Chimera Investment Corp (CIM) 2008 Q2 法說會逐字稿

Good morning, and welcome, ladies and gentlemen, to the Second Quarter Earnings Call for Chimera Investment Corporation. At this time I would like to inform you that this conference is being recorded and that all participants are in a listen-only mode. At the request of the Company, we will open the conference up for questions and answers after the presentation.

This earnings call may contain certain forward-looking statements within the meaning of Section 27A of the Securities Act of 1933, and Section 21E of the Securities Exchange Act of 1934. Forward-looking statements, which are based on various assumptions, some of which are beyond our control, may be identified by reference to a future period or periods, or by the use of forward-looking terminology, such as may, will, believe, expect, anticipate, continue, or similar terms, or variations of those terms or the negative of those terms.

Actual results could differ materially from those set forth in forward-looking statements due to a variety of factors, including, but not limited to, our ability to obtain financing arrangements, general volatility of the markets in which we invest, interest rate mismatches between our mortgage loans and mortgage-backed securities and our borrowings used to fund such purchases, changes in interest rates and mortgage prepayment rates, effects of the interest rate caps on our adjustable-rate mortgage-backed securities.

Rate of default or decreased recovery rates on our investments, prepayments of the mortgage and other loans underlying our mortgage-backed and other asset-backed securities, the degree to which our hedging in securities may or may not protect us from interest rate volatility, changes in the governmental regulations, tax law or rates and similar matters, availability of investment opportunities in the real-estate-related and other securities, market trends in our industry rates, the debt security markets or the general economy.

For a discussion of the risks and uncertainties which could cause actual results to differ from those contained in the forward-looking statements, see risk factors in our most recent annual report on Form 10-K and all subsequent quarterly reports on Form 10-Q. we do not undertake and specifically disclaim any obligation to publicly release the results of any revisions which may be made to any forward-looking statements to reflect the occurrence of anticipated or unanticipated events or circumstances after the date of such statements.

I will now turn the conference over to Mr. Matthew Lambiase, Chief Executive Officer of Chimera Investment Corporation. Please go ahead, sir.

Thank you, Grace-Ann. Good morning, and welcome to the second quarter 2008 earnings call for Chimera Investment Corporation. I'm Matt Lambiase. I'm the CEO and President of Chimera, and joining me today on the call are members of our senior management team, our CFO, Alex Denahan, our Head of Investments, Chris Woschenko, our Head of Underwriting, Bill Dyer, and also jointing me today are Wellington Denahan-Norris, the Chief Investment Officer for FIDAC, and Jay Diamond, a Managing Director at FIDAC and a Director of Chimera.

We are all here today to review the results of the second quarter of 2008 and answer any questions that you may have. I'd like to make a few general comments and then Alex will briefly review the headline results for the quarter. Afterwards, we'll take your questions.

As you know, Chimera is in the business to evaluate and manage credit risk in the residential mortgage market. As a long-term business model, it's tried and true, but it has run into some short-term challenges. The dislocations that started in Q1 with the collapse of Carlyle Capital, Thornburg and Bear Stearns prompted unprecedented reaction by both the Fed and Treasury and has continued to cause tremendous volatility into Q2 and even Q3.

Indy Mac and others went into receivership, and even Fannie Mae and Freddie Mac came under attack, resulting in a sweeping new housing bill. These ongoing strains in the non-agency mortgage market have put stress on the ability to use even modest amounts of leverage in the strategy. This presents some near-term challenges, but also some long-term opportunities.

These short-term challenges in the nonconforming sector of the mortgage market are affecting virtually all participants and Chimera is not immune to these challenges. In particular, we see continued pressure on asset valuations and liquidity, irrespective of the actual credit performance, which has proven to be excellent in our portfolio.

During the second quarter, our earnings were negatively affected by a rise in the cost of financing. Our balance sheet and book value were negatively affected by the illiquidity of our asset classes. These market conditions have persisted through July and we believe that they are likely to continue for some time, despite the active response of policymakers to confront some of the challenges in the marketplace.

In this environment, our focus is on liquidity and minimizing our exposure to recourse borrowings. To that end, as we reported earlier, we executed a securitization of our loan portfolio in the second quarter. And, as we reported, we have terminated our whole-loan warehouse lines with Credit Suisse and Deutsche Bank because we were not using them for the foreseeable future. We continue to try to reduce our repo exposure.

The flip side of the pressure on the value of our assets is that the assets we like have only gotten cheaper to buy and in June we filed to do a secondary offering to raise new capital to take advantage of those opportunities. And we intend to take advantage of existing opportunities when the market conditions are right for us.

Despite the difficulties Chimera faces in the current market, improvements may come about once all the constituents confront the issues. The government, the Federal Reserve, the Treasury Department, are all doing what they can to support the housing and mortgage market, up to and including the passage of the Housing and Economic Recovery Act of 2008.

