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Impac Mortgage: Where the money comes from

When I first bought Impac Mortgage (back at the beginning of August) it was on the basis of GAAP earnings (which were 50 cents per share in the second quarter), and revenue growth from the mortgage origination business.  Soon after, when I looked more closely into earnings, I determined that much of what was reported in GAAP was obscured by mark to market adjustments and a legacy business that is no longer operating.  Fortunately if I ignored these effects, the resulting picture was even better than the one painted by GAAP.

So I left it alone and went on to other things.

To digress for a minute, this is my process.  Once I feel like I have a clear answer on a stock, I don’t look too much further into the details.  When I look at a stock I look hard, and I usually come up with a fairly accurate picture, but after I feel able to draw a conclusion, I don’t spend a lot more time quibbling over the details.

I don’t have time.  I have time to look into maybe 2 stocks per week.  If I spent week after week evaluating a single security, it is simply inefficient.

Does this lead to mistakes?  Absolutely.  Sometimes I miss a key aspect that changes the equation.  But to mitigate mistakes I have learned to reevaluate when the market tells me I am wrong, and to act quickly when it turns out I am.  And actually, this has been one advantage of starting this blog.  There have been a couple of cases where readers have pointed out something that I have missed.  And I’ve saved money as a result.

Given the amount of time I have to allocate to investing, this remains, in my opinion, my most efficient process.  Study the business, figure out what the key drivers are and where problems are most likely to arise, evaluate those drivers and problems, make a decision and move on to the next one.  Take another look if things start to go amiss.

With respect to Impac, as the stock moved up from $2.50 to $10, I wasn’t that concerned with getting a better grasp on the specifics of earnings.  My initial analysis showed me the drivers, and they led me to conclude that the stock wasn’t even close to reflecting those drivers, and that was enough for me.

But now, with Impac hovering between $10 and $11, further analysis is warranted.  My intent below is to understand how each of the businesses that Impac operates generates earnings, and to compare the earnings generation capacity to GAAP, hopefully eliminating some of the confusion introduced by GAAP. Read more

Falling NIMs, Rising Mortgage Banking and two new bank stocks: Monarch Financial and PVF Capital Corp

One consequence of the quantitative easing campaign that was initiated by the Federal Reserve is that is caused a rise in mortgage backed securities, and a corresponding drop in interest rates for those securities.  To illustrate, below is the 30 year Fannie Mae.

This drop in rates is bad for holders of MBS debt who depend on the yield that it returns.  As a consequence many mREITs have been under pressure.

To varying degrees banks are in same boat.  You saw this with the release of results on Friday from JP Morgan and Wells Fargo.  The subject was discussed here in the Financial Times.

But I think you have to be careful before painting all banks with a broad brush.  The extent of the damage depends on the percentage of assets that each bank has in securities in general and in mortgage backed securities in particular.  This can vary quite a bit, especially among the smaller community banks.

I have looked at each of the banks I own.  Most are not overly exposed to mortgage backed securities or to securities in general.  The table below shows the total investment security exposure vs. loan exposure for each bank, and then breaks down the investment securities by type. Read more

Week 67: Sitting Tight

Portfolio Performance

Volatility

I always have a volatile portfolio.  I don’t think that there is any way to outperform the market and not be volatile.  If there is I haven’t found it.

Two weeks ago it soared up 6%.  Last week i gave back all of those gains.

Volatility is just something I have learned to live with.  The important thing is not to let it shake you out of your positions prematurely.  When you get skyrocketing stocks like Nationstar or Impac Mortgage they are bound to have fast and sharp corrections.  What I have to try to do, and what can be very difficult to do, is to divorce myself from the immediate price movement and simply ask myself the question of whether the story is intact and whether the value is reflected.

I am reminded of the following excerpt from Reminiscences of a Stock Operator:

I think it was a long step forward in my trading education when I realized at last that when old Mr. Partridge kept on telling other customers, “Well, you know this is a bull market!” he really meant to tell them that the big money was not in the individual fluctuations but in the main movements that is, not in reading the tape but in sizing up the entire market and its trend. The market does not beat them. They beat themselves, because though they have brains they cannot sit tight. Old Turkey was dead right in doing and saying what he did. He had not only the courage of his convictions but also the intelligence and patience to sit tight. Disregarding the big swing and trying to jump in and out was fatal to me. Nobody can catch all the fluctuations. In a bull market the game is to buy and hold until you believe the bull market is near its end.

Read more

My Nam Tai Story

Sometimes it is easier to develop an idea in your head than it is to write about it.  That is because while you can make a decision to buy a stock on an idea that makes sense, you really can’t write well about it without understanding the story.

My Nam Tai story goes back to a fellow who follows the blog and posts by the moniker DTEJD1997 on the Yahoo! Finance boards and on SeekingAlpha.   While I know his real name, he asked that I only refer to him as DTEJD1997 here, so that’s what I will do.  Anyways, DTEJD1997 has a nose for finding overlooked value.  He was the fellow who also got me onto the idea of Rurban Financial.   Obviously that idea worked out extremely well.

DTEJD1997 recommended Nam Tai to me months ago when the stock was $5 but I didn’t get in at the time and it moved from to $10.  I didn’t get in because I didn’t really look closely at the story and so I didn’t understand the impact of what he told me.

I didn’t look closely because Nam Tai is a contract manufacturer in China.  I worked for a contract manufacturer for a while and so I know its an ugly, low margin business.  I was less than enthused to jump into that industry.  It’s the old Donald Coxe adage that those who know it best love it least. Read more

Further investigation into Impac Mortgage Part I: Non-recourse trusts

I did more research into Impac Mortgage (IMH) over the weekend, and I plan to share my findings in a series of 3 posts.

In this first post I want to focus on the trust assets.  While the trusts are somewhat peripheral to my investment thesis in Impac, an explanation of how they work is central to the following posts I plan to write about earnings, and understanding the trusts helps quantify what potential they might hold for Impac if the housing market recovery becomes robust.

Impac Mortgage was a $250 stock in 2004 (I am including the 10:1 share consolidation that took place).  Obviously it has been a long way down.   The fall in the stock price from then to now has been entirely because of the mortgage market collapse.   This is something to keep in mind while I step through the next few paragraphs.

As I have explained in previous posts, I bought Impac Mortgage because of the growth I anticipate from their origination business.   But while the current business model centers around mortgage origination, it hasn’t always been that way.  Prior to 2008, in addition to originating mortgages Impac created and ran a number of off-balance sheet trusts.  These trusts would buy mortgages, mostly one’s originated by Impac, and pay for those mortgages by selling securitized mortgage obligations to investors.  The trusts would pay interest on their obligations from the cash collected on the mortgages. Read more

Week 65: Doing the work

Portfolio Performance

The turn in housing

– Michael Burry – Scion Capital

The housing market has turned.

Being that it is a huge, lumbering tanker, it takes a long time to slow down and redirect.  The changes happen slowly enough that you can miss them if you are focused on the wrong details (price increases and to a lessor degree sales increases) and not enough on the right one’s (inventory).  All that matters is that prices are cheap, rates are low, and inventory has come down to levels that leave many cities firmly entrenched as sellers markets. Once buyers stop seeing themselves in the drivers seat, their attitude changes from one of waiting for a better buy to that of getting in before its too late.  The vicious circle is replaced by a virtuous one, and sales and price increases will follow.  Nothing lasts forever, and the US housing collapse didn’t either.

Falling inventories had to lead the housing turnaround, and that is what we are seeing now.  Nationwide in August housing inventories fell from 8.2 months of supply a year ago to 6.1 last month.

Read more