Orchid Island Capital Inc (ORC) 2021 Q4 法說會逐字稿

Good morning, and welcome to the Fourth Quarter 2021 Earnings Conference Call for Orchid Island Capital. This call is being recorded today, February 25, 2022.

At this time, the company would like to remind listeners that statements made during today's conference call relating to matters that are not historical facts are forward-looking statements subject to the safe harbor provisions of the Private Securities Litigation Reform Act of 1995. Listeners are cautioned that such forward-looking statements are based on information currently available on the management's good faith belief with respect to future events and are subject to risks and uncertainties that could cause actual performance or results to differ materially from those expressed in such forward-looking statements. Important factors that could cause such differences are described in the company's filings with the Securities and Exchange Commission, including the company's most recent annual report on Form 10-K. The company assumes no obligation to update such forward-looking statements to reflect actual results, changes in assumptions or changes in other factors affecting forward-looking statements. (Operator Instructions)

Now I'd like to turn the conference over to the company's Chairman and Chief Executive Officer, Mr. Robert Cauley. Please go ahead, sir.

Thank you, operator. And sorry for the delayed start. We did have some technical difficulties. We got those cleared up, so I apologize. Get going here. Hopefully, everybody had a chance to download the deck as usual. The deck has not changed materially from quarter-to-quarter. So hopefully, to the extent you've been on our call before, you're familiar with the kind of agenda and the format. So kicking off Slide 3, just kind of outline of what we're going to discuss, as usual, go over the financial highlights for the quarter ended December 31, 2021, and spend some time talking about market developments, which impacted the results for the quarter and kind of talk about what looks -- things look like going forward. We'll go through our financial results in greater detail and then do the same with respect to portfolio characteristics, our credit counterparties and hedge positions. And this quarter, given the magnitude of the market development since Q end, I will basically expand the discussion on each of those points to kind of bring you up to date for the current quarter.

Turning to Slide 4. The results for the quarter ended December 31, we had an -- Orchid recorded a net loss per share of $0.27. This is comprised of net earnings per share of $0.22, excluding realized and unrealized gains or losses on our RMBS and derivative instruments, including net interest expense on our interest rate swaps. We had a loss of $0.49 per share from net realized and unrealized losses in RMBS and derivative instruments, including again, net interest expense and our interest rate swaps. Book value per share was $4.34 at December 31 versus $4.77 at September 30 was an approximately 9% decline. In Q4 2021, the company declared and subsequently paid $0.195 per share in dividends. And since our initial public offering, the company has declared $12.545 dividends per share including the dividend declared in January and February of 2022. The total economic loss of $0.24 for the share for the quarter equates to 4.93%, that's not annualized.

Turning to Slide 5 and actually 6. Given that there's quite a bit of information to cover on this call, I would just leave these for readers to peruse at your leisure. I'm not going to spend any time talking about them. They're actually somewhat backward looking, so this is stock price performance through the end of the year and with respect to book value since we don't have all of our peers book value numbers for Q4, this is only through the third quarter of last year. So I'll leave you to look at those at your leisure. Now we can talk about market development. And first, I just want to pause briefly just to kind of give you the high-level developments during the quarter that shaped what happened both in Q4 and even to a larger extent in Q1, and 3 basic things. First of all, inflation has accelerated materially. If you go back to the second quarter of 2021, whether it's CPI or PCE, either measure of inflation has been rising rapidly. The Fed characterized this acceleration is transitory. They have since abandoned that characterization and changed our outlook materially as well. Even inflation seems to kind of level off, if you will, with 5-or-so percent annual increases year-over-year during the third quarter, but in the fourth quarter and into 2022, it's accelerated and putting on your measure, whether it's CPI headline, which is well over 7% or PCE, which is a little under 6% on a headline basis. So these numbers are clearly well above the Fed's target range.

The second development has just been job growth and wage growth, again, very, very strong. And this is all in spite of COVID and Omicron. And then thirdly, and then the byproduct of those 2 is the development by the Fed, which has pivoted meaningfully. Fed has a dual mandate, as we all know, which is price stability and full employment. We clearly do not have price stability. And if we are not at full employment, we're very close on the verge of being so. So starting really in November of last year and again in December and in January of this year, the Fed has meaningfully pivoted and their outlook for monetary policy has moved materially. So that's basically what's happened.

