Q1 2022 Ellington Financial Inc Earnings Call
[music].
During our call today, Please press star zero.
Yeah.
Good morning, ladies and gentlemen, thank you for standing by welcome to the Ellington Financial first quarter 2022 earnings Conference call. Today's call is being recorded at this time all participants have been placed in a listen only mode. The floor will be opened for your questions. Following the presentation. If you would like to ask a question.
And during that time simply press Star then the number one on your <unk>.
Allophone keypad if at any time. Your question has been answered you may remove yourself from the queue by pressing the alky Lastly, if you should require operator assistance. Please press star zero. It is now my pleasure to turn the call over to Jason Frank Deputy General Counsel and Secretary, Sir you may begin.
Thank you before we start I would like to remind everyone that certain statements made during this conference call may constitute forward looking statements within the meaning of the safe Harbor provisions of the private Securities Litigation Reform Act of 1995 forward looking statements are not historical in nature.
As described under item one a of our annual report on Form 10-K forward looking statements are subject to a variety of risks and uncertainties that could cause the company's actual results to differ from its beliefs expectations estimates and projections. Consequently, you should not rely on these forward looking statements as predictions of future events.
Statements made during this conference call are made as of the date of this call and the company undertakes no obligation to update or revise any forward looking statements whether as a result of new information future events or otherwise I'm joined on the call today by Larry Penn Chief Executive Officer of Ellington financial.
Mark to Kaki co Chief investment Officer, and Jr. Herlihy, Chief Financial Officer of USD <unk> <unk>.
Our earnings press release, our first quarter earnings Conference call presentation is available on our website Ellington financial that call managements prepared remarks will track. The presentation. Please note that any references to figures in this presentation are qualified in their entirety by the endnotes at the back of the presentation with that I will now turn the call over to Larry.
Thanks, Jay and good morning, everyone as always thank you for your time and interest in Ellington financial will begin on slide three.
During the first quarter volatility spiked to levels not seen since the COVID-19 liquidity crisis of 2020.
Interest rates rose rapidly in the yield curve flattened significantly.
Spreads in virtually every fixed income sector widened relative to U S treasuries and interest rate swaps and nearly all of the major equity indices sold off.
Despite this challenging market environment Ellington financial experienced only a moderate book value declined for the quarter. Thanks to our hedging strategies diversified portfolio and careful attention to our leverage ratios.
Together with the outperformance of several of our credit strategies.
Although we did have some strategies that were down for the quarter the benefits of our diversification where again on full display as gains from other parts of the portfolio along with net gains from our hedges offset most of these losses.
Mark will get into specifics of how we outperformed in credit.
Overall, our economic return was around negative 1%.
Ended up being a historically difficult quarter for the fixed income markets.
We continue to benefit from our loan portfolios as they not only generated positive returns, but thanks to their short duration. They also continued to supply a steady stream of recyclable capital through portfolio Paydowns and payoffs.
Between our residential transition loan commercial mortgage loan and consumer loan portfolios. We received principal paydowns of $156 million during the quarter, which represented more than 17% of the combined fair value of those portfolios coming into the quarter.
This is a great feature of our portfolio construction, our short duration assets are returning a lot of capital right. When we can put that capital to work at much higher yields and higher yield spreads.
And speaking of just in time capital right at the end of the quarter, we completed a $210 million five year senior unsecured note offering which was single a rated and priced at a fixed coupon of five and seven eighths, which was a spread of 332% to the five year Treasury.
I believe that the strong rating and excellent deal execution reflected Ellington Financial's long track record of book value stability and effective risk management attributes, where I, which are as important today as ever.
The senior unsecured note offering was clearly timely given the returns we are seeing on new investments. We expect this offering to be accretive to earnings in the months ahead.
In addition, we have already completed three loan Securitizations this year, which have locked in additional long term non mark to market financing.
In both our non QM mortgage portfolio and our consumer loan portfolio.
These stable sources of financing further diversify our balance sheet cushion against the potential impact of market shocks and put us in a position to react quickly to market opportunities.
Putting it altogether the steady return of capital from our loan portfolios. The capital raised from the senior note offering and multiple securitization freeing up capital. We have now amassed significant dry powder to deploy just as we see reinvestment yields rising rapidly and pricing dislocations emerging in various sectors.
I'll now pass it over to Jr. To discuss our first quarter financial results in more detail.
Thanks, Larry and good morning, everyone.
I'll continue on slide three of the presentation.
For the quarter ended March 31, 2022, Ellington financial reported a net loss of <unk> 17 per share on a fully mark to market basis and core earnings of <unk> 40 per share. These results compare to net income of 61 per share and core earnings of 44 per share for the prior quarter.
The drivers of the sequential decline in core earnings were two fold first we had a higher balance of unemployed capital in Q1, and second we had higher corporate expense items, some of which related to the prior year's operations.
