Q2 2021 Cherry Hill Mortgage Investment Corp Earnings Call
Greetings, ladies and gentlemen, and welcome to the Cherry Hill second quarter 2021earnings conference call. At this time all participants are in a listen only mode. A question and answer session will follow the formal presentation should anyone require operator assistance. During the conference. Please press star zero on your telephone keypad.
Now my pleasure to introduce your host Mr. Garrett Edson. Thank you Sir you may begin.
Thank you for joining us today for Cherry Hill mortgage investment corporations second quarter 2021 Conference call. In addition to this call. We have file a press release that was distributed earlier this afternoon and posted the Investor Relations section of our website at Www Dot C. H M. REIT dot com on today's call management's prepared remarks and answers to your questions may come to.
Forward looking statements that are subject to risks and uncertainties that could cause actual results to differ from those discussed today. Examples of forward. Looking statements include those related to interest income financial guidance <unk> future expected cash flows as well as prepayment and recapture rates delinquencies and non-GAAP financial measures such as core and comprehensive income forward looking statements represent managements current estimates and Cherry Hill.
Seems no obligation to update any forward looking statements in the future. We encourage listeners to review the more detailed discussions related to these forward looking statements contained in the company's filings with the SEC and definitions contained in the financial presentations available on the company's website. Today's conference call is hosted by Jay Lown, President and CEO, Julian Evans, our Chief investment Officer, and Michael Huseby.
Chief Financial Officer, now I will turn the call over to Jay.
Thanks, Garrett and welcome to today's call.
In the second quarter of 2021, we continue to actively manage our portfolio, while maintaining a strong balance sheet.
With the 2 rounds of stimulus and the ongoing economic recovery as well as the recent spike in inflation R.
Our view was that rates would hold and we managed our portfolio. Accordingly. However.
However, despite strong economic data.
The fed has continued to play a dominant role in treasury asset purchases.
And interest rates March lower through the quarter, finishing down about 30 basis points from the end of Q1.
Second quarter performance was driven largely by the significant bull flattening of the yield curve and the widening of spreads, particularly on higher coupon MBS, which led to a decrease in the values of msr's as well as MBS prices.
We believe that the recent rally in rates is not sustainable and that rates will turn as the fundamentals of the economy remains strong.
In addition, the fed is closer to paring back its asset purchases and additional fiscal stimulus appears close.
Accordingly, we will remain positioned for a bounce higher on rates.
Which aligns with our hybrid strategy of pairing RMB S with Msr's.
In the second quarter, we generated core earnings of 28 cents per share covering our quarterly dividend.
Prepayment speeds improved quarter over quarter across the portfolio positively contributing to earnings performance.
Importantly core earnings is just 1 of several factors, we consider in setting our dividend policy.
While we are watching closely the recent fluctuations in rates and the potential impact on prepayments and asset yields we remain confident in the near term sustainability of our dividend.
For the second quarter, we continued purchasing MSR is through our flow program.
Pricing for MSR is has been aggressive, particularly in the bulk space where potential recapture origination economics, often appear as a component to the pricing of in the money collateral.
We expect the market for MSR is to remain competitive.
That said, we believe our ability to match this asset class effectively.
Seeds, those who speculatively enter and leave this space, whether large or small.
In our last call. We noted our intention to access funds available to us on the MSR financing facilities and as a result company leverage ticked up slightly to 3.6 times from 3.4 times at the end of the prior quarter.
Book value per common share finished at $9.63.
As of June 30.
The change in book value on a quarter over quarter basis was primarily due to the impact of spread widening.
Which is not something for which we've historically hedged.
We continue to proactively manage the composition of our portfolio is in hedges in order to drive performance preserve book value and increase our shareholders' equity.
In terms of prepayment speeds for our MBS and MSR portfolios, we benefited in the quarter from lower speeds RMB is positioning and the ongoing reduction in the weighted average note rate at the loans underlying our msr's.
We continue to make significant process progress in our recapture efforts.
For the 27, 6 recapture rate on our MSR in the quarter.
During the second quarter, we acquired approximately $1.6 billion of Fannie and Freddie Msr's utilizing our flow purchases program.
We believe this approach provides benefits as it mitigates the impact of current coupon spread widening on our portfolio.
As the economy has strengthened forbearance statistics also continued to improve.
As of July 13th borrowers enacted for parents were 2.9%.
The 70 basis point improvement from our update on last quarter's call.
With our liquidity, we are sufficiently capitalized to satisfy all of our servicing advance obligations for the foreseeable future.
We ended the quarter with $54 million of unrestricted cash on the balance sheet.
As we move forward our team will continue to proactively manage our portfolio to ensure that we are in a position to take advantage of attractive investment opportunities.
