Q3 2019 Earnings Call

Good morning, My name is shake up and I won't be conference facilitator.

At this time I would like to welcome everyone to granite point mortgage Trust third quarter 2019 financial results Conference call.

Participants will be and Oh listen only mode.

After the speaker's remarks, there will be a question and answer session.

I would like to now turn the conference over to Chris Paterson with Investor Relations for granite point.

Thank you and good morning, everyone. Thank you for joining our call to discuss granite <unk> third quarter 2019 financial results with me on the call. This morning, our Jack Taylor, our president and CEO .

Portion or Bassett, our CFO , Steve Alport, our CIO and Steve plus our COO.

After my introductory comments, Jack provide a summary of our business activities and a brief recap of market conditions, Steve Alport will discuss our third quarter originations Oh portfolio and pipeline Marcia will highlight key items from our financials.

The press release or financial tables associated with today's call as well as our Form 10-Q were filed yesterday with the FCC. If you don't have a copy you may find them on our website or on the Fccs website at <unk> Dot Gov.

In our earnings releases slides, which are now posted in the Investor Relations section of our web site. We have provided a reconciliation of GAAP to non-GAAP financial measures.

We urge you to review this information in conjunction with today's call.

I would also like to matching that this call is being webcast and may be accessed on our website in the same location.

Before I turn the call over to Jack I would like to remind you that remarks made by management. During this conference call and the supporting slides may include forward looking statements.

Forward looking statements reflect our views regarding future events and typically associated with the use of words, such as anticipate expect estimate and believe or other such words.

We caution investors not to rely unduly on forward looking statements.

<unk> risks and uncertainties and actual results may differ materially from expectations.

We urge you to carefully consider the risks described in our filings with the FCC, which may be obtained on the Fccs website at <unk> Dot com.

We do not undertake any obligation to update correct any forward looking statements. If later events proved to be inaccurate.

Now I'll turn the call over to Jack.

Thank you, Chris and good morning, everyone. We would like to welcome you all and thank you for joining our third quarter 2019 earnings call.

Over the course of the year, we have been successfully executing on our investment strategy, while meaningfully growing our business.

Our strong third quarter loan origination jump over 630 million again illustrate the capabilities up our direct origination platform and our highly experienced team.

Through the first like much of a year, we originated over 1.3 billion of new senior loans, an increase of about 47% over the same period last year.

We expect our robust capital deployment to continue for the rest of year as evidenced by our forward pipeline of over 650 million of loans.

Although our pace of originations has increased we've maintained our emphasis on credit underwriting and loan structuring while generating attractive risk adjusted returns.

Assuming all the loans in our pipeline close by yearend. We are on track to directly originate about 2 billion of new senior loan investments for the full gear, which would be a record for our business and represents an increase of more than 25% over our originations volume in 2018.

Our strong third quarter originations combined with the fundings of our existing loan commitment resulted in record quarterly capital deployment of over 530 million.

That combined with manageable prepayments generated another quarter or strong net portfolio growth of over 365 million or about a 10% increase over the second quarter.

The outstanding principal balance of our portfolio at quarter end was about 4 billion and 4.7 billion, including our future funding commitments.

We're pleased with the ongoing strength of the credit quality of our portfolio. We remain focused on deploying our capital into strong credit stories backed by high quality properties and sponsors with business plans meeting our underwriting criteria, which in aggregate produces a well secured and well diversified portfolio.

During the third quarter, one of our loans that had been previously risk rated four was repaid at par. This approximately 18 million now let alone on the multifamily property in New York was refinanced with another lender reaffirming our earlier views on the credit quality of this asset.

We continue to actively monitor the one other loans that we have risk rated four.

Actual credit monitoring of our investments is a key tenet of our overall asset management program and approach to risk mitigation.

We believe that in general the fundamentals of the commercial real estate market along with the overall credit environment remain attractive.

Even though the overall economic conditions have remained relatively stable with solid trends in the employment market in a preemptive set of actions over the last few months. The fed has cut short term interest rates significantly which had a negative impact on our financial performance into third quarter.

