Private-label mortgages are making a comeback.
The past year has been particularly good for the mortgage banking industry. The COVID-19 pandemic prompted aggressive action out of the Federal Reserve, which cut benchmark interest rates to zero and reinstated bond- and mortgage-backed security purchases. The mortgage banking industry had its best year since 2003, and a slew of mortgage originators took advantage of the good times and went public.
The latest mortgage bank to go public is Angel Oak Mortgage (NYSE:AOMR) . It has a different business model than most of the other public mortgage banks, so it pays to understand what it does.
Non-qualified mortgages are a little different
Angel Oak is a real estate finance company that focuses on non-qualified mortgage (non-QM) origination. These loans are different than the typical mortgage originated by companies like Rocket or UWM Holdings. Those companies focus on loans that are guaranteed by the U.S. government. Non-QM loans have characteristics that make them ineligible for a government guarantee. The most common reason for this ineligibility is the borrower’s income. Some self-employed borrowers may find that tax returns understate their income. Others want to rely completely on rental income to make the mortgage payments. Since these loans are not guaranteed by the government, the lender is exposed to credit risk.
It is important to understand that these non-QM loans bear no resemblance to the subprime loans that went bad during the 2007 to 2008 financial crisis. Those loans were sloppily underwritten, and lenders became sanguine about credit risk because underlying real estate values were steadily rising. In fact, loan officers were in charge of appraisals, which is verboten today. If the borrower got into trouble, the loan was “money good” as long as real estate prices were rising because the value of the home would cover the loan.
The non-QM loans of today still have strict underwriting guidelines; however, they are flexible enough to account for borrowers who fall outside of the government credit limits. In addition, these loans generally require the borrower to put up a sizable down payment. At the time of Angel Oak’s IPO, its non-QM portfolio had an average credit score of 715, an average loan-to-value ratio of 76%, and an average down payment of over $100,000.
Fannie Mae and Freddie Mac are shrinking their footprint
Angel Oak originated $1.5 billion in non-QM loans in 2020, and $516 million this year through March 31. Angel Oak acquires the vast majority of its loans through its wholesale channel, where it buys loans from independent mortgage bankers. The rest it originates via its own retail channel.
Angel Oak notes in its prospectus that private-label loans (in other words, not guaranteed by the government) were around 11% of total volume up until the real estate bubble years of 2004 to 2007, where they accounted for 39% in 2006. These loans more or less disappeared after 2007, and have yet to account for more than 3% of total volume since. The government has been restricting the types of loans eligible for sale to Fannie Mae and Freddie Mac, and that volume will find its way into the non-QM market.
This is the growth opportunity that Angel Oak is focusing on. Instead of trying to navigate a price war between the likes of Rocket and United Wholesale, it is focusing on non-QM, where there is less competition.
Angel Oak looks fairly priced, but is worth watching
Last year, Angel Oak earned $0.05 per share. However, like most lenders, it had a terrible first quarter as the COVID-19 pandemic began. If you look at the stock on a trailing-12-month basis, it earned $2.98 per share in the 12 months ending with this year’s first quarter. This gives the stock a trailing price-to-earnings (PE) ratio of 6, which is about right for a mortgage banker these days. Angel Oak is also a real estate investment trust (REIT), which means it will probably be paying a dividend reasonably soon.
Angel Oak is looking fairly valued at this point. However, if the non-QM market begins to take off, it will probably benefit as the rest of the players slug it out www.loansolution.com/payday-loans-tx/ for a piece of a slower-growing pie.