ArrowMark Financial Corp. Q1 FY2021 earnings call

Banking Industry Overview

• Large money center banks and community banks had better-than-expected earnings in Q1. Community banks had 21% net income growth in Q4 2020. Net charge-off rates across all banks fell nearly 20%, and bank equity capital increased.

Company Portfolio Performance

• Community banks portfolio: Net income and deposit growth sequentially, average Tier 1 capital ratio up, loan book growth. Regulatory capital investments: Performed well, yields higher than pre-COVID levels.

Financial Results Breakdown

• Net asset value at March 31 was $21.62 per share, up $0.18 from prior quarter. Gross income $4.1 million, net operating expenses $1.5 million, resulting in net investment income of $2.6 million. Realized capital gains/losses and change in portfolio value affected NAV. Portfolio yield was approximately 9.35%, stable above 9% for 17 consecutive quarters.

StoneCastle's community banks portfolio reported net income growth of 7.1% sequentially and 62% year-over-year, with deposit growth of 4.6% sequentially and 23% year-over-year. Their average Tier 1 capital ratio was 13.3%. The regulatory capital investments performed extremely well, with several investments paying down at par or amortizing ahead of schedule, and yields 25 basis points to 50 basis points higher than pre-COVID levels. Net investment income for the first quarter was approximately $2.6 million or $0.40 per share. The value of the investor portfolio was $178 million, flat sequentially. The net asset value at the end of the first quarter was $21.62 per share, up $0.18 per share from the prior quarter.

Portfolio Yield Outlook

• Pipeline holds healthy coupons (high-9s, low-10s range). Origination volumes in 2Q expected to continue with a mix of primary and secondary market activity, with the pipeline looking good in terms of asset stripes.

Origination Activity

• Regional and community banks issued subordinated debt, money center bank regulatory capital issuance had a mix of new issue vs secondary market activity going forward.

Risks

• Forward-looking statements subject to risks such as changes in securities/financial markets, general economic conditions, volumes of stock sales/purchases, continuation of investment advisory/administrative/service contracts, as discussed in the company's SEC filings.

Q: Please dive into the portfolio yield dynamics, especially with the shift toward regulatory capital investments.

A: This quarter a big security (young partners) with 10.5% yield matured, along with pay downs on securities earning 8s to high-9s. New securities have varying yields (mid-7s to low-10s), and pipeline holds healthy coupons.

Q: About the other fee line item (miscellaneous fees) dropping off, what's the driver?

A: The other income included a one-time reimbursement related to the transition to ArrowMark in the prior quarter, and now it's at a new run rate.

Q: Explain the foreign hedging strategy and how it flows through financial statements.

A: PMs hedge currency positions monthly for securities in euros/pounds, close out positions at month-end. Gains/losses from these transactions flow through the income statement separately.