The willingness of the banks and the dealers to confront their own balance sheet exposure is welcome, as it will alleviate some of the ongoing liquidity issues in the market and asset values are clearing the market, albeit at relatively low levels.

So, in conclusion, Chimera is managing through an inhospitable market. We continue to navigate this market in what we believe will prove to be the best long-term interest of our shareholders, and with that I'd like to turn it over to Alex for a brief overview of the quarter's results.

Thank you, Matt. Chimera reported core earnings for the quarter ended June 30th of $6.9 million, or $0.18 per average share available to common shareholders. Core earnings is a close approximation for taxable earnings, out of which we pay our dividends.

We declared a dividend for the period of $0.16 per share, producing an annualized dividend yield of 7.1%, based on the June 30th closing price of $9.01. Our book value at June 30th was 9.94. As opposed to core earnings, we reported GAAP income for the quarter of $33.9 million, or $0.87 per share, comprised of interest income of $9.9 million and an unrealized gain of $25.6 million on $1 billion notional of interest rate swaps.

At June 30th, Chimera was levered at 3.6 to one. At June 30th, our portfolio of $1.9 billion in non-agency RMBS and residential mortgage loans was comprised entirely of high credit quality mortgage-backed securities and residential loans. In aggregate, our portfolio was weighted to hold approximately 62% mortgage-backed securities and 38% residential loans.

Our annualized yield on the portfolio was 6.18 and the annualized cost of funds, including the effect of interest rate swaps was 5.53, providing an annualized interest rate spread of 65 basis points. As of quarter end, all of the RMBS in the portfolio are AAA rated and there are no delinquent residential mortgage loans. All loans are accruing income and we have not recorded any charge-offs.

At this time, I will turn the call back over to the moderator and we will answer questions regarding this release.

Thank you. The question and answer session will begin at this time.

(OPERATOR INSTRUCTIONS)

Your first question comes from the line of Steve DeLaney of JMP Securities.

Good morning, Matt.

Hey, Steve, how are you?

Fine, thanks. My question had to do with the additional markdown that ran through the AOCI account. It looked like it was about $59 million or $60 million. I believe that's totally related to the AAA portfolio, and I think that you were carrying the portfolio at about 96 at March 31, if memory serves. And so, that 60 million looks like it may be a five percentage point write-down. So can you comment whether sort of a carrying value in the range of 91 is in the ballpark at June 30?

You're in a very close ballpark, I would say.

Okay, okay, great. And I guess my question on that, you make the point that fundamentals are -- you're happy with the fundamentals of the collateral, the underlying collateral in your AAA re-REMICs. We're seeing -- there's new issuance coming on and we know the banks and brokers have product, collateral they're stuck with, they need to get off their books.

We saw the deal that Merrill did with Lone Star, and granted, that was a different type of collateral than what we're talking about, Alt-A AAAs. But is it your sense that we've just got to -- what's going on is this delevering of this non-agency collateral takes place that, as these resecuritizations are done, that we've just got to find a market-clearing price to move the paper in this market, that that's going to be a lower price? Is that what's going on?

I think that's very close to what's going on. I think the non-agency market is certainly right now probably in the middle of the greatest dislocation ever, and we are seeing asset values drop. And also, just to give you an idea, if you think of the whole mortgage market as a series of concentric circles and the center of the mortgage market is the agency market, what happened in June and July, with Fannie and Freddie, gives you kind of an idea on kind of the stress on the whole mortgage market.

Fannie Mae stock was at $25 or $26 early in June. It went down to $7 and the agency mortgage market became very opaque, too, and that's the reason why the Senate worked on a Saturday and the President got up early to sign the law into effect in order to kind of rescue and put some soundness back into the agency market.

And the non-agency market is not going to come back into order until the agency market comes back. It's like concentric rings. You need to have the center, the agency market come back, settle down and become normalized, and then you're going to see the rest of those markets kind of normalize, too. And that's what we think is going to happen going forward.

One thing -- Steve, hi, this is Wellington.

Hi, [Welly].

One thing that we are seeing is this total irrational kind of evaluation going on between various asset classes. Just because something is in the resi space and in the non-agency resi space, it is getting tarred and feathered, while whether you're in CMBS or asset backed, credit cards, auto loans, things like that. But there's this huge disconnect between the participants running relative value.

And, unfortunately, I think because everything started with subprime that there's this thought among investors that it's a residential mortgage market situation. So that even though you have the most pristine credit performance, that you're getting -- because of the overhang out of a lot of the dealers and banking systems, you're getting irrational valuations, in our mind.

So it's really we're in a waiting period and we've just got to ride it out.

