Arbor Realty Trust, Inc. (ABR) Q4 2018 Earnings Report, Transcript and Summary

Good day, ladies and gentlemen, and welcome to the Q4 2018 Arbor Realty Trust Earnings Conference Call. At this time, all participants are in a listen-only mode. Later, we will conduct a question-and-answer session and instructions will be given at that time. [Operator Instructions]. And as a reminder, today's conference call is being recorded. I would now like to turn the conference over to Paul Elenio, Chief Financial Officer. Please go ahead.

Okay, thank you, and good morning, everyone and welcome to the quarterly earnings call for Arbor Realty Trust. This morning, we'll discuss the results for the quarter and year-ended December 31, 2018. With me on the call today is Ivan Kaufman, our President and Chief Executive Officer. Before we begin, I need to inform you that statements made in this earnings call may be deemed forward-looking statements that are subject to risks and uncertainties, including information about possible or assumed future results of our business, financial condition, liquidity, results of operations, plans, and objectives. These statements are based on our beliefs, assumptions and expectations of our future performance, taking into account the information currently available to us. Factors that could cause actual results to differ materially from Arbor's expectations in these forward-looking statements are detailed in our SEC reports. Listeners are cautioned not to place undue reliance on these forward-looking statements, which speak only as of today. Arbor undertakes no obligation to publicly update or revise these forward-looking statements to reflect events or circumstances after today or the occurrences of unanticipated events. I'll now turn the call over to Arbor's President and CEO, Ivan Kaufman.

