Ellington Financial Inc. (EFC) Q3 2020 Earnings Report, Transcript and Summary

Good morning, ladies and gentlemen, thank you for standing by, and welcome to the Ellington Financial Third Quarter 2020 Earnings Conference Call. Today's call is being recorded. At this time, all participants have been placed in a listen-only mode. The floor will be open for your questions following the presentation. [Operator Instructions]. It is now my pleasure to turn the call over to Jason Frank, Deputy General Counsel and Secretary. Sir, you may begin.

Thank you. Before we start, I would like to remind everyone that certain statements made during this conference call may constitute forward-looking statements within the meaning of the Safe Harbor provisions of the Private Securities Litigation Reform Act of 1995. Forward-looking statements are not historical in nature. As described under item 1A of our Annual Report on Form 10-K filed on March 13, 2020, and under Part 2 item 1A of our quarterly report on Form 10-Q for the three months period ended March 31, 2020, forward-looking statements are subject to a variety of risks and uncertainties that could cause the company's actual results to differ from its beliefs, expectations, estimates and projections. Consequently, you should not rely on these forward-looking statements as predictions of future events. Statements made during this conference call are made as of the date of this call, and the company undertakes no obligation to update or revise any forward-looking statements whether as a result of new information, future events or otherwise. I am joined on the call today by Larry Penn, Chief Executive Officer of Ellington Financial; Mark Tecotzky, Co-Chief Investment Officer of EFC; and JR Herlihy, Chief Financial Officer of EFC. As described in our earnings press release, our third quarter earnings conference call presentation is available on our website, ellingtonfinancial.com. Management's prepared remarks will track the presentation. Please note that any references to figures in this presentation are qualified in their entirety by the end notes at the back of the presentation. With that, I will now turn the call over to Larry.

Thanks, Jay, and good morning, everyone. As always, thank you for your time and interest in Ellington Financial. Ellington Financial had another excellent quarter, as we benefited from strong performance across virtually all of our strategies. As you can see on Slide 4, we generated net income of $1.06 per share, core earnings of $0.41 per share, and a non-annualized quarterly economic return of 6.7%. Earlier this week, the Board increased our monthly dividend for the second time this year, this time by 11%. And given that our core earnings this past quarter, still comfortably exceeds our new higher dividend run rate, and in light of our current earnings power, we should have ample room for additional dividend growth from here. With our investment activity back to normal levels throughout the entire third quarter, we methodically grew our credit portfolio, mostly in non-QM loans, but we still kept our overall leverage relatively low. Despite this conservative positioning, we were still able to grow core earnings and book value per share significantly this quarter. Given the continuing uncertainty around fiscal stimulus and economic recovery, we believe that our lower leverage and high cash balances position us well to withstand any additional market shocks and enable us to capitalize on new investment opportunities, whether in the credit sensitive sectors still grappling with the pandemic, or in agency RMBS where we're in the middle of a massive prepayment wave. During the third quarter, our loan portfolios continued their resilient performance, producing another solid quarter of ROEs, while continuing to return capital quickly for redeployment, often at higher reinvestment yields, I would note. Meanwhile, the securities portfolios in our credit strategy benefited from some nice spread tightening, and our agency portfolio had another very strong quarter and has now generated a positive return on equity on a year-to-date basis through September. With a part of our portfolio, I'd like to focus most on today is the strength and growth of our loan origination businesses. Ellington Financial's results this quarter were again boosted by strong performance from our strategic investments in loan originators, most notably Longbridge Financial, which continued its excellent performance this year. As we've discussed on past calls, because the reverse mortgage business provides liquidity to borrowers without the requirement of monthly principal and interest payments, borrower demand for the product has surged this year, amidst the economic turmoil drawn by COVID. Meanwhile, LendSure has done an extraordinary job restarting its loan production after the market stress has temporarily interrupted new originations earlier this year. LendSure's loan production in September and October exceeded production levels right before the pandemic-related volatility. And in fact, October was a record $80 million origination volume month for LendSure. Last week, Ellington Financial closed another securitization of LendSure loans, our second such securitization this year, and in fact, we achieved the tightest financing spread yet of any post-COVID non-QM securitization. The performance of our LendSure loans continues to be excellent and our entire non-QM business continues to be an important driver of earnings for Ellington Financial. Ellington Financial also has a strategic investment in the third loan originator, this one in the consumer loan space. This pipeline has generated and we expect it will continue to generate attractive risk adjusted returns for us. All three of these originators, weathered the COVID-19 volatility successfully and emerged in a strong position to add market share. In addition to investments in these three originators, Ellington has been active in the small balance commercial mortgage loan sector for more than a decade now. And we've developed strong and reliable sourcing channels over the years. We benefit from several successful joint ventures in the space and we originate many of our bridge loans and source many of our commercial mortgage NPLs directly out of Ellington Financial using our own loan sourcing and origination teams here at Ellington. We have also well-established origination channels for residential transition loans, as well as flow agreements with other loan originators in the consumer space. We believe that our array of proprietary loan pipelines is a key differentiator for Ellington Financial, and they are critical for our business for at least two primary reasons. First and foremost, our loan pipelines are designed to provide a steady flow of high quality investments to Ellington Financial. The loans coming out of these pipelines have been a key driver of our portfolio and core earnings growth over the past few years. And we believe that they will continue to drive our growth going forward. At the same time, our loan pipelines enable us to leverage Ellington's core strengths of modeling and data analytics. We apply our analytics to help shape the underwriting criteria of the loans that we and our partners originate. And our goal is to manufacture and control our own sources of return, rather than passively accepting what the secondary markets have to offer. But there's also a second reason why I'm highlighting our proprietary loan pipelines. And that has to do specifically with our investments in loan originators that we've made to help build and broaden those pipelines. There's been a tremendous flow of public capital into loan originators recently at premium valuations. Several companies have gone public in recent months, and the mortgage originator sector is trading at a very significant premium to where the mortgage rates, including EFC are trading. But if you look at EFC's stock price, I think it's clear that the market is undervaluing our investments and loan originators. And therefore this represents significant upside for EFC stock. Over time, we believe that the market will recognize not only the synergies, but also the franchise value that these loan originators represent for Ellington Financial. One final note on our originator investments. We fair value these investments through our income statement. So any P&L that they generate for us is reflected in our GAAP earnings. However, the appreciation on these investments is not captured in our core earnings. Therefore, if we were able to continue covering our dividends with core earnings, as we've done every quarter since we started reporting core earnings by the way, the appreciations on these loan originator investments can be a significant tailwind to our EPS, and book value per share. Before I turn the call over to JR, I'd also like to highlight that we're not only keeping leverage low in anticipation of plentiful investment opportunities, we are also continuing to extend and improve our sources of financing. During the third quarter, we added another financing facility for our residential loan strategies. And just within the past two weeks, we not only closed our sixth non-QM securitization, we also priced a securitization of unsecured consumer loans. These rate of securitizations add additional term, non-mark-to-market borrowings to our balance sheet. They also have significantly lowered borrow costs relative to repo and other types of bank financing. It used to be that repo and other bank lines are coming with the serious disadvantages of shorter terms and mark-to-market margining generally provided lower cost financing than securitization financing. But lately, especially in those sectors, where securitizations have become commonplace, it's the securitization market then that provides lower borrowing costs, even while affording all the important advantages of long-term locked in and non-mark-to-market financing terms. With that, I'll pass it to JR to discuss our third quarter financial results in more detail.

