AG Mortgage Investment Trust Inc (MITT) 2017 Q3 法說會逐字稿

Good morning, and welcome to the AG Mortgage Investment Trust's Third Quarter 2017 Earnings Call. My name is Brandon, and I will be your operator for today. (Operator Instructions) Please note this conference is being recorded.

And I will now turn it over to Karen Werbel. Karen, you may begin.

Thanks, Brandon. Good morning, everyone. We appreciate you joining us for today's conference call to review AG Mortgage Investment Trust's Third Quarter 2017 Results and recent developments.

Before we begin, I'd 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 safe harbor protection provided by the Reform Act.

Statements regarding 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 and regulations affecting our business are forward-looking statements by their nature.

The company's actual results may differ materially from those projected due to the impact of these factors and others beyond its control.

All forward-looking statements included in this conference call and the slide presentation are made as of today, November 1, 2017, and we disclaim all -- any obligation to update them. We will refer to certain non-GAAP measures on this call. And for reconciliation, please refer to the earnings press release and 8-K, which are posted on our website and have been filed with the SEC.

At this time, I would like to turn the call over to David Roberts.

Thanks, Karen, and good morning to everyone. First, I'd like to share some highlights from the third quarter with you today. Our book value increased during the quarter by 3.1% to $19.35 per share at quarter's end. Spreads for most Agency RMBS, residential investment and ABS markets tightened during the third quarter, which resulted in an increase in our book value.

Our core earnings for the quarter was $0.51 per share, including a negative $0.01 per share retrospective adjustment and $0.05 per share from dollar roll income, positive obviously, associated with our net TBA position. The $0.51 per share core earnings compares to $0.47 per share in the second quarter. The increase in core earnings from the prior quarter was driven primarily by the rotation from credit into Agency RMBS.

As we had discussed on prior earnings calls, we view the Agency sector as attractive and offering compelling risk-adjusted returns. As such, we increased our equity allocation to Agency RMBS in the third quarter to 39.5% from 32.4%. We maintained our leverage during the quarter at 4.2x, and we actively managed our duration gap by adding hedges alongside our increased allocation to Agency MBS.

As always subject to '40 Act constraints, we are continuing to see opportunities to add to our credit portfolio by leveraging the Angelo, Gordon platform. As always, we remain opportunistic and evaluate investment opportunities on a relative value basis. During the quarter, we declared a dividend of $0.475 per share for the eighth quarter in a row and a $0.10 per share special cash dividend.

As announced in our press release, we are pleased to welcome TJ Durkin into his expanded role as Chief Investment Officer. TJ has a strong track record and deep expertise in mortgage credit investing. I will remain CEO and Chairman of the Board, while TJ will remain Co-Portfolio Manager alongside Yong Joe. TJ and Yong, both of whom joined Angelo, Gordon in 2008, have helped manage MITT's portfolio since MITT's inception in 2011.

With that, I will turn the call over to TJ.

Thank you, David. Good morning, everyone. During the third quarter, the Fed in a September meeting kept the federal funds interest rate unchanged and maintained a slow and steady path of monitory policy normalization, with the commencement of their well-telegraphed balance sheet reduction plan.

Progress continues to be made with respect to the Fed's dual mandate of full employment and price stability. As unemployment remains below 5%, however, inflation has softened recently in response to a series of transitory factors. Due to the removal of some uncertainty around the Fed's balance sheet reinvestment plan, Agency mortgages realized their best spread performance of the year, with nominal spreads tightening to benchmark rates by 8 to 10 basis points during the quarter.

Our interest-rate outlook remains minimally changed with an expectation of a largely benign and range-bound market into year-end. Accordingly, we expect the policy rate tightening of 25 basis points in December with the potential for 2 more rate increases in 2018. At which point, we see the Fed running out of room for further rate normalization for this current cycle. We expect to learn who will replace Janet Yellen as Chairperson of the Federal Reserve in the very near future. While this may offer a brief period of volatility, we do not see it materially altering either our economic or rate outlook over the near to medium term.

Spreads for most mortgage and asset-backed credit markets remained well supported during the quarter against a heavy new issued calendar, strong geopolitical rhetoric and 3 severe hurricanes, 2 of which impacted high exposure areas of securitized credit. Spread tightening was driven by healthy demand for structured credit products, coupled by stable fundamentals, attributes which have continued to position RMBS and ABS as attractive spread products in a market that has been yield-starved for several years.

While most sectors enjoyed varying degrees of spread tightening during the quarter, the GSE credit risk transfer sector experienced bouts of volatility. The CRT sector had traded in line with broader credit markets, but then deviated with the arrival of Hurricanes Harvey and Irma. The unknowns of the extent of damage and homeowner insurance coverage put heavy pressure on this space. However, as the damage became better understood, industry research came out with more benign loss forecasts than initially feared, resulting in a recovery of pricing.

