Q4 2022 MFA Financial Inc Earnings Call
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Yeah.
Yeah.
Ladies and gentlemen, thank you for standing by and welcome to the F. A financial announcement fourth quarter 2022 earnings call. At this time all participants are in a listen only mode. Later, we will conduct a question and answer session with instructions being given at that time.
If you should require assistance during the call you May Press Star, then zero and an operator will assist you offline.
As a reminder, today's conference is being recorded I would now like to turn the conference over to our host Hal Schwartz. Please go ahead.
Thank you operator, and good morning, everyone. The information discussed on this conference call today may contain or refer to forward looking statements regarding MFA financial Inc, which reflect management's beliefs expectations and assumptions as to Mfa's future performance and operations. When used statements that are not historical in nature, including those containing words such as.
We will believe expect anticipate estimate should could would or similar expressions are intended to identify forward looking statements. All forward looking statements speak only as of the date on which they are made these types of statements are subject to subject are subject to various known and unknown risks uncertainties assumptions and other factors, including those described.
<unk> annual report on Form 10-K for the year ended December 31, 2021, and other reports that it may file from time to time with the Securities and Exchange Commission. These risks uncertainties and other factors could cause mfa's actual results to differ materially from those projected expressed or implied in any forward looking statements that it makes.
<unk>.
For additional information regarding Mfa's use of forward looking statements. Please see the relevant disclosure in the press release announcing Mfa's fourth quarter 2022 financial results. Thank you for your time I would now like to turn this call over to Mfa's, CEO and President Craig Knutson.
Thank you Hal.
Good morning, everyone and thank you for joining us here today for MFA Financial's fourth quarter 2022 earnings call also with me today are Steve <unk>, our CFO , good monitor Christian and Brian Wilson, Our co chief investment officers and other members of senior management.
The fourth quarter of 2022 was yet another wild rod to punctuate what was one of the most difficult years ever for fixed income and the mortgage market in particular rates ended the fourth quarter only slightly higher than they were at September 30, but the passenger anything but straight two year treasuries began in the fourth quarter at <unk>.
428, and sold up to $4 72 in early November before rallying back to close out the year at $4 43. After beginning the quarter at $3, 83% 10 year Treasury has had a high for the year were $4 24 in late October before rallying back in the year almost unchanged at 387 this volatility in the rates market.
Wreaked havoc in the mortgage market with agency mortgages widening out in late October so the widest level since the great financial crisis.
Our MBS securitization markets, while technically not closed we're quite dysfunctional with AAA cash flows widening even more than agency MBS spreads.
Is breathtakingly bad as 2022 was for fixed income and mortgage participants it was not a total surprise to us at MSA on our fourth quarter 2021 earnings call a year ago, I stated that we expected ongoing rate volatility with inflation raging at the time the fed on the move and it tends to geopolitical.
On our first quarter 2022 earnings call I remarked, how similar 2022 fell to 1994 when the fed raised rates six times for a total of 250 basis points now we certainly did not have a perfect crystal ball, but we began preparing for 2022 in late 2021.
And we took additional steps early in 2022 to prepare for higher rates as market expectations changed in 2022, we took further action to protect MSA from market forces, we had $900 million of interest rate swaps on at year end 2021.
And this is one market expectations by the way where for 325 basis point fed funds increases during 2022, it seems like a long time ago.
We increased our swap book the $2 4 billion by the end of the first quarter of 2022 and to $3 $2 billion by the end of May at the same time, we continued to execute securitizations throughout the year, despite higher rates and higher spreads on the rated securities that we sold there were numerous occasions during the year when we priced the sick.
<unk> and we were somewhat disappointed with our execution in a week or two later ecstatic that we had printed the deal when we did the securitization complemented our interest rate swap positions by effectively fixing our future funding costs and at the same time reduce our exposure to margin calls on repo and warehouse funding or <unk>.
Management of Mfa's funding cost historically evident when you look at our cost of funds, particularly in the fourth quarter of 2022, we stated on our third quarter earnings call that 99% of our asset based financing costs were effectively fixed either through securitizations or interest rate swaps our cost of funds in the fourth quarter.
