Anworth Mortgage Asset (ANH) Q3 2020 Earnings Call Transcript

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Anworth Mortgage Asset (NYSE:ANH)
Q3 2020 Earnings Call
Nov 04, 2020, 1:00 p.m. ET

Contents:

  • Prepared Remarks
  • Questions and Answers
  • Call Participants

Prepared Remarks:

Operator

Ladies and gentlemen, thank you for standing by, and welcome to the Anworth Mortgage third-quarter earnings conference call. [Operator instructions] Please be advised that today’s conference is being recorded. [Operator instructions] Before we begin the call, I would like to introduce Mr. John Hillman, Anworth’s director of investor relations, who will make a brief introductory statement.

John HillmanDirector of Investor Relations

Thank you, Christine. Statements made on this earnings call may contain forward-looking statements within the meaning of Section 27A of the Securities Act of 1933 as amended and Section 21E of the Securities Exchange Act of 1934 as amended, and we hereby claim the protection of the safe harbor provisions of the Private Securities Litigation Reform Act of 1995 with respect to any such forward-looking statements. Forward-looking statements are those that predict or describe future events or trends and that do not solely relate to historical matters. You should not rely on our forward-looking statements because the matters they describe are subject to assumptions, known and unknown risks, uncertainties and other unpredictable factors, many of which are beyond our control.

Statements regarding the following subjects are forward-looking by their nature: our business and investment strategy, market trends and risks, assumptions regarding interest rates and assumptions regarding prepayment rates on the mortgage loans securing our mortgage-backed securities. Our actual results may differ materially and adversely from those expressed in any forward-looking statements as a result of various factors and uncertainties. Certain risks, uncertainties and factors, including those discussed under the heading Risk Factors in our annual report on Form 10-K and in other reports that we file from time to come with the U.S. Securities and Exchange Commission, could cause our actual results to differ materially and adversely from those projected in any forward-looking statements that we make.

All forward-looking statements speak only as of the date they are made. New risks and uncertainties arise over time, and it is not possible to predict those events or how they may affect us. Except as required by law, we do not intend to publicly update or revise any forward-looking statements, whether as a result of new information or expectations, future events, or a change in events, conditions or circumstances or otherwise. Thank you.

I would now like to introduce Joe McAdams, our chief executive officer.

Joe McAdamsChief Executive Officer

Thank you, John, and thank you all for joining us on Anworth’s third-quarter 2020 earnings call. With me today on the call are Bistra Pashamova, senior VP and portfolio manager; Brett Roth, senior VP and portfolio manager; and Chuck Siegel, Anworth’s chief financial officer. During the quarter, Anworth posted another solid book value increase, continuing the recovery, which began in the second quarter. Our Agency MBS positions benefited from a continued firming and stability in prices aided by the Fed support, and we believe the outlook for this sector continues to be positive.

With our mortgage credit investments, we have seen improving performance metrics regarding COVID forbearance and delinquency trends, and the values of these assets saw increases during the quarter as a result. While agency prepayment rates on our portfolio remain high, which is a drag on core earnings, roll income from our TBA positions continue to be attractive and drove core earnings higher on the quarter. Core earnings were $3.6 million or $0.04 per common share during the third quarter, up from $0.02 in the second quarter. GAAP net income was $0.20 per share.

And comprehensive income, which includes all realized and unrealized gains and losses reflected on our balance sheet, was a gain of $26 million on the quarter, compared to the second quarter’s comprehensive income gain of $28 million. Looking to Anworth’s investment portfolio. You’ll see the total Agency MBS investments grew from $2.1 billion at June 30 to $2.3 billion at September 30, as our increased position in agency TBAs more than offset the reduction in agency ARM and fixed rate pools driven by prepayments during the quarter. Non-Agency MBS, which are carried at fair value on the balance sheet, increased on the quarter as market prices continued to recover.

