Independent Bank Group, Inc. (NASDAQ:IBTX) is a recently ipo'd regional bank with branches in the Austin and Dallas-Fort Worth areas of Texas. This is not cheap company on a past basis, trading at ~2x book and nearly 20 times ttm earnings. It is instead a growing, incentive-aligned financial company in an economically vibrant area at a fair price.
Consistent, profitably insider provides the catalyst. Many investors consider insider buying to be a strong signal to buy. Unlike selling, buyers typically have one goal in mind - to make money. By its very nature, it has potential to be a durable signal, as if future gains are already priced in there would not be a reason to buy.
There are some important caveats, however. Weak shares, especially in deteriorating companies (such as Dell in the last few years) often see insider buying as officers attempt to boost confidence. In Dell's case, a billionaire's token buys are far more likely a way to boost confidence and push up shares (versus just participating in the gains of the business).
The opposite has been the case here - a recent ipo (where by definition the company is selling) combined with buying as the shares move up and remain near 52 week highs. Among the numerous insider buyers (no sellers) is William E Fair, who has been at IBTX for 9 years, and Brian Hobart, the Chief Lending Officer who has spent 9+ years at IBTX as well.
It is reasonable to say that incentives are aligned at IBTX. But what about the underlying business?
Decent, though levered, operating metrics show an aggressive but efficient operation. I've typically approached financial institutions with a negative-bias- too many seem to be essentially put sellers of liquidity (lending long, borrowing short) and ultimately have weak returns on capital (that is, preleverage).
For a bank, IBTX has a decent financial showing, posting 1%+ roa for the last 3-4 years. The lack of data previous to 2010 is price of buying a new company, and is definitely worth investigating. It is fairly aggressive, levering equity to assets 9-10 times equity. That is a bit high in general, but compared to other regionals (HBAN) and even the top 4 (WFC/BAC), it is on the side. It does not quite have the same moat-like characteristics of WFC, but is a bit better than the rest.
Going forward though, what distinguishes IBTX for HBAN and the rest of the TARP-exiting regionals and indeed the huge money-center banks?
Economic opportunity. Bottom-line, a booming energy and now technology industry (1, 2) in TX will allow it to growth and reap better returns on capital than much of the country. Whereas many states are struggling with debt, Texas's conservative fiscal position combined with luck (oil & gas) will allow it to continue to grow.
Disclosure: long IBTX since the low 30s, but believe it is a good business to hold/buy in small size even at 38.
Wednesday, November 6, 2013
Thursday, October 31, 2013
Portfolio Management as Counterpoint
While my previous long bias remains, the recent market weakness after a strong October has finally given me pause. I had been insanely long (using significant margin) up until today because there were continual buy signals (technicals, insider buying) which lined up with the businesses and valuations I liked (durable competitive advantage/roe at less than 25 ttm earnings).
The business thesis for most of these investments remain, but my portfolio has simply gotten too large and often leads to a fundamental issue of my approach. A stock that falls is cheaper and often a better buy (value), but persistent weakness is often a signal of worse things to come (momentum). My bread and butter approach is to find businesses which I would like to buy as they get cheaper, but wait under the trend turns (or at least stabilizes) to prevent a Bill Miller-like 2008.
The corollary to the above then, is to not hesitate to cut positions when the trend turns or weakens, even if an investment has not reached what I believe to be fair value. This has happened now with HLSS, VOYA, AIG, (some of the largest positions) and have I reduced. I had recently added to HLSS on weakness because 1) the weakness was not panic-driven and 2) there was a nearby catalyst that could reverse the trend (earnings). The earnings driven pop has now weakened, so I have reduced the position to more manageable level, especially given the lower returns which I now believe is reasonable for HLSS.
As for specific numbers, I use a variation of the kelly criterion, described by another well-known blogger and money-manager.
*My approach remains value + trend-following, for the long-term. While minimizing activity is a goal, position-sizing and risk-management is necessary to ensure the portfolio can take advantage of long-term views.