This along with some temporary shifts on our balance sheet, which marson will describe in more detail later contributed to a decline in our earnings quarter over quarter.

From the outset, we've been incorporating LIBOR floors in the vast majority of our loans as a partial offset to declining short term rates. However, a significant portion of our portfolio is an older vintage investments with much lower LIBOR floors, which resulted in a disproportion the impact on our portfolio yield as short term rates decline.

Right.

As of September Thirtyth less than 10% of our portfolio had LIBOR floors that were in the money. However, our originations for the first nine months. So the year have a weighted average LIBOR floor of approximately 2.02%.

As our portfolio seasons, and the older vintage loans, those with lower LIBOR floors continued to pay off the sensitivity of our portfolio to further declines in short term rates is expected to improve.

We have made substantial progress executing on our strategic goals and growing our company, while taking advantage of attractive investment opportunities available in the commercial real estate debt markets. We remain confident that our strategy will generate attractive risk adjusted returns for our shareholders as we continue to grow and stabilize our.

Business.

Now I will turn the call over to Steve I'll part to discuss our investment activity in more detail.

Thank you Jack and thank you all for joining our call. This morning.

We continued our strong originations momentum in the third quarter and close 15, new loans would total commitments of over 636 million, taking advantage of the plentiful attractive lending opportunities in our market.

Our aggregate loan fundings of 535 million with the highest we've had since inception of our business and consisted of about 475 million of initial fundings of new loans about 58 million a future fundings from pre existing loan commitments and 2 million. Some the upsizing of two loans.

The newly originated loans are secured by high quality properties, mainly in the office and multifamily sectors with a well balanced geographical exposure.

Our third quarter originations have attractive credit profiles with experienced sponsors a weighted average stabilize LTV of 66%.

The weighted average yield of LIBOR plus 365.

During the third quarter, we realize about 167 million, a prepayments and principal amortization.

However, we expect the volume of prepayments to exceed 300 million in the fourth quarter, driven primarily by the further seasoning of our portfolio as more of our sponsors have now had the time to successfully implement their business platts.

Leading them to other cell or refinance their properties.

Since the ended the third quarter, we have already realized over 135 million of loan prepayments.

Driven by record loan fundings and relatively consistent prepayments the principal balance of our investment portfolio grew to about 4 billion. This quarter with a fully committed balance of about 4.7 billion.

Our portfolio continues to exhibit strong credit characteristics and is well diversified across property types markets and sponsors.

The weighted average stabilize LTV across our portfolio is under 64% and the weighted average yield that origination is LIBOR plus 440 with senior loans accounting for over 98% of our investments.

Consistent with our strong focus on deep credit underwriting and our investment philosophy, emphasizing diversification our portfolio remains well insulated from exposure to binary risks and significant sponsor or tenant concentrations.

Turning to our forward pipeline to date, we have generated aggregate new loan commitments of over 650 million, which have over 500 million of initial fundings.

So far we have funded over 325 million of loans, which includes funding of about 30 million from our prior commitments.

We expect most of the remaining loans to close at some point during the fourth quarter, though some may delay into next year subject to customary closing conditions.

Similar to our third quarter originations our pipeline is mainly concentrated in loans on multifamily in office properties located across a diverse array of markets and with strong credit characteristics.

We currently estimate the loans are for pipeline to produce yields in the low to mid threes over LIBOR.

Moving to higher expected level of Q4, prepayments and assuming that most of our pipeline loans closed by year end, we would anticipate a more modest portfolio growth in the fourth quarter compared to the third quarter subject to timing of loan closings.

Ill now turn the call over to Marson for a more detailed review of our financial results.

Thank you, Steve and good morning, everyone. Thank you for joining our call.

Our strong originations in the third quarter continued robust capital deployment this year and resulted in a healthy 10% net portfolio growth.

Our financial results, however were affected by lower short term interest rates and movements on both sides of our balance sheet.