The bottom line is there is no new production. And that stuff is amortizing and a lot of it is amortizing at par. So you just have to work through this period, which I think one day -- and I think Lone Star's transaction is basically telling people there is value here, and there is a tremendous amount of value here. And one day everybody's going to wake up and say, you know what? There's no new production. And there hasn't been new production for a year.

Right, and as painful as the headlines have looked the last couple of quarters -- I mean, we can't overlook the fact that there's probably about $100 million or $2.50 a share of potential value that, if these bonds, the AAAs are money good, is going to come back in over time.

Absolutely.

Thanks very much.

Sure.

Your next question comes from the line of Bose George of KBW.

Hey, good morning. Actually, the first question I had was just what's the all-in cost of the securitization liabilities? And I assume that was the big driver f the increase in your cost of funds.

It worked out to about [755].

Okay, and it's fair to assume that's really what was pushing up the cost of funds.

And I think the other thing is that just on the bonds -- on repos themselves, the spread over LIBOR went up as well. And then we actually had, because we sold some assets in the first quarter and we did the securitization, we had some more swaps on the book than we wanted and we took them off.

Okay. And then just going forward, in terms of the marking to market your balance sheet, are you going to mark those securitized assets in liabilities, or are they going to remain at face? How is that going to work?

They're remaining at face. For GAAP purposes, they're treated as a financing, so they stay on the books at our amortized cost.

Okay, and then finally, just actually switching, because Steve kind of brought this up, as well, but just I was trying to think of growth opportunities given that the funding markets remain problematic, both the repo and securitization markets. Can you just discuss -- I know you're thinking of other ways to deploy capital. Just kind of what opportunities are out there, given the funding problems?

Well, I think that there's obviously a fairly large imbalance going on between where the loan markets are right now. Community banks and banks in general are funding jumbo prime mortgages at rates that are lower than where you need to do a securitization, effectively.

And what we're seeing is banks getting kind of full up on loan production. And I think one of the ways that we can actually aggregate the kind of credit risk that we want going forward would be to enter into agreements, say, credit-linked note agreements -- Bank of America's done some [refix] trades where they basically sell off the credit piece, or they do the securitization on their balance sheet and sell us off the credit pieces.

And that's one way you don't have to take the market risk or the warehouse risk on whole loans. And also, frankly, I think the re-REMIC market is going to be a fairly large part of our business going forward, too, which is tantamount to us term financing or term financing out a bond portfolio. And really, when we rethink the business, because we want to use new ways to apply leverage to the portfolio that are termed out and not use as much recourse leverage going forward.

Well, just to give you a degree of magnitude of the dislocation between the bond market and where loans are being originated, you look at your typical community bank, regional bank, and they're still originating 30-year fixed loans in the sixes. If you actually wanted to originate and buy loans and securitize them and then have the economics, you would have to buy them at an 11% yield, so it's a dramatic difference.

I mean, it's not the first time it's happened, and it eventually converges, because balance sheets get full, but right now it's pretty out of whack.

In terms of the timing, when do you think it's realistic to start seeing some of those transactions? Are they sort of things that are currently being worked on? What kind of hurdles?

Yes, you really -- with all the dislocations in the market, obviously, it's hard to put exact timing on anything. You have to work your way through what is going on, but, again, it's a lot of the things that we have in the works.

Great, well, thanks very much.

Thank you.

Your next question comes from the line of Jim Young of West Family Investments.

Yes, hi. Given the financing environments you're seeing even into the month of August, when do you think that you'll be able to get back to similar spreads that you were able to realize in the first quarter?

Well, that's a very good question. That's a hard thing to look out into the future and see. The market has currently got some serious dislocations going on. I would say that we're able to invest right now.

Back when we first contemplated Chimera, we said we could hit a return bogey with a moderate amount of leverage, and today, just to give you an idea of the dislocation in the marketplace, you can actually hit those same return bogeys without any leverage. So I think that gives you kind of an idea of the opportunity in this market.

Your next question comes from the line of Jeff Bronchick of RCB Investment Management.

Good morning, gentlemen and ladies.

Hi, Jeff.

Just maybe spend a little bit more time on the cost of funds increase, just looking at the second quarter, a little mortgage 101 here. You mentioned obviously the cost of the CBO securitization is a higher cost. A repo over LIBOR went up in the quarter and additionally you mentioned you sold some swaps, which had some effect on cost. Could you kind of maybe break that -- spend a little bit more time on that and then, here, how is that playing out now, here in the third quarter?

I think the thing is we had more swaps on for a period of time in the second quarter and the market backed up when we got out of those -- we just cancelled -- obviously just got out of them.

The rate that we're charged on our repo, during the first quarter it was LIBOR plus a certain number. During the second quarter, it's the number of LIBOR plus the additional basis points we're paying on our repo financing increased, just in the result of dislocations in the market. There is a premium to be paid to finance the securities at this time. As with everything else in the market, as we see stabilization, we would expect that premium to come back in line with where we were.