Moving forward after we get fully invested and take advantage of today's much higher reinvestment yields we expect core earnings to again cover our current quarterly dividend run rate of 45 per share.
On slide four you can see that we further increased our capital allocation to credit investments during the quarter with 85% of our capital allocated to credit as of March 31.
Which is up from 79% year over year.
The capital allocated to agency at 15% is now at the low end of our historical range.
Moving forward, we expect eft's allocation to credit to continue to be towards the higher end of its historical range based on the continued growth of our loan origination businesses.
You can also see on this slide that the weighted average market yield on our credit portfolio increased by about 10 basis points sequentially, which we expect to increase further as the yields on our portfolio adjust to wider yield spreads and rising rates.
While the blended yield on our agency portfolio increased a full percentage point.
Quarter over quarter to three 2%.
Moving to slide five you can see the attribution of earnings between our credit and agency strategies. During the first quarter. The credit strategy generated total gross income of 28 per share while the agency strategy generated a gross loss of 34 cents per share. These.
These results compare to gross income of <unk> 91 per share in the credit strategy and a gross loss of <unk> <unk> per share in the agency strategy in the prior quarter.
During the first quarter, we had particularly strong performance in our C. MBS non agency MBS residential re performing loan.
Clos and corporate debt and equity strategies.
In addition, strong net interest income drove positive results in our short duration loan portfolios, including small balance commercial mortgage loans transition residential transition loans and consumer loans.
Our portfolio of retained non QM tranches also appreciated during the quarter driven by substantial appreciation of our non QM credit iOS and excess servicing strips as rising mortgage rates led to lower actual and projected prepayments speeds.
Finally, we had significant net gains on our interest rate hedges.
In contrast rapidly rising interest rates and widening yield spreads generated significant net unrealized losses on our unsecured <unk> non QM loans, while also compressing gain on sale margins for our loan originator affiliates.
Len sure while still profitable for the quarter revise downward its earnings projections for 2022, and Longbridge generated a net loss for the quarter.
As a result, we experienced an unrealized loss on our strategic investments and loan originators and the amount of $7 $5 million or about <unk> 13 per share.
Importantly, longbridge is net loss was due to reduction in the value of its MSR portfolio, whereas its origination segment was still profitable.
And for lunch or we believe that the company is well positioned to emerge from the current market volatility with increased market share and stronger earnings prospects.
And agency RBS surging interest rates and heightened volatility drove significant duration extension and yield spread widening which in combination caused sharp price decline.
As a result, net realized and unrealized losses on our agency RMB S exceeded net interest income and net realized and unrealized gains on our interest rate hedges and we had a significant net loss for the quarter and that strategy on a mark to market basis.
Turning next to slide six during the first quarter, our total long credit portfolio grew by 11% sequentially to $2 3 billion.
At March 31.
The majority of the growth occurred in our non QM residential transition and commercial mortgage loan origination businesses you can see here that the residential and commercial mortgage loan slices grew in size.
In commercial mortgages, our tactical focus on multifamily continued with our portfolio share of multi increasing to 69% from 65% last quarter.
Meanwhile, our portfolio of consumer loans declined sequentially due to the successful completion of a loan securitization during the quarter and opportunistic sales of <unk> decreased the size of that portfolio.
On slide seven you can see that our long agency RMB as portfolio decreased by 11% to $1 5 billion, driven primarily by mark to market decline.
Please turn next to slide eight for a summary of a summary of our borrowings.
On the final on the final day of the quarter, we issued $210 million of five year, five and seven 8% senior unsecured notes because.
Because we hedge the interest rate risk in these notes with sofa swaps and those swaps are of course mark to market. We have elected the fair value option on the notes as this should give the most accurate calculation of our book value going forward.
As a result, we expense rather than capitalized the costs associated with the offering and the amount of $3 $6 million or about <unk> <unk> per share and that was an immediate hit to book value per share.
You will see these senior unsecured notes show up as senior notes at fair value on our balance sheet.
In addition to the notes offering during the quarter. We also completed a non QM securitization, which increased non recourse borrowings by $403 million.
And we completed our.
Consumer loan securitization, which removed $36 million of borrowings from our balance sheet.
Finally, we added an additional financing facility for our commercial mortgage origination business.
Our overall debt to equity ratio adjusted for unsettled purchases and sales increased to three two to one as of March 31 from two eight to one at year end driven primarily by increased borrowings on our larger credit portfolio and by the issuance of the unsecured notes.
Similarly, our recourse debt to equity ratio adjusted for unsettled purchases and sales increased to $2 three to one excuse me $2 three to one from two to one.
Our weighted average borrowing rate increased by 54 basis points to 178% as of March 31.
Due to the combination of higher short term rates, the new senior unsecured notes and disproportionately more borrowings on our loan portfolios, which carry higher borrowing rates relative to agency.
We also raised $38 $5 million of common equity through our ATM program during the quarter right around book value.
