MGIC Investment Corporation (MTG) Q1 2012 Earnings Report, Transcript and Summary

Good day, ladies and gentlemen, and welcome to the MGIC First Quarter Earnings Conference Call. [Operator Instructions] As a reminder, today's conference call is being recorded. I would now like to turn the conference over to your host, Mike Zimmerman, Senior Vice President Investor Relations. Please begin.

Thanks, Sean. Good morning, and thank you for joining us this morning and for your interest in MGIC Investment Corporation. Joining me on the call today to discuss the results for the first quarter of 2012 are Chairman and CEO, Curt Culver; Executive Vice President and CFO, Mike Lauer; and Executive Vice President of Risk Management, Larry Pierzchalski. I want to remind all participants that our earnings release of this morning, which may be accessed on MGIC's website, which is located at www.mtg.mgic.com under Investor Information, includes additional information about the company's quarterly results that we will refer to during the call and includes certain non-GAAP financial measures. As we have indicated in this morning's press release, we have posted on our website the supplemental information containing characteristics of our primary risk in force and new flow insurance written. During the course of this call, we may make comments about our expectations of the future. Actual results could differ materially from those contained in these forward-looking statements. Additional information about those factors that could cause the actual results to differ materially from those discussed in the call are contained in the quarterly earnings release. If the company makes any forward-looking statements, we are not undertaking obligation to update those statements in the future in light of subsequent developments. Further, no interested party should rely on the fact that such guidance or forward-looking statements are current at any time other than the time of this call or the issuance of the press release. And with that, let me turn the call over to Curt.

