E*Trade looking for love from TARP

Reuters:

The troubles at E*Trade Financial Corp (ETFC.O: Quote, Profile, Research, Stock Buzz) have worsened and now hinge on whether it can secure U.S. government funds that would bring some relief to its book of bad mortgage loans.

Shares of the discount brokerage tumbled below $1 to its lowest price ever this week, indicating that investors think chances are slim it will secure the $800 million it applied for under the Troubled Asset Relief Program (TARP) rescue program.

Competitors, including Charles Schwab Corp (SCHW.O: Quote, Profile, Research, Stock Buzz) and TD Ameritrade Holding Corp (AMTD.O: Quote, Profile, Research, Stock Buzz), have said they are loath to bid for the smaller and now very cheap company, but have made no secret they covet E*Trade's brokerage business, which has kept it afloat despite the drag of its mortgage business.

Roger Freeman, a Barclays Capital analyst attending a business update hosted by Schwab this week, said E*Trade's existence "depends on whether it gets the TARP."

E*Trade's survival probably hinges more on whether its customers continue to drive growth, according to analysts. But after a string of quarterly losses, the TARP funding is vital for the near term. But there are serious doubts the company will qualify alongside larger banks whose collapse could further shake a weakened U.S. economy.

"The way the stock is trading now, it appears as though a lot of investors don't expect them to get the TARP funding," said one analyst, who did not want to be named due to E*Trade's delicate situation. E*Trade Bank offers credit cards, savings and checking accounts, and mortgage and home equity loans and hash about $28 billion in deposits.

About 5 percent, or $1.4 billion, of the customer deposits are not insured by the Federal Deposit Insurance Corp, according to the company.

The purpose of the government's TARP program is to capitalize struggling financial institutions so they can resume lending. Some analysts said it is unlikely that E*Trade, in crisis mode, will be able to lend.

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E*Trade's retail business has been driven by clever advertising on television. It is surprising to me that they invested so heavily in the mortgage business.

The discount brokerage business prospered by offering lower trading cost to small investors without offering the analysis and recommendations of the major firms. They also had much lower litigation expenses. Some had phone bank type brokers who basically were just order takers instead of salesmen. Each call is recorded which eliminated disputes over what the customer was told about a security purchase.

It appears that E*Trade, like its bigger competitors in the full service brokerage business also underestimated the risk of the mortgage securities business. The decision on the bailout may be weighed against the cost to the FDIC or SIPIC of liquidation. I think that decision may be a closer call than the market currently suggest. It would not surprise me to see them get some TARP funds with some strings attached.