The business thesis for most of these investments remain, but my portfolio has simply gotten too large and often leads to a fundamental issue of my approach. A stock that falls is cheaper and often a better buy (value), but persistent weakness is often a signal of worse things to come (momentum). My bread and butter approach is to find businesses which I would like to buy as they get cheaper, but wait under the trend turns (or at least stabilizes) to prevent a Bill Miller-like 2008.
The corollary to the above then, is to not hesitate to cut positions when the trend turns or weakens, even if an investment has not reached what I believe to be fair value. This has happened now with HLSS, VOYA, AIG, (some of the largest positions) and have I reduced. I had recently added to HLSS on weakness because 1) the weakness was not panic-driven and 2) there was a nearby catalyst that could reverse the trend (earnings). The earnings driven pop has now weakened, so I have reduced the position to more manageable level, especially given the lower returns which I now believe is reasonable for HLSS.
As for specific numbers, I use a variation of the kelly criterion, described by another well-known blogger and money-manager.
*My approach remains value + trend-following, for the long-term. While minimizing activity is a goal, position-sizing and risk-management is necessary to ensure the portfolio can take advantage of long-term views.
Monday, October 28, 2013
A broad market squeeze... upwards?
With the current relentless rally, I do wonder how this compares to the post-92 rally, when stocks would steadily reach new highs. Shorts (esp. valuation/tech) continue to get clobbered (save for pockets such as China tech in the last week), but of all the long positions I own (e.g. VOYA, AIG), I'm finding it hard to reduce because they all seem highly compelling as businesses and technically. I have reduced a percent here or there, but remain very long and have very few/often no shorts on.
Time will tell, but communities such as zerohedge do keep me more comfortable. If everyone has bought in, the rally is tough to sustain. If, however, there are many doomsday sales/shorts in the market...
Time will tell, but communities such as zerohedge do keep me more comfortable. If everyone has bought in, the rally is tough to sustain. If, however, there are many doomsday sales/shorts in the market...
Saturday, October 26, 2013
HLSS - A Follow Up
I've written about Home Loan Servicing Solutions, Ltd. since last year and added from 19$ all the way until $25. With the price at $23.90 as of today's close, I'm still in the money, but a bit from the highs.
Despite being different than a traditional mREIT, HLSS has fallen similarly from its highs. From fears about book value to lower dividends, HLSS has become a victim of the general shift away from (financially-driven) dividend stocks. An even more fundamental reason is that in a time of rising rates, the relative value of other fixed income-like investments are less (similar to duration risk for treasury bonds).
Bill Erbey (Chairman) did address this on the Q3 conference call, referring to the current valuation and weakness relative to equity market as a whole as due to 1) interest rate volatility and 2) an assumption of low-growth and relatively high valuation due to book (~1.4). The latter does seem the most interesting, as Erbey hints (but not does detail) that this assumption is not true. But where/how does growth come from?
There are plenty of articles about the market opportunity for mortgage servicing rights (MSRs) in general (see Nationstar's S-1 last year for one), but how does the selling reach HLSS? Ocwen can buy rights at about 3% of UPB or less and sub-sells a portion to HLSS. 3% is roughly 6 times the (max) 50 bps fee that Ocwen gets. MSRs are a wasting asset with principal (pre)payments, however, and 6 times is higher than the 4 or even 2 times paid for homeward. Granted, there are more details (quality of borrowers, delinquencies, etc.) which could make either one worth it or not, but the multiple is a bit worse than before. On the other hand, HLSS only needed to use 0.64% for ~0.20% annual revenue in cash to subservice the same asset from Ocwen by borrowing the rest. In other words, HLSS paid the full purchasing price that Ocwen paid, allowing Ocwen to gain revenue without paying for it (a nice business model). HLSS gains the ability to lever by keeping the less volatile part of the fee (variation is usually paid by Ocwen).
