Genworth Update

Mortgage Delinquency Rates Continue to Improve:

Lender Processing Services, Inc. (LPS) provides analytics on the mortgage and real estate industries with a loan-level database representing approximately 70 percent of the overall market. What better leading indicator and gauge for the health of the mortgage business than those collecting the payments?

The table below is LPS’s First Look Mortgage Report for November 2012. There is a slight increase in delinquency rates on a month to month basis due to expected seasonality. The year to year comparisons, a better indication because it takes seasonality into account, continue to show definite improvement.   Reduce loan delinquency and foreclosure inventory are positives for mortgage insurers as reduced claims and foreclosure expenses should follow.

LPS First Look Mortgage Report Nov-12

Source: Loan Processing Services “First Look” Mortgage Report

Looking back to the most recent full report, LPS’s October 2012 Mortgage Monitor, the seasonal upward blip in delinquencies is shown with the blue arrows. There is a ways back to the 4-5% historic delinquency levels but improvement is underway. This bodes well for GNW as reserve levels should already reflect the previous higher claim levels.

LPS Mortgage Monitor Graph Oct-12

Source: Loan Processing Services October Mortgage Monitor Report

Genworth to Benefits from Legislative Framework in Canada

Genworth Announced [Source] in part…effective on January 1, 2013. PRMHIA establishes a legislative framework that replaces the current Government Guarantee Agreement…Under U.S. Generally Accepted Accounting Principles (GAAP), Genworth Financial expects a benefit of approximately $80 million in the fourth quarter of 2012 to its net income(1) from the reversal of the accrued liability for exit fees associated with this change to the Government Guarantee Agreement…There are no other significant impacts anticipated on GAAP results or U.S. statutory capital levels.

Short Sales Tax Exemption Renewed Through 2013:

The federal budget recently passed to avoid the so called fiscal cliff includes provisions to extend the tax exemption for home short sales through 2013 [Source]. A short sale is sometimes used by home owners that are underwater on their mortgages. If the appraised value of the house is less than the remaining mortgage owed the lender may agree to accept the lesser amount as full payment for the mortgage to avert foreclosure.

IRS regulations require that forgiveness of a loan be reported as income by the homeowner. Without the exemption a large tax bill may result from a short sale. The bill extends the exemption so homeowners avoid taxes when their debt is written off by mortgage lenders. This encourages short sales and helps limit foreclosures and reduces subsequent claims to mortgage insurers.

Genworth Schedules Earnings Conference Call For February 6 [Source]

RICHMOND, Va., Jan. 7, 2013 /PRNewswire/ — Genworth Financial, Inc. (NYSE: GNW) today announced it would issue its earnings release and financial supplement containing fourth quarter results after the market closes on February 5, 2013. A conference call will be held on February 6 at 9:00 a.m. (ET) to discuss the quarter’s results. At this time, the company will report on business results and provide a progress update on our strategic priorities.

This is the first conference call for the newly hired CEO, Thomas J. McInerney. Hopefully we will get more clarity on strategy and see a focus on shareholder friendly initiatives, operation improvements, and smart capital allocation including share buybacks.

Credit Suisse Analyst Downgrades Genworth:

Bloomberg reported in part [Source]:

…Credit Suisse Group AG downgraded the company on risks from long-term care coverage…[Genworth] which also has a mortgage-insurance unit, had surged 50 percent in the six months ended yesterday as the real estate slump abated…“Much of the rally has been the result of optimism for Genworth’s U.S. mortgage insurance unit as a derivative play on the U.S. housing market,” Credit Suisse analysts led by Thomas Gallagher said in a note today, cutting the company to underperform from neutral. “Investors have been less focused on fundamentals in the life insurance operations.”

No news here because on October 11, 2012 Standard and Poor’s Ratings Services downgraded GNW stating in part [Source]:

“The U.S. life operations are being downgraded one notch because of the business’s sensitivity to interest rates (fixed annuities and long-term care), and its underperforming legacy term and LTC blocks that will take time to stabilize and improve. In addition, financial flexibility continues to be affected by the ongoing stress at the holding company and the expectation for the life operations to support holding company interest expenses.”

In our investment thesis Part I & II [Source] we discussed, “the share price was penalized for mispriced products in Long-term care insurance and large incurred and pending losses in mortgage insurance from the housing market downturn. Macroeconomic concerns and management miss steps further eroded confidence in the company.”  Later “Recent historically low interest rates have resulted in lower yielding investments returns further hurting LTC results.”

Should the Credit Suisse downgrade be a concern? Not in my view, the issues cited by the analyst are old news and factored into our thesis where Genworth’s intrinsic value is estimated at about $22 per share considering these factors. The share price has improved but it is not anywhere near the underlying $22 per share intrinsic value of the company.

It it difficult to understand why a company is changed from perform to underperform after markets begin to improve, after it begins steps to aggressively address Long-term care premiums after an experienced CEO is hired and after investors begin to recognize these improvements are underway. Analyst reports are good insight when kept in context, but rarely do I follow their recommendations.

Interestingly Credit Suisse also increased the “target” price on GNW’s shares from $6 to $7 at the time of the downgrade. They attribute the price increase to improvement in the U.S. mortgage insurance segment. On the day of the downgrade Genworth share price fell 3.5%, the biggest drop in the Standard & Poor’s 500 Financials Index but has since recovered.

What we are seeing here is the difference between price and value. The “target” prices used by analysts often have more to do with stock price momentum than the fundamental underlying intrinsic value of the company. In effect the analysts are following or responding to the herd. In this case the target price was raised after the stock price increased.

Benjamin Graham cautions us on following the herd and later his star pupil, Warren Buffett, reminds us when describing the outstanding performance of the “Super-Investors of Grahams-and-Doddsville” [Source]:

 “I’m convinced that there is much inefficiency in the market. These Graham-and-Doddsville investors have successfully exploited gaps between price and value. When the price of a stock can be influenced by a “herd” on Wall Street with prices set at the margin by the most emotional person, or the greediest person, or the most depressed person, it is hard to argue that the market always prices rationally. In fact, market prices are frequently nonsensical.”

Disclosure: Long GNW


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