Invesco Mortgage Capital Inc (IVR) 2009 Q4 法說會逐字稿

Good morning, ladies and gentlemen. This presentation and comments made in the associated conference call today may include statements and information that constitute forward-looking statements within the meaning of the US securities laws.

Forward-looking statements include statements with respect to our beliefs, plans, objectives, goals, targets, expectations, anticipations, assumptions, estimates, intentions and future performance. Forward-looking statements also include statements regarding interest rates, non-agency funding opportunities, TALF financing opportunities, commercial loan opportunities, first-quarter 2010 earnings, and the mortgage market environment.

In addition, words such as an anticipate, believe, will, expects and plans, as well as any other statement that necessarily depends on future events, are intended to identify forward-looking statements. Forward-looking statements are not guarantees, and they involve risks, uncertainties and assumptions. There can be no assurance that actual results will not differ materially from our expectations.

We caution investors not to rely unduly on any forward-looking statements, and urge you to carefully consider the risk items filed under the caption risk factors, forward-looking statements and management's discussion of analysts and financial condition and results of operations in our prospectus, and quarterly reports on Form 10-Q which are available on the Securities and Exchange Commission's website at www.SEC.gov.

All written or oral forward-looking statements that we make or that are attributable to us are expressly qualified by this cautionary notice. We expressly disclaim any obligation to update the information in any public disclosure if any forward-looking statement later turns out to be inaccurate.

Welcome to the Invesco Mortgage Capital Inc.'s investor conference call. All participants will be on a listen-only mode until the question-and-answer session. (Operator Instructions). As a reminder, this conference is being recorded.

Now, I would like to turn the call over to the speakers for today -- Richard King, Chief Executive Officer; John Anzalone, Chief Investment officer; and Don Ramon, Chief Financial Officer. Mr. King, you may now begin.

Thank you. Good morning and thank you for listening to the Invesco Mortgage Capital quarterly earnings call. Today we plan to address in our prepared remarks the Company's fourth quarter of 2009 financial results, the recent capital raise, and details regarding the composition and performance of the portfolio, including our views on the market. These views impact the allocation of our equity among broad strategies, and guides the selection of portfolio assets.

In 2009, we implemented the strategy described in our IPO. We broadly met or exceeded our goals in terms of asset allocation, return on equity and risk targets, and that resulted in a $1.66 per share of dividends or a 16.6% dividend yield. Combining the dividends with the improvement in the stock price, total return to our shareholders was over 22%.

We count this as a success in terms of not only of performance, but also a transparency with investors and execution of our game plan. In January of this year, we raised additional capital because, one, we like our opportunities to invest in capital; two, we have the capacity and talented team to find and execute on the best opportunities; and three, we believe a larger equity base will lower our cost as a percentage of equity, and the larger flow will improve the liquidity of our investors' stock.

The offering netted $163 million of investable proceeds, and our plan for the allocation of this equity is similar to the existing portfolio. We anticipate similar leverage on agency RMBS and CMBS agency in the 6 to 8 range; CMBS in the 3 to 5 range. And we will have modest leverage, up to one turn, on the non-agency RMBS.

We are well on our way to completing the investment ramp, with about 85% of the new equity fully deployed into leveraged mortgage assets. Our flexible strategy and our teams covering residential and commercial, both securities and loans, allows us to position for multiple views across all corners of the mortgage market.

While we are optimistic about the long-term outlook for the mortgage market, we continue to face headwinds -- underwater assets in the banking system, especially commercial real estate loans and residential second liens, over-levered consumers, weak job creation, and large budget deficits locally, nationally and globally.

Due to these headwinds, we expect the Federal Reserve to resist raising the funds rate throughout 2010. In agency space, this means we position to benefit from low funding rates throughout the year, select assets with favorable repayment characteristics, and put in place hedges to maintain a tight duration gap, matching assets and liabilities on a longer-term basis.