We believe that the ATM program provides an attractive low cost path to growth and we plan to continue to utilize it as investment opportunities and market conditions warrant.
For the first quarter total G&A expenses increased sequentially by <unk> <unk> per share to <unk> 17.
While other investment related expenses increased by <unk> <unk> per share to <unk> 17.
Mainly due to expensing the costs associated with the senior note offering.
Our book value per common share was $17 74 at March 31 down three 5% from $18 39 per share at December 31.
Including the <unk> 45 per share of common dividends that we declared during the quarter our economic return for the first quarter was negative one 1%.
Finally, with respect to the acquisition of the controlling interest in Longbridge. We continue to work through the closing process and expect the transition to the transaction to close within the next few months now over to Mark.
Thanks, Jr. Last quarter was a period of absolutely historic volatility not only for interest rates, but really for most of the important fixed income metrics.
A few examples the two you don't move to 160 basis points its highest quarterly moves since 1984, the spread between two years and 30 years flattened by more than one percentage point to just 12 basis points at quarter end.
And MBS credit spreads while high yield widened by 70 basis points, which is a pretty big move even non QM AAA rated tranches also widened by 70 basis points and parts of the CRT market widened by over 400 basis points.
So what does all this mean, well basically everything except iOS and mortgage servicing rights went down in price and many things went down a whole lot.
10 year note futures dropped by seven points, Fannie twos dropped by seven points and residential mortgage loans dropped multiple points in price.
At this point in the earnings cycle, a lot has already been said about the housing otherwise of these historic market movements. So instead I want to focus specifically on how we managed to keep our economic return at just negative 1%, thereby protecting Ellington financials book value and then I'll get into what this massive repriced.
<unk> yields and spreads means for the opportunity set going forward you generally don't see this much red ink in the market without also seeing some really good opportunities created.
Heres what work to help protect book value during the quarter first interest rate hedges helped across the board and for certain of our assets with Levered credit exposure. Our credit hedges also helped you can see on slide 17, the credit hedges that we had both coming into and coming out of the quarter. We have included this slide in there.
Earnings deck for years, and so it doesn't really do it.
Generally doesn't get a lot of airtime. We still included these credit hedges were important and profitable during the quarter and offsetting some of the selloff and helped drive some incredibly strong performance in our <unk> and CLO portfolios, even though these two market sectors really struggled during the quarter.
But the biggest area, where our hedges helped was with interest rates and not just in our agency portfolio.
We owned a lot of fixed rate non QM loans coming into the quarter and the decline in price a lot, but the interest rate hedges helped soften the blow as did our retained tranches from our previous non crimp security securitization.
These retained tranches have a lot of moving parts, but many of these tranches are essentially credit iOS and excess servicing rights, which means that they should increase in value when interest rates rise and in fact, they did appreciate considerably in the first quarter.
We have kept these tranches on all of our non QM securitizations only exiting them, if and when we called the deals.
So much of these retained tranches help pets non QM loans that we've been purchasing in much the same way that mortgage servicing rights hedge mortgage pools.
And diversify the earnings stream and our non QM business through a non <unk> securitization not only lock in very low financing very low long term financing rates and reduce our mark to market volatility.
But they also generate valuable credit iOS and servicing strips, which we retain and which is a good balance of profits from non QM origination.
Portfolio also greatly benefited from the fact that many of our holdings are floating rate or short duration of both our commercial mortgage bridge loans bridge loans. Both for example, they are floating rate assets with the short average life last year, we had to endure LIBOR essentially at zero, so that suppressed the coupons on our floating rate bridge loans.
But on Wednesday, J, Paul gave our coupons, a 50 basis point boost across the board.
The forward curve projects LIBOR, increasing to over three 5% a year from now so a bridge loan with a floating rate spread of 550 basis points could yield over 9% a year from now.
Our commercial mortgage bridge loan portfolio was able to generate solid annualized returns this quarter. Despite all the volatility we still really like the sector.
Slide nine you can see our consistent preference for multifamily in our commercial loan portfolio.
That has been written about how America is under resource with affordable housing and while valuations have run way up on multifamily rent growth has been very strong and unlike office retail multifamily isn't vulnerable to big shocks from individual lease rules.
Our residential transition loan portfolio was also a strong contributor this quarter these loans or even shorter in duration. So price volatility was nothing like what we saw in our non QM loans and they continue to pay off rapidly.
It was a similar story with our consumer loans, even though these are very short duration loans. They are still fixed rate, albeit with high fixed rates.
And we have and we have hedged a portion of their interest rate risk that portfolio also generated strong returns as did our non agency MBS and <unk> strategies.
This past quarter was brutal for Levered agency portfolios and our agency MBS portfolio did suffer losses as a result.
Interest rate hedges cushion some of the blow but yield spread widening was massive and it really hurt and that strategy was down 34 per share, but the yield spread widening has really improved the going forward opportunity in agency keep in mind that our smaller agency portfolio quarter over quarter. It doesn't reflect any significant downsizing of that strategy on our part.