<unk> was three 7%, which is only 10 basis points more than it was in the third quarter and this despite the fact that the fed raised rates, a 125 basis points in the fourth quarter and 200 basis points since their meeting in September .
Many others in our space. So our funding cost increased by 100 basis points or more in the fourth quarter and in fact, our funding costs were only 32 basis points higher than the fourth quarter than they were in the second quarter and the fed raise rates by 350 basis points between June <unk> and December 31.
As a result of when we entered into our interest rate swaps, our weighted average fixed pay rate was $1 69 at December 31, given the current level of sofa, our interest rate swap book now generates a positive carry of close to 300 basis points and this positive carry will increase further as fed funds rates increase further.
Finally, we added as we added assets that increasingly higher yield our net interest spread has increased in both of the last two quarters.
Our book value was down very modestly in the fourth quarter and was down a little over 20% for the year and our economic return for the year was down 13% on GAAP and 16% on economic book value. While this is a disappointing result for MFA, our proactive hedging and liability management limited the book value decline.
Others saw declines in book value for the year of between 30, and 50% and economic returns for the year down 25% to 40%.
And it's important to note that our book value decline is overwhelmingly due to rising rates rather than to weakening credit fundamentals. In fact, our loan portfolio is marked at $732 million below par or $7 19 per share now to be fair. Our securitized debt is also marked below par.
368 million or $3 62 per share.
But netting the two and assuming that our loans pay off at par and that we pay off our securitized debt at par we have a potential upside in our economic book value of $3 57 per share.
Page eight of our earnings deck lays out this case together with the strong credit fundamentals that support the loan portfolio.
So looking ahead to 2023 this year has been anything but boring thus far rates rallied through the month of January as bond market participants became more and more confident that inflation trends were improving and expectations of further fed tightening diminished agency mortgages looked attractive, particularly on a historical basis.
At the end of January the Fed announcement and press conference on February one provided further fuel to this Doug rally.
Then queue up the January employment report, which came out in early February followed by Hutch, CPI and retail sales numbers and the bond rally suddenly became a bond route and we are back near November highs on treasury yields and once again, we learned that mortgages can look cheap, but that doesn't mean, they can't get cheaper.
Credit markets have been considerably more constructive thus far this year with securitization spreads at least on triple as over 100 basis points tighter than they were in November after printing just one securitization of $235 million of loans in the fourth quarter, we've already executed three securitizations in 2023 and <unk>.
Total of over $650 million of loans not only were these spreads tighter for these deals but they were priced before the recent selloff in rates.
It seems clear to us that the fed is needed a certain about the magnitude of further rate increases nor clear on how long they will need to hold rates that restrictive levels in order to break inflation, but it is pretty clear to us that the game is not over we can debate whether or not we're in the middle innings, but we're definitely not in the ninth inning.
Our rate strategy remains in place as it has been since the second quarter of last year. We will continue to prioritize liquidity will continue to securitize loans and will adjust market pricing and yields on our asset purchases to conform to market rates and funding costs.
Finally, I'd like to talk a little bit about housing and residential mortgage credit clear.
Clearly the selloff in rates and widening mortgage spreads has had a profound impact on mortgage rates and housing activity has slowed dramatically. We're beginning to see some modest home price declines at least month over month in some parts of the country. After the dramatic home price appreciation over the last two years this should not be a surprise to anyone however.
As we again show on page eight our loan portfolio has considerable embedded HPA, which combined with amortization has lowered the current ltvs in most cases to the mid fifties and.
In addition, delinquency trends have continued to improve across our portfolio.
I'd like to turn the call over now to <unk> to talk about our portfolio activity and we move one.
Thanks, Craig.
Let's turn to asset acquisitions.
The combination of higher rates and our unique ability to source business purpose loans and non QM assets allowed us to add high quality credit investments at coupons, we've not seen in a long time and perhaps never in the fourth quarter.
The average coupon purchased loans of about nine 5%.
To put that into perspective, the average coupon on loans at it was over 140 basis points higher compared to Q3, 2022, and about 100 about 440 basis points higher than Q4 2021.
Importantly, the credit quality of our acquisitions remains excellent with average LTV of 65% and average FICO of about 740.