HLSS gets most of that cash from equity raises as 90% of net income is paid out as dividends, so that doesn't necessary increase (or even maintain) the dividend. What does? the 90-250% of net income that is cash available for reinvestment (from the Q3 investor presentation):
The non-cash amortization of the MSR portfolio (due to prepayments) means that HLSS has more cash to buy assets and the the dividends are only part of the story. It is true that the amortization means lower future revenue from the existing revenue, so it is up to HLSS to deploy that cash in an accretive manner.
The result? HLSS has an insurance like-free float available to invest in more MSRs - if prices remain low and there is more selling from banks such as Citi (banks currently 50% of $10 trillion market).
Based on the next $50B to be acquired (after 2 quarters and given that amortization decreases per the conference call, then 5% quarterly UPB increase after):
With a 7.66% yield, that means in one year, HLSS could be trading >$30. My previous write-up underestimated the sizes of the equity raises necessary, so this is closer to the mark.
*Disclosure: still long HLSS
Despite being different than a traditional mREIT, HLSS has fallen similarly from its highs. From fears about book value to lower dividends, HLSS has become a victim of the general shift away from (financially-driven) dividend stocks. An even more fundamental reason is that in a time of rising rates, the relative value of other fixed income-like investments are less (similar to duration risk for treasury bonds).
Bill Erbey (Chairman) did address this on the Q3 conference call, referring to the current valuation and weakness relative to equity market as a whole as due to 1) interest rate volatility and 2) an assumption of low-growth and relatively high valuation due to book (~1.4). The latter does seem the most interesting, as Erbey hints (but not does detail) that this assumption is not true. But where/how does growth come from?
There are plenty of articles about the market opportunity for mortgage servicing rights (MSRs) in general (see Nationstar's S-1 last year for one), but how does the selling reach HLSS? Ocwen can buy rights at about 3% of UPB or less and sub-sells a portion to HLSS. 3% is roughly 6 times the (max) 50 bps fee that Ocwen gets. MSRs are a wasting asset with principal (pre)payments, however, and 6 times is higher than the 4 or even 2 times paid for homeward. Granted, there are more details (quality of borrowers, delinquencies, etc.) which could make either one worth it or not, but the multiple is a bit worse than before. On the other hand, HLSS only needed to use 0.64% for ~0.20% annual revenue in cash to subservice the same asset from Ocwen by borrowing the rest. In other words, HLSS paid the full purchasing price that Ocwen paid, allowing Ocwen to gain revenue without paying for it (a nice business model). HLSS gains the ability to lever by keeping the less volatile part of the fee (variation is usually paid by Ocwen).
HLSS gets most of that cash from equity raises as 90% of net income is paid out as dividends, so that doesn't necessary increase (or even maintain) the dividend. What does? the 90-250% of net income that is cash available for reinvestment (from the Q3 investor presentation):
The non-cash amortization of the MSR portfolio (due to prepayments) means that HLSS has more cash to buy assets and the the dividends are only part of the story. It is true that the amortization means lower future revenue from the existing revenue, so it is up to HLSS to deploy that cash in an accretive manner.
The result? HLSS has an insurance like-free float available to invest in more MSRs - if prices remain low and there is more selling from banks such as Citi (banks currently 50% of $10 trillion market).
Based on the next $50B to be acquired (after 2 quarters and given that amortization decreases per the conference call, then 5% quarterly UPB increase after):
With a 7.66% yield, that means in one year, HLSS could be trading >$30. My previous write-up underestimated the sizes of the equity raises necessary, so this is closer to the mark.
*Disclosure: still long HLSS
Thursday, October 3, 2013
Macro as an opportunity - HLSS, IBTX
Many have lamented the dominance of macro-events in markets. From 2008's soul-crushing housing-driven swings in the market to 2011's euro-crisis dips, financial journalists and some money managers bring up the difficulty of investing when all stocks move up/down together. This, however, assumes that daily market moves are the main risk to investing, i.e. seeing the market drop 5% in a week is painful. This may indeed be true emotionally when most judge performance on a daily/monthly/quarterly basis.
What if we instead see the stock market as simply a marketplace for buying companies? Indeed, what if macro drawdowns are just Mr. Market instituting a fire-sale of all items? A heat-wave inside Target may make the dairy products go bad, but how about the clothes?
