On its face, UWM Holdings (NYSE:UWMC) looks like the most undervalued play in the entire market. UWM’s net income rose more than 800% year-over-year in the fourth quarter of 2020. Yet UWMC stock trades at barely 6x forward earnings.
That’s a multiple that seemingly befits a business in decline, not one that is growing. But there is some logic to the seemingly insane valuation. UWM is a mortgage originator, and thus operates in one of the most cyclical businesses in the entire economy.
And right now, the cycle unquestionably is in UWM’s favor. The novel coronavirus pandemic has led to a sizzling housing market and a huge spike in demand for new mortgages. However long that hot market lasts, it won’t last forever. At that point, UWM’s revenue and profits will normalize, and at the least UWMC stock won’t look nearly as cheap as it does at the moment.
All that said, those worries alone might not justify a price that’s now dipped below $8 after a recent slide. This is an attractive business with the ability to grow through market share rather than just riding the housing cycle up and down.
An investor shouldn’t buy UWMC stock based solely on the forward earnings multiple, but that doesn’t mean she shouldn’t buy UWMC stock.
Will History Repeat?
It bears repeating: there are reasons the market is pricing UWMC stock at such a low multiple. Those reasons aren’t guaranteed to be correct, necessarily, but this is a company still with a market capitalization of $13 billion. Investors are paying attention — and paying attention to the risks.
Again, this is a cyclical business. UWM is benefiting from one of the hottest housing markets we’ve seen in some time. Home prices in January were up 11.2% year-over-year, the largest rise in almost 15 years.
Fifteen years ago, of course, was 2006. That housing market unquestionably was a bubble, and when that bubble popped it took the entire economy down with it.
The obvious worry is that history will repeat, or at least come close. In that scenario, UWM’s volume would dry up badly and profitability will get crushed.
Of course, a volume reversal doesn’t require a 2008-style implosion. Origination demand is cyclical. Mortgage rates are likely to rise, and that will impact refinancing demand as well. But a big reversal would send UWM’s results back down in a hurry.
That’s what investors are pricing in. Broadly speaking, that cyclicality is the same reason Micron Technology (NASDAQ:MU) traded for 4x earnings back in 2018: because investors correctly forecast that earnings were going to plunge. MU stock has been a solid long-term play, but it did see a peak to trough decline of over 40% as profits eroded in 2019.
Other Worries
There are risks beyond the cycle as well.
For one, UWM went public via the SPAC (special purpose acquisition company) route. That’s a trend that looks like it may well have run its course. And UWM’s sponsor, Gores Metropoulous (the UWM SPAC was that sponsor’s fourth), does not have a great track record.
Both Hostess Brands (NASDAQ:TWNK) and Verra Mobility (NASDAQ:VRRM) have underperformed the market, though both have gained since going public. Government contractor PAE Incorporated (NASDAQ:PAE) trades below its $10 merger price. It’s far from guaranteed that the $10 per share price Gores put on UWM was cheap — or even correct.
That aside, UWM has made a rather aggressive move. In a video on Facebook Live, UWM’s chief executive officer said it would no longer work with independent brokers that partner with competitors Rocket Mortgage (NYSE:RKT) or Fairway Independent Mortgage.
UWM CEO Mat Ishbia has defended the move. As the largest wholesale mortgage originator in the country, UWM may be big enough to pull it off.
But some brokers may defect. It’s even possible regulators might get involved. And it’s possible that at least some of the decline in UWM stock over the past few weeks has come due to investor concerns about this restriction and what it might mean for UWM’s business long-term.
The Case for UWMC Stock
And yet, UWMC looks awfully attractive at the moment, even giving credence to these risks.
The cycle is a concern, certainly. But UWM continues to take market share. There’s not much reason to believe that will change. UWM already has passed big banks like JPMorgan Chase (NYSE:JPM) and Wells Fargo (NYSE:WFC) in originations.
Its scale in the wholesale channel likely keeps competition at bay, while Rocket’s direct business (which competes with brokers) makes some brokers less worried about choosing UWM.
Even interest rate worries may be overblown. We’ve been here before: remember the so-called “taper tantum” of 2013? That raised similar predictions of Armageddon in the mortgage and housing markets, but interest rates resumed their multi-decade downward trend.
And while forward earnings alone don’t make the stock cheap, other metrics help. UWM’s book value sits at $7.22 per share, not far below the current price.
The SPAC price matters, too. The merger included a $500 million private placement at $10 per share that was negotiated in September. Have interest rate expectations really changed so dramatically in six months? Perhaps. Perhaps not.
Again, UWMC isn’t cheap because solely because it trades at 6x forward earnings, or 1.1x book, or at a 21% discount to the SPAC merger price.
But when you take the totality of the fundamentals, plus the share growth story, it’s hard to not be at least a little intrigued. There might well be an opportunity here.
On the date of publication, Vince Martin did not have (either directly or indirectly) any positions in the securities mentioned in this article.