We acquired $481 million of loans in the quarter and continue to find the best opportunities and business purpose loans originated by Lima, one where we're sourcing these asset substantially below the cost of purchased from third parties and can efficiently control the credit process.
These accounted for about 80% per loan acquisitions in the fourth quarter with the remainder being selective acquisitions of non QM loans.
2022 was the first full year of <unk> operating under Msas ownership at the year when Lima emerged as a leading nationwide BPL originator with strong origination volume excellent credit performance and prudent underwriting.
Lima originated a record $2 3 billion in 2022, a 42% increase over 2021 and showed its importance to msa's balance sheet as Lima, one originated loans accounted for about two thirds of MSA loan acquisitions in 2022.
The progress made in 2022 was due to clear strategic planning a great human resources.
Collaboration between a talented and creative teams at MSA and Lima have yielded tremendous benefits and the teams have worked tirelessly to execute our strategic vision in the BPL space.
I believe we are just getting started and the market volatility over the last 12 months and going forward past and will continue to create opportunities for Lima to grow market share and a detailed space.
<unk> has many strengths key among them is our strong focus on credit quality and risk management, which combined with a disciplined underwriting and in house servicing in construction management teams.
It's a very low delinquency levels on our Lima, one BPL portfolio.
<unk> has about which has about two.
It's under 2% of 60, plus day delinquency as of December 31.
In addition, lemus origination does not have access if geographic or borrower concentrations no state makes up more than 15% of our <unk> business purpose loans and no borrower exposure is more than 2% of our Lima <unk> <unk> portfolio.
Another important strength is Lima is broad product offerings for both short term and long term financing solutions to experienced real estate investors, which allows us to maintain strong origination volumes through various economic and interest rate cycles.
One area, where the benefits of our collaboration has been very visible has been the securitization of our business purpose loans.
And they had securitized over $1 4 billion of Lima, one originated loans since our acquisition in the middle of 2021, we.
We had securitized, both short and long term business purpose loans and created a differentiated platform origination servicing asset management and risk retention are all under one roof.
This control over the credit process and alignment of interest has resonated well with bond investors and helped us in closing our second transitional loan securitization of this February which was the first marketed transitional loan securitization in over six months.
The securitization of non rated and this market has effectively been closed in the second half of 2022 as spreads blew out great credit to our team to get this market reopen and execute swiftly as rates and spreads declined in the beginning of 2023.
We securitized about $150 million of transitional loans and now have over 400 $400 million of these types of revolving securitization notes then.
Throughout 2022, we're focused on the impact of higher rates tighter monetary policy potentially softer economic conditions on our portfolio.
To address those risks, we tightened underwriting standards increased risk based pricing adjustments and loan coupons in general throughout last year.
As a result, we saw loan demand softening towards the end of last year with leave US Q4 origination volume down about a third to $406 million.
We expect Q1 origination volume to remain soft, but are bullish on BPL origination volume for the remainder of the year and expect origination volumes to trend higher throughout 2023 as market volatility and higher financing costs at our Lima, one to grow market share.
We continue to be focused on liquidity and availability of financing to support our BPL origination and to that end, we expanded our RTL warehouse financing capacity the $100 million in the fourth quarter and by another $200 million so far in 2023.
I will now turn the call over to Brian Wilson, who will discuss MSA securitization activity and portfolio credit performance in more detail.
Thanks, Good Monday.
2022 proved to be a challenging year in the market for securitization issuance.
MSA successfully navigated those conditions issuing $2 3 billion nonrecourse securitized debt through nine securitizations across our different loan types.
We were very active in issuing over the first three quarters of the year and that aggressiveness allowed us to be patient in the first quarter issuing only one additional securitization while the spread to treasuries on AAA bonds move back to the wide for the year of around 275 basis points for.
For reference AAA spreads on non QM and <unk> started 2022, and the low one hundreds and moved higher throughout the year with.
With only a short respite in this summer before pushing wider again.
Patients exhibited in the fourth quarter paid off early in 2023 as spreads on AAA tightened in over 100 basis points and we have already issued another three securitizations totaling over half a billion dollars in bonds sold.
We will continue to be a regular issuer in the market as we believe non mark to market securitization financing provides significant benefits to our portfolio.
