NEWTI - NewtekOne: Look For Further Downgrades To Growth Outlook

2023-12-28 17:40:46 ET

Summary

• NewtekOne, Inc. has seen dividend investors leave due to its low payout ratios.
• The company recently lowered its EPS guidance for 2023 and introduced lower-than-expected guidance for 2024.
• Lending companies, including NEWT, are facing challenges due to a deeply inverted yield curve, and regional banks may be safer investments.
• We actually do own one 8.58% Yielding security from this company.

On our last coverage of NewtekOne, Inc. ( NEWT ) we favored the lower-risk NewtekOne, Inc. CAL NEWT 28 ( NEWTI ), "baby bonds", over the common shares. In general, we have stayed out of NEWT as it made the erroneous decision to abandon the BDC model and run with the bank-holding company setup.

Time and price fix a lot of things, and the stock has seen scores of dividend investors leave for higher-yielding pastures. Are we at a turning point?

The Key Question

When you are a BDC or a REIT or even one of those closed end funds which focuses on distributions, the main question is always about yield. What matters is what is your sustainable yield. Or more accurately, what people believe is your sustainable yield. NEWT got a double whammy from that as people actually took their BDC powered payments during COVID-19, which was driven by rather one-off circumstances, to represent a sustainable yield. Of course that proved incorrect, but even under the new bank holding model, NEWT's payout has been extremely stingy. So that won't attract any investors, and even the ones in it today are looking at where they can exit. To attract money from the institutions at this point, NEWT needs to demonstrate that the big error in abandoning the BDC model, was only a modest error. That means growing earnings per share.

Needless to say, the recent news release, went exactly in the opposite direction as NEWT lowered it 2023 EPS guidance range to $1.60-$1.80 compared with its previous range of $1.70-$2.00 (consensus estimate of $1.73). It also introduced 2024 EPS guidance of just $1.80-$2.00 with consensus estimates sitting at the time at $2.35. The move in EPS estimates over the last six months has been really poor and this explains the movement in the stock.

Outlook

Lending companies are facing a very challenging 2024 as the yield curve remains deeply inverted.

A quick glance at the S&P 500 ( SPY ) or even the financial index, might make you forget that things look bad here, but that is the stark reality. Such an inverted curve portends problems from a probable deep recession or from a big dislocation as the curve steepens. It is not just NEWT that is facing these problems. Most regional banks are seeing the same trends.

Yes, NEWT is not a regional bank, but it is hard to argue that what it is doing, creating a niche in small business lending, while trying to get tons of free checking accounts opened, is not the regional banking model. Our earlier point stands on this one. NEWT is not cheap, when you compare it against quality regional banks like New York Community Bancorp ( NYCB ) or M&T Bank Corp ( MTB ). This is true when you examine P/E ratios or even dividends yields.

We would also argue that those two are safer in our opinion and less vulnerable to a recession. FDIC recently showed the world how safe it thought NYCB was when it chose it to takeover the deposits from Signature Bank . So anyone looking for quality plays with high dividend yields, in the regional bank arena, is not going to NEWT.

We think NEWT likely muddles through 2024 as it struggles to deliver the growth it expected when it left the BDC model. Our previous range for NEWT was between $11.50-$14.50. For the next 12 months, we would look between $11.50-$16.00, with the higher end of that likely coming early in the year as NEWT rebounds from tax-loss selling. Investors should consider selling covered calls on a spike to enhance their yield. We think more downgrades to the earnings are probable, and that is the biggest risk factor for investors. We maintain a "hold" for now and might consider purchasing this under $12.00 down the line.

Baby Bonds

The stripped price for NEWTI has appreciated modestly since our previous article. It currently trades near par when you remove the accumulated interest. But it remains a great place to make 8.0%. We still like it as our best play on NEWT.

NewtekOne, Inc. 5.75% NT 24 ( NEWTL ) is an extremely interesting baby bond for those keen on taking no duration risk whatsoever. The bond matures on August 1, 2024 and, as we write this, is trading at $24.85. That with the 5.75% coupon might not make it sound incredibly enticing. But the stripped price is $24.58 and that creates a yield to maturity of 8.60%. That is a great bet in this uncertain environment.

Please note that this is not financial advice. It may seem like it, sound like it, but surprisingly, it is not. Investors are expected to do their own due diligence and consult with a professional who knows their objectives and constraints.

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