Q2 2020 Invesco Mortgage Capital Inc Earnings Call

Welcome to Invesco mortgage capital <unk> second quarter 2020 investors conference call. All participants are in in listen only mode into the question answer session at that time. Please press star followed by the line when your telephone Osborne Minder. This call is being recorded.

I would like to turn over the call to Jack <unk> Investor Relations Mr. Burton you may begin the call. Thank you.

Thank you and welcome to the Invesco mortgage capital second quarter 2020 earnings call management team and I are the why Didnt joined US we look forward to sharing with you our prepared remarks in conducting a question and answer <unk> answer session.

Before turning the call over to our CEO, John Anzalone I wanted to provide a reminder that statements made in this conference call and their related presentation may include forward looking statements, which reflects management's expectations about future events and our overall plan to performance. These forward looking statements are made adds up today and are not guarantees in bulk.

Risks, uncertainties and assumptions and there can be no assurance that actual results will not differ materially from our expectation.

Pardon, especially these risks and uncertainties. Please see the risks described in our most recent annual report on form 10-K. That's subsequently filed with the FCC and that's what makes no obligation to update any forward looking statement. When they also discuss non-GAAP financial measures during today's call reconciliations of these non-GAAP financial measure.

There's maybe found at the end of our earnings presentation.

If you decide presentation today, you may access our website and invesco mortgage capital Dot com and click on the Q2 2020 earnings presentation link under Investor Relations again, welcome and thank you for joining US today I'll now turn the call John Anzalone John.

Okay. Thank you hi, good morning, and welcome to Invesco mortgage capital second quarter earnings call I will give some brief comments before turning the call over to our Chief investment officer, Brian or is to discuss current portfolio in more detail.

The second quarter was an eventful one in the beginning of the quarter financial markets were still in the midst of an unprecedented liquidity event and economic activity shutdowns Ambassador could've been thinking pandemic as we noted in our last update this triggered dislocations across destruction security space it impacted our ability to meet margin.

In response to the crisis, we took a number of steps to increase our liquidity position, while reducing leverage.

Over the course in the quarter, we sold 6.9 billion of investments and repaid 6.3 billion of repurchase agreements. We also reduced our secured loans by 610 million.

We elected to hold 1.6 billion up mostly non agency MBS and CSC credit risk transfer paper it would benefit as market conditions improved on slide three of the Jack you can see a breakdown of the composition and credit quality of these holdings as of 630.

Slide four provides more details about our response to the dislocations in the financial markets that we saw at the end of March.

Our immediate goals would reduce our exposure to mark to market financing and credit assets to increase liquidity into retail credit assets that we felt were poised to benefit as markets recovered.

So that if you're successful in eliminating our our credit repo entirely.

At quarter end, we only had 740 million that secured financing what we've continued to reduce that number in July.

This led to a decrease in leveraged <unk> 0.6 times at 630.

We improved our liquidity position, increasing our cash unencumbered assets by 585 million to 825 million.

Finally, the credit assets didn't retain have benefited from the Mark recovery and we have used proceeds from further sales to begin to invest back into agency assets.

I'll wrap on slide five as we move forward into the second half year. Our goal is to restore meaningful core earnings for our shareholders. This would involve redeploying capital away from our credit positions as we make opportunistic sales into agency mortgages, which will provide income income generation and liquidity on the credit side, we will continue to be.

For opportunities are not relying on short term mark to market financing to generate an attractive return.

I'll stop here in the Brian discuss the current portfolio and our go forward strategy in more detail.

Alright, Thank John and good morning to everyone on the call I'll begin on slide seven which details the progress we've made in July.

Towards a strategic transition John discussed in his prepared remarks, given our success in building liquidity and reducing our reliance on short term mark to market financing on our credit investments during the second quarter. We began the month in July with ample liquidity and repo capacity to begin implementing the transition towards an agency RMBS focused strategy.

Our agency RMBS purchases in July totaled 2.2 billion and 30 year low coupon specified pools as detailed on slide seven.

