Greetings, and welcome to the First American Financial Corporation Q3 Earnings Conference Call. At this time, all participants are in a listen-only mode. A brief question and answer session will follow the formal presentation. If anyone should require operator assistance during the conference, please press star zero on your telephone keypad. A copy of today's press release is available on First American's website at www.firstam.com/investor. Please note that the call is being recorded and will be available for replay from the company's investor website and for a short time by dialing 877-660-6853 or 201-612-7415 and entering the conference ID 13733443.
I'll now turn the conference over to Craig Barberio, Vice President, Investor Relations, to make an introductory statement.
Good morning, everyone, and welcome to First American's Earnings Conference Call for the Q3 of 2022. Joining us today on the call will be our Chief Executive Officer, Ken DeGiorgio, and Mark Seaton, Executive Vice President and Chief Financial Officer. Some of the statements made today may contain forward-looking statements that do not speak strictly to historical or current fact. These forward-looking statements speak only as of the date they are made, and the company does not undertake to update forward-looking statements to reflect circumstances or events that occur after the date the forward-looking statements are made. Risks and uncertainties exist that may cause results to differ materially from those set forth in these forward-looking statements. For more information on these risks and uncertainties, please refer to this morning's Earnings Release and the risk factors discussed in our Form 10-K and subsequent SEC filings.
Our presentation today contains certain Non-GAAP Financial Measures that we believe provide additional insight into the operational efficiency and performance of the company relative to earlier periods and relative to the company's competitors. For more details on these Non-GAAP Financial Measures, including presentation with and reconciliation to the most directly comparable GAAP Financials, please refer to this morning's Earnings Release, which is available on our website at www.firstam.com. I would now like to turn the call over to Ken DeGiorgio.
Thank you, Craig. The slowing economy and rapid increase in mortgage rates continue to pressure our residential title business. Despite the challenging market conditions, we achieved revenue of $1.8 billion and earnings per diluted share of $0.02 or $1.62 per share excluding net investment losses. In our title segment, we delivered a pre-tax margin of 9.9% or 13% excluding net investment losses. Two key factors, along with our continued focus on expense management, favorably impacted our third quarter financial results. First, our commercial business continued its strong performance, and we remain on track to deliver another record year. Second, we continue to capture the benefit of higher interest rates at our bank on other escrow and tax-deferred exchange balances and in our investment portfolio.
This quarter, investment income in our title segment increased to $105 million, up 114% compared to last year. Based on the current forward curve for Fed funds and assuming escrow balances remain at current levels, we believe investment income in our title segment could be $600 million in 2023. Mark will go into greater detail concerning these assumptions. Refinance has been declining since early last year, so it's now near trough levels and no longer a significant contributor to our financial results. Our open purchase orders were down 23% this quarter, with orders declining each month throughout the quarter. So far in October, this trend has continued with open orders down approximately 35% compared to last year.
As we discussed on our last call, we remain committed to investing in strategic initiatives that support our company's long-term growth and operational efficiency despite their near-term impact on profitability. Our initiative to deliver instant title decisioning for purchase transactions and Endpoint, our digital title and settlement company, continue to make progress. ServiceMac, our mortgage sub-servicing business, is rapidly achieving scale, and we now expect ServiceMac will be profitable in the final quarter of the year. A significant improvement from the $11 million pre-tax loss it booked in the Q2 . Despite the challenging environment ahead of us, we believe the company is well positioned to emerge from this cycle even stronger. The market has shifted away from refinance toward purchase and commercial transactions, which is where we are stronger, and consequently, we are growing our market share.
We are also the only title company that has a bank, which enables us to better capitalize on higher interest rates. Our strong balance sheet will allow us to continue to invest in key strategic initiatives, pursue acquisitions, as well as return capital to shareholders. I note that since the beginning of this year, we have repurchased approximately 7% of our shares outstanding as of the end of last year. In closing, I want to thank our employees for all their hard work and accomplishments as we navigate our way through a difficult market. Relationships are key to our business, and it's our talented and dedicated people who provide the connection to our customers that ultimately drives our company's success.
