Q4 2020 Western Asset Mortgage Capital Corp Earnings Call
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Good day, everyone and welcome to the Western asset mortgage capital Corporation's fourth quarter and year end 2020 earnings conference call.
Today's call is being recorded and will be available for replay beginning at five P. M. Eastern standard time.
At this time all participants have been placed in a listen only mode. The floor will be opened for questions. Following today's presentation.
Now first I'd like to turn the conference call over to Mr. Larry Clark Investor Relations. Please go ahead and Mr. Clark.
Thank you Jamie I want to thank everyone for joining us today to discuss western asset mortgage capital Corporation's financial results for the fourth quarter of 2020.
The company issued its earnings press release yesterday afternoon, and it's available and the Investor Relations section of the company's website at Www Dot Western asset M. C C dot com.
In addition, the company has included a slide presentation on the website that you can refer to during the call.
With us today from management are Jennifer Murphy, Chief Executive Officer, Lisa Meyer, Chief Financial Officer, and Greg Handler, and Sean Johnson, both interim co chief investment officers.
Before we begin I'd like to review the Safe Harbor statement.
This conference call will contain statements that constitute forward looking statements within the meaning of the private securitization private Securities Litigation Reform Act of 1995.
All such forward looking statements are intended to be subject to the safe Harbor protection provided by the Reform Act.
Actual outcomes and results could differ materially from those forecasts due to the impact of many factors beyond the control of the company.
All forward looking statements included in this presentation are made only as of the day to this presentation and are subject to change without notice.
Certain factors that could cause actual results to differ differ materially from those contained and forward looking statements are included and the risk factors section of the company's reports filed with the S. E C.
Copies are available and the SEC's website.
We disclaim any obligation to update our forward looking statements unless required by law.
With that I'll now turn the call over to Jennifer Murphy Jennifer.
Thanks, Larry and thank you all for joining us today.
<unk> finished 2020 with positive momentum delivering a fourth quarter economic return on book value of four 7% sequentially improved core earnings and the dividend increase to six cents per share. We continue to focus on strengthening our balance sheet lowering recourse leverage reducing our exposure to mark to market funding.
And and improving the earnings power of our portfolio.
Took important actions on these and the fourth quarter, including extending some of our longer term financing at attractive levels and repurchasing $25 million of our outstanding convertible senior notes and an average discount of 13% to par value.
We reported GAAP net income of $10 8 million or <unk> 18 per share.
Core earnings improved from cancer.
That's for sure and the third quarter, just 12 cents per share during the fourth quarter, reflecting lower operating expenses, partially offset by slight.
Leverage and lower net.
Interest margin.
Our GAAP book value per share increased three 2% during the quarter to $4 20 per share and has increased by 33%. Since June 30 of 2020, it's lowest reported level after the onset of the pandemic.
We believe we are well positioned to benefit from what we anticipate will be the continued recovery of asset values and improved earnings and sustainability of our portfolio.
In December we announced that our board of directors and appointed Sean Johnson, and Greg and handler to serve as interim co chief investment officers and you all know Sean if he's been an integral part of the company's investment team and strategy since our initial public offering in 2012 and most recently served as Deputy Chief Investment Officer, Sean.
And here.
And that's and experience and has a critical role at WMC and at Western asset.
Greg at the interim head of the mortgage and consumer credit team at western he's been investing and the mortgage sector for more than 18 years and is also a member of western asset U S broad strategy Committee.
We're pleased to welcome Greg and Sean and Derek Standard World Company. In addition, we've launched a comprehensive search for an experienced commercial real estate debt professional to fill out the leadership team.
We will continue to pursue our investment strategy and vision company and the most attractive sectors and the mortgage market by drawing on the breadth and depth of western asset mortgage and consumer credit team.
And we remain focused on protecting and growing the value of the portfolio, which will position us and deliver on our box and objectives of generating sustainable core earnings that support and attractive dividends and enhancing value for our shareholders I'll now turn the call over to Sean and Greg to discuss the portfolio and investment outlook Sean.
Thank you Jennifer.
The equity and credit markets continued to rebound and the fourth quarter driven by improved liquidity conditions across financial markets optimism, resulting from the rollout of vaccines and the potential for new government stimulus package.
