Jonathon Clements’ write-up of Nationstar Mortgage Holdings Inc (NYSE:NSM) won him a Benjamin Graham Fellowship.
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Nationstar: Investment Thesis
Nationstar Mortgage Holdings Inc (NYSE:NSM) is non-bank mortgage servicer that was taken public by Fortress Investment Group LLC (NYSE:FIG) in 2012. While the company experienced rapid growth coming out of the crisis capitalizing on Basel III and HARP origination fees, shares have sold off over the past 6 months on fears of increasing regulation and decreasing profitability. Trading 43% below its 52 week high and 9.33x FY2014 P/E, I believe $32.92 offers a great entry point for considerable upside.
Solutionstar Spin-off. Solutionstar is a rapidly growing division within Nationstar providing feebased mortgage-related services to financial institutions spanning the life cycle of a mortgage loan. Nationstar Mortgage Holdings Inc (NYSE:NSM)’s management previously discussed the spin-off, but decided to delay in order to pursue TTM acquisitions. Once the division can show accurate, annualized financials I believe it will be spunoff. Applying three comparables’ average FY2014 P/E multiple of 15.47x to an EPS of ~$1.22, values Solutionstar at $18.89 a share. Therefore, investors can acquire Nationstar’s servicing and origination businesses for $14.03 per share at 6.43x FY2014 earnings.
Growth in Reverse Mortgages (RM). RMs offer one of the most compelling and underpenetrated markets in the world. Since 2011, Nationstar has accumulated a $28.9 billion RM servicing portfolio (32% of the market). While the true market size is difficult at best to define, as of 2009 only 1% of the eligible borrowers had been tapped while a peer mortgage servicer has estimated the market at $1.9 trillion, compared to $90 billion outstanding.
Increasing MSR Values. As interest rates rise, slower refinances and fewer defaults will improve the overall quality and value of Nationstar’s current mortgage servicing rights portfolio. Unlike almost every other investment that loses money when rates rise, MSRs increase in value.
Neutral consensus on Wall Street. 11 sell side analysts that follow Nationstar Mortgage Holdings Inc (NYSE:NSM): 2 OW, 7 N and 2 UW. The consensus 12 month PT is $34.00, citing regulatory scrutiny over non-bank servicers, declining origination activity, and UPB pipeline and profitability concerns. However, none of the 11 reports mention the concentrated short position in the float or the underlying future economics of reverse mortgages. Future upgrades will support upward price movement.
Increasing Profitability. Since 2007, servicing right premiums have compressed from 4-6x to 1-2x their yearly return. Nationstar has laid out a plan to further increase pretax servicing profitability from 7 to 11bps FY2014 on its UPB (1bp = 4% EPS growth).
Short Squeeze. Factoring four long shareholders (3/31/14) into NSM’s float reveals a 64% S.I.
Regulatory scrutiny. Due to being a fairly new and developing industry, there will most likely be some form of further oversight to come. Regulation could harness scalability and profitability.
Ownership Concentration. Fortress owns 74% of the common stock, therefore controls all matters requiring a stockholder vote. The latest 10Q cited, “the interest of [Fortress] may not always coincide with our interest or other stockholders.”
Nationstar does not capture market share. Regardless of the massive potential for the RM servicing market, there is the possibility that Nationstar Mortgage Holdings Inc (NYSE:NSM) is not able to secure a material market share in the servicing business.
Mar 2012 – Sept 2013
- IPO at $14 in (3/2012)
- Quadruped servicing UPB
- Originated large refinancing (HARP) fees
- Hit high of $57.95 (9/2013)
Oct 2013 – Present
- Shares lost 43% of their value
- Fears of increased regulation on non-bank mortgage servicing
- Declining refinancing revenues
Next 18 Months
- Short squeeze / upward pressure
- Solutionstar spin-off
- Market will price in increasing profitability and RM opportunity
See the full article in PDF Format here.