Genworth MI (TSX: MIC) reported their Q4 results a couple days ago. This report was a little more interesting than previous ones simply because there has been a relatively large shift in sentiment concerning the Canadian housing market due to the collapse in crude oil pricing (and its impact on Alberta and Saskatchewan).
The actual result was less relevant than the future guidance of the company.
Specifically, the guidance was that the loss ratio anticipated in 2015 would be between the 20-30% range, while the long-range guidance was for a loss ratio of 30-35%.
As I have pointed out on multiple occasions, the loss metrics for Genworth MI over the past couple years has been extraordinarily favourable, with the pinnacle of loss ratios in Q2-2014 of 12%. Q4-2014 was moderate, with 26%.
Cited was the economic slowdown in Alberta, but they appear to have a fairly solid grip on the upcoming cataclysm that will be occurring to employment in Alberta and Sasketchewan. Approximately 27% of the insurance written in 2014 was in Alberta, although 17% of the insurance in force is from the province.
By virtue of the fact that zero-down loans are no longer done, direct comparisons to 2008 would appear to be less muted, although there will obviously be an increase in losses coming in 2015 from Alberta and Saskatchewan for the company. The question is how bad they will be.
That said, the company still has an incredible amount of room to maneuver with. Their loss ratio for fiscal 2014 was 20% and expense ratio of 19%.
Realize accounting-wise that all of their cash is collected up-front and then revenues are recognized according to a financial model that allocates premiums written (deferred revenues on cash received) to actual revenues (removal of deferred revenues). The revenue recognized is not cash. Instead, the company must earn cash on future premiums collected (somewhat pyramid-schemish!) but also the receipt of investment income.
Investment income is obtained through a portfolio that is 41% corporate debt, 49% government debt, 3% equity and 2% asset-backed bonds, and the remainder 5% is cash and short-term cash equivalents. The total value of this portfolio is $5.4 billion earning an investment yield of approximately 3.5% and a duration of 3.7 years. As interest rates continue to plummet, this investment yield will likely decrease (although they do have a good chunk of unrealized gains due to the rate drop). Reinvestment will become continually a higher challenge for this insurer and many others.
Investment income for the year was $195 million.
In terms of book value, they ended the year approximately at $35.12/share according to my calculations.
Valuation-wise, they are somewhat below my fair value estimate, but not at the point where I would buy more shares. Market sentiment may take them further down and if it does so, I may consider adding to my position. The company itself may decide to repurchase shares (at a much better price than its previously botched buyback of 1.87 million shares at CAD$40/share) which I would approve of simply because repurchases would cause book value to increase. The company holds a minimum capital buffer of 220% over the regulatory requirements (currently at 225%) and they have indicated that they will hold a modest amount of capital above this percentage. I suspect the majority of excess will go towards a share buyback later in the year.
If the company streamed off its entire net income to dividends, they would be giving a 12% yield at present.
I generally do not believe that there will be a precipitous collapse in the Canadian housing market unless if there is an overall recession that affects more than a single commodity industry. In addition, most equities that I see that have significant exposure to Alberta’s economy are trading significantly lower than they were half a year ago. I do have a name in mind (below book value as well) when I write this, but my inability to predict when Alberta will get “hot” again is not assisting with an investment decision.
Do you have a price in mind?
I’m thinking negative sentiment due to oil prices could take this down to the low 20’s.
US hedge funds looking to short Canadian housing might give this a push in the right direction. Recall it appeared that MIC was either being shorted or unloaded in large quantities when we first bought into our positions.
I’ve been excessively transparent with Genworth MI. $27-28/share currently is the lower end of my fair value price range. Below this, I’ll slowly start re-accumulating.
I can see shorts taking it lower, I agree. A lot of iffy-jiffy guesswork on exactly how low it will go…
August 2012 was another period of extremely negative sentiment towards Canadian housing. I don’t even remember what the excuse was that time.
Every dollar the market takes MIC under book value means they will be able to repurchase equity and obtain even greater accretion of their book value. Under $30/share, they should be pouring every penny into the buyback. They won’t cut the dividend to buy back more shares but I would have no problem if they did – the dividend cut would lower the stock price even further.
I’m still disappointed with management for doing the repurchase at $40/share, but this is one of the problems with dealing with majority-owned companies – clearly Genworth wanted to pull out at higher prices as well.
Cannikin, if you want, send me a private email.