Thanks, Larry, and good morning, everyone. Staying on Slide 4, where you can see a summary of our third quarter results. For the quarter ended September 30, Ellington Financial reported net income of $1.06 per common share and core earnings of $0.41 per share. These results compare to net income of $0.85 per share and core earnings of $0.39 per share for the second quarter. GAAP to core earnings comfortably exceeded dividends declared during the quarter of $0.27 per share, as well as our new quarterly dividend run rate of $0.30 per share. Next, please turn to Slide 7 for the attribution of earnings between our credit and agency strategies. During the third quarter, the credit strategy generated a total gross profit of $1.17 per share, while the agency strategy generated a total gross profit of $0.17 per share. These compare to $0.76 per share in the credit strategy and $0.33 per share in the agency strategy in the prior quarter. Net interest income in our credit portfolio increased quarter-over-quarter driven by a larger portfolio and lower financing costs. And we also had significant net realized and unrealized gains. Each of our credit strategies contributed positively to results. Prices increased for our non-QM loans, CMBS, CLO, and non-agency RMBS holdings during the quarter as liquidity continued to improve in those markets. In addition the small balance commercial mortgage loan, consumer loan, and residential transition mortgage loan portfolios performed well and each experienced significant principal repayments. During the third quarter, we received proceeds from principal repayments of about $130 million on these loan portfolios, which represented more than 22% of the aggregate size of those portfolios coming into the quarter. Finally, as Larry discussed, we also benefited from extremely strong results for the quarter from our investments in loan originators. The sole detractor from results this quarter were credit hedges driven by the strong performance of many credit sectors in the quarter. Our agency strategy had another strong quarter performance, driven by increased net interest income and strong performance from our prepayment protected specified pools as mortgage rates declined further and actual and expected prepayments rose again during the quarter. Overall pay-ups in our specified pools actually declined slightly quarter-over-quarter. But this decrease only occurred because our specified pool purchases during the quarter were primarily of low pay-ups specified pools, which skewed the average downward. During the quarter, we also increased our holdings of long TBAs held-for-investment, which we concentrated in current coupon production. These investments performed well driven by Federal Reserve purchasing activity. Turning next to Slide 8, you can see that the size of our long credit portfolio increased approximately 12% in the third quarter to $1.4 billion at September 30. The increase in the credit portfolio was mainly driven by non-QM loan originations, as well as by purchases of CMBS and single-family rental RMBS. You can see the growth of non-QM here in the residential loans and REO slice, but the impact of the CMBS and single family rental RMBS purchases are harder to see on this slide, because we had offsetting paydowns and sales in the same slices. Overall, the CMBS and commercial loans in REO slice shrinked sequentially, because we had several successful resolutions in the small balance commercial loan mortgage strategy in the third quarter. I will also note that subsequent to quarter end, our two largest small balance Commercial Investments paid down or paid off completely both at par. And while we have also seen originations of new SBC loans pick-up that portfolio is smaller today than it was at September 30. Importantly, as we've been receiving these paydowns, we've been able to reinvest the capital in new SBC originations at higher yields as compared to our pre-COVID origination. You can also see on this slide that the consumer loan portfolio decreased quarter-over-quarter driven by paydowns. A final note on the credit portfolio is that with the completion of our latest non-QM securitization last week, that portfolio has decreased relative to September 30 that we're quickly replenishing our portfolio with LendSure reaching a record level of loan production in October, as Larry mentioned. Earlier this year, in response to the significant volatility caused by the spread of COVID-19, we strategically reduce the size of our agency portfolio in order to lower leverage and enhance our liquidity position. On Slide 9, you can see that we kept the agency portfolio relatively small this quarter, which has kept our overall leverage ratios low, which you can see on Slide 10. Our debt-to-equity ratio was 2.7 to 1 as of both September 30 and June 30, adjusting for unsettled purchases and sales. Our recourse debt-to-equity ratio, also adjusted for unsettled purchases and sales increased quarter-over-quarter to 1.7 to 1 from 1.5 to 1 that remains well below pre-pandemic levels. The increase in our recourse debt-to-equity ratio was driven by increased recourse borrowings related to our larger non-QM loan holdings, partially offset by reductions in certain non-recourse borrowings. The recent non-QM securitizations converted more than $90 million of recourse borrowings into non-recourse term financing, which reduced our recourse debt-to-equity ratio below 1.6 to 1 as of October 31. Our weighted average cost of funds decreased significantly in the third quarter to 2.2% at September 30 from 2.48% at June 30. As our older higher cost repo borrowings have matured, we've replaced them with repo borrowings priced based on current lower cost borrowing rates. At quarter end, we had cash and cash equivalents of approximately $127 million, along with other unencumbered assets of approximately $306 million, which remained elevated relative to pre-COVID periods. For the third quarter, our total G&A expenses per share were $0.16, up slightly from $0.15 in the prior-quarter. Other investment-related expenses decreased quarter-over-quarter to $0.08 per share from $0.12, mainly due to non-QM securitization issuance costs that we incurred in the second quarter, but not in the third quarter. For the third quarter, we accrued income tax expense of $2.5 million, primarily due to an increase in deferred tax liabilities related to unrealized gains on investments held in a domestic TRS. Finally, our book value per common share at September 30 was $16.45, up 5% from $15.67 at the end of the second quarter. Now, over to, Mark.

