Invesco Mortgage Capital Inc (IVR) 2012 Q1 法說會逐字稿

This presentation and comments made in the associated conference call today may include forward-looking statements. Forward-looking statements include information concerning future results of operation; our ability to improve book value; our ability of earnings dividends; our ability to reduce leverage; our views on the economy; current prices of mortgage-backed securities; the positioning of our portfolio to meet current or future economic conditions; our ability to continue performance trends; our portfolio pre-payment speeds; and credit quality of our assets.

In addition, words such as believes, expects, anticipates, intends, plans, estimates, projects, forecasts and future or conditional verbs such as will, may, could, should and would, 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 could 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 urged to carefully consider the risks identified under the captions Risk Factors, Forward-looking Statements and Management's Discussion and Analysis of financial condition and results of operations in our annual report on Form 10-K and quarterly report 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 especially qualified by this cautionary notice. We expressly disclaim any obligation to update the information in any public disclosure if any forward-looking statements later turn out to be inaccurate.

Good morning, ladies and gentlemen. Welcome to Invesco Mortgage Capital Inc. investor's conference call, May 8, 2012. All participants will be on a listen-only mode until the question-and-answer session.

(Operator Instructions)

As a reminder, today's call is being recorded. I would now like to turn the call over to your speakers for today, Richard King, Chief Executive Officer; John Anzalone, Chief Investment Officer; and Don Ramon, Chief Financial Officer. Mr. King, you may begin.

Thank you, Operator. Good morning, and welcome to IVR's first-quarter earnings call. Presenting with me on the call today are CFO Don Ramon and Chief Investment Officer John Anzalone. On our previous quarterly call in February, we mentioned we had two ongoing areas of emphasis for the benefit of our shareholders. We said our efforts remain focused on increasing book value and providing a stable dividend. We're pleased to report that we had a strong start to the year in both of those areas.

Book value increased about $2 per share during the quarter, or approximately 12%, and importantly, since the end of the first quarter, despite the somewhat weaker domestic economic numbers and problems in Europe, book value has continued to improve. With the value of our equity increasing by $234 million in the quarter, we were able to strengthen our balance sheet by lowering our leverage. We've maintained ample cash and believe we're well positioned to take advantage of investment opportunities in the market. We also maintained our dividend at $0.65. The company did generate an additional $0.07 in earnings over the dividend during the quarter. Our decision to retain the extra earnings was driven by a desire to continue to strengthen our balance sheet, increase book value and provide for future dividend stability.

The earnings power of the portfolio remains strong despite the low-rate environment. One reason is our prepayment experience in agency MBS has remained much lower, i.e., better than the cohorts. Slow prepayments have two benefits. First, positive effect on book value because we avoid losing the premium dollar price bonds at par, and second, we maintain an attractive yield since we have less to reinvest. In today's rate and investment environment, we believe the portfolio should continue to generate its current earnings power.

It's important to note that we were able to significantly reduce our credit leverage over the quarter without impacting earnings. Rising asset prices reduced negative OCI, improving our equity position. We also used cash flows to pay down higher-cost non-agency repo. That reduced our RMBS leverage from just over 4 times at the end of the fourth quarter to about 2.8 times in the first quarter, a modest level for the quality of our RMBS portfolio. This significantly improves our risk position while maintaining about 15% ROE in that asset class.

CMBS leverage also declined as asset prices improved. Against lower leverage, in RMBS and CMBS, agency MBS leverage was increased modestly because we're seeing, and expect to continue to see, prepayments remain low. We, therefore, added over $1 billion of agency MBS in the quarter. We also made incremental new investments in select credit assets. John will discuss the portfolio further in a few minutes. Overall, we are very pleased with our positioning. And now, I'll pass the call to Don to cover the earnings highlights.

