Q3 FY2024
CHAIRMAN'S LETTER
JP JAMES
CHAIRMAN
TABLE OF CONTENTS
POST-ELECTION ECONOMIC IMPACT
Tariffs and Trade
Heightened tariffs on goods from China and Southeast Asia could increase inflationary pressures, further constraining trade volumes. Meanwhile, Mexico's role as a major automotive products exporter to the U.S. faces scrutiny, with potential ripple effects on consumer prices.
Taxes
There are a myriad of proposed tax changes with the most notable being a reduction in corporate taxes from 21% to 15% for companies that manufacture within the U.S., an increase of the child tax credit to $5,000 from $2,000, and a tax credit for family caregivers. Additional tax expectations include Social Security benefits tax, deductions for auto loan interest, making permanent the TCJA (Tax Cuts and Job Act) provisions which are set to expire in 2025, making tip income tax-free, and exempting overtime pay from income taxes. Many of these would be direct benefits to median-income earners in the U.S., who are our lenders’ end consumers.
Energy
Currently the prices of Brent and WTI crude hover around $70 per barrel. Combining the OPEC+ stance to postpone production increases and extend existing output cuts through 2026 with Trump’s, “drill, baby, drill” slogan and a pro-domestic energy stance in the U.S. suggests reduced regulatory hurdles and lower energy costs, potentially boosting consumer disposable income.
National Debt
Trump has emphasized addressing inflation but achieving this goal while continuing deficit spending and maintaining tariffs presents a significant challenge. A potential solution might lie in the Department of Governmental Efficiency (DOGE), under the leadership of Musk and Ramaswamy. The ambitious goal of cutting $2 trillion, or 30%, from the federal budget is essential to eliminating the current $2 trillion deficit. However, such a drastic reduction has not been realized since World War II, when federal government spending saw a remarkable 62.5% decrease.
Legislative Dynamics
With the Republican Party controlling the House, Senate, and Executive Branch, swift policy changes are anticipated. While such alignment can streamline decision-making and provide clear policy direction, rapid shifts may pose challenges for businesses striving to adapt to new regulations. A certain degree of legislative friction can offer stability, allowing companies to manage transitions more effectively.
Reflecting on the previous Trump administration, numerous pending regulations were delayed, including those at the Consumer Financial Protection Bureau (CFPB), which oversees consumer lending practices, potentially indicating that there may be fewer restrictions on business than anticipated in the current administration.
Inflation Trends
Tariffs, reduced taxes, and lower energy costs could have a stimulative effect, but reducing deficit spending might be a more prudent long-term strategy. If productivity in the U.S. increases in concert with rising prices and wages, inflation could be managed effectively, maintaining stability for consumers.
MACROECONOMIC ANALYSIS
U.S. core inflation, which excludes items such as food and energy, has decreased from its peak of 6.6% to 3.3% as of October. Including food and energy, annual inflation has dropped from 9.1% to 2.6% during the same period. These disinflationary trends align with the Federal Reserve's decision to implement two rate cuts. However, the pace of disinflation has slowed, prompting the Fed to closely monitor the data. The Fed remains cautious and is not speculating on potential policy shifts under the Trump administration.
Long-term inflation concerns are rooted in the U.S. Treasury's federal deficit, which stood at $2 trillion in 2024 and is projected to worsen. With a debt-to-GDP ratio nearing 100% and expected to climb, this trend raises significant implications for price stability. Consumers without investable assets that appreciate during inflationary periods are at risk of falling further behind economically.
In the short term, rising 10-year Treasury yields post-election pose a challenge for consumers. Historically peaking at 15.8% in 1981, the 10-year yield reached its lowest point of 0.7% in August 2020 before climbing to 4.92% in October 2023, and currently sitting at 4.18%. These increases have significantly impacted car prices, dampening demand, and are also putting upward pressure on rental markets. The 30-year bond yield, currently at 4.34%, has nearly quadrupled since its 2020 low of 1.2%. This has strained the mortgage market, with existing home sales falling from a January 2021 peak of 6.6 million to under 4 million in October 2024, a level not seen since the 2008 crash and prior to that, 1995, when the population was 266 million vs 335 million as of 2023.