We have been more patient ramping agency purchases due to the upcoming end of the agency purchase program, and because we anticipated the buyout recently announced by Fannie and Freddie. That view also led us to portfolio shifts in Q4 to position for the buyouts we expected to occur.

We believe the most senior in the capital structure non-agency RMBS and CMBS remain attractive at current prices, based on our loan level modeling of default losses and deal cash flows. News coming out of Washington and Europe, however, has allowed us to buy non agencies at cheaper levels than we anticipated, which has been beneficial to the Company.

We have also taken advantage of the CMBS TALF window following the equity raise, and expect to do so again before the program ends in March. As for present financing, terms continue to become more attractive. Financing arrangements for RMBS are improving in terms of fees, margin rate, advance rate and time to roll.

In addition to expanding the repurchase agreement counterparties, we are negotiating private financing facilities for both RMBS and CMBS.

Don Ramon, our CFO, will now review the fourth quarter and 2009 financials. Don?

Thanks, Rich. We are very pleased with our performance during the first six months following our IPO. The early deployment of capital was a key driver for our 2009 earnings.

Turning to page 3 on the slides, I will review the fourth quarter. First, with net income for the fourth quarter, we had $10.5 million, which was an increase of $3.3 million from Q3. This represents $1.02 per share compared to $0.70 per share for Q3.

The increase was primarily driven by two factors. The first, accumulating dollar gain on sale of securities that we received while rebalancing the portfolio, and John Anzalone is going to get into that in greater detail in just a little bit.

We also had $1.1 million improvement in net interest income. This represented a 12% increase and was primarily driven by approximately $1 million increase in non-agency RMBS income and about $500,000 increase in CMBS income. Again, these were primarily because of our ramping of those took a little longer than the agency did during Q3.

For the two quarters since the IPO, our net income was $17.7 million. When you deduct the small net loss during our development phase, our net income for 2009 was $17.5 million.

As of the fourth quarter -- or as with the fourth quarter, the key contribution came from net interest income at $18.9 million, and $2 million from gain on sale of securities. This was offset by $3.3 million in G&A expenses. During 2009, we declared dividends of $1.66 per share, which represented a 16.6% annualized return on the IPO price.

Moving on to page 4, total mortgage-backed securities and total assets declined slightly as we rebalance the portfolio from agency RMBS to CMBS with lower leverage levels, and the non-agency of course is unlevered as of 12/31. Total borrowings declined by approximately $53 million, as repurchase agreement funding our agency RMBS were reduced by $69 million, and the TALF funding used to purchase CMBS increased by $16 million. Again, this was in line with our rebalancing of the portfolio.

Our net book value as of 12/31 was $20.39 per share. The change from 9/30 was the result of a couple of things. The first being there was $1.66 per share of dividends that reduced it, and we had an increase of $1.02 per share from our earnings for the fourth quarter, and then approximately a $0.13 per share increase in the value of our portfolio.

Now I'd like to turn it over to John Anzalone, our Chief Investment Officer, to give you more details about our portfolio.

Thank you, Don, and thanks, everyone, for joining us this morning. On slide 5, let me walk you through our portfolio as it stood at year-end. The pie chart on the upper left highlights our equity allocations. 55% was allocated to non-agency mortgages, with just under 20% allocated to agencies; 10% to CMBS financed exclusively through the TALF program, and the remainder in cash in the PPIP.

We have consistently emphasized how our nimble approach to investing is a benefit to our shareholders, and we utilized some of that flexibility during the fourth quarter. As agency mortgages continued to originate, we became concerned the GSEs would start to buyout delinquent loans.

We rebalanced our portfolio by moving out of credit-impaired high-coupon mortgages and into non-agencies and CMBS. Given the recent announcement that the GSEs will begin widescale buyouts next month, this proved to be an excellent move.

As you can see in the bottom table, we reduce our exposure to agencies by about $108 million, while we increased our exposure to both non-agencies and CMBS where we continue to find great value. This has also had the effect of reducing our overall leverage to 3 times.