Thank you, Rich. Four key things we discussed today, continued improvement in book value, the stable dividend, reduction of leverage and increase in earning assets, have played out well in our financial results. During the first quarter, net income rose by 10% to $84.1 million, or $0.72 a share. This allowed us to maintain a stable dividend of $0.65 while adding $0.07 to retained earnings. We accomplished this by increasing our average assets to $15.3 billion as our equity position improved. The higher earning asset total increased our net interest income by 5% to $142 million. We also strategically sold some assets that resulted in a gain on sale of approximately $6 million, or $0.05 a share.

Looking at the yield table on the lower left of page 3, you can see that the additional agency RMBS that we acquired during the quarter reduced our portfolio yield by 22 basis points to 3.72% This was somewhat offset by an 11% -- I'm sorry, 11 basis point decrease in our cost of funds, but the net result was a decline of only 11 basis points in our net yield to 2.02%. The increase in our portfolio balance offset the decline in yield, and we accomplished this with lower leverage. We believe that the current portfolio composition puts us in an excellent position to continue to deliver stable earnings in this environment.

Turning to page 4, let's take a few minutes to discuss the improvement in our balance sheet. The changes we implemented in the portfolio over the last three quarters continue to strengthen the balance sheet, reduce the leverage and make the company less sensitive to interest rate risks. Book value improved 12%, to $18.42, as we saw positive contributions from all aspects of the portfolio. With that, I'll turn it over to John, here, to discuss the portfolio impacts on book value.

Thanks, Don. As Rich emphasized, we had a very strong start to 2012. Asset values are up across each sector of the portfolio. We have improved our risk position by reducing the leverage on our credit assets and our portfolio is well positioned to provide a stable dividend going forward. The most significant increase was seen in our CMBS portfolio, which contributed $0.80 per share in book value. CMBS 2.0 bonds were especially strong as investor demand for quality bonds pushed yields lower. The non-agency book also benefited from the price rally and contributed $0.59 per share. We also saw prices on our specified pool agencies move higher. Valuations reflected the excellent actual prepayment performance of these pools and contributed $0.40 per share to book value. Finally, swap rates were slightly higher adding an additional $0.15 per share. The improvement in our portfolio values added $234 million in additional equity for the quarter, which allowed us to reduce leverage while increasing our average portfolio by 9%.

Let's turn to slide 5 to see the impact of the additional equity. Slide 5 provides a snapshot of the portfolio at quarter end. The overall leverage on the portfolio decreased from 6.4 times to 6 times, as I'll discuss in more detail in a moment, the composition of the leverage has changed. The increase in asset values has served to improve our equity position. Roughly $190 million in equity was added to the credit book and about $60 million was added to the agency book. We also received cash as we liquidated the bond side of our PPIP investment. The reduction in credit leverage, where we shifted our borrowing mix away from higher-cost repo, served to reduce risk while keeping asset levels constant. The additional capital in the agency space allowed us to add more MBS assets where we continue to find good opportunities in specified pool paper.

Moving to slide 6, you'll see it was a very good quarter for our agency book. Higher coupon agencies outperformed swaps, and the payouts at our specified pool paper increased materially. We opportunistically added assets throughout the quarter and continued to find good opportunities in the sector. We focused primarily on longer-dated hybrids, as they are attractive relative to 15s. The hybrids have appreciated materially. We also brought more 30-year prepaid protected pools, focusing on geographic, FICO and other credit stories.

Net interest margin increased by 16 basis points to 140 basis points. This was driven primarily by high-cost, year-end repo rolling off, as well as by a slightly lower hedge ratio as no new hedges were added in the quarter. The prepayment rate of the portfolio continues to be remarkably slow, as our fixed-rate collateral paid a bit over 10 CPR. Our three-month speeds slowed by 14% quarter over quarter, and our fixed-rate book paid at roughly half the rate of comparable generic collateral. Looking ahead, we still believe that agency mortgages look attractive despite the recent performance. Technicals are very positive with limited supply and robust demand out of banks, insurance companies, REITs, as well as the Fed. It's important to note that capacity constraints and borrowers' continued inability to qualify for credit has reduced the convexity risk of the sector.

