Capital One: A Different Short Case 18 comments
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As if you needed another reason to get short Capital One Financial (COF). For purposes of this discussion, I am going to ignore the Credit Card portfolio and its accelerating delinquencies and charge offs. I am going to ignore the HELOCs. I am going to ignore the exposure to the collapsing UK housing market. I am going to ignore the Auto Finance portfolio, which is more than likely the next “shoe to drop”, to borrow CNBC's overused phrase. I hate to pile it on, but this should not be a $40 stock.
A quick history lesson for anyone not familiar with the history of Capital One, The Bank. Just before Katrina hit New Orleans in 2005, COF announced the agreement to purchase Hibernia Bank, a midsize commercial bank from Louisiana and Texas. I think COF's timing on the Hibernia deal is a good metaphor for their excursion into retail banking. In early 2006, COF announced the purchase of North Fork Bank (NFB), of Melville NY. NFB was the leading bank on Long Island in market share and was rapidly growing in the New York City market. NFB focused on growing deposits through its network of Private Bankers, many of whom focused on the NYC real estate market. NFB also owned Greenpoint Mortgage, a top-10 national mortgage lender based in California that specialized in Alt-A. Needless to say, Greenpoint was closed in late 2007.
Back to those Private Bankers... And the NYC real estate market... For a non-Money Center Bank, NFB was very successful with gathering deposits from Property Managers and Property Owners. The Private Bankers and Commercial Lenders were the driver behind that growth. Now, COF is losing these Relationship Managers to other local banks in a big way. Seven Private Banking teams left COF for Signature Bank (SPLY) alone in the last year. (see SBNY Q1 conference call transcript, pg 2 last sentennce and PR Newswire for more recent defections)
Now, looking at the last quarter's numbers, deposits grew 4.7B. On the surface, that is a pretty damn good number considering the conversion of the NFB branches to the Capital One Bank name recently. But, a big part of this 4.7B in deposit growth was hot money brought in by insanely high rates on CDs through the online direct bank. (5.35% as of today, Countrywide doesn't even have to pay that much). Unfortunately, Capital One Bank doesn't break out deposit or loans regionally on their 10Q. (I am not saying there is anything suspicious on the Q, it just makes our job a lot harder) Lower cost local banking deposits grew less than 1B. If you look at the northern franchise deposits (NFB) vs. the southern franchise deposits (Hibernia), I would bet that that the net 900M growth in deposits came from the commodity-rich Louisiana and Texas market, rather than the northern franchise with its headwinds in losing key relationship managers and a merger-related name change.
So, we have a bank that is:
- Losing relationship managers in NY. This is very bad.
- Geographically exposed to a recessionary NY economy.
- Geographically exposed to a commodity boom. (sounds good, but I don't think it is)
- Faces additional merger integration risk.
Going forward, Capital One Bank is stuck between a rock and a hard place. They are going to have to stem the tide of RM's leaving. That is going to be expensive. They are going to have to replace the RM's who left. That is going to be expensive. They have a NY economy that is suffering, partially due to the layoffs in the financial industry. The probability of a commodity bust is exponentially high, directly affecting the southern franchise. That could KILL credit metrics for the local banking segment and accelerate losses. The CEO sold a ton of stock in late May.
For these reasons, along with those in my first paragraph, I own a few put spreads on COF. Apparently I am in good company, someone went out and piled into the September and October puts, trading 6x open interest on Thursday according to Pete Najarian on Fast Money. I have no position in SBNY because of their exposure to CDOs, but if they get that cleaned up this quarter, SBNY could be a screaming buy.
Disclosure: Author holds a short position in COF and no position (currently) in SBNY.
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This article has 18 comments:
Every knows that COF is set-up for the big fall. The amount of bad debt in the areas of credit cards and auto loans has received some attention.
That being said, you make some excellent points about relationship managers and the inflated numbers from the Hiberia Bank portfolio. The later sets up another perfect storm scenario for this befuddled institution.
Last, I think your third COF article may well be served by addressing the consumer confidence and the HORRIFIC unemployment numbers... and how they will drive COF's stock price down to Davey Jone's Locker.
P.S. You may consider BAC's heavy exposure to consumer credit lines as well.
While I agree with author,no has had an explanation of this strength,that I have read.
COF business model is not broken and it has a strong franchise.
The stock is price very low compared to its core earning power of $5 per share.
Given that there is little if any sub-prime exposure (like C or AIG) I would not expect it to fall substantially. The Price / Cash Flow ratio is just over 2 and financial leverage is under 7 - low for a bank..
While I agree that COF has been able to post some decent numbers, my point is that the risk in their business model has been picking up in ALL areas. The stock does not appear to be reflecting this risk.
