Your stocks at risk? How to know

By Harry Domash

If it eventually passes, the bailout bill may help stabilize the credit markets. But it wouldn't reduce the risk of your stocks getting trashed from the fallout of the mortgage mess. Here's why.

Mortgage makers such as American Home Mortgage, Countrywide Financial and many others made loans without worrying about the borrowers' ability to carry the debt. They didn't see much risk because U.S. home prices were skyrocketing, so defaulting borrowers could refinance or easily sell their homes.

However, when home prices started to decline, marginal borrowers defaulted in droves, forcing holders of mortgage-backed and related securities to take big markdowns. Those markdowns caused banks such as Bank of America (BAC, news, msgs) and Citigroup (C, news, msgs) to recognize huge losses, sent Lehman Bros. (LEHMQ, news, msgs) into bankruptcy and triggered the forced sales of Bear Stearns, Fannie Mae (FNM, news, msgs) and other companies.

With formerly solid players such as Merrill Lynch (MER, news, msgs) and Goldman Sachs (GS, news, msgs) teetering, investors became leery of lending money to anyone, and the corporate credit market tightened considerably.

Here's a look at the factors that might slow the growth of stocks in businesses seemingly unrelated to finance or housing:

Bad assets

Before everything crashed, the mortgage-backed securities that ended up clogging the credit markets with bad debt were judged investment-quality by major bond-rating agencies.

Undoubtedly, some corporations wanting to maximize returns on excess cash felt safe buying those securities. These corporations will mark down those assets, usually more than once, resulting in a big hit to earnings and, of course, pressuring share prices.

Tight credit

Even if the bailout program becomes law and works as planned, it will take months for the credit markets to normalize. In the meantime, corporations will have to pay more to borrow, and the higher debt-servicing costs will cut profits. Worse, corporations may find needed credit unavailable, forcing them to delay planned expansions or scale back current operations.

Here's how you can use MSN Money's financial data to determine whether your stocks are vulnerable to these risks:

Check: Bad asset risk

Corporations generally park excess cash in relatively safe investments such as money market funds or Treasurys. Such investments are labeled "cash and short-term investments" on the balance sheets on MSN Money. (They're labeled "cash and cash equivalents" on reports filed with the Securities and Exchange Commission.)

Funds invested in higher-risk securities are listed as "long-term investments" on MSN Money's balance sheets (though they're sometimes also labeled "short-term investments" on SEC reports). Since they were rated "investment-grade," mortgage-backed or related securities undoubtedly found their way into this category.

These are risky assets, even if they have already been marked down. Since the problems started, corporations have been marking down such assets every quarter. Asset markdowns cut earnings and usually trigger a share-price drop.

Go to MSN Money's Company Financial Statements page and enter the name or ticker symbol of a company you're interested in at the top right. Then select the "Interim" button to see the latest quarter's numbers.

Click on "Balance Sheet" to compare long-term investments with current assets, which include cash and items likely to convert to cash within a year, such as inventories and receivables.

In most instances, not all long-term investments listed will have problems. As a rule, consider balance sheets where the current assets exceed long-term investments as relatively low-risk. However, once long-term investments significantly exceed current assets, you're getting into risky territory.

To put these numbers in perspective, as of June 30, insurance giant American International Group (AIG, news, msgs) -- since bailed out by the U.S. government -- listed short- and long-term investments totaling $700 billion, compared with only $95 billion in current assets. Lehman, which recently filed for bankruptcy protection, on its May 31 balance sheet listed long-term investments totaling $269 billion versus $61 billion in current assets. (You can view the report here.)

By contrast, as of June 30, cash-rich Google (GOOG, news, msgs) listed $1.1 billion in long-term assets, compared with current assets of $16.3 billion.

This test will undoubtedly disqualify some stocks with rock-solid long-term investments. But unless you're willing to scrutinize each company's SEC report, it's better to be cautious and disqualify all stocks with high ratios of long-term investments to current assets.

Continued: Debt refinance risk

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