Moving to slide 7, we've also had a very good start to the year for credit assets, particularly for high-quality credit assets, which is where our portfolio is concentrated. On previous calls, we've talked about the need for yield in the market place and how high-quality cash flows would benefit as investors are forced away from treasuries by extremely low yields. This is exactly what we've seen this year. In non-agency, we reduced leverage to 2.77 times from 4.07 times. There are a number of factors allowed to us accomplish that. We paid down $218 million in borrowings on non-agency through a combination of cash pay downs, factory changes and bond sales.

We also saw an increase in OCI of around $68 million as asset prices went up. This increase in equity in the sector led directly to the reduction in leverage without materially changing the amount of dollars we have invested in the sector. This allowed us to capture the price rally in book value while repositioning our borrowings. We believe these moves leave us well positioned. Reduced leverage on the credit book reduces risk as banks' willingness to lend on credit is impacted by macro events. This also leaves with us with plenty of dry powder to capitalize on future opportunities. Even with the reduced reduction in leverage, our high-quality book still generates ROEs in the mid-teens, allowing us to maintain our earnings power.

I'll finish up on slide 8 and CMBS. It was a very similar story in the CMBS sector as the demand for high-quality assets remained robust and led to significant increase in asset prices. The CMBS 2.0 bonds that we owned, for example, were up on average 10 points during the quarter. In fact, we have seen this demand carry over into the current quarter with the successful disposition of the latest Maiden Lane bid list. We reduced leverage slightly in CMBS to 2.4 times, as some minor repositioning as well as an increase in OCI combined to increase equity by $45 million. The CMBS book continues to generate an ROE in the mid-teens, with the added benefit of reducing the convexity risk of the portfolio. We continue to see good opportunities in the sector, as well. We were able to add some assets recently, as we participated in the Maiden Lane sale, and we will selectively add assets as they become available.

One final thought. We stated in our previous earnings call in February that our goals for the first quarter were to reduce credit leverage given the volatile macro landscape, to continue to improve book value and to maintain a stable dividend. We plan to continue to emphasize those three areas in this market environment. With that, I'll open the floor up to questions.

Thank you. At this time, we're ready for the question-and-answer session. (Operator Instructions). Douglas Harter, Credit Suisse.

Great, thanks. John, I was hoping you could help quantify that comment about dry powder on the RMBS non-agency portfolio. What is -- what would you guys think about the appropriate leverage for the risk given in that portfolio?

I think we're targeting 2.5 times to 3 times on the credit book. So, we're going to keep it in that range. We do have -- even given the slow prepayment speed, we do have a significant amount of cash coming in every month for prepayments. But it does allow us, if we see something that we like, before prepayments come in, we can capitalize on those opportunities. It's been pretty lumpy in terms of how we've seen bonds come into the market given some of these bigger dispositions. So, it's nice to have some dry powder to take advantage of those.

Great, and then, to the extent that you guys said that book value has continued to improve here in the second quarter, should we expect that would lead to higher average assets as well, or just further pay down of leverage?

Just as we said, I think on the fourth-quarter earnings call, when we get an increase in equity with assets up, we will look to do some of both. We can use some of it to increase assets and some to pay down higher cost repo.

Great. Thank you.

Bose George, KBW.

Hey, guys, good morning. Given the strong performance of your securities pretty much across the board, just wondering how incremental spreads versus your existing portfolios, how should we think of the trend there?

Yes, I would say in agencies, things have remained fairly stable. We're still seeing, call it 2.75%-ish ballpark for newly purchased 30-year collateral. So, that hasn't changed all that much. Non-agency's roughly the same, call it 5% to 5.5% yields on rewrite mix. Legacy paper, maybe a little bit higher than that. CMBS, we haven't seen a rally, so those have come in a bit over the quarter, but I wouldn't say it's materially different where we've seen things.

