Waiting Out the Economic Storm

The reality of an economic slowdown in the United States and globally took a step forward on Tuesday after the International Monetary Fund (IMF) suggested that the credit crisis that is spreading worldwide continues to be a major threat to economic growth.

The Federal Reserve has poured tens of billions of dollars into the fragile financial system along with concerted efforts from other global banks, but the impact appears to be minimal, as the economies continue to show signs of slowing.

In the United States, the credit crisis has already taken out The Bear Stearns Companies, Inc. (NYSE/BSC), but, as I have said in previous commentaries, it could get worse before the financial situation improves. The IMF said that the U.S. mortgage and credit crises could result in about a staggering $1.0 trillion in financial losses.

Recent bad news from key financial institutions should raise red flags. These include UBS AG (NYSE/UBS) announcing a dismal first-quarter net loss of $12.0 billion and the need to retain another $15.0 billion in new capital. Foreign banks are vulnerable to the U.S. credit crisis.

The bad news may sound endless, but the reality is the real threat the credit crisis is to the economy. Add in the high oil prices and you have a precarious situation.

My view is to wait out the current turmoil and watch for things to improve in the financial sector before jumping back in. The inherent sector risk remains high and makes investments in financial companies vulnerable to higher downside risk.

In my view, it could get worse, as the extent of the financial impact of loans and mortgages may yet to be uncovered. This uncertainty makes financial stocks a very risky bet at this time. Some may view bank stocks as a dividend play at this time, but the truth is that the downside risk remains significant and an unnecessary risk to take.