On slide 6, we highlight our portfolio in a little more detail. The average yield on both the 15- and 30-year fixed rate paper increased over the quarter, as prepayment fees have consistently come in slower than our assumptions, while the continued rally in both non-agency mortgages and CMBS are reflected in our lower average yields in those sectors. For the portfolio as a whole, our average yield was up 24 basis points to 6.10%.

Likewise, our borrowing costs also rose during the quarter, as we took advantage of the very low interest rate environment to hedge our interest rate risk and keep our duration gap close to the target of half a year. As I mentioned in the previous slide, our debt-to-equity ratio declined slightly as our allocations to non-agency MBS, which we held unlevered at year-end, increased to over half of our equity.

On the next two slides, I want to talk in a little bit more detail about how our portfolio is constructed, as well as about how we are seeing the -- or what we are seeing in the various asset classes. On the agency side, we continue to see our prepayments come in significantly slower than comparable generic paper.

In 30s, we continue to be concentrated up in coupon, although our exposure to this sector decreased as we sold credit impaired pools and further decreased after our follow-on. Going forward, we remain cautious on 30-year paper and continue to feel that securities selection is extremely important. Recently, we have focused on new production paper, particularly newly underwritten investor pools, which should avoid the buyout issue.

15-year collateral continues to be our favorite place in the agency sector, as we feel that these pools are less exposed to buyouts. We also believe that they will be less prone to any widening that may come when the Fed mortgage purchase program ends next month, as the Fed has largely ignored this sector. We are still concentrated in lower coupon 15s with an emphasis on loan balance paper.

Our prepayments were very well-behaved in the fourth quarter, coming in at only 15 CPR. In hybrid ARMs, our agency pool is paid at 19.5 CPR. We have been largely avoiding hybrid ARM collateral, as very high dollar prices combined with buyout risk have led us to seek value elsewhere.

And I talked about previously, we've continued to find value in non-agency mortgages as well as in CMBS. On slide 8, I will go through some of the highlights from these sectors. In non-agencies, we saw a book value depreciation of around 7.5%.

Voluntary prepayment speeds continue to come in faster than our expectations, and they averaged 16 CPR for the quarter. We are still focusing on senior and a super-senior tranches, as our fundamental view on housing is still extremely cautious. However, we have seen the liquidity in the non-agency market improve at a rapid pace, and this is evidenced in the return of private financing to this market.

Not only has private financing returned, but it is now at levels that have become very attractive, and we began modest amounts of leverage on this book during the first quarter of 2010. CMBS remains one of our favorite trades, as we can choose top quartile credits in the sector and finance these using limited recourse long-term TALF funding.

As in the non-agency residential sector, we are extremely cautious in our fundamental view on commercial real estate. However, through careful securities selection and the attractive TALF financing, we can lock in very nice returns for years.

With that, let me hand it back over to Rich to finish things up.

Again, thank you for listening this morning. We hope you have had a good experience with Invesco Mortgage Capital to date. The Company has generated strong dividends, and in addition, the stock price has responded well to produce from returns even as we ramp from the IPO.

We will make every effort to be transparent about what we intend to do with capital now and in the future, as we have thus far. With our flexible strategy, strong team, scale, and financing capacity, we are able to benefit from short-term dislocations as well as longer-term opportunities for Invesco Mortgage Capital.

And our fourth-quarter portfolio rebalancing and this year with our recent capital raise and deployment of the offering proceeds, we have taken advantage of our flexibility. The strong progress we have made in deploying the capital from the January raise will minimize drag on first-quarter earnings.

We are very excited about the opportunities in this market, and we continue to find value. Financing opportunities and terms continue to improve. This concludes our prepared remarks. Thanks again. Operator, let's now open up for questions.

(Operator Instructions) Bose George, KBW.

This is Jade Rahmani for Bose George from KBW. We wanted to ask if you could provide an idea of the unlevered yields on the non-agency RMBS that you purchased with capital you recently raised?

