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laterre

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  • Miller Energy Resources - Another Distressed Preferred With 176% Upside Potential [View article]
    Look at the amended agreements recently filed with the lenders for the revolver and the 2nd lien. They've already run through the original covenants when they made the last payment on the prefs. There's no question that the senior secured lenders can mandate a suspension of payments on preferreds. Preferreds are equity--not debt--and their payments are optional (albeit cumulative in this case). That's why they have to be declared every qtr by the company. The question isn't whether the lenders have a right to shut these off, it's whether they'll choose to exercise this stopper clause at some point in the future.

    So far, so good, as they just declared, but if things get tighter, the divvy is gone (though accumulating). Also, NB, there's nothing preventing them from layering more secured debt in front of the prefs, thereby pushing them out of the money in the case of a BK.

    Darren M does an admirable job of surveying these risks in his previous SA post on the Mill Prefs.

    I take no heart whatsoever from someone declaring something "sacrosanct." The fact that someone felt obliged say that is a negative indicator. And it's not the company's call any longer. They'll pay as long as the senior lenders allow them to pay. Now the fact that mgmt is actually BUYING the prefs, that's another story...

    Disclosure: I'm long a very small (.5% AUM) position in the prefs...
    Jan 31, 2015. 05:07 PM | 6 Likes Like |Link to Comment
  • BreitBurn Energy Partners: Making Sense Of The 20%+ Rally [View article]
    @ JohnInFLA

    I tend to think you're on to something that the move had something to do with the repositioning of bets across their capital structure. If you were initiating a short on the senior unsecured bonds (in anticipation of more secured debt issuance, and not a dumb move) the logical step would be to go long the equity units as a hedge.

    Just a theory, but the big discount that has opened up on the 2020 and 2022 notes is alarming. Someone is very bearish on BBEP's liquidity situation.
    Jan 27, 2015. 10:21 AM | 4 Likes Like |Link to Comment
  • BreitBurn Energy Partners Investment Thesis [View article]
    I've got a small position in the 2022s (though I wish I'd waited longer to nibble).

    Here's the problem with the senior unsecureds: with the April revaluation they're going to get whacked on the credit facility, and will need to raise considerable cash. The senior unsecured market is closed to them, and so there are only two possibilities: a secured 2nd lien term loan at usurious rates (probably 10% or more) or a dilutive equity issuance. From the vantage of the senior unsecureds, I'd love to see them sell more units beneath me, but the most likely scenario is that they'll layer some more secured debt in front of the bonds. In an extended period of low oil prices, the senior unsecureds are probably going to end up out of the money--meaning that if they declare BK, you're not looking at much in the way of recoveries.

    By my very rough numbers, they can cover the interest on the revolver and bonds for a while--prob into 2017--but if they falter or the senior secured lenders play hardball and pull out the rug in 12-18 months, the 2020 and 2022 bonds could be a total loss. Nice yield; safer than the common divvy; but also very dicey...

    Be careful with all these senior unsecureds. They may look fine now, but looking two moves ahead, there's going to be more debt layered on above them in the capital stack.
    Jan 26, 2015. 03:11 PM | 1 Like Like |Link to Comment
  • Ocwen: Outsider-Like CEO, Undervalued Shares, And Recent Buy By Klarman [View article]
    I tend to think the Blue Mountain suit on the technical default is bs, but the other suit from the mbs holders could be material. It's not inconceivable that Pimco, Blackrock, et. al. could own enough of some individual deals to vote out OCN as the servicer. But then the question is: replace them with whom? Buy some popcorn, settle down in the easy chair, and let the courts sort this all out!

    Stepping back, though, and putting aside this as an investment thesis, OCN's been put in a no-win situation. On the one hand, they were trying to do right by the trustees and bondholders (and themselves) by giving deadbeat homeowners the quick heave-ho and keeping the cash flowing. They were obviously too sloppy and aggressive and get spanked by the regulators. On the other hand, now the mbs holders are kvetching that they haven't been zealous enough in protecting their interests and maximizing recoveries. Can't win...

    But hey, that's why it's on sale for $6 and change.
    Jan 25, 2015. 08:52 AM | 1 Like Like |Link to Comment
  • mREIT Owners: Buy MSRs As A Way To Naturally Balance Out Interest Rates Rising [View article]
    Fair enough, and good luck to you!
    Jan 25, 2015. 08:34 AM | Likes Like |Link to Comment
  • mREIT Owners: Buy MSRs As A Way To Naturally Balance Out Interest Rates Rising [View article]
    Like you, I have no crystal ball. Maybe rates go up, and maybe they go down. I have a strong view, but best to be positioned for either scenario (which this hedging strategy doesn't accomplish, BTW).

