Essent Group Ltd (ESNT) 2014 Q3 法說會逐字稿

Ladies and gentlemen, thank you for standing by. Welcome to the Essent Group, Ltd. third quarter 2014 financial results conference call. (Operator Instructions)

Please note that this call is being recorded today, Thursday, November 6, 2014 at 10:00 AM Eastern time. I would now like to turn the meeting over to our host for today's call, Chris Curran, Senior Vice President of Investor Relations. Please go ahead.

Thank you, Operator. Good morning, everyone, and welcome to our call. Joining me today are Mark Casale, Chairman and CEO; Adolfo Marzol, Executive Vice President and Larry McAlee, Chief Financial Officer.

Our press release, which contains Essent's financial results for the third quarter of 2014 was issued earlier today and is available on our website at essentgroup.com in the investor section. Our press release also includes non-GAAP financial measures that may be discussed during today's call. The complete description of these measures and the reconciliation to GAAP may be found in our press release in Exhibit M.

Prior to getting started I would like to remind participants that today's discussions are being recorded and will include the use of forward-looking statements. These statements are based on current expectations, estimates, projections and assumptions that are subject to risks and uncertainties which may cause actual results to differ materially. For a discussion of these risks, please review the cautionary language regarding forward-looking statements in today's press release, the risk factors included in our Form 10-K filed with the SEC on March 10, 2014, and any other reports and registration statements filed which the SEC which are also available on our website.

Now let me turn the call over to Mark.

Thanks, Chris. Good morning, everyone, and thank you for joining us today. I and pleased to report that Essent had another strong quarter of operating performance as we continue to build a high credit quality and profitable mortgage insurance portfolio.

For the third quarter, we earned CAD25.1 million, or CAD0.29 per diluted share, while growing our insurance in force to CAD46.4 billion. Our net income for the quarter increased 28% from CAD19.6 million earned last quarter, while our insurance in force increased 18% from last quarter and 65% compared to a year ago. Our increase in insurance in force continues to be driven by our strong market position.

During the third quarter, we added CAD8.8 billion of NIW to our insured portfolio, consisting of CAD7.3 billion of flow NIW and CAD1.5 billion of bulk NIW. For the 12-month period ended September 30th, 2014, the number of active customers generating NIW was 934 compared to 671 a year ago.

Our insurance in force growth continues to drive top line revenues and further operating expense leverage. Earned premium for the quarter was CAD60.3 million, a 20% increase from the prior quarter and a 76% increase compared to the third quarter a year ago. Our expense ratio for the quarter was 41% compared to 47% last quarter and 53% a year ago.

Finally, our credit quality remains excellent, ending the quarter with a default ratio of 15 basis points and as a result, our combined ratio for the quarter was 43%.

Now, let me turn our attention to our Bermuda reinsurer, Essent Re, which initiated activity during the third quarter. As previously reported, Essent Re was selected by Freddie Mac in July to participate in a recent ACIS transaction in which we insured CAD28.5 million of risk that Freddie Mac had retained as part of its STACR program. Also during the quarter, Essent Re began reinsuring new business from Essent Guaranty as part of the quota share entered into effective July 1st, 2014. We are very excited about this quarter's activity and continue to view Essent Re as an opportunity to create incremental shareholder value.

On the PMIERs front, we submitted our comment letter in September. Our letter reflects our view that strong and transparent standards are in the best long-term interest of our industry, policyholders and shareholders. We believe that such standards will restore confidence in our industry and can facilitate expansion of private mortgage insurance solutions in the US housing finance system.

Also, while vibrant and reliable private label securitization market has yet to return, strong and transparent MI standards can facilitate a future PLS market by restoring confidence to both issuers and investors regarding the benefits of private mortgage insurance.

Now let me turn the call over to Larry to cover some of the financials.

Thanks, Mark, and good morning, everyone. In addition to the strong financial results Mark discussed at the beginning of our call, I want to touch on some additional items. Our provision for losses and loss adjustment expenses for the third quarter was CAD1.4 million, compared to CAD966,000 in the second quarter of 2014, and CAD319,000 in the third quarter a year ago. Our provision for the quarter is in line with the slight increase in our default rate to 15 basis points as of September 30th from 13 basis points last quarter and 9 basis points a quarter at the end of the third quarter a year ago.

Our expense ratio for the third quarter was 40.6%, a decrease from 47% last quarter and 53.2% for the third quarter a year ago. Other underwriting and operating expenses for the second quarter were CAD24.5 million, slightly higher than our expenses in the second quarter of CAD23.7 million and CAD6.2 million higher from the third quarter a year ago. We continue to believe that for the full year 2014 other underwriting and operating expenses will be in the CAD95 million to CAD100 million range.

