Chimera Investment Corp (CIM) 2017 Q4 法說會逐字稿

Good morning, and thank you, everyone, for participating in Chimera's Fourth Quarter and Year-End 2017 Earnings Conference Call.

Before we begin, I'd like to review the safe harbor statement. During this call, we will be making forward-looking statements, which are predictions, projections or other statements about future events. These statements are based on current expectations and assumptions that are subject to risks and uncertainties, which are outlined in the Risk Factors section in our most recent annual and quarterly SEC filings. Actual events and results may differ materially from these forward-looking statements. We encourage you to read the forward-looking statement disclaimer in our earnings release in addition to our quarterly and annual filings.

During the call today, we may also discuss non-GAAP financial measures. Please refer to our SEC filings and earnings supplement for reconciliation to the most comparable GAAP measures.

Additionally, the content of this conference call may contain time-sensitive information that is accurate only as of the date of this earnings call. We do not undertake and specifically disclaim any obligation to update or revise this information.

I will now turn the conference over to our President and Chief Executive Officer, Matthew Lambiase.

Good morning, and welcome to Chimera Investment Corporation's Fourth Quarter 2017 Earnings Call. Joining me on the call this morning are Mohit Marria, our Chief Investment Officer; Rob Colligan, our Chief Financial Officer; Choudhary Yarlagadda, our Chief Operating Officer; and Victor Falvo, Chimera's Head of Capital Markets. I'll make some brief comments, and afterward Mohit will review the changes in our portfolio, and Rob will discuss the financial results for the period, then we'll open the call for questions.

Chimera recorded a strong 18.8% economic return for the full calendar year of 2017. The company paid $2 in dividends, and had $0.98 increase in book value over the period. Since the beginning of our risk retention strategy in 2016, where we focused on low loan balance season mortgages, Chimera has generated an economic return of 5% in 6 of the last 8 quarters. This performance demonstrates the continued income generation capability of our investment portfolio and the bond market's increased depreciation with the mortgage assets that we have acquired. The recovering housing market and the improving domestic economy has created a positive tailwind for the company's return over the course of the year.

The U.S. economy has finally started to show signs of expansion after several years of dormancy. We've seen higher GDP growth and lower unemployment rates, which are very positive data points for the housing market. As we've stated on previous earnings calls, it's been our opinion that the U.S. housing market is recovering at a brisk pace, and we believe that our portfolio is well positioned to continue to benefit from these improving conditions. As of year-end, 82% of Chimera's capital was allocated to mortgage credit. In October, the Case-Shiller Home Price Index was up 6.2% year-over-year, and U.S. homebuilder confidence jumped in December to the highest level since 1999. Additionally, in November, new home sales reached the highest level since before the Great Recession, and the inventory of single home -- single-family homes available for sale showed significant declines with starter home section of the market having the most supply constraint.

Low housing inventory occurring at a time when more people are working and the economy is growing, should bode well for future home price appreciation. This is important because home price appreciation is a key valuation factor in pricing residential mortgage credit.

Chimera has a unique portfolio of $13 billion of season loans with an average mortgage balance of $90,000. The tight housing inventory, especially in the starter home section of the market, will likely be beneficial to the credit metrics of our low loan balance mortgage portfolio. Increasing home value should translate into lower loss expectations and potentially higher prices in the future affirming our belief that residential mortgage credit offer some of the best risk-adjusted returns available in the entire fixed income market.

The green shoots of our economy have afforded the Federal Reserve the ability to increase short-term interest rate and to start to decrease their balance sheet. While we expect 2018 to be a challenging market for fixed income assets, we feel confident in our portfolio's ability to continue to produce a strong dividend for our investors.

Last night, we announced a $0.50 per share -- $0.50 per common share dividend for the first quarter, and affirmed our expectation for $0.50 dividends per quarter for the remainder of 2018. We believe that $2 per share, or a 12% return generated from our portfolio is an enviable rate of return in this valuable market, especially when you consider the improving housing fundamentals. It's unfortunate that the market has sent Chimera stock price lower in the last month, but we're hopeful when the dust settles, that investors will once again recognize the earnings power of our portfolio.

Considering the market's recent turbulence, it's important for investors to remember that harvesting real returns from quarterly dividends has been a winning strategy over the longer term, and we're confident that Chimera is well positioned to continue to produce strong dividends and to be the engine of real return for our shareholders in the quarters ahead.

And with that, I'll turn it over to Mohit to discuss the changes in our portfolio for the fourth quarter.