We were able to source attractively priced new issue collateral stories, including loan balance low FICO high LTV, Angioscult, which consists exclusively a borrowers and slower paying states, such as New York, Florida and Texas.

We also focused a significant portion of our purchases on lower pay up stories, such as those originated in service exclusively by banks in order to mitigate our exposure to pay up premiums.

A hedge our funding cost an interest rate exposure associated with these purchases, we executed 1.8 billion of interest rate swaps with maturities between four to seven years.

In addition to our purchases we sold 547 million of credit assets in July as the recovery in prices continued with strong demand during the month in particular higher quality CMBS, what the beneficiary of the June bunch of the tell program spreads tighten dramatically and the AAA and double a rated assets.

Refinance at debate, that's HLB through our captive insurance subsidiary.

We sold 470 million up these assets and were able to pay down 435 million of advances from the FHLB during the month, resulting in a secured loan balance out the FHLB of 305 million as of July 31st.

Remaining 77 million Upsales consisted of a mixture of lower rated CMBS and see Archie, which we held on an unlevered basis.

Right is improved on these assets as well and these dispositions allowed us to deploy capital into agency RMBS.

Price appreciation in our credit and agency RMBS investment during the month of July contributed to the improvement in our book value, which is up approximately 5% since June thirtyth.

Slide eight.

Detailed the seasoning and senior capital structure positioning of our remaining credit investments as of July 31st.

As shown in the chart on the left our credit assets consist of predominantly seasoned investments with over 80% of our holdings issued prior to 2015.

In addition to the benefits of seasoning given the improvement in property valuations over the past five years. Our holdings also benefit from substantial credit enhancement as detailed in the chart on the right.

88% of our CMBS holdings have subordination levels in excess of 2007 vintage cumulative collateral losses, not surprisingly loans originated in 2007 I've experienced notable losses, given they've had to endure the global financial crisis and don't benefit from recently improved underwriting.

In addition, 94% of our remaining credit investments are rated investment grade was 81% rate at singly or higher.

We believe material price appreciation potential exists in our credit investments and we'll continue to selectively reduce our credit exposure as opportunities arise to dispose of assets at attractive levels.

I'll finish my prepared remarks on slide nine which summarizes the value we bring to our investors.

As we all continued to navigate the lasting impact of the cobot 19 pandemic on our economy and the financial markets.

As previously mentioned, we believe the strategy focused on agency RMBS can deliver attractive risk adjusted returns primarily through dividend income and secondarily through capital appreciation.

Given the consistent message from the federal reserve on the medium term outlook for monetary policy and their ongoing support for the asset class its exceptional liquidity and readily available and attractively priced financing. We believe that strategy focused on agency RMBS will deliver on our objectives are storing attracted dividend income while prudently managing.

Risk.

Our external manager Invesco is a significant an experienced investment manager and the asset class producing top quartile performance. There are multiple market cycles. Most recently for the one three and five year periods ending June 30.

And does go remains committed to IDR and its breadth and depth of resources allows the company to share extensive explore opportunities without incurring significant cost, resulting in an expense ratio among the most attractive in the mortgage REIT space.

Invesco large footprint in fixed income with over 350 billion in assets allows us to remain an important counterparty for the dealer community, what's readily available access to traders and the focus a large global investment manager requires.

The agency RMBS team that Invesco had been engaged in the management of I've yours portfolio since its IPO in 2009 and has a combined 80 plus years of management and trading experience in the asset class.

Also with just over 1 billion.

Stockholder equity our company size in relation to the depth of the agency RMBS market allows us to capitalize on relative value opportunities that are more difficult to implement with a much larger portfolio.

In conclusion, we believe the agency focused strategy.

Ordered by the resources of a global investment manager will provide the attractive risk adjusted returns investors are looking for when they select a mortgage rate and we look forward to continuing the transition to the strategy in the coming months.

That ends our prepared remarks, and now we will open the line for <unk>.

If he would like to ask a question. Please press star one.

I can't asking questions Darling.

My first question will come from pod harder with credit CZ. Your line is helpful.

