This was originally published on RealMoney. It is being republished as a bonus for TheStreet.com readers.
Now it gets interesting. The House has voted down a deal that many, including me, thought was a done deal. I have played around a little in politics over the years, and I cannot believe that the House leadership bought the bailout bill to a vote without having the "yes" votes all lined up. Politics 101 says that if you control the chamber, you never allow a vote without first doing some basic counting.
The anticipation of a package has locked up credit markets. You would be foolish to make or get a loan if the rules governing the transaction were going to change in the next 48 hours. These markets will now remain pretty much locked until some clearer picture begins to emerge in the next several days. This is not going to be good for the economy or the markets. These will be interesting times indeed.
Most investors should probably just avoid the markets for now. We have injected a massive dose of political risk on top of the normal economic risks associated with investing. I have made no secret of the fact that I did not like the bailout bill and thought it was the wrong approach. The nation's political and economic leaders did like it, however, and pushed it hard. They assured us that it was the answer. They were unable to convince their own parties, much less reach across the aisle, to get the deal done.
The finger-pointing is starting already for the failure of the bill to pass. This does very little to reassure the markets. Each party is blaming the other, and everybody blames the mythical evil speculator. The damage now will come from the fact that the politicians convinced the credit markets that the package was needed and forthcoming. The inability of businesses to borrow money in the days ahead could be crippling.
TheStreet.com TV: Cramer: The Superbanks Don't Impress Me (Video, Sept. 29)
The newly merged banks offer little investment hope right now, says Jim Cramer.
Cramer: "These guys -- Wells Fargo (WFC) - Get Report, US Bancorp (USB) - Get Report, Bank of America (BAC) - Get Report, JP Morgan (JPM) - Get Report -- are winners. But remember, they're up huge... If these come back down, it will be of great interest to me."
To watch the full video, click the player below:
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Plus, don't miss this related video on TheStreet.com TV: Cramer: Surviving Banks Aren't Sure Buys (Sept. 30).
More aggressive investors know that crisis can lead to opportunity. The blood may not be in the streets, but at a minimum, the sidewalks are getting messy. If you have a high pain threshold, there are some trading situations that are worth looking into as a result of this mess.
A Banking Trade for Aggressive Chickens
Bank stocks got clobbered Monday
Sept. 29, and in some cases the baby got tossed with the bathwater. Some banks on the percent-losers list are not in terrible shape and have high equity-to-asset ratios. They are probably not going out of business and will be among the long-term winners in this mess. I am looking now at banks that have high equity-to-asset ratios and trade below tangible
. Three that I have talked about before are
Of course, it is important to keep in mind that I am a chicken trader. I am not just going to buy the stocks. I will be looking to do combination trades on these stocks, buying stock and selling
higher. I have suggested this type of trade on battered stocks before, and only one of them has traded below the break-even point. In spite of the downside volatility this year, with the exception of
, the other dozen or so are all still at a profit. The key to this trade in that you have to be willing to buy more stock lower and to sell your shares if the price moves to the call
To see how this trade can work, let's take a look at KeyCorp. On Monday afternoon, the stock was down 27% to $10.90. You could buy 1,000 shares at that price and sell the March 2009 $7.50 puts for $2 premium, and the $15 calls fetched $1.60. In all likelihood, you could do better than that, as the spreads were enormous, but I will use those numbers for my example. That's a 33% premium. In exchange, you agree to buy more stock at $3.90 ($7.50 minus the premium) and sell your shares at $18.60. Should that happen, would have a return of over 80% in just eight months. If the stock is between $7.50 and $15, you keep the stock and the premium. The numbers are equally compelling on Fifth Third and Regions.
Combination trades are not for the average investor. As I said, the average investor is probably best served by holding cash and avoiding the urge to buy stocks until a clearer picture emerges. But if you are an aggressive trader, this type of trade can be a great way to bet on the eventual recovery of the banking system and the stock market. The premiums collected give you a large cushion against market declines. In the worst case, you will end up buying more stock in cheap banks at prices 50% or more lower than the initial purchase.
I do not know if we get another bailout vote or just continue see arranged buyouts of the troubled institutions. I do believe that the banks that have excess capital could be major beneficiaries of this mess, and the combo trades are an aggressive chicken's way of betting on them.
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At the time of publication, Melvin had no positions in stocks mentioned, although positions may change at any time.
Tim Melvin is a writer from Stevensville, Maryland, who spent 20 years a stockbroker, the last 15 as a Vice President of Investments with a regional firm in the Mid Atlantic area. Under no circumstances does the information in this column represent a recommendation to buy or sell stocks. Melvin appreciates your feedback;
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