The consolidated balance of cash and investments at September 30th was CAD915 million, including cash and investment balances at the holding company of CAD47 million. To support the growth of our insurance businesses, during the third quarter Essent Group contributed approximately CAD100 million to Essent Re and CAD25 million to Essent Guaranty. The contribution to Essent Re will be used to support the ongoing affiliate quota share reinsurance transaction and participation in the Freddie Mac ACIS deal.

The combined statutory capital of the US mortgage insurance companies was CAD664 million, reflecting an increase of approximately CAD64 million compared to the end of the last quarter. This increase was the result of statutory earnings and the previously mentioned capital contribution from the holding company.

The combined risk to capital ratio of the US mortgage insurance business was 16.1 to 1 at the end of the third quarter. As of September 30, 2014, total consolidated GAAP equity was CAD795 million. Also as of September 30th, Essent Re had GAAP equity of CAD102 million and total risk in force of CAD462 million.

Now, let me turn the call back over to Mark.

In closing, we had an excellent quarter in our core business and our strong momentum continues in growing a profitable mortgage insurance portfolio. Our business development team has made great progress in expanding the Essent franchise throughout the US while the remainder of the Essent team provides the platform to support our growth and deliver best in class service to our customers.

Participating in Fannie Mae's risk-share deal, and Essent Re executing upon its first transaction with Freddie Mac is exciting for the future of our franchise. In addition, the affiliate reinsurance provides an opportunity to further leverage our Bermuda structure and increase shareholder value.

Essent is well positioned within our industry and the evolving US housing finance system. We believe that Essent can play even a larger role in facilitating lending by investing in long-term mortgage credit risk. We remain very optimistic about the future of Essent, our industry and the value of mortgage insurance in housing finance.

Now let's turn the call over to your questions. Operator?

(Operator Instructions) Eric Beardsley, Goldman Sachs.

If you could just talk briefly about what led to the stronger premium rate this quarter, if that was just mix or if there was anything else.

It's Mark. It's just mix. There's no real underlying driver to it.

And then just on your capital position today, just curious, how comfortable are you having risky capital go up from here? And how much dry powder do you have left at the holding company that pushed down to the MI subsidiary?

I would say we're comfortable with our capital position, but we continue to evaluate capital needs both within Essent Guaranty and Essent Re and align that to our growth forecasts.

And I guess on the last call you had said you had been growing a bit faster than you initially anticipated it. Is there any thought in terms of what the timelines might look like for you to, I guess, need incremental capital from here?

Yes, like I said, we continue to evaluate capital and really align it to our forecasts. So no change from that until we look at it.

Mark DeVries, Barclays.

We've not seen much bulk volume in the industry at all since the crisis and you put up a nice CAD1.5 million of volume this quarter. I'd be interested in just hearing your thoughts kind of qualitatively, Mark, on what kind of opportunity set you're seeing there. What the business looks like, and also if you could comment on whether the CAD1.5 million you did this quarter was primary MI.

I think we disclosed some pretty good detail on the Fannie Mae transaction or the bulk transaction in Exhibit D, so we're not going to go into a lot more detail around that. Other than to say we look at it as really another addition to our portfolio. And as you guys know, the portfolio is really what's driving the revenue growth at Essent, so from that standpoint, very pleased on how we added to the portfolio in the third quarter.

In terms of the trends on the bulks, really, Mark, very little visibility into it. So I mean that was a transaction that we liked and were comfortable with but don't have a lot of visibility into the future of those type of deals.

And then on credit, I mean losses obviously remain extremely low. Interested in your thoughts on whether the credit's evolving even better than you would have thought.

I mean I think we're very pleased with the underwriting from our lender partners and the credit that we've seen to date. I would just caution to investors, it's still very early in the process. Our book is very young, so although we're pleased with the early performance and the credit characteristics of our portfolio, it's too early to call in terms of the ultimate loss rate.

Jack Micenko; SIG.

Curious as to what kind of business level you think the CAD100 million operating expense number could kind of carry into either on a 2015 basis or some sort of annualized basis? Trying to get that how much more operating leverage you can see coming out of the expense base.

It's Mark. I would say with the CAD100 million, remember we really wanted to over capitalize that subsidiary in the beginning, just like we did with Essent Guaranty. We believe really in strong capital levels. Essent Re and Essent Guaranty are no different, we continue to evaluate the capital needs in both and align that with our growth forecasts.

And then on tax rate. I mean I know you'll probably address this later on and it's dependent on business volume. But can you give us a sense of what the opportunity set is in sort of blended tax rate in 2015 or 2016? Or is it just too hard to guess at this point?