And residential loans held in securitization trusts, as well as our non-QM loans, which are held for securitization, fell slightly during the quarter due to prepayments. While not reflected on the balance sheet or in book value, the fair value of these non-QM loans held for securitization increased by $7 million relative to their carrying value on the quarter. One additional point I’d highlight regarding our increased agency TBA position is that of the $2.6 million of dollar roll income from TBAs, as reflected in this quarter’s core earnings roughly $0.025 per share, approximately half of that was earned during the month of September when our position was larger and more in line with where it ended the quarter. So while roll income can be variable from month to month based on the market, we entered the fourth quarter with our agency TBA positions providing a strong and improving contribution to core earnings.

So with that, I’d like to turn the call over to Bistra to discuss the Agency portfolio in more detail.

Bistra PashamovaSenior Vice President and Portfolio Manager

Thank you, Joe. With continuing strong base of Fed purchases and muted volatility, Agency MBS performed well in the third quarter. Spreads tightened across the coupon stack with the exception of threes, which widened substantially. Specified pool pay-ups increased further from most coupons and collateral attributes.

Our Agency MBS portfolio increased to approximately $2.3 billion at quarter end. 30-year Agency MBS comprised 66% of the portfolio. 15-year and 20s securities combined 9% and adjustable rate MBS, 25%. As we mentioned on the last call, we viewed lower coupon 30-year TBAs as providing very attractive risk-adjusted spreads given their significant raw financing advantage.

With the combination of Fed purchases and heavy origination volume, we expected roll specialness to persist. And as you can see, we increased our TBA position substantially during the third quarter. Our 30-year MBS allocation is currently a barbell of lower Coupon 2 and 2.5 TBAs and higher Coupon 4 on average specified pools. 85% of our specified pools have some prepayment mitigation characteristics.

Our adjustable rate securities coupons continue to reset down, and we expect this will naturally moderate the prepayments over the next six months. As we discussed on the last call, we anticipated fast portfolio prepayments during the third quarter. Overall agency portfolio CPR was 39%, and adjustable-rate securities CPR was 37%. In October, Agency MBS universe prepayments increased.

And similarly, our portfolio prepayment speed was higher at 41% CPR. However, we expect some moderation in prepayments in the coming months as a result of the winter seasonal effect and of burnout of our higher coupon pools. With regards to new Agency MBS investments, our focus continues to be on opportunistically adding to our lower coupon 30-year position. So far this quarter, raw financing advantage has remained significant, particularly for 30-year two, and we have capitalized on very attractive dollar roll carry.

Joe McAdamsChief Executive Officer

Thanks, Bistra. And at this point, I’d like to turn the call over to Brett to discuss our mortgage credit investments.

Brett RothSenior Vice President and Portfolio Manager

Thank you, Joe. During the third quarter, credit markets continued to benefit from improved liquidity. Spreads further tightened in over the course of the quarter. Overall, we have retraced a significant amount of the spread widening that we experienced during the first quarter.

We are still not nearly back to the levels we were at, at our tightest. However, the market is continuing to function smoothly with trade activity continuing to increase and the demand for assets continuing to grow. During the quarter, our CUSIP portfolio’s value increased due to the spread tightening in the market. Further, on the funding side, both haircuts and funding spreads improved.

We continue to support portfolio leverage, again, at lower levels than we had previously with our current assets, both cash and securities. The voluntary prepayment fees on our legacy portfolio over the quarter was approximately 13 CRR and CDR is trending back downward to approximately two CDRs. New delinquencies look to be returning to levels experienced prior to COVID with 30-day delinquencies running at approximately 3%. Since increasing in the post-COVID experience, we are seeing the 60-plus delinquency bucket holding steady at approximately 20%.

There are no other additional sales nor were their purchases in the securitized credit portfolio. However, a few of our securitized NPL bonds were called during the quarter. Last quarter, our portfolio was comprised of approximately 56% legacy MBS and 47% credit risk transfer assets. Currently, the balance is approximately 53% legacy MBS and 47% credit risk transfer assets.

Approximately 84% of our CRT investments are focused on agency reperforming loans. Turning to our loan portfolios. We have been in very close contact with the servicers of our loans in both the loans held for investment portfolio and loans held for securitization. Looking at the residential loans held for investment portfolio, this is a portfolio of highly qualified quality — high-quality jumbo loans originated in 2014 or 2015.

