Yomgui

Redwood Trust: From $30 to $4 by Year-End?

Your forecast of Q2 write-downs seems reasonable. But it DOESN’T MEAN that the stock will go down.

There is a big flaw in your argument: you ASSUME that RWT stock price is primarily derived by its book value.

Redwood is above all a Dividend Play. With a regular dividend of $3 per year it translates into a nice 11% rate at today’s price of 26.6 . And that’s without counting any “special” dividend (an extra $2 last year).

The stock price is driven by anticipations of the rise or fall of the dividend.

As a REIT, Redwood must distribute 90% of its REIT taxable income. Taxable income doesn’t take mark to market into account and thus makes the level of write downs irrelevant.
THAT’S WHY YOUR PREDICTION OF SEVERE PRICE DECLINE IS BASED ON AN IRRELEVANT MTM WRITE-DOWNS ANALYSIS.

Being funded by Long Term debt Redwood can wait patiently for the loans it holds to mature. It doesn’t have to sell now at heavily discounted prices in a panic market.

RWT also holds $ 250 Millions (that’s 1/3 of shareholders equity) of Excess Capital ready to be invested at today’s depressed price. These 2008 investments will produce juicy yields for years to come and potentially some big capital gains if and when the real estate market recovers.

While you wait for a potential recovery in real estate you pocket circa 11% per year of dividend. Not bad. That’s of course IF the regular dividend stays at 0,75 quarter.
To state Redwood Management “the board of directors has
indicated it intends to maintain the regular quarterly dividend rate of $0.75 per share during 2008 ”

The question now is: Will RWT be able to sustain such a dividend in 2009. The answer to this question will determine future share price MUCH MORE than volatile Quarterly Write Downs.