Executive Summary / Key Takeaways

• Velocity Financial ($VEL) is a vertically integrated real estate finance company specializing in originating and managing investor loans for 1-4 unit residential rental and small commercial properties, a market niche where traditional banks remain constrained, providing a significant tailwind for growth.
• The company demonstrated strong operational and financial momentum, with Q1 2025 loan originations increasing 69% year-over-year to $640.4 million, driving a 27% increase in net revenue and a 17% rise in core pretax earnings, reflecting effective execution of its growth strategy.
• VEL leverages its extensive network of independent mortgage brokers and in-house special servicing capabilities to maintain disciplined underwriting, achieve favorable non-performing asset resolutions (averaging over 100% recovery on resolved UPB), and generate consistent net interest income despite market volatility.
• A key differentiator is the company's efficient funding model, primarily utilizing the robust securitized debt market and warehouse facilities, which supports portfolio growth and allows for attractive returns on equity, with recent securitizations seeing strong investor demand.
• Management is optimistic about exceeding its $5 billion UPB portfolio goal by 2025 and targets $10 billion in 5 years, supported by a healthy pipeline, disciplined capital allocation, and operational leverage from technology investments, positioning VEL for continued earnings growth, though macroeconomic uncertainties and interest rate fluctuations remain factors to monitor.

The Underserved Niche: Velocity's Foundation in Investor Real Estate

Velocity Financial, Inc. ($VEL) operates within a large, highly fragmented segment of the U.S. real estate finance market, focusing primarily on investor loans secured by 1-4 unit residential rental and commercial properties. This niche, often overlooked by larger financial institutions and traditional banks due to its smaller loan sizes and specialized underwriting requirements, forms the bedrock of Velocity's business model. Since its origins as Velocity Commercial Capital in 2004 and its evolution to a publicly traded corporation in 2020, VEL has honed a vertically integrated approach encompassing loan origination, securitization, and in-house asset management. This model is designed to capture demand from real estate investors seeking capital for property acquisition and management, a need that management notes remains strong, particularly as banks continue to limit their lending in these target areas.

The company's strategy is centered on providing reliable and efficient financing through an extensive network of independent mortgage brokers. This broker-centric model offers a wide geographical reach and operational agility, enabling the company to react quickly to changing market environments and borrower needs. Unlike mortgage segments heavily reliant on rate-sensitive homebuyers, Velocity's borrowers are often more focused on the certainty and speed of execution to capitalize on real estate opportunities, a factor VEL emphasizes as a key competitive advantage.

Velocity's operational efficiency is supported by investments in technology. While specific quantitative metrics on the performance or cost savings directly attributable to its technology platform are not detailed, management highlights that these investments are aimed at driving front-end process efficiencies and enabling the business to scale without proportional increases in headcount. The goal is to make existing personnel, such as loan officers and account executives, more productive, thereby supporting portfolio growth with a more efficient cost structure. This technological leverage is a strategic component in maintaining competitive pricing and margins.

Performance Reflecting Strategic Execution

Velocity's recent financial performance underscores the effectiveness of its strategy in the current market environment. In the first quarter of 2025, the company reported strong results, with loan originations reaching $640.4 million, a significant 69% increase compared to the same period in 2024. This robust origination volume fueled portfolio growth, with the total loan portfolio (UPB) standing at $5.45 billion as of March 31, 2025, up 7.8% from year-end 2024 and 27.3% year-over-year. The weighted average coupon on new originations remained healthy at 10.51% in Q1 2025, contributing to a portfolio weighted average coupon of 9.6% at quarter-end. Importantly, this growth was achieved while maintaining disciplined credit standards, with the weighted average LTV at origination for Q1 2025 loans at a conservative 62.6%.