Moving to our credit performance.
2022 marked a positive year credit performance for the portfolio.
<unk> on our purchase performing portfolio improved to 3% from four a year prior.
The percentage of loans 60, plus days delinquent in December remained stable for the non QM and thats far portfolios between 2% and 3%.
Transitional loan portfolio improved further to 5%.
And the <unk> portfolio exhibited 17% 60, plus with over 40% of those delinquent borrowers making payments.
Yes.
And the portfolio of loans purchased as Npls, we had 41% the remaining loans 60, plus days delinquent however, 31% of those borrowers are making payments.
We once again had a successful quarter liquidating properties from the Oreo portfolio.
Over the quarter, we sold 83 properties for $29 million, resulting in $7 4 million in gains over the for the full year, we sold 416 properties for $134 million, resulting in $29 million in gains.
We remain focused on our remaining nonperforming loans as momentum has shifted and home prices our asset management team is working to make sure our timelines to resolution remain as short as possible as protracted timeline can be costly.
As a mitigate to extended timelines our portfolio maintained a low LTV aided by the significant HPA experience over the past two years, which helps limit potential losses.
We're all we believe the credit in our portfolio is well positioned for the current uncertain economic environment.
And with that I will turn the call over to the operator for questions.
Thank you, ladies and gentlemen, if you wish to ask a question. Please press one then zero on your telephone keypad repeating the one zero command will remove you from the queue and we ask that you pick up the handset if on a speaker phone.
Once again for questions. At this time you May press, one then zero.
One moment for our first question.
Our first question will come from JMP Securities in the line of Steve Delaney. Please go ahead.
Good morning, everyone. Congratulations on a strong close to 2022.
Again, we look at Hey.
Hey, Hey, Craig how are you Matt.
So if you look at the 48%.
Distributable.
In the quarter, obviously, a big improvement from third quarter of 2008.
I'm trying to look at it and put it in more about.
Not just quarter to quarter, but look at it.
As a distributable return on your economic book value and that puts us annualizing. The 48 at around 12 to 12, 5% rate.
As you know your business better than anybody do you see that as a reasonably sustainable level.
Does it reflect the kind.
ROE that you are seeing in your current securitizations in the deals that <unk> talked about in the first quarter of 'twenty three are they being executed with returns that are consistent with what you put up in terms of an economic.
Our distributable return on economic book value in the fourth quarter. Thanks.
Sure. So I think the 48.
Was influenced by a couple of things that I'll, let Steve address and then maybe.
Or Brian can talk about sort of the static ROE on the Securitizations that the most recent securitizations that we've done.
That'd be helpful.
Definitely.
Okay. Thanks, Dave This is Steve yard.
The sense that we put up in the fourth quarter. It did have the benefit of some large items that occurred in the fourth quarter that.
With Lumpiness early recurring in future periods.
On the interest income line news and MSR note redemption that did add seven $8 million to the net interest income for the fourth quarter and we have had.
Was that 787, yes.
We have never had these types of redemptions in the past, but that portfolio is a lot smaller now than it was a year or two.
We also had a couple of large payoffs of delinquent loans that added about another $2 5 million to net interest income.
The first for the fourth quarter on the <unk> side, we have Oreo gains consistently as Brian mentioned that we did have a particularly large one in the fourth quarter. It added about $2 9 million on the liquidation of that Oreo property and Thats as I said, we have liquidations routinely but that was a particularly large one it wouldn't necessarily.
A single property to have that level of gain in any individual quarter and finally, we talk about this a little bit in the press release.
<unk> expenses.
Sensation benefits number in that G&A was about $4 million lower this quarter than at a regular run rate.
And that was due to the finalization of.
Sameer and bonus accrual.
At MSA in Atlanta, one and also as <unk> alluded to.
Origination volume Atlanta was a little lower than the previous quarter and that had an impact on commission expenses that the sales reps get pilot Leymah sounds a little lower on that side as well.
Great.
Very very helpful for us to try to.
Just to something of a more normal run rate type of type of number. So thank you for that detail.
No.
David just to kind of start talking a little bit about our returns on investments in general our approach obviously.
As you are acquiring loans and adding any new assets is to do it at a level, where we can execute securitization.
