TPG Mortgage Investment Trust Inc (MITT) Q4 2017 Earnings Report, Transcript and Summary

Welcome to the AG Management Investment Trust's Fourth Quarter 2017 Earnings Call. My name is Vanessa and I will be your operator for today's call. At this time, all participants are in a listen-only mode. Later we will conduct a question-and-answer-session. [Operator Instructions] Please note that this conference is being recorded. And I will now turn the call over to Karen Werbel, Head of Investor Relations.

Thanks Vanessa, good morning everyone. We appreciate you joining us for today's conference call to review AG Mortgage Investment Trust's fourth quarter 2017 results and recent development. Before we begin, I'd like to review our Safe Harbor Statements. Today's conference call and corresponding slide presentation contains forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995. All such statements are intended to be subject to the Safe Harbor projections provided by the Reform Act. Statements regarding our business and investment strategy, market trends and risks, assumptions regarding interest rates and prepayments, changes in the yield curve and changes in government programs or regulations affecting our business are forward-looking statements by their nature. The company’s actual results may differ materially from those projected due to the impact of these factors and others beyond its control. All forward-looking statements included in this conference call and slide presentation are made as of today, February 28, 2018 and we disclaim any obligation to update them. We will refer to certain non-GAAP measures on this call. And for reconciliations, please refer to the earnings press release and 8-K, which are posted on our website and have been filed with the SEC. At this time, I would like to turn the call over to David Roberts.

Thank you Karen and good morning to everyone. I'd like to share some highlights of our 2017 financial results with you today. Our core earnings for the year were $1.90 per share, and we paid regular common dividends also of $1.90 per share. We also paid a special cash dividend of $0.10 per share. Excluding retro adjustments for the year, core earnings for the year were $1.92. Book value per share increased during 2017 starting the year at $17.86 per share and ending the year at $19.62 per share resulting in an economic return on equity overall of 21.1%. We typically do not comment on any post-quarter and financial metrics. However, given the market increase in rates since year-end, we feel it's appropriate to provide a rough sense of current book value, which we currently estimate is slightly lower since year-end in a range of 1% to 2% decline. During the year, we increased the portfolio allocation of agencies based on our view of the agency sector as offering compelling risk adjusted returns. We increased our equity allocation agency RMBS for 39.2% at year-end from 28.9% at the start of the year. This rotation led to an increase in our overall portfolio size to $3.8 billion from $2.5 billion as well as an increase in our leverage to 4.4 times from 2.9 times. During the year we actively managed our duration gap to reduce our interest rate exposure, ending the year with the duration gap of 1.15 years down from 1.53 years at the start of the year. Now focusing on our fourth quarter results, book value increased during the quarter by 1.4%, primarily driven by the credit portion of our portfolio. Our core earnings for the quarter were $0.50 per share including a de minimus retrospective adjustment and $0.02 per share from dollar roll income associated with our net TBA position. During the quarter, we declared a regular common dividend of $0.475 per share for the ninth quarter in a row. We also would like to update you on Arc Home, our residential mortgage origination affiliate. During 2017, Arc Home originated $1.1 billion of government and agency loans through export channels of origination and retained the originated mortgage servicing rights on its balance sheet. In conjunction with AG Mortgage Investment Trust and other Angelo, Gordon funds, Arc Home purchased approximately $2.4 billion notional of Fannie Mae, Freddie Mac and Ginnie Mae Mortgage servicing rights from third-parties during the year. We believe Arc Home will provide us with more opportunities to invest in excess MSRs non-qualified mortgages and other assets that Arc Home originates going forward. We are continuing to see opportunities to add to our credit portfolio subject to our '40 Act constraints, by leveraging the Angelo, Gordon platform. As always we remain opportunistic and evaluate investment opportunities on a relative value basis. With that, I will turn the call over to TJ Durkin.

