Something extraordinary has happened to Home Capital Group Inc. over the past nine weeks: It has become Canada's hottest stock, and a number of analysts believe more gains are coming.
Up to Wednesday, the share price surged 150 per cent since April 26 – the day when the stock collapsed 65 per cent after the mortgage lender said it needed an emergency loan to offset fleeing deposits. That's easily the best return among the 248 stocks in the S&P/TSX composite index.
While the stock remains highly speculative amid continuing concerns about the company's future, the recent gains reflect rising confidence that the worst may be over.
"Since we last updated our estimates, the outlook has brightened considerably," Dylan Steuart, an analyst at Industrial Alliance Securities, said in a note earlier this week.
He boosted his price target on the stock dramatically, to $19 from $10.50.
Other analysts are making similar changes. According to Bloomberg, the seven analysts who have updated their views on the stock over the past two days have an average target price of $17, up from an average of $12.50 just one week ago.
That marks an amazing turnaround in their assessment of Home Capital – but should latecomers join this rally?
The alternative lender, whose core business is underwriting mortgages to recent immigrants, self-employed Canadians and others who don't qualify for loans from risk-averse financial institutions, fell on hard times nine weeks ago when depositors withdrew money from high-interest savings accounts.
The bank run coincided with allegations from the Ontario Securities Commission that management had been slow to reveal fraudulent underwriting practices among some brokers.
Add in executive and board departures, along with broader concerns about Home Capital's potential impact on Canada's housing market and contagion to other financial players, and this didn't look like a good stock on which to bet your financial future.
The price closed at a low of $5.85 in early May, down from more than $31 at the start of the year.
What explains the subsequent rebound to $14.94?
Home Capital has made a flurry of moves that have improved the outlook for the company to the point where the debate has shifted from whether it will survive to what it is worth.
The company has attracted new board members, and last week settled its case with the OSC. It appears to have stabilized its funding after raising interest rates on guaranteed investment certificates. And on Tuesday, it agreed to sell $1.2-billion in commercial mortgage assets to KingSett Capital, at 99.6 per cent of principal value.
"Everything they said they'd do, they've done," said David Taylor of Taylor Asset Management, which bought Home Capital shares on the recent dip.
The asset sale means that Home Capital can repay a substantial portion of its expensive emergency loan from a Canadian pension fund. And the price it received implies that the rest of the company's loan book could be worth something close to book value.
That's far better than the gloomy scenarios that had assumed assets could be sold off at 80 cents on the dollar and leave the company essentially worthless. And it supports the argument that Home Capital's share price should approach its book value.
Home Capital's book value is $24 per share, according to Mr. Steuart. If the shares trade at 0.8-times book value, in line with peers, the share price would rise to $19.
But the bigger hope among investors is that Home Capital doesn't have to continue to sell its loan book or run-off its mortgages as they mature, but can resume life as a mortgage lender.
"The best way to get full value for this company is not in a run-off. It is to re-establish this company and to build up the franchise value once again," Mr. Taylor said.
He thinks the share price could rise to $25 under this scenario – up nearly 70 per cent from the current price – which is why he remains a significant shareholder.
Is it a risky bet? Definitely. But if the risk subsides, so too will the opportunity.
[UPDATE: On Wednesday evening, Home Capital Group announced that Warren Buffett's Berkshire Hathaway Inc. agreed to acquire $400-million worth of Home Capital shares, at a discounted price of $9.55 per share. Berkshire Hathaway will also provide a $2-billion line of credit. In early trading on Thursday morning, Home Capital's share price rose 12 per cent, to $16.76.]