Thank you, Paul, and thanks to everyone for joining us on todays call. We're very excited today to discuss the significant success we had in closing out 2018 as well as our plans and outlook for 2019. As you can see from this morning's press release, we had an exceptional fourth quarter with tremendous operating results which should continue to demonstrate the strength of our brand and the value of our operating franchise. Additionally, our income stream is a very diversified and long-dated providing a predictable and reoccurring annuity of core earnings, making us very comfortable with the level of our current dividend and confident in our ability to increase our dividend in the future. Our 2018 highlights were truly remarkable and exceeded our expectations. Some of the more significant accomplishments included generating substantial growth in our core earnings allowing us to increase our dividend twice and significantly earlier than expected to an annual run rate of $1.08 per share which represents a 29% increase in 2018; delivering a total shareholder return of 30% in 2018, and 26% annually for the last three years; achieving returns on equity of in excess of 30%, a 23% increase over our 2017 returns. Producing record originations of $6.8 billion, an 8% increase from our record 2017 numbers, continuing to be a market leader in the small balance lending arena, increasing our balance sheet 24% in 2018 to $3.3 billion; growing our servicing portfolio at $18.6 billion, a 15% increase from 2017; continuing to be a market leader in the non-recourse securitization arena closing our 10th and largest CLO totaling $560 million, and improving terms and flexibility; achieving significant economies of scale through substantially reduced debt costs in all of our borrowing facilities allowing us to maintain levered returns in excess of 13% in an extremely competitive environment; and effectively accessing accretive growth capital raising $215 million allows us to fund our growing pipeline and increased our core earnings. The considerable growth we produced in our servicing revenues, escrow earnings, and net interest income from our balance sheet portfolio in 2018 has provided us with a very strong baseline of predictable and stable earnings heading into 2019. This makes us feel very comfortable with our current dividend and confidence in our ability to grow our dividend in the future. We will be providing a chart with our next Investor deck detailing our income sources on a year-over-year basis. This will illustrate the quality, diversity, and duration of our income streams which differentiates us from our peers and why we believe we should be trading at a low dividend yield in our peer group. To highlight this further, I would like to talk about the tremendous growth we had in both of our business platforms. In our agency business, we produced significant origination volumes with strong margins, while maintaining our servicing fee and growing our servicing portfolio. We originated $1.6 billion in agency loans in the fourth quarter which is the highest quarterly total in our history and originated a record $5.1 billion in loans in 2018 representing a 15% increase over our 2017 volumes. We also finished as a top 10 Fannie Mae DUS lender for the 12th consecutive year, a distinction only one other DUS lender has achieved and we were once again a top small balance lender for Fannie Mae and Freddie Mac as well. We also grew our servicing portfolio another 5% in the fourth quarter and over 35% in the last two years and are now at $18.6 billion. This portfolio generates a servicing fee of 45 basis points and had an average remaining life of 8.5 years which reflects a 13% increase in duration over the last two years. As a result, we have created a very significant long-dated predictable annuity of income of over $80 million gross annually and growing the majority of which is prepayment protected. In addition, this growth has resulted in increases in our escrow balances that combined with a significant increase in LIBOR has considerable increased our earnings run rate associated with these balances leading into 2019. And these income streams, combined with the fee income we generate from our originations, has also created significant diversity and a high level of certainty in our income sources. With respect to our balance sheet business, we continue to focus on growing our loan book. We grew this portfolio 48% in 2017 and another 24% in 2018 on $1.7 billion in new originations, and we now have a $3.3 billion portfolio heading into 2019. The income generated from these assets is a significant component of our earnings, and based on our strong pipeline, we remain confident in our ability to continue to grow this income stream in the future. As I have discussed in the past, the market remains fiercely competitive and we do expect this environment to continue throughout 2019. And while this would result in some margin compression on our agency products, it will be somewhat offset by reduced commission expenses. We also continue to extend out the duration of our servicing portfolio and have been increasing our average loan size with larger deals that will drive down our servicing costs, creating more long-dated predictable annuity of income. In addition, as we have talked about on our last few calls, we remain very committed to growing our presence in the single-family rental market. We believe that single-family rental market is as big as the multi-family market and at this point is very fragmented and we are very committed in becoming a leader in this space. We were an active participant in the Freddie Mac SFR pilot program prior to its conclusion and we achieved a significant amount of success in a very short period of time. And we're now investing heavily to build out the appropriate infrastructure to develop this platform and I'm very pleased in our ability to generate a pipeline already. In addition, we announced earlier this week, we hired Steve Katz as Chief Investment Officer of SFR to lead and continue to develop this platform. Steve comes with over 25 years of experience in residential mortgage banking and recently was the Managing Director of residential loan trading and lending groups for Morgan Stanley. We're very, very excited to have Steve join our executive team and are looking forward to leveraging Steve's expertise and our national sales and operational platform to significantly grow this business and further diversify our lending platform. Overall, we're extremely pleased with our 2018 results and then the tremendous success we are having in growing our business, greatly enhancing the value of our franchise, and a significant return we have generated to our shareholders. Our results have been truly remarkable and have consistently outperformed our peers. We're also very excited about our ability to continue to grow our brand, expand our market presence, and feel we have created a very strong baseline of diversified, predictable core earnings heading into 2019. We're a complete operating franchise with a significant diverse capital-light agency business which has allowed us to consistently increase our earnings and create more predictable, stable, and long-dated income streams. And again, we remain confident in our ability to continue to grow our dividend in the future and we'll continue to work very hard to maximize the return to our shareholders. I will now turn the call over to Paul to take you through our financial results.

