Strong Performance and Resilient Yield Outlook Amid Declining Rates

Report Highlights

• Focus remains on first mortgages on single-family units. As of September 2024, 60% of mortgages were in B.C., and 31% in ON. First mortgages accounted for 91% of the portfolio. 
• At the end of Q3-2024, impaired (stage three) mortgages accounted for 0.9% of total mortgages vs the sector average of 5%. We believe the fund is comfortably positioned with a low LTV of 55%.
• We anticipate further rate cuts by the Bank of Canada (due to slower GDP growth, high unemployment, and cooling inflation), and a rise in Three Point’s transaction volumes in 2025. 
• We find high-yielding funds, like Three Point, increasingly attractive in the current declining rate environment. This is because MIC lending rates are less elastic, meaning their yields tend to decline less in a falling rate environment, and rise more slowly in a rising rate environment.
• We are projecting yields of 9.3% in 2024 (2023: 8.1%), and 8.2% in 2025.   

The following table shows how Three Point’s portfolio compares to that of similar MICs (with AUM of over $100M) focused on single-family residential units.

Three Point has higher first mortgages, lower LTV, and smaller loan sizes. The fund also has significantly lower stage three/impaired mortgages. Three Point’s yield is slightly lower due to its lower risk profile 

Portfolio Update 

In 2023, gross mortgage receivables were up 12% YoY to $203M vs our estimate of $185M. Receivables rose to $207M by Q3-2024, up 2% YTD

At the end of Q3-2024, debt to capital was 26%, down from 35% at the end of 2023; we note that comparables range between 20%-40%. The interest coverage ratio is in line with  comparables

Mortgages advanced were down 8% YoY in 2024 (9M); repayments were down 7% YoY

Exposure to first mortgages decreased slightly, but remain within the historic range of 90%-95% 

Focus remains on already-built single family residential properties. Lending rates increased with market rates

We believe the BoC’s rate cuts since June 2024, and expected future reductions, should lower Three Point’s rates, though more gradually due to its fixed-rate mortgages. No change in LTV

Lowered exposure to ON, while raising exposure to AB, implying enhanced geographical diversification. The average mortgage size was up 2% YTD

Stage three (impaired) mortgages increased 158% YTD to 0.9% of mortgages vs the sector average of 5%. Loan loss allowances held steady at 0.5% of mortgage

Redemptions as a percentage of invested capital have been relatively low (<5% per year), reflecting investor confidence in the management team

Overall, we believe the portfolio’s risk profile remains unchanged, with two green and two red signals.

Financials

2023 revenue was up 42% YoY, beating our estimate by 2.6%, due to higher lending rates. Net income was up 49% YoY, beating our estimate by 2.4% 

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2024 (9M) net income was up 42%  YoY, beating our estimate by 31%, amid higher lending rates, and lower than expected loan loss provisions

2023 yield was 8.1% (beating our estimate by 0.4 pp) vs 5.9% in 2022. 2024 (9M) yield was 9.5% vs our forecast of 7.8%

FRC Projections and Rating

With rates expected to trend downward, we foresee yields peaking in 2024, and then declining in 2025. We are projecting yields of 9.3% in 2024, and 8.2% in 2025

Our estimate for the 2025 yield varies between 5.9% and 9.3%, as loan loss provisions and lending rates vary

We are reiterating our overall rating of 2, and a risk rating of 2. Management has adhered to their mandate of maintaining a low-risk-profile MIC, as evidenced by a higher percentage of first mortgages, low LTV, and minimal exposure to stage three mortgages. 

With the BoC expected to continue lowering rates, yields are set to decline. However, we believe the risk of higher default rates is easing, and the mortgage origination market is likely to gain momentum in 2025. We find high-yielding funds, like Three Point, increasingly attractive in the current declining rate environment. This is because MIC lending rates are less elastic, meaning their yields tend to decline less in a falling rate environment, and rise more slowly in a rising rate environment.

Risks

• Loans are short term and need to be sourced and replaced quickly
• Timely deployment of capital is crucial
• Lower housing prices will result in higher LTVs
• Shareholders’ principal is not guaranteed, as the NAV per share could decrease from current levels (due to loan losses)
• Although the MIC’s primary focus is on first mortgages, it may invest in second mortgages that carry higher risk
• Annual redemptions may be limited to 10% of the total invested capital
• Default rates can rise during recession

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