Interesting. COF DID go to mid 30's and I do not recall predicting 20's, so please DO NOT mis-quote. If you do find some reference to a $20 target, I would like to see and will gladly apologize.
Started discussing in March about credit companies, was I right? YES! COF was $50 or so when I first discussed. Timing was early, but come on and give some credit. A you are not a client and we do not discuss client trading ( just some general overviews) You need to be careful when you speak with such authority.
And yes, we covered some, but profited and on PUTs nicely along the way as well. While I should have stuck with general view of the company, ther was a risk management plan in place, so that if the price moved away, we do not get burned. This is why I stay away from usless commentary without fact.
Your points are not backed up by any fact. The author here does present some good data. AND, to be honest, the NY scene is a major concern.
Unless you are client (which you are not) you cannot have information about this matter, so kindly take your false and biased commentary somewhere else. If you listen to the podcast or read the blog, also, the above would have been what we discussed.
If you would have shorted when I mentioned on the first, second, third....tenth time, you would be up anywhere from 10-15% now, at the low, 30%.
It has become like the old noisy message boards over here. Need to rethink SA....
Andrew
See: seekingalpha.com/user/...
I wonder who Forrest really is. Now I am interested...
Lets see:
On Jan 22, he commented when the stock was at $37.
On March 25th, he commented on my article when it was $52
So, now COF is $46. I am not sure that I was so wrong Forrest. Maybe you cannot see the trees my friend. Yes, you were right in January. That was a different time.
Can you tell me one thing? What is that huge off balance sheet item feel like to you as a shareholder? Not concerned about securitization legislation?
Listen, don't let the facts get in your way. Just do us a favor and recognize who is the hypester.
You were the same type that whacked me all last year when I was writing about CROX as a prime short. Not one thank you, but lots of crapola from the fanatics.
seekingalpha.com/artic...
seekingalpha.com/artic...
That was June 2007 when Crox was around $40ish. Stock went up for a while, then the truth set in.
Also, people would be better served to quit using the term sub-prime, as if that is the only category of loans that are going bad or are going to go bad. Alt-A is Waaaaaaaaaaay bigger than subprime, and it is headed for disaster as well.
COF and RIMM are the shorts of the century. And AMZN. Any week now it's going to pop, imo.
On the other hand, I too have gotten more than a little hot under the collar with COF’s management when they decide to branch out into banking, auto loans, mortgage loans, and HELoC. Yes, COF could do no wrong as a pure credit card play in the ’90 and even up to about ’05. They consistently made money, grew, and their write-offs were better than normal, especially since that they started as a sub-prime credit card issuer. As time went on, COF migrated more to a main-stream card issuer, which I think was a move in the right direction. Everything seemed well until COF decide to buy Hibernia Bank during Katrina, but the stock price held up. Now with the substantial exposure to the NYC (and elsewhere) mortgage melt-down, big home-equity lines of credit, some of which are tied to foreclosure properties, you bet that Capital One is feeling the pressure. Did I mention auto loans? You would think that auto loans would still hold up, but even once great sub-prime used car loan maker Americredit (AFC), is now sucking wind. That being said, I think that COF’s current mid-40’s price reflects the true value for this company at this time, and I think that the market already has those factors that you and this author address already built in to the price.
One thing COF shorts and potential shorts do need to watch for is that at current levels is that COF’s stock price tends to ride up or down with market in general. Lately, very seldom do you find a day where COF’s will go down when the market in general is going up. If you have a big down day or week in the market you can probably short just about any financial and come out on top. I personally think that the big short opportunity on COF happened last year when if dropped from the 70’s to its current trading level. As for shorts and puts on COF? I would say make money in a daily position. Take a COF short position and hold on to it? To me that would be like playing with fire.
BTW, if you guys like to look a financial stocks that go against the grain and don’t have much coverage, take a look at World Acceptance Corp (WRLD), but hell what do I know, I didn’t sell COF when it was in the 90’s!
Obviously COF is a cyclical play and currently in value territory. In the last recession it had bottomed at $25. Even pessimistic earning estimates are $4.25 for 2008. I think the core non-recession earning power is well over $5. It is trading well below book value of $66. My own calculations suggest based on earning power suggest that it should trade in the mid 70's.
Value guru's like Bill Miller & Nygren have been buying into this in a big way.
People are not going to stop using cards and COF seems well reserved for losses. If you can take the volatility then this sucker is for the long haul.
However this is a risky security and you may be able to make some money on volatility, but don't go on a vacation while in a short position. Heck if we are lucky it will miss a quarterly earning estimate and go into the 30's. You guys can make some money and I can buy some more.
Cheers.