Thanks, Mike. Good morning. As reflected by the net loss for the first quarter of $19.6 million or $0.10 a share, our company's capital position and financial results continue to be adversely affected by the lackluster economic recovery the country is experiencing in particular, the lack of a meaningful decline in the number of unemployed people. We continue to monitor the macroeconomic environment but we spend most of our time focusing on those things we can control, namely underwriting quality, returns on our new business, loss mitigation and operating expenses. Our main objective is and, has been for some time now, to continue to serve the housing market on an uninterrupted basis. To that end, our strategy, which has the support the OCI, Fannie Mae and Freddie Mac, allows new business to be written through a combination of MGIC and its subsidiary, MIC. As a result of the actions we have taken, we have not yet needed to implement this strategy, which has been in place for over 2 years because MGIC has been compliant with all regulatory capital requirements. However as I've said in the past, we expect to begin to use MIC, which as of March 31 to have approximately $430 million of capital sometime in the second half of 2012, in states where MGIC would not be able to obtain a waiver of regulatory capital requirements. The exact timing of when, is difficult to predict due to a variety of well discussed factors. Regarding the business, new insurance written in the quarter was $4.2 billion compared to $3 billion in the first quarter of last year, reflecting the changes in HARP, an additional $1.3 billion of HARP refinanced transactions were also completed during the quarter, which was up 60% from last year. The new business written since mid-2008, which accounts for approximately 25% of our risk in force is of very high quality and based on the credit performance to date should read some of the best business we have ever insured. These benefits existing share policyholders as the capital let us create and supplements our claims paying resources. The profitability of the new business is perhaps best captured by the fact that after 3 years of seasoning, the 2009 book of business has an incurred loss ratio less than 11%. And the 2010 book of business, after 2 years of seasoning, has an incurred loss ratio of less than 4%. These results were achieved despite the weak economy of the past few years. Our industry continues to regain market share from the FHA. However, the pace of that recovery is slower than we would like given the continued differences in underwriting guidelines, loan level price adjustments charged by the GSEs and the secondary market gains associated with government insured loans versus loans insured by the private sector. It is difficult to get a good handle on our industry's market share on a monthly basis as 2 companies within our industry only report this data quarterly. But we estimate the private MI industry's market share at approximately 6% to 6.5%. Within our own industry, we believe that MGIC's market share has steadied at approximately 20% after declining towards the end of 2011 due to our decisions to not lower our underwriting standards or return thresholds. Losses incurred in the first quarter were $337 million versus $310 million last year. The increase was primarily a result of the elevated number of delinquent notices received and the decrease in the cure rates on loans that are 12 months or more delinquent. And while the notices continue to trend lower, we would like to see that pace increase. Currently, when we establish loss reserves for recently reported delinquencies, we assume about 1 out 4 will result in a paid claim. Paid claims declined modestly in the quarter to $673 million from $704 million last quarter and $687 million 1 year ago. The average claim payment was approximately $49,000, which is in line with the last several quarters. Assuming the current claim filing patterns we are experiencing continue and given the relatively lower level of unpaid claims inventory, we believe that despite some volatility on a monthly basis, paid losses will continue to trend lower in 2012. Rescissions and denials continued to slow due to the natural slowdown that has been occurring for some time now. And as we have previously discussed, another reason that rescissions have been trending lower in recent months was due to a substantial increase in the pipeline of pre-rescission rebuttals received from Countrywide over the last several quarters. We have been able to work through this pipeline however, and we are in mediation with Countrywide in an attempt to resolve this dispute. Any resolution that may result from this will be subject to various conditions before it is implemented. In connection with the mediation, we have voluntarily suspended rescissions related to loans that we believe could be covered by a potential resolution. As of March 31, approximately 860 rescissions remained in our delinquent inventory due to our decision to suspend such rescissions. We have not established an accrual because we have not determined that a loss is both probable and can be reasonably estimated at this time. Since we are in mediation, our comments will be limited on this matter to the information we have discussed in today's press release. During the quarter, we continued to realize gains that were embedded in the investment portfolio resulting in approximately $77 million of gains. At quarter end, the portfolio had approximately $73 million of net unrealized gains. Cash and investments totaled $6.4 billion as of the end of the quarter, including $490 million at the holding company. At March 31, the combined insurance company's risk-to-capital ratio remained below the 25:1 threshold at 22.2:1 and MGIC and MIC remained eligible with both Fannie Mae and Freddie Mac. As we have said in the past, we believe MGIC has sufficient exempt claims paying resources to meet all of its policy obligations even under stress loss scenarios. So to summarize, while we expect the effect of the sluggish economy to continue to challenge the company's financial results and capital this year, we are encouraged by the approval of our capital strategy by the OCI, Fannie Mae and Freddie Mac, the continued outstanding quality of the new insurance written and the growing opportunity to regain share from the FHA. Regarding Washington, the consensus seems to have evolved that a QRM definition that had a 20% downpayment requirement is both bad housing policy and overly restrictive. In fact, the National Association of Realtors surveys indicate that approximately 6 out of 10 homebuyers who have take on a mortgage put less than 20% down. So it appears regulators are back to the drawing boards and in a change from the past, we'll coordinate the timing of QRM with QM. We applaud this coordination as there should be a single standard. Recently, there has been increased attention paid to the principal reduction and while rhetoric has slowed political pressure and increased financial incentives are being applied to the FHFA to include principal reductions as part of the GSE modification choices. The FHFA is expected to update their position soon on this topic. And clearly, any additional prudent loan modification effort would be beneficial to all involved. Finally, regarding the future of the GSEs and FHA, it has been reported that treasury officials in the next few weeks will be issuing their recommendation about the GSE's role in the mortgage market and continued federal backing for lower income -- for FHA for lower income borrowers. I believe these recommendations should be positive for our industry. So in closing, our company and our industry will continue to deal with the difficult but slowly stabilizing housing market, a less than robust economy and emerging housing policy regulations. We will continue to actively engage policymakers regarding the benefits of Private Capital and the operating efficiency of the private sector. And as I said up front, we will also keep focused on those areas we can control, namely underwriting criteria and quality, returns on our new business, loss mitigation and operating expenses. We believe that the capital and operating strategy that we have put in place positions our company well for a better future. With that, operator, let's take questions.

[Operator Instructions] Our first question comes from Douglas Harter of Credit Suisse.

A little bit about the comment you made that you're seeing a slowdown in the cures out of the 12 plus bucket. Just give any more detail around, whether that was kind of mix related or something bigger you're seeing?

I think -- this is Larry Pierzchalski, I think the primary reason for the slowdown in the late stage cures has to do with mods, in the latest quarter by our accounting was about $147 million in the quarter. A year ago, $250 million and if you think about HAMP, it was implemented, what, mid '09 and so it had a impact. The mod programs have a bigger impact than late stage cures and now that HAMP's been in place for a while, those cures instead of happening 12 months later are happening sooner. And because the program has been in place a while, the number of starts over time has declined. So given all of that, it's largely due to the decline in mod activities.