Given the importance we place on our workplace culture, I'm proud that First American was recently named one of the best workplaces for women by Great Place to Work and Fortune Magazine for a seventh consecutive year. Now I'd like to turn the call over to Mark for a more detailed discussion of our financial results.
Thank you, Ken. I'll begin with commentary on this quarter's results, followed by a discussion of a few key topics, including our venture portfolio, our outlook for investment income, and the financial impact of a few of our strategic initiatives. This quarter, we earned $0.02 per diluted share. Included in this quarter's results were $1.60 of net investment losses. Excluding these losses, we earned $1.62 per diluted share. Three items contributed to our net investment losses this quarter. First, we incurred $126 million of unrealized losses related to our venture portfolio. Second, we recognized $50 million of losses related to mark-to-market adjustments in our public equity portfolio. Finally, we realized $50 million of losses on our fixed income portfolio in connection with our tax planning strategies.
In terms of our venture portfolio, we booked $126 million of net unrealized losses this quarter. This compares to $276 million of net unrealized gains in the third quarter of last year. As of September thirtieth, including our investment in Offerpad, which is now publicly traded, we have invested $398 million in our venture strategy, which has a carrying value of $448 million. Revenue in our title segment was $1.9 billion, down 12% compared with the same quarter of 2021. Commercial revenue was $260 million, a 1% decline over last year. Our escrow balances totaled $12 billion at the end of the quarter, up from $11 billion at year-end, which indicates a healthy pipeline for commercial activity as we approach the seasonally strong Q4 .
Purchase revenue was down 15% during the quarter, driven by a 23% decrease in the number of orders closed, partially offset by an 11% increase in the average revenue per order. Our average revenue per order for purchase transactions continued to benefit from recent acquisitions of escrow companies in Southern California. We include escrow revenue from these transactions in the numerator without a corresponding title order in the denominator. Excluding acquisitions, average revenue per order would have been up 1%. Refinance revenue declined 68% relative to last year due to the increase in mortgage rates. In the agency business, revenue was $910 million, down 9% from last year. Given the reporting lag in agent revenues of approximately 1 quarter, these results reflect remittances related to Q2 economic activity.
Our information and other revenues were $279 million, down 9% relative to last year. The decline was a result of lower transaction levels across several business units, driven by the decline in residential mortgage originations, including the company's data, property information, and post-close services. Investment income within the title insurance and services segment was $105 million, a 114% increase relative to the prior year. I want to take a minute to discuss how to think about our investment income for 2023. As we've stated previously, we expect to generate $15 million-$20 million of annualized investment income in the title segment for each 25 basis point increase in the federal funds rate. In the Q3 , we generated $105 million of investment income.
That result didn't reflect the full quarter of the Fed's 75 basis point increase in July or the 75 basis point increase in September. In addition, according to the forward curve, the market is projecting another seven rate hikes into the middle of next year. We believe our investment income in the title segment could be $600 million in 2023, assuming our escrow deposits remain at current levels. This excludes any growth in third-party banking deposits as well as the benefit from reinvesting paydowns and principal maturities into higher-yielding securities. If our book yield in our investment portfolio was reset to the market yield, it would increase our investment income by an additional $185 million annually.
Investors often ask what the Street is missing about our company, and our answer is that the market doesn't appreciate the benefit we receive from investment income as a result of higher interest rates. Because we own a bank, we are better positioned to capitalize on a higher rate environment. On the expense side, we are reducing expenses in areas of the company that are being impacted by the slowdown of residential activity. Excluding acquisitions, our success ratio was 39%, meaning that our net operating revenue declined 22% relative to last year, and our personnel and other operating expenses declined 13%. Pre-tax margin in the title segment was 9.9% or 13.0% excluding net investment losses.
As Ken highlighted, we continue to invest in businesses and innovation initiatives that we believe will positively contribute to our profitability in the long term, but at this point in their life cycle, adversely impact our financial results. Last quarter, we discussed three initiatives, ServiceMac, Endpoint, and Instant Decision for purchase transactions, which together generated a pre-tax loss of $16 million this quarter, impacting our pre-tax title margin by 100 basis points. However, the drag on margin improved by 50 basis points since the second quarter, primarily related to improvements at ServiceMac. Turning to the specialty insurance segment, total revenue on our home warranty business totaled $105 million, down 3% compared with last year. Pre-tax income in home warranty was $4 million, down from $9 million the prior year.
