Mortgage Lenders: Close to the Edge?

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Still, it relies on the secondary market to unload most of the loans it originates, which caused a recent SEC filing to scare investors. The firm cited "unprecedented disruptions" on mortgage markets and noted "our capacity to retain mortgage loans and mortgage-backed securities is not unlimited."

Nonetheless, executives and many analysts believe it has enough to cash to keep more loans on its balance sheet until the secondary market returns to normal.

"Countrywide is the best-positioned mortgage originator to handle the disruption," Morningstar (MORN) analyst Ryan Lentell wrote recently. If the market disruption lasts just a few weeks, it would be merely "a hiccup" for Countrywide earnings. "The disruption would have to last for a year or more to place Countrywide in serious financial distress," he wrote.

Or as a Friedman Billings Ramsey (FBR) analyst Paul Miller wrote in late July, even as the firm downgraded the stock: "We still view Countrywide as 'best of breed' in the space, with more than 18% market share and growing as many competitors fall by the wayside." (FBR is also in the morgage business through a subsidiary.)

Despite the optimism, there are no shortage of reasons to worry about Countrywide.

Plesser says 37.5% of the loans it holds are option ARMs (adjustable rate mortgages), "a very dangerous type of loan in this environment." He worries defaults on the loans are about to spike, following the high defaults on subprime and other types of mortgages.

What could help the mortgage industry find its equilibrium?

First on everyone's list is an interest rate cut by the Federal Reserve. Among other effects, indebted homeowners could refinance their mortgages at better rates.

Second, the panic could die down on the secondary markets. But that could take a while.

Markets "are beginning to sober up," said James Trozze, chief executive of research firm Copell Financial. "They're in a hangover phase. That can last a while," he says, perhaps into early 2008.

S&P's Plesser notes that problems on the mortgage credit market aren't just irrational anxiety. It's based on fundamentals: American homeowners are having trouble making mortgage payments. Don't expect the mortgage industry to recover until the news on defaults improves. "These loans have to perform," Plesser says. (S&P, like BusinessWeek, is a unit of The McGraw-Hill Companies.)

Steverman is a reporter for BusinessWeek's Investing channel.