AG Mortgage Investment Trust Inc (MITT) 2014 Q3 法說會逐字稿

Welcome to the AG Mortgage Investment Trust third-quarter 2014 earnings call. My name is Sylvia and I will be your operator for today's call. (Operator Instructions) Please note that this conference is being recorded.

I will now turn the call over to Karen Werbel. Karen Werbel, you may begin.

Thanks, Sylvia. Good morning, everyone. We appreciate you joining us for today's conference call to review AG Mortgage Investment Trust's third-quarter 2014 results and recent developments. Joining me on today's call are David Roberts, our Chief Executive Officer; Jonathan Lieberman, our Chief Investment Officer; and Brian Sigman, our Chief Financial Officer.

Before we begin, I would like to review our Safe Harbor statement. Today's conference call and corresponding slide presentation contain forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995. All such statements are intended to be subject to the protection provided by the Reform Act. Statements regarding the following subjects are forward-looking statements by their nature: our business and investment strategy; market trends and risks; assumptions regarding interest rates and prepayments; changes in the yield curve; and changes in government programs or regulations affecting our business.

The Company's actual results may differ materially from those projected due to the impact of many factors beyond its control. All forward-looking statements included in this conference call and the slide presentation are based on our beliefs and expectations as of today, November 5, 2014. Please note that information reported on today's call speaks only as of today; and therefore you are advised that time-sensitive information may no longer be accurate as of the time of any replay listening or transcript reading.

Additional information concerning the factors that could cause actual results to differ materially from those contained in the forward-looking statements are included in the Risk Factors section of the Company's periodic reports filed with the Securities and Exchange Commission. Copies of the reports are available on the SEC's website at www.SEC.gov. Finally, we disclaim any obligation to update our forward-looking statements unless required by law.

With that I will turn the call over to David Roberts.

Thank you, Karen, and good morning, everyone. The third quarter was yet again another good quarter for AG Mortgage Investment Trust. We hit all our goals.

We again produced core earnings approximately in line with our dividend. This was, by the way, our fifth consecutive $0.60 dividend quarter.

Consistent with our business plan, we continued to move the portfolio to a higher percentage of value-added assets in both the residential and commercial sectors. We also finalized an important lending facility to support our commercial real estate origination program.

We maintained what we consider to be appropriately conservative leverage and interest rate positioning in a very volatile interest rate environment. Finally, we also continued to bolster our team, and we are pleased to welcome Karen Werbel as Head of AG Mortgage Investment Trust's Investor Relations. Karen comes to us from Prudential Mortgage Capital.

With that brief introduction I'll turn things over to Jonathan Lieberman, President and Chief Investment Officer of AG Mortgage Investment Trust.

Thank you, David. Good morning, all. For the third consecutive quarter, residential and commercial mortgage markets have been favorable, stable, and notable for their relative lack of volatility.

US mortgage performance continues to be solid in a choppy and difficult investment environment. The strong returns generated by mortgage-related assets is occurring despite the tapering of the Federal Reserve's quantitative easing program, geopolitical concerns, global economic weakness, stagnant US wages, and softness in some parts of high-yield markets. US mortgage investments with strong interest income attributes continue to outperform under these market conditions.

In October mortgage markets, like many capital markets, did experience a short period of underperformance. We are pleased that many mortgage strategies have recovered from short-term weakness and seem poised for favorable returns through the balance of the year.

One note with respect to Agency RMBS: the basis remains unsettled in response to lower interest rates and potentially higher prepayment speeds in the future. Accordingly, we are very pleased with MITT's portfolio performance, as well as our investment teams' continued execution on several strategic initiatives.

With respect to MITT's assets and financial performance, we distributed our fifth consecutive quarterly dividend of $0.60. MITT has paid cumulative dividends of $2.40 to our shareholders over the past consecutive 12 months, while retaining $1.89 of undistributed taxable income for future potential distribution.

The investment team continued executing on several key metrics, such as yield on interest-earning assets, net interest rate spread, debt-to-equity ratio, asset liability gap, and the ratio of credit assets relative to Agency RMBS allocations.

During the third quarter, Angelo, Gordon sourced on behalf of MITT and made several new investments on behalf of MITT in residential loans, non-Agency RMBS, consumer ABS, and Agency TBA RMBS. Our asset manager, Angelo, Gordon, continues to add talented investment professionals, which will benefit MITT's shareholders in the future.

As I noted on the prior quarter's earnings call, we have specific investment and return objectives for 2014. The key observable metrics were a measured rotation of capital into credit assets, new investments in residential and commercial real estate loans, protection of book value, and restoration of optimal risk-adjusted earnings capacity for the Company.

The investment team again executed and exceeded targets on all key objectives for MITT, including core earnings covering our quarterly dividend, new residential investments, and continuing our ongoing migration into credit assets. Among the quarter's investment highlights were several new investments in residential loan pools and non-Agency RMBS securities.