And with -- so is given that commentary, was this -- was that sort of decline something that you guys had been anticipating?

Well, it's hard to tell how many new trials keep coming in the door. So we knew that trend was trending down. Exactly the timing of the HAMP cures is hard to predict.

Our next question comes from Chris Gamaitoni with Compass Point.

Can you give us some thoughts around what's the composition of the new notices by vintage? And when you look at your book, can you tell kind of burnout? What percentage of loans have never been delinquent? And try to -- what your view of seasonality versus cyclicalities going forward?

This is Mike Lauer. Just the first cut, I would say, on the new notices, as I said on the last couple of calls, there was about 37,000 new notices in the first quarter. And although the trends on those have been coming down to percentages, for the most part, have been pretty steady. 30% of them coming out of the '07 book and then, another 30% coming out of '04 and prior books. And I think this is the comment we had probably in the last 2 years is that notwithstanding the fact that these books, these mortgages, have been on '04 and longer books, that there's still continuing, each of those older books, are continuing to generate new notices probably 30% of the quarterly notices a quarter. So not only the '07 book, which we know was a large book and had weaker underwriting, but notwithstanding that, even the '04 and prior books are kicking off 30% of the new notices. And that trend, unfortunately, has continued. Even though the number in quarter to quarter has declined, the percent has remained about the same, 30%. So obviously, '06, '07 books are contributing to the delinquencies and '04 and prior books. With respect to the actual year, the '07 book at year end was about 50,000. It's down to 46,000. '06, 23,000 down to 21,000. '05, 15,000 down to 14,000. So -- and then, '02 and prior was 12,000 and is approximately 11,000. So another factor there when you think of it. And then with respect to geography, not much has changed. The #1 highest number of delinquencies is still Florida at about 26,000 units and that's down from 27,000 at year-end and 31,000 a year ago. So Florida being the highest. California is not as much, 8,600 at quarter end versus 9,500 at year end and 12,700 a year ago. So there hasn't been much change with respect to the overall level of notices other than the decline quarter-to-quarter. But seasonally, we've seen the same trends continue with respect to the '07, '06 books and '04 and prior books.

And one other statistic you may find useful is 75% of our new notices over the past, almost a year now, 75% of them have been repeat offenders. Meaning, that they've been here before as the delinquent, cured, performed a while, came back and so on and so forth. So a large portion, 75% are these repeat offenders. And to be a repeat offender, you've got to have some propensity to cure and then for some reason, they were delinquent again. And then they cured. So they just keep churning through the inventory.

Okay. And then on the rescission and denials. Can you just give us a sense of what percentage of are rescissions versus denials?

Chris, it's Mike Zimmerman. I don't have the exact rate. I'll get it for you as soon as the call but I'd say it's 90-10 rescissions over denials and so continuing the vast majority of our practice is it's rescissions versus denials. Again kind of remembering our practice of the denials, it takes a longer process, for us up to a year before a denial is actually removed off of the books and records and they usually come back to us at that time.

Okay. And then just some on the claims paid. Have you seen any -- since the end of the robo-signing settlement with the servicers, have you seen any remarkable change in foreclosure timelines? Yes, I think Florida obviously is the most important to you but just kind of some broad based...

I would say just a slight quickening, nothing major. And I think that's probably due more to staffing and what not. But yes, slight move towards where things were prior to the downturn but up far away from it. I just think that although it recovered a bit, it will not return to that old timeline just because people are to be very cautious before they put somebody out of a home.

Our next question comes from Matthew Howlett with Macquarie.

Just first on HARP, I know that there's been a nice pick up sequentially in HARP resignations. It's my understanding that not all the servicers have signed up for HARP, specifically Bank of America and a few others. Do you expect that number to increase in the second quarter when HARP reaches, its sort of its apex? And then do you think there won't be any change in the rate of net new notices declining?