    Nothing I can cite in terms of data points (tanking commodity prices, disinflation, mounting $US, European rates negative to midway out the curve, record short positions in TSY10, potential EM defaults, eurodollar future forward pricing, etc.) is going to convince you one way or another if you've made up your mind that rates are destined to rise. But the claim that they are "ridiculously low now" (compared to what?) and that the Fed is hankering to raise short term rates by 50bps is no evidence that the long bond is bound to move up any time soon.

    Mreits may have 99 problems (I'm not a buyer here), but rising long term rates ain't the big one. In fact, if the fed were to tighten, and the long end of the curve were to blow out (given all the excess liquidity in the system, this wouldn't be the logical effect of hiking the Fed Funds rate, but whatever...), this would arguably be *good* for mreits as they could reload at higher spreads. In a flattening environment like we're facing, they're unexciting as their earnings power slowly rolls down. Aside from the fact that MSRs have cheapened considerably, and have better positive carry than IOs, buying MSRs doesn't address these problems.
    Jan 24, 2015. 03:34 PM | 2 Likes Like |Link to Comment
  • mREIT Owners: Buy MSRs As A Way To Naturally Balance Out Interest Rates Rising [View article]
    In theory, this should work--which is why the PMs are doing it themselves. But the problem (and why this is probably a very bad idea as a hedge) is that the hedge is asymmetrical (it only works in one direction). Yes, if and when rates should rise, the negative duration of the MSRs should in principle hedge out some of the positive duration of the mbs. However, if rates should fall further (as they're manifestly likely to do), the MSRs suffer from exactly the same problem as mbs: namely, they're hurt by prepays and run-off. So rather than hedging yourself, you've only magnified the problem.

    Also, there's a big assumption that the market price of exchange traded vehicles will beahve rationally
    Jan 24, 2015. 10:41 AM | 1 Like Like |Link to Comment
  • Buy Western Asset Mortgage Capital Now As The Entry Point Is Low [View article]
    No--90% of the prepays don't have to be paid out as divvies. Only earnings have to be paid out. They're free to reinvest the run-offs as CPRs tick up. The real problem is that with agency mbs at all time highs, the spreads they'll earn from reinvestments are materially lower.

    Anup's pivot into non-agency is looking smarter by the day....
    Jan 23, 2015. 10:54 AM | 2 Likes Like |Link to Comment
  • What Went Wrong At Ocwen, And What Happens Next? [View article]
    Way I typically look at things is EBITDA. Here EBIT is prob the better measure, as you say. So the question is: how does their EBIT cover their debt service and fixed expenses, and is there anything left over as truly "free cash." By my calculations (admittedly back of the envelope for now) the answers seem to be adequately, and some.

    I come out at +/- 500-550M, or $4-5 a share, on a very stressed case liquidation value (write off all intangibles; 350M settlement and costs; 10% haircut on MSR liquidations). This completely discounts the possible upside on the carrying value versus current market value of MSRs, as well as the possibility that the settlements may be less onerous. Bond market agrees with you, however, as the senior unsecureds are trading (144A) around the 80s.

    Not sure about their total capacity, but several of the mreits have been setting up licensed servicers as subsidiaries so they can buy these up and service them (via the subsidiaries). There's also Nationstar, Walter, etc. to pick up the slack. There are buyers.

    Why did people get into this at higher prices? Cuz they assumed what the 2 and 20 lemmings always assume: that everything would go swimmingly. After all, everyone was talking it up. What'd it, like double or treble after Ira Sohn. What could possibly go wrong? But now that door looks pretty small when everyone is trying to get out at the same time and avoid looking stupid. Only one I really put any weight on is Seth Klarman. When he gives up, I know I've missed something.

    Put it in a drawer, come back in 2 years, and this'll either be at 0 or 25. On that happy note, GLTA!
    Jan 20, 2015. 01:39 PM | 2 Likes Like |Link to Comment
  • What Went Wrong At Ocwen, And What Happens Next? [View article]
    Re: FCF, read point (a) in my first long post above. I'm well aware that the amortization expense of the MSRs is indeed a "quasi-cash" expense given the liquidating nature of MSRs. Their current annualized expense for amortization is $250M. As I note in point (b) above, there is the related question of whether this expensing is sufficient given higher than anticipated run-off rates, about which I'm dubious...

    But assume for a second that the amortization expense isn't just a rosy accounting projection and that it matches the actual run-off. In one sense (and subject to the caveats I identify above), it's a moot point if--like the MLPs--they can continually replenish their supply of MSRs by acquisitions. The "free cash" from MSRs gets recycled into new rights. That particular daisy chain seems to have ended for the time being, so we're in run-off.

