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The Friendliest Trend

Written by Briton Ryle
Posted February 10, 2021

About five years ago, I made a strategic shift at my flagship newsletter, The Wealth Advisory. Well, actually two. The first strategic shift was to go overweight the so-called “cloud” stocks.

It was clear to me at the time that the “old” way of doing business was basically dead. At least the bricks-and-mortar part. Every other aspect of meeting customers' needs has to be moved online. Customer service, payment processing, inventory displays, the works.

I knew the migration to the cloud would take a long time to play out. And I knew I could help my subscribers make a lot of money.  

I also knew that a little help writing the monthly issues — especially the detailed work on the model portfolio that is a Wealth Advisory hallmark — along with the deep investigating I do for every recommendation I give my readers, well, a little help might be a good idea. 

So my second strategic shift was to recruit a young hotshot named Jason Williams, who had worked with Morgan Stanley in New York. 

I’ll tell you, it wasn’t easy to share. I had been “the man” at The Wealth Advisory for about five years before Jason came aboard. I bet I nixed every stock he suggested for a good two years. 

But Jason’s a bright kid. Very good with numbers and accounting. We are pretty much partners at Wealth Advisory now, except I do hold executive veto power on new recommendations. 

It’s a bit of an anniversary for Jason — he just achieved his first 4-bagger (a stock that goes up 1,000%)  for Wealth Advisory subscribers. Currently at 1,003%, Innovative Industrial Properties crossed the quadruple-digit mark last week. 

Now, just FYI, I’m still winning here. My Twilio (NYSE: TWLO)  recommendation is up 1,259%.  As I said, it’s not easy to share.

Anyway, the reason I’m sharing all this is, for one, Jason’s too modest to come here and crow about a big winner. So I’m doing it for him. The second reason I’m sharing all this with you is I really like his pick for the November issue of The Wealth Advisory, and I gotta butter him up a little so he’ll let me reprint it for you.

I try to make it a point to offer up an investment idea for Wealth Daily readers every now and again. And I think the last one I did was bitcoin back on December 7.

So here ya go...

The Rocket Companies

You may recognize the name and logo of this month’s recommendation from the commercials for its main brand: Rocket Mortgage. And you may even be more familiar with its online arm, Quicken Loans. 

But this company is a whole lot more than just an online lender. 

It’s the first online lender, and it’s been in this business for a very long time. Founded back in 1985, Rocket Companies has grown from a small local business to a multinational organization. A few years ago, it became the biggest mortgage lender in the United States. Rocket is involved in various other businesses as well, but the mortgage unit is what’s most exciting, so that’s where I’ll spend most of my time. Keep in mind that the company also offers auto and personal loans, has a marketing service it offers to other lenders, has a title company and title insurance company (in both the U.S. and Canada), and also offers other consulting services to industry peers.

Now, let’s talk about the cash machine that is Rocket Mortgage... 

A Little Column A & a Little Column B

Before Rocket came onto the scene, there were two common business models in the mortgage industry

The most common one was that of the aggregator. They’re big companies that buy completed loans from smaller companies and then sell them (usually as investment products like mortgage-backed securities). Here you’re thinking of companies like PennyMac Financial.

The other business model is that of an originator. These are typically smaller operations that consist of loan officers sourcing and funding new loans. Most originators then sell those loans to the bigger aggregators who in turn sell them to investors. 

There are problems with both models, however. 

For originators, it’s the loan officers. They’re expensive. Usually, they get compensated with a percentage of the loan’s value. And that can range from 0.5% all the way up to 2%. Those payments cut into your margins pretty hard after a while.

And aggregators have very small net income margins. So they can throttle production up or down on demand to meet market conditions, but they don’t make very much money for each loan they flip. 

But Rocket has the best of both worlds. 

Thanks to its heavy investment in technology, Rocket can throttle production up or down on-demand. And because nearly all of its business comes from its websites or app, it doesn’t have to pay loan officers those pricey commissions.

Rocket has the high margins of a retail originator and the cost structure of a massive aggregator.

Double the Profits and Room to Grow 

That business model allows Rocket to have the best numbers in the business. 

During the third quarter of 2020, Rocket originated $89 billion worth of mortgages (a 122% increase year over year). Net income came in at $3 billion. 

That makes Rocket’s net income margin 3.4% of its origination volume. For comparison, the average profit margin for independent originators was 1.7% in the second quarter of the year. 

Think about that for a second. For every $100 a regular high-margin originator brings in, it keeps $1.70. But for every $100 Rocket brings in, it keeps $3.40. 

That means Rocket is keeping two times more of its sales as profits than anyone else in the business.

And it’s a very big business...

Loan originations were over $3 trillion in the U.S. last year.

And recent estimates by Black Knight Financial show that over 32 million borrowers could lower their rate by at least 0.75% by refinancing. The company estimates that’s about 75% of the mortgage market. 

And with the Fed estimating that there’s $10 trillion of mortgage debt outstanding, there’s a potential $7.5 trillion market waiting right now.

Interest rates will likely stay low for at least a few more years, and that means demand for refinancing those $7.5 trillion should remain strong for a while. That’s a lot of production coming very soon for Rocket to take advantage of. 

Bottom Line 

Rocket is disrupting an industry ripe for disruption. It’s figured out how to keep the high-profit margins of a small business while enjoying the low-cost structure of a massive one. 

There’s at least $7.5 trillion in refinancing in the U.S. alone available for future production. Interest rates are at all-time lows and should stay there for a while. 

And millennials, the techiest generation with money, are starting to buy homes.

All of this lines up to produce several major catalysts to propel Rocket’s shares far higher in the coming years. 

We can see this company that quietly stole Wells Fargo’s crown as the king of mortgages continuing to grow market share and investor profits for the next decade or more. 

And we’re happy to give it a coveted spot in The Wealth Advisory model portfolio.

Until next time,

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Briton Ryle

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A 21-year veteran of the newsletter business, Briton Ryle is the editor of The Wealth Advisory income stock newsletter, with a focus on top-quality dividend growth stocks and REITs. Briton also manages the Real Income Trader advisory service, where his readers take regular cash payouts using a low-risk covered call option strategy. He is also the managing editor of the Wealth Daily e-letter. To learn more about Briton, click here.

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