Caterpillar, Banks and Radian: Doug Kass' Views

Doug Kass shares his views on why CAT remains a dog, banks are still a good bet and Radian's outlook is bright.
By Doug Kass ,

Doug Kass shares his views every day on RealMoneyPro. Click here for a real-time look at his insights and musings.

Goldman Likes Bank Stocks

Originally published at 8:06 AM EST on November 19, 2015

Goldman's six favorite trades for 2016 out this morning.

This one caught my eye:

"Top Trade No. 6: Long large-cap U.S. banks relative to the overall S&P 500

Go long large-cap U.S. banks through the KBW Nasdaq Bank Index (BKX) relative to the S&P 500 -- indexed at inception to 100, with a target at 110 and a stop loss at 95.

U.S. banks tend to be mildly pro-cyclical and also benefit from a rising longer-dated yield environment (we forecast a steeper U.S. term structure than the forwards discount). The Fed tightening will lead to a progressive upward revision of expectations on terminal rates, while the European Central Bank and Bank of Japan's efforts to boost inflation should restore bond premium across major markets. U.S. banks are still relatively well-priced, trading just above book value and with a P/E below that of the overall market, and at about median levels compared with their own past history. Moreover, they remain off their recent highs, unlike other possible implementations of the domestic-growth theme in the U.S. stock market."

Position: Short SPY (small), Long C, BAC, JPM, FITB, STL, MSL, SONA, SDS (small)

CAT Is Still a Dog

Originally published at 11:15 AM EST on November 19, 2015 

Caterpillar (CAT) - Get Report is my lengthiest short position in terms of how long I've held it, and it's also on my "Best Short Ideas" list.

Here are some additional reasons from Zero Hedge as to why.

Position: Short CAT

Radian's Outlook Is Pretty Radiant

Originally published at 8:27 AM EST on November 18, 2015

Radian (RDN) - Get Report conducted its first investors' day in nine years yesterday -- and in my view, the information presented should reverse the negative sentiment and share-price decline that the company has seen since releasing third-quarter earnings on Oct. 27.

I framed my expectations for Radian's session in a column on Monday:

"It's a propitious time for the meeting, as RDN shares have recently retreated after ripping higher early this year.

Management will likely focus on these key items:

  • How higher interest rates will impact RDN's core private-mortgage-insurance business.
  • What business mix the company expects in 2016 between refinancings and new insurance. (PMI use is almost 4x higher with new mortgages vs refinancings.)
  • A general discussion of the competitive landscape -- more specifically, a profile of industry pricing, as well as Radian's response and the impact on profitability if discounting increases.
  • The broader outlook for PMI demand -- how large the business pipeline is, and whether the company expects to expand market share. Management has previously said RDN expects to write more than $40 billion of new insurance this year -- the company's second-best production in history.
  • Whether the PMI industry will continue to recapture market share from the Federal Housing Administration, which seems to have retreated from the business."

-- Doug's Daily Diary, What I Want to Hear from Radian (Nov. 16, 2015)

Well, here's what we actually heard at the meeting:

  • The PMI business has grown more competitive, with a total of seven companies writing new business. Price discounts haves placed pressure on RDN to expand its market share by signing new customers (mostly regional banks) and expanding into other risk-based business opportunities. But to be successful, Radian must get an investment-grade credit rating -- which it confirmed it's close to achieving. Standard & Poor's already upgraded RDN to a "B" eight months ago, while Moody's boosted the firm to "B1" in June.
  • The pricing situation rests with the intermediate-term futures of the United Guaranty subsidiary of AIG (AIG) - Get Report and the USMI division of Genworth Financial  (GNW) - Get Report .
  • Radian is swiftly addressing profitability and aims to reduce its expense ratio back towards the 20% level from more than 24% today. The company could achieve this by either cutting $30 million from expenses, writing $140 million to $160 million of new insurance or a combination of both.
  • Management has an unlevered return-on-equity target of "low- to mid-teens" vs. the current 11.65%. But since the parent company has 34% debt (in the form of senior notes and convertible debt), RDN's leveraged ROE will be higher.
  • Radian's Clayton mortgage- and real-estate-services unit is growing 3x as fast as the firm's PMI division. It's a "capital-light" model that should provide important contributions to more-rapid gains in the company's overall ROE.
  • Returns on new insurance written have improved in each of the last four quarters despite the stepped-up in competition. This should continue into 2016.
  • The housing market is seeing modest growth, but the "Screwflation of the Middle Class" (lagging wages relative to rising costs of living) is offsetting pent-up housing demand.

I expect no change in analysts' estimates following yesterday's session, but some positive commentary from the sell side.

So far, I've seen only one report (from Macquarie). The brokerage raised its 2016 earnings-per-share estimate to $1.60 from a previous $1.58. The firm also boosted its 2017 EPS projection to $1.85 from a prior $1.83.

Overall, the meeting was upbeat and I plan to add to my RDN long going forward at current prices.

Position: Long RDN

At the time of publication, Kass and/or his funds were short CAT and long C, BAC, JPM, FITB, STL, MSL, SONA, SDS (small) and RDN, although holdings can change at any time.

Doug Kass is the president of Seabreeze Partners Management Inc. Under no circumstances does this information represent a recommendation to buy, sell or hold any security.

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