Growth & Yield Drivers Remain in Place for PMT
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PennyMac Mortgage Investment (NYSE: PMT) operates as a specialty finance company that seeks to invest primarily in residential mortgage loans. The company has a market cap $1.52 billion and for the purpose of reporting PennyMac is divided into two: Correspondent Lending and Investment Activities. Under its Correspondent Lending function, PennyMac acquires newly originated loans from mortgage lenders, sells them to an Agency or a third party, or pools them into MBS and retains the mortgage servicing rights. Under the Investment Activities function, PennyMac invests in distressed mortgage assets, most of which are purchased at a discount to their par values, reflecting their higher risk of default.
Recent Quarter’s Performance Review
The fourth quarter results were strong in both the Correspondent Lending and Investment Activities functions. Housing prices continued to stabilize during the quarter, driving valuation gains in our distressed portfolio.
The company generated $124.9 million in revenues, much of which accrued from Correspondent Lending function. Revenues from Investment Activities were $45.2 million. Interest income from Investment Activities was $12.7 million, while $7.6 million of interest income was attributed to the Correspondent Lending function. Compared to the linked quarter, net gain on investments of $38 million during the fourth quarter was 47%, while interest income of $20.3 million climbed 3% sequentially. Higher interest income from mortgage loans was the reason for the 3% surge in overall interest income.
Total expenses over the quarter advanced 48% to $59.6 million on higher loan fulfillment fees. The company reported net income of $49.2 million against $40.38 million at the end of the third quarter of 2012. Basic EPS surged from $0.81 to $0.83 per share over the same time period.
During the most recent quarter, the company acquired $290 million of distressed mortgage loans, mostly non-performing loans. The quarter-end distressed loan portfolio amounted to $1.19 billion, up 9% from the prior quarter. Further, the management disclosed $173 million of acquisitions of non-performing loans thus far in the first quarter of the current year. Also, as participants are looking to sell their legacy assets, the flow of distressed loan pools available for sale is anticipated to rise, providing PennyMac an opportunity to grow its portfolio further.
During the quarter PennyMac funded $10 billion in conduit loans, with conventional volume totaling 65% of the growth and the balance on FHA loans. This compares to $6.3 billion and 59% conventional a year ago. A combination of higher volumes and lower gain on sales led to a 32% sequential increase in Correspondent Lending revenues in the fourth quarter. Further, the management has indicated a target of $4 billion of total correspondent acquisitions per month by December 2013.
Since PennyMac operates as a mortgage REIT that invests largely in non-Agency MBS, its closest peers include Newcastle Investment (NYSE: NCT) and Nationstar Mortgage Holdings (NYSE: NSM). Newcastle Investment actively manages a portfolio of real estate securities, loans, excess mortgage servicing rights, and other real estate related assets. The company’s investment in real estate securities is spread across residential and commercial security types, providing the company sufficient diversification. The company has a market cap of $1.85 billion and offers a dividend yield of 8.19%.
Nationstar Mortgage Holdings has a market cap of over $3.3 billion and a well diversified investment portfolio. The company engages in servicing of residential mortgage loans besides originating and securitizing single family mortgage loans to government sponsored entities. The company’s recent announcement of its acquisition of sizable mortgage servicing rights, which were in the pipeline, is believed to positively impact future earnings.
While gain on sale margins are normalizing, PennyMac’s volumes are expected to continue to grow, allowing for continued correspondent earnings growth. This gives me sufficient confidence that PennyMac will continue to offer a combination of growth through the correspondent channel coupled with a high dividend yield of 8.8% from the distressed investments.
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