Cherry Hill Mortgage Investment Corp (CHMI) 2017 Q3 法說會逐字稿

Welcome to the Cherry Hill Mortgage Investment Corporation Third Quarter 2017 Earnings Call. (Operator Instructions) I would now like to turn the conference over to Michael Hutchby, Controller and Head of Investor Relations. Please go ahead.

We'd like to thank you for joining us today for Cherry Hill Mortgage Investment Corporation's Third Quarter 2017 Conference Call. In addition to this call, we have filed a press release that was distributed earlier this afternoon and posted to the Investor Relations section of our website at www.chmireit.com.

On today's call, management's prepared remarks and answers to your questions may contain forward-looking statements that are subject to risks and uncertainties that could cause actual results to differ from those discussed today. Examples of forward-looking statements include those related to interest income, financial guidance, IRR, future expected cash flows as well as prepayment and recapture rates, delinquencies and non-GAAP financial measures, such as core and comprehensive income. Forward-looking statements represent management's current estimates, and Cherry Hill assumes no obligation to update any forward-looking statements in the future. We encourage listeners to review the more detailed discussions related to these forward-looking statements contained in the company's filings with the SEC and the definitions contained in the financial presentations available on the company's website.

Today's conference call is hosted by Jay Lown, President and CEO of Cherry Hill. Also present on the call today are Julian Evans, our Chief Investment Officer; and Marty Levine, our Chief Financial Officer.

And now I will turn the call over to Jay.

Thanks, Mike, and thank you, everyone, for joining us on today's call. Last quarter saw markets dealing regularly with uncertainty around future Fed leadership, geopolitical gamesmanship and the ongoing spectacle Washington. That said, our third quarter was marked by continued execution of our long-term strategy both from a relationship and capital perspective. During September, our subsidiary, Aurora, made its first purchase, $600 million of MSRs under the flow purchase agreement we established with RoundPoint. And we are working diligently with them to ramp-up the monthly volume under that program. Aided by purchases pursuant to that agreement, we purchased over $2 billion of MSRs during the quarter, increasing the size of our MSR portfolio to nearly $10 billion in unpaid principal balance as of September 30.

During the quarter, we entered into another subservicing agreement with Shellpoint Mortgage Servicing, a leading subservicer. This new relationship provides us with additional flexibility and diversification in terms of our subservicing options. We are pleased to be working with the Shellpoint team.

Throughout the quarter, the industry raised a significant amount of capital in the form of both common and preferred equity. In August, we successfully completed our first preferred stock offering, issuing 2.4 million shares of 8.2% Series A preferred stock. The net proceeds were deployed into RMBS and, over time, we expect to redeploy a significant portion into MSRs.

Turning to our third quarter results. Strong performance from our RMBS portfolio along with the growing MSR portfolio, helped produced core earnings per share of $0.52. We closed the quarter with a book value of $20.05, an increase of 0.6% from the prior quarter. We continue to focus on preserving book value through actively managing a portfolio of assets that we believe accomplishes that goal across multiple interest rate environments. As we've previously communicated, the monthly $250,000 yield maintenance payments we have been receiving from Freedom Mortgage ends this month. Because the fourth quarter will reflect 2 months of payments, the full effect won't be felt until the first quarter of 2018. While there are many variables that will affect our core EPS going forward, particularly the pace and amount of MSR purchases, all else being equal, we expect our revenues in 2018 will be lower than in recent prior quarters due to the expiration of those payments. Overall, we believe that in the third quarter, we accomplished exactly what we needed to do for our long-term strategy to succeed.

We further increased our liquidity due to completion of our preferred offering and established new relationships with leading servicing firms in the industry. In addition, we're putting our capital and our expertise to use through smart acquisitions of assets that we believe will create additional long-term value for our shareholders.

We believe that current data supports a higher rate environment moving forward and expect to continue to shift more of our capital into servicing related assets. With that, I'll turn the call over to Julian, who will cover more detailed highlights of our investment portfolio and its performance over the quarter.

Thank you, Jay. Throughout the quarter, U.S. Treasury rates fluctuated, but ended up varying only slightly from the previous quarter-end. Markets were torn by geopolitical concerns, a steady diet of media headlines as well as the constant dysfunction of Washington during the third quarter. The U.S. 10-year rallied from 2.31% and touched 2.04% and has roughly turned course and finished the quarter at 2.34%.

During the quarter, mortgages outperformed Treasuries and swaps similar to other spread products. Economically, the U.S. continues to improve as [data] has consistently beat expectations since mid-June, according to Citi's U.S. surprise index. In the absence of a big economic or geopolitical surprise, we believe the Fed is on track to raise the Fed fund target at the December FOMC meeting, the third rate increase this year.

