market folly

Michael Blitzer's hedge fund Kingstown Capital has filed a 13D with the SEC regarding shares of Home Loan Servicing Solutions (HLSS).  Per the filing, Kingstown now owns 5.1% of the company with 3.6 million shares.

This is a newly disclosed position for the firm and their 13D indicates that they oppose the announced transaction between the company and New Residential Investment Corp (NRZ).

They write that they "do not believe a transaction at GAAP book value adequately compensates the Issuer's shareholders for the value of its assets, which have historically traded between 1.2x - 1.3x book value according to the Issuer’s September 2014 Investor Presentation.  The Reporting Persons further note the overly conservative nature of the assumptions underlying the Issuer’s book value, including (i) an assumed weighted average prepayment rate of 18% versus the actual 10.3% for the nine months ending September 30, 2014, (ii) an assumed weighted average delinquency rate of 25% versus actual non-performing residential assets of 18.5% of UPB as of September 30, 2014, (iii) an assumed weighted average discount rate of 19% versus a 10% discount rate used by NRZ to value its own MSR assets, and (iv) the exclusion of any value from deferred servicing fees, which were $470M at year-end 2013.      

Kingstown went on to write:

"The Reporting Persons believe that adjusting these assumptions to reflect recently observed rates and the discounted value of deferred servicing fees, among other factors, could add more than $7 per share of additional value above the stated book value.  Notwithstanding a higher offer from NRZ or others, the Reporting Persons believe the most value-enhancing strategies for the Issuer are continuing its servicing relationship with Ocwen Financial Corporation, completing refinancing initiatives recently highlighted by management and executing the Issuer’s growth initiatives as its financing and operations normalize in due course.  The Reporting Persons plan to communicate with the Issuer’s shareholders, management and Board of Directors (the “Board”) as well as other third parties to oppose the current transaction and may present other proposals that offer the Issuer’s shareholders more value. "

Per their 13D, Kingstown was buying HLSS shares throughout January and February at prices ranging from $12.xx to $18.xx.

It's also worth noting that Kingstown holds a large position in Bill Erbey's company Ocwen Financial (OCN) as well (9.5% of the company according to a February 13D filing.) 

They originally started an OCN position in the third quarter of 2014 and were buying on the way down as the company came under siege from the New York Department of Financial Services and regulator Benjamin Lawsky.  This investigation ended with OCN paying a hefty fine and Erbey leaving the company.  Kingstown's 13F filing that details their 2014 year-end portfolio indicated they sold entirely out of their OCN stake.  Then, in a new 13D filing in February, it shows that they started buying OCN again after shares had dropped 50%.

This is worth highlighting due to the fact that both HLSS and OCN have Bill Erbey in common; both are part of the halo of companies he assembled in the mortgage servicing space as HLSS was spun-off from Ocwen a few years ago.  As such, Kingstown's previous work on OCN likely came into play on their HLSS position given the close ties between the companies.

Per Google Finance, HLSS is "a development-stage company. The Company was formed to acquire mortgage servicing assets consisting of mortgage servicing rights, rights to fees and other income from servicing mortgage loans, and associated servicing advances. The Company operates its business as a single reportable segment. HLSS primary source of income is interest income on the Notes receivable – Rights to MSRs. HLSS do not originate mortgage loans, and as a result are not subject to the risk of loss related to the origination of mortgage loans. The Company engaged Ocwen, a residential mortgage loan servicer, to service the mortgage loans underlying HLSS Mortgage Servicing Assets .The Company has not and do not intend to develop its own mortgage servicing platform but instead will rely on high quality third-party residential mortgage loan servicers."