Excluding net investment gains and losses, pre-tax income was $6 million, down from $9 million last year. The loss ratio in home warranty was 59%, up from 57% in 2021, driven by a higher severity of claims. In our property and casualty business, we had no revenue in the third quarter and only six policies remain. We incurred $10 million of losses, mostly related to adverse claims development. The effective tax rate for the quarter was 174%. Excluding the impact of our net investment losses, our tax rate would have been 23.1%, slightly less than our normalized tax rate of 24%. In the third quarter, we repurchased 1.3 million shares for a total of $72 million at an average price of $53.31.
So far in Q4, we've repurchased an additional 339,000 shares for a total of $16 million at an average price of $46.46. Our debt-to-capital ratio as of September thirtieth was 30.5%. This ratio is impacted by both our accumulated other comprehensive loss and our secured financings payable. Excluding these two items, which is more in line with how our banks view the ratio, our debt-to-capital ratio was 22.8%. As of September thirtieth, we recorded an accumulated other comprehensive loss of $1 billion. This quarter, we elected to sell fixed income securities, which produced a $50 million capital loss in connection with our tax planning strategy, which will offset capital gains we recognized in 2019, 2020, and 2021.
When combined with further actions we will take in the Q4 , we expect to generate $24 million of cash to the holding company as a result of the strategy. Our remaining unrealized losses in our investment portfolio are split between our bank and our insurance companies. We don't need to liquidate the portfolio for liquidity purposes, and the average credit rating of the portfolio is AA-. We expect to recapture the amount of accumulated other comprehensive loss into equity, barring any additional tax planning strategies we may exercise. Now I would like to turn the call back over to the operator to take your questions.
Thank you. We'll now be conducting a question-and-answer session. If you'd like to ask a question, please press star one on your telephone keypad. A confirmation tone will indicate your line is in the question queue. You may press star two if you'd like to remove your question from the queue. For participants using speaker equipment, it may be necessary to pick up your handset before pressing the star keys. Our first question comes from the line of John Campbell with Stephens Inc. Please proceed with your question.
Hey, guys. Good morning.
Morning, John.
Morning.
Hey, Mark, I think you said it twice. I want to make sure. You said $600 million in title investment income for next year?
That's right. That's assuming that the forward curve plays out like it's expected to, and that our escrow balances remain at current levels. If that happens, we should be around $600 million. That's right.
Yeah, I mean, I think even where consensus sits right now, you could probably see much less of those hikes, and a probably lower deposit level, and you're still gonna be way above that. Nice work there. On the severance expense, could you talk to maybe the annualized kind of run rate savings from that? Just, you know, as we think about the market, if it sours a little bit from here, maybe the actions you guys would be looking to take.
I would just say, you know, we've reduced our headcount, you know, in places that are being affected by the residential markets. You know, we had $6 million of severance this quarter. I think we had $5 million last quarter. That's just something we continue to have our eyes on.
Yeah, John, I'll add, I mean, you know, this obviously isn't the first downturn we've seen in 130-plus years. You know, we're highly focused on expense management that we started on expense management when we saw the downturn coming, you know, early, very early this year. We will, you know, continue to, you know, calibrate our, you know, our expenses to the market.
Okay. Makes sense. Just kind of thinking about the industry here, I mean, I saw the rule changes from Fannie Mae and Freddie Mac around the acceptance of the attorney's opinion letter. You know, you guys have seen some. Or I guess we've seen some smaller Proptech players kind of launching new offerings. A couple of weeks ago, I think it was United Wholesale Mortgage, talked about ramping up its own offering and then also originate mortgages without the lender's title insurance. I'm just curious about how you guys are viewing that. Is that more noise or is it something that you're going to look to address?