Despite the strong portfolio growth our interest income increased by only about 6%.

It was impacted by the significant decline in one month LIBOR during the third quarter.

As well as lower credit spreads on our newly originated loans relative to the spreads on the legacy loans that have repaid.

Over the course or the quarter, we increased our borrowings to provide us with the additional liquidity to fund our significant volume of originations in the third quarter and heading into the fourth quarter.

Some of which were delayed causing negative carry on our excess cash.

The results, we recognize higher interest expense, which contributed to the decline in our net interest income of about a penny per share versus the second quarter.

Additionally, the prepayments of our CLL finance loans created some additional drag on third quarter earnings.

Closings of new loans targeted for the deployment of those funds were also delayed.

Since quarter end, we have largely reinvest that the liquidity in our managed CLL.

The decline in net interest income and lack of prepayment fees combined with slightly higher servicing expenses driven by portfolio growth.

Largely accounted for the decrease in our core earnings from 19 point, Fourmillion or 36 cents per share in the second quarter.

To 18.5 million or 34 cents per share into third quarter.

The recognition of additional shares outstanding issued through our ATM into second quarter accounted for less than a penny of impact to our EPS results into third quarter.

Our book value at September Thirtyth was $18.65 per common share.

Turning to our financing and leverage the outstanding balance on our credit facilities increased to over $1.8 billion driven by the growth of our portfolio and drawing down available borrowings to fund new loan originations.

Additionally at quarter end, we carried at much higher restricted cash balance as a result of the prepayments of loans finance that us close that I referred to earlier.

Our total borrowing capacity inclusive of our options to upsize some of our facilities was $2.5 billion unchanged from the second quarter.

During the third quarter, we partially exercise our option to upsize the JP Morgan facility from 352 $425 million weaken further grow their borrowing capacity on this facility up to 500 million.

Since quarter end, we have also partially exercise our option to upsize at Wells Fargo facility from 202, 275 million, which can be further increased to $350 million.

We ended the third quarter with our recourse leverage at 1.8 times and including the non recourse known mark to market Siloed that our total debt to equity ratio was three times.

We would expect our total leverage to generally remain around this level in the near term as we continue to deploy our remaining capital and reinvested liquidity, we expect to realize from loan repayments.

Thank you again for joining us today and now I will ask the operator to open the call to questions.

We will now begin the question and answer session to ask a question you May Press Star then one on your Touchtone phone, if you're using a speakerphone. Please pick up your handset before pressing the keys to US try. Your question. Please press Star then to at this time, we will pause momentarily.

To assemble a roster.

The first question comes from Jade.

From money with KBW.

Please go ahead.

Good morning. This is actually Ryan on for Jade. Thanks for taking the questions Martian I appreciate the commentary in your prepared remarks around the interest expense and the interest income I didn't quite catch the main drivers of the reason why interest expense spike so much.

In the quarter can you can you just trying to clarify for that that for us a bit further please thanks.

Sure and good morning, Thank you for joining us so the overall theme for the third quarter.

The excess liquidity, we carried which puts some pressure on non interest income and impacted our results. We were keeping extra liquidity on the balance sheet and we're also preserving the funds available for reinvestment in our managed to see a low for the large number of loans that were closing, including some larger loans that flow.

The things of which were unfortunately delayed.

Which resulted into large interest expense without the offsetting interest income.

It all falls later I'm also that excess liquidity has been deployed.

And if you think about giving our smaller relative size, having $100 million to $150 million of extra liquidity.

For for a couple of months, which which is financed obviously sort of borrowings at 43.5% to 4%.

Carries over more significant impacts our results and Thats essentially what happened this quarter.

Marsh and this is Jade are you expecting earnings to reach the dividend level in the fourth quarter.

Then just broadly thinking about the dividend in the wave is established as a follow on to the two harbors transaction based on where returns are today.

And given the outlook for interest rates do you expect to reach the dividend level next year in terms of core earnings or should the dividend be adjusted to reflect current perspective Levered returns.

