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The beleaguered consumer-finance stocks may finally be getting some respect on the Street, thanks to Citigroup's (
C
), recent purchase of Associates First Capital (
AFS
) for $31 billion. AFS is a diversified finance company that provides consumer and commercial loans and related services in the U.S. and overseas. Analysts note that the apparent end to the Federal Reserve Board's credit-tightening moves and a snapback in loan demand are causing profitability to improve at some of these finance companies specializing in subprime mortgage lending.
The group's manifold problems have prompted the shorts (market players who bet on stocks whose prices they think will plummet) to pick on consumer-finance stocks. In the past two years, short-sellers expecting the worst in the industry have driven down to very low levels the prices of many these companies.
But some bulls say the shorts may soon face difficulty in covering some of their positions in one such outfit -- New Century Financial (
NCEN
). Late last week, it reported a sharp improvement in the prices it receives for its bundled mortgage loans. New Century Chairman and CEO Robert K. Cole predicts a turn in the business cycle, mainly due to improving business fundamentals and declining costs.
BUYOUT COMING? "Pricing for our whole loans has increased more than 103 1/2% from 102% last year," says Cole. Analysts say that the increase was "pretty dramatic" in the business. "Investor interest in our product was strong during the [second] quarter," he adds. New Century originates, buys, sells, and services subprime mortgage loans secured by first mortgages on single-family homes.
One other factor might add to the shorts' discomfort: New Century is in deep discussions to conclude a sale of itself to a finance company that's similar to Associates First Capital in size and business volume, according to some big investors who note that these talks started in June. They figure New Century will fetch 16 to 18 a share in a buyout, or about two times book value. Associates First Capital was acquired at three times book value. Cole declined comment on the buyout discussions.
All this may prove disconcerting to the pros who have sold short almost 3 milion shares of New Century. The stock is currently trading at 11 1/4 a share. Although off 29% from its high of 18 reached a year ago, the stock has climbed from its low this year of 5 a share in mid-May.
NOT ENOUGH SHARES. But with about 90% of the 14.8 million shares outstanding held by management, U.S. Bancorp, and two institutional investors, the short position now exceeds the tradable shares outstanding (called the float) by 2 million shares. The shorts may soon have to buy shares to cover their positions in light of New Century's improving fundamentals -- and the possible buyout -- says one California investment manager, who has accumulated the company's shares.
New Century is expected to originate about $5 billion in mortgage loans next year. It posted total assets of $864 million at the end of 1999. The company is expected to report earnings of $1.60 a share in the next four quarters, up from 79 cents a share in the preceding four quarters, which included some writeoffs. For calendar year 2000, the company expects earnings to be "significantly less" than the $2 to $2.25 a share that it had originally anticipated, due to the rise in interest rates. In calendar 1999, the company earned (diluted) $2.11 a share.
With the brightening fundamentals and a buyout angle, shares of this subprime lender could well be a prime winner.
Copyright 2000, by The McGraw-Hill Companies Inc. All rights reserved.
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