Okay. Thank you, Ivan. As our press release this morning indicated, we had an incredible fourth quarter and full-year 2018. As a result, AFFO was $28.9 million or $0.29 per share for the fourth quarter and $113.1 million or $1.21 per share for the full-year of 2018. Our AFFO for the fourth quarter was $0.39 per share, excluding a $10 million non-cash loan loss reserve related to a land development project that is the only remaining significant legacy asset leftover from the financial crisis. And these results reflect an annualized return in average common equity of approximately 13% for both the fourth quarter and full-year 2018 and 17% and 14% respectively excluding this legacy asset reserve. These ROEs were up significantly from the same time last year due to the substantial portion of our earnings that are being generated by our rapidly growing capital-light agency business and from the additional cost efficiencies we are experiencing as we continue to scale our balance sheet business. As Ivan mentioned, we are very pleased with our ability to continue to generate core earnings in excess of our current dividend, and remain confident in our ability to increase our dividend in the future. Looking at the results from our agency business, we generated approximately $42 million of income in the fourth quarter on approximately $1.6 billion in originations and $1.7 billion in loan sales. The margin on the fourth quarter sales was 1.13% including miscellaneous fees compared to 1.47% -- an all-in rate of 1.47% on our third quarter sales, mostly due to some large portfolio deals that we closed in the fourth quarter which generally have a lower margin and consequently less commission expense. We also recorded $36 million in mortgage servicing rights income related to $1.6 billion of committed loans during the fourth quarter representing an average mortgage servicing rate of around 2.25% compared to 1.83% on our third quarter committed loans of $1.4 billion mainly due to changes in our valuation assumptions related to our 2018 mortgage servicing rights. Sales, margins, and MSR rates fluctuate primarily by GSE loan type size. Therefore changes in the mix of loan origination volumes may increase or decrease these percentages in the future. Our servicing portfolio also grew another 5% during the quarter and 15% in 2018 to $18.6 billion at December 31st with a weighted average servicing fee of approximately 45 basis points and an estimated remaining life of 8.6 years. This portfolio will continue to generate a significant predictable annuity of income going forward of around $84 million gross annually which is up approximately $7 million on an annual basis from the same time last year. Additionally, early runoff in our servicing book continues to produce prepayment fees related to certain loans that had yield maintenance provisions. This accounted for $5.8 million in prepayment fees in the fourth quarter which was down from $7.5 million in the third quarter. These fees are recorded in servicing revenue net of a write-off for the corresponding MSRs on these loans. As Ivan mentioned, we also continue to see increases in our interest bearing deposits with over $800 million of escrow balances which are earning slightly less than one month LIBOR. And with a substantial increase in interest rates, we're now earning significantly more income approximately $9 million more in annual run rate as compared to this time last year. So clearly we had a tremendous 2018 in our agency business. As Ivan mentioned, we have positioned ourselves nicely to have a successful 2019 as well. In our balance sheet lending operations, we grew our portfolio 24% to $3.3 billion on $1.7 billion in the rate in originations in 2018. This significant growth continues to increase our core earnings run rate and based on our current pipeline and deep origination network, we remain extremely confident in our ability to continue to grow our balance sheet investment portfolio in the future. Our $3.3 billion investment portfolio had an all-in yield of approximately 7.66% at December 31st which is up from a yield of approximately 7.52% at September 30th mainly due to an increase in LIBOR. The average balance in our core investments was flat; at just over $3.2 billion for both the third and fourth quarters despite our fourth quarter growth, mainly due to the timing of our originations and runoff in the third quarter. And the average yield on these investments was 7.76% for the fourth quarter compared to 7.37% for the third quarter mainly due to an increase in LIBOR and from approximately $1.5 million more in accelerated fees from early runoff in the fourth quarter as compared to the third quarter. Total debt on our core assets was approximately $2.9 billion at December 31st in all-in debt cost of approximately 5.24% compared to a debt cost of around 5.03% at September 30th mainly due to an increase in LIBOR. The average balance on our debt facilities was relatively flat at approximately $2.9 billion for both the third and fourth quarters. And the average cost of funds on our debt facilities increased to approximately 5.13% for the fourth quarter compared to 4.93% for the third quarter, due to an increase in LIBOR. Overall, net interest spreads on our core assets on a GAAP basis increased to 2.63% this quarter compared to 2.44% last quarter mainly due to more acceleration of fees from early runoff and an increase in LIBOR in the fourth quarter. Our overall spot net interest spread was 2.42% at December 31st compared to 2.49% at September 30th and were approximately 88% of our portfolio comprised of floating rate loans, we will see an increase in our net interest income spreads, if interest rates continue to rise in the future. And lastly, the average leverage ratio on our core lending assets including the trust preferreds and professional preferred stock as equity was flat at approximately 79% for both the third and fourth quarters and our overall debt-to-equity ratio on a spot basis including the trust preferreds and preferred stock as equity was down to 2.3:1 at December 31st from 2.5:1 at September 30th mainly due to $100 million of capital we raised in December. That completes our prepared remarks for this morning. And I'll now turn it back to the operator to take any questions you may have at this time. Operator?

