Toronto-based alternative mortgage providers Equitable Group Inc. and Home Capital Group Inc. have sailed through the credit crisis with little trouble. In fact, both are expected to post even better earnings over the next year despite the softer housing market that many economists are predicting.

Securities analysts are particularly enthusiastic about the shares of Home Capital. Eight of nine analysts recommend the stock be “overweighted” within a portfolio.

Meanwhile, Equitable is no slouch, as four out of seven analysts believe Equitable’s shares will also outperform.

Home Capital is the bigger of the two companies and is also considered an innovator, as it’s constantly surprising analysts and investors by finding new ways to grow.

During the credit crisis, for instance, the firm moved into insured mortgages to provide growth while it temporarily stopped pursuing new customers for alternative mortgages and home-equity Visa credit cards.

Equitable is still finding lots of room to grow by expanding geographically. In fact, it recently moved into British Columbia. It already had operations in Alberta, Manitoba and Ontario, the last being the province in which it started. Says Equitable CEO Andrew Moor: “Our goal is to be truly national.”

Neither Moor nor Martin Reid, president of Home Capital, expect the Canadian housing market to deteriorate significantly in the next year. But should house prices decline further than they expect, it shouldn’t be a problem for either firm because softer markets means tighter mortgage-lending standards at the banks, which, in turn, increases demand for providers of alternative mortgages.

A closer look at the two firms:

> Equitable Group Inc. has three main lines of business. Alternative mortgages — for people who don’t qualify at the banks but are good credit risks — account for about 42% of revenue. Small, commercial mortgages, usually for less than $2.5 million, account for 23% of revenue. Commercial lending services, which provide financing for larger projects, account for 35% of revenue. The loans in third category are insured and securitized, while Equitable primarily lends its own money for the other mortgages.

The firm has lots of room to expand, Moor says, noting that 11 of its 15 or so competitors had left the market during the credit crisis. Equitable will look at acquisition opportunities if they come up, but the preference is for controlled organic growth funded by retained earnings.

Equitable prides itself on the great service it offers to mortgage brokers and their customers. Moor believes the firm is particularly good at small commercial lending. “We think we know how to lend to entrepreneurs,” he says, noting that this group is not well served by the big banks.@page_break@The firm’s stock is a top pick for analysts with Toronto-based Cormack Securities Inc. Similarly, analysts with Montreal-based National Bank Financial Ltd. expect the stock to outperform, while analysts with GMP Securities LP and Jennings Capital Inc., both of Toronto, rated it a “buy.” Twelve-month target prices range from GMP’s $27 to Jennings’ $33. The 14.9 million outstanding shares closed at $22.70 on Nov. 19. Cormack and Jennings analysts expect an increase in the dividend next year.

Analysts with BMO Capital Markets Corp., Royal Bank of Canada’s capital-markets division and Scotia Capital Inc., all of Toronto, rate the stock as “market perform.” Their target prices are $26, $27 and $27, respectively.

A Jennings report says the illiquidity of Equitable’s shares justifies the stock trading at a discount — but not at below book value, as is currently the case. The report notes that investors are concerned about the newness of the management team, although Jennings’ analysts feel the team has already proven itself.

Moor, however, says that it’s reasonable for investors to want a longer track record than the three and half years that he has been CEO, given that most mortgages have five-year terms.

> Home Capital Group Inc. BMO Capital Markets analyst Atul Shah is the only one following Home Capital’s stock who doesn’t consider it a “buy” — and even he recently increased his 12-month target price to $54 from $50.50. Other target prices range from Scotia Capital’s $55 to Jennings’ and Cormack’s $65. The 34.7-million shares closed at $47.04 on Nov. 19.

A Jennings report suggests Home Capital can continue to capture additional market share through increased broker penetration and superior service, and notes that the firm has “consistently demonstrated superior loan quality through the past two years.”

A Scotia Capital report suggests that the stock’s discount vs shares of small-capitalization regional banks is unwarranted, given Home Capital’s attractive growth profile; the report expects the discount to narrow in the next 12 months as investor confidence gets a boost from solid loan growth and credit performance while earnings quality continues to improve.

Home Capital is “extremely well capitalized, much better than any of the banks, and profitability is extremely high with return on equity in excess of 25%,” says Michael Goldberg, an analyst with Desjardins Securities Inc. in Toronto. He says the firm’s CEO, Gerry Soloway, is “quite unique in terms of the passion he brings to the business. He has been quite entrepreneurial but very focused on containing risks. He is focused on reality and has no illusions about running the business.”

Soloway and Reid are certain that their company will continue to do well. It is now focusing again on alternative mortgages and its home-equity Visa card, both of which have better margins than insured mortgages. Home Capital will continue to issue traditional mortgages, but management expects two-thirds of new mortgages will be of the alternative kind.

To address this demand, Home Capital recently introduced “credit assist” mortgages designed to help clients gain a good credit rating. There is much for Home Capital to gain by entering this market. In the past, once clients could qualify at the banks, they would leave Home Capital because of the better rates the big banks offered for traditional mortgages. The firm now offers those types of mortgages and expects to keep these customers. IE