Thank you, Matt. Q4 started and ended like prior quarters of 2017, with tighter credit spreads and higher equity markets. Our yield curve continued to flatten as the Federal Reserve raised short interest rates as expected by 25 basis points in December, and a total of 75 basis points for 2017. The yield curve flattened by 33 basis points for the quarter, and 73 basis points for the year. As Matt stated, the economy is expanding as measured by GDP and the housing market is performing very well. These economic developments are very positive for mortgage credit. Our portfolio has benefited with lower defaults on the year and other credit losses relative to our purchase expectations.

While 2018 has started with 10-year yields increasing about 40 basis points over inflation concerns, there is little reason to anticipate a significant further spike in rates like those experienced post the 2016 election, when 10-year yields increased by over 85 basis points.

This quarter, Chimera called 4 outstanding securitizations. Springleaf 13-2, Springleaf 13-3, CSMC 2014-CIM1 and [CIM 2015-5] . These fields were refinanced and relevered into CIM 2017-8, resulting in a savings of over 100 basis points. We effectively reduced our weighted average cost of financing from 4% on the 4 call deals to 3% cost of financing on CIM 2017-8.

Overall, 2017 was a very good year for our portfolio, and for the full year, Chimera acquired $6.5 billion in seasoned low loan balance performing loans. We completed 6 securitizations of newly acquired loans. We completed our first rate of securitization with newly acquired loans. With the completion of CIM 2017-8, our eighth securitization for the year, we have now successfully refinanced and relevered all of the Springleaf deals acquired in 2014, validating our proof of concept.

Total portfolio loan securitizations for 2017 was $6.9 billion, up from $5.8 billion in 2016. And lastly, we increased our Agency CMBS portfolio by $563 million, bringing the total Agency CMBS portfolio to $1.9 billion, which is now 46% of the Agency portfolio, up from 34% at the end of 2016.

As we look forward into 2018, the portfolio is well positioned. Our Agency portfolio is evenly distributed between residential Agency pass-throughs and Agency CMBS. Our securitization portfolio continues to pay down at a low and manageable rate level while generating above-market returns on our cost basis.

Our seasoned low loan balance performing loan strategy is performing better than our purchase expectations and it continues to benefit from improved economic and housing data, prepayments on our high-yielding mortgage credit portfolio remain moderate, and we have 4 mortgage credit deals outstanding with a total unpaid simple balance of $1.3 billion, which are callable in 2018, subject to market conditions.

In closing, healthy home price appreciation and strong employment are supportive for our credit strategies. In addition, there could be a tremendous opportunity to add RMBS investments as the Federal Reserve continues its tapering. We believe that we can generate strong earnings while maintaining book value stability through a variety of interest rate environments.

With that, I'll turn the call over to Rob.

Thanks, Mohit. I'll review financial highlights for the fourth quarter and full year 2017. GAAP book value at the end of the fourth quarter was $16.85 per share, and our economic return on GAAP book value was 2.6%, based on the quarterly change in book value in the fourth quarter dividend per common share. Our economic return for the year was 18.8%.

GAAP net income for the fourth quarter was $98 million compared to $130 million last quarter. For the year, GAAP net income was $491 million compared to $549 million last year. On a core basis, net income for the fourth quarter was $116 million or $0.62 per share, in line with last quarter.

Securitization deal expenses were $5 million in the fourth quarter compared to $3 million incurred in the third quarter. For the year, core net income was $440 million compared to $455 million last year.

Net interest income for the fourth quarter was $158 million, up from $156 million last quarter. The increase in net interest income relates primarily to Chimera's loan portfolio, partially offset by higher financing costs as LIBOR increased. For the year, net interest income was $606 million, up from $586 million last year.

For the fourth quarter, the yield on average interest-earning assets was 6.3%. Our average cost of funds was 3.6% and our net interest spread was 2.7%. Total leverage for the fourth quarter was 4.6:1, while recourse leverage ended in the quarter at 2:1. Our net interest return on equity was 16.9%, consistent with the last quarter, and our return on average equity was 12% for the quarter compared to 15% last quarter, as the investment portfolio experienced some mark-to-market losses during the fourth quarter.

Expenses for the fourth quarter, excluding servicing fees and deal expenses, were $12 million, in line with the third quarter. I do expect expenses in 2018 to grow by approximately $1 million per quarter, related to stock-based compensation.

That concludes our remarks, and we'll now open the call for questions.

(Operator Instructions) Our first question will come from the line of Bose George, KBW.

The first question is just on the cost of funds. Good job keeping that stable. When you look out into 2018, can you talk about where that could trend if the Fed raises rates a few times. You noted you've got securitizations you can call, so I guess that's the offset there, but can you just kind of walk through the different ways that could play out?