Double digit returns low to mid teens, so to speak and so that factors in the time. It takes to aggregate loans have them on warehouse that had some things of that nature and just for simple math I mean.
If you think about it as you put it as you said it in the press release the loans originating at Lima one.
Are coming in around 10% coupon or a little over 10% in the pipeline. Currently so just the the equity piece of that earns about 10%. So as we do the securitization with leverage that gets us into that kind of mid teens range and so what we are targeting are seeing is that on the on that.
Transitional loans.
Whether it's warehouse execution of securitization the returns on equity are about kind of mid to high teens returns and then on the kind of the single family rental in the non QM in general, it's probably kind of low to mid teens.
Row execution in terms of whether it's on warehouse or securitization execution.
That's very helpful. Okay. Thank you. Thank all of you for your comments I appreciate it.
Thanks, Steve.
Thank you then next from Credit Suisse, Doug Harter Your line is open.
Thanks, Goldman hopefully I was hoping you could give me a little more clarity on one of the comments that you made about the cost to originate at Lima won versus the cost to acquire kind of in the third party, hoping you could put some details around that comment.
Yes. Thank you. Thank you for your question.
I think simplistically, if you are acquiring loans from third parties.
You are paying premiums for those loans, whether those are longer to rest of loans or <unk> loans. So.
Your returns are your yield is going to be lower than the coupon that you're adding on your balance sheet and that can vary depending on market conditions, but that order of magnitude can be.
As high as 200 basis points lower than where you can create it yourself and then.
Running Lima is not three when people working there.
So that nature, but they collect origination fees.
Other fees as it relates to the origination activities and the goal of the way we run the business is to largely.
Have those fees in an accelerating origination fees kind of offset the cost of running Lima to try to create the launch for us as close to quote cost as possible, which then has a significant boost in terms of the returns that we have the whole thing and creating these these loans on our balance sheet.
Got it and just to be clear I guess.
Relative to that goal kind of given given where volumes are today and then I guess what are your expectations for volume.
Sorry.
Okay.
Youre cutting off a little bit in the beginning could you repeat the question.
Sure.
Where are you today on current volumes on that goal.
Having the origination fees kind of cover the costs and then what would your expectations be for volumes this year.
Yes, I think so.
So in 2022.
Kind of early mid year, we were on track to have that kind of offset each other in the long run as volumes are increasing and we're gaining efficiency as you moved into kind of Q4 and Q1.
Alluded to volumes came down a bit right and so as that happened.
Robley running in excess in terms of cost versus.
The income is coming in from the origination fees, but we think that as we head into 2023 that will kind of even itself out because we're already seeing our pipeline increasing.
And expect volumes to pick up throughout 2023, and one of the reason why we're particularly bullish on that product is not necessarily the fact that we think that market is going to necessarily expand dramatically from a borrower demand while we see Lima continued to gain market share as the volatility in 2022.
And increases in financing costs in 2022 and into 2023 puts a lot of pressure on weaker originators that have.
Our thinly capitalized where we're highly dependent on cheap money and leverage to make the business work and as that is happening we have been able to take market share and attract.
The better borrowers and the higher quality borrowers and therefore, you see for example, the delinquency performance in our portfolio.
Essentially stronger than other players out there and so I think those things will also benefit us tremendously in 2023.
Sure.
Great. Thank you for the moment.
Thanks, Doug.
Thank you next from K B W. Bose George Please go ahead.
Hey, guys. Good morning, So just wanted to follow up on Steves question on return how does it return to look on your in place portfolio, just curious youre correct.
You are correct that portfolio.
Okay.
Good luck.
So I guess you could look at the.
You can look at the asset allocation table that's in the in the press release.
Right and that will break out.
The bottom will show yield on average interest, earning assets and average cost of funds that I referenced.
Three seven.
<unk> had only increased by 10 basis points, but.
That will break it out, but basically by product type.
And then we have the leverage number there as well.
Yes, I guess I get that.
Doesn't capture fee.
Is the accretion rate I mean, because you also have the discount securities that will be rolling back into your ROE right.
The $3 plus that you referred to it in terms of the discount in your portfolio.