This translated into higher valuations on a number of our portfolio holdings, and an improvement and our book value.
Larger contributors to the book value increase where our resident residential credit risk transfer securities residential whole loan portfolio and our large loan non agency MBS holdings.
Contributors to our net income were from across our portfolio holdings and generally in proportion to the relative size of each asset class.
With respect to residential credit the market and it's been improving rapidly.
Overall delinquency and forbearance metrics for the universe of non agency mortgages continues to improve and national home price indices have been rising at double digit annual rates are.
Our non QM residential loan portfolio continues to perform well and again experienced a decline and the percentage of loans that were part of a forbearance plan dropping to less than 6% a year and from Ohio, and 19% back in May of last year nearly all of the loans in forbearance are now and their repayment period and those that aren't.
Represent less than one half of 1% of the total residential portfolio.
We see this as a confirmation of the effectiveness of our credit underwriting.
We focus on borrowers that have meaningful equity and their homes and we believe it creates a strong incentive for them to prioritize their mortgage payment.
And remain current on that obligation.
The non QM origination market was fairly soft for most of 2020 as mortgage originators and focused on making conforming loans given the high level of refinance and purchase demand driven by the extremely low mortgage rates we saw however.
However, with recent modest rise in rates and a corresponding decline in refinance applications originators. Once again are beginning to focus on non QM production.
We expect to have the opportunity to add to our non QM portfolio and the coming quarters with the goal of financing these investments through another securitization.
I'll now turn the call over to Greg to discuss our commercial portfolio Greg.
Thank you, Sean Let me first day and I'm honored to become part of the senior management team of WMC and look forward to contributing to the company's future success.
And the non agency commercial mortgage backed securities and commercial loans and the positive development with the Covid vaccines and the fourth quarter has benefited the overall outlook and valuations on the asset.
And the underlying properties and both are commercial whole loans and non agency MBS portfolios have seen their cash flow adversely impacted during COVID-19 by lower occupancy and other operating metrics, particularly and our hotel and retail properties and we feel that these near term challenges will eventually be overcome as COVID-19.
Striction begin to lift and the economy news towards a full reopening.
These properties are generally high quality assets with strong equity sponsors. So we believe that the collateral values have not been materially or permanently impaired compared.
Our commercial mortgage portfolio carries an approximate 65% original loan to value and all but one of these loans remains current.
And on the $30 million hotel loan that is in default.
Borrower has recently placed the property into bankruptcy.
We expect to move forward with the foreclosure subject to the bankruptcy process working closely with the special servicer and legal counsel.
To date, we have received meaningful interest and the asset and we feel there is strong value and the property with the added benefit of recourse to the borrower.
Of this we believe that there is a reasonable likelihood that ultimately the majority of the principal and missed interest payments will be recovered, although there's no guarantee that will be the case.
Within this portfolio, we also hold a junior mezzanine loan with a face value of $90 million. The underlying property is of high quality retail and entertainment complex located in New Jersey and owned by a prominent equity sponsor.
Pandemic has adversely impacted the operating performance of this asset with the entertainment portion of the property only able to operate at approximately 25% capacity and the fourth quarter.
Which has already been increased to 35% here and the first quarter.
The retail portion of the asset has also been impacted and it was about a year behind its projected and lease up schedule.
We have continued to receive interest payments from an interest reserve fund that we expect to be depleted by the end of June unless the borrower is able to raise additional capital before that.
As a result, we have marked down the value of this loan to just over $80 million. While we still believe there is significant equity value in the asset we recognize that the borrowers still needs time to stabilize the property before bringing the loan current and being able to refinance the capital stack.
Our large loan non agency commercial mortgage backed portfolio.
And original loan to value of 60% and despite exposures to some retail and hotel assets delinquency trends continue to improve and some loans had been brought back to current by a mix of improved cash flows and equity infusion.
We continue to believe.
Sorry, we continue to be actively involved with many of our commercial real estate borrowers working with them to help preserve the value of their properties in order to protect our collateral and increase the probability of and eventual.
Recovery and asset values.
We continue to believe that our focus on high quality properties with well capitalized sponsors should enable our commercial real estate portfolio to recover from the pandemic, although there remains significant challenges and losses could occur should the reopening stall and financial conditions deteriorate.