Turning to Slide 8, as we typically show the yield curve, both nominal treasuries and swaps, I just want to make 3 points. First of all, if you look at the left-hand side or the right, you basically see that in this fourth quarter, we had a flattening of the curve, whereby shorter-term rates rise more than longer-term rates. The flattening that occurred in Q4 was just a repeat of what happened in Q3 and frankly, in Q2. So throughout the last 3 quarters of 2021, the curve has flattened. That's point one. Point 2, the flattening and the magnitude of the flattening and the magnitude of the movement in rates year-to-date in 2022, exceeds all of the movement we saw over the last 3 quarters of 2021. And then the final point, this is very true with respect to Q4 is the longer in rates. The 10-year did not move in case of nominal treasuries and only moved slightly with respect to swaps, even year-to-date 2022, if you look at the yield curve, we've seen the 10-year rise by about 50 basis points, but the 5-year's moved by over 80, I don't have the exact number (inaudible) 86 basis points. So we've seen a meaningful flattening of the curve, and this is all in response to expectations on the part of the market for meaningful Fed and straight hikes.

Slide 9, again, you see both the 10-year treasury 10-year swap on a quarter -- Q4 only and in the last 2 years, as you can see, rates were fairly stable in Q4. Since then, 10-year rates have moved higher basically into a new range. But again, it seems to stabilize somewhere in the 2% range. And I think that is significant. We'll talk about that a little more later in the call.

Slide 10. This is kind of our proxy for our earnings power. This just shows you the slope of the curve between the 5-year treasury and the 30-year bond. And you can see this goes back to our inception, most recently, starting last year, we've seen a pronounced flattening and this is a trend that is not our friend. This foretells earnings pressure. So we got to about 40 basis points at the end most recently this week. It was a little under 62 at the end of the year. And frankly, if you look in the forward curve, even out 6 months, it's basically flat or almost 0.

Now turning to the performance of the mortgage market. A couple of things we need to stress here, and this is really relevant for Orchid. As you can see on the top left-hand side, we're showing the performance of all of these 5 30-year fixed-rate coupons, and we normalize this data back to the beginning of the quarter, so we can show in our minds, just a clearer picture of relative performance. What's very notable. Remember, we had the Fed announced tapering in November, and we have them accelerated tapering in December. And the market has been expecting this, that the Fed is clearly responding to these economic developments and they're going to rapidly slow their asset purchases. You might have thought that the production coupons, the coupons that were most purchased by the Fed would have suffered, especially late in Q4. And if you look at this line closely, you can see that clearly 2.5s were the worst-performing coupon, that Fannie 2s did better than Fannie 4s. So in our minds, that's quite counterintuitive. Fannie 3s did fairly poorly almost as bad as 2.5s. And the reason lies in what you see in the bottom left, which is the rolls. Even though the Fed has announced the tapering of their asset purchases, rolls have been persistently high even into 2022. And what's notable here at least in the fourth quarter and more so in the current quarter, as you can see, 2 and 2.5 rolls remained strong. The 3 roll, which really didn't make much sense to us assuming (inaudible) premium mortgage, the underlying cheapest to deliver collateral was paying very fast, and the Fed was not buying them. that roll has been strong, but even more so, a head scratcher, so to speak, is the 3.5 roll in over the course of the fourth quarter improved and is continuing to improve more so in the first quarter of 2022.

Unfortunately, if you're an owner of spec securities as we are, developments in the rural market tend to be inversely related to the pay-ups for specs. And if you look at the top right, you can see that spec pay-ups have been soft in the end of 2021. And on the bottom right, this is a very useful picture. So what this basically shows is the pay-up for what we would call a lower quality collateral, higher loan balance still outperforms cheapest to deliver, but it's most sensitive to developments in the roll market. So the roll market is the red line. As you can see towards the end of the year, the roll is trading. This is the Fannie 3 coupon, around 5 ticks -- and the pay up, this is on the left-hand side, was a little over 40. And so this divergence against in favor of rolls and against specs was unfortunately not the way we were positioned. Year-to-date 2022, that red line, which is the roll for Fannie 3s is now like 8.5 ticks and the pay-up for 225 K3s is well under 20 ticks. So that conversion has increased materially.