Few would believe that all companies are equally affected by the government shutdown, so given any (fear-driven) corrections in the market as a whole, I'd actually welcome them as opportunities to buy unjustly affected companies.
--
Actions speak louder than words, though, so I am therefore taking this opportunity to buy more of HLSS, IBTX and UHAL, the first two of which I plan to write more of.
What if we instead see the stock market as simply a marketplace for buying companies? Indeed, what if macro drawdowns are just Mr. Market instituting a fire-sale of all items? A heat-wave inside Target may make the dairy products go bad, but how about the clothes?
Few would believe that all companies are equally affected by the government shutdown, so given any (fear-driven) corrections in the market as a whole, I'd actually welcome them as opportunities to buy unjustly affected companies.
--
Actions speak louder than words, though, so I am therefore taking this opportunity to buy more of HLSS, IBTX and UHAL, the first two of which I plan to write more of.
Sunday, September 29, 2013
The Fantastic Business that is China Commercial Credit Inc. (CCCR)?
I've been pretty negative on China's financial system. Bottom-line: a large shadow-banking system financing a fixed asset investment bubble. Pivot Capital's 2011 report is applicable here for reference. Now, imagine my surprise when a China-based micro-lender has an IPO this year!
China Commercial Credit, Inc. (CCCR) is a microcredit company which "provides direct loans and loan guarantee services to small-to-medium sized businesses (“SMEs”), farmers and individuals in the city of Wujiang, Jiangsu Province, China" (Prospectus). Its niche is to fill the gap between large, state-run banks and the underground lenders (subprime-like) which charge exorbitant fees.
My inherent negative bias notwithstanding, There is certainly an argument to be made for this business. In a country run by relationships ("guanxi"), there may very well be profitable lending opportunities outside the state. After all, subprime lending in the United States existed for decades before the 2007 crash and did provide necessary cash for consumers at relatively low rates. The difference here is that this is commercial lending vs. residential lending. Specifically, CCCR is based in Wujiang City, one of the most vibrant economic areas in China. Much of industry is manufacturing/industrial/technology related (Source). In other words, CCCR is lending to China's best microcosm of China's industrial revolution.
However, why is a Chinese company with only domestic (even local) operations raising money in the United States? The official reason:
Furthermore, Mr. Huichun Qin (CEO and Chairman of the Board) was the Vice President of the Wujiang branch of the PBOC (People's Bank of China), the central bank of China. Given that China itself prefers domestic companies to list locally, why aren't such credentials enough to push through a sale? Especially given CCCR's 7%+ return on assets (pg 39 of prospectus). This is a for bank, mind you. Not some high tech/asset-light company. Now, this is a microcredit lending and so there must be some inefficiencies to profit from. But 7%? Vs. 1-2% of a well-run bank such WFC or even regionals such SunTrust (STI) or even Ag Bank (HKG:1288).
Something different is happening here - loan losses have ballooned from less than 30,000 to 488,000 usd. CCCR does both lending as well as a guarantee business. The latter in particular is worth investigating more.
This is far from a complete picture, but from this I know that 1) more investigation is necessary and that 2) I remain negatively-biased on this company. I don't consider this a short candidate because of the small float/marketcap (<100mm). Nonetheless, it may be useful to follow this as the modern incarnation of China credit.
---
More generally, I've been tied up with portfolio management issues recently (hence the lack of updates). However, there are still many things that are worth writing about recently and I will do so - notably regarding MSRs and Home Loan Servicing Solutions (a position I hold on the long side).
China Commercial Credit, Inc.
China Commercial Credit, Inc. (CCCR) is a microcredit company which "provides direct loans and loan guarantee services to small-to-medium sized businesses (“SMEs”), farmers and individuals in the city of Wujiang, Jiangsu Province, China" (Prospectus). Its niche is to fill the gap between large, state-run banks and the underground lenders (subprime-like) which charge exorbitant fees.