Thank you David, good morning everyone. The Fed in its December meeting raised the federal funds rate by 25 basis points and continued to reduce its holdings of agency MBS by curtailing its monthly reinvestment of paid outs. Progress continues to be made with respect to the Fed’s dual mandate of full employment and price stability. And unemployment remains below 5% and transitory factors has depressed inflation earlier in the year appear to have faded. During the fourth quarter, the yield curve flattened, led by suddenly raising short-term and well anchored long-term interest rates. Agency MBS spreads to benchmark rates were stable to tighter during the quarter, supported by range bound to long-term interest rates subdued volatility and modest supply. As the Fed continues to wind down its balance sheet in 2018, it will require investors to absorb an increasing share of gross issuance and this makes us some upward pressure on spreads overtime. However, we believe the already current defensive market positioning in the sector, and tight valuations of competing spread product should help to mitigate the risk of a sudden and short widening of agency MBS spreads. Spreads from those mortgage backed credit sectors were moderately tighter during the fourth quarter with continued support from strong demand and stable fundamentals. Robust new issue activity of RMBS and ABS propelled both sectors to their highest new issue volumes since 2007. Additionally, CRT securities outperformed in the fourth quarter, as concerns surrounding the 2017 hurricanes in Florida and Texas began to diminish early in the quarter. In late November the first performance readings confirmed that early delinquencies were within expectations. The reduced concerns surrounding expect to losses related to hurricanes and strong demand drove spreads tighter for the sector and nearly all CRT securities finished fourth quarter at or near all-time tightness. In the CMBS market, the quarter began to slight lightening in new issues CMBS spreads partially driven by supply concerns as several issuers try to come to market at once. However, this weakness was short-lived as demands for securities more than offset CMBS spreads tightness for this seventh consecutive quarter. Our interest rate outlook for 2018 has not been materially altered. We continued to anticipate interest rates at the front end of the curve to lead the way higher. And we expect sales to increase the federal funds rate three times this year. The longer term rates have become more valuable start the year. We ultimately expect further moves to higher rates to moderate and pace of magnitude as significant global demand for longer maturity fixed income product presumes. Additionally, we think any material rise in interest rates points to expectations of higher economic growth and rising incomes. Both of which would be supportive of home prices and fundamental collateral performance. We do not expect higher interest rates to materially hamper housing affordability. We remain constructive on housing and believe home price stability is durable at this time. We think it is important to note that unlike many other asset classes within credit where we’ve seen an underwriting standards loosened, residential mortgage lending has remained to extremely conservative since the crisis. Given that backdrop we would like to highlight two things, while spreads maybe tighter than in the past, we’re comfortable in the strength of the fundamentals on their residential credits that we currently owned. I’d expect their pricing to hold in better than other asset classes in the phase of broader market volatility. Secondly, and looking ahead, we do expect to see mortgage credit begin to open at the margin. As housing fundamentals remain strong and household balance sheets continue to improve. Furthermore, for the first time post crisis, the regulatory environment is starting to show signs of relaxing under the new administration. Focusing on slide six of our quarterly earnings presentation, we outlined the fourth quarter activity. We actively managed the agency in credit book, increasing our investments in both categories by internal net equity of $105.7 million. During the quarter we continued to increase our sector allocations to agency MBS on a hedge basis. And on the credit side myth along with one side another Angelo, Gordon fund purchased a pool of primarily non-performing residential mortgage loans. Additionally, MITT purchased a large portfolio of prime jumbo of 2.0 subordinate bonds and we also lead refinancing of the credit card ABS bridge securitization that we purchased in the second quarter of 2017. On slide 10 we've laid out the investment portfolio compositions for the quarter. The fair value of the aggregate portfolio increased to approximately $3.8 billion from $3.5 billion in the prior quarter. The fair value of our agency book approximately $2.4 billion and the fair value of our credit book was approximately $1.4 billion. Focusing on our agency portfolio on slide 11, you will see a breakout of our current exposure by product type. The constant repayment rate for our agency book was 7.8% for the fourth quarter. Given the size of our agency portfolio relative to the overall market, the investment team is able to be disciplined and selective when adding agency risk into the portfolio. Because of this, we expect prepayment speeds for our portfolio to generally outperform the overall universe of agency collateral following to the favorable characteristics of our holdings. On slide 12 and 13, we'd like to highlight that 46% of our residential credit investments and 68% of our commercial or ABS rate investments are floating rate in nature and are directly benefitting from the recent increases in the Fed funds raise. Moving ahead to slide 15, we laid out duration gap of our portfolio which declined this quarter to 1.15 years versus 1.36 years in the prior quarter. The duration gap of our agency MBS book the more interest rate sensitive portion of our portfolio declined from 0.5 years to 0.18 years. During the quarter, we reduced our duration gap in response to improved underlying economic fundamentals. We also took advantage of historically low levels of implied volatility by adding $270 million notional payer swaptions to help protect the portfolio from a potential rise in volatility. As David mentioned earlier, we have provided an Arc Home update on slide 17. Arc Home has now completed its first fiscal year of mortgage originations. After demonstrating sufficient risk controls and originating and delivering confirming a government papers throughout the year, Arc Home expanded its product offerings in the fourth quarter by launching its non-QM program. Additionally over the course of the year Arc Home in conjunction with MITT and other Angelo, Gordon fund was successful in purchasing MSR pools that were originated by third party sellers. As we look ahead into 2018, we are confident that MITT is well positioned to deliver attractive returns to our investors while protecting book value. Our asset allocation and modest use of leverage at 4.4 terms as of quarter end gives us the flexibility to take advantage of opportunities that may arise out of any increase spread volatility in the future. We seek to deploy capital into investments that we find attractive in more liquid sectors such as agency MBS and other residential or commercial credit investments and into larger opportunities in less liquid forms presented to us through to the larger Angelo, Gordon platform. With that, I will turn the call over to Brian to review our financial results.