But rather it primarily reflects the mark to market declines in that portfolio.
Yeah.
One interesting dynamic of Q1 was the surprising lack of volatility in funding spreads funding markets for all our assets whether it be agency pools are loans function consistently throughout the quarter.
Oftentimes spread and face price volatility is a consequence of changes in funding availability that wasn't the case this quarter, if anything given the higher absolute rates, we will be paying our lenders as short rates rise. We are seeing increased interest from multiple funding providers.
As I mentioned, the part of the portfolio that hurt our performance was obviously the agency strategy and to some extent non QM for most mortgage originators. It's a very very challenging time as rates are rising rapidly and volumes are declining and contrast last year was really great time for originators characterized by.
High volumes and high loan prices.
Now it looks like non QM origination volumes will be down somewhat although not nearly as much as agency originations and loan prices for new production are currently much lower than they were for much of 2021.
Many times you have spoken about the benefits of being both a loan buyer and a loan originator as the pendulum swings between the two where the profits are.
With much of the non QM originator competition hobbled I see opportunities as both an originator and alone investor going forward as a result of all the turmoil. We think we'll be able to buy some great non QM packages from a wider range of originators and in fact, we've bought a couple of pools already.
Many non QM originators have been burned by the big market swings. So now they are just looking to move their product quickly to reliable outlets.
So lots of moving parts in many different directions, but our diversification really helped this quarter some sectors, where we've had smaller capital allocations really had fantastic performance see MBS Clo's are pls and non agency MBS. All contributed you put it all together and performed.
It was only down 1% overall I'm really pleased with that overall performance.
So what is their outlook from here generally when you see huge moves down in price and lots of losses. It recharge as the opportunity set that's certainly the case for agency MBS and non QM I think it's really important for us to position and manage their portfolio without preconceptions about what is going to happen.
Forward curve, certainly, placing a lot of rate hikes, but a lot of what is causing inflation, maybe only marginally impacted by these three takes so we need to consider a wide range of possible outcomes.
<unk> our approach while the funding markets are functioning well liquidity is way down and we need to run our businesses with ample cash in the bank being forced to raise cash in a short period of time and a weak market can lead to a lot of value destruction. Nevertheless, the yields and spreads. We are seeing are the best opportunity set we have seen since the market was.
Covered from the depths of Covid now back to Larry.
Thanks Mark.
I am pleased with how we navigated the market volatility in the first quarter.
We did what we have done so many times before.
First we relied on our disciplined hedging and liquidity management to protect book value, even building up excess liquidity to capitalize on the better investment opportunities.
We maintain a diversified relatively low leverage portfolio.
Third we dynamically rebalanced, our hedges in response to the fast changing market conditions and fourth we were opportunistic in our timing to raise capital both through our common ATM program and through our senior unsecured note deal.
I'm excited about how our portfolio is positioned today as well as with all the dry powder, we have on hand in light of the rich investment opportunity set that we're seeing today.
So far this year, we've been able to ratchet up not only yield but also yield spreads in most of our loan origination businesses, while also adding some attractive loans and securities in the secondary market, including even some secondary purchases of discounted non QM loan pools as Mark mentioned.
Now onto financial strong balance sheet and liquidity position have also provided valuable support to our loan originator affiliates.
As both Jr, and Mark mentioned rapidly rising interest rates and widening yield spreads have compressed gain on sale margins for loan originators and many originators have been forced to scale back operations in the face of losses, especially those who did not properly hedged theyre locked loan pipelines or were under capitalized or both.
While we do expect loan origination volumes to moderate and the higher interest rate environment. We've also seen a number of competitors break their rate lock agreements.
I think that this represents a golden opportunity for our affiliate lenders to add market share and enhanced our visibility in the marketplace.
Finally since quarter end.
Interest rate volatility has continued to be elevated and we've seen further yield spread widening in many sectors. While that's another headwind on a mark to market basis, It's a great time to be putting all our dry powder to work.
With that we'll now open up the call to questions operator.
And at this time, if you would like to ask a question. Please press star one on your Touchtone phone you may withdraw your question at any time addressing the power.
Once again that is star in one and we will take our first question from Crispin Love with Piper Sandler. Please go ahead. Your line is open.
Thank you good morning, and you've touched on this a little bit during the prepared remarks, but just looking for a little bit more color. So given the significant rate moves and spread spread widening we're seeing and have seen.
Yeah.
How are you seeing the new reinvestment yields compared to the impact you would expect from the cost of fund side would you expect the NIM to widen from where we are right now given the rate backdrop and then also just what are the <unk> you're seeing that.
Investments.
Mark you want to handle that yes, sure. So I think you are going to see the NIM widened primarily because we're seeing wider spreads right. So if just yields rise then presumably our financing.