Although we did not close any new commercial real estate loans this quarter, we did establish a new $150 million credit facility, as David mentioned, for this asset class. Furthermore, we are developing a robust pipeline of future opportunities which will cross the finish line in future quarters. Overall, we are pleased with our current portfolio and about the future investment opportunities we are seeing to deploy additional capital in the mortgage sector.

Now, more specifically, MITT earned $0.67 of net income during Q3, of which $0.63 was attributable to core earnings. Core earnings were subject to a $0.01 retrospective adjustment for potential future Agency prepayments.

Book value rose modestly to $20.33, netted for the impact of our dividend, which was paid on October 27 to our shareholders. Our undistributed taxable income was $1.89 at quarter end.

The aggregate portfolio size declined modestly from the prior quarter at approximately $3.6 billion. This was a result of our continued rotation to lower levered credit assets.

Our hedge ratio stood at 106% of our Agency RMBS repo notional and 59% of our total repo notional. The hedge ratio was modestly lower at quarter end with inclusion of our net TBA position.

Prepayment speeds for our Agency book remain well-channeled for a seasoned portfolio and contained at 9.4% CPR. Leverage stood at 4.05 times, inclusive of our net TBA mortgage position, and was lower than last quarter, as I mentioned, due to our continued rotation of capital into residential loans and non-Agency RMBS from higher levered Agency securities.

Net interest margin, excluding the net TBA position, rose by 22 basis points to 2.92% from the second quarter. NIM benefited from a better mix of higher-yielding assets and less hedging.

During the quarter, we invested approximately $35 million to purchase legacy residential mortgage loans and borrowed $22.5 million under our new credit facility to lever existing commercial real estate investments.

Before turning to more details on the portfolio, I would like to share a few brief thoughts on our 2014 outlook, which we have outlined on slide number 5. During the third quarter, technicals and fundamentals remained supportive for both housing and the mortgage markets. Although recent economic data hasn't recovered as strongly as anticipated and overall global economy regressed, the Fed elected to wind down new QE3-related Treasury and Agency MBS purchases in October.

With respect to the economy, the US economy recovery continues to make steady and stable progress. Steady growth with little inflation pressure looks reasonable for the balance of 2014 and the first-half 2015.

A gradual pickup in nominal wages and lower oil prices can be viewed as constructive for future consumer consumption and housing. While housing in 2015 will not repeat gains of the last few years, we do believe home price appreciation will continue and be at slower and at different levels across local markets.

With regard to interest rates, we believe short-term rates will remain low for the next several months, given the high levels of worldwide liquidity. As to the interest rate curve, we would not be surprised to see ongoing volatility in short-term interest rates within a relatively contained range, stemming from economic headlines and potential monetary policy adjustments. Long-term rates should remain benign, given the limited inflation pressure, worldwide growth concerns, energy deflation, and a strong dollar.

Market participants will continue to use any new pieces of data to sway the interest rate market. Foreign exchange flows may also be influencing the Treasury and interest rate markets. We remain vigilant and don't want to read too much into distorted worldwide interest rate markets.

Our portfolio outlook and positioning reflects our objectives, vigilance, and generally neutral interest rate posture. Overall, the portfolio liquidity positioning was structured to withstand a wider range of interest rate, agency spreads, and credit spread market movements than in the summer of 2013. The sharp decline in interest rates in early October, along with credit spread widening was a very good test for our portfolio, and we are pleased with the portfolio's performance during this period of time.

Moving on to our portfolio, slide 6 details some of our top-level sector metrics from the quarter. The fair value of our Agencies and credit book was approximately $2 billion and $1.6 billion, respectively.

Focusing first on our Agency security book, we reduced the size of our Agency portfolio by roughly $260 million fair value quarter-over-quarter. The most significant change for our Agency book was a rotation out of lower-yielding 15-year pools and replacement with approximately $122 million fair value of net 30-year TBA positions.

As shown on slide 7, hybrid adjustable-rate mortgages represented roughly 22% of our Agency pool exposure, and over 70% of our fixed-rate pools have some call-protective characteristics. From a prepayment perspective, our pools continue to perform in line with our expectations, with a Q3 CPR of 9.4% and October CPR of approximately 8.3%.

Our aggregate credit book was $1.6 billion, which is essentially unchanged quarter-over-quarter. As I mentioned earlier in the call, we are pleased to have acquired four pools of residential mortgage loans.

In the prior quarter, we were also active and acquired approximately $122 million of residential mortgage loans. As we have noted on several calls, we believe that Angelo, Gordon is well positioned to source and originate attractive investments in the loan space as well as the commercial space on behalf of MITT.