Turning to Slide 12. This is just a picture on Wall. 2 points I'll make here, one, really since the end of the first quarter, Wall traded in a fairly well-defined range for most of 2021, ended the year around 80 basis -- or 80 normal [walls]. This is 3-month by tenure. Since year-end, it has increased, certainly around -- higher than where it was, but not meaningfully. So it's really going around 90 sitting here today in this week.

Slide 13. A couple of charts we like to use every quarter on the left-hand side, these are just LIBOR OISs for the 30-year coupon stack. And as you can see, the lowest 2 lines there are 30-year 2s and 2.5s, those have been the coupons most in favor by the Fed, and they've been very, very tight and were consistently tight even really through the end of the year, even though that tapering was announced with respect to higher coupons, they were fairly stable as well, although at higher levels. Not somewhat beneficial for us was if you look in the right-hand side, you can see that pay-ups for various loan balance 3s were pretty stable even into the fourth quarter. That has changed. All of these numbers you see on the right-hand side are down between 30 and 40 ticks. And obviously, these are 3. So we're as a 30% coupon traded with a $103 price at the end of the year, now they're more or less the current coupon. So those have dropped off significantly since year-end.

Just a picture on the various components of the aggregate indices, fixed rate indices and equities as well. This seems pretty much the same for both Q4 and the year. Higher risk assets did better. So the S&P, emerging market high-yield, domestic high-yield did well. [KIPS] did very well with the increase in inflation, not surprising. And mortgages, unfortunately, were laggards. And with respect to Q4, if you were to look at the one of the tendencies we have on Page 33, we give you the results for just December. And unfortunately, Agency mortgages were on the bottom of the stack. So a rough quarter for mortgages.

Turning to kind of the refinancing outlook. These 3 charts we like to use quite frequently. Again, Top left, we show you the refi index, and it's been trending down in the latter half of 2021. ended the year, as you can see, based on this somewhere around 2,500 since year-end that number, the most recently this week, is about 1,666 or so. So has dropped even more. The red line here is the mortgage rate, well, we ended the year under 3.4%. Today, that number is officially higher. It's in the case of the Freddie Mac survey rate, about 3.9% in the case of the bank rate, it's around a little over 4%, so that's been a meaningful change. It does appear that you might see some burn out in this slide just because of the way the refi index has been dropping, but really, that's not what's going on. If you look at the bottom, you see the shaded area. This just represents the percentage of the mortgage universe that's refinanceable by at least 50 basis points ended the year north of 30% was around 40% at the end of the third quarter. Today, it's under 15%. So really what's happened is just that everybody that could refi pretty much has in most of the markets are lower coupons. So the refi index is quite low and the percentage of the market that's refinanceable is also very low.

Turning to our results of operations on Slide 17. I just want to make a couple of points here. On the left-hand side, we tend to -- like we always do, we disaggregate our earnings per share by our proxy for core although it's not the same number that we get from our peers and then the realized and unrealized gains and losses. And you can see a rather large number there for unrealized gains and losses. I want to talk about this more in a few moments, but I want to point out on this page that most of the losses that were incurred were unrealized. The securities we still own. So even though they took mark-to-market losses, our realized gains were actually quite small. So the portfolio that existed at the beginning of the quarter, for the most part, was still there at the end of the quarter. And then with respect to the right side, returns by sector, which as you all know, we aggregate our capital into either our pass-through strategy or structured securities, which are predominantly IOs and to a lesser extent, inverse IOs, pass-throughs did quite poorly and IOs did okay. But given the fact that longer rates and especially in Q4, really didn't move, IOs tend to be sensitive to both longer rates, mortgage rates and prepayment expectations. And while they did okay, they weren't enough to overcome what we saw with respect to pass-throughs.