Costs are going to increase.
You know roughly sort of order of magnitude similar to.
How the yields on the assets increase but what you saw in Q1 was not only.
A rise in yields but also a big increase in spreads.
Youre going to see during this net interest margins increase my expectation.
And I think there was a second part of the question I missed Crispin just.
Do you have any color on the ROE that you're seeing on your new investments.
I think a lot of we're diversified so there's a range of ROE is depending on the sector, but we see a lot of things that are in the teens now.
Yes definitely mid teens.
And yes.
In terms of the NIM and where we see it going so first of all you really need to separate the credit portfolio from the agency portfolio right as opposed to looking at the overall NIM.
I think in each portfolio you'll see.
A wider NIM.
And.
In credit.
As Mark said the funding market is still very strong. So if anything I think we've got good momentum there in terms of keeping our funding costs lower on a spread basis right.
And then in terms of on the asset side.
One thing, which again you have to keep in mind, it's sort of a weird moving average right. You've got if you look at sort of the money we put to work in the fourth quarter and even early in the first quarter, we had some spread compression in some of our business and small balance commercial for example, even in the residential transition loan business, we had a little bit of spread compression. So the money that we put to work there.
Probably was at a slightly narrower NIM, but now that we have all this dry powder.
We've spoken about and the opportunities.
Some of these markets like non QM.
Are so much better than they were just a few months ago, you will see sort of gradually again. It is moving average basis. If you will as we put new money to work I think youll see our our credit NIM.
<unk> very nicely and you'll see our leverage tick up as well given the unsecured notes deal right that gives us a lot of room to very prudently increase our leverage and credit.
Great. Thank you that's all that's all helpful and then just.
Just one more from me do you have a.
An update on book value are on book value through April are any qualitatively comment there, yes, just I'm just going to stick to what we said, which is that you're going to see mark to market decline since quarter end.
We have a schedule that we keep to here.
Which is around the middle of the month is when we put out our book value estimates are going to stick to that I think you see what's going on in the market.
And look we've got this is not an agency.
Only portfolio. So there's a lot of moving parts and I'd, rather not put a number out there now.
Understood. Thanks for taking my questions.
Thank you Kristen.
And we'll take our next question from Eric Hagen with BTG. Please go ahead. Your line is open.
Hey, Thanks, Good morning, I think I just have one I think you alluded to it in your prepared remarks, a lot of what has been securitized in non QM. This area is really you can say a backlog of collateral on the balance sheets of investors with.
Lower coupons.
You have any perspective on how spreads could respond or evolve as newer collateral gets securitized and non QM.
And what you think that means for the returns to the Levered investor holding onto the residual risk.
Give me the spreads on the tranches the liabilities is that what you mean.
Right, Okay, well I think thats a great question so.
Yes, thanks, Eric So what I think is this part of the reason why spreads on non QM tranches.
Widened so much in the first quarter. It was in part a consequence of the market generally sticking to.
Pricing speed convention of 25, CPR sort of irrespective of the note read on the underlying collateral the underlying loans sort of irrespective of what the note rate of the underlying loans is relative to the current note rate of non QM borrowers would expect to be offered right. So we priced it.
Yeah.
Our second quarter April 14th where we slowed down our pricing speed, a little bit too in deference to those considerations, but that really hasnt been the norm. So I do think when you see higher note rate non QM loans get securitized. Thank you know maybe six quarter note rate and high.
Sure.
Do think spreads will be tighter because I think investors are going to recognize.
The 25 CPR speed. They may think that's a more accurate estimation and they might perceive less extension risk on those tranches.
So yeah I do think that is a bit of a tailwind for the retained yields.
On.
On newer Securitizations I would just say that.
It also is going to mean that.
If the economy into recession, and short rates come down and mortgage rates come down in that scenario then you as a.
Holder of retained pieces now gonna have to youre going to have to except except the possibility of faster prepayment rates faster and sort of deal pricing speed, but I.
I think youre exactly.
I think it's a good point you raised and I do think my expectations that you will see tighter securitization spreads when sort of the current set of loans being originated non QM market.
Comes to securitization.
That's helpful color I appreciate it sure.
And we will take our next question from Doug Harter with Credit Suisse. Please go ahead. Your line is open.
Thanks can.
Can you talk about or size the amount of kind of.
Excess liquidity or excess capacity you have to kind of take advantage of the wider spreads.
You know kind of keeping in mind I know, you said that you'd probably hold excess liquidity in the current environment.
Sure. So I think there are a few different ways to answer that question.
I'd first point to cash and cash equivalents and.
And unencumbered assets at quarter end, which in combination was about $1 billion.
That a third of that was 360 of cash and 630 of unencumbered.
Not that we would necessarily encumber all of those assets in the box with that gives an indication of I'd say additional borrowing capacity plus we plus the cash that was.
I guess unusually high you could say because we closed on $210 million literally on the final day of the quarter.