Matt, it's Mike Zimmerman. As far as the HARP activity, I mean, clearly, if there's large players that aren't fully participating and they do, that's going to increase the level. But I'd say most parties are participating. They are prioritizing differently within different companies. But I would say yes, I mean, so far, as far as we can see the HARP applications, well, are continuing to run high and we certainly still see them elevated. How long that lasts? I don't know. I mean, that that will be a question for what we see. And yes, I mean theoretically, we should see over time a decline in new notice activity with these borrowers but that's going to be economically dependent as well. They're certainly going to be in a better position to make their payments but whether they are able to make their payments or not will be dependent on the economy.

Right, I mean any reperformance that I know HARP is early in terms of the '20 but is any...

HARP's? No. Nothing, I would say, that's definitive or that you could draw any conclusions from.

Got you. And then Curt, you mentioned the treasury is going to come up with sort of updated plans on the GSEs. You mentioned that's going to be positive, potentially positive for the MI industry. Are you referring to the I think with the option 3 on the white papers last year that they may go with this private sector, private coop structure with the government and sort of last lost piece catastrophic reinsurance type position where mortgage insurance stands in between that coop and the government?

It would be an option 3 scenario, I believe. I mean, that's what the treasury secretary has been talking about recently. And as a result of that, I think there will be a role of mortgage insurance in that charter, if you will. So yes I do think it would be under that scenario. And again, this is just what they're going to propose from those options. And who knows in this political climate how you ever get anything done. But I think the way things are working that it would be positive for our industry because we would be part of that process.

And that takes me to the next question and it's going to take I think quite some time before the GSEs are fully privatized. De Marco has talked about possibly increasing MI in the next days of conservatorship. What conversations have you had with the FHFA in terms of having the financial capabilities to actually increase MI concentration and penetration? Is that possible with the industry today?

It is possible. They are very interested in that concept. And we have a number of companies. We have new entrants to the industry also, and which I think is very positive for the industry as we're in this climate of political posturing relative to the long-term capital viability of the industry. So I think the combination of new entrants, as well as the existing companies given the profitability of what they're writing also puts them in a good position for surplus to write deeper coverage. Now, where they affect that deeper coverage is yet to be determined. So I mean if it was a significantly deeper coverage, well that may be a different story. But I -- from everything I've heard, it would be very achievable by our industry.

Our next question comes from Bose George of KBW.

I just wanted to make sure I understand, as capital is moved from MGIC to MIC, what does that do to the statutory capital levels at MGIC?

It remains the same because it's a subsidiary underneath MGIC. So MGIC gets credit for MIC's capital.

Okay. And then do you have a target statutory capital level at which you're going to run MIC once they start writing business over there?

Well, we're limited under the agreements with Freddie and Fannie approvals and but I want to say 20:1 but I have to check the last disclosure on that...

But if -- yes, I mean, if the limit is 20:2, do you -- could we just assume it can go up? You'll run it at that level or something lower or...

Yes, I mean at a lower level. I mean that was -- it's effectively the regulatory threshold would be another way to think about even though Freddie and Fannie are the regulator.

Okay. But it's something around that level mix. Makes sense as opposed to running it at 10:1 or something that's a much lower level?

Right. You can run it up to that level. Again, just so to be completely sure we're clear on one thing that's the optimal level, but it could go to those levels. Clearly, you want something below the maximum risk-to-capital threshold to operate in.

Our next question comes from Steve Stelmach with FBR Capital Markets.

Just to go back to the foreclosure timelines now or your sort of post settlement. I think there's a fear that foreclosure activity is going to really pick up. But it also seems and I see anecdotally that services are much more likely now pro-settlement to conduct deed in lieu of. Can you just give us an idea of if there's a difference in sort of claim experience or severity for deed in lieu of versus foreclosure for you guys and whether it's beneficial that the servicers may sort of adopt this program with more so than of straight foreclosure activity?

Steve, this is Mike. Basically you're talking about time compression of the claims so I mean, that severity as far as our coverage for the most part where hitting the max there. So you've had about it that it does take 2 years or 6 months and so there would be a benefit to us sort of would be on less coverage of interest and other expenses. But so I wouldn't call that the benefit but I wouldn't call it material.

I mean, the key is we get to determine, which works best for MGIC and implement it accordingly. So if it's advantageous to do a deed in lieu, we're all over that.

