MFA Financial Inc (MFA) 2009 Q1 法說會逐字稿

Ladies and gentlemen, thank you for standing by and welcome to the first quarter 2009 earnings conference call. At this time, all participants are in a listen-only mode.

Later we will conduct a question and answer session, instructions will be given at that time. (Operator Instructions) As a reminder, today's call is being recorded. I would now like to turn the conference over to Stephanie Coyle. Please go ahead.

Good morning. The information discussed on this conference call today may contain and refer to forward-looking statements regarding MFA Financial Inc. that reflect management's beliefs, expectations and assumptions as to MSA's future performance and operations. When used, statements which are not historical in nature including those words such as believe, expect, anticipate, estimate, plan, continue, intend, should, may or similar expressions are intended to identify forward-looking statements.

All forward-looking statements speak only as of the date on which they are made. These types of statements are subject to various known and unknown risks, uncertainties, assumptions and other factors including but not limited to those relating to changes in interest rates and the market value of MSA's investment securities, changes in the prepayment rates on the mortgage loans securing MSA's investment securities, and the feasibility to borrow to finance its assets, changes in government regulations affecting MSA's business, MSA's ability to maintain its qualification as a real estate investment trust for federal income tax purposes, MSA's ability to maintain its exemption from registration under the Investment Company Act of 1940 and risks associated with investing in real estate related assets including changes in business conditions and the general economy.

These and other risks, uncertainties and factors including those described in MSA's annual report on Form 10-K for the year ended December 31, 2008 and other reports that it may file from time to time with the Securities and Exchange Commission could cause MSA's actual results, performance and achievements to differ materially from those projected or expressed or implied in any forward-looking statements it makes. For additional information regarding MSA's use of forward-looking statements, please see the relevant disclosure in MSA's quarterly report on Form 10-Q for the quarter ended March 31, 2009 and/or the press release announcing MSA's first quarter 2009 financial results.

I thank you for your time and I would now like to turn this call over to Stewart Zimmerman, MSA's Chief Executive Officer.

Good morning and thank you all for attending the earnings call. Joining me this morning are Bill Gorin, President and Chief Financial Officer; Ron Freydberg, Executive Vice President and Chief Investment Officer; Teresa Covello, Chief Accounting Officer; Tim Korth, General Counsel; Craig Knutson, Senior Vice President; and Deborah Yang, First Vice President.

As we generally do, what I'm going to do is just go over some of the highlights of the press release then open the call for questions. Today we reported net income of $51.6 million or $0.23 per share of common stock for the first quarter ended March 31, 2009.

On April 1, 2009 we announced our first-quarter dividend of $0.22 per share of common stock which is being paid today to stockholders of record as of April 13, 2009. As of March 31, 2009 our book value per share of common stock was $6.13 versus $5.29 as of December 31, 2008.

Our first-quarter earnings represented a return on average equity of 16%. We are pleased with these results especially in this period of a continued economic stress.

Our goal is to position the Company to continue to generate a double-digit return on equity during this turbulent period through appropriately leveraged investments and high quality, residential mortgage-backed securities. The current financial environment is driven by exceptionally low interest rates with a Fed funds target rate of between 0 to 25 basis points.

Repo funding remains available to MFA at attractive rates from approximately 20 counterparties. But it continues to be our view that the financial industry remains fragile in the light of the probable credit impact of the current worldwide economic recession.

At March 31, 2009 our debt to equity multiple was six times on a liquidity position with $648 million consisting of $406 million of cash, $157 million of of unpledged agency mortgage-backed securities and $85 million of excess collateral with several counterparties. As a leveraged owner of approximately $9.7 million of agency mortgage-backed securities, the value of our assets continues to be positively impacted by the Federal Reserve's program to buy approximately $1.25 trillion of agency mortgage-backed securities during 2009.

These purchases are increasing prices and reducing the yields available on agency mortgage-backed securities and as a result we did not purchase additional agency MBS during the first quarter of 2009. Through its market activities, the government is achieving its desired goal of lowering mortgage rates.

We expect that these lower mortgage rates along with higher loan-to-value limits on HT refinancing will lead to faster prepayment speeds of 2009. However, we believe that MFA's portfolio, which is 73% interest-only hybrid adjustable-rate MBS, should be less impacted by higher prepay speeds than will fully amortizing agency mortgage-backed securities.

This is due to the fact that interest-only hybrid adjustable-rate mortgage-backed securities do not require principle prepayments for an initial time period, typically varying between three and 10 years. Lower monthly payments on interest-only mortgages significantly reduced the incentive to refinance into a fully amortizing mortgage which may require a high monthly payment despite a lower mortgage rate.

