I’ll tell you why. In fact, two reasons why. First, I continue to see an outstanding risk/reward profile for these stocks. On the risk side:
- MGIC and Radian still sell below my estimates for liquidation value.
- Their biggest fundamental risk, namely a material recession accompanied by a sharp drop in home prices, is highly unlikely and is certainly not priced into the overall stock market.
On the reward side:
- The mortgage insurers (MIs) all have significant excess capital, so they will be returning substantial amounts of capital to shareholders, most likely through stock buybacks. (Note that National Mortgage is still growing fast enough to reinvest all of its earnings.)
- If the MIs reach a 10 P/E from their current 8 because of those capital returns, their stocks will be about 50% higher in two years.
Second, nobody seems to care about the MI stocks. Literally, nobody but me has written about MGIC or Radian on Seeking Alpha for a long time. And the only other comment on Essent (by Brian Yu) referred to me as his idea source. A good investing rule is to buy when nobody cares. It then takes only a small group of investors to begin caring to make the early investor (that could be you!) a lot of money.
So my MI OCD will keep me writing about them. Including next Tuesday, the 23rd, when MGIC reports its Q2 results. Can’t wait? Me neither.
This installment of my MI saga first addresses the risk of a material home price decline and compares the MIs to other housing stocks. Summary – we are not on the verge of another 2007-2011 home price collapse. Then it notes how cheap the MIs look compared to other housing stocks.
Yes, home prices are leveling out...
There is no question that home price increases have slowed, as this chart shows:
Sources: S&P CoreLogic Case-Shiller, U.S. Census Bureau.
Home price increases are likely to slow even further from the current 3.5% recent annual rate. Here’s the view of John Burns, one of the premier housing analysts: “Price appreciation has slowed across every major housing market, in what we are coining the Great Price Deceleration…Nationally, we expect resale prices to gain 2% through 2022, cumulatively.”
A cumulative 2% over the next three years? That’s essentially flat. But it’s also not down. The above chart shows that home prices don’t have to go down even during a recession. They were flat during the early '90s recession, and actually rose through the '01/'02 recession. Only during that truly special case of '08-'11 did home prices sharply decline. But because '08/'09 was our last recession, investors have in my opinion severely exaggerated its likely recurrence.
…But there is plenty of evidence that home prices won’t be turning down.
In 1911, editor Arthur Brisbane was quoted as saying “Use a picture. It’s worth a thousand words.” I feel you, Artie. Here are a few pictures, and a few words, to help convince you that U.S. national home prices are quite unlikely to fall materially over the next five years. I start with housing vacancies:
Source: U.S. Census Bureau
I keep showing this chart because it’s so critical to understanding the housing market. The U.S. currently has a housing shortage, a radical difference from 2007. And the shortage is more likely to shrink over the next few years, because home builders are not keeping up with demand:
Source: U.S. Census Bureau
Demand for housing is growing from some key demographics. For example, younger people, despite student loan debt, etc., are coming back to the housing market:
Hispanics are also a growing source of housing demand, as this Wall Street Journal article notes: “While Hispanics make up 18% of the U.S. population, the group accounted for nearly 63% of new U.S. homeowner gains over the past decade, according to the National Association of Hispanic Real Estate Professionals. New homeowners include people buying first homes and those coming back into the market after a foreclosure.”
Finally, while home prices have risen sharply enough to make many observers nervous about a bubble, lower interest rates mean that homeowners are spending a smaller share of their paycheck on mortgages than they have for many decades:
Source: Federal Reserve
Convinced yet? If not, don’t think this debate is over. I’ll be back at you with more evidence down the road.
The MIs looks cheap compared to other housing stocks.
Take a look at this table, which compares data for the MIs (MGIC and Radian) to the homebuilders (Toll Brothers (NYSE:TOL) and Lennar (NYSE:LEN)), the home improvement retailers (Home Depot (NYSE:HD) and Lowe’s (NYSE:LOW)) and to the S&P 500 index:
The mortgage insurers have the lowest P/E ratio of the housing sector, yet they currently have better revenue growth, and even better growth in their core revenue driver, namely mortgage insurance policies in force. The MIs have increasingly shifted credit risk to other insurers, meaning that they have had to give up some revenues in exchange for less future credit expenses.
Sources: Company reports, Yahoo Finance
None of this makes sense, folks. Buy some mortgage insurance stocks. Get in early.
Disclosure: I am/we are long MTG RDN ESNT NMIH. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.