Ocwen Expected to Face Litigation, Shares Dip

Shares of Ocwen Financial Corp. (OCN) tumbled on Tuesday, after Financial Times reported the possibility of legal action against the mortgage servicer by a group of institutional investors. Ocwen’s stock price fell 9.03% and came in at $38.07.

Investors are contemplating filing a legal case against Ocwen over its mortgage servicing practices and loan modifications. They claim that the non-bank mortgage servicer’s practices have affected the performance of securities purchased by the investors.

The investors’ group including Pimco and BlackRock, Inc. (BLK) is being represented by the law firm – Gibbs & Bruns. Notably, this law firm has represented similar cases against major banks including JPMorgan Chase & Co. (JPM) and Bank of America.

Mortgage servicers’ role is to accumulate payments from homeowners and allocate those to investors who own the loans through mortgage securities. Collectively, over the past two years, servicing rights over $1 trillion in mortgages have changed hands. Therefore, some specialty mortgage servicers have been thriving, which has raised doubt over the servicers’ capabilities to service such loans.

Ocwen is facing increased scrutiny over its practices after it announced a $2.1 billion settlement with the Consumer Financial Protection Bureau (:CFPB) and other regulators, along with 49 states and the District of Columbia in Dec 2013.

As per the allegations, Ocwen used deceptive and unfair means while working with borrowers who were delinquent and underwater. The company was accused of misrepresenting facts while filing foreclosure documents, charging unjustified fees for default-related services and forcing borrowers to buy unnecessary insurance policies, among others.

Further, last week, Benjamin Lawsky, superintendent of New York’s Department of Financial Services (DFS) restricted the proceedings of the cash-deal worth $2.7 billion entered into by Wells Fargo & Co. (WFC) and Ocwen last month. As per the terms of agreement, Ocwen was to buy residential mortgage-servicing rights (MSRs) on 1,84,000 loans with total principal balance of about $39 billion from Wells Fargo. Driven by concerns over the mortgage servicer's ability to handle the rise in servicing volume, Lawsky has indefinitely halted Ocwen’s recent deal.

Continuation of such legal issues will dent Ocwen’s financials in the near term. Moreover, the holding back of the deal by regulators will affect the company’s strategy of increasing revenue through the acquisition of servicing rights from big banks in the coming period. Further, if the lawsuit is filed and Ocwen is found guilty, it would take the share price further down, thereby affecting investors’ confidence.

Following such legal actions against Ocwen, the Zacks Consensus Estimate for 2014 has declined 3.8% to $5.08 per share, over the last 30 days. Moreover, our proven model does not conclusively show that Ocwen is likely to beat the Zacks Consensus Estimate in the fourth quarter. This is because a stock needs to have both a positive Earnings ESP and a Zacks Rank #1 (Strong Buy) or at least 2 or 3 for this to happen. Unfortunately, this is not the case here as elaborated below.

Zacks ESP: The Earnings ESP for Ocwen is -5.95%. This is because the Most Accurate estimate of 79 cents is below the Zacks Consensus Estimate of 84 cents.

Zacks Rank: Ocwen’s Zacks Rank #3 (Hold), however, increases the predictive power of ESP. That said, we also need to have a positive ESP to be confident of an earnings surprise call.

Ocwen is expected to release fourth-quarter 2013 results at the end of February.

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