Based on current LIBOR and repo rates, we expect our overall funding costs will continue the downward trend in the second quarter of 2009. Additionally, while book value per share includes a negative swap valuation of approximately $226 million as of March 31, 2009 from exiting interest rate hedges, we expect a partial recovery of this amount over the course of 2009 due to both scheduled amortization of $733 million of swaps and the roll-down of the remaining average swap [turn].

As of March 31, 2009 under our swap agreements we paid a fixed rate of interest averaging 4.2% while receiving a floating rate averaging 9 basis points, our notional balances totaling $3.74 billion with an average maturity of 28 months.

In addition, utilizing our existing wholly-owned subsidiary, MFResidential Assets I, LLC investment team and infrastructure; we are positioned to take advantage of the unprecedented opportunities available from investment in the senior tranches of non-agency residential mortgage-backed securities. Based on market conditions, we currently anticipate allocating additional capital to MFR LLC in acquiring additional senior mortgage-backed securities in the second quarter of 2009.

As of March 31, 2009 MFR, LLC has acquired approximately $75 million of senior MBS at a (inaudible) discount weighted price of 51% of the face amount of the securities and with average credit enhancement of 11%. In this current market; our MFR LLC team is acquiring assets at projected loss yield -- loss-adjusted yields in the mid to high teens.

While these MFR LLC investments are not leveraged, it is likely that leverage for non-agency mortgage-backed securities may become more readily available in 2009, creating the potential for higher returns in equity and asset appreciation. In addition, unlike our agency mortgage-backed securities, due to discounted purchase prices, the return on these assets will increase as the prepayment rates on these securities trend up.

Through MFR LLC, MFA is able to take advantage of these opportunities while at the same time building a track record which could lead to additional asset [matching] opportunities. During the first quarter of 2009, our portfolio spread which is the difference between our interest earning asset portfolio net yield of 5.03% and our 3.26% cost of funds was up 177 basis points.

During the first quarter, our MBS net spread which is the difference between our MBS net yield of 5.23 and our cost of funds was 197 basis points. In the first quarter of 2009, our costs of compensation and benefits and other G&A expense were approximately $5.4 million.

At March 31, 2009 agency MBS and related receivables totaling $9.7 billion represented approximately 93% of our assets. Senior-most tranches of non-agency MBS including MFR LLC were $247 million, representing approximately 2% and cash of $484 million representing approximately 5%.

The remaining of our assets consisting primarily of real estate, other MBS assets and goodwill represented less than 1% of total assets. The average cost basis of our agency MBS portfolio was 101.28% of par as of March 31, 2009.

Our assets continue to be financed with multiple funding providers through repurchase agreements. I'm now going to turn it over to Craig Knutson who is running our MFR LLC entity and Craig has some words for you.

Thank you Stewart. Good morning everyone.

As previously disclosed, we formed MFRresidential Assets I, LLC; or MFR, as a wholly owned subsidiary of MFA in November of 2008. We have a terrific team that was assembled over one year ago of mortgage market veterans with up to 25 years of experience in whole loan and mortgage-backed securities trading, securitization, structuring, investing and modeling.

Our team has been actively involved in the current market since last year. We are engaged in diligent daily dialogue with all major dealers and maintain a keen awareness of sector pricing, product flows and market technicals.

But more importantly, we employ a comprehensive proprietary methodology that includes fundamental analysis on a loan level basis. As an example, we utilize zip code level home pricing to estimate current LTVs on all loans underlying any bonds that we analyze.

This methodology provides us with critical insight in order to model loan performance and anticipated cash flows on bonds. By overlaying these insights with market pricing levels, we're able to identify both cheap and rich bonds.

Our first bond was purchased on December 4. As Stewart said, as of March 31, we had invested approximately $75 million. As of yesterday, we've invested a total of approximately $150 million. This $150 million of investment is comprised of approximately 40 securities.

These are all senior-most tranches of their respective deals. Underlying collateral is prime, near prime and Alt-A loans, average FICO of approximately 731.

There are no option arms nor are there subprime arms. Our average purchase price for this $150 million is approximately 52.5 and our average credit enhancement is about 11%. Again, MFR assets have no leverage and these bonds are being booked at loss-adjusted yields in the mid to high teens. With that, I will turn it back to Stewart.

Thank you Craig. At this point, I want to thank everybody for being on the call. Why don't we turn it over for a Q&A portion?

(Operator Instructions) Steve Delaney, JMP Securities.