So I think those measures.
Indicate that we have additional kind of cash and borrowing capacity available to the tune of $1 billion.
Those amounts have been higher kind of been periods post COVID-19 than they were pre COVID-19, so we havent, keeping excess liquidity and lower leverage.
But we certainly have.
Well on above those measures excess to spend as of quarter end.
Got it and then.
Can you.
Talk about how you think that the agency versus credit metrics might might trend as you see kind of opera.
The relative opportunity you see in each today.
Sure So I mean.
<unk> <unk> agency has been at the low end, 15% of the capital allocation at the high end 'twenty, two 'twenty, 3%, which really we hit for brief amount of time, a few years ago about 2019. So we're currently 80 515, so 15 being the low end of the agency range.
I think that the part of the capital allocated to agency there'll always be an agency strategy. It helps us.
Comply with three tests in 40 Act.
Test and alike, but also provides liquidity and diversification. So we've talked a lot about the benefits of having that agency strategy, which we also operate on a more risk adjusted basis with the TBA short and that's pretty heavily hedged.
So I think there'll always be an allocation to agency.
This $85 15 is probably a good.
Split to think about going forward, though because credit has been growing.
Even before this quarter.
Over the last 18 to 24 months credit has been growing relative to agency as we grow our origination businesses and I would kind of expect that to continue on the margin.
Great.
I'd just add I think it fast.
The agencies recover from a spread basis as we think they will.
Then you might see that $85 15, even tick.
A little bit lower in terms of agencies right now the agency opportunity looks very good.
But you could even see us tick below 15%.
Once we get the.
That we're expecting in spreads on agencies.
Right and the upcoming Longbridge closing I mean, thats going to be.
Credit right. So that will also affect the splits to credits.
We will take our next question from Brock Vandervliet with UBS. Please go ahead. Your line is open.
Hi, Thanks, good morning, everybody.
Okay.
I <unk> sure if you could just talk through the.
Lower earnings guide for the year, obviously tons of crosscurrents around.
Non QM, but just just wondering.
If you could give more color there.
Mark.
Sure Hi, Brock I think.
It.
Look last year and I sort of mentioned this in my prepared remarks, you had.
A combination of very high volumes.
Does the housing market was on fire very high volumes and very high loan prices right. Because you had relatively tight securitization spreads from the yield curve was at low levels, which is where you price a lot of the non QM bonds off of so.
Last year.
Was really a good market backdrop for.
Non QM originators and so you have this year.
You have mortgage rates a lot higher so they're going to be some borrowers that would have qualified for mortgage.
At the rates they could've gotten a year ago that now when you figure out their debt to income calculations at the current rates.
That their payments are higher than they might not qualify so I think youre going to see I think it's logical to see lower volumes and the other thing I.
Is that because of all the volatility and spread widening.
Loan prices are lower so even when you get to sort of current coupon non QM loans now theyre trading at lower prices than where they traded last year and really you know total dollar of profits for these originators is pretty much the product of volume.
Gain on sale over their expenses and I. Just think you have you know you have some amount of lower volume across the board, presumably some amount of lower gain on sale.
And you know what.
I think it makes sense that that sort of translates into lower earnings. So I think there their projections are sort of you know just.
A realistic assessment of market, but the market conditions are now versus when they did this exercise previously now.
The thing I'm optimistic about or I think.
There is also.
An opportunity to grow market share right and.
I mentioned it in my comments I think is that.
You know you you've seen you've seen some.
Real pain out there among originators.
And you know it's been an issue of honoring rate locks and things like that so I feel like Lindsey shore has really gone out of their way and they always do to compete.
Put themselves in a way that has a lot of sensitivity to their their clients right mortgage brokers and the ultimate home purchasers that they serve right. So I think that we have a good opportunity to grow market share. So I think.
The overall pie is shrinking a little bit, but I think it's completely realistic and it's our hope and we're going to they're going to work really hard to achieve this is that we can get a little bit slice of a bigger slice of the pie.
And if I could just add.
We still think they're going to be <unk>.
We are still projecting.
Nice profit not nearly what it was last year, but a nice profit for 2022 still a very decent return on equity in terms of our investment in land sure.
The important thing I think that we're doing the <unk>.
Which we kind of alluded to earlier was that.
Where we're trying to buy as much from them on a forward basis to kind of remove.
The.
Hedging complexities.
And other kind of pipeline.
Potential pitfalls sort of move them over to Ellington financial.
I think it's sort of a more logical place for us to be hedging and taking that risk on the pipeline.
Wine and letting line should just do what it does well, which is to originate product and as Mark said, you know youre going to see lower gains on sale and I don't think thats going to change until the.
The backlog of non QM product.
Some of these weaker hands some of the lower coupon stuff, which is still overhanging the market until that's cleared up I think youll definitely continue to see.
Lower gains on sale in non QM, even for car production, but it's still profitable and we still think they're going to.