Chapter 11 bankruptcy filings have also reached their highest level in over a decade, with approximately 2,400 cases filed as of October 2024. This trend disproportionately impacts small businesses, which employ 46.4% of private-sector workers. If the upward trajectory continues, small businesses and their employees could face further financial pressure.
Continuing jobless claims—representing individuals who have filed for unemployment benefits and continue to receive them—have risen to 1.9 million, the highest level since COVID. Monitoring these numbers is critical as gradual increases in unemployment could provide opportunities for our lenders to capture higher-quality credit customers, allowing us to help optimize portfolios by replacing lower-quality borrowers with higher ones.
MICROECONOMIC ANALYSIS
Between the third quarter of 2023 and mid-2024, lenders in the U.S. experienced a notable increase in unique loan applicants, indicating heightened consumer demand. However, this trend has recently reversed, suggesting that consumers may now be in a healthier financial position. Despite this, credit card delinquencies have risen to 22% in August and September, as reported in Experian's Alternative Financial Services Industry Insights for Q3 FY2024. This is a positive for us as an increase in delinquencies contrasts with the improving performance of our lenders’ portfolios, where consumer delinquency rates have declined, and unit margins have increased.
Provided unemployment does not spike sharply, demand-side factors remain favorable, as we anticipate an accelerated loan application rate from higher-quality credit customers. With the shorter-term loans these consumers would be getting, our lenders can turn the underlying asset paper fast enough to continue to acquire higher and higher quality customers, creating more capacity and lower acquisition costs.
HIVE INSIGHTS
Last quarter, we began a detailed analysis of our lenders’ raw customer and applicant data, uncovering clear trends in loan application reasons. Among our portfolios, where the average loan size is approximately $550, emergencies consistently top the reasons for need at 33.7% of loan applications. Auto repair follows at 22.5%, with medical expenses ranking third at 12.8%. Bills account for 10.1%, while home-related expenses make up 9%.
In the past year, we implemented technology that allows our lenders to customize loan sizes, rates, and terms. This has enabled our lender partners to serve applicants who previously would have been rejected by offering smaller loan amounts with shorter terms and gradually increasing their credit over time. As a result, we’ve expanded deployment capacity while reducing the median loan size from $1,000 in early 2022 to $550 by Q3 FY2024. This allows us to reduce risk relative to the rest of the market. For all market applicants, the median loan size taken has remained steady at approximately $730 over the past three years.
The median monthly income for our lender’s customer has consistently been about $3,726, compared to $3,421 for all applicants. These figures have remained steady, reflecting our more conservative deployment strategy compared to the broader market. This also indicates significant capacity for growth within our lenders' customer base.
However, the median checking account balances tell a different story. For our lenders’ customers, balances have remained stable at approximately $255. Meanwhile, the overall applicant pool has seen a decline, with median balances dropping from $447 to $180. This trend raises concerns about the broader market's financial health, though it may also signal an influx of higher-credit-quality consumers applying in 2025.
Inflation has had a notable impact on our portfolio’s customers. Between Q1 FY2022 and Q3 FY2024, median monthly expenses for our portfolio’s average customers increased by 15%, while grocery costs rose by 10%. These figures align closely with the 10.27% rise in the U.S. Core Personal Consumption Expenditure Price Index over the same period, reflecting inflationary pressures felt both within our lenders’ customer base and the broader economy.
CAPITAL DEPLOYMENT & PROFITABILITY
Since 2021, we have helped our lenders achieve a 175% increase in annual deployment, growing from approximately $12 million to a projected $33 million for this year. These figures represent annual deployment only, with cumulative totals being significantly higher. Amid this exponential growth, we have also helped them increase the unit margin from 22% to 25%. Unit margin is defined as cash flow net of principal, defaults, and unit costs, including underwriting, customer acquisition, call center operations, technology, and payment processing.