Moving forward, Slide 5 highlights our aggregate investment portfolio composition. At quarter end, our servicing related investments, comprised solely of [MSRs], represented approximately 20% of our equity capital and approximately 5% of our investable assets, excluding cash. Servicing related assets as a percentage of total assets increased due to the deployment of cash in the quarter into MSR investments. As a result, our MBS portfolio accounted for approximately 73% of our equity and approximately 95% of our investable assets, excluding cash at quarter-end.

As shown on Slide 6, as of September 30, we held MSRs with a UPB of $9.7 billion and a market value of approximately $97 million. While interest rates remained at lower levels for most of the third quarter, our conventional and government speeds remain relatively stable. Life-to-date, our conventional MSR, CPRs are averaging approximately 10.4%, while our government MSR, CPRs are averaging 9.7%. As of September 30, the RMBS portfolio stood approximately $1.81 billion as shown on Slide 7, an increase from approximately $1.36 billion as of June 30.

The increase was driven by the deployment of the proceeds from the preferred offering that we completed in August. Over time, we expect that a significant portion of the funds currently invested in RMBS will be redeployed in MSRs.

During the quarter, we modestly increased the 30-year securities position of our RMBS portfolio to 72% versus 71% from the previous quarter. 20-year and 15-year fixed rate pools as well as shorter duration assets represented 28% of the RMBS portfolio at quarter-end.

In the third quarter the RMBS portfolio posted a weighted average 3-month CPR of approximately 5.95%, up from 5.2% posted in the previous quarter as shown on Slide 8. Overall, the portfolio continued to benefit from collateral composition during the quarter, despite lower interest rates.

For third quarter, we posted a 1.26% RMBS NIM versus the 1.78% NIM for the second quarter. The lower NIM was driven by a combination of factors, the timing of the redeployment of the preferred capital, in addition to increased repo costs and price amortization. At quarter-end, repo cost averaged 137 basis points versus averaging 119 basis points in the second quarter. The higher costs were partially offset by increased 3-month LIBOR cost, which benefited the receiving portion of our swap hedges. Based on these factors, we continue to expect our NIM to fluctuate. During the quarter, the aggregate portfolio operated with leverage of 6.8x and a negative duration gap.

As shown on Slide 9, we ended the quarter with an aggregate portfolio duration gap of minus 0.53 years. I'll now turn the call over to Marty for our third quarter financial discussion.

Thank you, Julian. Our GAAP net income applicable to common stockholders for the third quarter was $6.2 million or $0.49 per weighted average share outstanding during the quarter; while our comprehensive income attributable to common stockholders, which includes the mark-to-market of our held for sale RMBS, was $9.7 million or $0.76 per share. Our core earnings, as detailed on Slide 18, was $6.6 million or $0.52 per share.

As Jay mentioned, our book value as of September 30, was $20.05, an increase of $0.11 per share or 0.6% from June 30. The increase in book value was less than otherwise would have been in the case due to approximately $2.1 million in expenses from the preferred offering being charged against book value. The capital is booked at the liquidation value of $60 million, even though we received only $58 million after expenses. Those expenses reduced the book value by approximately $0.16 per share.

As detailed in Slide 21, we used a variety of derivative instruments to mitigate the effects of increases in interest rates on a portion of our future repurchase borrowings. At the end of the third quarter, we held interest rate swaps, swaptions and TBAs with a combined notional amount of $1.2 billion.

For GAAP purposes, we have now elected to apply hedge accounting for our interest rate derivatives. And as a result, we recorded the change in estimated fair value as the component of net gain or loss on interest rate derivatives.

Operating expenses were $1.9 million for the quarter, of which approximately $192,000 was related to our taxable REIT subsidiary. On September 15, 2017, we declared a dividend of $0.49 per common share for the third quarter of 2017, which was paid on October 24, 2017. As well as a partial dividend of $0.33 per share on our 8.2% Series A cumulative redeemable preferred stock, which was paid on October 15. Our goal remains to distribute regular quarterly dividends of all or substantially all of our taxable income to holders of our common stock and to the extent authorized by our Board of Directors. Now I'd like to turn the call back to Jay.

Thanks, Marty. At this time, we'll open up the call for questions. Operator?

(Operator Instructions) Our first question comes from Jessica Levi-Ribner of B.Riley FBR.

This is Tim for Jessica. Just to start, can you give us an update on the types of volumes you're seeing with the RoundPoint so far this quarter? And then just kind of how you see that ramping over the next several quarters heading into 2018?

Yes, sure. So I think it's important -- it was important for us to make sure that the program is work -- running smoothly. And so the first month or 2 were approximately the same volume. It was very important for us to make sure that the product that we were getting in was reflective of what we thought we're supposed to get based on the pricing grids. And we'd expect that our goal is to ramp that up to $1 billion plus over the next couple of months.

You guys have been primarily focused on, I guess, agencies over Ginnies and now have the flow sale agreement in place, but just kind of how are you seeing -- where is the relative value right now with what you're seeing in the market just in terms of bulk versus flow and agencies versus Ginnies?

