Rethinking Lender Processing Services Amidst New Allegations and Surging Put Activity

Almost two weeks ago, I wrote a piece titled “Lender Processing Services Poised to Profit as Housing Market Worsens” in which I provided my thoughts and analysis about the latest earnings conference call for LPS. That piece included a detailed review of the entire earnings conference call. I concluded that the information management provided seemed to confirm that the enforcement action announcement by the Office of the Comptroller of the Currency (OCC) should mark the end of LPS’s decline.

Today, LPS declined 6% on heavy volume as Naked Capitalism delivered stinging commentary regarding a recently released filing in a class action lawsuit against LPS with the City of St. Clair Shores Employees’ Retirement System as lead plaintiff. In “Former LPS Employees Allege 30% to 78% Error Rate in Borrower Mortgage Records, Contradicting Banker/Regulator Cover-Up“, Naked Capitalism notes some new claims:

“…the new and more troubling material is the mess LPS has made of bank records. LPS employees were given password controlled access to borrower payment records and could and did alter those accounts. These passwords were routinely and widely shared, in contravention of good practice. And since everything at LPS was organized around maximizing throughput rather than doing anything correctly, the errors were widespread.”

Naked Capitalism summarizes the filing, so I will not turn around and summarize the post. However, I do highly recommend reading it for yourself to get a sense for just how bad things could get for LPS if the company loses this case. I am certainly forced to rethink enough of my previous hopeful opinion to swing me all the way back to considering buying puts on the stock again. At the current rate, LPS will not profit much from the deepening troubles in housing.

If I go back to buying puts, I will have PLENTY of company. In April, I noted the last wave of heavy put activity in LPS. Like the previous round where buyers chose to buy many months out, these buyers chose the September strike. Volume specifically surged where there open interest is already incredibly high: 9,075 puts traded at the Sept 30 strike where open interest is 10,555 puts, and 17,987 puts traded at the Sept 25 strike where open interest is 4,559 puts. I noted almost no call volume across any month.

While we have to wait until Monday for the new open interest numbers, previous history suggests that open interest in the Sept 25 puts should surge to over 21,000. It is certainly possible that some put holders at the Sept 30 strike took profits and applied them to the lower strike, allowing them to now play with “the house’s money.” Under any circumstance, such activity is a huge red flag that the market anticipates much steeper declines. The choice of expiration dates for these waves of put-buying suggests efforts to allow enough time for resolution of the legal troubles besetting LPS.

The weekly chart below shows that today’s calamity for LPS dropped it right above the 52-week low. A break of that critical support will likely send LPS careening down a fresh downtrend. Such a move will rekindle the decline that started in late 2009 where the stock recorded its all-time high.

LPS now looks ready to resume a multi-year downtrend
LPS now looks ready to resume a multi-year downtrend

*Chart created using TeleChart:

Be careful out there!

Full disclosure: long LPS

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