This operational strength translated directly into financial gains. Net interest income (portfolio related) increased to $43.7 million in Q1 2025, up from $34.9 million in Q1 2024, driven by higher average loan portfolio balances and yields. The portfolio yield for Q1 2025 was 9.11%, compared to 8.71% in Q1 2024. While the cost of funds (portfolio related) increased to 6.23% from 5.93% over the same period, the higher yield on the growing portfolio resulted in a stable portfolio related net interest margin of 3.35% in Q1 2025, consistent with Q1 2024, though slightly down from the 3.70% seen in Q4 2024 due to lower cash interest received on non-performing loans. Total net interest income, after accounting for corporate debt interest expense, rose to $37.5 million from $29.5 million year-over-year.

Credit performance remains a critical focus, managed by the company's in-house special servicing team. Nonperforming loans (90+ days past due or nonaccrual) stood at $587.8 million, or 10.8% of the held for investment portfolio UPB, as of March 31, 2025, relatively stable compared to 10.7% at year-end 2024. The company's ability to resolve these nonperforming assets favorably is a notable strength, with Q1 2025 NPA resolution gains of $1.9 million on $76.4 million in UPB resolved, representing a 2.4% gain above par. Management emphasizes that historically, most nonperforming loans resolve prior to converting to REO due to low LTVs and active management, often resulting in the collection of default interest and prepayment penalties. Net gains from REO-related activities also contributed positively, totaling $1.1 million in Q1 2025. The CECL reserve, calculated using a severe stress scenario in Q1 2025 due to market uncertainties, was $5 million, or 0.22% of the amortized cost HFI portfolio, slightly above the expected 0.15% to 0.20% range but deemed reasonable by management given the economic forecast.

Overall profitability saw strong growth, with net income attributable to Velocity Financial, Inc. reaching $18.9 million in Q1 2025, up from $17.3 million in Q1 2024. Core net income, a non-GAAP measure, was $20.3 million, resulting in core earnings per diluted share of $0.55, an increase from $0.51 in the prior year period. This performance reflects the combined impact of increased net interest income, contributions from other operating income (including unrealized gains on fair value loans and origination fees), managed operating expenses, and favorable credit outcomes.

Liquidity and funding remain robust, supporting the company's growth ambitions. As of March 31, 2025, total liquidity, including cash and available warehouse capacity, was $313.8 million. The company actively utilizes warehouse and repurchase facilities, with $571.8 million outstanding and $238.2 million available capacity at quarter-end. Securitization is the primary source of long-term financing, and VEL successfully issued its first securitization of 2025 for $342.8 million in securities. Management noted strong investor demand in recent securitizations, even amidst market volatility, which is crucial for financing continued portfolio expansion. The company also leverages corporate debt, including term loans, and uses its ATM program to raise equity, with $28.8 million in net proceeds from common stock issuance in Q1 2025, contributing to book value growth.

Competitive Landscape and Strategic Positioning

The U.S. real estate finance market is characterized by its fragmentation, particularly in the niche segments Velocity serves. While direct quantitative market share figures for all competitors are not explicitly detailed, VEL positions itself against a diverse set of players, including traditional banks, other specialty finance companies, and potentially fintech platforms.

Traditional banks, while dominant in broader mortgage markets, are noted by Velocity's management as being constrained in the specific investor loan segments VEL targets. This constraint provides a significant opportunity for Velocity to capture market share by offering capital to underserved borrowers.

Other specialty finance companies and REITs, such as Blackstone Mortgage Trust (BXMT), Redwood Trust (RWT), and New Residential Investment Corp. (NRZ), operate in adjacent or overlapping areas of real estate finance. BXMT primarily focuses on larger commercial real estate debt, while RWT and NRZ have significant exposure to residential mortgage markets and securitization. Compared to these larger players, Velocity's competitive advantages lie in its deep focus on the investor 1-4 unit and small commercial niche, its established broker network, and its vertically integrated model that includes in-house special servicing.