We remain constructive on the U S economy, and its recovery from the pandemic.
The current out of the Delta variant notwithstanding.
We expect to further invest in msr's to take advantage of an anticipated balance and interest rates that we believe should generate value for the company and our shareholders.
With that I'll turn the call over to Julian who will cover more details regarding our investment portfolio and its performance over the second quarter.
Thank you Jay.
In the second quarter. The U S economy continue to improve as many Americans were eager to spend and travel with Covid protocols, mostly relax.
Pent up demand is driven in the U S economy out of recession and into an expansionary mode.
Despite the economic improvement and the fact that inflation has been outpacing expectations U S interest rates rallied under the weight of continuous fed regimented purchases and an assumption that we've experienced the best the U S economy has to offer.
We have yet to see any real signs of an economic slowdown and continue to believe interest rates will progress higher over time.
In addition to the interest rate rally the portfolio was impacted by the mortgage basis spread widening and higher levels of realized volatility in the second quarter as Jay mentioned earlier.
The mortgage basis was a key driver of underperformance for the portfolio.
In general mortgages widened on both a nominal and an option adjusted spread basis more specifically, our higher coupon mortgage positions were impacted by the basis widening.
Thus far for the first third quarter mortgage spreads had been softer, but the impact has not been as great as they were in the second quarter.
Looking forward, we will remain opportunistic as we pursue investments in the second half of the year and we will continue to monitor closely the delta vary and the potential impact it may have on global markets and economy.
At quarter end MSR had a <unk> of approximately 22 billion and a market value of approximately $212 million.
During the quarter, we purchased $1.6 billion of new MSR through a flow programs.
At the end of the second quarter. The MSR portfolio represented approximately 43% of our equity capital and approximately 13% of our investable assets excluding cash.
Meanwhile, our RMB as portfolio accounted for approximately 42% of our equity.
As a percentage of investable assets RMB S represented approximately 87% excluding cash at quarter end.
Our MSR portfolio averaged approximately 27% net CPR for the second quarter.
Down from approximately 35% net CPR on the previous quarter, driven by slower prepayment speeds as well as an improved recapture rate.
We saw on mortgage speeds continue to decline from elevated fourth quarter levels in large part due to higher interest and mortgage rates.
Meanwhile, the RMB S portfolios weighted average 3 month CPR also improved in the second quarter to approximately 18% compared to approximately 21% for first quarter as we turn our specified pool portfolio over to improve prepayments fees.
During the quarter, we repositioned our portfolio moving spec pools that we felt would continue to prepay quickly and purchasing pools, we expect exhibit slower prepay characteristics.
Improvements were mainly implemented in the latter half for the quarter and we expect these changes to benefit the portfolio for some time.
As of June 30, the RMB is portfolio inclusive of TBA stood at approximately $1.4 billion.
Which was comparable to the previous quarter. The repositioning of the RMB is portfolio also helps liquidity improves our MBS prepays increases carry as well as allows for further investment in MSR.
Quarter over quarter, we increased our 30 year securities position from 79% the previous quarter to 83% of the portfolio this quarter.
15 year Securities and other collateral positions were reduced to 17% of the portfolio to finance the increase in 30 year Securities.
For the second quarter, we posted a 2 spot 3.2% our MBS net interest spread versus the 1 spot 5.7% net interest spread for the first quarter.
The improved spread was driven by lower mortgage amortization, which benefited from better prepayment speeds. The repositioning of the portfolio also improved the RMB as net interest spread.
Mortgage volumes remained elevated towards the end of the second quarter and we expect that trend will remain as interest rates have pushed lower in recent weeks.
Currently 45% of the mortgage market is a 50 basis point incentive to refinance.
We experienced amortization improvements in both the RMB and MSR portfolios and we are hopeful that those improvements will continue on the second half of the year as mortgage and interest rates potentially move higher.
We do expect repo cost to remain low as the first day is committed to holding the funds rate near zero, and allowing growth and inflation to run hotter than historical norms to compensate for periods when inflation is run to low previously.
At quarter end the portfolio leverage stood at approximately 3.6 times at the aggregate level.
I will now turn the call over to Mike for a second quarter financial discussion.
Thank you Julien.
Our GAAP net loss applicable to common stockholders for the second quarter was $13.8 million or <unk> 81 per weighted average share outstanding during the quarter, while comprehensive loss attributable to common stockholders, which includes the mark to market of our held for sale, our MBS was $15.8 million or <unk> 92 per share.
Our core earnings attributable to common stockholders for $4.7 million or 28 per share.
Our book value per common share as of June 32021 was $9.63 compared to a book value of $10.83 as of March 31.2021.
