Mortgage fund with the possibility of growth

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Many mortgage-backed stocks seem like a money pit right now, but investors looking through the listings might find one with a good backbone.

New investment in residential real estate Corp.

NRZ 1.65%

is a type of real estate investment fund that invests in mortgage assets rather than real estate. He also owns mortgage lending and servicing firm Newrez and just completed an acquisition another, Caliber. New Residential is among the largest non-bank owners mortgage rights, or MSR, which entitles you to a stream of commissions earned for activities such as collecting monthly mortgage payments and distributing them to investors.

One thing that mortgage stocks are suffering about – many have fallen more than 10% in the past six months – is concerns about the pandemic-fueled US refinancing wave. collapses… Even though base 30-year mortgage rates dropped in July, the rate at which mortgages are paid off in general has still slowed, according to Black Knight, a provider of mortgage technology and data. Many eligible borrowers who could repay their mortgage early through refinancing have already done so.

Further slowdown will be bad for mortgage volumes, but good for MSR values. These values ​​have dropped due to a sharp increase in refinancing, as early repayment of the mortgage leads to a reduction in future service fees. Raising rates and reducing the speed of prepayment, in turn, would raise these values. Jefferies analyst Ryan Carr estimates that the gain in MSR New Residential will “more than offset” the decline in search volume in the face of growing growth. A return to 2019 MSR values ​​could add $ 1 billion or more to the value of the MSR New Residential portfolio, or $ 2.50 or more to the book value of a share, which was $ 11.27 at the end of the second quarter.

In addition to capitalizing on the higher rates, New Residential also has elements in its original business that can help it cope with wider volume declines. Caliber’s business is focused on purchases, which tend to last better as rates rise. Newrez is also improving its ability to attract serving refinancing clients by issuing these mortgages – an opportunity that has helped bolster ratings for other lenders. Newrez’s recapture rate jumped to 41% from 28% during the second quarter.

As a hybrid investment and start-up company, New Residential is also a player in the mortgage market that does not go towards securitizing government-funded corporate agencies. Lending as a mortgage for self-employed people with non-standard income documentation frozen last year… But S&P Global Ratings analysts predict return to some parts of this market before the end of this year. Already in the second quarter, about 20% of wholesale New Residential mortgages were non-agency loans.

Other mortgage firms with similar risks escaped the discouragement. Stock

Mr. Cooper Group,

COOP -0.24%

also an originator with a large service business, grew more than 20% this year. Stock

Redwood trust,

RWT 1.15%

a major player in non-agent mortgage financing, grew by more than 40%.

Meanwhile, New Residential shares are down roughly 1% YTD. It has some quirks: Last year, the company began the process of potentially spinning Newrez as a stand-alone listing, but after the acquisition, Caliber said it was in no rush to create a combined venture and focused on integration. He also cut dividends during the pandemic, as many REITs did.

The market seems to be ignoring the potential profits of the establishment and maintenance business. New Residential is trading at a discount of over 10% to book value, while some other mortgage REITs are trading at about book value. In addition, a premium based on a price-to-earnings multiplier may be added to its operating profit. He also increased dividends.

The next step towards additional release is a potential catalyst for a significant rating upgrade. But even if no such announcement comes up anytime soon, the trend towards higher rates and lower prepayment speeds could prompt investors to look for ways to play it. They could find a home in New Residential.

Heard a list of leaders in stockpiling

Write to Telis Demos in telis.demos@wsj.com

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