Thanks, JR. We had another excellent quarter with 6.7% non-annualized economic return, which equates to an annualized return of almost 30% and core earnings well in excess of our dividend. I was also glad to see portfolio growth, as we grew our credit holdings by 12%. We've certainly adjusted our underwriting given the persistent impact of COVID avoiding sectors most affected like lodging and student housing, but even with that discipline, we're finding high yielding investments. We were one of the early movers in non-QM origination post-COVID. With LendSure turning its origination machine back on before many others and that decision so far has really paid off. As Larry mentioned, LendSure's origination volumes are now exceeding pre-COVID levels, which I never would have predicted back in March. The economics on the assets and on the securitization execution are materially better now too. Larry also mentioned this before, but EFC gets a double dip from the strong origination platform. First, we drive core earnings with high coupon; high quality non-QM loans, and finance them through the securitization market. And secondly, we have a long-term benefit of a sizable equity stake in a profitable originator. Credit performance is strong across the board for us. But we're very focused on the prospects of further consumer stimulus and how that will affect our portfolio. We saw substantial benefits to consumer credit performance from both the CARES Act and broad-based mortgage forbearance, both enacted earlier this year. Now we're entering a period of time where the virus is spreading more quickly, enhanced unemployment benefits have been reduced, as some mortgage borrowers are exiting six-month forbearance plan, discipline and underwriting is critical for us. Despite it all markets are functioning well. Take our small balanced commercial mortgage loan business, for example, in March and April that market slowed. We actually continue getting loan resolutions, but we weren't seeing many interesting opportunities to lend against. As the second quarter progressed, we saw even more of our loans payoff as debt was refinanced and properties were sold. But we also began seeing some lending opportunities that we did find attractive and we took advantage of those. Now it feels like business is usual, loans are getting paid-off, and we are seeing a steady flow of new properties looking for financing. This return to normalcy is allowing us to grow our portfolio and recycle our capital. As JR mentioned, our two largest commercial positions actually paid down or paid off during October. Excluding those two situations, I expect growth to resume in this portfolio. And in our consumer loan portfolio where many borrowers have exit forbearance, and performance has remained very good. Everybody knows that housing has had great performance since the Spring. EFC was well-positioned to take advantage. Our non-agency securities generated both realized and unrealized gains this quarter, as did our NPL, RPL portfolio, and we continue to find things we like in resi credit. Let's look at how our credit portfolio evolved this quarter on Slide 8. While most of the net growth was a non-QM, there's a lot of activity in every sector. In our commercial mortgage strategy, which spans loans, investment grade bonds, and BP's, we had loans pay-off, we originated new loans, we bought and sold CMBS securities, we acquired a new BP's investment, so we're definitely busy. The consumer loan strategy returned to capital essentially because loans paid down at a faster pace than we purchased new loans. One somewhat non-intuitive side effect of the CARES Act was that many consumers found themselves with more cash than normal given enhanced unemployment benefits, and they used that extra cash to pay down debt. So pay downs have been coming in quickly on our consumer loan portfolio. Another point to make is that our mortgage originations are up. I'm not sure if that's the result of fewer competitors, superior pricing or both. But our market share seems higher. It's hard to measure scientifically, but I'm pretty sure it's true. Larry mentioned our recent securitizations, how they avoid the mark-to-market risks inherent in repo, how even their costs relative to term repo historically very wide right now. One additional advantage that our securitizations provide is it allow us to potentially acquire loan to below market levels in the future by exercising deal close. We did this with our non-term deal that just closed where about half of the securitized pool represented loans to be just reacquired at well below current market prices by calling a non-QM securitization we've done in 2018. Everybody loves to hate commercial real estate now and there's going to be no shortage of headaches there, but capital is flowing in that market. The new issue CMBS market is open. We had a lot of resolutions in our portfolio. I wouldn't have guessed that would be the case six months ago. So given the credit expertise of our commercial mortgage team, and the great proprietary analytic tools we have, we're finding lots of opportunities to invest in high yielding assets with both high credit enhancement levels and limited exposure to COVID affected sectors. Our agent CMBS portfolio had another strong quarter, our long agency portfolio continued to be concentrated in prepayment protected specified pools, and these assets performed well relative to their hedges, which drove results in our agency strategy. We also maintained our long position in current coupon TBAs, and by doing so, benefited from the strong dollar rolls driven by the Fed's purchasing activity. We're in the middle of the significant refinancing wave and origination bonds are at record highs. We just got the October prepayment report from the GSEs and prepayment speeds continue to increase the multiyear record levels, despite what some market participants were hoping. We believe that we're well equipped to outperform our prepayment modeling, asset selection and dynamic interest rate hedging. Thinking about the rest of the year and 2021, we want to continue to use the securitization market to term out financing and lower our borrowing costs whenever possible. Larry mentioned we already priced a consumer loan securitization that will close in the fourth quarter. Front and center in our minds right now is once we know who the next President will be, what will that mean for additional stimulus? What will that mean for housing policy? And how will that impact GSE reform. Given our diversity of strategies and research-driven approach, we're excited about properly positioning EFC to take advantage of the new opportunities that will inevitably be created. We believe that our flow arrangements and origination partnerships give us a big advantage in sourcing high credit quality, low LTV loans to our portfolio. Now back to Larry.

