Q4 2020 Dynex Capital Inc Earnings Call
Ladies and gentlemen, and thank you for standing by and welcome to the <unk> Capital, Inc. Fourth quarter 2020 and.
And you will <unk> 'twenty results conference call at this time, all participants are in a listen only mode. After the speaker presentation. There will be a question and answer session to ask the question. During the session you will need to press star one on your telephone if you require of any further assistance. Please press star Zero I would now like to hand, the conference over to your speaker of today Ms. Kristen. Thank you. Please go ahead.
Okay.
Good morning, and this is Alison Griffin, Vice President Investor Relations.
Thank you for joining us today with me on the call I have Byron Boston, Chief Executive Officer Murthy popping out.
President and Chief investment Officer, and Steve Benedetti, Executive Vice President and Chief Financial Officer, and Chief operating Officer.
The press release associated with todays call was issued and filed with the SEC. This morning February 4th 'twenty 'twenty. One you May view the press release on the homepage of the dine ex website at dine ex capital Dot com as well as on the SEC's website at SEC Gov.
Before we began and we wish to remind you that this conference call may contain forward looking statements within the meaning of the private Securities Litigation Reform Act of 1995.
The words believe expect forecast anticipate estimate project plan and similar expressions identify forward looking statements that are inherently subject to risks and uncertainties some of which cannot be predicted or quantified the company's actual results and timing of certain events could cause could differ.
Considerably from those projected and are contemplated by those forward looking statements as a result of unforeseen external factors or risks for additional information on these factors of risks. Please refer to our disclosures filed with the SEC, which may be found on the dine ex website under Investor Center as well as on the SEC's website.
This conference call is being broadcast live over the Internet with a streaming slide presentation, which can be found through a webcast link on the homepage of our website the fly.
The presentation May also be referenced under quarterly reports on the Investor Center page.
And with that and now have the pleasure of turning the call over to our CEO Byron Boston.
Thank you Allison.
Good morning, and see all dynamics I am very proud to report that 'twenty, 'twenty and 'twenty and 'twenty, we delivered a 15, 2% total economic return and a 17% total shareholder return.
I had been and dynamics for 13 years and no. Other year has the mandate as much active decision, making this 2020 and.
We stuck with our discipline and excel.
And then just protect shareholders' money, we made money for our shareholders and 2020.
Our book value increased and we delivered a solid dividend.
This performance stands in contrast, the most of what most of them mortgage REIT and many other investment alternatives for investors seeking income now as you can see on slide five.
<unk> now delivered industry, leading performance on a one three and five year basis and when you look at our long term chart on page 17, you can see the we have delivered solid returns through multiple market cycles. During my tenure of dynamics GAAP.
This performance reflects my from just think philosophy of how to manage of mortgage REIT for the long term and.
And that same philosophy of guiding our investment approach today.
We believe and risk management first followed by disciplined capital allocation is experienced and skilled investors we have been cautious about leveraging lower credit illiquid assets since 2016.
And when spreads are tight the strategy looks attractive during the short term, but ultimately crumbles and liquidity dissipates and of crisis. This is what happened last year when the price of illiquid assets dropped dramatically as COVID-19 intensified and creditors the mandate more cash or margin and response.
The takeaway here is that it was no surprise that the market reacted the way. It did we witnessed the same reaction and every major crisis in recent memory, the diagnosis and management team and successfully manage through these intensified risk events the raw.
All of our careers and we were prepared.
'twenty 'twenty, one of the challenging year, but in our opinion not a black Swan event.
As we indicated at the beginning of 'twenty and 'twenty, we saw the global risk environment and intensifying. So we were prepared for increased volatility while it is impossible to predict the timing of specific events, we foresaw a higher risk profile of building and the global financial markets are experienced and inside gave us the edge the actively manage our portfolio.
A wider shareholder of strong returns and we managed our book exactly as we told investors. We would for years, we have emphasized liquidity and diversity and our portfolio and this disciplined and served us well and 2020.
Our 'twenty and 'twenty performance with medical incidents or good luck, but rather years of thoughtful planning around our portfolio and the team of talented people ready to actively manage the book of business and volatile times as a CEO and coach I could not be proud of.
Now from a human capital perspective, we have of World class team with unmatched skills and experience and 'twenty and 'twenty was a year when the management team matter more than anything on.
Team has weathered significant crises in the past, but long term capital management of the great recession and as we've learned again this past year nothing surpasses the experience we have the institutional knowledge to address many market disruptions into the and to identify new opportunities that may come along and.
Our team is diverse which is critical to our strategy rich do not stay within the borders and our teams worldwide perspective is invaluable when dealing with the global crisis.