Thank you. [Operator Instructions]. And our first question comes from Jade Rahmani of KBW. Your line is now open.

Thanks very much. Could you provide any color on the impact of volatility that played out in December? How did your clients, your key borrowers react? Were there any deals that got postponed, pulled from the market? Any repricings and has there been any spillover so far this year?

So most of the volatility was more so on the stock market side. On the interest rate side, we saw a significant decline in the 10-year on a quarter earlier which created a surge in business. And I think maybe there was a little uncertainty as to where the market was going. So people are looking to lock down and lock in their rates to get as many transactions close as they could. So we had a great fourth quarter. I think it was a reflection of the drop in interest rates and also people being a little concerned where volatility would be going in the next couple of months, so people were pretty comfortable with where rates were at that point in time.

Do you have any color on the mix of acquisitions versus refi's in your business?

Sure. It's running pretty much the same as it's been for the last few quarters. It's 60% of refi, 40% acquisition and it fluctuates from 50:50, 60:40, 55:45. But right now it's about 60:40.

And how about loans that are bridge-to-bridge financings we've been hearing a lot about this from some other mortgage REITs and debt funds. Are you seeing that as a prevalent trend in the market and are you looking to avoid those situations? Do you see anything alarming about that?

You mean bridge-to-bridge where --

Yes, bridge-to-bridge.

It's typical for some lenders to the other.

Yes.

I think that the debt funds were extremely aggressive. We've been taken out a few times on some of our bridge to all the bridges. So we've seen a little bit of that. We have some runoff last quarter on a few assets that were on our books for a substantial period of time and we did get taken out, we opted not to match those bridges and we felt that the market on those were a little too aggressive. So you're seeing a little bit of that not an overwhelming amount but definitely a little bit of that.

Okay. Thanks. On the legacy impairment, is this all related to the Tahoe land asset. And can you just provide any color on the decision to take a charge now and how much risk there might be related to the potential for additional impairments down the road?

Sure, it is related to the Tahoe investment. We took a write-down which is reflective of where we're getting market feedback. We're actively in the market now that is fully entitled to bring in development on the land or sell it and that reflects an analysis of where we think the market is based on the equity returns of the developers and that's how we came about it.

Did any softness in the current housing market play a part of that impairment?

Yes, it did, I think that the market for luxury high-end is probably a little softer than it was a year or two ago and that has definitely impacted the returns that the developers needed or funds needed on this asset type.

And are you seeing a healthy amount of interest from developers in the property?

Well, we're beginning that process; we're in the midst of that at this point in time.

Thank you. And our next question comes from Ben Zucker of BTIG. Your line is now open.

Good morning and thanks for taking my questions. Looking at the gain on sale and MSR margins, it sounds like there were some one-time things impacting both of those in our 4Q 2018. So is it safe to say that we should probably just model a return to the more normalized historical level going forward?

Hey Ben, it’s Paul. And I've been weighing in on the market but I think there's a couple of things there. You're right; there were some larger portfolio deals we did get done in the fourth quarter which carried lower margin but consequently lower commission expense. So that that played a role but I think in our commentary and Ivan's commentary, we did lay out that we do think the market continues to be fiercely competitive and we may start to see a little compression in our margins that will not be what it was for the fourth quarter but there could be some compression on margins going forward. However we think some of that will be offset by reduced commission expense. So I don't know if we can say, we'll tend to win what we averaged for the year in 2018 and 2019 and may come in a little tighter than that. But it won't come in as tight as it did in the fourth quarter. That was an anomaly with some larger deals we had.

Okay, that sounds good. And then at the end, everything's the compensations off the net revenue so that will kind of be a sliding sleeve as well?