Velocity's broker network provides a distribution advantage, enabling efficient loan origination and potentially faster processing times compared to more institutionally focused competitors. The in-house special servicing team is highlighted as a key operational differentiator, allowing the company to actively manage delinquent assets and achieve favorable resolutions, contributing directly to earnings through gains on resolved non-performing assets, a capability that may not be as deeply integrated in competitors relying solely on third-party servicers.

While larger competitors like BXMT and NRZ may benefit from economies of scale in areas like securitization costs or technology investments, potentially leading to higher profitability or lower operating costs per loan in certain segments, Velocity's strength lies in its targeted approach and execution within its specific niche. The company's ability to maintain healthy origination volumes and spreads, coupled with effective asset management, demonstrates its competitive effectiveness despite potentially smaller scale compared to some peers.

Indirect competitors, including fintech platforms, could offer alternative financing solutions or more automated processes. However, Velocity's emphasis on certainty of execution and specialized underwriting for complex investor real estate deals may provide a barrier against purely technology-driven competitors in this specific market segment.

Overall, Velocity's strategic positioning leverages the constraints of traditional banks and differentiates itself from broader market specialty finance companies through its niche focus, broker network, and integrated operational model, which management believes provides a durable business capable of generating attractive risk-adjusted returns.

Outlook and Risks

Management expresses confidence in Velocity's future trajectory, driven by continued strong demand in its core markets and effective execution of its growth strategy. The company is well on track to exceed its stated goal of reaching $5 billion in UPB by 2025 and has a long-term vision of growing the portfolio to $10 billion within five years. This outlook is supported by a healthy and growing pipeline of loan applications, as evidenced by record application volumes in late 2024.

Key assumptions underpinning this optimistic outlook include the continued health of real estate markets, sustained borrower demand for investor real estate financing, and the ongoing supportive environment in the securitized debt market for long-term funding. Management also assumes that their disciplined underwriting and in-house special servicing will continue to result in favorable credit performance and positive resolutions of non-performing assets. The strategy involves continuing to allocate capital, including retained earnings and proceeds from equity and debt issuances, towards originating new loans that meet their risk-adjusted return targets. While acknowledging the need for potential marginal headcount increases to support growth, the company expects to continue leveraging its technology investments to enhance operational efficiency.

However, the outlook is not without risks. Macroeconomic uncertainties, including the potential impact of tariffs, geopolitical conflicts, and the possibility of a global recession, could adversely affect real estate markets, borrower demand, and credit performance. Heightened stress in the real estate and corporate debt markets could impact property values and the ability to finance the portfolio on favorable terms. While the securitization market has been supportive, changes in investor appetite or market conditions could limit access to this primary funding source. The company is also subject to interest rate risk, although its fixed-rate loan originations and fixed-rate securitized debt mitigate some of this exposure. Competition, while currently favorable due to bank constraints, could intensify if market dynamics shift. Compliance with covenants on warehouse facilities and corporate debt is also a continuous requirement, with potential adverse consequences if not met.

Conclusion

Velocity Financial ($VEL) presents a compelling investment narrative centered on its ability to effectively serve a specialized and underserved niche within the U.S. real estate finance market. By leveraging its vertically integrated model, extensive broker network, disciplined underwriting, and in-house special servicing, the company has demonstrated strong operational execution and financial performance, marked by robust loan origination and portfolio growth, expanding net interest income, and favorable non-performing asset resolutions.

Management's clear growth targets, supported by a healthy pipeline and access to the securitized debt market, signal potential for continued earnings expansion. While macroeconomic uncertainties and competitive dynamics pose potential challenges, Velocity's established market position, operational agility, and focus on certainty of execution for its borrowers provide a foundation for navigating these factors. For investors, Velocity offers exposure to a growing segment of the real estate finance market, driven by a company with a proven ability to generate attractive returns by capitalizing on a specific market inefficiency. Monitoring the company's continued execution on its growth strategy, its ability to maintain credit quality, and the dynamics of its funding markets will be key to assessing the ongoing strength of this investment thesis.