I wanted to ask a little bit about MFR and Craig's color was unexpected but most appreciated. So that covered certainly part of that. I guess other than Craig, who is on board on that team? And as you expand this effort or execute here, do you anticipate having to add additional members to the MFR team?

Let me add -- I'm going to turn it back to Craig and he can answer your question directly. Again as you might remember about a year ago, we made an endeavor to launch MFR as a public vehicle.

All the folks that had joined us at that time have stayed on and the question might be why did you do that because these are all -- this is a terrific team of people and they made MFA a better company. So Craig and his guys, they've just made MFA terrific or even a better company than it was. But let me turn it over to Craig to answer your question directly.

We added -- last year we added a gentleman named Sunil Yadav who came most recently from Bank of America who has worked on mortgage trading desks and strategy groups. We added Alvin Sarabanchong who was most recently at Morgan Stanley and at UBS before that.

Alvin has traded securitized mortgage products. He's also bought whole loans and securitized deals. Deborah and Gudmundur are also involved in our process and we have also added an accounting person, Kathleen Hanrahan who joined us last year to help out with this.

In answer to your question, did we anticipate adding additional people; yes, it's certainly possible we could add additional people. We will add them as the needs arise.

Also, Steve, also remember we have the underlying structure of the infrastructure of MFA which handles all the back office. Again, we haven't added -- or maybe we've added one additional person.

So it has been our philosophy since day one. To say that we are lean and do we watch the bottom line is certainly an understatement. Actually you have been to our offices, so you know that.

But we're never going to have hundreds of people kind of roaming around figuring out what they're going to do. Could there be an incremental person or two? The answer is absolutely yes. In this kind of market, we can probably attract some talent that maybe we could not have attracted two or three or four years ago.

Understood. But it sounds like you've pretty much got the core group in place to do what you want to do here in the near-term?

Absolutely correct.

We do. And the process is really a scalable process. So we've developed this process so that to look at securities is a pretty efficient process.

Sure and I guess you have to look at a lot of securities. The hit rate as far as what you buy versus what you review is probably pretty small percentagewise.

We probably modeled and looked at 500 securities to buy the 40 odd that we have. So, yes.

So now that you are sort of up and running with this and you have got -- you've updated us that you've purchased about another $75 million here in the second quarter. So you're at $150 million which is roughly 10% of what the capital base was, the equity base at the end of the first quarter.

Can you guys give us sort of just some broad parameters as to how you see the sort of the MFR portfolio, where it might go as a percentage of either total MBS or as a percentage of total capital? What is sort of your -- in your dialogue with the Board, where are we headed I guess as this continues to roll forward?

Steve, we look at the market opportunities and what is important for shareholders is to take advantage of the opportunity while maintaining the option to do other things with this core portfolio. I would -- as I say, based on the market, [preponderance] of assets will remain agencies and the majority of the equity will be allocated to agencies.

So you will see incremental growth. Exactly where we are going will depend on the market. But you could be comfortable that the majority of both the equity and assets will stay committed to agencies.

Okay, all right, and I guess we'll stay tuned for -- I hear you on the market opportunity. I mean if these prices on these [borne] AAA's were to just rock higher and depending on how TALF 2 comes out, the returns may not look that great relative to the ROE on agency.

Correct, but I think what Craig has made clear is that we have stepped up the acquisition process as we have become very comfortable with our systems. So we have been stepping up the process.

As Craig had mentioned, we were about -- there's a little over $0.52 on the dollar which is our average purchase price. So at $0.52 on the dollar, you can really do quite well in terms of quality of the asset and what the underlying return is going to be.

Sure, I guess one final thing, Bill -- and this is more of an accounting issue or financial reporting issue. But it seems to me that maybe -- that all of us, both buy side, sell side and you guys; we may need to start thinking of leverage a little differently with respect to the denominator. And I'm wondering if we shouldn't be -- this unlevered MFR portfolio as it stands at $150 million, if we shouldn't sort of do an allocation of equity. In other words, the denominator for agency repo leverage should be total equity minus the equity allocation to the senior RMBS because (multiple speakers)

Steve, that's exactly how we look at it. And while we reported a six times debt to equity multiple, I do exactly what you say. I subtracted $75 million from the equity. If I ran the old MFA excluding MFR, you'd be at 6.3. So there's not a big difference yet. But you are exactly right. The leverage will look a different but so far there's not a big difference.

Alright thanks so much. Appreciate the color.

Bose George, KBW.

Yes this is [Jay Dramani] on for Bose George. Just wanted to ask on your non-agency MBS investments so far, can you give us an idea of where you are seeing value and what kind of target ROEs you're currently targeting on new investments?

