Velocity Financial, Inc.

Good day and welcome to the Velocity Financial Third Quarter 2024 Conference Call. All participants will be in a listen-only mode. Should you need assistance, please signal a conference specialist by pressing the star key followed by zero. After today's presentation, there will be an opportunity to ask questions. To ask a question, you may press star, then one, on your touchtone phone. To withdraw your question, please press star, then two. Please note this event is being recorded. I would now like to turn the conference over to Chris Oltman, Director of Investor Relations. Please go ahead.

Thanks Danielle.

Hello everyone

and thank you for joining us today for the discussion of Velocity's Third Quarter 2024 results. Joining me today are Chris Farrar, Velocity's President and Chief Executive Officer and Mark Sapaniak, Velocity's Chief Financial Officer. Earlier this afternoon, we released our third quarter results and you could find the Invest Release and accompanying presentation we will refer to during this call on our Invest Relations website at .velfinance.com. I'd like to remind everyone that today's call may include forward-looking statements, which are uncertain and outside of the company's control and actual results may differ materially. For discussion of some of the risks and other factors that could affect results, please see the risk factors and other cautionary statements made in our communications with shareholders, including the risk factors disclosed in our filings with the Securities and Exchange Commission. Please also note that the content of this conference call contains time-sensitive information that is accurate only as of today and we do not undertake any duty to update forward-looking statements. We may also refer to certain non-GAAP measures on this call. For reconciliations of these non-GAAP measures, you should refer to the earnings materials in our Invest Relations website. Finally, today's call is being recorded and will be available on the company's website later today. And with that, I will now turn the call over to Chris Farrar.

Thanks, Chris. And thank you all for joining our third quarter earnings call. After the close, we reported another record quarter for the company as our team continues to execute well across the board. We saw strong demand for new loans as our origination volumes grew by 64% over the prior year quarter and our net portfolio growth was $876 million or 22% in total UPB. I want to congratulate our production team on closing just under 1,200 loans in the quarter while maintaining our margins and credit standards as the weighted average LTV actually dropped to 63%. In terms of the financials, our net interest income increased by 29%, our NIM was up 26 basis points and earnings grew by 31%. Turning to credit performance, our special servicing team delivered another great quarter by successfully resolving delinquent assets favorably. We continue to see healthy real estate markets in our niche, especially with stable rising values and plenty of liquidity from new investors. From a financing perspective, we're well positioned to fund our growth as our capital markets team continues to take advantage of the very strong market conditions. Our most recent deal closed in early October and was six times oversubscribed on the AAA bonds which allowed us to realize an excellent cost of funds of approximately 6%. Looking forward, our pipeline is healthy and growing and we received a new company record of over 900 applications for more than $450 million in UPV in the month of October alone as borrowers look to finance, sorry, look to lock in financing by year end. Obviously, as our momentum continues, we will exceed our portfolio goal of $5 billion of UPV by 2025 and the future is bright. As always, we appreciate all the support we have from our partners and shareholders as we work every day to create long-term value for all. With that, we'll turn to our earnings presentation materials that were released after the close starting on page three. As we take a look, as I mentioned, earnings were up significantly, really seeing nice portfolio growth and the income coming off that portfolio. NIMM up to .6% which was great for the quarter. In terms of production, 476.8 million which is really just an incredible quarter for us. The team is doing a great job. In terms of non-performing loans, relatively flat with where we were last quarter and most importantly, continue to see very healthy resolutions with a .4% gain over UPV. Turning to the financing and capital part of the business, I mentioned that we completed a couple of securitizations. The market there is very healthy and very strong. We see a lot of demand from investors. We also collapsed the 2020-2 securitization during the quarter which was under levered and had about $25 million of retained equity that we were able to redeploy. That's a great transaction for us. Very good in terms of liquidity and warehouse capacity. We've got plenty of room there to grow the business. As I mentioned, the October securitization really went off well. On page 4, we reconciled to coordinate income with some of the adjustments there. Then obviously, grow through a bar chart here, the book value again significantly in the quarter. As in prior periods, reflect the adjusted book value reminding everybody if we were allowed under gap to mark the rest of the portfolio to what we think is fair value, you come up with an adjusted book value of $17.76. Again, we think there's significant embedded gains in the legacy amortized cost portfolio that is continuing to run off. With that, I'll turn it over to Mark.

