One of the most difficult industry to value is mortgage and thrift financing, given that they adhere to different rules compared to other companies. For example, businesses that deal with loans are required to hold more capital to reduce the risk to shareholders. Looking at elements like book values, along with the return and cost of equity, can be suitable for computing FDEF’s intrinsic value. Below I will take you through how to value FDEF in a relatively accurate and simple approach.
Why Excess Return Model?
Let’s keep in mind two things – regulation and type of assets. United States’s financial regulatory environment is relatively strict. Furthermore, mortgage and thrift companies tend to not have significant amounts of tangible assets as part of total assets. So the Excess Returns model is suitable for determining the intrinsic value of FDEF rather than the traditional discounted cash flow model, which places emphasis on factors such as depreciation and capex.
How Does It Work?
The main assumption for Excess Returns is, the value of the company is how much money it can generate from its current level of equity capital, in excess of the cost of that capital. The returns in excess of cost of equity is called excess returns:
Excess Return Per Share = (Stable Return On Equity – Cost Of Equity) (Book Value Of Equity Per Share)
= (0.12% – 9.2%) x $20.79 = $0.53
We use this value to calculate the terminal value of the company, which is how much we expect the company to continue to earn every year, forever. This is a common component of discounted cash flow models:
Terminal Value Per Share = Excess Return Per Share / (Cost of Equity – Expected Growth Rate)
= $0.53 / (9.2% – 2.9%) = $8.47
These factors are combined to calculate the true value of FDEF’s stock:
Value Per Share = Book Value of Equity Per Share + Terminal Value Per Share
= $20.79 + $8.47 = $29.26
This results in an intrinsic value of $29.26. Relative to today’s price of US$26.31, FDEF is , at this time, priced in-line with its intrinsic value. Therefore, there’s a bit of a downside if you were to buy FDEF today. Pricing is one part of the analysis of your potential investment in FDEF. Fundamental factors are key to determining if FDEF fits with the rest of your portfolio holdings.
For mortgage and thrift companies, there are three key aspects you should look at:
- Financial health: Does it have a healthy balance sheet? Take a look at our free bank analysis with six simple checks on things like bad loans and customer deposits.
- Future earnings: What does the market think of FDEF going forward? Our analyst growth expectation chart helps visualize FDEF’s growth potential over the upcoming years.
- Dividends: Most people buy financial stocks for their healthy and stable dividends. Check out whether FDEF is a dividend Rockstar with our historical and future dividend analysis.
For more details and sources, take a look at our full calculation on FDEF here.
To help readers see past the short term volatility of the financial market, we aim to bring you a long-term focused research analysis purely driven by fundamental data. Note that our analysis does not factor in the latest price-sensitive company announcements.
The author is an independent contributor and at the time of publication had no position in the stocks mentioned. For errors that warrant correction please contact the editor at email@example.com.