Over the quarter, we experienced increased delinquencies. However, in the instances there — where there have been liquidations, we have generally benefited from the increased value of the underlying properties and not experienced losses when liquidating properties. We continue to see high voluntary prepayments in this portfolio with VPR still running at approximately 38 CRR. Overall, the performance of the loans within this portfolio continues to be strong.

Per our conversations with the servicer, loans that are designated as COVID are not being reported as delinquent. However, their missing principal and interest payments are being accounted for as forborne payments. Based on the information we received from the servicer, it appears that no additional forbearance was experienced during the quarter. Our portfolio of loans held through securitization is our non-QM loan portfolio.

Our current portfolio of assets has a weighted average FICO of 743 and LTV CLTV of 70% and DTI of 38.5%. Approximately 83% of our portfolio is comprised of hybrid ARMs, of which the majority are seven ones. At September 30, approximately $1.5 million of this loan portfolio was 30 days delinquent, approximately $6.4 million was 60 days delinquent and approximately $3.5 million was 90-plus days delinquent. We have seen both the 60-day and 90-day buckets improve significantly from last quarter, where they were $13.3 million and $13 million, respectively.

Of these amounts, the percentage that is COVID-19-related are as follows: 30-day delinquent, 84%; 60-day delinquent, 72%; and 90-day delinquent, 93%. Looking at the latest statistics, we see that the COVID-identified asset portfolio has declined from 26% to 23%. Of that 23%, 41% are current. Thus, our portfolio has experienced an improvement in COVID-related delinquencies reported at 12%, down from 20% last quarter.

Further, of the COVID-identified delinquent loans, 62% of these borrowers have resumed making payments on their loans. Thanks, Joe.

Joe McAdamsChief Executive Officer

Thank you, Brett. Turning now to the portfolio financing. In line with our smaller Agency MBS pool position, you’ll see the repo borrowings declined similarly to a total of $1.46 billion at quarter end, with an average rate of 35 basis points overall and a hedged interest rate of 1.44%. Our leverage multiple has declined to 3.4 times total capital at September 30.

When implied, the implied TBA financing is considered, our effective economic leverage at June 30 was five times total capital. So while leverage to repo and other borrowings fell from the prior quarter, economic leverage was up from 4.7 times at June 30 due to the increase in our agency TBA positions. Our interest rate swaps declined in notional balance to $765 million, largely driven by the maturity of some of our shorter lower-cost swaps. We still maintain a significant balance of swaps beyond the five-year maturity currently to protect book value from an increase in longer maturity interest rates, even if short-term rates stay low as we expect in the coming quarters.

Our book value per share increased $0.19 on the quarter from $2.85 to $3.04 per common share. When taking into account the $0.05 dividend that was declared during the quarter, total economic return on book value for common shareholders was 8.4% for the quarter. And the year-to-date economic loss now stands at a negative 30.4%. With that, I would turn the call back over to our operator, Christine, for any questions you might have.

Thank you.

Questions & Answers:

Operator

Thank you. [Operator instructions] Your first question comes from the line of Doug Harter from Credit Suisse. Your line is open.

Josh BoltonCredit Suisse — Analyst

Hey, guys, this is Josh on for Doug. We saw leverage tick up in the quarter, like you just mentioned. Curious that this is the right level. Or how should we think about target leverage going forward just given the incremental ROEs you’re seeing in the agency space, specifically in the TBA roll specialness? Thanks.

Joe McAdamsChief Executive Officer

Sure. Thanks, Josh. I do think our leverage multiple is — it’s partly influenced by the allocation of equity across the different asset classes, right? We do typically operate with a higher level of leverage on our Agency MBS investments. So I think as we’ve seen, the net equity allocated to Agency MBS, that does drive the overall portfolio leverage higher.

So I think we’re comfortable with our individual sector leverage targets that we have now. So I do think there’s the possibility perhaps of some additional uptick in leverage moving forward of a similar magnitude if we were to continue to move some of the pay-downs off the portfolio into TBAs or other Agency MBS pools. But I would say, by and large, given our mix of agency versus mortgage credit and the various components of leverage, this is sort of where we’re targeting at this point.

Josh BoltonCredit Suisse — Analyst

Great. That makes sense. Secondly, can you give us an update on how book value is trending in the fourth quarter?

