Invesco Mortgage Capital Inc (IVR) 2017 Q2 法說會逐字稿

Good morning, ladies and gentlemen. Welcome to Invesco Mortgage Capital Inc.'s Second Quarter 2017 Investor Conference Call. (Operator Instructions) As a reminder, this call is being recorded.

Now I would like to turn the call over to Tony Semak in Investor Relations. Mr. Semak, you may begin the call.

Thank you, Ray, and good morning, everyone. Again, we really want to thank you for being part of our call this morning, and we welcome you to the Invesco Mortgage Capital Second Quarter 2017 Earnings Call.

I'm Tony Semak with Investor Relations, and our management team and I are delighted you've joined us as we look forward to sharing with you our prepared remarks during the next several minutes before we conclude with a question-and-answer session.

Joining me today are John Anzalone, our Chief Executive Officer; Rob Kuster, President and Chief Operating Officer; Lee Phegley, Chief Financial Officer; and Jason Marshall, Chief Investment Officer.

Before we begin, I'll provide the customary forward-looking statements disclosure, and then we'll proceed to management's remarks. Comments made in the associated conference call may include statements and information that constitute forward-looking statements within the meaning of the U.S. securities laws, as defined in the Private Securities Litigation Reform Act of 1995, and such statements are intended to be covered by the safe harbor provided by the same.

Forward-looking statements include our views on the risk positioning of our portfolio; domestic and global market conditions, including the residential and commercial real estate market; the market for our target assets; our financial performance, including our core earnings, economic return, comprehensive income and changes in our book value; our ability to continue performance trends; the stability of portfolio yields, interest rates, credit spreads, prepayment trends, financing sources, cost of funds, our leverage and equity allocation.

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 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 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 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 this information in any public disclosure if any forward-looking statement later turns out to be inaccurate.

To view the slide presentation today, you can access our website at invescomortgagecapital.com and click on the Q2 2017 Earnings Presentation link you can find under the Investor Relations tab at the top of our home page. There you can select either the presentation or the webcast option for both the presentation slides and the audio. Again, we want to welcome you and thank you very much for being a part of our call today.

And we're now going to hear from our Chief Executive Officer, John Anzalone. John?

Thanks, Tony, and thanks to everyone dialing into the call. I'll give some brief remarks about our performance and market outlook before turning the call over to Jason, who'll cover highlights of our asset positioning and the contribution to returns.

I'm pleased to report that Invesco Mortgage Capital had another strong quarter as we delivered core earnings of $0.41 per share versus our $0.40 per share dividend declared in June and a 1.8% increase in our book value per share. Active asset allocation, a highly diversified portfolio and beneficial security selection led to a 4% economic return for the quarter, among the highest in our peer group in relation to those reporting second quarter results to date.

For the first half of 2017, we have delivered an economic return of 9.1%, likewise among the highest in our peer group year-to-date. This trend has continued as we entered the third quarter with book value higher by just under 2% since the end of June. One of our objectives has been to not only deliver attractive returns to our investors but to deliver consistent returns.

On the lower right side of Slide 4, we illustrate how the volatility of our book value has declined meaningfully since the end of 2013 and has remained at historically low levels during the last several quarters. In large part, this is a function of the diversification of our portfolio as well as our investment selection. Coupling a good mix of agency mortgages in residential and commercial mortgage credit with a disciplined risk management framework and prudent liquidity management process has served us well again.

During the second quarter, we received positive contributions to our book value per share from each of our core sector allocations, including Agency MBS, residential credit and commercial credit. The residential credit accounted for a substantial majority of the book value per share increase, as exhibited in the bar chart on Slide 4.

Our investment selection has also been instrumental in driving book value volatility lower as we've had a very large percentage of our portfolio invested in seasoned credit, which has benefited from favorable fundamentals, favorable supply-demand dynamics and contracting spread duration. This approach has also allowed us to maintain a steady $0.40 dividend for the past 8 quarters while generating core earnings either in line with or in excess of the declared dividend in 7 of those past 8 quarters. You may recall the only exception occurred in the fourth quarter of last year as a result of our short-term defensiveness to protect book value ahead of the approaching watershed moments, including the U.S. general election and the December Fed meeting.