Slide 18, we just kind of give you a picture of our NIM going back. At this juncture, if you look at the green line, that's kind of where we've been in a pretty stable pattern, slight uptrend actually into the end of the year. But the blue line, the yields on our assets, even though they were up slightly this quarter. Based on where we sit today with the long end being fairly stable, we're just not so sure how much that's going to increase because we're pretty sure the redline is. And so at this juncture, from an earnings perspective, all eyes are on the Fed. The meeting in March is going to be critical, I think, -- earlier in this quarter, there was a high probability priced in by the market for a 50 basis point hike. I think that's less so now. But I think it will be important for setting the trend. Of course, also the Chairman will speak at a press conference and have a lot more to say about their anticipated path and we get the dot plot. So March will be very critical for kind of setting expectations for the balance of the year for funding rates. But also, we have to be watchful and mindful of the long-term rates because at the end of the day, that's what controls our NIM. So at this point, there's quite a bit of uncertainty in terms of the outlook for monetary policy and that hopefully will diminish over the course of the year.

Slide 19 is just basically more of the same, which we just looked at. And in Slide 20 is, just kind of our dividend versus our peers. This is a still information. I don't need to dwell on that now.

Now turning to Slide 21. There's not much written on this page, but this is where I basically take a chance to kind of pause and spend quite a few moments talking about our positioning, the impact of our positioning on our results, both for Q4 and Q1 and kind of our outlook going forward. After that, then we'll continue through the slide deck, and I can give you more deeper detail on our portfolio positioning, our activity in Q4, positioning at the end of the year activity this year and kind of our outlook going forward. So with that, I want to state that I think that our outlook for the rate markets and the Fed was pretty much correct coming into the end of the year. We are positioning really since the end of Q1 has been what we would consider defensive in nature. We expected higher rates, not quite the way it played out in terms of the flattening of the curve. But we did expect higher rates. We did expect to Fed to taper. And in response, we avoided production coupons in anticipation to taper, and we expected real softness and we overweighted higher coupon specs. That was the way we could generate our income without exposing ourselves to the Fed taper. We did increase our capital allocation to IOs and we kept our leverage ratio on the lower end of our typical range. However, in Q4, especially in 2022, spec performance has been poor. Even with the taper and the acceleration of the taper announced in December and January, rolls have remained quite strong. We've also seen an increase in rates, and we also happen to have the seasonal. We're at the point in the year when speeds tend to be slower and Fed buying, even though it's diminished with production lower until at least the last few weeks, Fed purchases are still above production. So all of that has combined to keep rolls strong. And as we've said before and I'll say it again, roll strength impacts pay-up for specs.

Some of the other nuances which are not as high profile, but still matter is that the dealer community, which are typically large players in the spec market, they position them either to sell to customers or more often, they'll position them for a few months, collect some very attractive carry and then sell them into the market. And they almost exclusively hedge those positions through the TBA market. And with the rolls as high as they are, in effect, their hedging costs are quite high. And so they've been much less of a participant in the market. So again, it's been a negative for specs.

And then frankly, with what's going on in the market and the extent of uncertainty that surrounds the mortgage market with tapering and balance sheet runoff and potential QT on the horizon, we're very much in a risk-off market. So mortgages generally have done quite poorly.

So where does that leave us? And how do we look at the world from this point forward? And the answer from our perspective is we still prefer the specified pool market over the TBA market, and I'm going to explain to you why we view that way. A few points to make. One, the fact that the long end of the curve has remained fairly stable tells us that the market expects the Fed to be successful in containing inflation. So we expect long-end rates to probably remain pretty stable for the balance of the year.

Secondly, mortgages have widened a lot, especially in this year. One index that we look at is the spread of the current coupon mortgage to the 10-year. That was trading in the low to mid-50s last summer. Even as late as January of this year was only increased to 78 or 79 basis points. And as of yesterday and the day before, it was at 100 or a little higher. So mortgages have widened quite a bit. And they may widen more. There's no question that there's still a lot going on in the market that's generally negative and we could see some widening in the short term. Long term though, I think the 100 off of the curve is cheap. And I think that mortgages will by the end of the year or next will come back and trade in their more historical range, which is kind of a low 80 to mid-80s spread. So for that reason, long term, we like mortgages; short term, it's going to be challenged.