And secondly, if you could describe some of the typical terms of the repurchase funding and private financing that you have said that you're starting to see return to the market?

Sure. In terms of the non-agency side in terms of returns, in prime paper roughly, I would say 7% to 8% loss adjusted yields. And in Alt-A it's probably more like 8% to 10% loss adjusted yields, because where we are seeing paper or where we are purchasing paper.

As far as financing goes, I'll start off by saying it tends to be very bond dependent. CUSIP by CUSIP, you'll get terms as far as repo goes, but roughly anywhere from LIBOR plus 125 to LIBOR plus 175 is what we are seeing with haircuts, anywhere from 20% to call it 30% to 35%.

Okay, and what's the typical term for that financing?

That would be for one month.

And are you seeing anything greater than one month?

Yes, we are. I mean we have -- I had mentioned we have seen terms continue to improve, so we really didn't want to lock in anything much longer than a month because we keep seeing things get -- we anticipate things are going to get better.

Okay.

But it is available. We have seen as far as six-month funding.

Okay. Secondly, we just wanted to ask if you think you could see pressure on CMBS prices after the legacy TALF program expires at the end of March.

We think there might be a little bit of pressure. However, the type of paper we've been participating in -- I mean broadly, we are not hugely positive on the CMBS sector. But the paper we have been buying which has been super-senior, largely 2005 vintage paper, we think the credit tiering that has been going on, we think is going to be largely unaffected by the end of the TALF program.

I think the numbers came out this morning. The participation in the program continues to decrease, so we don't anticipate a huge amount of pressure, at least on the paper we've been purchasing.

Great, thanks very much.

Mike Widner, Stifel Nicolaus.

Good morning, guys, and congrats on a solid quarter.

Thanks, Mike, good morning.

Just wondering if you could talk a little bit about -- I mean, I know you said you've been holding off a little bit in the agency market, but what you find interesting there and when you might be more active in kind of rebuilding -- or I guess really what we should think of is the target capital allocation, that piece of the business at least for the next couple quarters, and what you might be buying there and kind of when?

Do we need to wait until after the Fannie and Freddie buyouts to expect that to ramp up or after the Fed stops buying, or kind of how you are thinking about that?

I'll start out and hand it over to John. Our plan is to allocate about 25% of our equity capital to agency MBS. And as we said, it's not that we haven't bought anything, obviously. We have bought some agencies in this ramp, but we have been patient in finding just exactly the type of pools we like. And we think that our patience has paid off in the sense that the announcement of the buyouts definitely cheapened the mortgage market, especially in premiums, and we do think we will be able to take advantage of that.

But I'll turn it over to John to talk about specifically what we've liked and bought.

Yes, thanks. In terms of what we've done since the ramp, we've largely focused on new production paper, by and large. I think virtually every pool we've purchased has been 2009 or even 2010 production paper. So we think the underwriting standards that those pools have baked in them is very favorable.

Things like new investor pools, new loan balance pools, things like that, we've been active in in terms of new production. What we have avoiding is hybrids by and large, due to the buyouts. So that's what we find interesting.

In terms of going forward, we anticipated the buyouts happening. I'm not going to say I was predicting that they would be announced exactly when they were or anything. But going forward, I think the -- because of the way Fannie and Freddie differ in structures of how they're going to do the buyouts, the Freddie ones are going to largely be done in one month. So I think that once we get past next month's trend, some of the Freddie pools we should be able to have a pretty good idea of what we are buying; whereas Fannie, I think there is going to be a little bit more uncertainty. So I imagine that we will be looking at that pretty closely, some of the maybe higher coupon Freddie pools post-buyout.

Great. And just looking at where you are right now, it seems like your favorite product has been the 15-year fixed. Is that still the case?

Yes.

