Housing Recovery Fuels Nationstar Mortgage's Profits

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Having survived the darkness of the housing market meltdown, Nationstar Mortgage Holdings is now seeing the light of profitability.

The Lewisville, Texas-basedNationstar ( NSM ) has been a beneficiary of banks' mortgage exodus and has seen its earnings per share grow in at least triple digitals over the last six quarters, becoming the second-largest company of its kind in the United States.

In its Q2 results, which were reported last month, Nationstar reported a 40% increase in revenue. Its GAAP EPS was $1.37, easily beating analysts' estimate of 99 cents. The company's total revenues were $603.7 million, up 40% from Q1 and nearly 200% from the year before.

Nationstar, which collects loan payments from homeowners and delivers the funds to investors, including mortgage-backed securities trusts, has posted five consecutive quarters where its revenue increased by more than double and its earnings per share have grown in triple-digit percentages four out of the last six quarters.

A majority of analysts polled by Thomson Reuters about Nationstar were bullish on the company's prospects.

But things weren't always so rosy. Nationstar, shortly after its 2006 purchase by Fortress Investment Group, posted losses as the housing market collapsed. In 2007, it posted losses of $3.19 a share and lost money for the next three years.

Black Eyes

During that time, the mortgage servicing industry suffered black eyes from allegations of "robo-signing," illegal foreclosures and foreclosure document fraud hit major lenders such asBank of America ( BAC ) andJPMorgan Chase ( JPM ).

Besides scarred banks and jittery homeowners, legacies of the housing market crash included increased post-crisis regulatory scrutiny and the realization by big banks that they were not sufficiently set up to handle large numbers of mortgage delinquencies.

Four years ago, major banks such asCitigroup ( C ) andWells Fargo ( WFC ) dominated the mortgage servicing arena, holding a 56% market share, according to Oppenheimer & Co. analysts.

By Q2 of 2013, that percentage had dropped to just over 44% while companies such as Nationstar,Ocwen Financial (OCN),PHH Corp. (PHH) andWalter Investment Management (WAC) saw their share of the market rise in excess of 11%, Oppenheimer analysts said.

"Banks are scaling back some of their ambitions in the mortgage market," said Douglas Harter, an analyst at Credit Suisse. "They're looking to shed that customer and be happy to sell that servicing to a nonbank like Nationstar."

"You've seen a lot of banks looking to either reduce or get out of the mortgage servicing business," Harter said.

The sale of those mortgages to companies such as Nationstar set up its current success. As the housing market has healed, Nationstar has emerged as one of the big winners in the new economy, grinding out tens of thousands of telephone calls daily and millions of pieces of mail annually as its loan counselor employees work out delinquent mortgages.

"They've capitalized on the secular change of the mortgage servicing and mortgage originations market," Harter said. "That's led to significant earnings growth over the last year."

EPS Growth

Credit Suisse analysts expect Nationstar to experience 48% growth in earnings per share next year with a less frenetic but still robust 8% EPS growth in 2015.

Henry J. Coffey, an analyst at Sterne Agee & Leach, said he expects the company "to buy a ton of servicing" and he said previous estimates of Nationstar's performance were "too low."

"There's a tremendous amount of value to be created here," he said.

Since its March 2012 IPO at $12 a share, Nationstar's stock price has steadily grown, reaching 57.95 last week.

In May, Nationstar announced the completion of its $75 million acquisition of Irvine, Calif.-based Greenlight Financial Services and expects it to generate $8 billion per year.

As of this spring, Nationstar said it services a portfolio of $312 billion in unpaid principal balance and employs more than 6,200 people.

Finance-Mortgage and Related Service is ranked third out of 197 groups that IBD tracks. The big names in that group are Ocwen,Lender Processing Services (LPS) andCoreLogic Inc. (CLGX)

"Over the past few quarters, we've been able to acquire assets at very low multiples, and we expect our investment in these assets to appreciate significantly as the economy continues to improve," said Nationstar chief executive Jay Bray in a conference call last month.

He added that multiple large lenders recently announced they intend to explore selling additional servicing assets.

"This bodes well for Nationstar and will undoubtedly allow us to continue to grow the platform," he said.

Rising Rates

Nevertheless,how Nationstar plans to profit in the mortgage servicing business remains a question as banks shake off the excess mortgages on their balance sheets.

Other questions remain as to how the company will respond when interest rates, which have been at historic lows for several years, begin rising, especially once the Federal Reserve slows down its stimulus program.

Harter said he expects the portfolio to grow to $500 billion, but added that mortgage origination environment may not be as good in 2015 as it's expected to be next year.

Additional risks include the ever-present threat of litigation. Nationstar is fighting a $35 million lawsuit from Truman Capital Advisors and U.S. Bank, alleging it unlawfully backed out of a plan to sell $150 million in home loans.

Regardless of potential head winds, the company remains confident about its outlook as housing is rebounding.

"The current market dynamics continue to be in our favor," Bray said.



The views and opinions expressed herein are the views and opinions of the author and do not necessarily reflect those of The NASDAQ OMX Group, Inc.



This article appears in: Investing , Investing Ideas

Referenced Stocks: BAC , C , JPM , NSM , WFC

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