BOFI alert! I'm selling out of my position!

I’ve been reducing, and now exiting, my position… Why?..

Well here was my review at the end of September, 2016:
Bofi is a branchless bank (internet-only), which has been under a concentrated short attack for some time. I had started my position in July, but I was hesitant to discuss it because of all the hassle I had had about changing my mind about it previously. This is still a very risky stock because of the danger that some of the shorts’ claims may turn out to be damaging enough to really hurt the company. (Management is clearly not clean as driven snow, but the question is: How will that actually affect the company?) . On the other hand the company is growing rapidly, earnings and book value are both growing rapidly, and its efficiency ratio is very low (good)… I don’t want to let it to get too much over 5%. While the shorts seemed to have backed off and the stock price is working its way up, just remember that the lawsuits haven’t reached a conclusion yet and there is still plenty of risk.

Okay, so what’s changed now that brought you to a different decision?
I took this position a little less than 6 months ago at an average price of about $17. (For comparison, that’s $68 pre-split, I had exited at $110. I still think of the pre-split prices to orient myself). At that point its tangible book value was growing at an average of about 34% each quarter. Its efficiency ratio had been 32 to 34%. Earnings per share grew 38% from 2014 to 2015. It had a PE of 9.5, which certainly cushioned my risk.

Most recently, I’ve been selling my position at prices from $29.75 to $28.25. That eyeballs to an average price of $29, but my average price was actually a little lower, say roughly $28.85. (For comparison, that’s about $115 pre-split).

Why have I been selling? Well, Bofi’s tangible book value growth rate has slowed each quarter for six quarters in a row, from 36 to 34 to 32 to 30 to 27.5 to 25.5 to 24%. Its efficiency ratio has risen from 31.7% in Mar to 38.3% and 38.9% in June and Sept. Its growth rate of earnings per share the last two quarters has slowed down to 16%. All these changes have been for the worse, while its stock price has risen by about 70% since I bought it, and its PE is now up to 15.3. These changes have removed my cushion to risk and reduced my motiviation to continue with a company with questionable management. They may do fine, but I’ll look elsewhere. And nobody has to agree with me! If you want to hold your Bofi, or add to it, more power to you. It just doesn’t look the same to me as an investment as it did in July (for all the reasons I just cited).

Saul

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Thanks for sharing that so timely Saul! I think BOFI still has a long way to go in the long run (hopefully up) and seems to be driven by the kind of CEO that is going to make it happen (like him or not). Today’s drop hit the entire banking sector hard mainly due to the British Prime Minister’s speech “Brexit is Back” (in my opinion). It is also a trigger to cause people to take the quick post election gains the sector has enjoyed the last couple of months.

https://www.benzinga.com/analyst-ratings/analyst-color/17/01…

It is still a very small company and will probably be volatile which will cause me to protect my gains at some point, but I think there are a few catalysts coming up that is why I’m still holding for now. First, earnings are coming with BOFI reporting Afer Market Close on Jan 30th. Other banks have reported positive up side results this quarter (JPMorgan, Wells Fargo, Bank of America, and PNC Financial Services). Second, the court case decision announcement will come some day/month/year which I still see as an opportunity. Third, any earnings up surprise may get more of a bump from short covering. BOFI is still 36.1% of float shorted, but it is the lowest number of shares in the last year and trending down. Finally, the next administration is going to remove many sarbanes-oxley regulations which should further bump the sector up.

I also have significant gains on oil stocks that are allowing me to be ok with a drop in BOFI if all the above does not pan out. BOFI was my largest holding, but has dropped to second.

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Nice job keeping track of the logic Saul. Given the declining numbers but rising share price and valuation, out of interest - which was the more compelling reason to sell. Had the SP not risen 70% would you still be selling? Had the metrics not deteriorated but the SP and valuation had risen would you still be selling or is it genuinely and indistinguishably a combination?
Thanks
Ant

[Just for] interest - which was the more compelling reason to sell? Had the SP not risen 70% would you still be selling? Had the metrics not deteriorated but the SP and valuation had risen would you still be selling? Or is it genuinely and indistinguishably a combination?

Hi Ant, The trouble is that obviously I can’t tell, since both happened it’s hard to tell how I would have reacted if only one happened. My guess is that if the price rose but the numbers stayed good, I would have held. If the price hadn’t risen but the numbers deteriorated I would have sold. So I was reacting to the deteriorating numbers first, and then, with the 70% rise in price, staying just became silly.

Doesn’t mean they won’t go up from here, though. The market does irrational things at times.

