If you’re the kind of investor who looks to buy assets at a discount to their intrinsic value, Genworth MI Canada Inc. (TSX:MIC) is probably right up your alley.
The company, which is Canada’s largest private mortgage default insurer, looks to be almost ridiculously cheap on a number of metrics. The company trades at just 7.1 times its 2014 earnings, which came in at $3.91 per share. Analysts aren’t necessarily bearish on the future, with estimates for earnings coming in at $3.72 per share in 2015 and $3.62 per share in 2016 as new mortgage volumes decline slightly.
The company also trades at a 20% discount to its book value. And unlike some companies, the vast majority of Genworth’s assets are made up of very tangible things, like bonds in its investment portfolio. Debt is virtually nothing, coming in at $240 million net of cash compared to equity of $3.3 billion.
Finally, the company pays a very generous dividend, paying $0.39 per share quarterly. That’s good enough for a yield of 5.6%, giving it one of the best dividend payouts on the whole TSX Composite.
If I stopped the article right here, Genworth Financial would seem like a screaming buy. But there’s a lot more to this story. Let’s delve a little deeper.
An upcoming storm?
For the last few years, selling mortgage default insurance has been a pretty good business. Losses have pretty consistently been at about 0.1%, which is pretty easy to handle when you’re charging around 3% of the value of a typical mortgage. Besides, even if a lender has to foreclose on a borrower, chances are they’ll make a profit selling the property anyway.
But a rising market can also be misleading. Genworth’s delinquency numbers are probably artificially low, since homeowners can easily sell their house before they get too far behind on mortgage payments. This is especially true in two of Canada’s largest markets, Toronto and Vancouver.
Plus, there’s a potential storm coming from Alberta. As the housing market in Calgary and Edmonton continues to slump, investors are speculating that a wave of defaults is coming. Genworth’s CEO Stuart Levings told an investor conference that the company is exercising “heightened vigilance” when it comes to loans in Alberta. He also mentioned various programs the company has that give homeowners a chance to recover without losing their homes. Those aren’t usually things mentioned by someone who is confident in a market.
Alberta is certainly a risk, and could be a big one if oil continues to be weak past 2015. Many analysts believe layoffs from the energy sector are just beginning.
Other issues
Even though bidding wars in Toronto and Vancouver dominate real estate-related headlines, the underlying reality isn’t so rosy. In January eight of Canada’s 11 largest cities actually saw real estate prices decline compared to last year.
And then there’s the reputation that Genworth has in the industry. According to mortgage brokers I’ve talked to, CMHC is the insurer of choice for most lenders. Genworth only gets the business when CMHC declines the deal, or when dealing with specialty products—like with self-employed borrowers—where Genworth is widely known to be more lenient. It’s not that Genworth’s portfolio of borrowers is bad, but chances are they’re collectively not as secure as CMHC’s.
Even though the company has a 90% guarantee from the federal government, investors still view it as weaker than CMHC, which is fully guaranteed by the feds. That subtle difference is really important during tough times.
Most likely, Genworth will make it through this period of uncertainty without much difficulty and the stock will rally. But if things go bad, there’s the potential for things to go really bad. That’s why this stock is so cheap. And that’s why I’m avoiding it.