Thanks Mark. I'm very pleased with our performance in the third quarter and year-to-date. Ellington Financial fired on all cylinders in the third quarter and as you can see on Slide 23, we've now recovered all but just $15 million, or almost 90% of our portfolio losses from the first quarter. But this is not the time to be complacent. The ongoing economic uncertainty and credit and the refinancing wave that's fully underway in agency RMBS underscore the importance of risk management and liquidity management to protect earnings and book value in areas where Ellington Financial has shined. As you can see on Slide 13, EFC is unmatched among its peer group in the stability of its economic returns. We have achieved the stability through our diversified portfolio, prudent leverage levels, stable sources of financing, disciplined interest rate hedging, and opportunistic credit hedging. These principles continue to be critical in protecting book value and being in position to capitalize on new opportunities. And as always, management remains strongly aligned with our shareholders with a significant co-investment in EFC. As we look to 2021 and beyond, our primary business objective is to continue to grow, broaden and refine our loan origination capabilities. So we can continue to manufacture and control our own sources of return to an even greater degree. I believe that these businesses are key catalysts for the growth of our book value and stock price, as well as for the continued stability of our earnings. Before we open the floor to questions, I would like to thank the entire Ellington team for their hard work over the past few months despite the difficult circumstances and for all of those listening on the call today, we hope that you and your family stay healthy and safe. And with that, we'll now open the call to your questions. Operator, please go ahead.