Okay. So incremental positive but you're not hugely material?

Yes, like I said the overall market obviously keeps the property off the real estate market. So there's other benefits but...

Our next question comes from Eric Frills [ph] with Streamline Capital.

Just a quick follow-up on Steve's question, last question. That would accelerate the pace at which paid claims come in though? Is that correct? A deed in lieu instead of a foreclosure itself?

Yes, that's correct.

And in today's press release, you reiterated that you expect risk-to-capital to exceed 25:1 this year. Is there a level that you'll attempt to keep it below and therefore downstream more capital? And what goes behind the thought process, the downstream further capital from HoldCo to OpCo?

Well, I think the way we're set up right now is we have a strategy that's been approved by our regulator and the agencies that in the event we exceed 25:1 in any event we can't get a waiver to write in certain states, we can use MIC. And MIC has over $400 million of capital in it. So it's well-capitalized and puts us staying writings for several years without any significant impairment with respect to any additional capital. So if you follow that strategy, if we are able to continue to write some business in MGIC and incremental business in MIC, that's the core strategy. And therefore, we wouldn't need to interject any additional capital.

I mean, the real key is to write quality business, which we've been doing that generate surplus for the books of business that we have. And to the extent that, that happens, the regulators look at that and say, they can run at an excess of 25:1 because that all is positive to actual surplus of the company. So those rules, I think, are somewhat dependent on the quality of the company that's the business they're writing. And to that end, as I discussed in my comments, where the incurred loss ratios that we have, were demonstrating that it makes great sense for the MGIC to continue writing even above 25:1.

Okay. There's this sort of press release stated that certain reinsurance subs may require additional capital contributions as risk-to-capital ratios increase in late 2012, is the strategy just a shift to MIC or is the strategy to potentially downstream more capital to the other subs or a combo of both?

As initial strategy would be to get waivers where we can and to write in MIC. To the extent that we would need to get additional capital downstream, that would be a different issue and it would be determinable on what the levels got to and what business results were as we go farther down the line. But our core strategy is to not downstream capital at this time but rather use waivers at MGIC and where we can't write in MIC, which has $430 million of cash.

But if regulators required you to downstream capital in order to get a waiver, would you consider that and under what circumstances?

Well, those would be the circumstances we'd have to look at. And that would be what are the conditions and why wouldn't this current strategy work and would we have the capability of dropping additional capital down from the holding company. All of those things are out in the future and different issues that you'd have to cross. But yes, that in fact would be an issue that you'd have to look at. What has changed and if, in fact, we for some reason, would need additional capital put it come out of the holding company as the holding company got sufficient capital for that at that time and what are the conditions at that time.

[Operator Instructions] Our next question comes from Rendous Reissman [ph] with Marathon Asset Management.

Just in regards to your comment that 75% of the new notices have been repeat offenders. How should we -- just love some history on how that's kind of trended over the years. And then how should we extrapolate that out to the cure rate? I mean, because if you have repeat offenders I would assume that's likely to lead -- more likely to lead to a paid claim and just as I'm trying to model up kind of cure rates going forward just to obviously try to understand that a little bit better?

Okay. So like I said, almost for the past year now, the new notices coming in the door about 75% of them have been repeat offenders. When the downturn hit end of '07, we were running probably about half and half. So half new, half repeats. And so over the past 4 years instead of 50-50, now we're at 75-25 repeats and it's the repeat offenders that have a higher cure rate versus the first timer. I guess, if it's a first timer, some of those obviously, go to claim. But the repeats, to become a repeat, you have to have the propensity to go delinquent and come current, go delinquent and come current. And so they in fact do have a higher cure rate than a first timer.

Our next question comes from Scott Frost with Bank of America Merrill Lynch.

Just to make sure understand, what we're assuming is that if you break through regulatory max was on the 25:1, regulators won't move to -- won't take any court action to stop you from writing business, they'll allow you to write business in the new company and you don't think that's going to cause any -- they may stop you from writing new business in legacy but you'll be able to write new business of the new co?

