential for future downgrades by rating agencies, which are extremely difficult to predict in this environment," says the statement.
As a result of all this, E*Trade says its management believes "it is no longer beneficial to provide earnings expectations for the remainder of the year".
The New York firm also disclosed in a filing that the US Securities and Exchange Commission (SEC) was investigating whether its capital markets division executed "proprietary orders" ahead of customer orders - known as 'trading ahead' - during the period 1999 to 2005.
E*Trade said in September that it would shut down its wholesale mortgage operations and streamline its direct mortgage lending business to focus on its retail franchise after being hit by the US mortgage market crisis. The broker is also restructuring its institutional sales trading business "to better align it with retail activity".