Tuesday, February 27, 2007

Class action against NovaStar

Various law firms are beginning to file lawsuits seeking class action status on behalf of NovaStar stockholders who’ve purchased stock between May 4, 2006 and February 20, 2007. The company is believed to have knowingly concealed the following facts: its projections were based on defective assumptions about loan delinquencies, because internal controls weren’t operating; its financial statements were misstated due to improper accounting practices which did not allow for loan losses; NovaStar would have to tighten its underwriting guidelines which would result in lower origination volumes and therefore lower earnings; the company could not guarantee it would maintain its taxable income and its Real Estate Investment Trust (REIT) status.

The company’s stock closed at $8.48 on Friday, according to the New York Stock Exchange website. Earlier in the week, its shares traded at $17.33. The press has named the NovaStar depreciating process a “free fall” and there’s reason enough: various investors say they suspected something wasn’t right long before the news came out and now anyone who still holds these stocks is trying to get rid of them.

On February 20th, the company announced it earned negative income in the fourth quarter of 2006, sending shares of subprime lenders on a rollercoaster ride downwards. It seems that stockholders in the subprime sector are starting to treat bad news on any company as an indicator of hardships in the entire industry, even though we’re often told that each company’s accounting policies and financial practices are different. Thus when a company goes down it drags other subprime lenders with it. This happened when New Century said it had overstated its earnings for 2006 due to accounting mistakes and it happened again last week after NovaStar reported financial loss in 2006. The free fall has so far caused several companies to lose half their value and I wonder, where is the bottom? Another lending company, Eagle First Mortgage, was shut down over the weekend, so how many more will have to collapse before the market is back on track? And how long is it going to take?

Meanwhile, the ABX.HE index, which tracks credit default swaps (CDS) on subprime mortgage-backed securities, fell to a record low of 69.39 on Friday, down from more than 90 earlier in February. As subprime lenders go bankrupt or report poor results, investors have begun to avoid purchasing these securities and indexes take a plunge.

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