Wedbush came out with a bearish downgrade on SoFi today to join glowing reports published by Citi, Truist and BofA this month. The arguments posed in the piece were quite similar to the bear cases we’ve already responded to in recent issues. For consistent readers, this may sound somewhat repetitive.
Whole Loan Sales:
The Wedbush analyst talks about fee income growth slowing from less whole loan sales into capital markets. Let’s start there. Apparently this analyst thinks the holy grail and best case scenario of SoFi’s personal lending business is a consistent 4% gain on sale margin. Interesting. Let’s do some easy math.
SoFi’s weighted average coupon on personal loans sits at 13.2%. Its cost of funding is 0% for equity, 4.2% for deposits and about 6% for warehouse capacity usage. It has about $16 billion in loans on its balance sheet as of March 2023 and is using $3.5 billion in warehouse capacity. Conservatively assume its average cost of capital for originations is 5%. Why would it take a 4% gain on sale margin today if it can enjoy an 8%+ gross spread on the credit by stashing it on its balance sheet for longer periods of time? If the credit is healthy, there’s zero reason to liquidate as ROE optimization requires holding and liquidating at a later date. Is the credit quality healthy? Yes it is. Let’s review this again.
SoFi’s borrower earns over $150,000 per year and boasts a FICO score over 750. It’s a very affluent book of credit. That’s the cause and strong metrics is the effect. Several quarters into souring macro, SoFi’s life of loan loss rate is materially below pre-pandemic levels. It continues to handsomely outperform industry benchmarks and enjoy credit performance beyond what it hoped for. But STILL, it expects credit deterioration to take place and for unemployment to spike throughout 2023. That pessimism is part of its annual guide. When pairing healthy repayment levels with robust net interest margins, the choice to hold loans becomes quite tempting. When also pairing that with the “excess liquidity” CFO Chris LaPointe consistently talks up, holding vs. selling becomes the responsible decision to maximize yield.
But is its decision really a matter of ROE optimization, or is it by necessity? A Q1 asset backed securitization (ABS) deal points to strong funding supply and this truly being ROE optimization. It sold nearly $500 million into ABS markets last quarter and (again) has explicitly told us that access remains wide open. But wait… what about the appeal of that actual deal? It was 8x oversubscribed on the demand side with credit spreads improving by nearly a full percent as a result. ABS markets are MORE FRAGILE across credit cycles than whole loan markets. If it can access the former, it can access the latter.
For more evidence of this liquidity not being a pressing concern, it has elected to repurchase its previously sold pools back from capital markets to juice interest income. That’s what “excess funding” and capital ratios well over regulatory minimums let it do.