On Slide 5, I'd like to highlight that not only have we delivered consistent returns, but we've also compared -- we also compared favorably to our peers on a number of key industry metrics which we believe often gets overlooked. Our economic returns have exceeded the peer group average in each of the past 3 calendar years and have also outperformed on a trailing 3 and 5 year basis.

On a book value basis, we also stack up quite favorably, having outperformed the peer group average by 9.5% over the past year, 8.5% over the past 3 years and by nearly 11% over the past 5 years. I felt compelled to highlight these favorable comparative results because despite the consistent outperformance, there remains a major disconnect between our common stock valuation versus these same peers as we trade at a significant discount to this group on a price-to-book basis. I continue to believe that this is unwarranted when considering the most commonly accepted measures of success in our industry.

I'll wrap up by making a few comments on our outlook for the rest of the year. We continue to feel good about our positioning and still see more tailwinds for the portfolio as prepayment speeds are likely to remain subdued as we head into the fall and winter months. Credit fundamentals remain sound. Asset seasoning continues to work in our favor, and we are still looking at negative net issuance [to] structured credit for the foreseeable future. While we believe the Fed will likely begin to taper their agency and reinvestment soon, this has been well telegraphed, and the market has been relieved that the pace of taper is going to be very gradual.

We still see attractive incremental investment opportunities, as ROEs in the low teens are still available in both Agency mortgages as well as in CMBS, and we continue to look to add GSE credit risk transfer paper opportunistically. Importantly, we remain confident in our ability to generate a core earnings stream sufficient to meet or exceed our dividend -- our current dividend in the near term.

I'll stop here and turn the call over to Jason before taking questions.

Thanks, John. Consistent with our expectations, interest rates remained in a relatively narrow range during the second quarter as economic growth remained moderate and core inflation remained materially below the Federal Reserve's target rate of 2%. Interest rates were also held down to some degree by gridlock in Washington, as no major legislation was passed during the quarter and the time line for a potential comprehensive fiscal bill was pushed further out, possibly into 2018. The continuation of the range trade coupled with low spread volatility at most major asset classes resulted in a favorable environment for spread assets, with all the sectors that we invest in performing well during the quarter, led by credit risk transfer bonds.

I'll now discuss portfolio activity in a little more detail. The portfolio equity allocations remained stable during the quarter, with purchase activity concentrated in 30-year 3.5s [with] subordinate CMBS. On a net basis, these sectors increased $230 million and $108 million, respectively. While we continue to view residential credit fundamentals as positive, activity was limited during the quarter as spread tightening has compressed the availability of attractive returns in the sector.

In Agency space, we continue to add specified pools and stores that we believe offer the most compelling value, while in CMBS, we continue to capitalize on select opportunities and risk retention eligible transactions with strong loan underwriting, which further supports comparably high credit quality orientation of our portfolio.

And lastly, on the financing side, we did not add any new swaps during the quarter as asset balances and convexity remained relatively stable. Overall, our duration position was long with a slight bias towards flattening during the quarter. To further elaborate, our empirical duration was generally in the 4 area for most of the quarter. And given our views on the economy, inflation and interest rates, we remain comfortable with our current duration and current positions. In financing markets, both Agency and credit repo remain broadly available and terms remain -- or have improved slightly versus spread to LIBOR. So we continue to see gradual improvement there.

To summarize, while spreads are tight in many of the sectors in which we participate, we continue to deploy capital at accretive levels. Additionally, we continue to see pockets of attractive ROE assets, where we can direct discretionary or marginal cash. The fundamental environment coupled with our current equity allocation will allow us to continue to generate dividends -- attractive dividends for our shareholders.

This concludes my prepared remarks. Operator, could you please open the line to questions?

(Operator Instructions) Our first question is from Eric Hagen of KBW.

