Lument Finance Trust, Inc. Q4 FY2024 earnings call

• Macroeconomic environment: Shaped by geopolitical uncertainty, financial market volatility, and moderating inflation; Fed projected to make two rate cuts in 2025.
• Commercial real estate: Increasing stability, cap rates normalizing, rental growth anticipated, transaction volumes picking up.
• Asset management: Prioritize proactive asset management, credit risk ratings stable, modest increases to specific reserves.
• Lending affiliate: Lument actively deploys capital into new loan investments, but LFT's investment activity was modest due to limited reinvestment capital.
• Financing strategy: Exploring options to refinance investment portfolio, considering secured financing like bank warehouse facilities, with securitization later this year still a viable option.
• Investment strategy: Committed to deploying capital into transitional floating rate mortgages, particularly middle market multi-family assets, leveraging origination, underwriting, and asset management expertise.

For the fourth quarter of 2024, Lument Finance Trust reported net income to common stockholders of approximately $3.6 million or $0.07 per share. Distributable earnings were approximately $5.4 million or $0.10 per share. Q4 net interest income was $9.4 million, relatively flat to Q3's $9.5 million. Weighted average coupon and average outstanding UPB of the portfolio declined sequentially due to SOFR rate drops and securitization deleveraging. Payoffs in Q4 totaled $144 million vs $51 million prior quarter, with exit fees up to $1.1 million. The portfolio consisted of 65 floating rate loans with an aggregate unpaid principal balance of ~$1.1 billion, 92% collateralized by multi-family properties, weighted average note rate SOFR plus 358 basis points. Six loans were risk rated five with aggregate principal amount $98 million or 9% of UPB.

• Expect to explore financing options including secured financing to remain flexible on liquidity and achieve positive asset management outcomes.
• Securitization transaction later this year remains a viable potential option for non-mark to market matched term secured financing.
• Remain committed to core investment strategy of deploying capital into middle market multi-family assets, leveraging manager expertise for investment opportunities.

• Geopolitical uncertainty and financial market volatility could impact results.
• Interest rate changes may affect net interest income and financing costs.
• Credit risks associated with loan assets, including potential defaults and challenges in resolving troubled loans.
• Market conditions may not stabilize as expected, affecting asset management outcomes and liquidity.

Q: Hi, good morning. Wanted to touch on the 2021 CLO. How does that -- given it's paid down, how does that currently compare from a blended financing cost to current market conditions for a new CLO? And around your comments, I know you're considering some financing lines and other options, but as you look to the maybe doing another securitization or deal later this year, is that a would you collapse the FL-1 from 2021 and roll the collateral in? Kind of how do you think about managing the financing side of the balance sheet through the year?

A: Yeah. So obviously, we are looking at all of those things. We are looking to basically refinance the portfolio as we move forward here in the coming quarters. FL-1 today is about 75% advance at a cost of 171 over SOFR. The cost is still attractive, but the leverage obviously is lower. We've seen deals going off kind of in the mid-to-high 80s on an advanced rate. So in terms of how we're looking at the portfolio, as we said. We are working with some of our partners to consider some alternatives that give us a little more flexibility in the short-term around dealing with some of these assets that we're working through with existing borrowers or potentially new borrowers and do expect to move forward with one or more of those types of financing arrangements as we move through the year.

Q: And then as I here we are almost into the Q1. Can you give us an update on originations and repayments year to date? And how do we think about when leverage is going to trough? I assume you need a new financing facility in place before we see it turn up, but is that a 2Q event with leverage troughing?

A: Got it. So on the origination side, I mean, we've had very -- LFT has had very few, right, because we don't have any capacity at FL-1, and that LMS, it's been minimal. We've had about $25 million of payoffs there and do expect more in the coming quarters here. On the origination side, again, just broadly at the parent level in terms of what we're seeing, we've got somewhere around $400 million or $500 million that we've originated since, call it, October-ish. The beginning of 2024 was pretty light across the industry. It's picked up significantly. While it's not back to the levels, it was even forgetting about peak kind of normal level that I would say it's not quite there, but we are seeing significant opportunity and we are making those loans. We have them on our -- the manager's balance sheet. So opportunity is there and we feel good about that. And in our book, we've continued to manage it. We have a very experienced management team both in special and REO, and we've been able to get to a positive resolution in LFPs book and across most of the parents book wherever we've needed to. The biggest challenge we have and have had or one of the biggest challenges is just the timing of those things. One, not controllable by us, and two, just take a bit longer than you'd like, which is why we're moving toward or evaluating financing options that give us flexibility with that in mind.

Q: Hey, good morning, everyone. Thank you for taking the question. Obviously, a little activity in terms of downgrades with the new five risk ratings, and it looks like you did boost your specific reserves. Could you first -- let me make sure I have the numbers right. On the five rated loans, am I correct that specific reserves and I assume they're on the five rated loans was $3.7 million as of year-end 2024. Is that the correct level?

A: Yeah. That's right, Steve.