    But what's striking is that even if you DON'T add-back the $250M annualized in amortization expenses, you're still left with some serious FCF. Don't have the numbers in front of me, but assuming 750M in unadjusted FCF, minus the 250M for amortization, it still looks like nearly $500M (or 1/2 the current market cap) in a run-off period. Pretty sure that will cover debt service and keep the lights on for a year or two while they get the reg stuff straightened out.

    Happy to be corrected on any of these figures and assumptions. The reason I'm boring everyone to tears with these calculations is I hope to have them falsified.

    Also, agree that liquidation value makes more sense as a worst case.

    Still, think of the coincidence of things that have to go wrong for this to be a zero. (a) they need to be completely put out of the servicing biz, via a revocation of their license and a forced divestiture; (b) upon liquidation, the value of the MSRs and reverse mortgage portfolios turns out to be severely impacted by "legacy issues" (25% haircut); and (c) the recoveries upon divestiture need to be extinguished by a legal settlement in excess of $300M (spit-balling).

    I can envision one or two of these things coming to pass. It's almost certain that they'll be burned by at least one of these. They get shut off and have to liquidate, or they get hit by a big settlement but are allowed to continue operating, or they get gigged by the market in a partial divestiture. Still, I think the coincidence of all three of these negatives is less likely than the market seems to be pricing in.

    My 2 cents, and I'm done on this one for now...
    Jan 20, 2015. 11:11 AM | 2 Likes Like |Link to Comment
  • What Went Wrong At Ocwen, And What Happens Next? [View article]
    All great points/ sticky questions...

    On unloading the agency MSRs. In addition to their major competitors, there are loads of smaller players (including several of the mreits) who've been staging to get into this biz. TWO, MTGE, WMC, and several of the hybrids have been positioning themselves and getting subsidiaries licensed to service these.

    It's not that there's no market for them; the real question is current value. Looks like there are a couple of large BWICs coming up that might establish a market price. But even absent a true "market" price, you can kind of reverse-engineer the pricing on these off of current pricing for agency IOs. And not surprisingly, these have gotten pounded as rates have dropped. There will also be new marks (12/31) from other players as this earnings season rolls around.

    If I'm right about the material effects of falling IR on the value of the MSRs, you could actually look at the aborted Wells Fargo deal in early 2014 as a blessing in disguise. It stopped them from buying a boatload of MSRs at prices that were undoubtedly top of the market--not reflecting today's obscenely low rates and a faster burn-off rate. Remember that when the Wells deal was hatched, everyone was expecting rates to blow through the roof and mtg refis to be muted. Now, presumably, when they get the greenlight to begin acquiring again, the pricing will reflect current expectations about prepayments.

    I actually think they have more leverage in the CA situation than the media seems to be allowing. CA borrowers are scattered in every single mbs pool; you can't just divest (sell-off) the CA mtgs from the rest of the servicing rights. Conceptually, OCN services deals (entire pools, for the mbs trustees) not discrete individual loans. I can't foresee every single mbs trustee simply firing OCN outright and throwing the whole mtg payment system into chaos. They send some boxes of docs, do a mea culpa, pay a couple hundred million to the states, and bride some affordable housing advocates: done deal.

    Bottom line: there are so many ? here that it's a fool's errand to try to pin down an exact value. It's impossible with so many moving parts. For me, though, the question is does the current price allow for a sufficient margin of safety to account for some of these risks, even in something approaching a worst case. I'm getting comfortable with a price in the $6-8 range that's like 1.5-2 times FCF on a going-forward basis, and probably considerably less than the bust-up or run-off value. Think about how cheap is 1-2 times forward EBITDA. Know any other biz selling that cheaply? That price leaves a lot of wiggle room for the "unknown unknowns." Still, not denying that the downside risk here is a zero.
    Jan 20, 2015. 10:00 AM | Likes Like |Link to Comment
  • 16 Investing Lessons From A SuperInvestor The World Forgot [View article]
    Truly one of the best!

    And I'll give him a free pass on #15 ;)
    Jan 19, 2015. 07:19 PM | Likes Like |Link to Comment
  • What Went Wrong At Ocwen, And What Happens Next? [View article]
    Addendum:

    Many comments above have suggested that MSR valuations (assuming OCN is a forced seller) may be impacted by the liability issues/ requirements of a forced divestiture in CA. Don't want to minimize the "firesale" problem, but it seems to me that the issue of interest rates/ run-off is more material to pricing if/when it comes to divesting the agency MSRs. Besides the regulatory problems (which I think they'll eventually resolve) this is a different (and potentially additional) negative that most aren't focusing on.

    However, in looking over the 10/30 earnings presentation, OCN makes the interesting suggestion that rather than being OVERvalued, there may be some embedded upside when one considers book value versus market value (albeit as of 9/30/14).