Well, yes, they do but that's really a book value thing right.
And and yes, it will flow through GAAP earnings, but for distributable earnings that we're going to back out any of those unrealized gains and losses. So that's really.
That $3 number is really a book value potential.
Potential accretion.
Yeah.
If we get back par on the loans that we pay all the securities.
The securitized debt off at par.
That's the upside.
Because even though the rates on those mortgages might be below market people still have to pay them off at par.
Take longer to get park than we thought originally but they still get paid off at par and obviously any amortization that comes through come through at 100 cents on the dollar as well.
Yes, no that makes sense, yes, just trying to think of the sort of the economic returns at the portfolio generates.
Sure.
And then also I didn't know if you said this but what's the book value.
Does that stand quarter to date.
So I know what it was at the end of we have the number at the end of January it was up about 7% to 8% in the month of January but I would have to expect given what rates have done in February that we've given a lot of that back in February but we don't have an up to date number on that.
But that was a good January number okay. Okay, great. Thanks.
Sure.
Then next from B G.
Please go ahead.
Hi, Thanks, Good morning, Hope all is going well I think I've got a few of our.
And looking at the non QM portfolio and the fundamentals, maybe what the loan level.
What would you say is the bull case there.
Especially relative to a Levered agency strategy.
Like even what are the prepayment speeds on the non QM portfolio.
Loans are being priced too is there any room for that to get pulled forward.
Another one on non QM is.
Last year was characterized by sort of older non QM loans getting securitize it looked like Aggregators were.
Kind of squeezed there, but how does that compare to returns on freshly originated non.
Non QM and securitized non QM.
And then one more in the non in the nonperforming loan portfolio what are the.
Solutions to speed up the timeline to resolution like you mentioned like.
Can you share how youre also financing the NPL portfolio right now.
Thanks for the series of questions. Thank you.
Yeah sure in terms of like non QM versus agency I guess over the past year, we've seen.
Relating to speeds and alike agency speeds have dropped probably a little bit more significantly than the non QM.
As the non QM borrower still may have an opportunity to get a conforming loan if there.
They are able to cobble together the documentation to qualify for that type of mortgage so we've seen on our portfolio over the last quarter the speeds dropped but it was still sort of seven <unk>.
CPR, where you could see.
On the all the out of the money sort of agency book might have been closer to four.
Speeds.
Still have that sort of the natural turnover rate is expected to be a bit higher.
Moving to sort of like you're talking about old returns versus new returns.
On the non QM.
Opportunities out there spreads are close to sort of $3 50 to 400, depending on speed.
Given rate volatility prices for non QM loans in pools out for bid or somewhat close to par given that sort of the range of outcomes because there's so much uncertainty around rates is pretty high so that naturally has given the availability of spreads to stay at that at that high level.
There is still potential for those returns because as we've seen.
<unk> alone is probably $3 50 to potentially 400 on the on the new loans in securitization right spreads are in the AAA is around the 150, <unk> and double as in single as and the lower 200, Theres still a fair amount of.
Excess spread there on newly originated loans to clip that that mid sort of low to mid teens ROE that good Monday mentioned, a few moments ago.
And relating to our nonperforming book I mean, we're doing everything we can to make sure that timeline stay short and that goes back to sort of our experience with these loans over the past seven years, and we've built out sort of.
Really good network.
The Servicers that we work with we have in house people that are dedicated to foreclosure and bankruptcy situations. We have asset managers that have been doing this for many years and we sort of think we are probably better than most at making sure that timeline don't <unk>.
And this portfolio remember, we haven't added loans to this portfolio in a while so if you look at the geographic concentration of the portfolio shifted more and more towards the judicial states, where there has been just in general are longer timelines, but eventually you reached the end of those timeline. So we're getting closer.
And you can still see we've had a lot of activity move.
Moving loans into oreo or or or.
Lot of times, we just end up getting full pay off because of the equity position and the LTV situation on any given month.
Yes.
Helpful. Helpful perspective, Thank you guys very much.
Sure.
There are no other questioners in the queue at this time.
Okay. Thanks, Paul So I want to thank everyone everyone for their interest in MFA financial and we look forward to our next update when we announce first quarter results in may.
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