In the meantime, we remain focused on maintaining sufficient liquidity and positioning our portfolio for future appreciation, which we believe will occur as the economy continues to reopen. Additionally, we believe our focus on real hard assets and low interest rate exposure will benefit the portfolio and the current rising rate and Reflationary environment.
With that I'll turn the call over to our CFO Lisa Meyer.
Thank you Craig.
For a review of our fourth quarter results I wanted to discuss the improvement we proactively made to our financing arrangements to improve our balance sheet in the fourth quarter.
Since the onset of the pandemic WMC has benefited from the broader western asset platform, which facilitated our ability to work with our strategic financing partners to improve liquidity and reduce our exposure to short term daily mark to market financing.
From a kind of level at nine five times at the end of March 2020, our recourse leverage has declined to 2.1 times and this year.
Also significantly lower than the five four times at December 31st 2019.
In October we amended our residential whole loan facility converting it to a limited mark to market and margin facility that there is an interest rate of LIBOR, plus two seven and 5% with a LIBOR floor at 0.25% and eliminated the premium recapture fee.
At December 31st 2020, we had outstanding borrowings on this facility of $32 million, which was secured by $67 $1 million and non QM loans.
And we further reduced our recourse debt.
Purchasing an additional $25 million and principal amount about convertible senior notes at an average 13% discount to par value.
At December 31, 2020, the outstanding principal balance on our convertible notes was $175 million.
And from $205 million at December 31, 2019.
Moving to earnings we have provided great detail regarding our portfolio and our fourth quarter and full year results in both our press release and our earnings presentation from.
Only going to focus on items that warrants and additional explanation.
We reported core earnings of $7.2 million or 12 cents per share for the quarter. Our core earnings came in higher than the $6 $4 million generated and the third quarter.
Our improved core earnings enabled us to increase our dividend, 20% to six cents per share.
Future core earnings of course with <unk>.
Be dependent on the earnings performance about portfolio.
We evaluate the level of our dividend every quarter based on a number of factors, including our outlook for the near term sustainability of our core earnings.
Economic book value for the quarter increased one 9% to four point $4.19 per share as.
As we have discussed in the past we believe that this non-GAAP financial metrics provides investors with a useful supplemental measure.
Valuate, our financial position and it reflects the actual financial interest and all of our investments and eliminates the accounting mismatch and may arise from our Arroyo securitization wherever you fair valued alone and not.
Debt.
In summary, we continue to focus on actions that will solidify our capital structure and increase our liquidity and enable us to participate meaningfully in the reopening of the economy post Covid and <unk>.
Net interest margin remains healthy and we had a significant portion of our investment now financed by attractive long term financing. We believe that we are well positioned for improved financial results in the year ahead.
With that we will open up the call to your questions. Operator. Please go ahead.
Ladies and gentlemen at this time, we will begin the question and answer session.
Ask a question you May press Star and then one if you are using a speaker phone and we do as you. Please pick up your handset before pressing the keys to ensure the best sound quality.
To withdraw your question you May press Star and two.
Once again that is star and then one, particularly and the question queue.
We will pause momentarily to assemble the roster.
And our first question today comes from Trevor Cranston from JMP Securities. Please go ahead with your question.
Hey, Thanks, good morning.
And talked a lot about the credit performance of the CRE loan book and thank you for all debt discussion.
A discussion and detail.
I was curious if you could maybe talk a little bit more about the C and B S portfolio.
And what you've seen recently in terms of any changes and.
Credit performance there and.
Also you know see MBS spreads continued to perform pretty well do you guys see any near term opportunities to maybe.
And sell parts of that portfolio that have appreciated a lot and.
Deploy capital elsewhere, or do you still feel like there's significant metal upside within that book.
Sure sure. Thanks for the question.
Do you think the trend had been positive across the majority of the commercial mortgage backed securities, especially.
Post the vaccine news and November.
And we have seen spreads recover although I think it's been a very asset specific in fact, we did have some sales as we had.
And portfolio positions.
Physicians that had recovered meaningfully and the in the fourth quarter. So.
And so we did take advantage of that.
And select instances.
And I believe you know, we're all obviously looking at the.