Q: Okay. And so look, these are you've got what six loans, $98 million, so $15 million or so average loan size it would seem. As we're everything runs nicely through GAAP, but then as we're modeling for this year and trying to come up with distributable EPS, can you give us some sense of like from your where you sit internally your expectations of timing of resolutions? Are you going to get after well, first quarter is already done and we're not talking about anything. Well, yes, of course, you're reporting on 4Q. Is it going to be more back end weighted in 2025 in terms of the resolutions as we want to try to start loading some realized losses into our distributable earnings estimates? I guess I'm just trying to get a sense, I know you can't be specific, but how we should sort of look at 2025 with respect to those realized losses? Thanks.

A: Thank you, Steve. Look, obviously, it's a difficult question to answer as you know, given where we are. Yeah, no, given where we are, I mean, is would I way toward the back end versus say the second quarter or early third? I would because from a modeling and prudent perspective and that's how we're thinking about it. We're similarly to you and how we manage the book in the portfolio. That being said, and what we've seen and I think this is a little bit related to the market, right, we've seen things starting to loosen up where people are wanting to get to resolutions, whether -- and I mean sponsors in particular whether those resolutions are them wanting to walk away and just doing it or whether they think there's actually opportunity for them to continue to create value at these assets. The timeline of getting those done is difficult. And in some cases, if we have a borrower that is not negotiating with us or not in a way discussing a real resolution we've had to move towards foreclosure and other remedies in order to either bring them to the table or from our perspective to say, okay, let's bring someone to the table who would. So I still -- we still have, we have had assets that have had reserves or we've resolved them and gotten paid back in full including default interest and other fees and expenses. I suspect that will be the case for some of our assets here. But we also have assets that have been challenged and in a greater way than we anticipated. I do think that we are relative to the market, our book is still fairly healthy. We have not modified loans with sponsors through PIX and AB structures and other types of tools that we've seen in the market. We do think there's opportunity for us to bring in new sponsors into some of our deals, perhaps offering them seller financing or other opportunities or other structures that could make it a more attractive asset to a new sponsor who wants to take over the asset. Time is a big one, right? So a new sponsor wants to say how much time do I have, because the further out that horizon goes, the more likely they're getting attractive assets. So in terms of resolutions into your -- to the first part of your question, I would put it back weighted, in terms of our time and our discussions. We are kind of on a daily basis trying to either with the existing sponsor group or a new sponsor trying to put these assets in a place that says, okay, these are now performing assets, finish the business plan, rent growth is expected as I mentioned earlier in almost all markets. There is still some absorption issues in certain markets that we need to manage through over the coming 12 months. But we're hopeful that we can continue to have positive resolutions as we have in the past as we have had in the past.

Q: On a question of loan loss provision expenses, what's the correlation between your risk rating and provision charges?

A: On the specific reserves there, Chris, as is policy when we specifically evaluate those, we're looking at the fair value of the underlying collateral. So, five we look at individually. In terms of the general pool for the portfolio, clearly the risk ratings are going to bring with it a higher probability of default as you scale up from threes to fours. And as I mentioned, the fives are specifically evaluated. So, it it's also dependent upon underlying loan metrics that's going to drive risk rating, but it's also going to be driving probability of default in the model that we and others use for the general pool.

Q: In the early market comments, talking about the stability of multi-family cap rates, Does the changing market expectation in terms of rate cuts sort of start derailing, refinancing and negotiations for any portfolio companies or so? Simply -- is that really coming in affecting it at all or is really the financing all about the cash flow of the property?

A: Look, obviously, any cut in the short-term rates helps current sponsors. I don't think that 25 or 50 basis point cut this year is having a huge impact or will have a huge impact in how people think or act psychologically, I think it's probably a good thing. And again, one thing to remember, if we're cutting rates the reason for the cuts, I mean, just broadly speaking, like, is either because inflation is completely in check or there's some concern about the health of the economy and whether we're headed toward a recession. So neither especially the latter is not exactly a positive event. But when you also consider multi-family historically, multi-family still performs pretty well in those times of the market. People are buying homes less, they stay in their apartments, they rent more. So, there's kind of an odd dynamic there with the economy versus performance in multi-family. I think the bigger driver is that the 10-year has stayed in the relatively low-4s here for a few months. Most expectations for the year end 10-year have come down a bit over the last quarter and a half. Many are -- some are still up towards five, but consensus is more in the four to four and a half range and I think that is the big driver. You have a lot of capital that wants to be deployed, some international, I mean, large checks that want to get back into the U.S. Market that have sat on the sideline. That's going to drive some value appreciation in my opinion and also just transaction volume going up. So there's a lot of positives there. As you know, deliveries in most markets, not every single market, but in most markets have peaked and will continue to run off and so there's a bit of an absorption issue, but there's still long-term a supply demand imbalance in most markets. That's why we're currently seeing rent growth in almost all major metros and we're not seeing rent growth. There's still projections for rent growth as we move throughout the year. Do you have a lot of -- all of those signs, I think for sponsors and people that are either managing an existing asset or thinking about getting back to the market are a bit more bullish and real than maybe they've been in the past year or two.