Hi, Good morning, Jay. Thank you for the question. So I'll take that Q4 first then I'll address the dividends.

To that I'd say look it's difficult to predict the exact number for the fourth quarter as obviously as you know there are many factors influencing our earning.

So the timing of long closings and prepayments, we expect a higher level of prepaid this quarter as Steve mentioned in his prepared remarks.

But I will be a driver along with the trends in the short term rates, we still have solid fourth of July or obviously assets, we are largely floating rate portfolio.

Portfolio.

Also as Steve mentioned, we estimate the yields in our forward pipeline to be somewhere in the low to mid three hundreds over LIBOR. So that combined with the higher yields in the long that are paying off we'll also have an impact so taking all those factors into consideration.

The fact that.

Mentioned the movements in our balance sheet.

To support a high volume of loss kind of half also some temporary impact on our NPS.

It's hard to pinpoint a number for the fourth quarter.

No so speaking of the dividend.

Also there are there a lot of factors that affect that we are focused on longer term supporting the dividends through.

Stable run rate of core profitability that will obviously depend on a variety of different things such as returns available in the market for our strategy. We do not expect to change the credit and risk profile of our investments in order to generate additional yield.

Also obvious I alluded to earlier in the for the for the Q3, the excess liquidity. We had no. We have funded over 300 million over the long into the second half of Q3 and over 325 million so far in fourth quarter as Steve mentioned.

So we've invested most of that excess liquidity sort of interest income earned on these new long so definitely helped offset the extra interest expense.

Quarter.

There are our first COO, which is a static deal has been de leveraging.

As loans have been paying off making it a little bit less efficient.

We expect this trend to continue.

As a meaningful portion of our expected prepayments.

Our loan financing that trust.

We're looking at a variety of different options to address this issue, but it will take some time for us to influenza.

Additionally, you know even though we ended the third quarter at three times debt to equity ratio the kind of the average leverage for the quarter with about 2.7 times this summer on that level.

To me that illustrated that we were under Levered for the quarter.

So we have some more room to lever up portfolio.

On a more consistent basis after that three times level, maybe a little bit higher once we're done with rationalizing our liabilities.

So we're focused on investing our remaining capital Lisa reinvesting the funds, we will be getting from repayments and doing more often our liabilities to make the funding structure more efficient and taking all those factors into consideration once we bring our balance sheet.

At a more stabilized level of leverage and assess the effects of all the other variables. We will have a discussion with our board regarding the longer longer term more sustainable level or call profitability and reevaluate the level of the dividend against that and making the necessary adjustments in the future.

Thanks for that I think it's worth being realistic and considering that.

Your current dividend implies a return of 9% on book value given the expense structure and DNA that would require around 12, 12.5% gross are always.

You know some if someone in commenting that achievable areas are more in the 11% to 11.5% range. One thing I have asked you guys about in the past given your track record in history and the CMBS market is ancillary businesses, which typically conduit type businesses generate high ROI is wondering if you have any updated.

Dots on on on that.

Hi, Jay This is Jack good to speak with you well I think as we discussed on past, we're always evaluating and opened evaluating various business opportunities that will drive extra returns.

And our team really has strong capabilities to execute on a variety of investment strategies as we've done so over.

Many different formats or our loan careers.

But since going public two years ago, we've been solely focused on deploying our capital and growing the balance sheet and bringing our business to more run rate performance. So we're not currently actively looking to expand the business, but we won't rule out doing so we won't rollout potential partnerships or jvs that could help us do that.

If that makes sense as well from both the strategic in a risk perspective. So the answer is.

Nothing eminent but.

But not excluded.

Hi.

Just want to if I can just want to.

Add something to margin was saying about the.

Improving our financing for our company and.

He referred to see alone market.

As we've said in the past also we view the silver market is very complimentary and attractive.

The way to finance our business in conjunction with the other types of borrowings, we do and Weve positioned our company to be a repeat issue in the CLL market.