It's Larry. Let me respond to that question. I think as you know, we've talked about this in prior quarters, substantially all of our revenues and all of our expenses have been incurred in the US and accordingly our effective tax rate's been pretty close to the federal statutory tax rate of 35%. As a result of the transactions executed in Bermuda, the proportion of our consolidated earnings generated offshore will increase. And as a result of that, you'll see a further reduction in our tax rate beginning in 2015.

But you don't have a sense of sort of magnitude at this point for modeling purposes?

No, I think we're seeing about 25% through the affiliate quarters.

I think the math's pretty clear. And Jack, I'm not sure, were you asking an expense question earlier? I think you may have and I answered the wrong question. In terms of expenses, I think the way to look at is kind of 7% to 10% growth over the next few years, kind of still guiding towards 95 to 100 this year and kind of 7% to 10% growth over the next few years.

Yes, but I appreciate the other answer anyway. And then just before I let you go, big picture question. 97, Mark, you've been around MI for a long time. I mean what percentage of the market had 97 been in a, I don't know, call it a 00 to 04, 98, something normal where credit standards weren't crazy. And then on that, I mean piggybacks were a big deal then, regulatory capital, bank rules probably not this time around. Did you ever have a sense of what piggyback was doing, was taking from MI that may be an opportunity set for the industry NIW numbers prospectively?

On 97s, I'm mean I think you can even look to earlier within Essent when 97s were still outstanding. And it's still -- it's a pretty small percentage, so and Fannie or Freddie haven't officially rolled any program out. So I think there's pretty low visibility into it and it's very incremental as it is.

In terms of piggyback, it's a little difficult to size that. I think it was probably some of the better credits that you saw go towards piggybacks back kind of in the late 1990s, early 2000s and those are in our originations now. So tough to say what that adds incrementally to the industry.

Geoffrey Dunn, Dowling & Partners.

I was hoping to get your thoughts on the singles market through a couple of questions. First I'm curious, have you guys participated in any of these aggregate single deals? And then second, hearing more and more about negotiated single rate cards, kind of reminding us of the pre-crisis off card rating approach for the industry. Is the singles a good business or is it kind of emerging as a -- maybe I'm overstating it -- a necessary evil to get in for borrower paid monthly? I'm curious of your overall thoughts on the singles business and how it's evolved over the last couple of quarters.

We don't comment on any particular like lenders or transactions or anything of that sort. I would just really point you to our portfolio. And we really look at the portfolio and how we grow the portfolio. What are the premium characteristics of the portfolio? What are the credit characteristics of the portfolio?

Our single percentage has been pretty consistent, around 20% of our volume, so I think you've seen some industry shift maybe over the past year because of the BPMI singles have kind of gone away because of the QM and it's kind of shifted to the LPMIs. So you're seeing some geography switch amongst maybe some of the MIs.

But in general, we've seen price competitions since the day we started the business. I mean there was one insurer in particular that had a lower monthly and single prices than everyone else and continued to grow the business. So pricing comes and goes. We really focus on how to continue to help our clients grow, how do we manage our portfolio? And we don't get a lot caught up in kind of the quarter to quarter kind of changes or ebbs and flows of the business.

How about if asked differently then? How did the returns on your singles business compare to your monthly?

I would say we're very comfortable with the overall returns on our portfolio. We don't break out individual deals or transactions or singles versus monthlies. Overall I mean I just point you to the average premium yield in our stat supplement and it's pretty strong.

Sean Dargan, Macquarie.

I have a question about the discussion around EFHFA providing more clarity around rapid warranty liability. Do you think this is really -- this is your opinion, do you think this is really holding back banks from lending now? And do you think if there's anything on the margin done around rapid warranty liability that that would increase lending to first-time homebuyers?

It's Mark. I'll start off and maybe Adolfo can add. That's a little bit outside our bailiwick. I mean that's really a lender issue. I would say I think the lenders are better equipped to answer that question. I do not see a lack of credit availability in the market today, both with conventional and FHA. So in terms of changing or altering some of the repurchase requirements, I think that helps the liability position of our lenders, which we think would be a very good thing. But I don't see it as really opening up more credit availability.

I mean our view on the market is it's really kind of lack of demand that's holding back the market, which we think will probably improve over time as the economy improves and so forth. But we don't see that holding back the market at this time.

This is Adolfo. I guess the only thing I would add is that I'm pleased in the MI industry that as an industry we rolled out new master policies October 1st, and I think those master policies, at least for our industry, are a tremendous step forward, broadly speaking, in terms of a fair treatment of claims and handling of rep and warrant issues. So I think a big step forward for the MI industry and if there is any lack of confidence to lender was a lack of confidence to lend because of rep and warrant concerns around MI. I think certainly Essent had addressed that issue for some years, but a very positive step forward for the industry.