That's correct.

Got it, there. Can you talk about the single-family rental market and the opportunity there a little bit? I heard you mention you guys were active in the Freddie Mac's pilot program. What are the next steps there and now that that pilot program is over?

Sure. So I have an enormous background in the single-family market side. And it's very attractive when you look at the scale and size of that market, it's enormous, it's the same size as the multi-family market but it's very fragmented. But it's changing. It was mostly market dominated by mom and pop operators who own 1 to 10 properties, and then with the crisis you had big people going in and buying pools but that only accounted for a small amount. But what you're seeing now is efficient operators aggregating a lot of these homes and actually building homes for rentals. And it's become a bigger and bigger part of that market. In the Freddie Mac program within a short order, I think we did about 10 to 12 different transactions average size about $12 million and then the FHFA shutdown that program but we had a lot of traction and there were a few other players in the market that are able to aggregate and securitize. So we found that very attractive. We understand the securitization market and we're very fortunate to be able to hire Steve Katz. I have a history with Steve Katz, he actually worked at Arbor and on the private side and we aggregated a very significant single-family residential platform which he was the CEO of Rents [ph]. So he worked with me for many years. So we reached out to him. We think he has a perfect securitization background and organizational background. And in a very short order, we already began to accumulate a pipeline. We think it's a phenomenal business and with the right infrastructure we definitely have the origination capacity and capability we can build that out and believe it will be a significant driver of another diverse income stream for the company and leverage off of our existing platform.

That's great. And as far as maybe like I know maybe getting a little ahead of ourselves but the net returns that you can see there, I mean do you think it's comparable to the economics of the agency multi-family originated sell and service business?

I think that, it can be comparable. Right now the margins are pretty wide. I think in aggregate in the collateral, will aggregate and then deliver similar type mid 13% to 15% return in the aggregation process. On the securitization side we believe it could be a 1.5 to 3 point business which is somewhat comparable to the multi-family side. So we think it's similar. And we think it's a huge market, there's no dominant force and as that market begin to put into more, I wouldn't call it institutional but one level down. We think it's going to grow and grow and grow.

Perfect. Well, I appreciate your comments and congrats on the strong close to 2018.

Thanks, Ben.

Thank you. And our next question comes from Stephen Laws of Raymond James. Your line is now open.

Hi, good morning. Thanks for taking my questions and congratulations on a very nice quarter to end a very good year. Can you maybe talk about across your different business lines it seems -- it seems like all are doing pretty well but with the new capital raise you kind of laid out in the fourth quarter, can you talk about where you expect to deploy that and maybe how we should think about the time it'll take to deploy that capital as you put money to work?

Sure. So clearly we earmarked that capital to fund the growing pipeline we had on our balance sheet portfolio business, that's obviously we look at capital, we look at our capital needs depending on where our pipeline is, we're expecting runoff to go and where our capital reserves are at that time. So we definitely earmarked that $100 million to fund a very robust and growing pipeline. We started doing that already. I would say it probably takes us through this quarter right-out and maybe a little bit into the second quarter to fully fund that capital. But it's totally earmarked for the cash -- for the pipeline we have in the balance sheet business and as we've said many times that balance sheet pipeline continues to be robust.

I think there are a lot of variables in this business and one is runoff. So depending on the runoff we will dictate how we use our capital. And I guess an earlier question on bridge-to-bridge situation, sometimes you can't predict that somebody is going to provide a bridge and take you out of your existing loans. It happened to us, I think last quarter on a pretty big loan which by the way we're very pleased, we no longer have it with time. So I think the runoff is definitely a factor. Sometimes we come across one-time opportunities that are very lucrative. We are very nimble as a firm and in a market like this; we just never know what's going to happen. But based on current pipeline, we have a good amount of cash on hand to fund the current pipeline and cash available on our CLOs and continue to operate our business effectively with the capital raise.

