May 6, 2008 - Fannie Mae announced disappointing earnings. But the stock went up. Is that a signal investors think the worst is over, that the future looks brighter for financial stocks? Maybe.

The company wasn't too optimistic. It sees severe weakness in the housing market to continue this year with increasing delinquencies, defaults and foreclosures on mortgage loans. Notice the use of the word increasing. CEO Daniel Mudd said he didn't thing a real recovery in the U.S. housing market would happen before 2010. In the most recent quarter Fannie Mae's mortgage credit book of business went up by 3% to $3 trillion.

So where does that leave investors, especially ones considering the financials? With a little bit of hope. That's because all the new capital being raised strengthens the balance sheets of the banks and lenders who were able or are going to issue new securities. With new capital, more loans can be made, ones that are more sane, more likely to be paid back.

One other note: all of the banks and thrifts have been booking loan loss reserves. Those reserves are a hit to earnings in the quarter in which they are taken. Then those reserves can be used in the future against losses. That way new losses will be taken against those reserves, not affecting earnings. In other words, there's money in the bank to use against future losses. If the reserves are adequate, future earnings for many lenders will be very strong when compared to the losses being taken now.

Does that all add up to a better time to invest in financials? It might. Some of the home builders are beginning to see fewer cancellations of new home contracts. Some lenders are showing decreases in the size of their losses. The worst does seem to be behind lenders, as far as mortgages are concerned.

But that isn't the only area of lending. There's also credit cards and home equity loans. Those are beginning to show delinquncies and some defaults. While not as large as the mortgage market, these loans could be another blow to earnings, especially if unemployment becomes a real problem. Be aware of more losses for banks coming from different parts of their portfolios. If those begin to snowball, the worst may still be ahead.

- Ted Allrich