Now COVID-19 disrupted many work environment well we.
Already had the advantage of enabling our people to work remotely long before it became a desk in the.
Stephanie.
Just as risk and borderlands solus talent on par.
<unk>, we're accustomed to working outside the office. So the remain calm and focus during the quarantine filter out the noise to actively manage the risk and effectively maintained key relationships and the confidence with lenders regulators and investors.
So over the past 12 months, we have taken a strategic view on both sides of the balance sheet with the goal of being able to grow and scale of the company efficiently and in the stake holder friendly manner.
We made several moves.
We retired two of them of higher cost preferred stock issues and we replace them with our new dyeing the ex capital preferred C.
And during the last two weeks, we issued approximately $56 million and common equity in line with our long term strategy to grow our capital base.
Very important to note the return environment is conducive for absorbing any costs associated with our capital activities are.
Our ultimate goal is to increase the stock's liquidity and offer investors the opportunity to invest and buy and ex via multiple products, including our fixed dividend series C preferred and.
And our higher yielding common stocks.
We've been in business for 30 years, and we are fully committed to delivering solid cash flow and attractive total returns of our shareholders well into the future.
Now as the company, our greater purpose as the sport two of our main stakeholders and constituency the individual savers and the communities across America.
We're building this company for the long term because we believe in America, and our role and helping individuals' savers achieve a respectable return on their savings from financing of real estate asset the.
The capital that we bring to the table is critical to the housing and the real estate community as.
As long as favors need cash income and housing and real estate finance the exist and America, our business model will remain relevant and critical. Most importantly, we are deeply committed to the highest ethical standards because savers in the management teams with integrity as stewards of the capital our management team operates with Integra.
And and unwavering commitment to our values and to supporting our communities, we take our fiduciary responsibility very seriously and strive to be good stewards of capital transparent and our actions and good corporate citizen.
At <unk>, we're building a diverse and multi generational organization with a 30 year vision that we believe will create enormous value for shareholders stand the test of time and prepare us for the future.
Feel fantastic about 2020, and I'm very positive about 2021 and beyond and I will now turn the call over to Steve Benedetti and Smriti Smriti.
It's worth the popping on and well look I'm going to turn it over and a minute I forgot something before I turn the call out and want to highlight that we of promoted to Murphy pop it out of the president of our company.
And this is another reason that I am excited as the CEO and a coach.
All of our stakeholders should be elated about her promotion and what this means for the future of dynamics as I said earlier, we have of 30 year vision that include getting the right people and the right places with the right skill sets and experience. So now with that I'm going to turn it over to Stephen spoke the and they're Gonna give me some more detail about 'twenty and 'twenty and beyond.
Yeah.
Thank you Byron and good morning, everybody.
The fourth quarter continued the excellent performance for the company for 'twenty and 'twenty for the quarter on a per common share basis. We recorded comprehensive income of $1 23, total economic return of $1 22.
Or six 7% based on the beginning book value per share of $18.25.
And core net operating income of 45 cents for the year on a per common share basis, we reported comprehensive income of $2.88 total economic return of $2 73.
And core net operating income of $1 94.
'twenty and 'twenty performance was highlighted by active portfolio and risk management and dynamic capital allocation, which enabled us to take advantage of improving asset valuations over the year and declining funding costs realized and unrealized investment and TBA gains net of hedges were approximately $1 83 per common share of driving.
A large part of the comprehensive income and total economic return for the year.
For the fourth quarter.
Comprehensive income and total economic return and were bolstered by the strong performance of lower coupon MBS during the quarter, particularly and TBA securities relative to the associated hedges and to a lesser extent increasing value on C and B S Io securities.
Core net operating income sequentially declined from 61 cents last quarter to 45 cents. This quarter, principally as a result of the smaller average balance of interest earning assets and.
Honestly declining asset yields and addition, general and administrative expenses increased $2 1 million during the fourth quarter from year end incentive compensation accruals, reflecting a catch up adjustment for accrued bonus expense from management's achievements of its corporate goals and objectives. This year.
Net interest spread and adjusted net interest spread.
<unk> declined by two basis points, respectively.
Quarter prepay.
Prepayments increased.
The expected ranges and agency MBS prepayment speeds were 17, one CPR for the quarter, while overall portfolio of cheap.
Including of the XI MBS portfolio of approximately $15 one C. P R.
Adjusted net interest spread continues to benefit from the favorable TBA dollar roll conditions conditions versus on balance sheet repo and.
As a reminder of the company utilizes the prospective method for amortizing investment premiums and as such our results fully reflect the actual realized prepayments during the quarter.
And do not include cumulative catch up amortization adjustments that are based on long term assumptions and can potentially distort near term results.