Joe McAdamsChief Executive Officer

Sure. In the month of October and then the first few days of November, we have continued to see book value increases, I think, similarly as we saw the prior quarter. Some coming from both the improvement in price of mortgage credit investments, as well as stability and some firming on some of the agency investments we have. So as of today or last night to this morning, obviously, there’s been a little volatility.

But in a range of between 1% and 2% would be a book value increase we’d see at this point.

Josh BoltonCredit Suisse — Analyst

Great. That makes sense. Finally, just given where the stock is trading and has been trading, any thoughts that you could share around the attractiveness of share buyback and how you’re thinking about the trade-off between returning capital versus incremental investments? Thanks.

Joe McAdamsChief Executive Officer

Sure. We’ve talked about this in the past, and we certainly understand the potential for share repurchases to meaningfully increase book value per share if they’re done at a substantial discount. We certainly consider all the options we have to improve total shareholder return. I will say, in this environment, by making new investments that have the potential to drive earnings higher and potentially allow us to increase the dividend at some point in the future are also important.

So we weigh all those factors in terms of what, a, is going to generate the best economic return in terms of generating income and continuing to increase book value; and secondly, what would help drive that price-to-book discount narrower on that, hopefully, improving book value. So we certainly have used share repurchases as an important tool in the past, and it’s something we are continuing to evaluate.

Josh BoltonCredit Suisse — Analyst

Great. Appreciate the comments, Joe.

Joe McAdamsChief Executive Officer

Thank you.

Operator

Your next question comes from the line of Mikhail Goberman from JMP Securities. Your line is open.

Mikhail GobermanJMP Securities — Analyst

Hi, good morning. Hope everybody is doing well. Question on the TBA strategy. Obviously, a huge boost up in the allocation to TBAs this quarter.

A few of your peers have done something similar. Just curious as to your thoughts on the viability of the TBA strategy going forward, vis-à-vis, perhaps the spec pools? And second question, I know you mentioned prepays probably going down in the fourth quarter, but is there a ballpark figure you can give us for the month of October? Thanks.

Joe McAdamsChief Executive Officer

Bistra, if you want to update on the quarter to date in terms of prepays, and I’ll go from there.

Bistra PashamovaSenior Vice President and Portfolio Manager

Yes. I’d say, I briefly mentioned that earlier, prepays were higher in October. The overall portfolio CPR was 41%. The ARMs were 38%.

Joe McAdamsChief Executive Officer

Right. So we’ve continued to see fast speeds into October. We usually see some seasonal effect as we move into the winter. Whether that net debt will be enough to bring the quarter-over-quarter speed down for the fourth quarter, we’ll have to see as we move along.

In terms of the TBA allocation, I think our position so far over the last quarter has been that as our agency portfolio, the pool portfolio, including the spec pools, has been paying down, the attractiveness of the roll income, the implied financing, the specialness there, as well as our expectation of some stability in pricing of the production coupons would make that, a, a more attractive investment on the margin and reinvesting those prepayments into the Agency MBS market; and secondly, obviously, we’ve seen good stability in the markets we invest in over the past several months. But given the volatility we’ve seen this year, given some of the questions about optimal capital allocation, TBAs are particularly light in terms of their capital intensiveness, which is an attractive feature as well. So as we move forward, there clearly is a limit to the amount of TBAs you would want to have on relative to your overall portfolio. So I do think that we are certainly looking for opportunities to opportunistically add to the agency portfolio as pay-downs come in.

Whether those take place in additional TBAs or specified pools that we have been put on repo, we’ll sort of take those decisions as they come.

Mikhail GobermanJMP Securities — Analyst

Great. Thanks. That’s all for me. Wishing everybody a great holidays and a better next new year.

Thanks.

Joe McAdamsChief Executive Officer

I appreciate it. And you, too.

Mikhail GobermanJMP Securities — Analyst

Thanks.

Operator

Your next question comes from the line of Hal Granger from Great Quarter Research. Your line is open.

Hal GrangerGreat Quarter Research — Analyst

Thank you for taking my questions. Regarding the leverage and use of capital and rewarding shareholders, your dividend right now is at — well, the last was — the last declared dividend was $0.05. When you’re thinking about how you’re going to reward shareholders, would it make sense to increase that at all, even though you’re already at a double-digit percentage yield on your common stock?

