3 Reasons to Sell E*TRADE Financial

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Editor's note: A previous version of this article erroneously characterized E-Trade's earnings guidance.

There are always a multitude of reasons to sell any stock. But some are more worthy of investors' attention than others.

With this in mind, I've identified the three biggest reasons current investors in E*TRADE Financial might want to consider offloading their positions.

1. It's time to take gains
Let's keep things simple: Shares of E*TRADE have nearly doubled in price since the beginning of the year even though, as I'll explain below, the company's sitting on large potential losses from its mortgage portfolio.

ETFC Chart

If that doesn't convince you, consider the fact that its shares now trade for almost 1.8 times tangible book value. That's roughly in line with the multiple you'd pay for Wells Fargo .

Now, you tell me, which would you rather own at that price?

2. Turnover at the top
Again, there's no reason to make this overly complicated. 

E*TRADE has had seven chief executive officers over the past six years. 

Most recently, Chairman and Interim CEO Frank Petrilli relinquished both roles at the beginning of this year -- the chairmanship to former Fidelity Investments President Rodger Lawson and the latter to previous Barclays Chief Operating Officer Paul Idzik. 

You do the math.

3. It's sitting on huge latent losses
E*TRADE's balance sheet is like the Ghost of Christmas Past.

According to its most recent 10-K, the carrying value of its home equity and residential mortgage portfolios was $9.3 billion. Meanwhile, the market value was $8.2 billion.

While it's accumulated roughly $420 million in loan loss reserves, the rest of that $1.1 billion will eventually have to come from somewhere -- unless, of course, E*TRADE's prayers come true and they miraculously recover in value.

To add insult to injury, most of the company's $3.6 billion in home equity loans are still in the interest-only phase of their life cycle.

What happens when principal payments start kicking in over the next four years? Your guess is as good as mine, but one would be excused for concluding that default rates will skyrocket.

Does this mean you should sell?
As a general rule, we are buy-and-hold investors here at The Motley Fool. Yet, I can't help but to be skeptical about E*TRADE's chances of heading considerably higher anytime soon. There's simply a limit to how much rational investors are willing to pay for its shares.

The most likely exit strategy for the brokerage company going forward is a third-party buyout. But is that something you're prepared to bet on? And if you are, do you think a suitor would pay a premium to 1.8 times tangible book?

I, for one, wouldn't bet on it.

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The article 3 Reasons to Sell E*TRADE Financial originally appeared on Fool.com.

John Maxfield has no position in any stocks mentioned. The Motley Fool recommends and owns shares of Wells Fargo. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.

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