Oh, Thanks, <unk> Oh can help us think about what are your spread income a would be no on the on the agency portfolio rotated into in July and how that would compare to the credit assets that are you running events.

Yeah, Doug This is Brian I can I can start answering that isn't the credit Guzman. The jump in you know on agencies are now. This is approximately 100 to 125 basis points. So you know on specified pools.

That equates to roughly 10 to.

Maybe 12%.

Let's start leaks.

And the credit investments you know the ones that were holding unlevered.

Have you.

You know book yields that are.

Well below that but we like we said we expect continued price appreciation there and so that's you know that's certainly supporting our book value adding value.

That way.

Great and then I guess just help us think about you know what's in the agency side, you know given the appreciation in [noise].

In spec pools, and the special unless a TV is kind of <unk>.

What part you're finding most attractive.

Today, and where that incremental capital might go.

Yeah, we've been finding most most value and lower coupon so 30 year.

Two two and a had been a little bit threes as well.

You know significant size and hopefuls is more difficult and higher coupons and.

It's like I said that Goulds.

In those lower coupons are still providing kind of very low double digit or at least on the TV a bright that's that's not something that we've just.

Invested in a at this point, but it's certainly on the radar and we're looking to do that here you know in the near term and or are we on <unk>.

Well, a little bit more attractive just given that the negative implied financing that you get a alastair so those are more like mid teens.

Great. Thank you.

Yeah.

Our next question will come from Eric Hagen, Keith three I didn't write your line now.

Hi, Thanks, and hope you guys are doing well.

I'm curious what led to the decision not to raise capital back in June in early July since the market was more or less giving you that opportunity.

[laughter] secondarily have there been any options you have explored to rebalance the capital structure, including things like tendering for your preferred stops.

Yeah, Hi, Eric It's John you know, we don't we.

Yeah.

Yeah, we look at Yeah, we're always looking at capital structure, and we're continuing to kinda evaluate.

Our options or kind of getting the.

Preferred and common ratio kind of more to our historical levels. So we are continuing to look at that.

You know in terms of.

Raising capital in the quarter like doing doing a capital raise I mean, it was just I mean, I think it was still a little bit difficult to.

Kind of get that time, given given the cost of.

Raising capital in what with the markets still kind of in in a bit of turmoil.

But we absolutely are.

You know always looking at different ways to do that [noise].

Okay got it. Thanks, Thanks for that and then what's the plan surrounding the funding for the CMBS portfolio. Once your line with yet it's somebody gets wound down by yearend.

I have any securities that are currently being funded syntels.

And finally, what's the funding rate on your agency repo right now thanks.

Yeah, and Harrods, it's Brian Yeah.

Well as well.

So.

I guess I'll answer last the first year financing on agencies are pretty attractive their life or plus.

Eight or nine basis points, so talking maybe 24 basis points all in.

For one month a repo.

And then you know <unk>, we did not finance anything for Taltz could those that required new purchases.

I believe they had to be purchased within.

A month UBS.

Kind of putting them into the top program. So.

Obviously all of them are holdings or or had been purchased much earlier than that.

And then lastly.

We don't we don't anticipate going back into short term mark to market financing for for our credit assets. So the intention that they can tend to.

Look for attractive dispositions in that space.

Okay Yep makes sense, thanks, a lot yes.

And our next question will come from silver financing from JMP Securities. Your line is now.

Hey, thanks.

When you're going to talk about continuing to hold onto the CMBS book in order to.

Capture continuing expected price appreciation.

Can you can you talk about kind of you know how much you think is left isn't a few served is your view the spreads could get all the way back to pre cope with levels and maybe just provide some color on how long you are willing to hold on the portfolio to to capture a potential upside.

Yeah. That's driving this is a this is Kevin makes your question you know what I guess I would say that we do think the potential for additional I mean certainly exists.

You know we've been encouraged by the Soc that investor demand has continued to increase for credit risk.

The U.S. economies, obviously slowly reopened.

And we've seen.