Thank you. [Operator Instructions]. And your first question comes from Trevor Cranston of JMP Securities.

Hey, thanks. Looking at the securitization from the end of October, one thing that I noticed is the loan coupon was still up around 6.2%, which seems like it's pretty stable from where things were pre-COVID. So I mean obviously that means these spreads versus agency loans is significantly higher than where it was. Seriously, you could talk about, if you think that type of loan coupon is sustainable, and more generally, if you can comment on, how other loan characteristics have sort of evolved since March on new loans, you guys are purchasing. Thanks.

Do you want me to take that, Larry?

Absolutely.

Sure. So that's a great question, Trevor. I think note rates are certainly going to come down, right. So that securitization, we did the one that just price was interesting, because we mentioned in the script, about half the loans came from a 2018 deal that we called, half the loans were loans originated post-COVID, right. So we were one of the first originators to start buying loans again right after March. And we started originating them before any post-COVID securitization for price. So we had a fair bit of pricing power. The loans in that securitization that were post-COVID loans, as you mentioned had a note rate of about 6.20%. So interesting to me is the loans we've called in the 2018 deal, had a note almost exactly the same was right at 6.20%. But if you look at those two securitizations, I alluded to this in the text, prepared comments; the note rate on the AAA bond in this recent deal was about 1.2%. The note rate from that 2018 deal on the AAA bond was about 4%. So you were able to keep the same note rate, but have still hundreds of basis points, lower debt costs. So I think that note rate being 6.20%, even on the post-COVID originations that had to do with that, when we were originating those loans, there were not a lot of competitors, right. The space isn't as competitive as it was pre-COVID. But it's certainly more competitive than what it was, say in May, right. So I think note rates will come down. But given the securitization execution, they can come down a lot. Now, in terms of the other attributes, LTV, credit score, they're not materially different than what they were pre-COVID. So I think those attributes will stay the same. I think the note rates absolutely are coming down. But they have room to come down given the securitization execution.

If I could add one more thing, Mark, to that, thanks which is that now, LendSure is pretty focused on non-QM obviously. And it may actually broaden its product suite in the near future. But for now, it's been very focused on non-QM. Some of its competitors are basically shifted their focus back more to agencies given where rates are there. And so that's created a tailwind for LendSure in that really on a day-to-day basis, it's not competing as much with some of the other originators as it was before. So that's also helping pricing power, as well. So I think that's been a phenomenon that's going to continue for a little while, yes. So it's just a good, really good space for us to be in right now. As Mark said, rates are going to come down; rates are extremely low, obviously versus where they were last year, for example. But I think we're still looking at really attractive net interest margins as we continue to purchase that product, even if the trend is going to be slightly lower note rates.

Okay, got it. That's very helpful. And then you guys also mentioned the SBC loan originations picking up. Can you provide some more color in terms of what sectors you're seeing the most activity and if there's anywhere in particular that you guys are avoiding in new originations? Thanks.

Mark, I think we can probably both handle that just supplement as you see fit, we -- we're seeing a lot more activity now as you mentioned in the third quarter that business really went back to normalcy. We can pick and choose our spots. I think that there's no question that in some of the more distressed sectors, as we get past COVID and forbearance start to go away. And some of these sectors are obviously going to be challenged on a more permanent basis, we're going to see non-performing loans, our non-performing loan and bridge loan business, I think is going to pick up because of that, as you see turnover of those properties. But for now, we have seen really more multifamily than we saw pre-COVID, it was the multifamily sector was really overheated. And obviously, it's still trading better than the other sectors. But just given what's happened to so much of specialty lenders, and when you're talking about bridge loans, you're really talking about a specialty lending business, given that there's still recovering really from COVID. I think that we're going to see -- continue to see some increased originations there versus what we're seeing before. But long-term, we're actually quite looking forward to all the different sectors of the market. It's, like I said, there's no bad bonds; there's only bad prices, right. So well we've tended to stay, we're very LTV-focused, first liens only. As you can see -- as you can see in many of our past disclosures, we focused on first-liens, where we focused on LTV, so we're not going to compromise our standards there. But we're definitely going to be open in terms of seeing more distressed properties in all the different sectors. Mark, do you want to add anything?

I would just say that, because we've been open for business in that market, really all throughout COVID that -- in the beginning, you could sort of be choosier, right. And we chose mostly multi-families. I think over time as the market heals and other people enter the space, it'll get to be tougher. But for now given that we have no predictive powers better than anyone else on the path of the virus, timing of vaccine anything like that, the prudent thing for us is to go into sectors that are least impacted by COVID, and sectors that are more impacted by COVID. If you look at those properties, then you just underwrite them to sort of very onerous scenarios. And so far, we haven't -- there hasn't been a lot of activity for us in the more COVID affected sectors when you underwrite them to real draconian scenarios, but that can change. But yes, no, we like the multispace has been good for us. Spreads are healthy there. We tend to think that going into, once we turn the calendar into 2021, unless things change from here, we expect a lot of these sectors to be a little bit more competitive. But the margins right now were really good now. So we are focused on putting more money to work.