    I take their numbers with a grain of salt, but they claim that the book value of their MSRs understates their "Fair Market Value" by $500M--or half the current market cap of the company (Shareholder presentation, p. 21)! They also provide some even more flattering numbers about "Internal Valuation" based on their "special sauce" (in which I place no confidence whatsoever, BTW), but which give an estimate of value of the MSRs of more than twice book value(4.5B!). Regardless of the degree of fluffing, there's some buried optionality here of an order of magnitude similar to the regulatory flack that's not being priced in by the market.

    Key question to consider in valuing a bust-up/ run-off scenario: what's the current market value for the agency MSRs? Interest rates have moved big-time since 9/30/14, and assuming the MSRs have strongly negative duration (crudely inferrable based on yields for IOs), I'd assume that an IR decline of the sort we've had in the past four months could shave more than 10% from the fair market value of the MSRs. How much of this decline might be offset by the reverse mortgage portfolio (whose duration would be positive, I think, but could vary considerably depending on whether they're floating or fixed) is another big question...

    Something to watch for when the mreits start reporting: how are TWO, MTGE, and others moving their marks on the MSRs they've acquired recently?
    Jan 19, 2015. 02:34 PM | 1 Like Like |Link to Comment
  • What Went Wrong At Ocwen, And What Happens Next? [View article]
    Still trying to get my head around this one. Even putting aside the litigation, the convoluted sub-servicing and securitization agreements make this a real mess to try to value.

    Taking the opposite tack of a worst case liquidation value, I'm struggling now on the free cash flow question, which has been a major selling point to date. On the surface, OCN looks like a FCF machine. Once you add back all the non-cash charges and financial engineering, they look like they're reliably throwing off 600-800M a year in free cash--a number that was greater than a $1B a year before they hit the rough patch. That kind of FCF takes care of a lot of problems, and would imply that the stock is being valued at an insane 1.5 times FCF. But among the largest of those non-cash "add-back" expenses is the amortization of the MSRs. This amounts to $250M a year of the "free cash." Without these, the FCF generation is still positive but less eye-popping.

    Two questions I'm pondering in light of recent events. Curious about how others reckon these. (a) in a typical distressed valuation, I've got no problem ignoring D&A on the grounds that it's a sunk cost and one can usually defer replacement indefinitely with negligible impact on cash flows. Add-backs for D&A=real FCF. But here, the D&A represents an actual evaporation of a cash-flowing asset. As these MSRs roll off, so does the cash flow. So I wonder whether treating these as add-backs for purposes of EBITDA doesn't misstate the true cash flow power here, esp. if they're prohibited from replacing them? (b) what's the relationship between their accounting measures of D&A expenses and the *actual* roll-offs of the MSRs? They list the projections/ assumption in the 10-K, but these look incredibly low given how far interest rates have fallen in the past year, and typical sensitivity of mortgages to prepayments. [I'd assume subprime are less sensitive, but in the current market you'd never purchase agency mbs using the rosy assumptions they're listing]. So my question: are they amortizing the run-off each quarter on the basis of the original book-keeping projections at purchase (the way mreits typically do for mbs)? If that's the case, then there could be an ugly catch-up charge at some point in the future if the empirical performance diverges from the projections? Or, alternatively, do they expense amortization based on actual run-off performance each quarter?

    Why this matters... In a model where they are in perpetual acquisition mode (like they were up until 2014) this is all kind of a moot point (and allows them to bury it in the accounting/ potentially exaggerate true FCF). But in run-off mode where they're not replacing the MSRs--and IR are suddenly much lower than anyone could have foreseen--the amortization of the rights can be a big deal, and it conceivably matters a lot whether it's accounted for based on empirical performance or rosy accounting assumptions...

    Make any sense? Thoughts?
    Jan 19, 2015. 12:56 PM | 1 Like Like |Link to Comment
  • What Went Wrong At Ocwen, And What Happens Next? [View article]
    Define "firesale prices"? Weren't these the very same MSRs that other would-be servicers, mortgage reits, and other FI players were queueing up to buy six months ago? The same MSRs that have the interesting qualities of negative duration and positive carry?

    To be clear, I don't have any specific "analysis" of OCN, and I'm not saying run out and try to catch a falling knife. But as far as valuing their ASSETS (as opposed to their EARNINGS, which may very well be good and screwed by the CA news...), I'd imagine that falling interest rates (and thus accelerating refis and runoff speeds) would have more of an effect on their ability to monetize those assets, should the need arise, than would a forced divestiture of their CA rights.

    Only one opinion among many, and quite different from the market's, obviously.
    Jan 13, 2015. 01:31 PM | 1 Like Like |Link to Comment
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