Got it. So it's not just access and haircuts. It's we'll give you access at X plus, and that continues.

Yes.

And also the securitization, in order to term it out, it costs you a bit more to do it in this environment. There's no question in a more normalized environment it would be at a much better level. But we just felt like the risks of not terming it out were far greater than paying the higher price to term it out and just move on.

Got it. Would you clarify exactly your current thinking on the state of the secondary? I know at the new company it's not Annaly like [Regan], just roll out an offering an hour. You have to re-file, it takes time as new company. But is this process more academic rather than you actually would sell stock below book value? Would you just clarify that?

Well, the opportunities, as we kind of talked about, are just unbelievable at the moment and we want to take advantage of that and we're always contemplating opportunities.

Are you effective with the SEC? In other words, now it's just a market timing cost-benefit analysis, or is there still process there?

The SEC has granted no review, Jeff.

Okay, got it. And so essentially you're looking at this as, well, obviously, we'd like to sell stock at a premium to book. It's a risk-reward. If the deal is that good and the math works, is that what you're saying?

Yes, I mean, these are generational-type opportunities. As we talked about the differential between some of the various asset classes and the way that we look at things is you're buying cash flows, irrespective of what the asset class is. There's no reason why the RMBS market should be where it is relative to CMBS or credit cards or autos or anything like that. And, again, to state that this market is shrinking.

There has been no new issuance and there will probably not be a lot of new stuff coming down the pipe. Yes, you have to deal with what's hanging out there on people's balance sheets or in the banking system, but, again, these are I think generational-type opportunities.

A number of players -- have you looked at running money for other people, actually, in an effective way, as an asset manager, and how close is that to realization?

Yes, I mean, w really would rather capitalize on these opportunities for the shareholders, instead of doing it for someone else.

In other words, if you can't do it effectively now, setting it up, running a pool of money as an asset manager for others, or you think capacity is limited and best you can, you want to do it for your own balance sheet?

Are you telling us you've got a chunk of money you want us to run for you?

Hundreds of millions of dollars.

All right.

So it's not --

Absolutely, we want to try and do it for the shareholders. And we do believe long term we will be successful at that, irrespective of the short-term dislocations that we have to deal with. Yes, we'd have to put it into perspective. These opportunities don't come around every day.

Are there any borrowings from Annaly in the second quarter.

Yes, we do have some --

49 million.

49 million as of June 30 and we have grown that position substantially.

Thank you very much.

You're welcome.

(OPERATOR INSTRUCTIONS)

Your next question comes from the line of Andrew Wessel of JPMorgan.

Hey, guys. Just one question on the assets. I don't think it's been touched on. Can you go into any detail on the MBS other than that they're AAA rated? MBS, is it all prime? Is it bank originated collaterally because they're Bank of America shelf deals, or kind of any sort of clarifying detail there so we can kind of wrap our hands around the 91 mark?

Most of the assets that we have are re-securitizations of Alt-A super-seniors, and we've restructured them to have substantial amounts of additional subordination. So just roughly, if you were to say the super-senior on issue had between 10% and 15% of credit support, our top piece of that, which we purchased had 30% to 35% credit support and that would be the majority of the MBS that we have.

Great, so on average we're thinking 30%, 35%?

Yes. I mean, we've actually -- none of those bond shave been downgraded and we've never had any kind of principal impairments.

Right, because once you get to the 30, 35 attachment point, you're talking about --

You're talking about 60% or 70% of the loans having to go down before you took a hit.

Right, like kind of a 50 -- 50, 60. 50% [parity] and frequency.

Welcome to the depression.

Right.

If that happens.

I'll be worried about my own self, as opposed to bonds. Good. And then the other question, in terms of -- I don't know if I caught that last question correctly, but in terms of the lending from Annaly, you said it was about $49 million at the end of the quarter and it's gone up substantially since then. Is that right?

Yes.

And then is that because of terms, or is it because you know Annaly is a better counterparty in terms of they won't jerk you around in the middle of a crisis? What's kind of the thinking behind that?

It's a combination of things, but it's all done at market levels and Annaly is very familiar with the collateral.

Right, so if you're not seeing good bids on collateral from your parties.

Absolutely.

Okay, great. Thanks a lot. I appreciate it.

If there are no further questions, I will now turn the conference back to Mr. Lambiase.

Well, thank you very much for listening to us today, and we'll talk to you in the next three months. Thank you.

Ladies and gentlemen, if you wish to access the replay for this call, you may do so by dialing 888-286-8010, or 617-801-6888, with an ID number of 14192596. This concludes our conference for today. Thank you all for participating and have a nice day. All parties may now disconnect.