Some improving trends all but certainly you know check challenges as well we were encouraged to see the top program has been extended throughout the rest of the year, which we think gives us.

ER.

Certainly you know at least a couple more a few more months you know we think.

Potential upside that exists you do I think the potential for additional appreciation is arguably best address by looking at.

Where spreads are today, you know relative to where they were pretty coated and you think about that the majority of our positions are double where he did a good doubly rated CMBS, there probably trading out or at least wars in 731, when they were works.

Around 300 basis points over swaps and so these same positions traded around.

The 113 basis points pretty cobot.

So it's not you know to say that we think that we would see you know for recovery I'm certainly not in the near term, but we think.

Momentum is there in terms of single a rated positions those would probably marked anywhere in the very wide ranging.

350 to southern hundred 80 basis points at 731, maybe it by 50 basis.

Basis points over a swap level on average, but those positions again, you know that traded around 160 basis points pretty coated <unk> triple B assets looks something more like 900 basis points at 731.

Those bonds traded as tight as to 50 pretty cold. So so you know we definitely think that.

There is room.

But we have experienced a fair amount of credit spread tightening over the last couple of points already.

And at one of the one of the you know I guess favorable backdrops here for US is just a.

Lack of supply is new issuances slowed as water originations declined notably.

Okay Gotcha, thanks for that color.

And then as as you guys are you know redeploying into the agency market can you talk about the leverage levels does your I'm sort of comfortable using on record written or.

Yeah, it's over its Brian.

So leverage is ranging in the seven to eight times Oh overall leverage right now is around two.

But obviously as we continue to transition that'll continue decline or up to that seven seven times debt to equity range.

Okay got it and then just one more question on the on the capital structure.

Wondering if you could.

Comments on specifically or something like Oh, the swap of no calling them sure were for preferred is.

Sort of one of the angles you guys have looked at and that's it that is something that is feasible or if it or you think citizen personal lines.

Yeah, Hi, Trevor its John Yeah, I mean that bad.

<unk> is one of the things we were evaluating about whether it makes sense to.

You know do us off like that so that's one of.

Several things Weve been I'm looking at.

We're trying to figure out what what makes sense for.

For shareholders either in terms of.

Depending on where where we're trading in terms of common opt to book value and things like that so you know as I think once we.

Get past the financials release from last night, you know, we're going to reevaluate, where we are and what makes sense for that.

Okay Fair enough. Thank you goes yeah.

And as warm I guess you'd like to ask your question. Please press star one.

Our next question will come from Jason do it sounds training and <unk>.

Good.

Just curious if you could give us some thought.

Why you avoid into TV trade and agency just your thought process there.

Hey, Jason It's Brian you know.

I wouldn't say that were avoiding the TJ trade, it's certainly something that we're interested and and putting on here in the near term, but you know we had some.

Yeah, we had some things that we wanted to get on the books first in July and that that included a you know hopeful specified pools. So we had the.

First thing was we had to to get back in line with the hope we'll test so specified pools, where the where the <unk> first way to do that and then you know as we move forward. We anticipate you know, we anticipate that you'd be a trade to remain pretty attractive.

You know over the near to medium term just given you know the fed supporting.

There there they're medium term outlook. So that's certainly something that we're gonna be looking out here shortly.

Okay understood and then.

The additional credit assets that don't rely on short term mark to market financing, where you could put capital to work can you give us some color on what's your thinking there.

Yeah, So we own.

Yeah, we own roughly 500 million on an unlevered basis away from that HLB.

And those are the bond that we believe has.

The most significant upside potential so so we're likely to hold onto those as we realize that that's essential you know late from that you know, we're we're continuing to explore our options in the credit space. You know, it's you know certainly more extensive to finance.

On a non recourse basis so.

Opportunities will be fewer there.

But it's certainly something that we're going to continue to explore okay.

Thanks for the question.

Hi, I'm currently showing no additional questions at this time.

Okay, well I think.

Thank everyone for joining us and I. We that's worked talking to you a again in November.

This concludes todays conference. Thank you for attending todays call.

All participants who gets connected.