Thanks, Chris. Hi, everybody. The third quarter has continued to reflect Velocity's strong 2024 performance. We go to page 5. The loan production for Q3, as Chris mentioned, was almost $477 million in UPB. That's almost a 13% increase over the $422 million from Q2. There were over 1,100 loans funded in the quarter. This healthy production growth during Q3 included the weighted average coupon on new health and investment originations remaining strong at about 10.8%. The weighted average coupon on HFI originations for the last five quarter trend has been right around 11%. This growth in originations in Q3 also continued at tight credit levels with our weighted average LTV for the quarter at 63% and the last five quarter trend at about 64.4%. So a strong Q3 production with the healthy WAC and the low LTV continues to demonstrate borrower demand for our product. On page 6, as a result of the healthy growth in production, we see a similar growth in Q3 for our overall loan portfolio. The total loan portfolio as of September 30th was almost $4.8 billion. That's a .1% increase from Q2 and a .6% increase year over year. The weighted average coupon on the portfolio as of September 30th was 9.37%, which is a 12 basis point increase from Q2 and a 74 year over year basis point increase. Our total portfolio weighted average LTV remains consistently low at 67% at the end of the quarter. We slip to page 7. Our third quarter net interest margin increased six basis points from Q2 and 26 basis points year over year as our portfolio yield increased 20 basis points quarter over quarter and 80 basis points year over year, while the cost of funds increased only 14 basis points quarter over quarter, 52 basis points year over year. The quarter over quarter increase in net interest margin is mainly driven by the strong loan production that we just mentioned in the quarter at healthy spreads from the higher wax, coupled with the continued favorable execution and securization markets. On page 8, our non-performing loan rate at the end of Q3 was 10.6%, relatively flat to Q2 at 10.5%, and our non-performing loan rate has remained consistent for the last five quarters, averaging just over 10%. The strong collection efforts by our special services department continues to result in resolutions of our NPL loans at favorable gains, which is better illustrated on page 9. Our Q3 NPL resolution gains were $2.3 million or .4% of the total UPB result. We resolved almost $69 million of UPB in the quarter. And on a trend basis, if you look back at the last five quarters, we've averaged about a .2% gain on our NPL resolutions per quarter. Moving to page 10, let's take a look at our CISO loan loss reserve and also our net loan charge off and gain loss on our activity. On the left-hand side, the CISO reserve at the end of the quarter was $4.9 million, or 19 basis points of our outstanding non-fair value HFI portfolio. Our CISO reserve remains within the expected range of 15 to 20 basis points. Keep in mind that CISO reserve does not include loans being carried at fair value. The right-hand side table shows our net gain loss from loan charge-offs and REO-related activities during the quarter. For Q3, we had a net gain of $900,000. And on the last three quarters, if you take a look at it on average, we're averaging about a $1.5 million average gain per quarter over the last three quarters. Page 11 shows our durable funding and liquidity position at the end of Q3. Our total liquidity at the end of the quarter was almost $93 million, comprised of about $44 million in cash and cash equivalents and almost $49 million in available liquidity on unfinanced collateral. In addition, we had available warehouse capacity at the end of the quarter of $349 million. Maximum line capacity was $785 million. As Chris mentioned, in August during the quarter, we issued our fourth securitization of the year with just over $253 million in securities issued. In September during the quarter, we did collapse the 2020-2 security, freeing up $25 million in collateral. That was then subsequently refinanced on warehouse lines. And we'll also be able to take most of this collateral and put it into future securitizations. Then in October, after the following quarter, we have issued our fifth securitization in October, and that issue was over $300 million in securities issued. So with that, I'd like to turn the presentation back to Chris for an overview of Velocity's outlook on key business drivers. Chris?