My inherent negative bias notwithstanding, There is certainly an argument to be made for this business. In a country run by relationships ("guanxi"), there may very well be profitable lending opportunities outside the state. After all, subprime lending in the United States existed for decades before the 2007 crash and did provide necessary cash for consumers at relatively low rates. The difference here is that this is commercial lending vs. residential lending. Specifically, CCCR is based in Wujiang City, one of the most vibrant economic areas in China. Much of industry is manufacturing/industrial/technology related (Source). In other words, CCCR is lending to China's best microcosm of China's industrial revolution.
However, why is a Chinese company with only domestic (even local) operations raising money in the United States? The official reason:
a public offering on the Chinese exchanges can be an uncertain and lengthy process for private Chinese companies, especially for microcredit companiesCCCR took advantage of the JOBS act to file as an "emerging growth" company and report less financial information and have a a longer time to fulfill SEC regulatory requirements. But wait - is the company really implying that is easier to go public in the USA vs. Shanghai - that it is more difficult for a Chinese company to list in China than in the USA? It passes all the requirements on the Shanghai exchange, both in terms of profitability and size (60mm usd in equity vs 30mm rmb required).
Furthermore, Mr. Huichun Qin (CEO and Chairman of the Board) was the Vice President of the Wujiang branch of the PBOC (People's Bank of China), the central bank of China. Given that China itself prefers domestic companies to list locally, why aren't such credentials enough to push through a sale? Especially given CCCR's 7%+ return on assets (pg 39 of prospectus). This is a for bank, mind you. Not some high tech/asset-light company. Now, this is a microcredit lending and so there must be some inefficiencies to profit from. But 7%? Vs. 1-2% of a well-run bank such WFC or even regionals such SunTrust (STI) or even Ag Bank (HKG:1288).
Something different is happening here - loan losses have ballooned from less than 30,000 to 488,000 usd. CCCR does both lending as well as a guarantee business. The latter in particular is worth investigating more.
This is far from a complete picture, but from this I know that 1) more investigation is necessary and that 2) I remain negatively-biased on this company. I don't consider this a short candidate because of the small float/marketcap (<100mm). Nonetheless, it may be useful to follow this as the modern incarnation of China credit.
---
More generally, I've been tied up with portfolio management issues recently (hence the lack of updates). However, there are still many things that are worth writing about recently and I will do so - notably regarding MSRs and Home Loan Servicing Solutions (a position I hold on the long side).
Monday, September 2, 2013
Gold Shortage?
Given the new gold backwardation, bulls have returned back in force (1, 2, 3) to explain how this will push gold higher. But does backwardation correlate with flat price?
Compared with flat price (front month), there doesn't seem to be an easy correlation. The last breakout for gold prices in 2006 happened when there was no backwardation. More generally, a recent paper from the IMF shows that:
From articles such as this, one would think that the world was scrambling for gold. With aggregate Jewelery demand up 50%+ yoy, central banks continuing their buying and supply constrained (per the bulls' own argument), why did gld fall nearly 25% in Q2? If the entire world is buying and the price falls, what happens if supply/demand moderates?
It seems like rather than supply and demand, one should be focusing on price reactions to supply and demand. After, commodities (esp. gold) are often purely psychological instruments.
Disclosure: I am short GDX
"... we find that the forecast from the futures market is hard to beat. We find that the forecasting performance of futures does not depend on the slope of the futures curve"This means that all else being equal, 1) the current futures price is the best predictor of prices, and 2) the slope of the curve has little to do with futures prices. As a result, are the gold bulls falling into another example of confirmation bias? If supply is so constrained, why are prices not at all time highs?
From articles such as this, one would think that the world was scrambling for gold. With aggregate Jewelery demand up 50%+ yoy, central banks continuing their buying and supply constrained (per the bulls' own argument), why did gld fall nearly 25% in Q2? If the entire world is buying and the price falls, what happens if supply/demand moderates?
It seems like rather than supply and demand, one should be focusing on price reactions to supply and demand. After, commodities (esp. gold) are often purely psychological instruments.
Disclosure: I am short GDX
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