Bill Fleckenstein points out the obvious - only, for some unknown reason, it wasn’t so obvious to those in the middle of the lending industry:
Bubbles have a way of masking what would otherwise be self-evident truths. And, as the credit bubble in real estate dies a dramatic, not-pretty death, a very simple truth has resurfaced: It’s not a viable business when you lend money to people you know can’t pay it back.
And he asks you NOT to listen to Wall Street analysts, for obvious reasons:
Case in point: New Century Financial (NEW). I have spilled plenty of ink on the subprime industry, including this one-time poster boy for lower-tier lending. But as New Century collapsed, most “analysts” continued to like it until the bitter end. Recently, with the stock poised to go under, Piper Jaffray finally decided to cut it to “underperform,” on the heels of a UBS downgrade. Not long before that, Bear Stearns had upgraded its opinion of New Century.
Apparently, dead fish are constantly seduced into buying companies whose fundamentals are clearly deteriorating by two false reference points, both of which revolve around the notion of cheapness.
Sometimes they’ll say a stock is cheap because it’s “down from” some kind of big price. For instance, they called New Century cheap at $15, since it was down from $50. It closed Friday at $2.34. Obviously, that concept is wrong, but you see it trotted out all the time.
The other false reference point is that a stock is cheap because its price-earnings ratio is low. The mistake there: People do not understand the caliber of the fundamentals that drive the E part of the P/E — the price-to-earnings ratio. New Century appeared cheap, but the business that drove the earnings was not viable. So, it’s not enough to look at the obvious numbers and state something is cheap. One must look behind the scenes and see what the business dynamics are in order to determine whether the earnings are, in fact, sustainable.