When Extraordinary Times Create Great Buys for Savvy Investors

Mortgage refinancing sure is a hot topic these days. And not just among ordinary Americans looking to shave a few bucks off their monthly payment – but among stock-pickers, too. That’s the perspective I’d like to bring you today.

One of my top stocks is firmly in this category: PennyMac Financial Services (PFSI). I like to keep you updated on this one, seeing as I selected it for InvestorPlace’s Best Stocks for 2020 Contest. PFSI is still A-rated in my Portfolio Grader and remains a favorite…despite the issue of “forbearance.”

Recently, I had a subscriber to one of my investing services ask about “the massive forbearance issue” for mortgage companies, “which includes future loan defaults that are still being modeled in?”

So, let’s talk about that, and then I’ll share the good news I’m hearing from the world of mortgages and housing.

Typically, when you’re in enough financial trouble to need mortgage relief, you will find that the best option, in the end, is to sell the house. That would remove the whole question of defaulting.

But these aren’t typical times. And forbearance (a temporary suspension of mortgage payments) is on the rise, thanks to the pandemic-induced recession and government responses like the CARES Act stimulus bill.

As of June 12, Americans have 4.66 million mortgages suspended under forbearance programs. That’s actually fewer than the prior week: 4.73 million mortgages.

Even so, as I discussed earlier in the crisis, mortgage companies will need enough cash on hand to ride this out. As you see on its Report Card in my Portfolio Grader, that appears to be the case for PFSI:

PFSI Report Card

Happily, PennyMac earns an “A” not just for Cash Flow – but for the factors that are most important, long-term: Sales Growth and Earnings Growth. If you’d like to see how PFSI fits into a complete Model Portfolio for growth investors, click here to check out my Platinum Growth Club.

PennyMac Financial Services has grown to become a leading mortgage lender in the U.S., with more than 1.5 million customers. The company is a direct mortgage lender, and it enables its customers to buy and refinance houses. PennyMac also participates in federal programs to help its customers stay in their current homes and continues to offer similar assistance if borrowers need help with their mortgage payments.

The company already posted stunning first-quarter results. First-quarter earnings surged 543% year-over-year to $3.73 per share, up from $0.58 per share in the same quarter a year ago. The analyst community was expecting earnings of $2.79 per share, so PFSI posted a 33.7% earnings surprise. First-quarter revenue came in at $721.8 million, which also topped forecasts for $597.78 million.

In the current ultralow interest rate environment, PFSI is benefitting from a refinancing boom. According to mortgage data analytics company, Black Knight, about 13.4 million Americans could refinance their mortgages to take advantage of low rates. And Fannie Mae is expecting refinancing volume to surge to a 17-year high this year.

Again, these aren’t ordinary times – and, here, that’s a positive! Analysts have been scrambling to factor all this into their forecasts; as a result, PFSI earnings estimates have been increased an incredible 98.4% in the past three months.

But It’s Not Just Refinances

Obviously, a consumer economy can only get so far on refinancing alone. We need new mortgages, too – because that means actual home sales!

And we’re starting to see that, too.

In the latest (May) data on housing starts and building permits, the report wasn’t exactly a barn-burner…but at least we aren’t going backwards anymore.

Back in March, housing starts fell 19%, year-over-year. In April, they dropped 26.4%. Finally, in May, they climbed 4.3%.

As for building permits, those were up 14.4% in May! Neither was quite what analysts had hoped for. But this is all part of the U-shaped recovery we were warned about by folks like Federal Reserve Chair Jerome Powell.

I’d also note that this data is for new builds. When you look at the housing market overall, you’ll also see figures like this: Last week, purchase applications were up 20% year-over-year, according to the Mortgage Bankers Association.

Now, I don’t just mention this to prove that PFSI is a “Strong Buy” (though it is). Keep in mind that homeownership boosts a lot of other businesses, from Home Depot (HD) to Wayfair (W). And when you’re in the market for a house, you’re probably spending in a lot of other areas, too.

Every week, I’m finding new opportunities to invest in our consumer economy. I’ve even created a whole Model Portfolio for you at Platinum Growth Club.

And I’m equally pleased with another big structural shift going on now. Not just in “the economy” – but in the stock market, specifically.

Why Small-Caps are Ready to Take Flight

If you’ve gotten this far in your investing journey, you’ve probably heard of the Russell 2000: the premier small-cap stock index.

Here’s what you may not have heard (if this is your first time reading Market360 lately!): The Russell indices are about to change dramatically.

June is their annual “pruning,” and this year, FTSE Russell will add roughly 143 stocks to the indices and delete about 205 stocks! That was largely expected, given the wild market swings lately.

But most importantly, these index realignments create “forced” buying pressure in the stocks. Not only are many 401(k)s and IRAs stacked with index funds, but inclusion also attracts big money on Wall Street.

I’m pleased to tell you that seven of my small-caps (three of which have made it into my Platinum Growth Club Model Portfolio) are about to hit the Russell indices.

On top of that, I expect fund managers are busy buying my top growth stocks, too. It’s the “window dressing” phenomenon that tends to happen at the end of a quarter.

My small-caps, in particular, are blowing away the market on the fundamentals. Their sales forecasts average out to 34.7%, and earnings growth is forecast at 544.3%!

We’ll talk about some other exciting index changes tomorrow. But for now, I’m sure you can see why I’ve been sure to add A-rated small-caps to my Model Portfolio lately. Go here to learn about Platinum Growth Club and how to get all my buy and sell alerts.

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