Thanks, Mark. As we look forward, you know, we think the market is healthy and functioning well. We are very happy with our credit performance and the continued resolution of the Lincoln assets. The capital markets are very robust, and we think we've got a lot of support there. And from an earnings perspective, as we continue to grow, we should be able to continue to grow the earnings. And, you know, that should show up not only in our NIM, but in the overall results of the business. So with that, we'll open it up for questions.

Thank you. We will now begin the question and answer session. To ask a question, you may press star then one on your touchtone phone. If you're using a speakerphone, please pick up your handset before pressing the keys. If at any time your question has been addressed and you would like to withdraw your question, please press star then two. The first question comes from Stephen Laws from Raymond James. Please go ahead.

Hi, good afternoon. Thanks, Mark. And hey, congrats on another great quarter. I feel like, man, you guys are really, you know, consistent through a volatile rate environment and a lot of things going on in the last year or two, and you've done really well. So I guess with that statement, you know, can you talk about the recent volatility and rates, you know, clearly, probably good timing. You got a securitization done in October and probably cleared a lot of those warehouse loans that you had on it at quarter end. But can you talk about how the volatility might impact your origination pipeline or anything we need to think about as far as, you know, the move we've seen both up and down the last few months in rates?

Yes, sir. Hi, Stephen. Thanks for the question. You know, we're very fortunate in that, you know, that the niche that we're in typically remains pretty stable in terms of rates to the end user. And you can see that over the five quarter average, you know, we're in the very high tens, low 11s. We move rates a little bit, I think only one time during the quarter. So we're not changing rates daily and not ultra sensitive to that. And then just to remind everyone, you know, we also hedge our production. So, you know, some months that'll be favorable, some months it'll be unfavorable in terms of where those those marks are. But we've kind of hedged out interest rate volatility. And so as we're putting loans on, we're hedging out that bread. And so that that kind of dampens some of the volatility. And, you know, in terms of your question about the pipeline, as I mentioned, October was was really, really strong. So even though, you know, rates have been bouncing around quite a bit, we're not seeing it impact the pipeline. And we think, you know, we think we're going to continue to have strong origination levels.

Yeah, I know you mentioned October was a great month in your prepared remarks. You know, around the pipeline, you know, notice the government insured multi loans. Can you talk a little bit more about that? How big of an opportunity could that be as you think about a contributor to, you know, you know, monthly or quarterly production going forward?

Sure. You know, it's a it's a great niche of the market. Our our century division has a very robust pipeline of well-established borrowers that are, you know, high net worth folks. And they're very patient. They don't have to do anything immediately. And they are very, very rate sensitive. So unlike the core velocity business, they're kind of at the other end of the spectrum, if you will, in terms of rate sensitivity. And so, you know, in the last 12 months or so, we haven't seen them transact a lot. As we look into 25, we do think that's going to increase and we've got a healthy pipeline there of deals. The interesting thing there is, you know, all of those loans that we originate will sell immediately for cash and we'll just recognize as cash gain on sale. So those won't sit on the balance sheet for more than 30 to 60 days. But I think going into next year, we're very comfortable that we'll see north of 150 million in originations. There's that we'll just kind of a high ROE capital light execution that will add to our earnings growth.

That sounds like a great niche you've carved out there. Lastly, if I may get one more end on the collapse of 2020-2, how do we think about that as far as accretion to earnings? Or is it kind of just a normal seasoning process of the portfolio? But more deals can probably collapse in the next year or so, year or two. How do we think about the potential impact on earnings there?

