A report last week in The Wall Street Journal said the Federal Housing Administration (FHA) might need a bailout amounting about $1B from the U.S. Treasury by the end of the month.
The FHA: a dwindling role?
The need for a fund infusion has been primarily caused by loan delinquencies, which appear to be underestimated by the FHA when drawing up profit estimates, and the inability of the agency to factor in the recent increase in housing values (a constraint of the budgeting process) into its profit estimates for the year. The budgeting, done last December, projects home prices and delinquencies as forecast then, but the benefit of the recent rise is not therefore accounted, hence the need for funds.
There is, however, a third and significant reason. The FHA, due to governmental pressures, has been hiking up its mortgage insurance premium rates. This has affected the agency’s competitiveness and led to more business flowing over to private insurers such as MGIC Investment Corp. (NYSE:MTG), Radian Group Inc (NYSE:RDN) and Genworth Financial Inc (NYSE:GNW). Needless to say, this has affected the revenue flow into the FHA’s coffers.
The smart money
But this has proved to be a bonanza for the private insurers, and savvy investors such as John Paulson have quickly spotted this opportunity. The firm acquired stakes in MGIC Investment Corp. (NYSE:MTG), Radian Group Inc (NYSE:RDN) and Genworth Financial Inc (NYSE:GNW), betting on a phoenix-like recovery in the sector after it almost flamed out in the housing crisis.
Other positive factors for the private players
Besides benefiting from the reduction in the FHA’s competitive edge due to its pricing, the private insurers are also getting a leg up from regulatory easing and the improving dynamics in the housing market.
Genworth Financial to benefit from reversal
Genworth Financial Inc (NYSE:GNW) is also likely to benefit from the reversal in the fortunes of the industry. “We think the mortgage insurers should continue to be a good investment” for the foreseeable future, says Charles Murphy, a Paulson partner. New policies being sold now have the advantage of high credit quality, and the insurers are “rapidly rebuilding capital, because the profitability is so high,” Mr Murphy said.
Here’s a snapshot on Genworth Financial Inc (NYSE:GNW) from UBS’ Compendium of Investment Thesis for Financials.
Business strengths: Genworth Financial Inc (NYSE:GNW) provides US Life Insurance and Global Mortgage Insurance as well as International Protection mainly in Europe. As of June 30, 2013, it had $108B of assets and $11.5B equity.
Industry outlook: Changes in long-term interest rates can prove beneficial in the near term, however GNW’s Book Value Per Share (BVPS) could lag the industry average.
Likely price range: On the Upside (P/B multiple of ~0.7x) , or $16 per share, and on the Downside (P/B multiple of ~0.4x), or $10.50 per share.
Rating and PT: UBS have a 12-month rating of Neutral on the stock and a price target of $11.50.