Thank you. Our next question is from Doug Harter of Credit Suisse.

Hey, guys, this is Josh on for Doug. Thanks for taking the question. Just thinking about the incremental deployment of capital, given the attractiveness that we're seeing in the TBA market currently, how are you thinking about the equity allocation to the agency segment, in the context of the overall, how it fits in the overall portfolio? And specifically how TBAs fit into that strategy versus pools going forward? Thanks.

Hey, Mark let me just start and then if you could finish specifically on TBAs. In terms of just the agency allocation, we've kept that lower post-COVID. We think that that is the best way for us to have the liquidity that we want to have to be able to take advantage of opportunities in credit and other sectors. So, just start with just a general -- a general allocation. As the credit portfolio continues to grow, we're definitely going to favor that over -- over out allocations stage. Mark do you want to talk specifically about the TBA market?

Sure. Yes, so our positioning in TBA and EFC really has helped a lot post-COVID, right. We like a lot of people recognize the importance of the Fed large, consistent, and well telegraphed purchase program. So we've had on the long side of the TBA balance sheet, exposure to the coupons that have had strong rolls and that helped a lot in Q2. The other thing we've done, which I don't think you've seen, as many people do, which has been equally successful is we've had short positions in the rolls that the Fed is beyond the TBAs, the Feds not involved in where these blazing fast speeds have pushed the roll levels to negative numbers, right. And that's one way in which we've been able to get just on that part of our hedging, the cost of hedging actually being below zero, right. So EFC has benefited from long positions in TBAs with expiry rolls, but also short positions in the TBAs with the negative rolls, which is one of the ways that we've hedged for years, some of our higher coupon specified pools. I think ROEs are healthy now in the agency market. But, it's not enough to know what the Fed is doing right now; it's enough to know what they're going to do. So if you look at what happened to different TBA, coupons in the third quarter, there was one that really lagged, it was 30-year Fannie 3s. And the reason it lagged, it went from being a coupon that the Fed was buying to a Fed -- to a coupon that Fed used to buy, right, and when it did that, its roll collapsed, and its price collapsed. So it's not a bulletproof strategy that the Fed, what's on the Fed’s shopping list, it changes, it changes incrementally, but it changes, right. And if you are on the wrong side of that, and if you're caught holding a significant position in a TBA, where the price has gone up a lot, because it had a healthy roll. All of a sudden, if the Fed stops buying and that balloon deflates you're going to see the prices reverse. So we like it now for a portion of the portfolio. It's been successful for us. But I view it as one of several tools we have to generate returns. And obviously, it was -- it drove healthy earnings for us, and a lot of companies this quarter, but it's like anything else in these markets. I don't see it as riskless, right. And so having a good roll is one thing. But you also have to look at is the price of that TBA coupon, does it make sense? Is it going to stay where it is, if the roll weakens?

Great, that makes sense. Thanks for that color. And then, Larry, you mentioned in your comments and in the press release about ample room for dividend growth going forwards. Just curious how you're thinking about, when you think about the earnings power of the company, how you're thinking about appropriate dividend levels, versus retaining those earnings and growing book value, or any general thoughts you have around that? Thanks.

Yes, that's a great question. One of the differentiators that we have is, we've made this 475 tax selection. And one of the many advantages that has for us is that this year, because of our first quarter losses that actually reduced the -- any pressure on our dividend in terms of upward pressure, you had companies that were really losing money, economically and yet still potentially having pressure to dividend out based upon how they were going to compute their taxable income, and we absolutely do not have that's one of the many advantages. So what that means is that we have a lot of flexibility right now around our dividend. We did take a book value hit in the first quarter. And as I mentioned from a portfolio P&L perspective, we've made about 90% of that back, we certainly hope to be in a positive position at December 31. But we think that there's just a balance right now between a dividend that is appealing to investors, that's consistent with the dividend yields in the space, and building book value back. And given our economic returns the last two quarters, you can see that we're really building book value back nicely, and I think that's really important. So I think it will continue to be a balance. We were at $0.41 right, our core earnings, which is obviously in the $0.13 to $0.14 range per month, our dividend, we just raised to $0.10, right. So we've got plenty of room to grow there another $0.03 or $0.04. We were at $0.15 basically run rate a little higher than that at points pre-COVID per month in terms of our core earnings. So given the opportunities that we're seeing now, once we're fully, fully deployed, which we're clearly not, you can look at our leverage, you can look at our cash balances, I think that we have plenty of room to grow our dividends. And those will be very interesting discussions with the Board in terms of the timing of any increases. And but I certainly see lots of room for growth there. But in the meantime, I think we're -- my prediction is we're going to be judicious about it, in terms of keeping that, having steady increases, hopefully as opposed to just going right away to where our core earnings are, we do want to continue to build book value.