Yeah, that particular deal, I would say, well, you know, by collapsing, we'll probably have a positive lift to earnings because we'll be able to re-lever that equity more efficiently and effectively. I wouldn't say that's true of the vast majority of the remainder of our deal. That deal was somewhat unique. It was done during COVID at kind of a low advance rate. The others are fairly well levered. And because of their pro rata pay down structure, we get good leverage throughout the duration. So I would not expect much of an earnings delta from the vast majority of deals collapsing or going away in the future. It's probably not material.

Understood. I appreciate the color on that. And thanks for all the comments this afternoon. Thank

you.

The next question comes from Don Vandetti from Wells Fargo. Please go ahead.

Hi, Chris. You know, the competitive dynamic has been very favorable. It's a fragmented market. You guys continue to see very strong origination volumes. I was just curious if you're seeing any new players come in, if you expect them to, or is this the type of thing that's just too nichey? And, you know, I assume you have some barriers to entry, you know, in terms of doing this for a while. You have good securitization issuance as well. Can you talk about those dynamics? Sure, Don. Thanks for the question. Yeah, yeah. I would say we hear rumblings of people starting or coming in or wanting to, but we haven't seen any material competitors that design their program exactly like ours to go after this niche. So I don't want to say that there are no competitors because there certainly are. And as you mentioned, it's fragmented. But we feel like we've got a lot of runway to continue to develop new clients and new customers and grow. So we don't see a lot of pressure from the competitive set there. And I'd say also banks, most of the banks and credit unions are still very cautious and constrained based on their balance sheets. So I think that's also a tailwind that we think will continue for some time. And the NPLs have been pretty steady. Are you thinking you're going to stay in this range? And is there anything to watch on collateral values? Are you feeling pretty good on that front? Yeah, yeah, I think our view is that they'll stay in this range. I think a lot obviously depends on the economy going forward, but we're not seeing anything concerning. No dangerous exposures or anything that's giving us indigestion. We think real estate markets are holding up well and we're doing a good job of managing risk. So there's nothing that we see that's concerning in that pipeline right now. Thanks. You bet. Thank you.

The next question comes from Steve Delaney from Citizens JMP Securities. Please go ahead.

Hey, hello, everyone, and congrats on another, yet another great quarter. There seems to be just such a strong core demand for your product. And I heard you mentioned your WAC, your average coupon has actually gone up. I think you mentioned the 9% figure. You know, at the heart of this, you know, we've got a housing issue in the country in terms of rental housing in particular. And when we get to the bottom of this, is it really your borrowers see just an incredible opportunity to acquire rental properties with rents going up, properties appreciating, and even your pricing, they still look at that as one of the best investments they can make. So I'm trying to just bring it back to why this opportunity exists and props to you guys for figuring it out and getting in front of the right people and being able to exploit it.

Yeah, thanks, Steve. Appreciate that. It is a unique niche. It's definitely underserved. When you look at our average loan size, it's not for a lot of financial institutions, banks, credit unions, it's not super exciting to originate a $350,000 loan. And they tend to be slower and take their time at it. And that was really kind of our core thesis. And it's proven out over time. And I think we've built a good reputation for being able to do what we say we'll do. And our clients trust us for that. And there's a lot of different reasons why a borrower needs access to capital. You mentioned one of them, but there's a broad spectrum of reasons. And we feel like we've just we've been a steady, consistent provider of capital to the markets that over time, people recognize us as reliable. And that certainty of execution is something that they really put a premium on.

And do you have a lot of repeat borrowers and are your borrowers like, you know, just the basic, resi agency loans? I assume that by tenure goes up 50 basis points, the refi stop, everything slows down. Is your borrower just far less rate sensitive and you don't see like when the tenure moves? And in October here, did you see your applications fall off dramatically?

Yeah, so.

