Disclosure: First Circle Mortgage Investment Corporation has paid FRC a fee for research coverage and distribution of reports. See last page for other important disclosures, rating, and risk definitions.
Subscribe for free to get exclusive insights and fair value data.
Highlights
In FY2023 (ended September 2023), mortgage receivables increased 2% YoY to $193M vs our estimate of $200M.
The yield increased by 2.8 pp to 9.8%, beating our estimate of 9.0%, driven by higher lending rates. FCMIC has been able to raise lending rates quickly, as 70%+ of its mortgages are floating rates.
The MIC remains focused on first mortgages for single family residential units in B.C.
Despite a recent uptick in inflation, and a downtick in the unemployment rate, we anticipate the Bank of Canada will cut rates by June/July 2024, driven by rising financial instability, and mortgage costs.
In spite of a sharp decline in real estate activity in 2023, residential property prices have remained resilient. As of January 2024, prices in B.C. were up 11% YoY. We anticipate transaction volumes will pick up in H2-2024, driven by lower interest rates.
As of September 2023, FCMIC had $12M (6% of the portfolio) in stage three (impaired) mortgages, spread across 10 out of 256 properties, up from nil at the end of FY2022. We believe FCMIC’s low LTV (51%) puts them in a comfortable position. FCMIC is not anticipating any losses from these impaired mortgages, a conviction supported by both management’s and their auditor’s decision to allocate nil of the portfolio to loan loss allowances.
Anticipating a decline in rates in H2-2024, we find high-yielding funds, such as FCMIC, increasingly appealing. We are projecting a yield of 9.1% in FY2024. 
Investment Strategy
- Primary focus on single-family residential units in B.C.
- 25% of the MIC’s assets are invested in industrial and commercial mortgages
- 30% of the MIC’s assets are invested in second mortgages
- Terms of less than two years
- 75% LTV
The following table shows how FCMIC’s portfolio compares to that of other MICs (with AUM of $100M+) focused on single-family residential units.
Source: FRC/Various
FCMIC has a lower risk-profile, driven by higher first mortgages, and lower LTV
FCMIC's ability to generate higher yields is driven by its large share of floating-rate mortgages, and use of leverage
FCMIC's portfolio is concentrated in B.C., indicating limited geographic diversification
Portfolio Details (YE: September 30th)
Source: Company/FRC
In FY2023, mortgage receivables were up 2% YoY to $193M vs our forecast of $200M
Debt/capital declined by 6 pp to 26%
Source: Company/FRC
In FY2023, mortgage originations were down 34% YoY; repayments were down 15%
Exposure to first mortgages declined, implying a slight increase in risk
At the end of FY2023, only 1.9% of mortgages had terms of 12+ months, down from 3.4% at the end of FY2022, implying lower risk
Source: Company/FRC
At the end of FY2023, only 1.9% of mortgages had terms of 12+ months, down from 3.4% at the end of FY2022, implying lower risk
Exposure to residential units (already built) declined 7.5 pp to 66%, implying higher risk
At the end of 2023, 61% of mortgages were in the Greater Vancouver area
Source: Company/FRC
LTV declined 2 ppt, implying lower risk
FCMIC has been able to raise lending rates quickly, as 70%+ of its mortgages are floating rates
Nil realized losses
Stage three (impaired) mortgages increased from nil at the end of FY2022, to 6% at the end of FY2023
Source: Company/FRC
However, management has not allocated any loan loss allowances as they are not expecting any losses from impaired mortgages, given the security held against them; we note that this is highly unusual as most MICs typically allocate 0.2%-1.0% of their mortgages to loan loss allowances
Source: FRC
In summary, we believe the portfolio’s risk profile has increased slightly due to lower exposure to first mortgages, and higher stage three mortgages, partially offset by the impact of lower LTV mortgages
Financials
Source: Company/FRC
FY2023 revenue was up 44% YoY, beating our estimate by 1%, due to higher rates
Dividends were up 41% YoY, beating our estimate by 12%
Reported nil in loan loss provisions vs our forecast of $1M
The yield increased from 7.02% in FY2022, to 9.81% in FY2023, beating our estimate by 81 bp
Source: Company/FRC
The premium/differential has been declining due to competition
FRC Rating
Source: FRC
Due to higher rates, we are raising our FY2024 yield forecast from 7.9% to 9.1%
Source: FRC
Our forecast is conservative as we are assuming loan loss allowances totaling 0.5% of the portfolio over the next 24 months
Our estimate for the FY2024 yield varies between 8.0% and 9.5%, using various loan loss allowances
We are reiterating our overall rating of 2, and risk rating of 2. Anticipating a decline in rates this year, we find high-yielding funds, such as FCMIC, increasingly appealing. Key risks include a softer mortgage origination market, and higher default rates. We believe FCMIC generates higher than average yields, and maintains a relatively low-risk portfolio, with a high percentage of low-LTV/floating rate/first mortgages.
Risks
We believe the MIC is exposed to the following key risks (not exhaustive):
- Operates in a highly competitive sector
- Timely deployment of capital is crucial
- A downturn in the real estate sector may impact the company’s deal flow
- Geographical concentration
- Distributions are not guaranteed
- Leverage increases the fund’s exposure to negative events
- Although the MIC’s primary focus is on first mortgages, it may invest in second mortgages which carry higher risk
- Default rates can rise during recession