I must say, I need to thank you. Seriously. I shorted right after I wrote that to you the other day. $45 for a trade for my client.. a nice position too. It was clear that the troube is not over. So, thanks.. really ( Not to rub it in)
BUT, I do have to ask and without pimping my bon too much (The Disciplined Investor). It is not that you did not sell at $90, 0r 80 or 70 or 60 or even 50. What is up? If you are investor does not mean you canot sell, hedge, sell calls, or something. Truth is that you are never going to sell. So, what is the point of even knowing what the stock or mamangement does? I am nit kidding. If you are not going to sell, forget about it ( not suggesting that it is a good idea to hold but...)
I never understand "investors"...
You can't sell because:
1)If it goes up, it coud go higher
2) If it goes down, you wait for it to come back
3) When it comes back, it is going higher.
4) When it goes back down, you promise that you will sell , if only it gets to $...
5) Then it gets there, and you feel that you were right all along and hold.
If it goes down, you think everyone else is wrong. But think about this: If you are in a room with 100 people and you are the only one that is right...... YOU ARE WRONG!
Ponder that and relate it back to so many of your other stocks that the same thing happened over and over. Just because you don't want to pay th 1-2% fees. YIKES! Crazy Math...
Andrew
On Aug 12 01:00 PM Forrest wrote:
> Andrew, sorry man, I know that you do give good advice in general
> and yes, Capital One is one of many financial institutions that has
> its problems. You do read a lot of BS posts on SA, I guess that
> mine was just another BS post. But as a long on COF, and man I mean
> very long - long since Capital One was spun off from Signet Bank
> ($5.33 split-adjusted) at as a pure credit card play, I get tired
> of reading about how much of a bunch of morons are running COF and
> that COF is going down the toilet. I know that many people hate
> Capital One with a passion and it shows by some of the reply postings
> yours and other COF articles. Heck, I don’t know, maybe they had
> a bad experience with them as a customer when they didn’t pay their
> bill on time or something.
>
> On the other hand, I too have gotten more than a little hot under
> the collar with COF’s management when they decide to branch out into
> banking, auto loans, mortgage loans, and HELoC. Yes, COF could
> do no wrong as a pure credit card play in the ’90 and even up to
> about ’05. They consistently made money, grew, and their write-offs
> were better than normal, especially since that they started as
> a sub-prime credit card issuer. As time went on, COF migrated more
> to a main-stream card issuer, which I think was a move in the right
> direction. Everything seemed well until COF decide to buy Hibernia
> Bank during Katrina, but the stock price held up. Now with the
> substantial exposure to the NYC (and elsewhere) mortgage melt-down,
> big home-equity lines of credit, some of which are tied to foreclosure
> properties, you bet that Capital One is feeling the pressure. Did
> I mention auto loans? You would think that auto loans would still
> hold up, but even once great sub-prime used car loan maker Americredit
> (AFC), is now sucking wind. That being said, I think that COF’s
> current mid-40’s price reflects the true value for this company at
> this time, and I think that the market already has those factors
> that you and this author address already built in to the price.
>
>
> One thing COF shorts and potential shorts do need to watch for is
> that at current levels is that COF’s stock price tends to ride
> up or down with market in general. Lately, very seldom do you find
> a day where COF’s will go down when the market in general is going
> up. If you have a big down day or week in the market you can probably
> short just about any financial and come out on top. I personally
> think that the big short opportunity on COF happened last year when
> if dropped from the 70’s to its current trading level. As for shorts
> and puts on COF? I would say make money in a daily position. Take
> a COF short position and hold on to it? To me that would be like
> playing with fire.
>
> BTW, if you guys like to look a financial stocks that go against
> the grain and don’t have much coverage, take a look at World Acceptance
> Corp (WRLD), but hell what do I know, I didn’t sell COF when it was
> in the 90’s!
Anyway Andrew, I look forward to your next article here at SA and I'll be nice - even if you write about shorting COF again - but don't expect all people to be nice, agree with you, or even thank you, when you post about just about any short. I went back and read your articles about shorting the company the makes those goofy little rubber shoes. Even without delving into the numbers, to me that thing had short written all over it. Moreover, after looking at those responses, one would have thought you had peed in their Cheerios or even worse! On the other hand, post about idea on a long and almost everyone will pat you on the back – or at the least, you don't get any response at all.
Also, NC Trader, sorry to hijack your thread - you wrote a very good article.
Best of luck to all,
Forrest
no problem on the thread, I found it very interesting. That's what I'm here for, variety of opinions. Thanks for keeping the discussion going.
Agree about the lessons here. Also, I agree that the lack of nice remarks/comments is to be expected with the large number of amateurs that have an emotional attachment. But that is the same reason why they will lose...time and time again.
But, may I also suggest you take a look at my writing on my site as much is not picked up here....
www.thedisciplinedinve... and I am participant in MSN Strat lab. Interesting stuff ( I think...)
Best
A
so here is what I think of Capital One
www.drclue.net/Assets/...