Thank you. Your next question is from Crispin Love with Piper Sandler.

Good morning guys. Thanks for taking my question. First, can you talk a little bit about the credit quality that you've been seeing in your portfolio, and kind of the sectors that kind of you're more bullish or negative on from a credit perspective, in recent earnings calls, you have commented that there will be losses and some pain in the portfolio? So I'm just curious about how performance has been relative to your initial expectations from March and July to currently?

Mark, you want to take that?

Yes, hi Crispin. So I sort of think about it in sectors, right. Any of the housing-related sectors be it non-QM, NPL/RPL, the residential transition loans, non-agency securities, performance has been really good. But I would just caveat that, and I tried to do that and introduce the balance in the prepared remarks that forbearance was a big deal for homeowners that have suffered a loss of income as a result of COVID. And the CARES Act was a big deal for every consumer that had a loss of income from COVID. And that the enhanced unemployment benefits that was $600 in excess of the state unemployment benefits. That was a big deal. And those payments replace a lot of the income nationally that was lost, benefits are reduced now. We need to see sort of what happened with this Election, and what stimulus will look like going forward. So while performance has been very good. When we think about underwriting discipline, it's always -- you're always sort of it's a pendulum between underwriting discipline and volume and what your competitors are doing. And you have to sort of thinking all those dimensions, right. And so right now, we have been able to what's been nice about this market is we've been able to get significant origination volumes with keeping very strict underwriting discipline. And I don't think, given the uncertainty about future stimulus, what happened with the path of the virus? I don't think we should let that up by any means right now. So on the residential side, performance has been great. But we understand part of the drivers; that's made it great, some of those things. It's little; it's less clear how they evolve going forward. On the commercial side, performance has been good, really good. That was the sector; I thought we'd have headaches. I think we're going to have some but fewer than what I thought before. And I've been really -- it's been surprising sort of the rate at which loans have been paying off right. There is a lot of activity in commercial real estate and one thing that is a big benefit to commercial real estate, and I think sometimes it gets lost is how important it is that there is active securitization markets right. When I think back of 2008, it was years before you saw a non-agency commercial real estate deal get priced after the financial crisis years, right. With COVID, it was probably -- probably get done in June, I'm guessing. So what that does is, it means that people that want to buy real estate are offered financings at very low rates with sort of appropriate leverage, and allows capital to flow. So I don't think we're out of the woods by any means. And you can see, we've augmented disclosure on the commercial real estate portfolio, Page 12 of the earnings slide, but performance has been really strong on the consumer loan portfolio, it's been extremely strong. And that that sort of is an interesting case, because that's a case where the forbearance terms in generally were shorter tenured than what they're in a 30-year mortgage. So in that portfolio, a lot of the borrowers that opted for forbearance have emerged from forbearance agreements and are paying on their loans. So that sort of a little bit of a test case, and we're not going to be at that point on the residential side for another few months, you're seeing, more data on how borrowers do when they come out emergency forbearance. But credit has been good, but I don't think we should necessarily extrapolate that. Stimulus plays a big part of it.

Hey, I'd love to add to that, Mark. So our disclosure, I mean, I really think that we're all about no surprises. And I thank you on being frank and honest. I think you saw that back in March and April. I mean I have to say there were a lot of other companies who were basically saying everything was fine. And it wasn't. And I think if you look at our disclosures on expected credit losses, which is really what your question was about Crispin, you'll see where we assess those at the end of each quarter. And I think you'll find if you look, for example, and we're going to have our Q coming out in a few days. You'll -- look, you can see if you dig into the notes, you're able to see where we see expected credit losses on various sectors of the portfolio you'll see a lot of stability there. Our predictions are really, really good. And this not only relates to expected credit losses, it also relates to where we have stuff marked with fair value, obviously, through the income statement. And we need to make assessments about expected credit losses and those are going to go right to our net income, right, we elect -- we have that fair value election. So you're going to see a stability there, because I think our assessments are just really, really good and honest. And they're not, if you look at what we disclosed on June 30, you look at where on September 30 disclosures after those come out a few days, you'll see, it's really not bad at all. And as Mark mentioned are anything consumer related, whether it's our residential mortgage portfolio, or a consumer loan portfolio, the performance has been fantastic and we use the word "resilient" on the call earlier really, really has been. We do expect to have some credit losses on CMBS, right on some CMBS that we had coming into COVID. And but again, you'll see stability there in terms of our estimate there. And in the commercial loan portfolio, because we're so focused on first lien and so focused on LTV, I really think that portfolio is going to come out with just a few scratches, nothing major. And again, you see that in the expected credit losses that we estimate. We're going to have some hits in our corporate portfolio. And again, you saw that in our June 30, you'll see it in our third quarter Q, but again, they're contained. And when you look at it in the context of things, we've already taken the hit. And I think from here, if anything things could be a little bit better. That's kind of our philosophy in terms of our disclosures. JR, do you want to add something?