The

it is it is a unique segment of the market. Just to give you a perspective, we change rates one time during the quarter. So, you know, whereas I think most lenders, you know, are maybe changing rates daily or weekly. We change it once. So it's just a different segment of the market. And there's just there's less rate sensitivity and much more transaction sensitivity here for our borrowers. And then to your second question, that, you know, in terms of applications, October was actually a new record for the company. 900 applications for more than 450 million in UPV. So we're actually seeing growth there. So even though I know. The rates have moved dramatically just from the end of September. It's not impacting our our origination pipeline.

Well, congratulations. Keep it rolling.

Thank you, Steve. We appreciate it.

As a reminder, if you have a question, please press star one. The next question comes from Eric Hagen from BTIG. Please go ahead.

Hey, thanks. Good afternoon. Following up on the NPL pipeline for the for the NPLs, which are in foreclosure. I mean, how long are the loans typically in for foreclosure for? And do you think about the foreclosure timeline itself being maybe a source of risk at all going forward? And then a follow up to that. I mean, in the case where there's a sale of the property, in most cases, who's the counterparty? Like, is it another SFR investors? Like, how durable do you think the demand is for resolving these NPLs that especially at higher interest rates?

Sure, Eric. So a couple of things there. One, in terms of foreclosure timeline, you can foreclose. It depends. It's state dependent. In Texas, you can foreclose in 60 days. A lot of the non-trust, the non-legal foreclosure states, you know, you're in the call it 90 to 150 days timeframe. If you get into the non-judicial foreclosure states, you know, you get quicker resolutions. When you go for a judicial foreclosure, those can extend out, you know, two, three years in New Jersey, New York type thing. So weighted average, our assets sit in foreclosure probably somewhere around nine to ten months. There is some risk of deterioration there. We've got a very good hands-on special servicing team that stays on top of those assets and makes sure that the assets are being preserved, the rents are being protected, and, you know, properties are in good condition. So we do our best to manage that. But I think the other sort of important part to understand there is there's, you know, two different product sets here. On the one to four properties, that end buyer can be anybody. That can be a family buying a home. It can be an investor investing in the neighborhood. You know, there are a lot of different users for a single family home. So that's, you know, kind of unique in that part of the portfolio. So on the small commercial side, almost always you tend to see, you know, some type of real estate investor or owner user who's, you know, either using that real estate in their business and it's, let's say it's, you know, automotive repair shop that goes out of business and there's a dozen people behind, you know, waiting to get to that location. So the commercial is a little more investor-oriented and business-oriented. But the one to fours, those end buyers, you know, can be literally just people looking for a home.

Gotcha. Yeah, interesting stuff. Thank you, Francis. Going back to the October securitization, when we think about the total return there, what is the total return that you feel like you eclipsed? Is there a way to actually tease apart or at least think about like the value or the return you get from delivering the loans into the securitization versus capitalizing the credit risk on the balance sheet and how that's maybe changed at all?

Yeah, yeah. I mean, when you get an execution like that, you know, the ROEs are, you know, well north of 25%. So I mean, that's just an outstanding execution. We're not going to get that every time and every deal. It moves around. But we're in the market frequently enough that sometimes you get incredibly great execution. Other times you get it on average and sometimes you get poor execution. But on a blended basis, all in, you know, we think we're doing very well. And even when you bake in sort of losses for credit and that type of thing.

So, you

know, each deal, you know, the market is a little different each time and, you know, you have to see. So overall, though, I think if we do our job right and manage the portfolio properly and the originations, you know, I think that the ROEs are very compelling.

Gotcha. Appreciate you guys. Great quarter. Thank you.

Thanks. Thanks so much.

This concludes our question and answer session. I would like to turn the conference back over to Chris Farrar for closing remarks.

Thanks, everyone, for joining the call. Thanks to everybody at Velocity for continuing to do a great job. And we look forward to speaking to everyone at the end, I guess, at the beginning of next year for the fourth quarter. So thank you all. Thank you, everybody.

The conference is now concluded. Thank you for attending today's presentation. You may now disconnect.