The total return potential versus other opportunities and the market as we re.
We examine the landscape going forward.
But overall, we feel that the security and still have meaningful upside from.
And the reopening trade.
So we're talking.
Constantly evaluating that but based on you know.
Market conditions.
And.
Okay got it.
And you also mentioned the non QM loans.
And could become a place where we were able to deploy some capital.
And at some point over the next few quarters.
And you can you remind us if you.
Still have flow agreements in place with lenders or if that was that would be something that you'd need to.
Reestablish before you start acquiring and the significant volume of loans again.
And Sean Yeah, all the agreements that we had in place before.
You know before the Covid crisis remain in place and in fact, we've actually added a couple of our agreements with originators purchase agreements. So we're definitely.
Staying on the on the offense with the non QM, we think that.
There's definitely an opportunity zone.
Okay, Great I appreciate the comments thank you guys.
Yeah.
Once again, if you would like to ask a question. Please press star and one.
And our next question comes from Jason Stewart from Jones trading. Please go ahead with your question.
Hey, good morning. Thank you a quick follow up on Travers question. When you think about the balance sheet.
It is and in a spot where you're comfortable growing materially and non QM and and and if you could put a number around sort of what size do you think that could be.
It would be helpful.
Yeah sure I'm you know.
As it is right now it's difficult to find the debt quality.
Quality of loans that we're targeting.
Beginning, but we do have room to grow I don't think we'll do a.
And 1 billion dollar sized non QM deal like we've done in the past I think it'll be more like the one we did in June which is you know and the $300 million to $400 million range, so that that would be very small.
The increase in leverage and the portfolio.
And then and then at securitization would bring that leverage back down again.
So we definitely feel that you know, we're going to try and keep leverage at the lower end of the range until we clear a true you know all the all the potential Covid are you now fall backs.
Okay got it that makes sense and then when we look at unrealized loss and sort of recapture of that part of the market. I think there was something like 46 odd million and C. N B S. There was unrealized.
Realized is that the number and investors should be focusing on if we continue to see.
Spread compression that we could potentially recapture or is it a bigger more broad number there.
Hi, yes.
What we have on balance sheet as far as the unrealized losses related to that portfolio. So that would be that the potential upside in that and that and that.
And those conditions.
Okay got it and then on the the $90 million Mezz loan and I was hoping you could provide a little bit more color you know what percentage of of debt service as the property generating in terms of cash.
Concert and had to kick and any additional equity today and any any additional color would be helpful.
Sure I can I can take that one.
The debt.
And the debt service coverage continues to be fair.
Fairly weak.
And we are still awaiting updated financials for 2020 one on the asset.
But however, the reopening has been very positive and.
And we do expect that to improve dramatically throughout the year.
You know, we are working closely with senior lenders and and with the sponsor and and we're in communication with all property all parties and everyone believes that the.
Sponsors and you're best positioned to return this landmark assets and profitability.
So at this point.
We have not seen any new equity coming into the deal, but we are optimistic.
And does the case.
Okay. So as the and go here sort of a restructuring of the debt capital structure here and the sponsor puts more equity and to get it into them you know rightsize scenario at the end of June.
Yes, I just think that is the case.
Okay.
Alright, thanks for that one more and then I'll jump out on the hotel loan what is the timing for the to the bankruptcy process and the.
Foreclosures would've looked like is it something that you can realistically see occurring and in the first half of 2021.
And we remain and negotiations with the borrower.
But to the extent that the courts decide.
Thanks, a lot come.
And that could definitely take.
I think the borrower has until June to provide the courts with a.
Oh plan.
So.
And I think there's a good scenario and good chance that we can negotiate something outside of the courts, but you know to the extent that it gets dragged through the courts are it could be more of a.
Second and third quarter.
And the second half 2021 of them.
Okay. Thanks for the updates I appreciate the questions.
[laughter].
And ladies and gentlemen at this time and showing.
Debt when you've reached the end of today's question and answer session and I'd like to turn the conference call over to Jennifer Murphy for any closing remarks.
Thanks for joining us today and have a great rest of your week.
Ladies and gentlemen, the conference has now concluded we do thank you for attending today's presentation. You may now disconnect your lines.