Yeah. I mean, it's a good question. I mean, I think, you know, obviously, these attorney opinion letters have, you know, generated a lot of press. I don't think so far we haven't really seen much of an impact. You know, obviously, we're monitoring it, you know, it closely. I think that, you know, once lenders and the GSEs appreciate the limitations of AOLs. I mean, you know, some of the things we've seen, for example, that you have to prove negligence against lawyers, which is hard to do. There might be a statute of limitations. It's not clear if the coverage is for the life of a loan.
I think the biggest thing is there's no cost of defense in some of these, in most of these policies, all these policies we've seen, which is interesting because I think they were originally built to help low and moderate income borrowers who actually are probably the least able to bear the cost associated with defending title. You know, Ian, we're watching it, but so far it hasn't been real impactful.
Okay, that's helpful. Thank you, guys.
Thanks, John.
Thank you. Our next question comes from the line of Mark DeVries with Barclays. Please proceed with your question.
Yeah, thanks. Was hoping you could discuss, you know, what you're seeing in the commercial pipeline here, kind of relative areas of strength and weakness, how that's kind of been evolving in recent months. Also how that may differ from, you know, what we can see, you know, looking at the more visible kind of institutional larger side of the commercial real estate market.
Yeah. I'll start, Mark, and then Mark can chime in as necessary. You know, I think as we had indicated, you know, we had a very strong Q3. You know, our revenue was only down 1% compared to a very strong Q3 of 2021, so I think that sort of bodes well for how we're gonna go into the Q4 . I think as Mark mentioned in his remarks, you know, our escrow balances are up, which indicates a real, you know, a pretty strong pipeline. We've seen strength in the Q3 across geographies and asset classes, and it's probably all the things you'd expect. You know, multifamily was doing very well, industrial and development site.
Looking at 2023, you know, I think we probably see commercial coming off a bit, probably more towards well, we would say our normalized levels. There's still some capital chasing deals, but it is softening a bit. Again, keep in mind when I say going towards more normal levels, we're coming off of a record-setting 2021. What we expect to be a record-setting 2022 will beat 2021. We think commercial will still be pretty strong next year.
Okay, got it. Just turning back to the Investment Portfolio. Mark, are you looking to extend duration at all where you can to try and take advantage of the higher rates there?
It's not part of our strategy. Our duration has extended. I mean, typically when you look at it on a consolidated basis, our duration's been in low fours, and today it's, you know, in the high fours just because mortgages have extended. But I wouldn't say that's part of our strategy to go longer. The average duration of our liabilities is around five years, and so we feel pretty comfortable with where we are right now.
Okay, got it. You know, I think you qualified the investment income guidance around escrow deposits staying where they are. What do you think directionally? Are they just given all the different market dynamics, you see them more likely to head higher or lower or kind of hold this level here?
Well, there's a few different things at play, Mark. A rough number is about 70% of our escrow deposits are commercial related. If commercial's down next year, everything else being equal, our escrow deposits will be down. The one thing that we have that offsets that is that we're growing our deposits from third-party banks. We talked about ServiceMac. We've got $1 billion of subservicing deposits at our bank today, and a year ago it was zero. We think that number will continue to grow, and that's going to help offset some of the, you know, potential softness that we might see.
Those are two, you know, kind of, you know, competing things, and we'll have to kind of, you know, see how that plays out over the next couple years.
Okay, that's helpful. Thank you.
Thanks, Mark.
Thank you. Ladies and gentlemen, as a reminder, if you'd like to join the question queue, please press star one on your telephone keypad. Our next question comes from line of Mark Hughes with Truist Securities. Please proceed with your question.
Yeah. Thank you. Appreciate it. Mark, you mentioned that you have the potential to possibly capture another $185 million in investment income if you got the full benefit of the higher rates. Is that, if we assume your duration's in the high fours and the portfolio's turning over normally, you capture a, you know, 20-25% of that, maybe over the coming 12 months? Am I thinking about that properly?
I think that's the right way to think about it, yes. The $600 million that we talk about, that's just variable. I mean, that's just assuming that, you know, Fed raises and all of like our cash balances and our variable rate securities will reset pretty immediately. We also have, you know, this fixed income portfolio that just takes longer, and so that's what that $185 million is. Given the duration of high fours, you know, roughly 20%-25% of that will turn over every year. That would be a benefit that's in addition to the $600 million.