As it relates to book value of the driver of the 83 cents per share increase during the fourth quarter was net gains from continued spread tightening on investment assets, particularly in both lower coupon TBA pools.
Treasury future hedges also helped to offset the impact on investment valuations from the sell off and interest rates during the quarter.
We estimate the book value per common share at the end of January is up approximately 1% inclusive of the impact of the capital raise announced last week.
We ended the year with the investment assets, including TBA Securities of $4 2 billion and leverage at six three times shareholders' equity similar to the end of the third quarter.
We're all investment assets, including TBA Securities were down on an average basis by approximately 7% as compared to last quarter.
This quarter, we added 15 year agency MBS investments through TBA positions and overall of the portfolio composition is approximately 84%.
S investments, including TBA Securities and approximately 16% invested and C. N V S and C M B S I M.
Let me also mentioned the tax the tax character of the dividends on the company's equity capital for 'twenty, and 'twenty dividends and both the preferred stock and common stock were 100% capital gain income.
That concludes my prepared remarks, and I'll turn the call over to some of risky for her comments on the quarter and the year.
Thank you Steve.
Let me start by saying that I appreciate the confidence that the board and Byron and have placed in me.
And I'm honored and delighted to serve the company shareholders and my new role and that's the president.
I'm going to briefly cover on 'twenty and 'twenty performance, and then shift to our outlook for 'twenty and 'twenty one.
And the extreme volatility events like March 'twenty, and 'twenty and can be a lot of rules and with that comes opportunity.
And with thorough planning respecting the probability of such events, we were positioned with higher levels of liquidity and successfully manage the portfolio of rapidly and temporary before conditions deteriorated and positioned ourselves to weather the extraordinary market depends on March and rebalanced our investments in April.
Take advantage of the remarkable when a company and asset prices and.
Our annual total economic return of 15% and only the third best and dynamics of history. Since 2008, but it is remarkable and that it was earned and and outline here of late 2020.
Moving on to 2021, and I'll start with the summary of our macroeconomic view.
To deal with the pandemic and its the after effects of central banks have implemented highly accommodative policies designed to increase employment.
Increased inflation and put the economy on a growing trajectory.
Flood of unprecedented liquidity has raised the price of financial assets globally.
Governments around the World are also implementing debt financed physical policy to close the gap on lost GDP from the pandemic and to drive teach and growth. This is likely going to lead to a period of the massive deficit.
Against this backdrop of unprecedented monetary and fiscal stimulus we have the health crisis much of the globe and still dealing with.
And the near term, we expect to see a period, where there is the tug of war between the negative impacts of the pandemic and the positive on paths of the vaccine.
In the medium term the stimulus plus the impact of more vaccinations could eventually lead to a period of higher growth as more of our services given the economy is able to come back online.
And also remains committed to a broad recovery and unemployment and and overshoot of inflation over 2%.
And the long term, we believe the world has been permanently reshaped by the pandemic and its impact will continue for many years to come across the broad segments of our economy and many aspects of our daily lives.
This will continue and it would be a focus from <unk> and our macroeconomic process.
Right now of macroeconomic view of leads us to prepare for and somewhat bumpy transition to a steeper yield curve and it's one of the more probable scenarios for 'twenty and 'twenty one.
Believe this is also and more favorable environment for higher returns.
Turning now to our current positioning and economic return outlook.
Our goal is always to manage the balance sheet. The January of the total economically trying to meet or exceed the dividend rather than think solely about core earnings most of the dividend. We are focused on capital preservation and generating returns over the long term.
Our experience shows that this focus results and higher total shareholder returns and create long term value for shareholders.
We believe the broader investment environment remains favorable with financing costs, and Craig well into 'twenty and 'twenty two and beyond.
And then the second here.
First financing cost of anchored well into 'twenty to 'twenty, two and beyond agency MBS are liquid lower risk assets and third we believe the market will evolve to a steeper curve environment that is ideal for earning and wider net interest spreads.
We expect returns to move into the 10 to 12 per cent range and could offer mid teens returns if spreads widen.
We are entering this period with solid performance quarter to date book value since year end is up about 1% and that would be equity range.
We have a strong liquidity position of $375 million.
And tremendous upside earnings power on the balance sheet.
Leverage stand slightly over six times today, and we still believe our liquid strategies appropriate but he's back.
Let me explain why we believe a steeper curve as possible.
While the financing costs are expected to stay close to zero through 'twenty and 'twenty three the back end of the yield curve will face pressure from treasury issuance possible increases and realized inflation and expectations for inflation and the economy begins a path to recovery and gains traction and the second half of 'twenty 'twenty one.