The mezzanine tranches that MITT owns ultimately ended the quarter roughly unchanged. Fundamental collateral performance of residential mortgages continues to remain steady, benefiting from continued home price appreciation and borrower credit carrying. Additionally, we think any material rise in interest rates points to expectations of higher economic growth and rising incomes, both of which would be supportive of home prices and fundamental collateral performance. We do not believe that higher interest rates will materially hamper housing affordability. We remain constructive on housing and believe home price stability is durable at this time. We think it is important to note that unlike many other asset classes where we have seen underwriting standards loosen, residential mortgage lending has remained extremely conservative since the crisis. Given that backdrop, we do expect to see mortgage credit begin to open at the margins.

As housing fundamentals remain strong, and for the first time, post-crisis, the regulatory environment is starting to show signs of relaxing under the new administration.

Focusing on Slide 5 of our quarterly earnings presentation. We outlined the third quarter activity. As David mentioned earlier, we actively rotated the portfolio from credit into Agency MBS, investing $14.6 million of net equity into Agency and TBA positions, offset by $22.5 million of net equity generated from sales of Credit Investments. The current favorable backdrop for Agency MBS supports our tactical rotation of capital into the sector.

On the credit side, we are finding value in both new -- the new issue market as well as in more niche opportunities we obtained through the Angelo, Gordon platform. Additionally, MITT, along with other Angelo, Gordon funds participated in a term securitization in July, which refinanced previously securitized nonperforming mortgage loans into a newer lower-cost fixed-rate term financing. We maintained exposure to the whole loans through an interest in the subordinated tranches as well as through our ownership of the vertical risk retention portion of the capital structure.

Slide 8 shows updated hypothetical ROEs of the investment opportunity set we see currently across the Agency, residential credit, commercial and ABS sectors. It is important to note that our ability and willingness to invest in each of these sectors varies over time and the investment team constantly evaluates where the best long-term relative value lies for our shareholders.

On Slide 9, we laid out our investment portfolio composition for the quarter. The fair value of our aggregate portfolio increased to approximately $3.5 billion from $3.4 billion in the prior quarter. The fair value of our Agency book was approximately $2.2 billion and the fair value of our credit book was approximately $1.3 billion. Additionally, the portfolio had $166 million of liquidity at quarter-end, giving us ample dry powder for new investments.

Brian will go through our liquidity in more detail later in the call.

Focusing on our Agency portfolio on Slide 10, you will see a breakout of our current exposure by product type. The constant prepayment rate for our Agency book was 7.4% for the third quarter. Given the size of our Agency book relative to the overall market, the investment team is able to be disciplined and selective on adding Agency risk into the portfolio. Because of this, we expect prepayment fees for our portfolio to generally be slower and exhibit greater stability than the overall universe of Agency collateral, owing to the favorable characteristics of our holdings.

Moving ahead to Slide 14 of the quarterly earnings presentation. We lay out the duration gap of our portfolio, which declined modestly this quarter to 1.36 years versus 1.44 years in the prior quarter. The modest decline during the quarter was due to the addition of hedges as we've increased our exposure to Agency MBS.

As we look forward, we believe MITT is well positioned to take advantage of a wide range of Agency and credit opportunities at favorable returns. The investment team is currently underwriting several larger opportunities in the less liquid residential credit and CRE sectors, which we hope to close in the fourth quarter. We also continue to deploy capital into investments that we find attractive in more liquid sectors, such as Agency mortgages and other residential Credit Investments.

With that, I turn the call over to Brian to review our financial results.

Thanks, TJ. Overall for the quarter, we reported net income available to common stockholders of $32.6 million or $1.17 per fully diluted share. Core earnings in the quarter was $14.3 million or $0.51 per share versus $12.9 million or $0.47 per share in the prior quarter. There was a negative $0.01 retrospective adjustment in the third quarter due to the premium amortization on our Agency portfolio which was unchanged from the prior quarter.

At September 30, our book value was $19.35, an increase of $0.58 or 3.1% from last quarter due to the reasons David previously mentioned. To give you a better sense of our current $3.5 billion portfolio, I'd like to highlight a few more statistics. As described on Page 4 of our presentation, the portfolio at September 30 had a net interest margin of 2.57%. This was comprised of an asset yield of 4.69%, offset by financing and hedging costs of 1.80% and 0.32%, respectively, for a total cost of fund of 2.12%.

Net interest margin increased from the prior quarter, primarily due to asset rotation from credit into Agency MBS as overall cost of funds declined with increased use of lower-cost Agency repos, which was partially offset by the lower asset yield of Agency MBS relative to our Credit portfolio.

As of September 30, we had 39 financing counterparties and are financing investments with 28 of those counterparties. Funding continues to be plentiful with new trends in both the credit and the Agency space.