Thanks TJ. For the full year 2017, we reported net income available of common stockholders of $105 million or $3.77 per fully diluted share. Overall for the fourth quarter, we reported net income available to common stockholders of $20.9 million or $0.74 per fully diluted share. For the full year 2017, we reported core earnings of $52.9 million or $1.90 per fully diluted share. Core earnings for the fourth quarter was $14.2 million or $0.50 per share. There was a de minimus retrospective adjustment in the fourth quarter due to the premium amortization on our agency portfolio. At December 31, our book value was $19.62, an increase of $0.27 or 1.4% from last quarter due to the reasons David previously mentioned. To give you a better sense of our current $3.8 billion portfolio, I'd like to highlight a few more statistics. As described on page 5 of our presentation, the portfolio at December 31, 2017 had a net interest margin of 2.38%. This was comprised of an asset yield of 4.64% offset by financing and hedging cost of 1.98% and 0.28% respectively for a total cost of funds of 2.26%. Net interest margin decreased from prior quarter primarily due to the increased cost of financing due to the increase in overnight rate of 5%. As of December 31, we had 39 financing cash parties and are financing investments with 27 of those. In the fourth quarter, we do not see any ill effect in the financing market from the rate increase. And in general funding continues to be plentiful with the new entrants in both the credit and agency space. At quarter end, we have liquidity of $135.3 million comprised of $15.2 million of cash, $99.3 million of unlevered agency whole pool securities, and $20.8 million of unlevered agency IO securities. Additionally at quarter end, our estimated undistributed taxable income was $1.54 per share. And we continue to evaluate that on a quarterly basis to make sure that we are compliant with our distribution requirements. We also utilized our asset market equity offering program during 2017. For the year, we issued 451,000 shares of common stock for net proceeds of approximately $9 million through this program. That concludes our prepared remarks and now I would like to open the call for questions. Thank you.

Thank you. We will now begin our question-and-answer-session. [Operator Instructions] And we have our first question from Doug Harter with Credit Suisse.

Thanks. TJ, I was hoping we could talk a little bit about the duration gap. You show especially in light of the commentary you made about first quarter book value performance. I guess, how does, how has the credit piece of that performed in this operating environment? And should we really be looking at that duration gap of just the agency portfolio?

Thanks Doug. So I do think we should focus really more on the agency part of the portfolio in terms of monitoring the interest rate GAAP. We mentioned earlier a large percentage of our credit is floating rate, which obviously doesn't have the interest rate duration issues. And then secondly I would say some of our other credit investments are significantly lower than in the capital structure and just aren't as sensitive to the daily interest rate volatility that we will see on something like the agency book. So net-net the credit book has performed well through the first see two months of call it interest rate volatility.

All right. Makes sense. And then I guess if you could just talk about your plans for the undistributed taxable earnings and sort of the ability to sort of continue to roll that over versus other alternatives?

