Mad Money

Housing's Domino Effect

Cramer’s job is to try and make you mad money. But what’s even more important than making money is trying to preserve what you already have, and tonight Cramer stressed this point. In this market especially, the preservation of capital should be your first priority. That’s why Cramer is urging all Home Gamers to sell the banks, the brokers and the homebuilders – pretty much everything that has, or is going to be, affected by the ripple from the mortgage meltdown. If you preserve capital and cut the losses, the appreciation will come naturally, Cramer said.

Even when the tape is green and the market looks strong, you need to use that strength to reposition out of the bad sectors and get into what’s working. Take a look at Cramer’s doomsday portfolio of Celgene , Schlumberger , Kellogg , Kimberly-Clark and Medco Health . It’s on fire.

Here’s the deal. Sentiment has fundamentally changed on the Street, Cramer said, and it all boils down to housing.

Home Schooled

If you bought a home in the last two years, nobody wants it now, and, Cramer said, neither should you. If you recently bought a home, chances are it has declined in value by 10%. Cramer thinks it makes more sense for you to simply walk away rather than taking out one of those teaser loans along with a home equity loan.

If you’re one of these people who bought a home in 2005 or 2006, whatever you put into the loan has probably been wiped out, he said, and you can’t build equity and you can’t sell it. If you walk away, you’re making the smart move. You won’t be going to the poor house, you’ll just be renting.

Cramer thinks it’s the ripple effect from the decision many people are making to let the bank take their homes that is the real disaster in this market.

Because the homebuilders can’t sell all the new homes they keep building, Cramer believes most of them will go under – and that includes some of the major public ones. He’d sell HGX, the Philly Housing Index, on that premise.

After the homebuilders, the banks will get hit. Cramer believes a major bank that made a lot of these loans will fail before this is over. They haven’t reserved enough capital for so many people walking away from their homes so their earnings are too high. That’s why he’d sell the BKX, the bank index.

Perhaps worst of all: after these loans were packaged into bonds, a lot of them were sold to hedge funds, like the ones at Bear Stearns. Now the hedge funds own them and can’t sell them and the brokers who sold it to them won’t buy it. These hedge funds could go into withdrawal mode, Cramer said, which would make it tough for them close all these private equity deals. That’s why Cramer would sell XLF, the financial sector ETF.

Selling those three funds right off the bat – the HGX, BKX and XLF – is the best move to profit from the mortgage mess and also works as a hedge to what Cramer has been recommending that’s actually working. Unless the Fed cuts rates by 100 basis points, this situation probably won’t change until 2009, Cramer said. That’s a long time – so stick with stocks that are unaffected by people who are making the right decision to walk away from their homes.

Bottom Line: The problem sounds confusing, but Cramer has one solution that’s simple: sell, sell, sell anything relating to mortgages.

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