Great. I appreciate the color on that and kind of a bigger picture out of D.C. You know a lot of news comes and goes as far as new regulations and impact on the housing market in the United States. Are there any specific issues there you're watching or are there developments that are taking place there in the last couple of months that have been positive for your business, will be a headwind for your business, or can you maybe talk about the impact, any new regulations out of Washington is having on your activity?

I think it's early to see where anything is coming out. We've been battling this for the last eight years. There's always a change, always a rumor of something happening. I think the last rumor that I heard yesterday was that the desire to do away with the 30-year mortgage which would devastate the residential business which is not our business. The offshoot would be is that I think more people would be renting that would be good for our business. But there's just too much speculation going on at this point. Of course everybody wants to take Fannie and Freddie out of conservatorship. How did they do that? How did they impact the resi market? How did they impact the multi-market? It’s too early to tell, we can go on at this for eight years and every day is another story.

Yes, definitely. So Ivan and Paul, appreciate you taking my questions and again very nice quarter.

Thanks, Steve.

Thank you. And our next question comes from Steve DeLaney of JMP Securities. Your line is now open.

Good morning, Ivan and Paul. Thank you for taking my questions. Obviously, the highlight the number that blew us away was the $1.6 billion in agency in the quarter and we know fourth quarter is usually the peak period in the year. But could you comment, if there were any particularly large loans in that total and maybe what was the largest loan that you might recall that really stood out in the quarter? Thanks.

Sure, Steve. Hey it's Paul. So as we mentioned in our commentary, yes, we had a phenomenal fourth quarter of $1.06 billion. There were probably $400 million to $450 million of portfolio deals probably four or five or six portfolio deals we closed in the fourth quarter that were in our pipeline. And we didn't know if they would close fourth quarter or first quarter but they all got done in the fourth quarter. The biggest one of those portfolio deals, I think was $150 million. So we did a couple of big portfolio deals. We had a couple of larger loans as well but it's really driven by these portfolio deals we closed. I think from our standpoint, the $1.06 billion was tremendous, a little shocking for us as well, we expected some of that to flow over into the first quarter and I think as Ivan said, as rates went where they went and people got a little anxious, a lot of that got pulled forward into the fourth quarter but as you said this happens a lot in this industry. You've seen it in other competitors as well. Your fourth quarter is usually very, very strong and then you reset for the first quarter but that's the reason we had such a dominant fourth quarter.

And just to be clear, I heard you mention the $150 million, the aggregate of all the portfolio deals was did you say that was between $400 million and $500 million?

Yes, that's $400 million to $450 million.

$400 million to $450 million, okay great, thank you. And Ivan as far as what you're seeing obviously we're only -- well I guess only we're a month-and-a-half, we're halfway through the first quarter now. Paul mentioned pull-forward and I was sort of thinking to that rally and the 10-year breaking down well below 3%. I'm just wondering if maybe there was any -- are you concerned about cannibalization of the usually weaker first quarter. Are you seeing sort of steady business flows?

I think, I definitely think there was a little stronger fourth quarter and some pull-out in the first quarter, first quarter is usually out of weak, and people on vacation, the pipeline is a little slow to build in the first couple of weeks but we're seeing the trend of the pipeline in the last two weeks get back to the normal pace of building. So it's a normal first quarter where the first three weeks it's slow and now it's back on pace.

And Steve just help guide you a little bit, I think if you go back and historically look at our first quarter volumes, that's probably what you see typically with us, and as Ivan said, little slow in January and starts to build. And then, as the trend you'll see in our financial statements for the years, we've been in the residential agency business, you'll see the first quarter a little weaker than the second quarter build and then the third and fourth quarters are always much stronger and that's just the way the business plays out.

Understood. That's helpful. I want to follow-up on Ben's question about the single-family rental initiative. I'm curious, we understand that on a big picture basis and how it has comparable opportunities to the multi-family but from an internal standpoint, I'm curious whether Steve Katz is charged with building a completely separate origination and servicing platform or will this overlap and utilize Arbor's current loan origination force?