Sure. I think that in the last year, we had a one big event actually the 2016 event, that it kind of jump the taxable undistributed now a little higher than we were used to carrying. If you look at 12/31 as I mentioned is the $1.54 per share. We have until September 2018 to pay that out. So in the normal course our current dividend rate of $0.475 common plus the preferred works out to be about $0.11, $0.12, that $0.58 per quarter that we're paying out. So through the first three quarters we would easily exceed the $1.54. So we guys have now to extend that we are going to pay it out in the normal course than the onetime $0.10 from last summer was what we kind of thought it would be which is one time. These are still based on estimates we won't know the exact taxable income numbers until we file our returns in September. But I think that gives you kind of good guidance on what we're thinking.

Alright, thanks Brian.

And thank you. Our next question comes from Eric Hagen with KBW.

Thanks good morning. Congrats on a very solid year. Just given your outlook for both rates and volatility from the opening remarks, can you just discuss the relative attractiveness between adding more agency MBS versus credit right now? Thanks.

Sure. I think like we mentioned we are generally comfortable with that agency spreads, don't have material widening ahead of them given the competing products whether it'd be other structure credit or corporates that are all generally fairly tight, we do like the liquidity that agency portion of the book provides us versus to some of the other credits that we look at, which are just generally tighter than they were a year ago. So I think we would wait for either something more off the run in the credit space or for spreads to probably be a touch wider on the more liquid things in credit, to redeploy capital there.

Great. And then can you just give us the yield that you put on the new acquisitions for the residential credit that you acquired over the last quarter? Thanks.

Are you referring to the whole loans in particular or…?

The whole loans would be great, but if you just have, I think it was $92 million if you have so rough yield on, where those [indiscernible] that would be great.

Yeah. I think, on the whole loan side, I think we would say unlevered yields are probably in the call it 6 to 7 range. I think the CRT space is fairly transparent, those are the figured things that I think. And the other I think more interesting trend we did repurchase subordinate securities off of jumbo post crisis yields and they were depending where were in the capital structure probably 4.5 to 6 if you were gone out to the first lost pieces. So little bit, it’s a little bit all over the math, depending on which space we’re talking about specifically.

Sure. Very well, it’s helpful colour, thanks TJ.

And thank you. [Operator Instructions]. And our next question comes from Trevor Cranston with JMP Securities.

Hey, thanks. Follow-up on the question about duration and how you guys are thinking about that for the overall portfolio, can you comment on how you manage that as rates have increased so far this year? And if you made any meaningful changes to the agency portfolio for the hedge book to kind of try to keep duration on where it was at the end of the year? Thanks.

Yeah. So, I think, just at a high level on the duration side, the agency book has largely extended based off of where rates are and where the coupon on our agency portfolio is versus where current coupon is in the market. So, in terms of rates moving another 5 to 10 basis points higher at the backend, a duration doesn’t, really nominally extend much anymore. So, that’s I’ll say under control. And we are running a fairly tight gap and just isolating the agency part of the book in Q4 to end the year as well as throughout the first two months of this year. So, we’re generally comfortable with where we are and if anything the risks are probably to a big decrease in rates, in terms of complexity and having to reallocate hedges or the assets side of book, on the agency side. And credit's been largely and even from the volatility and on the rate sides so far this year.

Got it, okay. Then a question about the prime jumbo subordinate bonds you guys bought in the fourth quarter. I’m just curious if you guys are finding more opportunities to buy subordinate bonds of new issue deals or you guys, you’ve been considered buying pools and executing your own securitizations to retain the subordinates on your balance sheet?

Yeah, so, I’d say that there was a healthy pick up in jumbo securitizations in 2017, we look at all the kind of market offerings and debt on the ones that we find attractive. We were able to pick up this one, non-new issue by post crisis portfolio bonds from a seller in the middle of the quarter. We would expect, securitization volume to continue to be healthy in 2018 and we’ll continue to look at the different offerings from the issuers. We’re always looking at whole loans, whether it would be jumbo, non-QM, or RPL and NPL, and really trying to figure out the relative value between all four sectors and we have executed securitizations in the past on RPLs and NPLs and we're exploring doing on some of the new origination products as well.

Okay, got it. That helps. Thank you.

And thank you. I see no further questions in queue at this time. I will now turn the call back over to Karen Werbel for closing remarks.

Thank you everyone. We look forward to speaking with you next quarter.

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