Sure. So right now I think that we're more focused on the conventional for a few reasons. One, access to the collateral and, two, just our view of the market in general. Then -- and I say that around the risk return profile, not just the actual price. I think that the flow for us is something that we're very focused on, as I think that it provides us with a slightly higher return than the bulk market and it's consistent. And we have the ability to control what we buy versus the bulk market, which is -- it tends to be a little bit more seasoned, a little bit erratic in terms of the quality of the collateral. And from that perspective, we have -- we are spending most of our time trying to make sure that we are competitive in that flow space and have the ability with RoundPoint to generate more meaningful volume.

And then one more from me. Your net CPRs have remained relatively stable and low. But is there an opportunity to improve that further through stronger recapture rates through -- like a [GMA] agreement with RoundPoint?

So that is -- there's always room for improvement. We expect to work with RoundPoint to come up with something relative to the [GMA] that you described. And we continue to work with Freedom on the same things relative to our Ginnie Mae portfolio. But sure, you can always do better. I think, one, we're getting out of the seasonals and more into the winter months. Rates are higher. So we feel pretty good about the collateral composition of our portfolio. And we look forward to working with our service providers to try to mitigate the runoff.

Our next question comes from Steve Delaney of JMP Securities .

Curious, if you over the last quarter have made any progress, any breakthroughs in the area of attracting financing for MSRs, whether they be Ginnie or agency MSRs. Just curious how that's evolving?

It's a great question and the answer is yes. We think that we have multiple avenues in that area and we are spending a fair amount of time right now trying to figure out the best option for us on a long-term basis. But we feel very good about our ability to have a larger financing facility in place on the conventional side. And on the Ginnie side, I think we're good for now with the investment plan that we have in place. We believe that the partners that are either entering or getting more aggressive in the space will be accretive to the business going forward.

All right. That's helpful. And do you ever see yourself, I don't know how the excess market is evolving, but help me understand the economics the way you see it at Cherry Hill. Do you want to own the entire MSR? Or is there a scenario where [you -- or we] actually could benefit where you own the MSR and [use somehow] another structure, an excess piece that another mortgage REIT or someone else may -- some other investor may care to own. I guess I'm asking, is there sort of a structured finance angle now that you're fully licensed, you can own your whole MSRs. Is there any kind of structuring strategy in there that helps your returns?

Sure. So if you're -- I'm not sure I completely understand, but if you're talking more about what PennyMac did, I think we're probably on the smaller end of the scale for something like that around a structured transaction, relative to the space and given what they did. And I think that Credit Suisse and some others are doing a great job in terms of trying to move that forward. And that will be a little bit more [problematic] and that speaks in line with -- a little bit with what I said prior around financing. With respect to the excess, specifically, we do locate opportunities in the excess, and we are very focused on both the returns and the counter-party risk associated with those transactions, because again, it's not Freedom so it's not a related counter-party. So we do take all of that into consideration. And so between the yield and the associated risk with the trade, we have -- we're trying to be thoughtful about how we think of that excess today.

Okay. Yes, it was really the latter that I was referring to and I think I threw it. I confused things when I mentioned structuring. I was really not thinking about a securitization, per se. And then the last thing, this is a naive question, I suppose, but it just popped into my head when I was thinking about servicing. These hurricanes, I mean, we know they had an impact on GSE, CRT credit spreads, I mean, this is really basic and I apologize, but is there -- if you're a servicer -- is there a burden or a potential risk on the servicer with respect to making sure that flood insurance, et cetera, et cetera, is maintained? And was there even just like excess operational expenses when we have these kinds of natural disasters. Just curious, if there's anything there that we should be thinking about?

I think -- it's not naive. I think it's (inaudible) both, right? Whenever you have a natural disaster, you go into overdrive. One of the reasons we continue to diversify on the subservicing front is you don't want to have too much exposure around things like that to any one counter-party. We are confident that the people that we use in terms of a vendor relationship around subservicing have done the appropriate things relative to the areas affected. From our perspective, I think we are more concerned about Texas than Florida, just in terms of the relative hit to the portfolio around uninsured borrowers. But what I can tell you is that our servicing oversight team under Marty's direction is very much on top of it. And our servicing -- our subservicing partners are also very much on top of it. And we feel pretty good about the portfolio in the aftermath of that. But you're right, it definitely does affect their workload. And in my opinion, they did a good job in terms of their vendor -- the vendor side of it, relative to our portfolio and we're happy with that.

(Operator Instructions) We have no questioners in the queue at this time. This concludes the question-and-answer session. I would like to turn the conference back over to Mr. Jay Lown for any closing remarks.

Thank you. And thanks, everyone, for joining us on today's call. We look forward to updating you soon on our fourth quarter results. Have a great evening.

This concludes today's conference call. You may disconnect your lines. Thank you for participating, and have a pleasant day.