It's a good question. Initially we'll leverage you off of the infrastructure that we've put in place for the Freddie Mac program but on the origination standpoint and underwriting standpoint and closing standpoint, we'll build out a separate unit and a separate skill set because we're going to have a broader product line and it will be self-contained. From a servicing standpoint, it's our plan to augment our servicing capability up in Buffalo and keep it under the same management and leadership but build out separate skills and talent because we'll be doing multiple products not just -- not just a fully stabilized asset writing bridge loans, bridge loans like we do on the multi-family side to get products stabilized and then securitize it. So we'll build out a full complement of staff to support our entry into this space.

That's helpful, Ivan. And should we think of the end game being primarily to acquire aggregate these loans and then structure, finance them in a way that they can be relatively long duration investments on the REITs balance sheet?

I think that the duration on the aggregation side is between 12 and 24 months, people buy them they aggregate them, they lease them up, and once they are leased, then you can do -- then you can securitize and put five, seven and 10-year fixed rate of products on that. That's the game.

Okay. So that product if you were to securitize that, would that -- their subordinate retain bonds provide an additional investment opportunity for the REIT's balance sheet?

Yes, we'll retain -- retaining that with a good yield and also having an appropriate gain on sale.

Great. Okay. And just one final thing, simple thing. Could you estimate what your total in terms of the build out of the franchise and the platform what was the approximate total headcount for the whole Arbor franchise at the end of the year and how would that compare to say one-year earlier?

Sure, Steve. Hey it's Paul. So in total, we were sitting with about I think 425 people at the end of the year -- this year. And I think actually 468 it was 445 -- it is 445 at the end of this time last year. So headcount is up 5%, it's up about 3% in the agency business and the rest is in the balance sheet business.

Thank you. And our next question comes from Rick Shane of J.P. Morgan. Your line is now open.

Hey guys, thanks for taking my questions this morning. I also want to circle back on Ben's question but I heard a good answer or clear answer on the sales margin but I wanted to make sure we understood the MSR rate going forward; it looks like you trued up you talked about sort of truing up the assumption there. I'm curious if that's going to be a go-forward assumption as well?

Sure, it’s Paul. So yes, we did true-up in the fourth quarter kind of reevaluating our assumptions for our 2018 MSRs as you're required to put them on as close to fair value as you can use an outside service to help us value it, as most firms do. We do think that under the new policy and new strategy, it will be higher in the future as a result of those fair value assumptions. But obviously that 225 has a cumulative adjustment in the number. So I think last, the quarter before that it was I think 183. It may be around there or a little bit up from there going forward depending on mix. So I think the assumptions will change the value in an upward way but it also depends on mix of the product. Obviously certain products have higher servicing value because they have higher servicing fees than others but if the mix stays the same, we will see an upward trend. It just won't be 225 every quarter.

Got it. So if we look at it on a year-over-year basis for the year, it was 194 this year, it was 177 last year, is 194 potentially a reasonable assumption going forward?

It is if mix doesn't change because that reflects what the new values are. So I would say that is -- that is a good assumption, if mix doesn't change.

Perfect, okay. And mix was essentially the same year-over-year. What was the change in assumption was it a change in discount rate or was it a change in duration?

It was both, it was more duration than discount rate, but discount rate did play a role in expiration and cost as well.

Terrific. Hey guys, thanks for taking my questions this morning.

Okay, thank you.

Thank you. And our next question comes from Jade Rahmani of KBW. Your line is now open.

Good morning, this is actually Ryan on for Jade. Thanks for taking the follow-up guys.

Hey, Ryan.

Hey guys, with the growth that you’ve experienced in the agency business and the success you had there, are there any issues you anticipate with respect to REIT eligibility perhaps you could say what percentage of the dividend or earnings is being generated by the agency business or what percent of the agency businesses cash earnings are actually REIT qualified?

