Flagstar's Stock, Punished This Year, Could Rebound Big

Tickers in this article: AGO BAC FBC MBI

NEW YORK ( TheStreet) -- Investors with a strong stomach could be looking at a rewarding bank-stock pick in Flagstar Bancorp (FBC) .

The Troy, Mich., lender's shares are down 4% in Wednesday trading to $15.41 as a result of an expensive court ruling against the company that could set a nasty precedent for other mortgage lenders facing similar lawsuits. But Flagstar appears ready to absorb another major courtroom loss, although investors may not yet believe it.

Assured Guaranty (AGO) late on Tuesday was awarded $90.1 million. It claimed Flagstar made fraudulent representations that caused the bond insurer $116 million in damages and expenses.

The lawsuits involved two securitizations of home-equity loans that Assured Guaranty insured. Judge Jed Rakoff of the U.S. Southern District of New York agreed with Assured Guaranty's expert witness that 606 of 800 sampled loans were "materially defective," failing to meet Flagstar's own underwriting standards. That is a very high rate of negative findings for a loan sample, and the judge rejected numerous challenges by Flagstar to the sampling methodology and process.

Rakoff ruled that Flagstar should pay Assured Guaranty in full to cover all the claims the insurers had paid to investors, plus additional expenses yet to be determined.

Assured Guaranty's shares rose over 4% to $18.51. Meanwhile, bond insurer MBIA(MBI) was up 7% to $9.41. MBIA has a pending case against Flagstar, seeking $165 million in claims relating to two loan securitizations.

Rakoff's ruling could lead to other decisions against mortgage lenders.

Bank of America (BAC) in April 2011 settled Assured Guaranty's mortgage-putback lawsuit, agreeing to pay $1.1 billion in cash and also to pay up to $5.3 billion to reimburse the company on losses from 21 mortgage-securitization transactions. But Bank of America still faces two lawsuits from MBIA, and has in turn filed suit challenging MBIA's division into two entities, to protect its municipal-bond business from mortgage-related losses.

Several analysts believe that Bank of America could settle MBIA's claims for $2 billion to $3 billion. However, any settlement decision by the bank must also take into account the other mortgage-putback settlements it is negotiating.

Getting back to Flagstar, the company's stock was already down 17% this year through Tuesday's close at $16.01, pulling back from a 280% return during 2011.

Flagstar had $14.1 billion in total assets as of Dec. 31. The company reported 2012 net income available to common stockholders of $223.7 million, or $3.74 a share, compared with a net loss of $198.9 million, or $3.62 a share, in 2011. The EPS figures are adjusted for the stock's 1-for-10 reverse split in October.

During 2012 the company booked $990.9 million in gains on loan sales, as its mortgage lending business came roaring back. In 2011 gains on loan sales totaled $300.8 million.