I know that you already have some credit hedges in place. But how effective do you think it would be to hedge more of the market risk exposure in the CMBS portfolio, specifically using an instrument like CMBS?

We continue to remain comfortable with our asset selection and still generally have a positive fundamental view of commercial real estate. That's something we do look at. We currently don't have any CMBS hedges on, but they're relatively expensive from a carry perspective. So you do negate a lot of that -- a lot of the ROE on that book, if you put those hedges in place. I just don't think we've got -- if our fundamental view deteriorates, that might be something we consider.

But given our asset selection process, we do still remain comfortable with our exposures. Now, sure, spreads could widen, and we could take some hit to book value, but we continue to be confident in our process that those bonds are money-good. But it is something that we look at, and certainly, it would be driven more by change in our fundamental view of CRE fundamentals.

That's a helpful answer. And then it looks like the level of credit enhancement in your Re-REMIC securities has moved lower over the last several periods. And I realize the Re-REMIC position is only about 10% of the resi credit portfolio if you include the risk transfer. But how does the lower level of subordination impact the amount of leverage you're able to take in that segment of the portfolio?

Yes, it's been relatively unchanged. A lot of that position has actually been paying off because we own the front portion of the bonds. I think some of the bonds with higher subordination as they've delevered would pay off. As those have paid off, that's pushing up -- or bringing down the overall subordination, which is still at a high level on the remaining bonds. But we haven't seen any deterioration in financing terms or ROE on those sector. But that sector is continuing to pay down each quarter. So we'll continue to see that diminish as a portion of the overall residential credit book.

Yes, I think the financing levels and terms are largely determined by volatility of the asset class. And like to Jason's point, these are becoming very short cash flows that are very stable. So the financing terms have remained pretty stable also.

Okay. So just to be clear, it doesn't -- the level of subordination does not affect the actual haircut or the amount of leverage you're able to take?

No, it hasn't. No.

Next, we have Trevor Cranston of JMP Securities.

I wanted to follow up on one of John's comments in the prepared remarks about the improvement in book value since the end of June. Can you comment on specifically what portions of the portfolio have been driving this strength since the end of June? If it's predominantly been concentrated in resi credit or if it's more spread out than that?

It's Jason. It's been fairly spread out. We've actually seen -- we've seen some continued tightening in both commercial and resi credit space. But Agency mortgages, despite the pending spread taper reinvestment, have actually continued to tighten. So it's kind of at a slow grind tighter in most notably 30-year space. So it's been fairly broad-based.

Okay. And when you look at the credit portfolio, it sounds like your fundamental view continues to be fairly positive. But with the amount of spread tightening we've seen in the last several months, are there any segments that you guys are sort of looking into opportunistically, maybe selling at some point and reallocating the capital into Agency CMBS, for example? Or are you still kind of comfortable holding what you had at June 30?

Yes, at the margin we've been favoring Agency MBS. They've offered attractive ROE. But with the credit assets, certainly, there's some point, as spreads continue to tighten where you think about lightening up from a relative value perspective. But given our asset screening process and our credit process, we're hesitant to kind of swap in and out of different sectors just because it's not easy to kind of go out and then redeploy capital and find bonds that we're comfortable with in the exact vintages and such that we favor. So the answer is we -- it's something we think about, something we look at. I'm sure there are spread levels where we would do that, especially given if our fundamental view had changed at all. But as of right now, we don't -- we haven't and don't have any immediate plans to do any broad sector rotation.

Right. I think the seasoning is the key because it is very difficult to replace the types of bonds we own. So I mean from those vintages, and so that really is one of the drivers.

(Operator Instructions) We do not have any more questions at this time. (Operator Instructions)

Ray, if there are no further questions, we're happy to conclude the call. And we want to thank everyone for participating and the opportunity to report to you our results. We feel good about it. We're very much accepting of any further inquiries if people want to reach out and ask further questions. Happy to chat about that to the extent that we can. And again, thank you for participating. Look forward to talking to you again. Have a great day.

Thank you. That concludes today's conference. Thank you for participating. You may now disconnect.