Yes. I would just add to that Mark had mentioned forbearances. And I would update on how deferments and forbearances have been in our portfolio in Q3. I mean, last quarter, we discussed how forbearances and deferments had increased in the months following COVID outbreak delinquencies increased and these have both declined considerably in the third quarter. You could see it most clearly in the non-QM portfolio where just by the numbers forbearance, loans in forbearance was close to 9%, at 6/30 and that's now close to 1% at 9/30. And even of that 1%, almost 40-plus-percent are current despite being in forbearance and delinquencies are down sequentially in non-QM, but it's not just non-QM in small balance commercial, which Larry was just speaking to. Deferments are about cut in half from where they were at 6/30 and in consumer deferments are down as well. And the amount of loans that are in deferment yet are still current are up from 6/30. And then finally in residential transition loans, we haven't had any loans subject to forbearance or deferment or modification. So that's been our experience in Q3 versus Q2 in terms of forbearance and deferrals.

Yes, just by the way, I just want to add one thing too. On the call, we mentioned a couple of loans, I think -- think was JR mentioned that we had a couple of loans pay-off, significant loans in our portfolio pay-off or pay down at par, right. And I'll just say, without getting into too many details, one of them was a hotel loan. And because we underwrote it to such -- to not too high of an LTV and, again, our appraisals, we don't just take any old appraisal. We look at multiple appraisals, and we reconcile them to what we and/or in this case origination partners are thinking. Because of that conservative underwriting, that loan was paid from down -- from what we had originally underwritten to a 70 LTV down to a 50 LTV. And it just again shows and that was a hotel loan. So I really think that because of the care that we take and the laser-focus we have on LTV, when we make these loans, and the faithfulness of the appraisal process, I really think we're in good shape there.

Thank you for all the color there. Larry, you commented earlier about Ellington's origination capabilities being undervalued by the market. Can you explain that with your investments in the loan originator -- loan originators and that was helpful. But thinking of the valuations of the kind of a new mortgage originator IPOs and prospective IPOs that those elevated valuations, some of which of those are being pitched as Fintechs. How do you think EFC fits in there in the broader market, you have some of the legacy public originators trading at three, four, five times earnings. And then you have the newer companies coming to market at much steeper valuations. So I guess the question is, kind of one which valuations are right and again how can EFC unlock the value of its origination channels and investments?

Right, well look where as I said in some cases like Longbridge, it's not as much at this point of a pipeline for us -- of loan flow, right. We do buy, no, we do buy Ginnie Mae HECMs and I think having that investment in Longbridge definitely has an incremental benefit in terms of how we manage that portfolio, there's no question about it. But for now, that really is an investment gives us exposure to reverse mortgage servicing, which is as you know which is a unique asset class obviously and that we'd really like. But, so I think -- I think in terms of where there's different originators that are valued right now in the market. I think that there's obviously a blip right now in terms of profitability this year. So I think projecting that forward over multiple years is certainly not appropriate. So I think some of them are overvalued. But just in general, where should an originator be valued, right? It's going to be you've got a book value, you've got a tangible book value that has value, and then you've got a franchise value that's going to be a multiple of earnings power. And I think if you look at where our investments are valued, I know we don't get a huge amount of transparency there. But there's no question that there's tremendous upside there. LendSure, as I said, just had a record month. So if we project continued growth there, there's no question that where we have those valued and where we have that investment value, that there's tremendous upside there. Longbridge as well. Some of the reverse mortgage companies, as you know is widely known, have gone by the wayside over the past couple of years, it was a tough market. Now, it's not a tough market. Now it’s a great market and Longbridge is getting market share there. At some point, it could become a flow provider for us, for example, in getting direct exposure to servicing instead of indirect exposure. But for now we're going to continue to do what we can to help those companies grow. And we're going to; also those companies are going to help us. As I mentioned Longbridge in terms of our portfolio management of reverse mortgage bonds. And in terms of LendSure obviously, the flow they give us in non-QM, we want to expand LendSure's product suite, as I mentioned. So I think that's something that's on the horizon. And that could be explosive and long-term in terms of going into other markets; the principle is there have a lot of expertise in residential transition loans. So that's a natural place to go, agency origination as well. I mean, all these things are possible. And then we haven't even talked about our investments that we either have, or that we might make in the future in other spaces, like the consumer loan space. So I just think that we're in a unique position, given that it's vertically integrated, right and we're a great partner, I think for some of these companies. And obviously, they're a great partner for us. So but we've got $57 million in the balance sheet, you can see that, it's in the deck, it'll be in our Q in terms of what our fair value is of our investments in those originators now. And, okay, so that's maybe only call it 7% of our equity or something like that but total equity that number could grow over time, subject to obviously, the retest, but we have plenty of room there.

Thank you. We have no further questions at this time. This will conclude today's conference call. You may disconnect your lines at this time and have a wonderful day.