And then if you think about it in terms of where we sit in the market today, in my mind, we're at a point of what I would call maximum uncertainty. We have a very high degree of range of potential outcomes with respect to the Fed over the course of the year. How fast is the Fed going to run their balance sheet off, over what time frame, how much they can allow it to shrink? Will they do quantitative tightening and then we have what happens with respect to the Ukraine. So we're at a point of very high uncertainty in the market, especially the mortgage market. And when that's the case, the market, as it always does, prices in a very high risk premium. And I think that's reflected in the spread at which mortgages trade and in a sense, you could say with respect to mortgages, we're kind of at an absolute bottom in the sense that we have all of this uncertainty and really no sponsorship.

The Fed buys but they're diminishing their purchases rapidly. Banks have not been buyers nor money managers. So really, you have maximum uncertainty or risk premium price into the mortgage market with no sponsorship. But we think this is going to abate, and that's important. We think that over time, over the course of this year, as the data comes in and the Fed takes actions that over time, the range of outcomes for the Fed will narrow and the market will focus in with higher degrees of comfort on what they view like the terminal rate will be. And at that point, we think that this risk premium will be able to come off. And we also think that rolls will be hard pressed to maintain these levels without the Fed sponsorship and as rolls come off, that's a positive for specs. And there are other factors that lead us to want to continue to own specs on the horizon kind of secondary factors. But one, for instance, is during the fourth quarter this year, the indices will include specs. So to the extent there are benchmark money managers out there, they will be buyers of specs. If rural softness abates, the dealer community can be reengaged and start to own them.

And then finally, just the fact that the conforming loan limit increased so much this year, the convexity of the cheapest executive collateral, PBA collateral is quite poor, another reason to own spec. So where does that leave us? Well, I mean it's been a rough quarter. We've incurred some mark-to-market losses as you kind of probably can infer based on what I've said, but we are not inclined to sell. We have no compelling reason to lock in losses. The carry on these assets is very excellent. We have had to reduce our balance sheet some. We will continue to remain at prudent levels of leverage, but we are very good at managing our liquidity, and we've been able to do that throughout all this period, and we've been able to minimize the realized losses that we've incurred both in Q4 and in Q1 to date. So we basically have been able to retain a big chunk of this portfolio. And we think, one, that it is going to provide excellent carry over the balance of the year and; two, longer term, the performance outlook is very favorable.

So with that, I'm going to move through the balance of the slide deck. I won't spend as much time on some of these slides. The first slide is 22, and you can see that with respect to our IO book, it has moved fairly sizably in percentage turns roughly from 20% to 30%. Some of that is purchases of IOs. Otherwise, it's just market, just the fact that IOs went up in price, it passes down. year-to-date, that percentage is even higher towards IOs and for the same reason. We show our activity for the quarter on the right-hand side. I'm going to drill on that at this moment.

Let's just turn to Slide 24, and I can talk about the portfolio in a little more detail. If you look at the snapshot of the portfolio at December 31, it looks very similar to the way it was at the end of the third quarter, it's just bigger. We were raising a lot of capital last year, and our total mortgage assets increased by about 16% over the quarter. However, the composition of breakdown was very stable. In fact, even the (inaudible) only changed by 1 month. And the hedge positions I'll talk about in a moment here.

Since year-end, as I mentioned, we have -- the market has been very, very bad. We reduced the portfolio by about 20%. The way that we did that is a combination of 2s, 2.5s and 3s, roughly even a little more under -- or selling 2.5s versus 3s. And we've reported realized losses quarter-to-date of about $35 million. If you look at this, just one final point, just our interest rate shocks we want and this was as of the end of the year. And the profile is relatively flat, and that's typically what we strive for. That $31 million number, you know that's model based, that represents a fairly low percentage of both assets and equities.

Just quickly going through the balance of the slide.

Slide 25, the refi index, as I mentioned, is much lower. It's well under 2,000. Our spec allocation is probably up slightly since year-end. It had been declining through the second half of last year, most of last year, up this year just because of the relative allocation of sales of lower quality specs.

With respect to our speeds, our portfolio continues to pay very, very slow. Our pass-throughs prepaid at 9% CPR in the fourth quarter, structured were under 25%. So far in 2022, January was even lower than the 9%. It was a little higher in February, but Q1 is basically on track to match Q4, if not be slightly lower.