Saul

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Hello Saul,

Thanks for the timely post. A few questions: 1. In your analysis of growth in book value did you consider that a portion of the past growth there came from selling stock at a multiple of book? When the shorts attacked and the price of stock went down, BOFI let their capital growth needs be supplied by a combination of earnings and debt. Thus, the rate of growth in book value slowed, since for the past 6 quarters it has come from self-generated income. Now that the stock is above book by a good margin, they will have the option to use the ATM facility to secure growth capital and that would accelerate growth in book. 2. In analyzing earnings growth did you factor in the seasonality? The H & R Block transaction is very profitable for BOFI and those earnings come in the fiscal quarters outside of your analysis. As a check, the trailing twelve month’s eps growth was over 30%.

As to the efficiency ratio, the trend is not great. Management has indicated that this is by design as they are investing to launch a better platform and more products. Personally, I will
watch closely to see if they are successful in this effort. I certainly agree that a price in the
high 20’s is a riskier proposition than in the mid-teens. I was struck by the references in your post to the pre-split prices that there was a tad of “price-anchoring” going on in your subconscious. When I look at the eps growth and the p/e, I come up with a 1yr.PEG above 2 which makes the stock attractive.

While I disagree with some of your reasoning, I congratulate you on the timing of your re-entry and the excellent result of your trade.

Best regards,

Mike

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Hi Mike,
Thanks for your comments on my BOFI posts. A couple of comments:

  1. In response to Ant’s question I indicated that if the price had risen, but the numbers hadn’t deteriorated, I probably would have held. I intended to hold much longer. (I don’t, as a rule, sell a stock just because the price has risen, unless it rises by some ridiculous amount, in which I will trim it, but hold part as long as the story is intact).

  2. I bought BOFI, in spite of what I felt to be semi-shady stuff management was doing and my questions about them, because at a PE of 9.5, with rapidly growing earnings and tangible book value, and a very low efficiency ratio, the company would do fine, results wise.

  3. You present good rational excuses for the deterioration of all three of tangible book value growth slowing, efficiency ratio rising, and earnings slowing. And they are rational. But it takes three of them! All happening at once. All while the stock price and PE are now much higher, and there is less protection in case of adverse court decisions, etc.

  4. There are plenty of companies out there without those problems, and if I want a bank, I can just put part of my money in SBNY, where I know what the risk is (they could lose about a maximum of 2% of their loans, as a worse case scenario, if the whole NYC taxi industry goes out of business). With Bofi I don’t know what the worst case scenario is.

So I sold out. Just the way I saw it.

Saul

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Saul,
I don’t question your decision. I’ve been vocal in the past about BOFI, I will not rehash my thinking here. I have not changed my position and remain without this company in my portfolio.

The main thing I want to comment upon is the burden you have created for yourself. It is apparent that you need to assert the rational behind every investment decision. You have more or less painted yourself into a corner where a decision based on gut instinct is inadequate.

I admire your integrity. As far as I’m concerned a decision based on your feelings is as valid as a decision based on analysis.

All the best, and thanks once again for your insight and candor.

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People have many different reasons for buying and selling. I took a very small (sub-3%) position in BOFI a month or two ago, just because the fundamentals looked compelling and I was tired of missing out on the rally financials were having. I didn’t want to just buy an ETF, or a bank I felt was more fairly valued like SBNY. I bought BOFI because I thought (still think) that there is also still potential for a short squeeze with it. As Saul pointed out, it’s not as much of a slam dunk as it was at $16/share or whatever, so I just took a small position and haven’t messed with it.

It looks like I was too late to the party, because the position is about flat, but so are bank ETF’s. I may get bored with BOFI soon, but I’m just holding for now for all the same reasons. Here’s the big thing, though: I don’t have the 10%+ position in SBNY that Saul has. That makes a big difference! He has found a bank he’s happy with that gives him the exposure he wants (though I’m sure having exposure to financials is more of a side effect than a reason for his investment) and has also made a nice profit on BOFI already, so he may have no need for BOFI and may actually want to put the money elsewhere.

Saul, I’m curious what you did buy with the proceeds. More ANET? I’ve been curious to hear your take on that situation. I don’t have a dog in the fight, but I’m definitely too scared to get in now. Thought you might have a better bead on things.

Bear

The main thing I want to comment upon is the burden you have created for yourself. It is apparent that you need to assert the rational behind every investment decision. You have more or less painted yourself into a corner where a decision based on gut instinct is inadequate.

I don’t believe Saul has any obligation to justifying why he does anything. He is not charging anyone anything for his information. Remember he is investing to support his family. If anyone wants to piggy back on anything he is willing to share, i believe they should assume all responsibilities of their own actions.

b&w

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The main thing I want to comment upon is the burden you have created for yourself. It is apparent that you need to assert the rational behind every investment decision. You have more or less painted yourself into a corner where a decision based on gut instinct is inadequate.