Okay. Great. Actually, you mentioned on Maiden Lane -- did you mention that you guys actually got some stuff out of that, and is that a way to potentially get some decent commercial assets?

You know it is. We've seen it -- there's a couple things. One is, we expect there's going to be more of that kind of activity going forward. What we saw was, a fairly large list, well over 100 line items, closer to 200 line items, and out of that, I think we've been on a handful of bonds. So, really, I think that the general credit quality of what's in a lot of those vehicles was a lot lower than we normally like to see.

There was a few that we did like, and those were very, very well bid in the market. I think there's a decent amount of demand for those. That did a couple things. One, it served to show that there is -- credit tiering is happening and continuing in CMBS, so higher-quality assets are doing quite well. I think there will be some opportunities there, but I wouldn't expect to see the kind of bonds that we're buying to come out sort of in a huge way, but I think, you know, we are picking our spots as we go forward. I think the technical's are really going to drive (multiple speakers).Yes, I think technical's are really going to be driven by what we see coming out of some of those types of dispositions, though.

Sure. Thanks.

Steve Delaney, JMP Securities.

Good morning, everyone. Congrats on a strong quarter.

Thanks, Steve.

First, I wanted to ask you about your Re-REMIC securities that make up over 60% of the non-agency RMBS book. You gave us sort of an indication on CMBS, I think, John, you mentioned the 10-point price move. Can you give us some sense of how those senior Re-REMIC bonds performed from a change in market value in the first quarter?

Absolutely, yes. So, for bonds that we helped throughout the quarter, the average price was up about $1.35. And, that's compared to on legacy RMBS that we held through the quarter. They were up about 4.25 points. So, they're obviously higher-quality, closer to Part-time Bonds.

Exactly. I know this is a tough question, but on the A-1s, is there a good proxy for us to look at, you know in the market to try to track the prices there? Are we looking at something with like a three- to four-year average life?

Yes. That's right on the average life. Boy, it's tough to say. I mean, I know prime ex is out there, but that hasn't really been very good at predicting that. So yes, I don't have anything.

Okay. We'll work on it. I think we were a little light on that particular number. Just my last question. This is big picture. Your stocks made a really nice comeback since the third quarter but still trading, as of this morning, a little bit under this elevated book value. Would you guys look at preferred stocks? We've seen some nice offerings, you know, 8% kind of straight preferred, and just how would you view that in terms of being a plus or minus for your balance sheet right now?

Right now, we're really not thinking about issuing -- in the future, we'll consider kind of all options, but we just don't see near-term need or benefit in issuing preferred.

Steve it's one of those things we'll always to look at those opportunities. There are some opportunities on that, that could be, you know, good, but right now -- again, we continue to look at all of the options, but we're certainly not going to commit to that's something we're going to do right now.

Okay. Thanks. Appreciate it.

Jason Weaver, Sterne, Agee.

Hey, good morning, guys, thanks for taking my question. First of all, just wanted to get some color, and you might have addressed this in your prepared remarks earlier, about how you're thinking about the hedging strategy just given the rate back up and how they came right back in, in terms of interest-rate risk over this quarter?

Yes. The thing to really keep in mind was that the second half of last year was quite unusual in terms of the kinds of asset we owned, particularly on the agency side, really decoupled from swaps quite a bit. What we've seen this year, and so far this year is -- or so far this quarter is that higher-coupon mortgages have really started to trade -- trading much closer to swaps, and they are actually outperforming swaps, but they've been much, much more highly correlated to swaps.

And so that has been, you know, real positive in terms of the hedges actually doing what they are supposed to, given that they are moving in the same direction. So, that's been very, very helpful in terms of how things are going. So, right now, the empirical duration of our book is probably closer to certainly under a year and probably, you know, between zero and one years.