Deliver a nice return on equity for us in 2022.
Got it.
Just generally on the resi transition, which seems to have been a sector goldmine, just thinking of that as well.
Bit of an operator a borrower.
It'd probably be more concerned about home price appreciation and I've got to worry more about that exit when I sell the home.
I'm more worried about the cost of renovation given wage and in product price escalation.
It doesn't that.
No it doesn't that market slow too.
Does it even matter for Ellington, given your your size and how do you how do you think about that.
Yes, I would say that.
We haven't seen it slow so there is.
All the housing numbers, you've seen since COVID-19 have been aberrational in the sense. They don't like they don't look like any of the housing numbers for the previous 25 years right like sort of you have last year and a half for going on two years had one sort of housing numbers and then before that you had a different set in terms of.
Warehouses sell versus where they're listed time on the market. So for the residential transition loan originators. What's good about this market is that.
Once they're done with renovations and they list the house for the markets. We're in they're able to sell it very quickly right and when we track very closely and it's something that we review monthly in a lot of detail is where are they selling properties versus what we thought was going to be.
The <unk> value of the property.
Before they are you know when we made the loan right and that involves the rehab columns.
Yeah, exactly and so on that metric was the metric I am.
I'm very interested in tracking monthly sales are going well and the other thing is that time on the market in the markets, where we're on with markets, where we're active is still staying short so we're watching that closely.
Now the other point, you raised which is something.
Working with our partners a lot is supply chain issues and so now what's happened is the.
The way most of them are thinking about renovations is they look at what's available in terms of windows doors, all of that kind of stuff, they're going to need from a lowe's or home depot before they buy a house and before they put together their rehab budgets and that sort of a little bit of a different mindset from what you would have.
A couple of years ago, when they didn't have to worry about supply chain and so.
They've accommodated that I think it constrains.
The scope.
And the how elaborate they can do on the renovations, but they're doing it so they can secure all the materials they need.
When they purchased a house and they don't run the risk of having a house completed except for the Windows and you wait three months for Windows right. So.
Comdata that so that market has is doing very well you know.
Like with all things housing related after a big run up you certainly need to.
You know you you can't normalize that you have to be concerned about you know retracing things, but for now that market has been good I'd say, the only negative and Larry kind of alluded to it is that we have not been able to push note rates on what we buy there.
The same setting.
Rates have been pushed and other sectors Reits, who is our financing costs.
Are going up and they went up 50 basis points you know this week the fed meeting the net interest margin there is coming in a little bit but the financing is good that's probably going to improve.
And I think it's an area, where we have a real opportunity to grow market share by.
<unk> signing up some new partners.
Yeah.
Yes.
We're just a tiny fraction right even though this has been a big growth area for US we are a tiny fraction of.
Big market.
That we think is here to stay right, especially and we could also pick our regions like places like Texas, where we're very active in fix and flip and RTL.
The demographics are great.
As you know.
As Mark said these are while these are short loans right. So in terms of worrying about kind of the terminal value of the collateral. It's just a much shorter timeframe.
These loans are generally less than one year from start to finish.
So yes, we still really like this market than it's been.
From a NIM perspective.
It's been one of the widest areas for us and yes, we will see some compression, but it's a very fragmented market and I think we can continue to grow our market share there.
<unk>.
We are.
We feel good about the credit risk, we're taking because of all those factors the short duration and the.
No.
Just just.
Mostly of short duration and also the other regions that we're focused on.
Got it I appreciate the color.
Yeah.
So we will take our next question from Bose George with <unk>. Please go ahead. Your line is open.
Hey, guys good morning.
In terms of investment opportunities just given the fallout with mortgage originators do you think there's opportunities there to.
To acquire other companies or.
Is the focus more on growing the existing companies taking share.
There probably will be opportunities.
And.
I wouldn't say we're.
Very far advanced on anything at this point, we certainly are showing things.
But.
I think we're.
If I had to predict I would say.
Just focusing on.
On the companies that we have and where.
If anything maybe hoping to pick up some teams and some personnel or branch offices wherever it may be from some of the companies that may be struggling here.
Okay that makes sense. Thanks, and then actually on the Longbridge MSR did you guys see to a negative mark and I was wondering what drove that.
Just curious what drove that yeah, so whats been.
Driving that what drove the negative mark on the Longbridge MSR is continued widening.
In the ACA market so.
The.
The MSR a lot of the value of the MSR. Some of it's from just a straight servicing strip.
But where you would expect that prepayments would slow and therefore that aspect of it with increase in value as rates go up by a very significant value is from the so called tail, where the <unk> servicer has the right to basically.
Fulfill the draw requests of the borrower on the Undrawn amount of the <unk> and basically your profit.
When you do a fund those additional draw request, it's going to be a function of what price you sell the Ginnie Mae in the open market. So as the Ginnie mae's have widened and therefore theyre. So prices have dropped that basically compressed gain on sale.