Hi BrittleRock,
Wow, that’s an interesting idea…I actually had no feeling at all that I had to assert the rationale behind every investing decision. I make lots of them every month that I don’t mention until my end of the month portfolio summary, and sometimes, not even then. But after all, this is a board for discussion of the rationale of investing decisions, so some rationale now and then isn’t out of place. Rather than feeling obligated, I considered my remarks on why I got out of as teaching of a sort for the people on my board, who may not have noticed the way things were going with Bofi. (I hadn’t until recently myself). I considered it as an entirely data-driven decision, with no gut instinct involved.

Let’s look at it this way: Let’s look at the most recent quarter, September, that is (minimal or no contamination from HR Block), and compare it with the same quarter the two years before. From 2014 to 2015 earnings per share were up 33%. This year they were up 12%. From 2014 to 2015, the rate of growth of tangible book value fell from 37% to 32%. This year it fell even a lot further, to 24%. In 2014 and 2015 the efficiency ratio was at 34.8% and 33.2%. This year it was at 38.9%.

Now say you weren’t already all emotionally involved with Bofi, and in love with your position, and someone came along with a new and different banking stock they wanted you to invest in. They gave you those exact figures, and told you the price was now 70% higher than it had been six months ago, in spite of this deterioration in fundamentals I just described, and asked you to invest in it. Would YOU even consider it??? And “Oh, yes, I forgot to tell you” they just happen to be in the middle of a bunch of big lawsuits, whistle-blower suits, class-action suits, and a huge short attack, with a huge short position (they may not actually lose any of them of course). Wouldn’t that make you even more eager to invest in this company you were being introduced to?

Well, if you wouldn’t touch a company with a ten foot pole if it was just being introduced to you because its fundamentals are deteriorating, when the numbers are consistently getting worse, why would you stay in it just because you had already gotten in. That’s not listening to the data. Someone staying in is reacting to his gut. I was reacting to the numbers and the reality.

Again, that DOESN’T MEAN the stock will go down. the market can react irrationally for a long time. But I have better places to put my money at present.

Just saying…

Saul

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Saul, I’m curious what you did buy with the proceeds. More ANET? I’ve been curious to hear your take on that situation.

Hi Bear,
I’m chicken, and I already have a good position in ANET, but I wouldn’t argue with someone who wanted to take advantage of what might be a big overreaction. I know that that doesn’t help much, but it’s the best I can do.
Saul

I think the point, Saul, is not that you explain every trade, but that when you do explain a trade you make so much sense! :slight_smile:

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Hi Saul,
What if I told you that someone was going to “Trump” all of your conclusions (Tongue firmly in cheek) and remove banking regulations in the next 100 days. Now what would you think of BOFI?

Andy

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Signature is one option for redeployment within the Banking sector - I’ve been intrigued why Saul hasn’t kept on eye on the fundamentals over at INBK (or maybe he has and hasn’t talked about it) and considered an opportunity to re-enter that play if the underlying story stays strong or has not deteriorated. (I appreciate the valuation has risen with the share price recently alongside BOFI however their Net Inc has been going gangbusters).
Ant

(I appreciate the valuation has risen with the share price recently alongside BOFI however their Net Inc has been going gangbusters).

Ant - Do you have the numbers handy to elaborate just a bit on net income?

A.J.
A bit lazy tonight

Saul, thanks for you reply. Of course you have no obligation to explain anything. But at least for many of us followers of this board you have established an expectation. It also appears to be intentional. You have set the board up as a learning experience. I and I’m sure many others are far more interested in the why and wherefore of your investing decisions as opposed to the transaction details. So, maybe the paint dries quickly and you can walk out of the corner. In any case, I very much appreciate the explanations of your process.

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Here’s the flash headlines page on SA with the earnings release links. Revenues have re-accelerated from Q1 up to a 30% mark in Q3 and EPS has expanded YoY every Q. I do note that of late they have been missing expectations rather than beating expectations.
http://seekingalpha.com/symbol/INBK/earnings

Quarterly income statements on Yahoo show Net Inc rising from 2.278m to 3.098m December 15 Q to September 16 Q whilst revenue has risen 13.737m to 20.369m (which includes interest and non interest revenues):-
https://sg.finance.yahoo.com/q/is?s=INBK

Ant

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Doesn’t mean they won’t go up from here, though. The market does irrational things at times.

Let us view this from a different angle. The 30 year bull market on Bonds are coming to an end. The interest rates are raising. This is going to be a very big tailwind on Banks.

Given this massive tailwind, If your case of selling is based on valuation, how do you view your decision to sell?

PS: Say for ex: Jeff Gundlach says 6% 10 year is possible by end of Trumps’ term or in 4 to 5 years. Remember at that rate how profitable banks will be. On that scenario, the current rally might have done some front running but there is lots of money to be made.

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I promise that when I sold out of Bofi I had no advance knowledge that it would drop $2.00 (7%) this week. I was simply reacting to the data I had discovered. Bofi could just as easily have gone up, as plenty of stocks I sell go up after I sell them.

Saul