I think last summer and into the fall, the market traded like there weren't enough treasuries out there. Everybody, kind of held their breath. When people started breathing air again, they realized that the bigger problem is yield. As John said, we have high-quality assets that have yield, and really, the market, I think -- that goes for both the agency side and the non-agency side. We've talked over and over about how our cash flows are really stable, and over time, people realize that they're willing to pay for that cash flow stability. So, that's what we're seeing. We wouldn't expect that to change because even in a risk-off environment people need some yield. They're going to want high-quality-type cash flows to generate that yield.

Okay. Thank you, that's helpful.

Joel Houck, Wells Fargo.

Thanks. Good morning, gentlemen. First question has to do with the spec pools in the agency book. Given the significant out-performance of that collateral, what are your thoughts with both with respect to kind of the embedded gains in that book, as well as you kind of deploy runoff and even perhaps raising new capital, it just seems like, some type of backup in rates could cause the spec pools to under-perform generic collateral. Be interested in your thoughts on that?

I would say in terms of the spec pools, we're not -- some of the higher coupon there's kind of a break between things sort of super premiums, 5.5s and higher and 5s and under. The 5.5s and over, those are kind of almost characterized as kind of museum pieces. They've run up a lot. TBA is just awful in those. I think a lot of the pay up increases had been more that TBA is terrible given that their right in [hub] wheel house, and they're not going to look very good. Those, we are just letting them do their thing. They're still paying very, very well, a lot of balanced paper in those coupons that we own. In terms of -- in general with higher pay ups, I think our philosophy is that in a rate backup, sort of buying Iowa, you want to own Iowa in that case. I don't know that I'd necessarily agree that higher coupons would under-perform lower coupons in a backup, but I guess we'll see what happens if that ever does happen.

So, in terms of what we're buying now. Certainly during the quarter, we bought across all the different sectors of agency mortgages. You know, we did buy a decent amount of hybrid ARMS, which we thought looked pretty attractive earlier in the quarter versus 15. We are adjusting some of what we're buying in terms of mix, buying some more investor property pools, some slightly higher loan balance pools, not the lowest low balance pools, trying to minimize some of the pay ups there for costs. That's what we're doing. I wouldn't characterize the specified pool market as incredibly cheap, but it's certainly -- there are spots that we think that look attractive.

I'd add that since, you know, those bonds have real duration and so when rates drop, their prices go up. Obviously, I'm sorry, when rates have gone down, the prices have gone up. And, when we do see a rate rise, totally agree with you. The prices are going to come down. The pay ups are going to come down. That's why we have interest-rate hedges in place, and we feel like we're well protected there.

And, if I may, just a follow-up. You know, did you guys do anything with the swaps on the agency side? It just says in the slide that came down from 73% to 66%, but did you actually --

No, that was purely just additional assets.

Thank you very much, guys. Congrats on a great first quarter.

Thanks.

Ken Bruce, BofA Merrill Lynch.

Thanks, good morning.

Good morning, Ken.

My first question really is more of a follow-up to your previous response on pay-ups. We've seen a number of companies that have expressed that they believe pay-ups are too expensive in this market. Maybe you could just drill down a little bit more granularly in terms of where you see value or how you're trying to navigate what is an expensive market in certain segments?

I think given how we hedge and you know, we tend to be a little bit more philosophically on the hold side of things. What we're seeing in our agency book is that the Bonds we've purchased are doing exactly what we thought they were going to do. We do have hedges against them, and they are producing a hedge NIM that we think is sustainable for certainly the medium term, at least. So, in that respect, we're quite happy with that portfolio. We have moved out of things that we think that where the prepayment performance for one reason or another -- obviously, the landscape changes quite a bit in terms of regulatory or different types of programs. So, certainly HARP eligible, bad credit bonds we sold ahead of HARP and thought those were at risk there. In some ways, I think that the Bonds -- in some ways, the payoffs are justified in terms of where they are.