This will likely result in higher long term treasury yields.
A steeper yield curve is a very positive factor for net interest spread expansion and it offers the chance to invest at higher yields and.
Especially as prepayments law.
And steeper yield curve environment.
And see RMB of spreads also tend to widen because they now have to compete with other assets, including treasury and offer higher yields.
And realized volatility and steeper yield curve environment. It's usually higher this has the potential to further add to returns and if you go back to 2012, 2015, 2018, all periods with tight MBS spreads to start the year the curve steepened and MBS widened.
In 2012, it happened even with the fed doing QE.
So we're not predicting this will happen we think there's a path for the scenario and if it happens it will be one way of weakened and best capital at higher returns and.
We also see a scenario, where the low volatility environment keep spreads range bound and book value stable.
Yeah.
Give me a moment here.
At this point, we're seeing a massive revision to net supply and number of about 'twenty and 'twenty, one not just because of refinancings and low mortgage rates, but also because of new household formation on migration out of cities home prices appreciation and all of which are causing N b of supply the balloon much higher than expected we.
Believes this will afford us the opportunity to also invest at better returns and finally, if rates decline and the curve flattens and given the current tightness and high dollar prices of MBS, we feel that spreads will move wider and a lower rate environment, and we have the capital and liquidity to invest the napkin area.
Well they may not of course as exclusive of me as I've described my point is that we believe all of these scenarios on.
And for us the opportunity to manage.
And invest our capital Accretively on core portfolio is also positioned and can benefit and a steeper curve. This has been the market scenario. So far this year.
Currently have and R&D portfolio of allocation of 20 per cent of 15 years, which outperformed and the steepened relative to 30, we've increased our allocations of long term option based hedges and better insulate the portfolio from rising long term rates you can see on page 10 of the slide deck that the portfolio performs relatively well across several of <unk>.
The rate shocks.
Parallel and non parallel.
And I want to emphasize that we have tremendous earnings power on the balance sheet of.
The one times increase and leverage invested at 8% total economic return and add 19 cents per share per year and economically true at 10%. That's 24 cents of 12%, it's 29 cents.
We think we have the room to take our total leverage up at least two times from today's levels at the right time, and possibly higher if the return of environment is better.
Here's what I'd like to leave you with.
The favorable investment environment is supported by low and stable financing costs, well into 'twenty and 'twenty two and beyond.
We expect to be able to opportunistically invest on capital at more accretive levels as the market evolves over the ear there's true.
Tremendous earnings power and the balance sheet, and we're comfortable with our ability to generate returns the cover or exceed the dividend over the year.
I'll now turn it over to Byron.
Firstly, let me reiterate and summarize real quick we believe this is the favorable investment environment that has the potential to improve as the year of ball, having on our financing costs low and stable for some time into the future is an enormous benefit for our shareholders.
Nonetheless, we continue to maintain our discipline of the scenario planning to ensure we are prepared for future economic or market surprises.
Now please take a look at the long term chart on slide 17 of yet and let me emphasize the those of you who have listened to us over the years and your long term investors. We always close with this chart, you'll see a difference on the chart. We've used the Russell 2000 and value index and the shift is mainly because of the unusual.
Attraction and and.
And and performance he turns of the ex sector. So we try to create something that is a little more.
The comparable but we could have could create a charge of a 10 year charge you could've created with numerous of the while they're different types of vehicles and.
And the picture looks very similar this the displays the power of above average dividends the.
Power of the long term risk management strategy and the power of successfully managing through major credit market correction.
We have proven time and again and my 13 year tenure that our philosophy disciplined process and long term thinking leaps and superior returns and achieving over this time period, where many of us could not.
The management team our board of directors and I are delighted to invest alongside of our current investors, because we believe and our future.
There are many other investors out there who should have dynamics and your portfolios. So we invite you to join us.
And with that operator, I'd like to open the call for questions.
As a reminder to ask the question you need to press Star one on your telephone to withdraw your question press. The pound key your first question on line of Bose, George with K B W.
Hey, everyone. This is actually Mike on for Bose and I'm trying to say congrats on a really strong gear and you know I know it was challenging and as you know very great results.
And so my first question was you recently did a secondary offering I was wondering if you can just kind of talk a little bit of about the decision to do this at a slight discounts of book value.
Given the backdrop that spreads are fairly tight and then I was wondering if you could also provide a little bit of color on the expected timeline for capital deployment.
So let me, let me start and I'll, let smriti chime in on here is the what I mentioned, the second ago and I. Appreciate this question. This is a phenomenal time.