George, this is Mohit. So as far as the consequence go, as you mentioned in 2017, we had 3 Fed hikes and our cost of funds did go up on the portfolio as Rob alluded to in his opening commentary. As we look forward to 2018, there are 2, potentially 3, rate hikes baked into the markets, and cost of funds typically reflect that already as we sort of look at how far we want to take up the financing. It's more prevalent on the Agency side, because some of our non-Agency stuff is term financed, and anything we have on recourse is also longer dated. I mean, we have 6-month, 12-month, in some cases, 3-year trades on. I think it will be less impactful there. And as you mentioned, we have the ability to call 4 deals, and as those deals come up for call, subject to market conditions, we have the ability to, again, term finance everything based on economics at that point in time.

Okay, great. And then just in terms of the pipeline for acquisitions. Can you talk about how you're seeing things out there right now?

Yes. Even -- the year started with obviously, a lot of interest rate volatility. The 10 year sold off over 40 basis points since the start of the year, and high-yield and corporate spreads have wind down a little bit. But on the resi side, stuff has held on pretty well. And as a result of that, the prices that are retainable currently don't look as attractive from a risk-adjusted return profile for us. We're going to be cautious deploying capital, but there are -- a lot of opportunities to invest capital to the extent we think it makes sense. There's been several large pools that have come out for the bid in the first several months and each one is trading tighter than the prior one. So I think it will be interesting to see once the dust settles, what the clearing levels are for incremental assets. But it will be a challenging environment.

Yes. Bose, this is Matt. I would just like to add to that thing that we are very aggressive investors when we like things in the marketplace and we see good opportunity. And I think for us, and when we sit around and we look at this market, we see interest rates backing up, the Fed is in play, and credit spreads are pretty tight at the moment. And I think that flashes caution for us. And I think when we're looking forward in this market, I think we are -- we're very happy with the portfolio and the position and we feel pretty confident, as you can see from our announcement last night, that we can produce a very high real return for our shareholders over the course of the year. But I would say that we're not looking to be super aggressive in this market. I think we're pretty cautious right now. And I think that being in a lower-levered position and having some firepower as things do cheapen up, we can jump on them. But I think right now, I think it's prudent to be cautious.

Okay, great. It's just -- one for more for me. Just book value since quarter-end, has there been much of a change?

I mean, as I mentioned, even with the [softened] rates, I mean we expect book value to be down less than 1%, if that was to end today. Again, we still have 2 months before the quarter-end is completed. But I think it will be muted impact on book value as we saw in Q4.

Our next question will come from the line of Sam Choe, Crédit Suisse.

You guys actually kind of answered it on Bose's question. But I guess, when we are thinking about leverage, you said you guys are going to be strategic. So is it safe to assume that the leverage level is going to be pretty consistent with 2017?

Correct. I think as Matt and I mentioned in the prior question, we're going to be prudent in sort of finding investment opportunities that are accretive. So I don't see an uptick in leverage in a meaningful way in 2018.

We don't need -- we don't -- and just to follow up on that. We don't need to increase leverage to meet our dividend pay rate. So -- and I don't think in this market, it's wise to take up leverage to chase after earnings when the spreads are tight and the market is really flashing caution.

Our next question will come from the line of Trevor Cranston, JMP Securities.

Most of my questions have been asked, but one more on the Agency portfolio. Obviously, there's been a decent amount of rate volatility so far in 2018. Can you guys just comment on how that impacts your thinking on the composition of the Agency portfolio? And if you think there may be a sustained period of higher rate volatility that would impact your thinking on how you'd manage the Agency book.

Trevor, we've said this over the last several earnings calls. Starting 2014, we have started adding Agency CMBS to the portfolio, given the backdrop of what the Fed and -- may do in terms of interest rates as well as tapering. And in my opening remarks, I mentioned our Agency CMBS portfolio is now 50% of our Agency capital allocation. And the Agency CMBS portfolio exhibits better convexity profile and locks in the NIM more closely to match future dividend earnings power as opposed to the Agency pass-through portfolio and given the rate back that we've had since the start of the year, and our expectations over another 2 to 3 hikes this year, coupled with some mortgage spread widening, I think we're well positioned to be able to sustain book market volatility within that and why our book value will have minimal impact in 2018.

Yes. And I would just add to that. As we see the Agency residential mortgage-backed securities pay down, we've been taking those paydowns and trying to add them to the Agency CMBS. We like to -- we take the paydowns from the residential pass-throughs and we try to, when they're available, we like to buy Ginnie Mae project loans and because of the favorable prepayment characteristics on that. And that's an ongoing, and you've seen that over the last couple of years, you've seen the Agency, the Ginnie Mae project loans and that type of paper increase in our portfolio and while the residential mortgage-backed securities to be getting smaller.

Our next question will come from the line of [Jim Delisle] Wasatch Advisors.