At quarter-end, we had ample liquidity of $166 million, which was comprised of $62 million of cash, $82.5 million of unlevered Agency whole pool securities and another $22 million of unlevered Agency I/O securities. Additionally, at quarter-end, our estimated undistributed taxable income was $1.59. This was a decrease from $1.74 in the prior quarter, primarily due to the $0.10 special dividend that was declared during the quarter. The special dividend was largely related to the settlement by Bank of America with RMBS investors related to mortgages sold by its countrywide unit in 2016. This event generated additional taxable income for us in 2016, and the declaration of the regular common dividend of $0.475 and the $0.10 special dividend fulfills our 2016 taxable income distribution requirement. Given that this was a onetime event in 2016, we don't anticipate that we would need a special dividend in 2017. We also utilized our At The Market equity offering program or ATM during the quarter. We issued approximately 360,000 shares of common stock for net proceeds of roughly $7 million.

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

(Operator Instructions) And from Crédit Suisse, we have Douglas Harter.

TJ, can you just talk about how you're looking at the trade-off between risk and return when thinking about sizing the duration gap for the portfolio today?

Yes. Sure. If you go to the slide that we have on Page 14, you'll see that just our credit book has a cash flow or modified duration, which we showed you that the market doesn't necessarily trade in a lockstep basis point with the types of credit assets we own, like it was for the Agency book. So another way to look at this slide would be, the Agency has a 2.68-year duration. We would subtract the hedges of 2.2 years and you're looking at more of a 0.45 or 0.5 interest rate gap on the Agency book. And you would need much bigger moves in interest rates for our credit spreads to react to interest rates. It's a much more higher credit spread book. And so that's how we look at it.

So I guess would that then sort of translate down to that table below where you show the interest rate exposure to a rate shock?

Yes. So I think that's more of a theoretical model driven approach to how our credit book would react in an instantaneous shock. I don't think that the market would actually price that, but that's the way a model-driven sort of scenario analysis outputs the risk parameters.

And I guess, is there a difference in the Credit portfolio in legacy versus kind of new issuance in terms of any of those sensitivities? Or would they act -- behave relatively similarly?

Yes. So again, for what we own, I think, Legacy has been more resilient, generally speaking. But again, what we're putting into the portfolio here is higher credit spread product that just is less sensitive to interest rates. And the scenario at the bottom does have all of our credit book, assuming just -- again a raw 100-basis-point shift in interest rates without really taking into consideration that the credit spread would probably marginally tighten in that interest rate scenario for some of our assets. So we don't factor that in.

From KBW, we have Eric Hagen.

TJ, congrats on your expanded role. Were there any earning accretion that you guys expect from refinancing the NPL deal during the quarter?

Nothing material now. It was more of an extension of the debt and we got a slightly tighter interest rate on the senior debt from refinancing in the current market 1 to 2 years prior.

Yes. It's pretty early in the quarter as well.

Got it. Okay. Great. And then following up on one of Doug's questions. Can you just give us the breakdown in -- I think it's $473 million or so prime RMBS. What's the breakdown between legacy and 2.0 securities?

I don't have the exact breakdown, but the majority would probably be geared towards legacy.

Okay. And then how did credit spreads fare during the month of October?

Generally tighter.

For all assets or just...

Yes, pretty consistently across the board. But the CRT sector that we mentioned also tightens. Again, the further we've gone away from the hurricanes, the better that space is traded.

I guess it calls into question, do you guys expect some seasonal widening given the hurricane attention that was focused on at the end of September? I mean, is there -- should we expect that going forward end of summer widening, if you will?

You mean our forward-looking basis.

On a forward-looking basis, yes.

Yes. I mean, this is the first year that they starting issuing -- the GSE started the program in 2013 and this is the first year we've experienced, I guess, weather-related volatility. So it seems fairly episodic.

(Operator Instructions) And from JMP securities, we have Trevor Cranston.

In the prepared remarks, you guys mentioned that you were evaluating some credit opportunities in the -- on the less liquid side in both the resi and the commercial spaces. Can you elaborate a little bit on what type of collateral you're looking at in those investments, particularly if it's like legacy loans or new issue?

Yes. I mean, we haven't closed those transactions. I would say that they're of similar investments that we've put in the book over the course of the past few years, but I don't want to comment too much as we haven't closed any of the transactions mentioned.

Okay. And if things sort of go well as you evaluate them, are those transactions you'd expect to close in 4Q or could that potentially be a 1Q event?

Most likely fourth quarter, if we're to win the mandates or go through diligence.

(Operator Instructions) Looks like we have no further questions at the moment.

Okay. Great. Thank you. We look forward to speaking to you all next quarter.

Thank you. Ladies and gentlemen, this concludes today's conference. Thank you for joining. You may now disconnect.