And we've executed to close to date as you know both of which were really well received and supported by a broad array of institutional investors many of them repeat investors in the second deal.

And as our origination pace has picked up and we've grown our portfolio significantly. This year, we have ample asset capacity to take advantage of the steel and market. So we've been paying close attention to the developments in the sale of market.

Alluding, what I'll call the noticeably more advantageous executions available to issuers. So we've been considering another securitization that should be beneficial to our balance sheet.

And in a way help us catch up with the new developments in the sale of market. Some of our peers have been able to take advantage of.

And so depending on overall market conditions, we may elect to access the sale of market over the next several months.

Thanks very much.

Thank you.

The next question comes from Rick Shane with JP Morgan. Please go ahead.

Hey, guys. Thanks for taking my questions. This morning.

Marsden, you talked about the average leverage during the quarter.

What was the average cash balance.

I think if you look at the cash on the balance sheet.

And some of that the fund that we had in our.

And our managed to see a low is definitely north.

The excess liquidity I would say would that be north of 100 million.

We try to maintain our covenant requires at least 40 million, we try to keep cushion above that some of reaching that at a 100 million. So we definitely had excess liquidity over I would say 100 $250 million over the quarter to quarter.

What happened was if you recall last quarter, we mentioned one of our this was one of the impacts one of our larger loans than north northeast office loan.

Repay actually was in this into Mad trial.

Repaid at the end of the second quarter, we had another great large office loan.

Slated for that to replace it on pointed out longer delayed so I was partially.

We had some negative carry on that so.

Got it in.

Okay. That's helpful context.

If if we look at in this sort of ties into the.

The question that just asked if we look at the dividend.

Implied or the required.

Our are we at book value today to achieve Thats about 9%.

That's frankly above where our OE is than at any point in the history of the company.

We're in an environment where.

Bare minimum base rates are working against you.

In order to achieve that dividends you either need to grow book value.

Widened spread lower funding costs for substantially increase leverage.

What's the best tool there.

And to the point is the dividends sustainable.

Thanks, Ray can look I as I said earlier, there are a lot of different factors that affected.

Yeah, but for our equity offering into first quarter.

I would estimate we probably would earn the dividend in Q1 of 19 or we could have boosted by our equity raise which was strategic for us for many reasons.

Since then a lot of things happen.

I think as Jack Jack mentioned, we have some.

Some additional earnings power capacity coming from an editor CLO, we have that first siloed and becoming more and more efficient releasing some of that excess capital and stuck in that trial.

Let me provide us with.

Looking at market today, I will provide us with some additional earnings power.

Where we are realistic about market conditions and and about the structure of our business. We are continuously discussing this with our board and once we.

Once we've had the time to rationalize our liabilities as our assets. We can we've proven that we can produce a lot of very high quality high quality and oil while returning assets. So once we've done addressing.

Our liability side of the balance sheet, we will again reassess our core profitability of the business and.

Any actions as necessary out as we discuss it with our board.

Great. Thank you so much.

The next question.

<unk>.

Again, if you have a question. Please press Star then one the next question comes from Arren Cyganovich with Citi.

Please go ahead.

Thank you mentioned that prepayments are likely to be elevated in the fourth quarter. They're around 300 million. You think this is getting to more.

What you would see it's kind of a sustainable.

Level of repayments as your portfolios certain season here.

And well there do you expect any any.

Significant prepayment income relative to those prepayments from fourth quarter.

Aaron Steve Good morning, Thanks for the question.

We said.

Secondly on these calls that we think sustainable level.

Portfolio matures.

Something like a 25% rate annually and the 300 million certainly is approaching that.

Obviously.

Quarter to quarter. These are lumpy assets acquired corner.

The numbers are going to move around.

Consistent.

And with respect to prepayment fees I'll pass it on tomorrow.

And.

As of right now, it's depending on which loans prepay when.

Our it's a mix of loans that are.

Older vintage, which are obviously out of the call protection and yield maintenance period and so.