And do you see any opportunity to work with the VA? Just wondering what discussions you may have had with them.

This is Mark. Very early in the process, very difficult to dimension kind of the ultimate prospects for that type of business.

Bose George, KBW.

Actually Trevor Seibert stepping in for Bose. Just wanted to ask about your growth prospects. How much of the market do you think is left for you take on? I think you talked about before having turned on about half of your client goal in terms of the number of clients. And a little more than that in terms of volume. So can you just give us an update on where those goals stand and what the growth opportunities look like?

It's Mark. Not a lot of change in kind of the overall market penetration. We continue to increase kind of the depth and breadth of our customer base, so it's grown from I think 671 this time last year to 934. And we look at really activating new clients and then utilization of clients.

So I would say we're continuing on the path towards that and it's something we really focus on to continue to kind of build out the business. And we look at it as a way to really continue to increase flow into our portfolio, which again is what really is driving the business at Essent.

And I think you mentioned earlier on the 25% limit to seeded business to your affiliate. Can you -- do you need approval from the GSEs to over that 25% or are you not affected by it?

In terms of the 25%, we're comfortable with that percentage right now. And that percentage could obviously change over time, higher or even lower. But I would say right now we're very comfortable with the percentage.

Rick Shane, JPMorgan.

Most of my questions have been asked and answered, but I just wanted to touch on credit a little bit. Mark, you had sort of declined to answer whether or not you think this is a seasoning issue or just an overall quality issue in terms of why credit's trending better, at least at this point. Would love to get your thoughts. Can you delve into it a little bit more in terms of do you think it's a mix issue? Is the portfolio -- is there something in terms of the originations that have been better in terms of FICO score? Or is this overall macro in terms of price appreciation do you think?

Rick, I think it's a combination of factors. I do think the manufacturing quality of the loans by our lender partners has been excellent. They've done a great job. I think the overall FICO mix is higher than it's been in the past, which I think also contributes to the performance, along with the recovering economy and like slower home price appreciation, which we like.

In terms of the ultimate claim forecast, I would point folks back to the late 1990s, which is kind of a comparable period of which we've seen where the claim rates were probably in that 1.5% to 3% range. I think the lower part of the range, a lot of those folks were refinanced out in the early 2000s. So I would focus on that kind of 2% to 3% range as we think probably mid to upper part of that range is kind of the ultimate claim rate. But I would say generally, again it's early in the process, so we like to caution folks on that, but we're certainly pleased with the characteristics of what we've originated life to date.

Sam Cho, Credit Suisse.

I'm filling in for Doug Harter. So I noticed that quarter over quarter that the hold cold cash declined significantly. I know you guys typically don't pin the number, but what was the logic being this?

It's Mark. I think the driver of that was really we, and we announced this last quarter, we put CAD100 million down from Essent Group into Essent Re. So that's really driving the number.

Jason Stewart, Compass Point.

This is Amy sitting in for Jason. In terms of average paid claim, the quarter's increase kind of went against the declining trend for average loan size. Was the increase due to maybe one particularly large default? And where do you see this trend heading over the next year relative to the first quarter and second quarter?

It's Mark. I'll start and then kick it over to Larry. I wouldn't get into kind of individual claim amounts. Our book is so young and the claims are so few that there's no real trends.

Yes, I would echo what Mark said. I think it's really just a lot of small numbers. So one claim can have an impact between quarters. But overall, we're not seeing any trends in terms of -- that we see are substantial.

So the portfolio is showing a shift toward lower FICO and to a lesser degree a higher LTV product. Will this trend continue or was the NIW mix this quarter kind of a good proxy to use for the credit profile in your business over the near term?

I think the credit profile has shifted a little bit over the past 12 months to slightly lower FICOs and slightly higher LTVs. And we mentioned this a couple of calls ago. It's really the mix, the change in mix from purchase -- to purchase from refinance and purchase tends to have a little bit higher LTV, a little bit lower FICO base. So again, nothing substantial in terms of the overall characteristics of the portfolio, but we have seen a slight change over the past 12 months.

And then just real quick, going back to the 97 LTV program. Is it fair to say that if it does end up being a bigger market, PMIs who are maybe not capital constrained due to PMIERs or statutory guidelines could potentially have an advantage to certain peers who are?

I wouldn't look at it that way. I think 97s, even in terms of the market, is going to be a relatively small piece of it. And I would expect all the MIs to participate in that. So no advantage for MI over another in that market.

There are no further questions at this time. I turn the call back over to Mr. Mark Casale.

Thank you, Operator. We'd like to thank everyone for participating in today's call and enjoy the rest of your day.

Ladies and gentlemen, this concludes today's conference call. You may now disconnect.