And the absorbed the cost of us managing the right side of our balance sheet and that's what I consider this capital raise the b. So let me recap of the last couple of years beginning of 2019, we raised about 50. So million. Then we then the issued of preferred stock we refinanced our are of higher.
Of course.
And for a day, we then paid off our preferred B, we come back in 2020 of a well timed bought out.
Issuance of equity we have already absorbed the cost of issuing equity is not too much about well book below book, what's the cost of issuing the equity and growing the company and we absorbed the costs of our shareholders or still in it and when great shape over the long term. The answer is yes, what's the benefit of it we're trying to give our shareholders more liquidity.
We've been told multiple times that you know you guys of Great company, Great management team, but you're below $500 million, we'd like to see you guys get above 500, and we will have big and be able to join and join the party and as such the more.
More of other investors and we can get involved the dynamics and we truly believe that we should be and more portfolios. We believe of the management team, we have something to offer over the long term.
And that's our goal over the long term and when we say we want to grow the company and the shareholder friendly manner that means that the time is very attractive now given how the the potential power and the balance sheet for generating income to absorb any of the cost in terms of Oh overall growing a growing the car.
At this time and that's the key is how do you what do you do with the cost of of growing the company.
This is the nominal time for being able to manage through that and and all of our shareholders should benefit as we bring down our cost ratio and other decisions that we're looking to make for the long term.
Great and China.
Great and helpful commentary.
And in terms of when you you asked the question about the timing on.
And I think again, you know that the the number one the number one thing we think about is on investment opportunity and not just the investment opportunity today, but what we think we can do with the capital over the long term.
So as I mentioned on how we're thinking about.
Not only the return environment today, but the evolution of the return environment that we see actually the very long term accretive to.
To our shareholders, so and at lower returns and you should expect the balance sheet, the hawk and lower leverage and highly trained.
We'll be increasing the size of the balance sheet.
Great. That's helpful. And then another question does so dollar roll income remained pretty strong in 'twenty and 'twenty was obviously a great year for us.
And I was wondering if you could just talk a little and about the expectations for 'twenty and 'twenty, one and do you expect this to remain above say 2019 levels.
And so dollar roll income in 2020, especially during the last two quarters of 2020, I think where was extraordinarily.
Favorable on the implied financing rates at the time were somewhere in the minus 50 basis point range.
And you know I think that those types of levels for 2020 will probably not be repeated in 2021 on all told specialness that should be lower right. So right now we're seeing special nice be somewhere in the 20 basis point range versus the 40 to 50 basis point range.
For the last year, so will there be special and all of those in 'twenty and 'twenty, one and yes will it be as much as it was last year, no and I think that that's generally the the expectations for the type of markets at this point as well.
Alright, let me chime in and then go back to one of the let me let me just about one of the thing and I'm Gonna go back to your first question because I want to make sure everyone and understand the long term view of <unk> capital.
Well, we're growing our company.
We're really excited about showing you last year.
What the word nimble means and the value of the nimble, but we're not trying to be the largest and this industry. We have zero desire to go work and repeat and just the issue equity yesterday and she is to become the largest and the industry.
That's not our goal.
We only want a breed of certain size, because we believe it enormous value.
<unk> cost ratio all the stuff that I see a lot of people talk about did.
It didn't mean anything in 2000 and in fact, it did meet something there or sort of absorb.
From a balance sheet was so large and they couldn't adjust the balance sheets.
And the adjusted.
I want to make sure you understand that when we make strategic moves on the right side of our balance sheet, we're very thoughtful and very disciplined about those decisions. The same ways. We are disciplined and thoughtful about the decisions on the left side of our balance sheet.
Great. Thank you so much from taking my questions and congrats on a good year.
Your next question of lineup of Eric Hagen with B T I G.
Yeah.
Hi, Good morning, guys. A couple of questions. Here can you can you first one on the portfolio and then one on the capital side can you talk about which hedges do you think there'll be most active and incrementally adding here and what your threshold is for either rates or volatility before you look to change course from using short dated options and then on the asset side is there anything that would get you more constructive on.
On specified pools and.
And then on the capital side.
Definitely support the move to retire the Presto is one way to manage leverage on the stockholders and I guess I'm curious now whether that modification to the capital structure changes your overall outlook on leverage for the macro portfolio of the overall portfolio and.
How much leverage we can expect you guys to carry here.
Hi, Eric.
So I'll take the portfolio of questions and and address one part of the leverage as well and so you asked the first question was about the the hedges and and what we would what we're thinking about the in general I think we were favoring treasury based hedges and treasury.
Hedges of liquid that's something that that we think and general really offers us a lot of 24, seven and flexibility to trade so futures and it's something that you should see the a.
