Real Estate Credit Investments: Experience shows resilience of the model

Hardman & Co

The key messages we take from Real Estate Credit Investments Ltd (LON:RECI) July quarterly investor update and end-July 2021 factsheet are i) attractive returns from low LTV (average 65%) credit exposure to UK and European large, well-capitalised and experienced institutional borrowers, ii) stable dividends, at 3p per quarter (latest yield: 7.9%), iii) a highly granular book – 61 positions, with the top position 14% of NAV (by commitment), iv) modest leverage – gross 29%, net 16.0% (with £44.4m cash on the balance sheet), and v) access to a strong pipeline of enhanced return investment opportunities identified by Cheyne. The premium to NAV (2%) is in line with pre-pandemic average levels.

  • Why defensive: Realised losses have been just 1% of NAV, reflecting Cheyne’s strong credit assessment and security. We understand that all borrowers are paying in full on current terms, and bonds are expected to be repaid in full. The housebuilder mezzanine loan writedown may reverse further if current conditions continue.
  • New business: New business pricing has widened (still ca.2% above pre-crisis levels), and terms have improved. This is most visible in the market bond book, where yields have more than doubled since February and the LTV is nearly 10ppts lower. The dividend is now covered by stable interest income.
  • Valuation: RECI trades at a 2% premium to a conservative NAV, in line with pre-pandemic average levels. With a 2022E 12p dividend, the 7.7% dividend yield is the highest of its immediate peers and covered by interest income. RECI’s defensive qualities mean that the dividend has been held through the COVID-19 crisis.
  • Risks: Any lender is exposed to the credit cycle and individual loans going wrong. Security is currently hard to value and to crystallise. We believe RECI has appropriate policies to reduce the probability of default, and loss in the event of default. Some assets are illiquid, and Repos financing has a short duration.
  • Investment summary: RECI generates an above-average dividend yield from well-managed credit assets. Management has confirmed no change to dividend policy, showing its confidence in its sustainability. Bond pricing includes a discount, reflecting uncertainty, which should unwind when conditions normalise. Market-wide credit risk is currently above-average, but Real Estate Credit Investments’ strong liquidity and debt restructuring expertise should allow it time to manage problem accounts. Borrowers have, to date, injected further equity into deals.

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