Lessons from Countrywide Financial—Finding the liquidity ‘sweet spot’

BVWireIssue #59-4
August 22, 2007

When Countrywide Financial filed its Form 10-Q with the SEC earlier this month, revealing its difficulties due to widespread disruptions in the mortgage-backed securities market, the company got hammered on Wall Street.  Its stock fell 10% within days—and helped to set the Dow Jones off on a wild ride of its own.  Several days ago, concerns about whether Countrywide could survive a market liquidity squeeze drove its shares from $28.80 to $15.31, but then Friday’s news of the Fed easing rates helped push the shares back to $23.90.

“Last week’s mortgage market turmoil highlighted why lack of liquidity drives the value of stocks, especially in relation to privately held companies,” says Brian Pearson (Valuation Advisors, LLC).  In the case of Countrywide, as the news of higher default rates on subprime and standard mortgages entered the financial markets, “investors in these securities could not easily assess how bad the ‘damage’ was to these mortgage portfolios,” he says.  “It also made investors realize the risk to their business was a lot higher than the market was aware, and that mortgage securities might not be worth their stated value.”  Rather than wait for the dust to settle, investors sold their stock, fearing that worse news was to come. 

Clearly, lack of future liquidity was a key driver in these dramatic events.  “Investors are willing to take large losses in the real world," Pearson says, "or, in the privately held world, they take discounts to reduce the price to where the rate of return becomes commensurate with the underlying liquidity or the risks any lack of liquidity presents.” 

Tomorrow’s teleconference.  Pearson is the founder of The Valuation Advisors' Lack of Marketability Discount Study™, the web-based tool used to quantify discounts for lack of marketability (DLOM).  Be sure to join him tomorrow, Thursday, August 23, 2007, for BVR’s teleconference on “Valuation Advisors and DLOM.”  In the framework of such current issues as the Countrywide crisis, Pearson will demonstrate how the Valuation Advisors database can help financial analysts pinpoint the “sweet spot” for dealing with lack of liquidity discounts in valuing the stock of privately held companies.  He will also take participants through step-by-step searches of the database, answering any questions in “real-time,” as they come up.  Registrants will also receive a special discount on database subscriptions. To register, click here.

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