A very big part of our hedging strategy, we have chosen to put on hedges on the back end of the yield curve and getting our slight lead towards the steep of crop year to protect the portfolio. So that should also be a consistent theme.
I think on.
We've been very successful with our using treasury options and shorter dated options as a I would say relatively inexpensive way to manage the this rising and yields up to now.
In the in the fourth quarter, we shifted that strategy too including longer dated options into into the Max So where we are.
And that a little bit lost last year, you know that's something again that the on the table as and the shorter dated options mature Oh and spine.
To go on into next year. So you should see that shift happening you know just as we're rebalancing the portfolio here.
In terms of our specified pools.
Into a steeper curve, you should see specified pool and start to cheapen and as the expectation for prepayment slows and the relative value of that.
The bank pool starts didn't the diminished relative to T. The age.
So once you see that type of.
You know cheapness come back into the market I think that'll be a situation where spec starts to look interesting again by.
By all metrics a lot of the spec pools of trading day.
The theoretical pay ups on at this point and and I think there's some risk to well in the higher rate scenarios to those payoffs coming down and so that's what it would take from us to get back and their and then in terms of the leverage you know the the way I think we.
We think about it is when.
And when returns are sitting and you know in the eight to nine per cent range, our leverage will be somewhat and in the six 6.5% area.
And actually turns get higher Ah you should see the balance sheet start to grow them.
I think that we're prepared regardless of how the scenario E bonds right. So for example, if and if we have of grinding spread scenario. You can you can invest in that scenario when the imbalances between supply and demand.
We expect to be able to invest capital and you know better returns there none of this precludes our ability to quickly put the money to work on should we believe the opportunity exists to really on that total economically turnover it along the way.
Long term, so there's a lot of flexibility and upside here.
Byron I don't know if you wanted to add anything to that.
Yeah. It really is the key one on that is back to being very strategic and disciplined and thoughtful about what we do and my 13 years.
Being here, our Leverages gone from zero to nine and half the tick back down again and in the middle we're very thoughtful about how we make those decisions.
And last year was unusual in the sense that we did have to move on to leverage up and down a couple of times and I've been and I do remember when we took our leverage down right. After the March period, and it seems like a few of you out there on skeptical about our ability to move our leverage back up we told you we could move it up and the nano second and that's exactly what we did.
Moving back up again. So these are not just a haphazard decisions wherever we have of philosophy, we have an opinion about how to manage the company over the long term, we're really skilled and managing leverage art resumes of years and years and decades of managing leverage portfolio.
So I just want to make sure you understand that we're not haphazard about these decisions.
And thanks for the comments and sort of say congrats on your promotion.
Okay.
Thank you.
Next question the line of Trevor Cranston with J P M JMP securities.
Alright, thanks, good morning.
And may have missed this but you know given your given your comments on spec valuations being fairly full.
Did you guys and <unk>.
And if your intention with the capital raise was to deploy primarily into the TBA.
And I guess if that is the case can you maybe comment on more broadly speaking.
Much room.
In terms of.
How much TBA, you have and the portfolio versus pools.
Hi, Trevor yes, so we didn't we didn't really talk about TBA versus specs and the comments, but in general I would say at the at the moment, we would favor a.
T. The age of lower coupon TBA is at the right time.
Spec pools and and both in both law of coupons that we look at at this point are somewhat full on.
So, we're going and where that really favorite T D A's.
On the second issue that you brought up regarding the the.
And if you will and Theres a couple of ways to look at it the the number one constraint and Steve you can jump in if I'm, saying and I think correctly.
And is really the its and income cast on not on asset test or the percentage of T. The age that you can have on your balance sheet at any given time isn't really a function of.
The amount relative to the total amount of assets and it's really how much income they generate and by our estimates.
And we actually have a fair amount of room, you know with respect to how large of the T. The April could get relative to the rest of the portfolio before we run of fall on any of those any of those metrics.
And I believe the number is north of 50% of.
And this time.
Okay that helps.
Thank you.
Sure.
Your next question on line of Jason Stewart.
Hey, good morning, Thanks for taking the question and one more on the preferred if you don't mind.
Could you talk a little bit more about your decision to retirement and with regard to the cost of the preferred or was it more of a decision to lower that as a percentage of of capital over the long term.
You know what in terms of the cough period.
And that was on the cost of it we now have one preferred.
And so outside of the balance sheet is a I call it simple for our.
Shareholders two choices.
Our T com.
The common stock.
Currency coupons fixed lower yield com.
Common stock higher yield.
The choose which one you want to invest and we've simplified the right side of the balance sheet now in terms of I always get any of the debates with weather and with bankers or analysts around what's the right amount of preferred.
There is a question here about it depends on our global environment of global macro risk opinion.