Sure, as I mentioned, the way that we identify value is by loan-level detail by basically peeling back the securities to look at loan-level detail. So it's not so much that well gee, this sector of Alt-A's or this sector of near-primes are trading cheap. It's more done on an individual security basis and then overlaid on the opportunities that the market gives us. And quite frankly, that can change on a day to day or a week to week basis.

So I think the best way to answer it is to say that we value the underlying securities by looking at underlying loans and projecting cash flows and then we buy the securities that we think are priced most cheaply in the market relative to their fundamental value.

Also I would like to add something to what Craig has said as if the question hasn't been asked, but I would like to both ask it and answer it. This is not a prepaid play.

We're not suggesting that we're going to model these at the 25 CPR and say my God, we hit a homerun. The model is very, very low in terms of what the CPRs might be. If in fact prepaids are higher, well fine. That's terrific. But it's not a prepaid play.

So the target ROE would be as you said in the mid to high teens?

Yes, I think that would be safe.

Since your Q is not out yet, can give us your total portfolio duration number?

First of all, the Q will be out this afternoon. But the duration I believe was point 0.24. We have reduced duration this quarter.

Andrew Wessel, JPMorgan.

This is Daniel [King] here for Andrew Wessel. Looking at the run rate of the G&A, how should we look at that? Should we look at this $5.8 million, I guess particularly the $3.5 million of compensation and benefits as the run rate going forward or (multiple speakers)

As we have told you, we have added an additional team but with more expertise. So that's why it has increased somewhat. But I think that is a good approximation of where we see the run rate being.

Stephen Covington, Stieven Capital.

Congratulations on a nice quarter. I guess just kind of following up on some of the earlier questions on MFR -- and I understand a lot of your allocation of capital depends on opportunities. But are you limited at all based on any type of bylaws or retests or anything as to how much capital you can allocate to this strategy versus the agency?

Steve, if you looked at all -- going back at all of our documents, what it actually says is 50%. But we're never going to approach 50%. We're not near 50%. It isn't like that.

What we are seeing is a terrific, terrific opportunity which we think is in the best interest of shareholders for us to be able to explore. And to devote a certain amount of capital to the Company, although meaningful admittedly, but where you can wind up at 15 to maybe 18% return on equity on those with the right underwriting and I keep saying that -- with the right underwriting, with the right group of people doing this.

This isn't buying a pig in a poke, it's doing the absolute what's necessary in order to understand what the underlying collateral is. Again as Craig has said, going to zip code level, understanding with the current LTV is, that's all part and parcel of what we do. And if you can come up with underlying collateral that you feel comfortable with and that you're fortunate enough because of the marketplace, being able to buy at $0.50 on the dollar, it's a win-win situation.

Agreed. It sounds very interesting. I guess the other thing, as you talk about loss adjusted ROEs, does that require then you making assumptions on -- loss rates are very general assumptions. I guess can you talk just generally about what type of assumptions you are making as you are looking at various pools?

Sure, in answer to your question; yes, it does entail obviously loss assumptions which are a function primarily of two things which is default rates and loss severity. And those really vary by pool and they vary by underlying loans.

So to give you the example of using the underlying zip codes, a pool that has 50% of the loans in say California in particular zip codes where house prices have declined significantly would be very different from a pool where we had 50% of the loans in New York or Texas. So it's really done on an underlying loan level, individual loan level to come up with those default and loss severity assumptions. But part of the way that we book these assets is with -- there's obviously a significant discount if our average purchase price is 52.5 and part of that discount is not an [accretible] discount. So it's a credit reserve discount.

Okay, couple more for me. I guess if it was determined that it would be opportunistic to add more capital to this strategy, would you do so by just raising capital at the MFA level and allocating that capital to this strategy or would you consider again going back out to form a separate company MFR?

It's a great question. What we're trying to do is to keep our options open. And again, as you know, we came out a year ago with MFR and we hit kind of a tough [sledding] relative to the market place.

So again, the question for us is what would be better and what is the -- keep your options open. So I can't give you a precise answer to your question other than the fact we look at it both ways.

Great, thanks. Lastly, on CPRs for the agency strategy, you have commented that you expect them to trend higher even for your portfolio. But could you talk just -- how high do you expect them to get if you could guess? Do you expect them to get back to where they -- to some of the peaks in previous cycles or is it -- can you make a guess at this point?

Let me give it a shot and then -- Bill, maybe you want to add to it. Our CPR prepaids are running relative to our portfolio pretty much where we thought they would be. Are they higher than they were? The answer is yes but certainly very, very manageable as you can see from the press release.

