Yellen FSOC Punts on Mortgage Servicers; WGA Bottom 25 Banks

“You can’t lose money making deposits”

Vernon Hill

Former Chairman/CEO

RepublicFirst Bank

May 13, 2024  | We appreciate the many comments from our readers last week regarding the idea of Freddie Mac buying second lien mortgages (“Freddie Mac Buying HELOCs? Really Meredith? | UWMC & Disappearing MSRs”). A number of residents of the Washington housing policy community initially supported the idea, but now are strangely silent. Any readers with further thoughts on the matter please do post them to @rcwhalen on X.com. 

Below for our Premium Service subscribers, we critique the bottom 25 banks in the WGA Bank Top 100 Index. And h/t to Joe Garrett for the remembrance of former Commerce Bank CEO Vernon Hill, who  became chief executive officer of RepublicFirst Bancorp in 2021 and was fired in May 2022. The bank failed very notably a few weeks ago with a loss close to 15% of total assets. Hello.

Just when we thought the quota of dumb ideas was filled, on Friday the US Treasury under Janet “T-bill” Yellen issued a paper on nonbank mortgage servicers. The well-prepared paper from the Financial Stability Oversight Council (FSOC) contains some important information, but is also a bit misguided.

For example, Secretary Yellen suggests creating a fund to finance defunct IMBs after they file bankruptcy. Really? And, also last week, President Joe Biden wants to give away hundreds of dollars to first time homebuyers, like an aging Latin American dictator buying votes from campesinos with bags of groceries on election day.  Of course, neither Biden nor Yellen want to discuss the budget deficit.

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Federal officials like Yellen have a fascination with the idea of planning for the defaults of private companies, as though such things were even possible. Readers of The IRA will recall (“Reverse Mortgage Finance Festers”) that when Reverse Mortgage Investment Trust (RMIT) filed for bankruptcy in December 2022, the US Treasury ended up taking control of the nation’s largest reverse mortgage lender and servicing book. Why?

Private buyers were unwilling to acquire RMIT from bankruptcy and take responsibility for a money losing reverse mortgage portfolio.  When the third week of December 2022 arrived, the Treasury had to seize the servicing asset, pay the Ginnie Mae bondholders and advance cash to the elderly borrowers. The RMIT book was upside down to the tune of hundreds of millions of dollars and has cost the Treasury billions more since. 

As a result of the mishandling of the RMIT default by the Biden Administration, Texas Capital Bank (TCBI) got thrown under the bus as a lender to RMIT post-default. Of note, former Ginnie Mae President Alanna McCargo, who made verbal commitments to TCBI that resulted in a litigation between TCBI and Ginnie Mae, was just named President and Chief Executive Officer of the Federal Home Loan Bank of San Francisco. She replaces Teresa Bryce Bazemore at the FHLB San Francisco. 

Of note, the liquidity problem discussed in the FSOC report is specific to Ginnie Mae servicing assets and cannot be fixed without legislation. Conventional servicers get reimbursed by the GSEs after month four, but Ginnie Mae servicers must carry the financing load of coddling delinquent consumers and financing the float of loan forbearance for years. 

The proposal from Secretary Yellen in the FSOC report asks for Congressional authority to support government MBS issuers and raises some other important concerns, but it misses the key point that should have been learned in the RMIT fiasco involving Ginnie Mae. 

Once a mortgage company with a Ginnie Mae servicing business files bankruptcy, the firm will either be acquired voluntarily in a private transaction under Bankruptcy Court supervision or the US Treasury will end up the owner. Despite all of the fuss made by the FSOC and banking and housing regulators about mortgage servicers, they still don't get the joke.

When a Ginnie Mae issuer runs out of cash the decision tree for the buyer is binary: either the mortgage servicing right (MSR) has value or it does not.  If the servicing business cannot be sold in a bankruptcy auction, then nobody will lend to the debtor and the Treasury will own the servicing asset. Period. In fact, we still think Treasury may acquire another Ginnie Mae reverse MSR this year.

If the Biden Administration really wanted to address the liquidity “problems” of nonbank mortgage servicers, then Secretary Yellen would be demanding that Congress give Ginnie Mae more flexibility and funding, and allow nonbanks immediate membership into the Federal Home Loan Bank system. Perhaps President McCargo of the FHLB San Francisco will take up the cause of membership for the nonbanks.

The WGA Bottom 25 Banks

With aspirational stocks losing ground, the banking sector is starting to get more attention from managers after a long period in the basement compared with other sectors. Are there bank bargains down in the cellar waiting to be discovered? Below we take a look at the bottom quarter of our test group, banks that rank 76th through 100 in the WGA Bank Top 100 Index.  

The list below shows the bank's stock symbol, rank in the Index and raw score. The maximum score was 530 this quarter and the bottom quartile start at 215. The median score was Customers Bank (CUBI) at 54th with a score of 262 and the average for the group was 267. The chart below shows the bottom quartile of the test group.

Source: Bloomberg/WGA LLC

The first thing to note about this group is that most of the banks are small. Live Oak Bancshares (LOB), for example, has a market cap of just $1.5 billion and is still trading at 1.7x book value. The stock was trading close to $50 at the end of 2023. LOB got dinged in our test matrix on efficiency and 3 month total return.

WGA Bank Index

Bottom Quartile Q2 2024

The largest bank in the bottom quartile is Valley National (VLY), was trading over $11 at the start of 2024, but lost 40% of its value in the Q1 2024 downdraft following the earnings restatement by New York Community Bancorp (NYCB). VLY ranks fiftieth in the US by assets at $60 billion, has a $4 billion market cap and is trading at 0.6x book value. Is VLY a bargain at these levels? With more than half of its loan book in commercial real estate loans in the New York footprint, we'd say no for now.

Another large bank in the bottom 25 banks is Independent Bank Corp. (INDB), a $20 billion asset bank in Rockland, MA. INDB is currently trading around 0.7x book, but missed expectations in Q1 2024 with revenue down almost 10%. The bank has a high concentration in real estate loans, partly explaining the weakness in the stock, but has a good performance profile historically. The bank scored well on efficiency in our Q2 test, but had weak results in other categories.

Perhaps the most important lender in the group is TCBI, which ranked 83rd in the WGA Bank Top 100 in Q2 2024. TCBI peaked around $65 at the end of Q4 2023, then traded down into the 50s after the NYCB kerfuffle. TCBI is a peer performer that has a national mortgage lending business, including lending on government-insured reverse mortgages. Recent results have been weak, with equity returns in low single-digits.

The bank has not yet reported the losses from the bankruptcy of RMIT. The $30 billion asset bank has a quarter of its balance sheet in commercial loans, another 25% in commercial real estate and another 25% in "other loans and leases," the highest percentage in Peer Group 1. Yet the bank's loan losses have been trending down since Q1 2023, much like the rest of the industry. Are declining net loss rates a head fake? Yes, we think so. TCBI guided higher on commercial losses in Q1 2024 earnings.

At book value, we do not see any great value in TCBI and would be inclined to wait for the other shoe to drop in terms of increasing exposure to the stock or the bank. The fact that TCBI has chosen to lean into commercial credit exposures at a time when residential loans have negative net default rates is remarkable and does not make us positive on the bank. The fact that the bank continued to lend commercially against reverse mortgage receivables after 2022 also makes us question the judgment of bank management.

Source: Google Finance

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