Is This Real Estate Stock a Great Value or a Value Trap?
Last year, historically low interest rates spiked mortgage market activity, and the breakneck real estate market resulted in a year of record mortgage lending. However, given rising mortgage rates, economists are forecasting a slowdown in lending activity through 2022.
As a result of this slowdown in lending Mr. Cooper Group (NASDAQ: COOP), a residential real estate mortgage lender, trades at a discounted price-to-earnings (P / E) ratio of about 2.8. In light of this shift in the mortgage market, the lender took strategic steps and reduced assets in 2021 to become a “mega-service provider” – a move he believes will help the company thrive over the long term. With its cheap valuation and strategic shift, is Mr. Cooper Group a buy?
Low mortgage rates benefited the lender, but a slowdown is emerging
Mr. Cooper Group is a residential real estate originator and servicer of mortgage loans. In 2020, the lender’s origination segment saw good volume growth and higher margins due to the low interest rate environment. In 2020, the lender’s revenue grew an impressive 36%.
In the last quarter of the report, the Mr. Cooper Group had sales of 574 million US dollars, 7% less than in the same quarter of the previous year. Total revenue through the first half of 2021 is $ 1.8 billion, up 108% year over year. However, investors should keep in mind that this comparison includes the first quarter of 2020, when the economy and mortgage lending came to a standstill.
Image source: Getty Images.
The company saw an increase in other income in the second quarter as it started its title business. sold Blend Labs for $ 500 million. The sale brought the Cooper Group $ 486 million in profit, which was reported as other income for the quarter. The sale also resulted in net income of $ 439 million, up from $ 73 million for the year-ago quarter; Diluted earnings per share for the second quarter were $ 4.85, compared to $ 0.77 a year earlier.
One reason the Mr. Cooper Group and other mortgage lenders have low P / E ratios is the cyclical nature of the mortgage lending business, which results from its relationship to mortgage rates. The Cooper Group benefited from the low interest rates in 2020 and the active refinance and purchase mortgage markets of the year. These factors resulted in impressive sales and earnings growth – gains that are difficult to replicate. As a result, mortgage lender stocks like that of Mr. Cooper Group tend to trade at cheap valuations. As lending slows down, investors begin to price in lower income and slower income growth.
“Indications of declining demand”
Economists at Freddie Mac Project total mortgage loan amount of $ 3.9 trillion in 2021, up from this government-sponsored company’s previous forecast of $ 3.5 trillion in April. According to Sam Khater, Freddie Mac’s Chief Economist, “Despite the recent highs in the real estate market, there are signs of declining demand in recent home mortgage application data. We expect refinancing activity to slow as higher mortgage rates dampen activity. “
Freddie Mac projects are set to decline to $ 2.6 trillion next year.
In response to the slowdown in issuing activity and the associated rise in mortgage rates, management positions the company more as a mortgage loan service provider, collecting payments and keeping records to better position itself for years to come.
The company has set a goal of $ 1 trillion in unpaid principal (UPB). UPB represents the amount of unpaid principal on their mortgage loan. Management uses this metric along with service fees to estimate future revenue streams from its service portfolio. The Mr. Cooper Group currently has $ 654 billion in UPB, an increase of nearly 14% from Q2 2020.
Positioning for industry consolidation
Cooper Group management sees massive consolidation in the mortgage loan industry. It envisages a market that is dominated by a few companies that it calls “mega-service providers”. To become one of those mega-service providers, the company has been mining assets, building its balance sheet, and positioning itself for the future.
On August 23, the lender announced the sale of Xome. known Voxtur Analytics. The sale is expected to be completed in the third quarter. In addition, the company sold its reverse mortgage servicing portfolio and securities business last year. Leaving these businesses “will help us focus on our core business,” said CEO Jay Bray. Your sale will also help increase the company’s capital ratio above the 15% target.
The Cooper Group has taken strategic steps that will benefit its business over the long term. It has the expectations to be one of the leading service companies in the country. She knows that issuance will slow down if mortgage rates normalize and the economic recovery continues. While these moves position the company well, it is still a highly cyclical business and mortgage rate sensitive. This is a stock I’ll be avoiding for now.
This article represents the opinion of the author who may disagree with the “official” referral position of a premium advisory service from the Motley Fool. We are colorful! Questioning an investment thesis – even one of our own – helps us all think critically about investing and make decisions that will help us get smarter, happier, and richer.