Slide 27, just a couple of points here. this orange line is the 10-year treasury. And I think what's kind of notable here. We ended the year about 151 basis points. And where we sit today, it's about 200. That's still well below levels observed in '14, '17 and '18 and even early '19, yet refinancing activity is lower. And lower region is just that we've basically gotten everybody into a lower coupon and there's very little of the index of the mortgage universe that's refinanceable. So in terms of our speed, what we could observe over the year, I'm not so sure if we get to the low levels we saw back in '13 and '14, but we would expect them to be below that dotted line for this year.

Slide 28 just talks about our leverage. We're targeting somewhere 7.5% to 8%, that's where we are today. It looked like we took a dip at the end of the second quarter, that's really misleading. We were raising capital back then, and we raised (inaudible) for quarter end. So early in Q3, that number was back up around 8%. So it will be down slightly from there kind of going forward.

And then finally, with respect to our hedges, I'll kind of talk about this 2 perspectives. One, what we did in Q4 and then what we've done in Q1. So starting on the top left with respect to our futures, the future position grew quite a bit in Q4, more so on the 5-year point of the curve. As I mentioned, we've seen a tremendous amount of flattening. When I said we were positioned defensively coming into Q4, that was more of a bias towards the long end in terms of hedges, so we've shifted that, added to the 5s and also Ultras.

And then with respect to the TBAs, we did add some 3s as of the end of the year, that was 0 at the end of Q3. And then that actually was basically gone now. With respect to our swaps, as you can see, over the course of the quarter, there was really nothing -- there was nothing done at all. Since the end of the quarter go, we've moved those -- some of the 3- to 5-year bucket. Those were just older 4- and 5-year swaps that were rolling down the curve. We extended those out to the 7-year point of the curve. And then with respect to our swaptions, there are no material changes. We did have a contingent part flow that was under just because we've kind of gotten a lot of that trade that we could. And we have put on one trade since year-end, which all -- it's not really relevant for this discussion. We can talk about that at the end of the quarter.

That's about it. Those are the extent of our prepared remarks. And with that, operator, we can turn the call over to questions and field any questions anybody might have.

(Operator Instructions) We'll take our first question from Jason Stewart with Jones Trading.

I wanted to start with just 2 quick things. One, if I missed year-to-date book value, if you could give me that. And then 2, maybe a quick update on how you're thinking about share repurchase activity in light of where the stock is relative to book.

Yes. Well, I did not say it. It's down close to 20% owing to the fact -- especially in February, with the move in TBAs and specs. And with respect to share activity, we have not been able to do that in our blackout period also, given the magnitude of developments in the market during the quarter, we don't feel comfortable doing anything until that news was fully in the market. So now that it is, we are in a position to continue to use our share repurchase plan. We did increase the size materially in December, up to 10% of our outstanding. And to the extent the stock is trading below book, we have every intention to use that.

Got you. Okay. And then going to thinking about the dividend based on the current book, I mean that sort of has the current $0.055 run rate is a fairly high ROE or implied ROE payout. How do you sort of foot that with the current economics? And do you feel like you get credit for it? Thoughts on leaving it at $0.055?

I would say that the outlook is not favorable for the dividend. We really want to see what happens in March. I think that's a pretty pivotal month decision. As I said, not even 2 weeks ago, the market was pricing in a pretty high probability-ish 50, that's come off, especially with the developments of the Ukraine. But we really want to see what they do and what they say, what the top plot looks like. And it's quite possible there may be an adjustment, but we just want to make sure we kind of have a better feel for what we're looking at before we do so. But obviously, I mentioned on the call that the forward curve out even 6 months is inverted. So this is not a favorable environment for levered bond investors or limited investors of any kind. So I hope you can extract from that what you will.

Right. Got it. Okay. Last one, and then I'll jump out. If we just take a bigger picture view of pay-ups and sort of CPRs moving to a natural rate of turnover, at some point, there's little risk left in owning specified pools. How much risk do you think is left in the portfolio in terms of pay-up premium? Or do you feel like we're already sort of at that point where it's an even economic trade and there's only upside?

Yes, I think we will pause, I don't know if we're there, I don't know if you make much of what happened late yesterday and today where mortgages have rebounded. But it seems like near term, we've gone through a lot of widening and specs have really suffered with the rolls, but we own 3s predominantly, as you know. And in the third quarter, fourth quarter, those were (inaudible) prices, not their parent coupon. So depending on the story, those pay-ups are very low. Could they get a little lower? Probably, but the outlook going forward, I think is very asymmetric. And the fact that the long end stayed where it is and the market seems comfortable with the Fed's ability to contain inflation. I think as we go through the year and the Fed does hike, they often overshoot as we all know.