Some newer ones, which may have that that period expire over the course at a fourth quarter. So it's really hard to estimate yeah. We've obviously had prepayment income between zero and almost a million dollars quarterly.

So it's again, depending on the time along this it's it's really hard to say right now what are we going to have anyone huh.

Okay, and I guess with your.

Stock now trading kind of at or slightly below book value and.

It doesn't sound like you're going to increase your muybridge too much do you think you have enough.

A recycling of the portfolio that can consistently provide enough capital to fund.

Well you have in the pipeline.

Into next year.

Yes, we do this is Jack Thank you for your question and I'll say, we do have enough to cover our.

Origination pipeline Thats in hand, and we have about 200 million plus of additional growth origination capacity in excess of that.

And we do as we noted expect meaningfully higher prepayments in flat in this fourth quarter, but also beyond and that should generate additional liquidity to originate new laws beyond that so that's up for growth as to reinvesting capital So our AR.

Well covered in our ability to take care of our pipeline, we have the capacity to generate as we've just show 2 billion a year.

Out of our platform and.

Depending on how stable the market conditions are.

And what our prepayment rates will be will depend on whether that we're actually going to grow.

The net growth of portfolio.

But we were always very careful and make sure we have the capacity to cover.

Thank you.

The next question comes from Jade Rahmani with KBW.

Please go ahead.

Thanks, Im sorry, if I missed this earlier, but the risk for rated loans I think there to last quarter now one and can you just provide color on that.

Hey, Steve out part thanks for the question Thanks for joining.

Yes, so we're continuing to monitor that asset.

For Q3, we maintain the risk rating of four.

At 930 loans current on its debt payment and we do not expect to create any reserve so that alone other than what might be required under Cecil we mentioned the path. We still are believing that were well secured on the asset at the 100% performing for that so basically really no change since last quarter.

And last quarter were there to risk for rated loans and now there is one I guess what happened to the other loan.

Sure as Jack mentioned earlier during Q3, we had a multifamily asset in New York and that loan repaid at par.

With that.

Subject to rent control.

Oh that asset had a few units in it that were subject to rent control but.

As always our as I as is our general approach.

It was a diminimus part of the business plan and we typically don't underwrite to those types of assets, leading rent control. So if it had not paid off we were not concerned about that one being impacted by the new laws.

Thanks for that wanted to ask a broader question.

Again, drawing upon your experience in the industry, everyone talks about how benign credit cycle has been but that's because most commercial real estate loans have 10 year maturities and we're not yet at the door step of those anniversaries, even though there has been a lot of refinancings about 50% of defaults.

In commercial real estate business due to maturity loan default.

So just looking away from GPM teens portfolio, but for the industry. Overall are you expecting a pickup in loan the follow up next year.

As we come upon the anniversary of the 2020, the 2010 originations.

Hi.

Great.

Sorry, I'm going to soften speaking.

It's really hard to say because from our experience unless you've got a macro cycle going against you.

Most defaults are really episodic.

And.

What I would say call idiosyncratic and specific to a particular business plan or particular market. So sure I would imagine there were some snafu is made in originations 10 years ago, but I don't see.

Global Mac or local or global macro conditions.

Getting in the way of refinancings right.

And in terms of your own internal asset management process now, what's the level of frequency of dialogue with borrowers.

It's pretty high given the nature of the assets, we're doing a lot of future funding scares business plans that require participation is resolved.

Where I wouldn't call at constant, but very frequent dialogue with sponsors.

Now the state of what's going on reviewing leasing activity reports reviewing Capex plans annual budget review so we're in fairly continuous dialogue with our sponsors on business plan.

Thanks very much.

Our pleasure.

This concludes our question and answer session now I'd like to turn the conference back over to Chuck Taylor for any closing remarks.

Well, thank you operator, and I have to say I'd like to thank everyone for joining us today and for taking the time and for your support of our business and we look forward to speaking with you all again soon thank you.

The conference has now been concluded. Thank you for attending today's presentation you may now disconnect.

[noise].