And all of everything literally runs through our global and macro risk opinion, and we're very disciplined top down approach shop.
So right now.
During the period, where our financing cost of fixed when you evaluate leveraged ambassador of mortgage REIT understand that the the start of good return environment starts with Where's your financing call and answering calls and.
While the low and are they stable and so that's the position that we're in today and it'll have an impact also on on which instruments. We will use on the right side of the balance sheet. So it's not of assembly with vehicles and see it.
It is definitively and environment of decisions that are made and the same disciplined processes and we'd make others.
Got it that's and that makes sense and the Smriti and I think you said the in a steeper yield curve environment and of abusing quotes Prepays should slow I'm wondering if you could elaborate on that and and maybe discuss the factors the perhaps make prepays slower or don't including primary secondary spreads and and how you think of.
That plays out thanks, Yeah. That's that's of Great question, and that's why I said should as opposed to well right.
So I think at this point you really seen.
A very very strong move and the primary secondary spreads Ah Theres, a real impetus and the mortgage origination community to two of them to make hay, while the Sunshine and so we don't you know I don't believe that the for the next 10 or 25 basis points, you're going to see it.
Prepayments slow immediately.
It will take some time and mortgage rates to actually meaningfully right am I would say between three and three and a quarter per cent and at that point of mortgage rates kind of stay on that level for some period of time and that's what it's going to COVID-19 for prepayments to slow so we're not counting.
On on prepayments slowing for that that.
Of that.
The higher yield per se.
Manifest itself as the other ways you can actually on the incremental current steepness return.
The other pieces of eventually as the curve Steepens and some of the low hanging fruit got taken out of the game and in terms of the refinancings that are in the money you should start to see burnout and.
Born out and Theres going to you know maybe not come next month or the month, after but and the third or fourth quarters or you're going to start to see born out of them and then.
The next here, but you know for the very near term and I would tell you. The next two quarters, we're not expecting to see the even with higher rates much slower speeds will they slow potentially but not not as much of Oh, maybe we were seen in the past for a steeper curve and bond.
Got it thank you.
And the.
And I'll just add one more thing on that because I think of lot of people forget this which is one of the more interesting things that happened as the mortgage valuations and a steeper curve. It's not just the prepayment of trade. It. It's the realized volatility we get with the backend of the yogurt moving up and down that starts to really influence the weather.
Those higher yields and people want to on mortgages versus the other assets and.
And eventually the pricing and mortgage of starts the change to reflect the incremental risk and that's what causes mortgage spreads to widen.
On the curve Steepens.
So if you're thinking about where will you get your return not just gonna get only and yeah.
And I just counting on just the preponderance of slowing down.
The valuation of implications of that scenario as well.
Yeah.
And again, if you would like to ask a question. Please press Star then the number one on your telephone keypad again, the Starlink and number one to ask a question. Your next question the line of Christopher Nolan with Lindenberg Thalmann.
Hey, it's Chris from Ladenburg Thalmann, and smart for a lot of congratulate you on your promotion well deserved.
And two of them I think between you and Barbara and and Steve and everyone of them.
The dynamics is in good hands of containers would be and go ahead.
Looking at page 15 of your presentation, if I'm reading it correctly. It looks like you guys are implying that your target leverage ratio is increasing to seven to nine earned.
From seven to eight before sort of fair of reading of the.
So the the nine would only happen in and really and it really attractive return environment I think that's really the key.
And.
And should we expect the leverage ratio to increase including Ppas and.
And the first quarter given.
And the county.
The redemption and the new issuance and so forth.
What what I would say is that where we're.
So here's how I would answer that question.
And you know right at this moment.
We believe there's a significant chance of.
Net supply overwhelming demand even demand from the bed, okay, and so we think that that is and that will offer an opportunity to deploy capital.
And if if that scenario of course will be and they're deploying capital and.
And and the question since it is a matter of timing.
And you know one thing I think we learned over the years is that when you when you focus on the short term.
A lot of times, you end up losing a return in the long term that's not on a goal here. Our goal is to is to really put the capital at the right level and.
So were not going on you know, where we're going to be disciplined about it.
Yeah, Let me and let me just add one thing one thing and if you think of what we talk about our macro and top down process.
Also after and so what is it that we really know here, we know we know our financing costs.
Of our low and stable.
Some period into the future. The next thing we know with the.
And the federal government sovereign governments, especially the United States.
Selling and enormous amount of debt every single week. The other thing. We know is that net mortgage supply is increasing and mortgage originators are selling a ton of bonds every week, even with the fed's involvement.
Spreads are tight.
But they're not just tight because of the fed involved the spread has tightened because of the bet plus other investors and.