It could be that not long from now, a year or so from now, we're looking at the market starts pricing in the next recession. And so we're very keen on trying to maintain that optionality. That's why we're not going to sell all these specs even if there is a little near-term pain as we think long term, but for instance, if we were putting new money to work today, what would you buy? And I think they represent value, the earnings outlook isn't so great just because of the Fed. But from an asset-only perspective, they look very attractive, and we're trying to maintain that optionality. We're doing our best with respect to managing our liquidity, trying to keep our leverage ratio prudent but trying to maximize how many of these we can hold on to because we think they have good carry in the near term and upside in the long term.

Okay. Next, we'll go to Christopher Nolan with Ladenburg Thalmann.

Bob, given that it's an election year, how do you -- historically, how has the mortgage market responded to that?

There is much -- it's not a presidential year. So the focus will only be on the congressional and senate races. I don't expect that. I mean not the only instance and I'll ask Hunter to chime in. The only time we've really seen elections affect markets is through the Fed and maybe the perceived reluctance on the part of the Fed to do a lot to disturb the economy and the run-up to an election, a presidential election. I don't think I've ever seen that with respect to other races, and I wouldn't expect one this year.

No, the only thing I would add to that is just to the extent that it's either going to stop the fires of inflation or cool it off a little bit to get a reversal of some of the energy policies perhaps or if you go cutting the other way, and if you have a strong push and a willing Congress to push through some sort of an infrastructure project on top of hyperinflation that we're seeing, that could be bad for us. But other than that, I wouldn't expect it to be material.

Great. And I guess just a follow-up in terms of the portfolio declines, are you anticipating any further reduction in the portfolio size in the rest of the quarter?

We could. If the market continues to move against us, we're doing everything we can to maximize our retention subject to the constraint that we're not going to let our leverage ratio get out of control because we need to maintain lots of liquidity. So -- to the extent the market goes more against us and our book value were to come down and our leverage would go up, we would have to prune it as needed. The last few months have been sort of a slower evolving version of the taper tantrum we saw in 2013. And I think when the dust settles -- when the dust settled then as well as now, there were opportunities to be had, and I think that continues to be the case.

So for us, we're just taking day-to-day and making sure that we have ample liquidity to deal with continued weakness in the mortgage market so that we can meet all of our margin calls and maintain leverage that's reasonable. And so that's kind of how we're going about this. So when things start to calm down a little bit, I think we can reassess and see what the longer-term vision is going to be.

(Operator Instructions) Next, we'll go to Mikhail Goberman with JMP Securities.

I just have a quick follow-up on that portfolio reduction question. You said you reduced it by about 20% since year-end, mostly in 2.5s and 3s. Did you reduce the IO portfolio at all? Or is it all just in the pass-throughs?

Pass-throughs. That percentage would be higher.

Right. IOs are now a bigger percentage of the portfolio. And I think I remember you saying that the TBA shorts that you had on as of the end of the year are gone now, is that right?

As of the end of the year, they're gone, yes. And what we will do, sometimes when we sell assets, we'll sell TBA and then fill with pools. So that's really not a hedge trade, so much. It's just means to facilitate a trade or sale or -- and we buy the same way a lot of times we buy on swap as well.

All right. That's it for me. It sounds like a pretty difficult environment right now. Wishing you guys best luck going forward.

Yes, it's been a rural quarter to be a mortgage investor and kind of abandoned by everybody. Nobody wants to own them. So you know anybody wants to buy a few billion, let us know.

I'll keep my eyes out.

Okay.

I see we have no further questions. I'll now turn it back over to Bob Cauley for any additional or closing remarks.

Thank you, operator. Thank you, everybody. Appreciate your interest. As always, to the extent you have further calls or questions, you want to contact us directly, feel free to contact us at the office, our number is 772-231-1400. Otherwise, we look forward to talking to you next quarter. Thank you.

That does conclude today's conference call. You may now disconnect.