R. Christopher Whalen
Jul 27, 20225 min
July 27, 2022 | Premium Service | In this issue of The Institutional Risk Analyst, we look at the Q2 2022 results for Mr. Cooper (COOP) released today. COOP is one of the larger owners of servicing among independent mortgage banks (IMBs) and one of the first members of the group to report. Generally speaking, IMBs, fintech platforms and other members of the finance market fringe tend to hide in the weeds until the last week or two of the 45-day reporting season mandated by the SEC.
United Wholesale Mortgage Corp (UWMC), for example, reports on August 9th, but COOP is always one of first out of the gate and always has some of the best disclosure in the industry. Most of the rest of the industry won't report till next week at the earliest. As Sydney Poitier said so well in The Jackal, the good guys don’t hide.
COOP is the sixth largest owner of mortgage servicing and one of the largest servicers for third-parties, with over $800 billion in primary servicing. The chart below is from COOP’s Q2 2022 earnings presentation. COOP is well on its way to reach its goal of $1 trillion in mortgage servicing.
The Q2 results included a $195 million, non-cash amortization on the owned-MSR, which reduces reported income 1:1. Going forward, COOP expects that lower amortization and higher interest income will benefit earnings. Indeed, COOP told investors on the call that Q2 2022 may be the worst quarter of the cycle. Significantly, the compounded prepayment rate (CPR) of COOP’s servicing book is now down to 11% and the firms projects that rate falling to high-single digits by year-end.
One of the big advantages that COOP has vs. its peers is a relentless focus on operational efficiency and cost savings, illustrated by the 40% decline in operating expenses since 2018. At the same time, COOP has increased the number of loans per employee from just shy of 700 in 2018 to 850 in Q2 2022. New loan volumes in Q2 2022 were running at a quarter of last year’s levels, but the servicing book generated substantial income.
Unlike most of the mortgage sector, COOP's stock is up year-to-date, reflecting the balanced business model that includes one of the largest servicing books in the industry and a state-of-the-art lending operation that is more efficient than most other issuers. COOP claims that they have a 30% cost advantage vs other lenders and servicers.
Like New Residential Investment (NRZ), COOP has slowed purchases of MSRs and, indeed, recently sold owned-MSRs to a client in order to raise cash. COOP clearly believes that there will be opportunities to acquire MSRs in the future as other IMBs encounter operational difficulties as the economy slows. As we've noted in past notes, pricing in the MSR market has been week since the start of 2022 as previously active banks have backed away and have even sold assets.
The fact that COOP is telling investors that they expect operating income and cash flow to grow for the rest of the year reflects a very bullish view on the part of management. It is interesting to note that COOP continues to be a buyer of its stock. More, COOP has no significant debt liabilities maturing for the next five years, providing a clear runway for the firm to build cash and acquire MSR portfolios opportunistically.
“We are in a period of very unique opportunities,” Vice Chairman Chris Marshall told investors. “We want to position to take advantage of opportunities in the markets.”
CEO Jay Bray noted that there are more and more MSRs coming to market, mostly from IMBs, thus supporting the narrative that says that assets are going to be getting cheaper. The twin prospect of disruption and opportunities in the mortgage market may provide COOP with an opportunity to continue to expand the MSR portfolio.
We view COOP as one of the more prudently managed IMBs in the industry. The focus on the use of technology to reduce costs, plus the capital light strategy and the move to sell assets opportunistically makes COOP one of the more nimble and more survivable firms. The move last year to sell Title365 and spin the servicing technology platform to Sagent Lending Technologies illustrate the superior strategy and implementation of COOP.
Leon Cooperman, a large shareholder, asked during the call what COOP sees as the long-term capital needed to run the business, Bray indicated that the current 30% capital to assets is probably too high and the minimum target is half that amount. Cooperman then went on to suggest that Bray ought to do a more substantial share repurchase or tender offer, a luxury most IMBs cannot even consider.
We agree with the assessment of COOP management by Mr. Cooperman that this firm is one of the best positioned IMBs in the industry and has the liquidity necessary to continue to build value for shareholders. The fact that Leon Cooperman is one of the largest shareholders of COOP, even after the mortgage market selloff, speaks volumes for the way that this company has performed in good markets and in bad. If the recession now before us is extended, then COOP will be well positioned to navigate through it and acquire new assets as MSRs valuations come under pressure.
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