Dear Partners:
Cannect Mortgage Investment Corporation’s annualized return for the month was 7.25%. In other terms, we returned 0.604% for the month, and year to date, the Corporation has returned 6.14%.
The Corporation’s portfolio of mortgages continues to perform in line with our expectations. Most importantly, we have seen no evidence of new impairments in our portfolio, and the collateral underlying our loan book has experienced no diminution in value. These are indicia that we are fulfilling our primary purpose, which is the preservation of the Corporation’s capital for reinvestment. We continue to hold an ample liquidity position out of an abundance of caution with respect to the developing effects of the present pandemic
We just finished Cannect’s eighth full year of operations since we began investing in 2013. We are proud of our performance in the most recently concluded year, and in equal measure, grateful for the good fortune we have experienced in the current environment.
The second half of Cannect’s fiscal 2020 was, without doubt, the period exhibiting the greatest uncertainty in our company’s history, and almost certainly the most uncertain in our living memory. The impact of the current pandemic on the lives of our borrowers, our investors, and our employees and their families was impossible to overestimate. COVID-19 transformed overnight from a newspaper story into a local, national, and global phenomenon that has cast a long shadow over every aspect of our lives.
In this letter, we want to express two of the principles that guide us as we operate our business. We feel that adherence to these principles is what has allowed us to deliver stable, consistent investment returns over our history to date and it is also what will allow us to continue to deliver investment performance in the future.
1. The importance of equity cushion.
As most of you know, we lend at conservative loan-to-value ratios. Our average LTV in our portfolio now (irrespective of whether we are in first or a subordinate position) is about 49%. When we talk to prospective investors, they say: “well, of course, because you deal with risky borrowers and you want to have protection when they default.” All true. But we submit to you that there is a second-order effect of being conservative about how we margin properties, and that effect operates to reduce the number of defaults we experience. The reason for this is simple: the equity our borrowers have in their homes is usually their most material asset. It usually constitutes the majority of the borrower’s net worth. And when the chips are on the table, the borrower will move heaven and earth to protect their home equity, which usually means making sure that we get paid in full and on time.
2. Dealing with our borrowers in partnership
When the world shut down almost overnight in March, we took a number of steps to protect our people and our business interests. Perhaps the most important of these was immediately contacting all of our borrower partners. We wanted to make sure they knew that despite the uncertainty created by the pandemic, we were still committed to what we promised them when they took a loan from us. To help them improve their property or the value of their personal covenant in order to help them access lower cost credit. Our proposition was a simple one: Simply tell us the truth about what is happening in your life because of the pandemic. If we know the truth, we can find a way to help.
There have been reports that up to 15% of mortgages in the country were under some form of deferral or forbearance. We have made loan modifications for only three percent of our borrowers and refused only a single borrower who asked.
We feel that treating our borrowers like partners is one of the ways that we can encourage strong payment behaviour, which helps all parties in both the short and the long term. The fact that we have only had to foreclose on two properties in our history stand is an example of how this approach benefits our investors.
Finally, a word about the investment environment. As lenders, we are constantly monitoring banking, fixed income, and equity markets, looking for changes that signal a change in risk levels or the risk appetite of investors. Consider the following:
- More than half of the IPOs in the US this year have been SPACs, or “special-purpose acquisition companies”. Investors buy SPACs because they can’t find anything to invest in, and they hope that the sponsor of the SPAC can find something better than they can.
- Large brokers in the United States have initiated “fractional share” programs, advertising that investors with as little as $5 can gain economic exposure to the high-priced shares of the FAANG stocks, among others. Is this where the world has to go to find marginal demand for common shares now? One of the characteristics of the stock market crash in 1929 was the prevalence of “bucket shops”, where punters could go and “trade” high value stocks with de minimis margin.
- The Bank of Canada, who used to assert that zero was an effective lower bound for policy rates in Canada, has changed course and suggested that negative policy rates are “one tool available to us” and would be considered where circumstances warranted.
- Bond investors have been richly rewarded for holding bonds as interest rates have fallen through capital gains (bond prices rise at an accelerating rate as interest rates fall, other things being equal). If rates change course, though, investors in “safe” asset classes like government bonds will experience sharply negative returns.
All of these factors cause us to feel that our value proposition is the right thing at the right time. Our goal is simply to continue to preserve capital for reinvestment while generating attractive rates of income for our partners. We do so transparently (all of the returns come from interest and fees on money we have loaned, and not from trading, currency effects, or the use of leverage) and conservatively. We feel that we can earn positive returns on our capital even in a much less robust property market than the one that we are experiencing now. This, of course, is critically important in the long term because as we like to stress, volatile returns are deeply detrimental to compounding.
We want to point out that our proprietary origination pipeline continues to generate opportunities at a faster clip than we are able to fund them. As a result, we invite further subscriptions from our existing investors. We can accept subscriptions from individuals, corporations, trusts, or from any registered account. Nothing makes us work harder than when an existing investor makes the decision to trust us with an incremental investment.
In closing, we thank all of our investors for the trust that they have placed in us and invite any inquiries that might arise as to the affairs of Cannect or our outlook for the future.
Respectfully,
Marcus Tzaferis and the Cannect MIC team.
