MGIC's buybacks lift profit per share as an old cushion shrinks

MGIC Investment earned less money in the third quarter, yet profit attributed to each share increased. A heavy share-buyback program reduced the number of shares enough to push earnings per share higher.

Net income fell to $175 million from $191.1 million a year earlier. Diluted earnings per share nevertheless increased to $0.85 from $0.83, as the average diluted share count dropped about 11%.

For the mortgage insurer, the more revealing change lies underneath that per-share gain. A smaller benefit from old loss reserves is weighing on earnings, even as management becomes a little more optimistic about new business.

An old earnings cushion is getting smaller

Mortgage insurance protects lenders and investors against losses when borrowers cannot repay. Insurers estimate the cost of delinquent loans and set money aside. If those loans turn out better than expected, releasing some of that reserve lifts profit.

MGIC still benefited from those releases. They simply contributed less. Its quarterly loss expense rose to $23.9 million from $10.9 million.

The release's breakdown estimates $58 million of ultimate losses on newly reported delinquencies in the quarter, the same rounded amount as a year earlier. Favorable changes to estimates for earlier periods offset $34 million of that cost, down from $47 million.

So the higher net expense is largely about a shrinking benefit from the past. The underlying credit picture is also softer: the delinquency rate reached 2.52%, compared with 2.32% a year earlier, and new delinquency notices increased. MGIC notes that credit performance usually weakens in the second half of the year.

More new business does not automatically mean more premium income

MGIC insured $17.1 billion of new mortgages during the quarter, up from $16.5 billion. Its latest report now expects a modest increase in full-year new insurance written, compared with the relatively flat outlook in its original July report.

But net premiums earned slipped to $238.5 million from $241.8 million. Greater use of reinsurance, which transfers part of the risk and premiums to other insurers, was a main reason. Lower underwriting expenses helped offset the pressure.

The distinction matters: the volume of mortgages newly insured is improving, while the premiums MGIC keeps and the profit released from older claims are moving differently.

Buybacks change the per-share picture

MGIC repurchased $152.5 million of shares in the third quarter and another $70.2 million in October. The smaller share base helped EPS rise despite an approximately 8% decline in total quarterly profit.

The capital behind those returns remains substantial. At September 30, the insurance subsidiary had $5.8 billion of eligible assets under the mortgage agencies' capital rules, including a $2.8 billion excess above requirements. Holding-company liquidity, including investments, was $783 million.

The insurer also paid $350 million to the parent in November, after $400 million during the first nine months. Those transfers move resources within the group and help fund the parent's shareholder distributions.

At group level, buybacks and common dividends used about $630 million of cash in the first nine months, against $478.3 million of operating cash flow. Cash flow fell from $622 million a year earlier, partly because of purchases of transferable tax credits as well as lower premium receipts and higher claim payments.

The MGIC company profile tracks the credit figures, capital and distributions. The next test is whether the improving flow of new mortgages can support profits as the benefit from older reserves becomes smaller.