Well, first, let me correct you on something. The first line would that we can get waivers from various states. Our existing commissioner regulator has given us a waiver to write in excess of 25:1. In other states, we can get that also. In those states where we wouldn't or can't get it or for various reasons we can't get it, then we would issue, if you will, the new policy in MIC, so that's the strategy. The going-in strategy is where we can get waivers and continue to write in MGIC where we can't use MIC.

So you're -- just the larger point I'm trying to get to is you sound like you're pretty comfortable regulators aren't going to move on you due to any kind of capital issue, risk-to-capital issue at legacy MIC. I mean, is that a fair statement?

Yes, I mean, obviously, they have agreed to this plan we've had in place a number of years. We keep getting it updated for new activities, et cetera. But they have signed off on our strategy and our operating plan.

Our next question comes from Edwin Groshans with Height.

Curt, during your comments you mentioned QRM, the 20% down payment I guess the NAR talking about 6 out 10 borrowers being affected. Can you just give a little more color on I guess what they're looking at there? And then you also tried to tie that into some coordination between QM and QRM and any additional color you give around that coordination will be appreciated also.

Yes, from what's going on now, it sounds like the QM definition will come out first rather than the other way, I don't know how we all got into this, about 2 years ago or so when QRM was going to lead off. And the QM should set if you will, the standard under which QRM should operate. And QM sets the liability requirements for lenders within a box and from that, limits liability when you're in it, increases those when you're outside it. Relative to QRM side I think that is going to come out this summer, the definition or the thoughts on QM. And that probably, next year, early next year, the QRM definition would follow. I mean, what's really come to light, both through I guess, the pressure of just about everyone that's involved with both mortgage lending from the selling side or the company's, as well as the consumer groups are saying overly restrictive QM or QRM will raise the cost of lending or borrower to borrower significantly and for no good reason. That particularly, the down payment. Because if you look at the well underwritten loan, the reality is the down payment doesn't matter that significantly. And so why put a requirement on that because the loss scenarios under a well underwritten loan aren't that different from 5% down to 30% down. So that's not the key criteria that as a well underwritten loan would define standards that both, I think, QM and QRM would have. And so there has been a real movement relative to just removing downpayment as a requirement because the reality is that it is not that indicative of the ultimate success of the loan if you have a borrower that's well qualified. And those 2 standards are to set that requirement. So I think there is a, unknown to government, they returned to common sense as they're looking at these requirements and the coordination of activities as they pursue it. I mean, I really wish we had a national housing desire that would look at the GSEs, FHA, QM and QRM all in conjunction in laying out how we move forward as a housing industry. But to date, that doesn't seem like it's possible given the political climate. But I really do applaud the fact that we're going to lead off with QM, follow with QRM and that there is a return to some common sense that relative to the impact. And also, the fact that to put unnecessary requirements really would raise the cost of borrowing to consumers for no good reason.

Excellent, I appreciate that. And then the other question I have is lately I've been getting some questions on at Democritus' presentation on forbearance versus forgiveness. And it does appear that if once we take into account the tripling of the payment from treasury to now include the payment to the GSEs that forgiveness maybe the path that they go on some of their modifications. But now, there is some chatter out there saying that the GSEs if they do go down, principal, forgiveness route that they would first address mortgages without MI versus looking at mortgages with MI, have you heard anything along those lines?

No, we haven't. I mean, where we have the biggest impact would be in our space rather than the others. So I really -- there's been so much rhetoric on this topic over the past month or so in any way that lots of rumors fly. But I think there is a general consensus that something will be done in that area and how they do it is yet to be seen.

Okay. Cause to your comments, to MGIC's comments about 75% of some of the new notices are repeat offenders, if that is an industry theme that's being experienced to go and modify mortgages without MI would seem not to lessen risk for the GSEs?

Yes. I mean...

Not that you want to keep the risk, but you already have it -- you know what I'm saying? So...

Yes, it would be the real meat to that program would be in our space relative to the GSEs. So I, again, I would think that, that would be addressed as part of it. But there's, as I said, a lot of rhetoric on this right now.

I'm not showing any other questions in the queue. I'd like to turn it back over for closing comments.

Well as always, we appreciate your interest in the company and have a wonderful day. Thank you.

Thank you. Ladies and gentlemen, thank you for your participation in this conference. This does conclude the conference. You may now disconnect. Good day.