Subprime Lending Crisis are Bank Shares a Buy – Yes

Sometimes, investors sound halfway intelligent. When they say things like, “Well, in a bear market, it’s good to buy stocks in companies that produce basic necessities like food and energy,” they seem like reasonably rational people. However, when they drop bank stocks faster than a politician can drop his pants in front of a pretty intern, I have to shake my head and sigh.

Like food and energy, credit is a basic commodity. Our economy revolves around loans. In fact, most Americans have no problem shelling out most of their hard earned money and putting into the pockets of the banking industry. Most people pay far more in mortgage interest than their home is worth. Auto loans have a similar pattern. Businesses need start-up cash, college students need tuition money, and sadly most people would rather take out a loan for something like a home improvement project than save up for it.

Yes, the banking industry is facing a crisis. Even bond insurers like MBIA and Ambac are hurting as the financial institutions for which they provide service are thrown into turmoil. However, the industry is just too valuable to die. This fact is illustrated by the Fed’s recent and unprecedented action in ordering J.P. Morgan to purchase Bear Stearns. Whatever it takes, the industry will find a way out of its current situation.

Bank stocks may continue to decline, and may even have a sharp drop after this mini-rebound. While bullish trends plod upward as slowly as their bovine avatar, bear trends strike back with a quick swipe from the powerful paw of panic. It takes guts to jump in when the water is rough, but those who do have the courage to buy and hold financials will be rewarded in the long run.

Everyone wants to buy when things are looking good and sell when it’s getting ugly, but such actions are in direct opposition to the basic principle of “buy low sell high”. That catchphrase is easy to say, but hard to put into action. The inherent difficulty of watching your buying power temporarily plummet is why most private investors fail.

The best financial advice I ever heard is this: If you look at a dollar bill and see freedom, power, status, luxury, etc. (or worse yet, food, clothing, education, and shelter), then you should not start investing or trading. Only when you can look at a dollar bill and see a piece of paper can you have the detachment necessary to make good decisions.

Of course the idea of “paper” money is a bit antiquated! My version of this bit of wisdom is, “To make good decisions, you must be able to look at the balance in your trade account as the score in a video game. It’s a game you want to win, but it’s just a game. If you can’t view it that way, you’re not ready to play.”

To maintain personal integrity, I will admit I have sold puts on Ambac and MBIA as well as CIT group and am expecting to be assigned stock in all three companies. I have every intention of keeping that stock once assigned and then selling covered calls until the market rallies, the calls go in the money, and the stock is sold at a profit. I am slightly bullish on the financial industry, but mostly driven by desire for the deliciously inflated options premiums. Of course I sold calls as well (market neutrality is a cornerstone of my personal creed), and will sell puts if I end up short the stock come expiration Friday.

In other words, I have no personal interest in whether or not you buy financial stocks. My bullish musings are my honest opinion, since any major price swing in April could be bad for me. I would, however, appreciate it if you would buy some options in May. Especially the 12.5 calls on Ambac and the 20 calls on MBIA. I don’t particularly think they’re good investment, but I’ll be selling them.