March 2023 Monthly

In our note, Looking at the current opportunities, we explored the upside opportunities that current conditions present. We note i) improving yields on new business, helped by the relatively short contractual (and even shorter actual) duration of the loan book, and ii) improving covenants. As competitors with weaker balance sheets, less focused business models, higher capital requirements and worse historical loss experiences withdraw, so RECI can cherry-pick higher risk-return opportunities. Our recent notes have shown why RECI has downside resilience, given its credit processes, high-quality security, diversity, problem-account resolution and low exposure to high-risk sectors.

• January quarterly update: Key themes are i) attractive returns from low LTV credit exposure to UK and European commercial real estate assets, ii) quarterly dividends delivering consistently since October 2013, iii) a highly granular book, iv) transparent and conservative leverage, and v) access to a strong pipeline.
• Jan’23 factsheet: The underlying NAV rose 1.3p, due to recurring interest income (1.1p) and positive MTM adjustments (0.2p). Cash was £34m and gross leverage £115m. The book has 60 positions (34 loans, drawn value of £348m, undrawn commitments of £195m, and 26 bonds, £90m). The weighted average LTV is 57%, and the yield is 11.3%.
• Valuation: In the five-year, pre-pandemic era, on average, RECI traded at a premium to NAV. In periods of market uncertainty, it has traded at a discount; currently, it trades at a 6% discount, well below mid-2022 peaks. RECI is paying an annualised 12p dividend, generating a yield of 8.6%, and expected to be covered by recurring net interest income.
• Risks: Any lender is exposed to credit risks. We believe RECI has appropriate policies to reduce the probability of default. As noted, its average LTV is 57%, and most loans are senior-secured, providing a downside cushion. Some assets are illiquid. In the short term, investor sentiment could be an issue.
• 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 RECI’s strong liquidity and debt restructuring expertise should allow it time to manage problem accounts. Borrowers, to date, have injected further equity into deals.