It's time for another episode of Extreme Home Makeover: Discount Broker Edition. E*Trade (NYSE:ETFC) is bowing out of the mortgage business, dramatically slashing its guidance as it maps out its exit strategy.

An emphasis on conventional banking services once set E*Trade apart from its rivals like TD AMERITRADE (NASDAQ:AMTD) and Charles Schwab (NASDAQ:SCHW). With home loan defaults on the rise, that diversification has proven costly for companies such as E*Trade and H&R Block (NYSE:HRB) that figured mortgage originations would be a logical way to expand while riding the housing boom.

In E*Trade's case, it's an albatross that reared its head late in the subprime meltdown. After all, there's nothing shabby about the company's second-quarter report. Revenues climbed 9% higher as earnings before a one-time hit in its institutional equity business rose by 17%.

E*Trade also spoke out last month, revealing that the quality of its loan portfolio is pretty good. Investors weren't convinced, though. Despite holding up well on the stock brokerage front, the market's appetite for E*Trade's shares hasn't been the same as that for its competitors.

9/17/07

YTD Gain

E*Trade

$14.21

(36.7%)

TD AMERITRADE

$17.78

9.9%

Charles Schwab

$20.04

3.6%

Just three months ago, E*Trade's guidance called for 2007 profits per share to come in between $1.58 and $1.72. Depressed share prices wooed value investors, figuring they were landing a bargain.

Well, they're getting less than they bargained for now. Loan losses, the potential of securities impairments, and a refined focus on retail growth find the company hosing down its guidance. E*Trade now expects to earn between $1.05 and $1.15 per share this year.

It's funny how a few months can change one's perspective. A year ago, E*Trade seemed like the teacher's pet among discount brokers with its diversified financial services portfolio. Big banks like Bank of America (NYSE:BAC) and Wells Fargo (NYSE:WFC) began offering commission-free trading, threatening retail trading growth. Now it seems that all of the brokers are doing just fine. Even after making sure it didn't jump into the fray of offering exotic mortgages to risky borrowers -- 74% of its home equity line customers have FICO scores of 700 or better -- E*Trade still took a hit.

The house always wins at the casino, but not on Wall Street.

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Longtime Fool contributor Rick Munarriz has been trading exclusively through discount brokers since 1990, but he does not own shares in any of the companies in this story. He is also part of the Rule Breakers newsletter research team, seeking out tomorrow's ultimate growth stocks a day early. Bank of America is an Income Investor recommendation. The Fool has a disclosure policy.