Now turning to slide 9, we provide an update on our financing and duration gap. We currently have 33 financing counterparties. Funding conditions for MITT remain favorable, and we continue to benefit from lower cost of funds and better financing terms.

With respect to our duration gap, MITT's duration gap, inclusive of our net TBA position, increased slightly from 0.16 years to 0.25 years, roughly a quarter of a year, quarter-over-quarter. Given the strength of the mortgage market and continued economic recovery in the US, we maintained our bias to minimize our interest rate risk.

Interest rate swap positioning currently is overweight in the belly and back end of the interest rate curve. The front and the belly of the rate curve have experienced the most severe volatility in response to potential Fed monetary policy change. Looking forward, we should be able to improve our earnings capacity by allowing this gap to widen out to a more normalized level in the future.

Our hedging and interest rate sensitivity tables are also set out on the next slide. We continue to optimize our hedge book for our current portfolio and believe additional expense savings is achievable. Given the construct of our assets and hedges, we believe our portfolio today should be better able to withstand a wider range of interest rate market movements than our portfolio was during the summer of 2013.

So in closing, I would like to wrap up by saying we believe our portfolio is well positioned for today's market environment and should generate attractive future risk-adjusted returns for our shareholders. The investment team is excited by the flow of investment opportunities we are seeing both in the bond and loan market.

And with that, I will turn the call over to Brian to review our financial results in more detail.

Thanks, Jonathan. In the third quarter, we reported core earnings of $17.8 million or $0.63 per fully diluted share, versus $17 million or $0.60 per share in the prior quarter. At September 30 we had a negative $0.01 retrospective adjustment to our premium amortization on our Agency portfolio. Stripping this out, core would have been $0.64.

We are pleased with this result, and it marks the fourth quarter in a row where our core has met or exceeded our common dividend. Overall for the quarter, we recorded net income available to common stockholders of $19 million or $0.67 per fully diluted share.

In addition to the $0.63 of core earnings, our net income included realized and unrealized gains of a net $0.04 per share. The net $0.04 gain was primarily due to $0.37 of realized gains on our securities and derivative portfolio and $0.05 of net gains on our linked transactions, offset by $0.39 of net unrealized losses on our portfolio.

At June 30 our book value was $20.33, an increase of $0.07 from last quarter. To give you a better sense of our current $3.6 billion portfolio, I would like to highlight a few more statistics.

As described on page 3 and 4 of our presentation, the portfolio at September 30 had a net interest margin of 2.92%. This was composed of an asset yield of 4.63%, offset by repo and swap costs of 0.99% and 0.72%, respectively, for a total cost of funds of 1.71%. We are pleased that our net interest margin continues to trend higher, as the increase was driven by an increase in our weighted average yield, with the rotation into higher-yielding credit investment from lower-yielding Agency securities as well as the improved underlying performance of our securities.

On the derivatives side, we did not have any forward starting swaps, and therefore our swap costs reflected the true cost of our swaps.

On the funding side we continue to be active, and in September we entered into a $150 million commercial loan facility with a 5-year extended term and limited recourse. Through September 30 we have only borrowed $22 million on the facility to finance $62 million of assets, which equates to a 36% advance rate. As we add additional assets to the line, this advance rate will increase to between 70% to 75%.

On the resi side, we financed one of our loan pool purchases on our existing $100 million residential loan facility and entered into repurchase agreements with a 1-year initial term and a 1-year extension for $48 million to finance the residential loan pools we purchased in securities format during the quarter.

Our liquidity remains strong, and at quarter end we had a total liquidity of $198.9 million, composed of $43.7 million of cash, $99 million of unlevered Agency, and $56 million of unlevered Agency IO.

That concludes our prepared remarks and we would now like to open the call for questions. Operator?

(Operator Instructions) Jason Stewart, Compass Point.

Hey, good morning. Thanks for taking the questions. I want to just start with the commercial loan portfolio. You talked about something over a multiple-quarter period turning into volume; but any more specific guidance on what the pipeline looks like and the ability to close? Maybe perhaps some commentary about the competitive environment, and what is perhaps slowing that volume down a little bit.

Thank you for the question. Commercial loans take -- have a gestation time. They also have a tendency to be quite cumbersome on the documentation side. So we have had very normal challenges in terms of basically our originators closing transactions with borrowers.

We have a robust pipeline; but as I said, sometimes it's a little bit unpredictable with the borrower.

But as I said, sometimes it's a little bit unpredictable with the borrower. They may be trying to acquire property simultaneous with us and that can sometimes, once again, delay what we would anticipate at closing.

In terms of the competitive environment, certainly over the past 2 years you've seen more capital enter the space. You see a reinvigorated life insurance or insurance company space; participants come into those markets.

But for transitional properties, given our origination team and our platform in the brick-and-mortar side, we are seeing more than satisfactory flow. And it is just really a question of basically tackling, blocking, and execution.