Rates are quite low, you know, and your alternative is TBA, which is in a lot of aspects can look quite -- can be quite bad. I think the quality TBA is deteriorating quite a bit. You do need to pay up, especially given how we hedge and that. So I think that's the bigger picture. In terms of things we're looking at -- certainly, post-HARP pools, we're focusing there. You want to avoid that where you can because I think in one way -- in some ways with -- capacity of origination has not increased much. All of a sudden, you have originators are focusing, a significant amount of resources on the HARP pools, which leaves less capacity than there was on anything that's non-HARP. So, that's what we saw that in a big way in this latest prepaid print in that lower coupon slowed quite a bit. So, anything not HARP eligible really slowed. So, picking spots in post-2009 pools has been kind of where we've been spending a lot of our time.

That's interesting. Just as you look at book value, obviously, the quarter was quite good, and obviously, I think as everybody's pointed out, very good to see a strong book value quarter. Is there any way to protect that or maybe getting a little bit of Steve's point about is there any better transparency that we can get as to how book or certain segments of book are going to move around just so we don't have any surprises to the degree that the market backs up in some of these areas?

I think the portfolio moves that we made, you know, through the second half of last year, and into the first quarter, really provide for much greater stability. Yes, I think there is just a real disconnect. We spoke of last year where book value dropped because even high-quality assets fell and so the interest-rate hedges didn't work. But, you look at the amount of assets that we've put on without any additional swaps and just model out the durations and so forth. We're in a much better position at this point, and it's proven out, as I said, since the end of the quarter, rates dropped 25 basis points. Book value continues to increase.

Let me add my voice to the chorus of kudos for the quarter. Good job, guys. Thanks.

Thanks, Steve.

(Operator Instructions) Our next question does come from Mike Widener, Stifel Nicolaus.

Good morning, guys. A lot of my questions have been asked. Wondering if maybe you could talk a little bit more about how you're seeing the leverage on the different segments of the portfolio right now. On the agency side, leverage came up, on the non-agency side down quite a bit. I know some of that was just the revaluation of the assets, but, as we look forward, I wonder if we could talk a little bit about how you think about the leverage in the different segments?

Sure. We think about it in each segment, and then also, obviously, overall. And I think in the credit side, we wanted to get it into the 2.5 times to 3 times range. Again, that's going to depend on the type of credit assets that we own. And we're very comfortable because we have a very high quality credit portfolio, a lot of Re-REMIC's, a lot of very solid CMBS with that range. And you know, we feel like that gives us flexibility we need for price movement or for opportunities as John said. If we want to put on some more assets, we could do that for a period of time.

On the agency side, again, if we had highly negatively convex, current coupon TBA type stuff, we wouldn't run leverage where we run it because rate moves are a lot harder to hedge. But, given that we have really stable prepayments, we saw the ability to add to our earning assets on that side in the mid-9%, we're comfortable there. And then, when you put the whole thing together, you know, bringing the leverage down to around 6 times, and having the benefit of having credit assets that tend to widen and spread when the economy's weaker along with having a positive duration gap driven on the agency side, we think gets us to a place where we're able to generate a nice ROE and greater book-value stability than we had.

So, in short, things kind of remaining as they are in the marketplace, with assets kind of being priced where they are today, am I hearing that you're reasonably comfortable at this overall level and also comfortable within the individual segments?

That's exactly right. We are. We're comfortable where we are. We like the risk position of the portfolio here.

Great, and one other one. I was just wondering if you had handy the -- and I apologize if this is in here somewhere and I missed it, but the amortization expense on the agency portfolio in the quarter.

Mike this is Don. I'll have to follow up with you. I don't have it right at my fingertips, but we do have it in there, and it'll also, obviously, be in the Q, which should be out today or tomorrow.

Great. Appreciate the thoughts and comments, guys. Congrats on a solid quarter.

Thanks again.

At this time, we show no further questions.

Okay, operator. We'll end the call here, and thanks again for participating with us today.

Thank you. Today's conference has ended. All participants may disconnect at this time.