These tail drawings.
So on.
Unfortunately, it's not a very hedgeable risks theres no TBA market.
For for outcomes, so, we longbridge and therefore, we indirectly or kind of riding that up and down over time, a down recently based upon some widening in the hypermarket.
Okay, No that makes sense and then just when the Longbridge deal. After it closes have you decided how you're going to report that just given the consolidation of Securitizations and you know I guess that inflates your balance sheet.
Sure. So it's a work in progress and the timing of the consolidation will depend on when the transaction closes. So if it closes prior to June 30.
Consolidation.
Financial finished financial statements woken.
We'll start on Q2.
And I think the the tentative plan is well certainly be reporting.
Detail on Longbridge itself and their continued UFC portfolio, probably in a segment type of format.
Okay, great. Thanks, and if you look at long Brexit just balance sheet Youll see that there is one very large asset and one very large liability basically.
That represent the underlying loans.
And the Ginnie Maes that had been issued and the Ginnie mae's themselves on the liability side.
And so.
We certainly would encourage people to when they think about.
The consolidated entity to look at the net of those two.
In terms of really the MSR representing.
Representing the MSR.
Thats retained from those Securitizations.
Then.
And then the balance sheet will look like if you're a fraction.
What for GAAP, It's it's gonna look like.
Yeah, Yeah, yeah, it makes sense great. Thanks.
We'll go next in Macau Guberman with JMP Securities. Please go ahead. Your line is open.
Hey, good morning, guys good morning.
For me.
Where are you seeing loan rates on newly originated loans in.
How much would you expect higher rates impact our non QM volumes over the remainder of this year.
Okay.
Sure so thank.
Thank you for your question.
Non QM.
Now most of the production is somewhere between let's say six five and 7%.
It depends obviously on.
Type of loan it is and you know borrower credit attributes, but it's sort of somewhere in that range and so in regards to how it's going to impact volume I think it's hard for me to say now because you really only have you know six weeks or seven weeks of data from the substantial.
Higher rates.
<unk>.
So far the volumes are holding up well, but it's always hard for me to tell is that reflective of the overall market.
Sure.
Is that also some component of us gaining market share or losing market share and I think in this market. It's like that we're gaining market share because they do think relative to some of the competition. We have been sort of a steady hand at the wheel in terms of.
Linear in terms of servicing its clients. So I mean, I think it's natural that volume should come down a little bit you know home prices are up rates or higher rates are much higher payment.
Discuss that before but you know so now things are holding up and I think given where things are now youre looking at note rates somewhere 6.5% to 7%.
The one thing I think is possible that we and it sort of came up with the.
A question that Eric Eric asked about securitization spreads that you've seen securitization spreads come in so theyre definitely tighter than where they were in <unk>.
March I think March was kind of the wides and they're tighter even on the sort of same note rate loans. So the market has a better tone.
Buyers are showing up in bigger size for securitization.
And a lot of the nowhere lower note rate loans that were probably you know originated or locked.
No.
In Q4 of last year or the first month to month this year before rates really moved.
A lot of that risk is already been distributed there is certainly more to go but we're well into that process I think we're well over 50% done with that process. So one thing you could see is securitization spreads tightened and non QM note rates come in a little bit without sort of a corresponding.
Change in sort of 235 year treasury yields, which I think that would be that would be.
That'd be sort of a.
A little bit more constructive note rate for volumes.
Yes.
I could just add mark so first of all what big difference right between agency volumes in non QM volumes did not drive the arms are already that market's already primarily a purchase market right.
So.
As opposed to the agency market.
Which.
Until recently of course was a vast majority of refi market.
The drop in volume that you're going to see.
<unk> is.
A lot less.
And non QM or the other thing I would say it was with the curve a lot flatter.
And.
And given the share that certainly the short term dynamics of what's going on Nokia Alcatel Nokia market I think that the.
Youre going to see.
7% note rates real soon yes, the market is always a little slow to react.
A little bit of time, but I think 7% note rates is given where yields are right now in the market.
Treasuries et cetera, I think that's I think we're going to get there pretty soon.
Great. Thanks, a lot and if I can just squeeze in one more would.
Would you expect additional unrealized losses on the originated investments.
In the second quarter based on how rates have moved.
Yeah, I would say in the case of land assure I would say not necessarily now I think in the case of it's hard to know.
But I think in the case of Longbridge.
Given again, some weakness in the ACA market I think we could see yes, we could see a.
Further unrealized loss there, but we think that long term spreads will.
Revert.
But about a mark to market basis, Yes, I do think so.
From the MSR origination platform is still extremely strong.
Great. Thanks, a lot have a great weekend.
Thank you too.
And that was our final question for today, we thank you for participating in the Ellington financial fourth quarter 2022 earnings Conference call. You may disconnect. Your line at this time and have a wonderful day.
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