Resilient Yields in a Declining Rate Environment

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Report Highlights

The MIC remains focused on first mortgages on single family residential units in Ontario. At the end of Q1-FY2025 (September 2024), mortgage receivables surpassed $180M, the highest in CMI’s history.
In FY2024 (ended June 2024), revenue was up 23% YoY, amid higher mortgage receivables, and lending rates, falling just 0.3% short of our estimate. Net income was up 13% YoY, beating our estimate by 0.4%. The yield increased 0.1 pp to 8.8% vs our forecast of 9.0%.

At the end of FY2024, CMI had $21M (12% of the portfolio) in stage three (impaired) mortgages, spread across nine out of 52 properties, up from $10M (10% of the portfolio) at the end of FY2023. As a result, we are modeling a significant YoY increase in loan loss provisions in FY2025. We believe CMI’s low LTV (69%) puts them in a comfortable position. CMI does not expect any significant losses from these impaired mortgages, a belief reinforced by both management and their auditor (KPMG), who have allocated only 0.2% of the portfolio to loan loss allowances.
The Bank of Canada has lowered rates five times this year, totaling 175 basis points, which should boost CMI’s transaction volumes in 2025. We expect further rate cuts ahead, prompted by slower GDP growth, elevated unemployment, and cooling inflation.
We find high-yielding funds, like CMI, 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 a yield of 8.5% in FY2025 (FY2024: 8.8%) vs management’s guidance of 8.6% - 8.8%.

Investment Strategy

Primary focus on residential units in Ontario
>50% of assets will be invested in residential mortgages
<35% of assets will be invested in commercial mortgages
<25% of assets will be invested in real estate properties held for revenue generation
Terms of less than five years
65% LTV

The following table shows how CMI’s portfolio compares to other MICs (with AUM of $100M+) focused on single-family residential units..

Short-term loans secured by real estate in ON. CMI has a higher-than-average risk profile (due to lower first mortgages, and higher LTV), but lower yields due to slightly lower lending rates, and higher defaults

Based on our discussions with management, we anticipate CMI’s yield aligning with the sector average in FY2025, driven by reduced G&A expenses, and a higher weighted average lending rate through increased exposure to second mortgages

Portfolio Details (YE: June 30th)

In FY2024, mortgage receivables were up 15% YoY to $172M vs our forecast of $175M. In Q1-FY2025, receivables were up 6% YTD to $182M; the highest in CMI’s history

In FY2024, debt/capital decreased 3 pp to 35%, amid higher equity investments, which is on the higher end of comparables. In FY2024, originations were up 37% YoY, while repayments were up 55% YoY

Exposure to first mortgages declined, implying a higher risk profile. Management plans to reduce first mortgage exposure to the 50%-60% range, and boost lending rates

To account for the potential increase in portfolio risk, we are conservatively assuming higher loan loss provisions for FY2025 and FY2026. The average mortgage size declined, implying lower risk

Most mortgages have terms of <12 months

Focused on already-built residential units. As of September 2024, 76% of mortgages were in ON, followed by B.C. (10%), and AB (8%). LTV increased, driven by lower first mortgages, implying higher risk

Lending rates increased with market rates

In FY2024, stage three (impaired) mortgages increased 6 pp to 12% of mortgage receivables, compared to the sector average of 5%, implying increased risk

Management has not allocated any material loan loss allowances as they are not expecting any significant losses from impaired mortgages, given the security held against them. We note that most MICs typically allocate 0.2%-1.0% of their mortgages to loan loss allowances.

Financials

FY2024 revenue was up 23% YoY, amid higher mortgage receivables, and lending rates, falling just 0.3% short of our estimate. Net income was up 13% YoY, beating our estimate by 0.4

In FY2024, the yield increased by 0.11 pp to 8.8% vs our estimate of 9.0%. The yield was 8.8% in H1-FY2025 (ended December 2024)

FRC Rating

With rates expected to trend downward, we foresee yields declining in 2025. We are projecting yields of 8.5% in FY2025, and 8.0% in FY2026; management’s FY2025 guidance is 8.6%-8.8%

Our FY2025 yield estimate varies between 6.1% and 9.4%, as loan loss provisions and lending rates vary

We are maintaining our overall rating of 2, and risk rating of 3. Given the BoC’s recent and anticipated rate cuts, 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 CMI, 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