Sure. So the way we look at it right now is I think for the fourth quarter our agency business on an AFFO basis came in about 57% of our total. I think it was closer to 60% for the year on our 121 of AFFO. So a good part of the income as we've talked about before on our call is from this capital-light agency business which is actually very accretive. As far as TRS eligibility and REIT eligibility, we still have lots of room because as you know, we employed a strategy early on when we purchased the agency business that was selling off a piece of the servicing as excess servicing up to the REITs are actually creating a significant amount of the servicing value up at the REIT level, it's not taxed at the TRS level. So although the AFFO is roughly 60% agency and 40% REIT, a lot of the servicing value was going back up to the REIT, so it's giving us lots of room in our eligibility on our REIT test. We're still -- we still have a lot of room and we're fine.

Okay. And we saw that recently that Fannie announced its raising its small balance loan program limit to $6 million from $3 million which would be in line with Freddie Mac. So Ivan, I was just wondering what comments you can give on that in terms of the potential impacts to your addressable market and competition overall?

Well, I think it's very positive that Fannie Mae has moved up their slow balance to compete with Freddie. It gives us more product diversity. They have some products that are a little bit better specifically on the 10 years in Freddie Mac. So we're pleased. It just makes sort of bigger mark for us. We've always been a leader with Fannie Mae in that space. We as you know designed the Freddie Mac program. So it just gives us another tool on our tool box to effectively compete in the market.

And then just a few housekeeping items, Paul, can you give the commission rate, in the agency business you said it was lower based on the larger portfolio deals?

Yes, it was lower this quarter for a few reasons mostly due to larger portfolio deals. Secondly, due to when you get to year-end, you're estimating your commissions all along and then you kind of threw up your pool. So I think in the fourth quarter, it was about 30% but for the year it ran about 37% and that's how I look at it. Obviously, if margins compress a little bit that number could come down. But right now it's sitting at about 37% for the year --

And then --

About 37% gain on sale.

Okay, great. And then the average spread on balance sheet loan originations in the quarter?

Yes, sure. So, yes, we do look at it a little differently, I know you guys like that question this quarter and we had it, we look at it on a leverage return basis obviously because we have senior debt and subordinated paper as well. So the subordinated paper will have a higher gross interest income but obviously not as leveragable. But for the quarter we came in at just about 8% all-in with fees on the $448 million that we originated. Our leverage returns were 13.5% which was quite impressive considering how competitive the market is. And we'd be able to do through scale and obviously through reducing all of our borrowing cost in our lines. But our gross interest income on those loans and yields came in at 8% for the quarter.

And I'm guessing that 8% it seems like a bit high and probably due to some mix. Any chance you could say for like the standard bridge, first mortgage product where our spreads currently are today in the market or where they were in the fourth quarter?

Yes, I will let Ivan comment on where spreads are right now in the markets. But I think to your point it is a little bit of mix, 90% of the loans we originated in the quarter were senior debt with bridge loans, 10% were subordinated paper. So that does impacted as I said the 10% carries a much higher gross yield. But again we look at it from a leverage return perspective and from a leverage return perspective, 13.5% and a little bit over 13% for the year was a really strong year for us. But Ivan, could give more color on where we think spreads are right now on that structure cost.

I think the spreads on bridge debt, senior debt are definitely very, very tight and extremely competitive. And we've been effective in reducing our borrowing costs and getting more efficient leverage so maintaining our yields. On the other hand LIBOR is going up. So the growth rate is going to inch up as LIBOR is inching up. So we've been able to maintain the kind of yields that we need to in order to be an effective operator but that's been by creating other efficiencies to offset the spread compression.

Thank you. And that concludes our question-and-answer session for today. I’d like to turn the conference back over to Ivan Kaufman for closing remarks.

Thank you everybody for your good questions and your participation the entire year. It was an outstanding year. We are pretty thrilled about our baseline starting point for 2019; numbers really support a great dividend and the opportunity to grow our dividend for 2019 and forward. Thanks everybody. Have a good day.

Ladies and gentlemen, thank you for participating in today's conference. This does conclude the program. And you may all disconnect. Everyone have a great day.