We use a variety of derivative instruments to mitigate the effects of increases in interest rates on a portion of our future repurchase borrowings.
At the end of the second quarter, we held interest rate swaps swaption Tva's Treasury futures and options on Treasury futures, all of which had a combined notional amount of $1.9 billion.
You can see more details with respect to our hedging strategy and our 10-Q as well as in our second quarter presentation.
For GAAP purposes, we have not elected to apply hedge accounting for our interest rate derivatives and as a result, we record the change in estimated fair value as a component of the net gain or loss on interest rate derivatives.
Operating expenses were $3.7 million for the quarter.
On June 17th 2021, our board of directors declared a dividend of 27 per common share for the second quarter of 2021, which was paid in cash on July 27.2021.
We also declared a dividend of <unk> 51 to <unk> per share on our 8.2% series a cumulative redeemable preferred stock.
And a dividend of 50.156 to 5.
On our 825% series B fixed to floating rate cumulative redeemable preferred stock.
Both of which were paid on July 15th 2021.
At this time, we will open up the call for questions operator.
Thank you, ladies and gentlemen, we will now be conducting a question and answer session. If you'd like to ask a question. Please press star 1 on your telephone keypad, a confirmation tone will indicate your line is in the question queue. You May press star 2 if you'd like to remove your question from the queue for participants using speaker equipment. It may be necessary to pick up the handset before pressing the star keys.
1 moment, please let me pull for questions.
Our first question comes from the line of Henry Coffey with Wedbush. Please proceed with your question.
Good afternoon, everyone and thanks for taking my call.
When we look at the things you can control.
The business is doing well.
And you know that's your your operating earnings are when you look when we look at the things you can position for it.
It's simply a question of taking a stance I guess in waiting.
If it.
If nothing changes interest rate wise.
What does the business is earnings potential look like going forward and if nothing were to change.
Can we assume that the volatility in GAAP earnings would diminish.
And obviously if rates went up I have to assume that things would get better.
Yeah, I think a lot of that Jay.
Jay how are you.
I think a lot of that depends on speeds.
I think that the MSR portfolio is turned over nicely.
Over the last year and the current.
Weighted average rate on that is down meaningfully year over year. So we would expect.
The MSR portfolio of wood.
B.
More stable than it has been in the past and.
In addition to that as you can see from what.
What we said on the call on and in this presentation that recapture has.
<unk> been a very good component for us relative to again trying to keep that volatility lower so I would say on the MSR side.
Those components and also just the way its accounted for in terms of GAAP would would lead me to believe that debt deposition is a lot more stable today than it was a year ago on.
On the MBS front.
I think that we're barbells to some degree you know we're short on where long TBA is on the shorter or the lower end of the coupon stack and we're a long spec pools on a higher net coupon stack.
And so if rates stay here.
Think what you've seen.
Recently around what's in the money is probably more focused on like the 2 and a half.
Versus the 3 to $3.5 some force relative to other.
Those borrowers already having an opportunity to prepay and some burn out effect around that.
So the volatility that I see from the MBS portfolio is more around the 2 and a half coupon.
Than anything else today, just given where we sit in rates. So it's to your question if rates stood here you could see some volatility in that part of the portfolio, but outside of that.
I think debt.
Where we sit relative to.
This quarter's earnings.
And at least from the near term should persist.
Yes, I'll add on.
On to that Henry it's Julian.
What we've seen so far for a firm our prepayment sides on the mortgage for at least on the on the July front its been pretty consistent with what we've seen kind of in the latter.
Latter half of the second quarter.
Thank Jay is right because the coupons that have just been created something thats kind of in the 9 to 12 wallet on the 2.5% 3 coupons on our refinance.
The only thing I think what we've been waiting for like a majority of these investors I would say on some of the higher coupons is we've been waiting for.
To have burn out in.
Some of the higher coupons I don't think the burnout has been what most investors thought it would be given the efficiencies that we've seen from some of the originators.
On the technological advances, obviously, but the recent speeds that I've seen in that part of the portfolio has trended down and so we are hopeful that will remain consistent going forward. Yes, we are.
Seeing some slowing I mean, it's there it's just time is what.
What's weighing heavily on the equation.
Yeah.
Yeah, I mean look I think that's right.
I think most investors are getting our homeowners I should say of getting another bite at the Apple.
What we've tried to do in the second quarter is turned the portfolio over especially on the R&D side spec pools, we ended up selling a pretty significant portion of that portfolio on reinvesting it into other pools.
Eliminating some of the stories that we as we mentioned that we thought were going to exhibit continued faster prepays and hopefully putting on.
The money back to work and stuff that we thought would be slower during that time, but it has been surprising that we are at this level of rate and you know what.