Could you give an order trend so far for October? You've given some good general thoughts about the outlook, but did you give any specific numbers for October?
In October, our open purchase orders are down 38%. Sorry, 35%. 35% relative to last year. Our refinance orders are about 400 a day, and that's down 73% from last year.
Anything on the commercial side?
Commercial side, our open orders are down about 30% relative to last year.
And then, um-
I think I saw you had still a $10 million loss from the reserve strengthening on the P&C business. What's the magnitude of the reserves that are still left over there? Do you think this catches all that or is there still potential for more?
Right now, we've got about $20 million in reserves for our P&C business. It's, you know, in the final stages of winding down. You know, looking into next year, the losses will be negligible.
Yeah. Okay. All right. Thank you very much.
Thanks, Mark.
Thank you. Our next question comes from the line of Bose George with KBW. Please proceed with your question.
Hey, guys. Good morning.
Morning.
Actually from a share buyback perspective, you know, does the increase in your leverage because of your negative AOCI marks create any constraints? Or do you look through those marks? In your comments, you noted that the banks, you know, look through those as well.
I wouldn't say it creates any constraints. I mean, obviously every company has some constraints. You know, looking at our debt to cap at 22% now, that's a really comfortable place to be. Gives us a lot of flexibility to execute any, you know, buyback or M&A strategies we might have.
That makes sense. Basically the question was you focus more on the leverage ex the AOCI marks when you're making those decisions?
That's right.
Actually switching over to the, you noted that the Endpoint and ServiceMac drag on the margins was, I guess, like 100 basis points this quarter. You know, how do you see that trending over the next few quarters?
When you look at them all together, we think it's gonna just keep getting better. I mean, we're really pleased with how ServiceMac is progressing. They're gonna break even here in the Q4 , and we feel like they're well on their way to profitability next year. That doesn't include any benefit that we get at the bank for their deposits, too. You know, it's hard to say where that 100 basis points is gonna go. W e feel pretty confident that the losses will narrow, you know, in the Q4 and continue to narrow into next year.
Okay. Great. Thank you.
Thanks, Bose.
Thank you. Once again, as a reminder, please press star one to join the question queue. Our next question is a follow-up from the line of John Campbell with Stephens Inc. Please proceed with your question.
Hey, guys. Thanks for the follow-up. I just wanted to jump back to the specialty insurance segment, mainly on just home warranty. Two-part question though. First, I'm just curious about how to kinda think about the growth path from here. I know the real estate channel is a pretty important kinda driver of that growth. I wanted to check maybe on the health of the other channels and then also just kinda get an update on pricing. And then the second part of that, just curious about pre-tax margin just for home warranty. I think last year it was around 13%. I think you've seen that a bit higher in past years. So just kinda how to think about a kinda good margin target there.
Yeah. I'll start and Mark can finish up on it. You know, we feel good about the home warranty company. I think as we noted, you know, the revenue is down 3%, and that's largely driven by, as you indicated, that real estate channel. You know, anything that's tied to real estate transactions is gonna suffer. We have had an offset to the decline in real estate channel from prices. We have been raising price and there's going to be some additional opportunities to raise price, and we'll do that. Also we're getting a lot of traction in our direct-to-consumer channel. That's performing well.
We're also seeing renewal rates perform much better. You know, on the whole, we're pretty optimistic about where the home warranty company is going.
Just in terms of the margins, John, this quarter, you know, home warranty had a 6% margin, but it's typically, you know, it's a very seasonal business and it's counter-seasonal to our title business. Typically Q4 and Q1 are the most profitable quarters. Really we think about on an annualized basis, the home warranty business is, you know, 12%-13% ish pre-tax margin.
Okay. Excellent. Thank you, guys.
Thanks, John.
Thank you. Ladies and gentlemen, there are no additional questions at this time. This concludes this morning's call. We'd like to remind listeners that today's call will be available for replay on the company's website or by dialing 877-660-6853 or 201-612-7415 and entering the conference ID number 13733443. The company would like to thank you for your participation. This concludes today's conference call. You may now disconnect your line.