This simultaneous growth in deployment and unit margin highlights our significant advancements in helping our lender partners scale market capacity and drive reduced acquisition costs, leading to enhancements in loan processing efficiency, and strategic implementation of artificial intelligence in underwriting. Our AI systems, which engage in bi-directional supervised conversations with customers, have contributed to better decision-making and improved portfolio performance.
Looking ahead to 2025, we expect to further capitalize on the implementation and scaling of AI technologies. These tools will drive profitability by increasing unit margins, reducing human overhead costs required to manage customer interactions, and expanding market capacity. Key strategies include optimizing pay-per-click marketing campaigns and leveraging bank transaction data for more precise underwriting, moving beyond traditional credit models.
PERFORMANCE
We are proud to consistently deliver stable, low-volatility returns to our investors. As a private credit product, we effectively borrow from our investors and lend through the balance sheets of our lending partners. This approach allows us to provide reliable and consistent returns, even in the face of short-term Treasury rate fluctuations.
Since our inception, we have consistently outperformed the S&P 500, while significantly exceeding our benchmark, the Intercontinental Exchange Bank of America High Yield Index. Furthermore, we have delivered a better year-to-date net return of 10.7% than major private credit products such as BlackRock’s BDEBT at 8.29%, Apollo Diversified Credit Fund at 9.3%, and Blackstone’s BCRED at 10.4%.
Looking ahead to 2025, we expect to further capitalize on the implementation and scaling of AI technologies. These tools will drive profitability by increasing unit margins, reducing human overhead costs required to manage customer interactions, and expanding market capacity. Key strategies include optimizing pay-per-click marketing campaigns and leveraging bank transaction data for more precise underwriting, moving beyond traditional credit models.
ASSETS UNDER MANAGEMENT
This year marks our strongest capital-raising effort since inception, with approximately $45 million raised and $113 million in AUM as of the end of Q3 FY2024. We are targeting $64 million in new capital by the end of 2025, though our true deployment capacity is significantly higher. To scale at a faster pace, we need to enhance outreach efforts and continue leveraging the support of our investors to expand our footprint.
Over the past year, we have completed due diligence processes and secured allocations from two interval funds: the Niagara Income Opportunities Fund (NAGRX) and the Denali Structured Return Strategy Fund (DNLIX), managed by Liquid Strategies. Additionally, the growing interest and allocations from family offices, combined with continued support from high-net-worth individuals, have been instrumental in sustaining and expanding our investor base. This momentum reflects the confidence our investors have in our ability to deliver strong, consistent results.
Looking ahead to 2025, we expect to further capitalize on the implementation and scaling of AI technologies. These tools will drive profitability by increasing unit margins, reducing human overhead costs required to manage customer interactions, and expanding market capacity. Key strategies include optimizing pay-per-click marketing campaigns and leveraging bank transaction data for more precise underwriting, moving beyond traditional credit models.
LOOKING AHEAD TO 2025
The road ahead holds immense potential. We remain committed to leveraging advanced technologies to enhance margins, expand market capacity, and deliver exceptional value to our investors. Continued engagement with international markets and partnerships will further strengthen our position.
I have been on the road for 47 out of 52 weeks this year, but it has created a tremendous amount of momentum. We expect to have a strong 2025 with your continued support, and that of global stakeholders we connected with in capital conferences in Dubai and Singapore.
We are also proud to support meaningful causes. This Halloween, our team had the privilege of visiting the Ron Clark Academy to engage with middle school students—a truly rewarding experience.
As the holidays approach, we take a moment to reflect and honor those we have lost, including several of our valued investors over the years. This year, we remember Cam Lanier and the lasting impact he had on our community.
We are grateful for your partnership and look forward to another year of growth and shared success.