And if I could, just trying to quantify and figure out the exposure here on the buyouts. I guess the hybrid ARM portfolio is clearly the one that most people are worried about. I'm looking at your average coupon there. I mean, how much of that is IO, and I guess I'm wondering if you have any sort of assumptions at this point about what percentage of that would likely be subject to the buyouts?

Yes, exactly. Keep in mind that we've roughly doubled in size and equity since the end of the fourth quarter, so that obviously the percentages have gone down quite a bit since then. But as of last night, I think our percentage of assets in the agency ARMs is about 13%, and of that, about 8% is in older vintage like kind of that '06, '07, '08.

So roughly, that's about where we are. And out of those, about half are IOs. So really we don't think the exposure is really all that material or shouldn't be that material.

Okay, and just so I make sure that I understand the numbers you're saying. When you say 13% of assets, you're talking 13% of agency assets or 13% of total?

No, overall assets.

And then over 13%, 8%, so a bit less than half is -- sorry, a bit more than half is in that old or higher coupon, and then about half of that is the IOs?

Exactly.

Okay.

We've kind of let that -- our strategy was to let that portion of it just become kind of a dwindling piece of the portfolio, and just let that kind of pool off, and replace it with new production paper which we think is a lot stronger.

Obviously, when we rebalanced in the fourth quarter and a little bit into the first quarter, the pools we really wanted to target were the 100 LTV type paper, the low FICO type paper, that kind of paper. And we had great success with prepayments on that paper leading up to December. So that's really where we focused our rebalancing.

Yes. Well, good timing on that one. And just one other question if I might, hopefully a quick one. You had some capital, about $2 million in realized gains in the quarter. For some of your peers, particularly in the agency space, there is kind of trading within the portfolio and realizing gains is kind of part of the strategy and needs to be thought about when we think about the dividend and projected dividend going forward.

Just wondering how you guys think about that and what we should assume going forward, if there's going to be kind of continual sales and rebalancing and realized gains, or if that was more of a one-time event in your minds?

You know, Mike, I think the best way to look at that is that clearly we are going to have to move in and out of things eventually if, for example, the credit characteristics of the portfolio changes or of a particular bond. We do a bond-by-bond analysis every month to determine if it meets our criteria for what we want to hold.

So to say that we won't ever sell something is not the case. But going back on your initial question of, do we have a trading strategy to generate the income? The answer is no. We really are more of a buy and hold strategy, but when there is opportunity on a particular asset or something that we feel as though we've kind of gotten all the juice out of it that we want or the credit characteristics are changing, then clearly we will probably have some sales.

It's probably realistic to think that we will have a little bit of gain each quarter, but it's not going to be a huge portion of our returns.

Got you. Well, thanks a lot, appreciate the color and congrats on finishing your first year as a public company.

Thank you.

(Operator Instructions) Daniel Furtado, Jefferies.

Good morning, everybody. Thanks for taking the time to answer the questions. A couple quick ones, I hope. The hedging strategy here, I know that the swap book, $375 million, isn't necessarily a huge book compared to a lot of peers. But from a percentage of repos or a percentage of agency securities standpoint, do you think that that percentage will remain this high or how do you kind of see that swap book progressing through time?

Yes, I think that -- we don't really think of it in terms of percentage of assets, because depending on what term you use, either you are going to get different bang for the buck or to use it to your swap or a five-year swap, things like that.

We just look at it purely in terms of where our duration gap is, and we utilize swaps to get to our target duration gap, and we are going to continue. We mentioned our target is half a year, plus or minus. Obviously, in mortgage world durations drift around a little bit, but we are trying to keep it within that range. So that's how we approach it. So we are really trying to keep that duration gap in line.

Okay. (multiple speakers)

Dan, let me point out too, again, we had -- if you looked at our repo book, we had approximately 69% of it swapped at the end of the year. So I mean, I think it was actually a pretty high amount of our percentage of repo outstanding.

Right. Well, that's exactly what -- I guess I didn't phrase my question right or properly. Compared to some peers who are like 30% or 40%, you guys are at almost 70%, which I don't have a problem with. It makes sense because you are a newer REIT and you can lock in this funding.

