PennyMac Financial Services (PFSI) is a large mortgage production and servicing company that was created in 2018 from the reorganization of PNMAC Holdings. PennyMac has a focus on dealing solely with residential mortgages. Generally, the company operates by producing residential mortgages through loan origination, then sells a portion of loans produced in-house. On the sale of an originated mortgage PennyMac retains the mortgage servicing rights (MSRs), which allows the company to make money from mortgage servicing fees. PennyMac also provides mortgage investment management services and receives fees for such activities related to PennyMac Mortgage Investment Trust (PMT). PennyMac is part of one of the largest residential mortgage markets in the world. The United States has seen low interest rates foster high mortgage demand, resulting in positive results for PennyMac. The near future looks bright but with interest rates at historical lows I expect the next five years to produce less volume. Therefore, I will be looking for a margin of safety to get into this company.

Past Financials

PennyMac Revenue By SegmentPennyMac Revenue By SourceSource: SEC 10-Ks

Over the past five years, PennyMac has seen great results. Total revenue has seen pretty solid growth powered by each segment over the five years. The stability of this business is clear by the various mortgage services offered. When interest rates decrease the production side of the business excels due to strong residential demand. This can be seen by the increase in origination fees but more importantly by the divestiture of loans for sale. These two revenue sources feed into the servicing revenue by increasing the MSRs. But as interest rates decrease it also takes away some from the servicing segment as the fair value of those MSRs decreases in tandem. Therefore, there is some balancing happening in the company. The graphs above show that PennyMac has been consistently profitable due to this.

Over the past year, the largest revenue source has been from the sale of loans. The fair value of loans at PennyMac has increased due to the strong demand seen within the United States residential mortgage market. Origination fee revenue has also been strong this past year at $174 million. Servicing revenue was also strong at $294 million but was down from $445 million in 2018 due to the reduction of 35% in MSR fair value attributable to lower interest rates.

READ ALSO  SE: A Cyclical Move Overall in the Markets Is Afoot, BofA’s Hyzy Says

Overall, PennyMac has shown consistent financial results over the past five years. This is due to the plethora of different operations PennyMac is involved in. In 2019, PennyMac posted outstanding results due to decreasing interest rates. This decrease in interest rates boosted demand, therefore increasing revenue from mortgage production that flowed into more servicing fees.

Q1 and Q2 2020

Many businesses are struggling during the COVID-19 pandemic, but PennyMac is not one. In the first quarter of 2020, PennyMac posted total revenue of $722 million. This is an increase of 191% from 2018. In 2019, almost every revenue category saw growth with huge run-ups in gains in value on loans held for sale as well as servicing fees. PennyMac ended the quarter with net income of $306 million, an increase of 564% from Q1 2019.

Q2 saw a sustained strong residential mortgage market. PennyMac saw the same trends as in Q1 of lower interest rates, increased demand, and higher production volume. Total revenue in the second quarter was $822 million, up 171%. The largest revenue driver was from gains on loans held for sale, which increased 362%. Net income in Q2 was $353 million. This totals to great results in the first half of the year. The six-month total revenue was up 180% to $1.543 billion. This was powered by the large increases from the gains of loans for sale, while origination fees and servicing fees also saw good growth. As a note, the lower rates did affect the fair value of the MSRs that PennyMac holds.

The Current Real Estate Trend

As mentioned before, the main driver of success in this business is lower interest rates. This is because lower interest rates allow homeowners to pay less on a mortgage over time. This spurs demand in the mortgage industry, which increases volumes at PennyMac. These volumes increase the loan book the company holds and sells, resulting in more volume within the servicing segment. Therefore, it is imperative to look at industry trends.

READ ALSO  USA Today Refused To Publish Hunter Biden Scandal Op-Ed, So Here It Is

30 Year Mortgage Rates15 Year Mortgage Rates5/1 Adjustable Mortgage RateSource: FRED

Looking above are the average interest rates for some of the most popular mortgage types. As can be seen, interest rates in each of these types have been very low. The 30-year and 15-year mortgage rates are at their lowest in the entire 5-year period. This is due to the Federal Reserve lowering rates in 2020 due to the pandemic. The Fed Funds Rate now sits at the lowest rate ever, close to 0%. This has been a huge tailwind for PennyMac, as we saw in the financial reports for the past two quarters.

U.S. Housing StartsSource: FRED

U.S. Existing Home SalesU.S. New Home SalesSource: Trading Economics

Some other important residential housing metrics are shown above. Housing starts show the level of residential construction going on right now. As can be seen, 2020 was showing incredible results until the pandemic and then bounced back. What this shows is underlying demand is still there to own/buy a new home. Looking at two metrics that directly affect PennyMac are existing home and new home sales. Home sales are generally where mortgages will be originated and what can be seen by looking at the two graphs is that sales dipped during the pandemic but have quickly bounced back to above the five-year average. Overall, what these three metrics show is that the underlying demand for residential housing is very high still. This makes sense as interest rates are at all-time lows, enticing people to take advantage.

This is great for PennyMac as it means the company will more than likely see high volume and gains on loans held for sale. Also, MSRs won’t decrease in fair value again as interests can’t go much lower. But what does this mean for PennyMac over the long term? Well, interest rates will increase over the next five years – at what pace I am unsure. Therefore, the period of time will result in some of PennyMac’s best financials. I would expect that loan production volume slightly decreases over time as interest rates normalize a bit.

READ ALSO  Russia’s Economic Recovery Cooled Before Second Wave Struck


As of writing, PennyMac is trading at a stock price around $55 per share. I am a long-term investor and the residential mortgage industry goes through interest rate cycles. Therefore, I am using a price to 5-year average earnings ratio. With a 5-year average EPS of $3.32, the P/E is 16.57x. As of the most recent quarter, the book value per share is $34.26, meaning the P/B is at 1.61x. The stock has been bid up over 65% year to date due to the company’s financial results.


PennyMac has seen great results attributable to a low-interest rate environment that has fostered strong mortgage demand. The volume of loan production has been stellar while interest rates are near zero. This has resulted in a large gain in loans held for sale, origination fees, and servicing fees. The pandemic has not been an issue for the company and has been a tailwind for the residential mortgage industry. I like PennyMac at the current valuation but would require a margin of safety to invest. This is due to the fact that interest rates can’t really go much lower. The next five years should be good for the company but not as good as in 2020 as I expect lower production volume.

Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.