Joe McAdamsChief Executive Officer

Our thinking around the dividend is that we would like it, certainly over the course of a year and over a multiple-quarter horizon, to be reflective of the earnings power of the portfolio. Given that we do report core earnings as reflecting the actual prepayment experience of the quarter, we do report our income of our mortgage credit MBS investments based on the actual cash flow that they’re throwing off during the quarter, during this period, we do clearly have volatility from quarter to quarter, month to month in core earnings. But our expectation would be if we are increasing the dividend in future quarters, it would be because we’re seeing and expecting a similar increase in the core earnings. As I did point out during my portion of the comments, we have seen a significant increase in core earnings through the spread we’re earning on the dollar roll income, on the TBA positions that was increased over the quarter, about half of that came during the final month.

So I do think relative for our third-quarter earnings, core earnings versus the dividend, part of the reason we were comfortable with the $0.05 dividend was what we see as some positive momentum there on the core earnings side.

Hal GrangerGreat Quarter Research — Analyst

OK, thank you. Regarding CPR, Bistra, I think, mentioned that — mentioned the idea that six months from now, CPR would probably be down, I think I got that right, but in a qualitative way rather than like — and Bistra did not address what the potential magnitude would be. Can you talk about the — what you — how you envision CPR in the future?

Joe McAdamsChief Executive Officer

Sure. Well, the portfolio CPR is going to be driven by two main factors. The first is going to be where interest rates are. And if we were to assume that interest rates stay where they are over the next six months, you would expect to see some decrease in prepayments.

But I would think that would be in a sort of a single-digit decrease from being around 40 to something in the mid-30s sort of area. The second factor though, when prepayments are as fast as they are, is that we are receiving about 10% of the portfolio — agency portfolio paying off every quarter. And so a lot of the average portfolio CPR and the average yield that we’re going to be earning on the agency portfolio will be increasingly driven, if you were to look out six months, by what’s the CPR on the new investments and what’s the NIM you’re earning on your new investments going forward. So I think that will be — I would expect that we will not be buying as many securities that are currently paying at 40% CPR.

So we expect the average of the portfolio to come down just from a rotation into lower coupon, more current specified pools that would have lower prepayments.

Bistra PashamovaSenior Vice President and Portfolio Manager

Yes. And I’d just like to add that the six-month reference was related to the CPRs on our adjustable-rate securities and related to the resetting of the coupons. As you noticed, this quarter, the average coupon on the ARM sector was down about 30 basis points, and we expect similar declines over the next two quarters. And in six months, the adjustable rate part of the portfolio would have fully reset to current rates to around 2%.

And I think that’s — the fact that now we have this much lower current coupon would naturally slow down prepayments.

Joe McAdamsChief Executive Officer

Yeah, it’s an excellent point. That’s an important third factor. It’s about — it’s not a terribly large portion of our Agency MBS portfolio, but we’re still at the point with pools where about 25% of our securities will see their rates adjusting down as well.

Hal GrangerGreat Quarter Research — Analyst

OK, great. Thank you never much for that color. One comment to end my questions that congratulations on growing your book value again. And I see that in your — where your stock is trading right now, you’re at a 43% discount, which seems appealing to — for investors.

Thank you.

Joe McAdamsChief Executive Officer

Thank you, Hal.

Operator

[Operator instructions] There are no further questions at this time. I turn the call back over to Joe McAdams for closing remarks.

Joe McAdamsChief Executive Officer

Thank you, Christine. And again, thank you all for joining us today or listening in on a replay to this call, and we appreciate your continued support of Anworth and look forward to talking to you on the next call. Thanks a lot.

Operator

[Operator signoff]

Duration: 29 minutes

Call participants:

John HillmanDirector of Investor Relations

Joe McAdamsChief Executive Officer

Bistra PashamovaSenior Vice President and Portfolio Manager

Brett RothSenior Vice President and Portfolio Manager

Josh BoltonCredit Suisse — Analyst

Mikhail GobermanJMP Securities — Analyst

Hal GrangerGreat Quarter Research — Analyst

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