And again, you have to remember that about 73% of our portfolio consists of hybrids that have an interest-only period and that interest-only period can range from three to 10 years. That's very different than having a portfolio that consists mostly or the majority of 30-year amortizing loans. It's a very, very different situation.

So what I have seen and the research that I have read has shown that the type of assets that we own, meaning hybrids that have the interest-only feature, should pay at about a 40% lesser level than something that's a 30-year self-amortizing. So I'm feeling very comfortable on how we have situated the Company relative to what we're facing going forward.

In terms of where CPRs may go, I guess your question is can we go back to August and September of '03. I guess the government could wave a magic wand and just say everybody is getting a 3% mortgage, we don't care how much money you make or how much money you don't make. I guess they possibly could do that.

Knowing the programs as they exist today, I think that CPRs will continue to get higher. I think prepaids will continue to increase. You're going to see modifications as an example. And I think that we don't at our portfolio get back to '03 levels. Again, that isn't wishful thinking. It's based on really what we think and what we are modeling for the Company.

There's no need to add to that. I think our high was probably in the low 40s for a month in '03. But at that time, people were cashing out. If you remember, they were taking out mortgages and taking money out which is certainly not possible now.

And secondly, we did not have any interest-only hybrids at that time. So it was all amortizing mortgages. So we have every reason to believe until we are wrong that prepaids should not trend up near the highs that we achieved in 2003.

Your dollar price was a lot higher back then too (multiple speakers)

That's true. We had a higher premium. Ron?

If you think about it also that if somebody has a 6% non-amortizing mortgage, to keep the payment the same, they need to have -- fully amortizing, it has to be at least 150 basis points lower. That's just to keep it the same. That's not even to get an incentive from a payment standpoint.

Thanks a lot for taking all of my questions guys and nice quarter.

(Operator Instructions) Henry Coffey, Sterne, Agee.

Good morning and let me add my congratulations. It was a clean quarter all around.

When you look at your portfolio today or say on the -- yesterday, are you continuing to see appreciation in value and is that value going to continue to work its way into your reported book value? And also, I was wondering if you could -- I may have missed some of this -- but if you could hone in a little bit on some comparisons in terms of where pricing in the private-label market has gone in the last, say, 90 days.

I will let Craig handle the second part. In terms of the first part of the question, Bill do you --?

Let me say that book value includes a change in asset value plus your earnings for the month. We obviously haven't closed the books for the month of April but you are right. The trend for our agencies, our non-agencies and our swaps have all been positive this month to date. So you do have reason to believe there's been some upward trend in book value this month.

And as far as non-agency pricing in the last 90 days, I guess the best way to describe it is it's been somewhat of a roller coaster. I think we probably thought at the time that the first week of December was probably a low point and prices generally trended up through December and through the end of January.

And then I would say February and March, they trended down again and in many cases even below where they were in the early part of December. Since then, they have trended up fairly significantly.

I think the recent news and speculation about TARP 2 -- or TALF 2 and PPIP have obviously given some buoyancy to the market. So we have seen some price appreciation in some sectors and not so much in others. But you know, it's still a very opportunistic market. We look at [BizList] and see price stock on the Street that can range in the range of 20 points, believe it or not.

But the trend is positive and the underlying fundamentals (technical difficulty) performing relative to -- I know that's a big question but when you sat down and looked at this project when you first joined MFA, how are the portfolios performing with your expectations?

Again, the MFR portfolio, the first bond was purchased in December and I will tell you that from a fundamental standpoint, I'm not sure that there has been a whole lot of change in the underlying fundamentals that drive these cash flows, the one exception being that prepayments -- again this is only several days old -- but prepayments on remittance reports in April were actually a little bit higher than most people expected. So we are not ready to say gee, these things are going to prepay quickly.

But the April numbers were somewhat encouraging. So that's really the only fundamental thing that has changed. We still see housing prices declining and we see delinquencies increasing. So from a fundamental standpoint, I'm not sure that there is that much difference.

From a technical standpoint, there is a tremendous amount of difference. There are a lot more buyers in the market right now. The banks have been very active. Money managers and hedge funds have been active. So it's a much more robust sort of buyers market right now.

At this time, speakers, there are no further questions in queue. Please continue.

Well I just want to thank everybody for being on the call. We look forward to speaking with you next quarter. Thank you.

Ladies and gentlemen, today's conference will be made available for a replay after noon today until May 7 at midnight. You may access the AT&T teleconference replay system by dialing 1-800-475-6701 and entering the access code 998453. [Operator Instructions]

International callers may dial 320-365-3844 with the same access code of 998453. That does conclude our conference for today. Thank you very much for your participation and for using AT&T executive teleconference. You may now disconnect.