You guys -- you mentioned stock price a little bit earlier, Matt. You guys were very restrained when you were trading a big premium to book in by some measures that were sometimes -- well, in the last few weeks, that you guys were possibly trading below. You also have a model that -- I heard a yes on that? Did I -- I thought I heard an utterance on that one. Anyway, you guys have kind of a unique model where based on your paydown speeds and things like that, that you can actually do a share buyback without simultaneously significantly increasing your leverage. Do you have a share buyback that's been authorized by your board, would you consider one in case we have further dislocations?

In -- matter of fact, the Board of Directors, we authorized a $100 million share repurchase program recently. And frankly, it's my intention to utilize that authorization depending on the market, the prices, market conditions going forward.

Right. And when you -- if you were to -- when you are, if it's a downturn market obviously, to use that buyback. Would it be just relative to book, or also relative to your competitors where they're trading at the time?

I really don't want to give too much clarity on -- and trade against myself or give anybody any information on what we may or may not do. I think it'd be better to talk about what we actually do at the end of next period.

Our next question will come from the line of Lee Cooperman, Omega Advisors.

I think my question has been asked, but the -- what amount of unemployed capital do we have where you could earn a spread on them when that earning is spread now?

Lee, this is Mohit. We have a box position that we maintain just in case of some market disruptions. We don't keep too much cash around. Most of our assets are going to be in the form of Agency pass-throughs, which we view as cash surrogates. But having cash, ample cash on hand is going to be dilutive to the earnings power. So we don't typically keep too much cash around. But all our assets are earning some spread, to answer your question.

Got you, okay. I think we have a call later, so I won't ask any questions, I'll leave it to other people.

Feel free to ask questions. It's an open forum.

Okay, fine. So I guess the question that's really been asked, when you say you don't want to trade against yourself, the reality is you're trading against your shareholders. So you ought to really feel more comfortable in telling everybody what your modus operandi is. Because my question is the priority for the use of the cash flow, do you want to reinvest in the business? Do you want to boost the dividend? Do you want to buy back stock? How would you list the priorities?

Lee, this is Rob. Why don't I just add -- we did buy back a meaningful amount of shares in 2015 when we were trading below book. And I think when we went to raise capital in the preferred markets, the markets were very healthy and open for us. And so to the extent that we trade below book, I think we would be active buyers of that, of the stock below whenever trades are below book value. And if we need more capital, we see opportunities, there's dislocations, I think the capital markets have been good to us. We have opportunities to raise capital in preferred markets, convertible markets. And we want to make sure that we're building a good capital stack that's sufficient and well positioned for the company.

Lee, to be clear with all of that, is that we do believe and we -- in the past, we always -- we have bought the shares below book value. And I think, right now, in the marketplace and seeing what I see in the landscape in front of me for investable assets and mortgage credit, I think buying back the shares is the best option for the capital at the moment. Especially when it's below book value.

Let me be clear. I think you guys have done a fabulous job for the shareholders and I'm very pleased. I was just trying to understand the priorities internally. But you guys have done an excellent job and you need to be congratulated on what you've done for the shareholders. Just two other questions. My theme is -- we're heading towards normalization, we still live in an abnormal world when you look at the fact that there's $11 trillion of sovereign debt with negative interest rate and people get paid in Denmark to live in a home, it's crazy. But if we're on the path to normalization, obviously as a rates rise, book value will be negatively impacted, but your reinvestment rate will improve. Net-net, if we had 4 Fed moves this year, you feel comfortable that we're in good shape?

Yes. I think our portfolio -- listen, the book value went up last year when we saw rates rise. And we saw the Fed in play a little bit last year as well. So it's -- I think mortgage credit is in a very good spot. We own a lot of it at the moment. And I don't see it really weakening on a technical basis in the near future. Who knows what happens farther out. But I think we're in a very good spot for credit pricing. So what happens in interest rates, it is truly anyone's guess here. But I think we have stated that we're going to be really conservative here at the moment. We don't think it's a smart market to lever up into. And we look at -- and our role is to make -- the dividend is the #1 priority, but the #2 priority is make sure we don't lose book value. So they go hand in hand. And I think when I'm -- when we model out our portfolio and we think about our earnings, we can be pretty conservative in our investment outlook and still produce a 12% return. I think that's a great place to be in, in this marketplace.

Thank you. I'll now turn today's conference back over to Matt Lambiase for closing comments.

Well, thank you all for joining us on the Fourth Quarter 2017 Chimera Investment Corp. Earnings Call. We appreciate you participating in our call this morning, and given all the recent volatility in the markets, we appreciate you as shareholders and we look forward to speaking to you in May. Thank you.

Once again, we'd like to thank you for participating on today's conference call. You may now disconnect.