I was just wondering if, basically from a modeling perspective, if that percentage is a legitimate approach to modeling this book going forward?

I'd have to go back to John's answer on that one, in that it's going to vary depending on what tenor of swaps we use.

Understood, understood. Now, I think you mentioned briefly some color regarding what the trading levels or what you are seeing on the trading levels for agency MBS since the Fannie/Freddie announcements. Did you happen to touch on that?

We have seen a slight cheapening of the open coupon trade. So higher coupon mortgages have cheapened a bit. And, in fact, Freddies have performed probably a little bit better than Fannies, given the volatility around Fannies that Freddie is doing it all in one month, and Fannie's kind of doing it over a number of months in terms of buyouts.

So we have seen a little bit of a cheapening of the open coupon trade. We are actually -- given what we see in the market, we are really hoping to be able to use this as a buying opportunity if there is some vol around the buyouts and that. So that's really how we are approaching it.

Okay. And then my final question, I don't know if you care to disclose this or not, but do you mind telling or have you mentioned what the leverage on that non-agency book was at year-end?

It was zero at year-end.

Okay. Maybe I misunderstood you, has there since -- since year-end, have you applied leverage to that book or you're just looking at that market?

Yes, since year-end we have applied leverage on the non-agencies.

Okay, okay.

And our target on that -- Dan, our target on that again has been somewhere between one-half to one turn.

Okay, great. Thanks for the time.

Dean Choksi, Barclays Capital.

Good morning, gentlemen. In the slides you mentioned opportunities at industrial commercial real estate for free loans. Can you talk about how that would be funded and structured, and kind of what the return expectations would be for those?

Well, on the commercial side, so obviously in CMBS, we are taking advantage of that through the TALF program. We are also looking at creating potentially a facility to be able to take advantage of private financing post the legacy TALF CMBS program ending.

And then in terms of commercial loans, we are taking advantage of that through our work on the PPIP fund with Invesco real estate and Wilbur Ross and the FRAC organization. So those opportunities we are seeing through the FDIC and through other just private opportunities where we see opportunities that we like.

So those would be, I guess, unlevered or just funded with your equity and then leveraged within the structures?

Yes, that's correct.

Keep in mind if it's something in the PPIP program or the PPIP fund that we have, that has its own source of leverage. And what you will see on our balance sheet is really just an equity investment. And often that may be what you see in one of the joint ventures or something if we set up some structure like that.

Did you mention what the target yield for the PPIP fund is?

We are looking for 20% to 25% levered returns.

I guess can you talk about what you think the implications are for the housing market, broadly speaking, from the agency buyout program, and then what you think it's going to impact the home prices or loss severities and kind of how it impacts your view on the non-agency market?

I think generally, broadly speaking, the fact that you're going to have a large number of loans in the government's hands probably is a positive for the mortgage -- or for the housing market as a whole. We don't think that given the political environment, we don't think that once those loans are basically in the government's hands that perhaps mods and things like that will be easier to take place in that sector.

So I think broadly, it's a positive. I'm not sure that it changes our review per se overall, but I mean it's definitely a slight positive.

And in terms of just the agency market, in terms of the mortgage market, there has been a lot of talk about this is going to put a lot of cash back into investors' hands that will help offset some of the end of the Fed buying program. I think there's probably a little bit of truth in that.

It's kind of hard to quantify, but certainly it's going to be a positive. So that reduces the impact of the end of the Fed program, which should in turn create a better rate environment or at least the impact of what might be higher rates at the end of the Fed program.

Great, thank you.

Thank you, and there are no further questions at this time.

Okay. Well, thank you. We appreciate it, and once again, we are very pleased with the progress we have made and very optimistic about the future of Invesco Mortgage Capital, and thanks for your questions.

Ladies and gentlemen, that does conclude the conference call for today. We thank you for your participation and ask that you please disconnect your lines.