Sure.
Like many investor waiting for for rates to pull back.
Alright, thank you.
Yeah.
Thank you as a reminder, ladies and gentlemen to ask a question its star 1 on your telephone keypad. Our next question comes from the line of Matthew Howlett with Nomura. Please proceed with your question.
Hey, guys.
Just.
On the origination market.
You know where gain on sales spreads have come in for all the originators are they looking at somewhere on the Sars to make up for that Apple can you just give us an update on.
How are you guys are positioning for what looks like is going to be a much different environment in the back half of the year for the originators.
I'm not sure I totally understand that are you are you asking if we expect to.
Change the ratio of MSR is relative to history.
Well it will be more like bulk for flow deals out there with pricing.
Right.
Okay sure.
Look I would tell you hands down net bulk flow has worked much better for this company than bulk.
Historically and I would tell you that.
I think I noted in the stage debt.
Disconcerting to us to some degree is the fact that bulk deals are now starting to re price recapture economics.
And that's great. If you have a very strong cash.
All center, but if you're relying on third party to do that debt.
That's pretty challenging to price that in.
Relative to <unk>.
The past historically, where you have not had to price debt and so for us.
We love the asset class.
It's about.
The value on the pricing relative to our expectations on yield.
To determine.
How involved we are on the asset class, but broadly speaking, we would expect to see more.
Acquisitions through flow versus bulk.
For us at least.
Got you and Jay remind me again, how many how many counterparties when you're dealing with on a for me a range, which do you have on the flow side.
Well, we deal with 2 different counterparties, but their relationships are in well over.
I would say.
Over 30 at least.
Probably more but.
We deal with 2 specific counterparties that run their own programs.
And have their own sellers, but.
We only face those 2 counterparties.
Gotcha, and then is there anything with mortgage rates and with the limited the debt adverse with the Fannie Freddie deliberate some originated for saying that's going to give them yeah on a refi open <unk> window, a little bit more but I mean, just generally speaking for me.
Originators given the margin pressure, we are seeing they're gonna have to yeah.
Liffe rates at some point to just improve profitability and just walk through the dynamics on <unk>.
Mortgage rates.
Could they lift.
So the reason that that's 1 of the primary reasons I mentioned too and I ask because the adverse adverse GP coming off definitely puts that coupon more into play than it had been.
And that's specifically.
Related to the tune of ash and potentially other threes, but look I.
I can't sit here today and tell you what what originators need for margins I would tell you that as volumes have come down broadly speaking since the winter.
Margins have taken it on the Chin and we've seen more competition relative.
Yes to the origination business in.
Sectors like the wholesale on a correspondent channels.
But.
I think that originators are going to want to keep people in their seats for as long as they can and they will probably sacrifice margin to do that.
Right exactly deal with the excess capacity.
And then from just from the last question on that from Cherry Hill perspective, when I think of long term on the you know, let's just maybe it's a year out but what are normalized 10.11 than what our normal multiples on on MSR is are they fly that from just give me a sense on like what is normal.
An environment, where the refi wave going on.
Are you talking about Unlevered unlevered returns on servicing.
Unlevered multiply uhm.
Oh multiples.
Yeah.
So look I think historically.
Originators, who have been in this space for a long time would say to you that there were a buyer at 4 times and they're a seller at 5 times right now and that's a very broad statement I know.
But within the context of.
The interest rate environment.
Just origination margins.
The view on rates et cetera, I would say that we are.
Towards getting towards the high end of that range today versus a year ago, we were in the twos for multiples and so.
Again, the way, we think about that asset classes is not necessarily you know those numbers that I said, but.
Given the assumptions required to bid the collateral.
Even in an anticipation of a higher rate environment.
If the yields just look too tight then obviously.
Really not a meaningful net buyer for that asset.
Right.
And then the C. P ours I mean can we could we.
On the MSR book.
You know 10.12 C P R.
What was some point.
I think at some point you could sure I, you know that really depends on rates.
Rates being 175 or higher.
Especially with the accuracy I think the adversity.
Mistaken is about an 8% rate.
Tomorrow or so.
They just got that benefit.
Versus 3 months ago. So we.
We think that once you hit 175 things start to slow down and then higher.
Got you Great day trips interest on that question Jay I appreciate it.
Thank you, ladies and gentlemen at this time I would like to turn the floor back to Jay Lown for closing comments.
Thank you operator, thank you everyone for joining us on our second quarter 2021 earnings call and we look forward to updating you in the.
For the third quarter for our results for the third quarter of 2021. Thank you have a good night.
Thank you ladies and gentlemen. This concludes today's teleconference. You may disconnect. Your lines at this time. Thank you for your participation.