At any point in time here in 'twenty and 'twenty one.
You have the probability of the imbalances the current occurring either for short durations offer of longer duration periods of time. If you think about of 2013 and everyone talks about the taper tantrum and basically what you had was the short term imbalance of getting enormous amount of the felt the sellers develop if you're one of the leaders in the that were mortgage of.
Originator of spreads blew out the really widespread and then in 2014 spreads came back yields dropped again.
So you're in the situation again and really important to understand this financing costs are fixed.
And there's an enormous seller of treasuries and Theres, an enormous seller of mortgage backed securities.
And the only thing that keep yields and check this as long as of few additional buyers and the addition to the fed and try to stand and the way of the selling.
So in my opinion, our opinion, that's great the phenomenal opportunity in 2021 of the potential for a steeper curve.
And wider spreads and it doesn't have to be some massive enormous event that takes place. These things can happen and a very orderly fashion, but I'm, telling you I'm, giving you the three things that we know for a fact, we can't predict the future.
But these are three things we know.
Reiterate the financing costs are fixed and stable.
There was an enormous seller of treasury and net seller is getting larger.
As more bills have passed and Congress.
And there was an enormous seller of mortgage backed securities that happens to be mortgage originators and more of these net supply is growing.
Great buyer and given that it looks like to me reading the presentation.
And that you guys are increasing your core.
Or are we target range to 10 to 12 per cent from eight to 10 before as a fair reading of the.
What we believe is that with the movement of spreads and the steepness of the curve the listen to how I just said it my financing costs are fixed steeper curve means the overall yields are going to rise versus my financing cost that's going to increase return.
If you layer on top of that bouts of widening in spreads.
And that increases returns and.
And that's the way we look at it and that's how strong we feel about this about the scenario and.
In 2021, and so then when we give you the numbers. We're just giving you the numbers of saying you know this is where we think things can widen out to given an environment today with zero of this lull pack.
The 10 to 12 per cent of at the top of nominal return, but you probably highly probable you may see some of the bouts of yields of returns above 12%.
Okay, given all of the where youre thinking on the dividend because it looks like to me that you guys are poised for increase in the dividend.
And what I want to emphasize.
So many mortgage REIT investors.
Choose mortgage reads by yield and.
And anything you should have learned in 'twenty and 'twenty.
Is that the mistake.
We believe and generated a solid cash dividend for our shareholders and a total return and total economic return experience. So we're always balancing.
How much of yoga, we pay and versus how much risk of we've taken what the book value.
And that's why we start with our macroeconomic view.
Because we don't want to take so much risks and the short term jackup or dividends at some level and then blow our shareholders of way with with book value deterioration and then you have this long term hit the book value that's.
And that's not our goal that's why we use the long term charts to show you.
Our performance, it's not understood by many people and we know when we tell you the story that some of the out there you just don't get it.
And you didn't get of 10 years ago Didnt get it five years ago, and that's where we're really emphasizing this is the way we think in terms of yield growth for your cash yield and a total economic return experience.
North of you have anything you want to add to this I.
I do I I mean, I think I think Chris one of the things and wanted to make sure that we we.
Communicating is that we're not calling for Armageddon right.
And where we're calling we're saying if if and.
And spreads won't get a mortgage spreads widen and you should expect us to deploy capital right. We're also saying that we're focused on the total economic return and which means.
Today, we actually believe we're better off you now working our way into that highly kind of environment to deploy capital right.
And we have actually seen on opportunities, even you know of quarter to date.
And to deploy that capital. So I think I think we are very cognizant of the different scenarios that could play out here.
And I guess going about when we put that money to work on we're not calling for from you know any kind of on the getting spread widening on any any such thing we do believe a steeper curve environment is better and more.
Bush from wider net interest spreads and you know eventually what that will mean is that the returns are higher.
On an overall for the for you now for the for the entire sector. So I think that's a very positive thing to leave with and and then and you know you know the level of our dividend is it's always going to be commensurate with the with the economically term that we've generated to the extent that we're generating that week.
And when we make that decision with the board on.
How much to and distributed versus the team.
Great.
Thank you for taking my questions and good true right.
Thanks, Chris.
And I would now like to turn the call back over to Mr. Boston for final remarks.
Thank you all for joining us today, where just the again as I said earlier, we're excited about 2020 and.
And we're excited as we look into the future. Thank you for all of our shareholders for joining us on this journey and.
And as I said earlier, we would like to have others take a closer look thank you again and please join us for all of our first quarter call of.
Some time and the month of April Thank you.
Ladies and gentlemen, this concludes today's conference call. Thank you for participating you may now disconnect.
Okay.
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