Okay. That's helpful. Thank you. Then as I listen to and read the presentation, listen to your comments and read the presentation, it sounds like you are still pretty risk-averse/conservative. But you added some TBAs in lieu of the 15-years, and it doesn't look like there was too much material change on the hedging side. It actually looks like the duration cap was a little wider.

Could you just give me some context of how you are thinking about the dollar rolls, and how that fits into the overall risk framework of where you are thinking about the market?

The dollar rolls effectively are an alternative to pools. You have favorable liquidity with the TBA product. It is generic product, so you do not have the same attributes as pools, which is a negative.

You certainly have very, very effective financing. You are effectively financing at negative to LIBOR returns on the cost of funds.

We are conservative with that. We like the pools that we currently own quite a bit.

They are seasoning very, very nicely. Their prepayments are well channeled, so it is kind of a balance between giving up what is a known commodity, so to speak, for the investment and basically adding more TBA, which is going to be more generic in nature. We also have to accommodate any tax accounting issues with TBA within our portfolio.

In terms of hedging, I think we have noted in my prepared remarks as well as David's that we have made a conscious decision to be quite neutral on rates. We saw effectively the exact opposite move in rates in October that we saw last summer, and we expect that there can be these periodic bouts of volatility in either direction, rates up or rates down, in response to either economic headlines or potential Federal Reserve policy change.

So we have just decided -- we have made a very conscious decision to try to be more neutral there and really basically provide most of our return on a credit spread side as well as take risk on the mortgage basis.

Okay. Just to give us some context, how long do you think the dollar roll market stays special, with the Fed effectively out of the addition mode?

Well, I think -- we are not sure. We just -- we do know that they continue to reinvest proceeds that come off of the portfolio. We do not know when they will curtail that.

We believe that basically supply of new mortgage paper is only keeping up with basically aggregate demand from just runoff or replacement from the investment community. So it's just not foreseeable when the TBA market might reverse.

Okay. Thanks for taking the question.

Matthew Freedman, Credit Suisse.

Hi, it's actually Doug Harter. I was hoping you could talk about what progress you've made or where you are looking on the residential whole loan side right now.

We've been very active in the markets over the past 12 months. We have been very selective in terms of pools that we are buying on legacy.

We are predominantly concentrating on legacy nonperforming and reperforming mortgages. We see better value than, potentially, let's say, new production, jumbo, or other products.

We did put a small starter MSR trade into the book last quarter. That is something we continue to watch closely.

But I think we allowed or put an allocation into MITT on four transactions this past quarter, and we anticipate that we'll be measured and once again continue to rotate capital into these mortgage pools as the team procures them in the marketplace.

Can you talk about how you see the return differential right now between loans and securities on the resi side?

With the same delinquency profiles as security, we see anywhere from a pickup of 200 to 400 basis points on an unlevered basis for both reperforming and nonperforming loans.

Great. So I guess factoring in the lack of -- the less liquid nature of it, does that make that more attractive on a risk-adjusted basis?

You are giving up liquidity; you also have much, much greater execution risk; and you also have monetization challenges as well. So part of the 200 to 400 basis points of incremental pickup is to compensate for liquidity as well as those incremental risks.

Got it. Thank you for that color.

Vic Agrawal, Wells Fargo Securities.

Hey, good morning, guys. You've done a really good job of stability of book value; that's obviously very good. And you talked about some volatility in interest rates in both the quarter.

But I believe you said in your prepared remarks that you were looking to potentially widen out the duration gap to a more normalized level. What would be -- outside of the volatility are you looking towards, to potentially move it back out to historical levels?

I think what we would consider more a normalized level, or potentially a different level than where we currently are, is somewhere between a half a year and a year.

Then you also talked about slowing of home price appreciation. I believe we're in a low single digits now, and I think you expect that to continue to moderate.

If that turns negative for any period of time, whether it be geography or a national level, how would you look to -- how would your strategy potentially shift in that type of environment?

Well, I think the first thing is, would it be a broad-based decline in home prices or it is more localized? I think that right now we're in a normalized housing market, and you really have to think local: you have to think MSA, you have to think state, you have to think about jobs.

So we would potentially just basically mitigate some of that negativity by either exiting some portion of our pools, if we felt that the geography was not supportive of the asset; exit from securities that might be overweight in certain geographies; or potentially buy assets that we think would be well protected in those geographies.

Okay. Well, I appreciate the comments; and nice quarter and stable book value.

We have no further questions at this time.

All right. With that, I'll turn the call back to David for any closing comments.

I just wanted to thank everybody, and we look forward -- for attending our call, and I look forward to giving you another report after we complete the fourth quarter.

All right. Well, thank you all. Thank you, operator. With that, we conclude our quarterly call.

Thank you, ladies and gentlemen. This concludes today's conference. Thank you for participating. You may now disconnect.