Q4 2022 ARMOUR Residential REIT Inc Earnings Call
Good morning, and welcome to armour residential REIT fourth quarter two earnings conference call.
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I'd now like to turn the call sort of Armours, Chief Financial Officer, Jim Mountain.
Please go ahead.
Thank you Anthony and thank you all for joining our call to discuss <unk> fourth quarter 2022 results.
This morning, I'm joined by Armours Co Ceos, Scott, Ulm, and Jeff Zimmer and Mark Gruber, our CIO.
By now everyone has access to Armours earnings release, which can be found on Armours website, www armour REIT dot com.
This conference call includes forward looking statements, which are intended to be subject to the safe Harbor protection provided by the private Securities Litigation Reform Act of 1995.
The risk factors section of Armours public reports filed with the Securities and Exchange Commission describes certain factors beyond our control that could cause actual results to differ materially from those expressed or implied by these forward looking statements.
So it's periodic filings can be found on the SEC's website at www Dot FCC Dot Gov.
All of today's forward looking statements are subject to change without notice, we disclaim any obligation to update them unless required by law.
Also today's discussion refers to certain non-GAAP measures. These measures are reconciled with comparable GAAP measures in our earnings release.
An online replay of this conference call will be available on Armours website shortly and.
We will continue there for one year.
Armours Q4 comprehensive income available to common stockholders was $39 $5 million.
That includes $39 $4 million of GAAP net income.
Net interest income was $11 $6 million and net interest margin for the quarter improved 38 basis points to 259%.
Distributable earnings available to common stockholders was $38 $8 million or 27.
For common share.
This non-GAAP measure is defined as net interest income plus TBA drop income adjusted for the net coupon effect of our interest rate swaps minus.
<unk> net operating expenses.
Armour paid monthly common dividends of <unk> 10 per common share during the quarter and it has paid dividends at that rate since January .
Oh, right hand has announced dividends at that rate for January 23, 2023 and February 2023.
Yesterday, we announced an adjustment to our dividend rate to eight per common share monthly.
As we have discussed in our previous calls our aim is to pay an attractive dividend that is appropriate in context and stable over the medium term.
We keep a keen eye on economic conditions and the armor Board believes that this dividend rate achieves those objectives.
With this dividend declaration lifetime cumulative common and preferred dividends are approaching $2 $1 billion.
During the fourth quarter, we purchased 449700 shares of our common stock at an average cost of $5 one per share under our standing repurchase authorization.
On the sales side, our common stock ATM program has been very successful during the fourth quarter, we issued $30 million 721405 shares raising $174 2 million of capital after fees and expenses.
That represents an average net blended price of $5 67 per share.
So far in Q1 2023, we've issued approximately 29863 or 29.863 million shares raising net capital of $181 3 million.
This represents an average price of $6 seven per share.
This brings our common share count to 192.774 million 581 shares.
Representing a common share market capitalization of over $1 $1 billion based on last nights closing market prices.
In addition to providing capital to take advantage of appealing current investment opportunities share issuances build a larger base over which to spread our mostly fixed running costs.
Our book value at quarter end was $5 78 per common share.
Our most current available estimate of book value is as of Monday Night February 13th we estimate that our book value was $6 four per share after providing for the February dividends.
We finalized our tax projections for calendar 2022, and as expected all common stock dividends and series C preferred dividends were treated for federal income tax purposes, as a return of capital and are not currently taxable.
This is comparable to 2020 one's tax results.
Looking forward to 2023, and we expect that the series C preferred stock dividends.
We'll likely be treated as fully taxable ordinary income to those shareholders. We also expect common dividends for 2023 will likely be treated at least partially as taxable ordinary income.
Now, let me turn the call over to co Chief Executive Officer, Scott home to discuss Armours portfolio position and current strategy in more detail Scott.
Thanks, Jim.
While 2022 marked an all time works here for total returns on U S treasuries and agency mortgages since their inclusion in fixed income indices several trends beginning in the fourth quarter and extending into the new year. It gives us optimism that 2023, we will see a very constructive environment for MBS and our investment strategy.
MBS volatility, which was exceptionally high in 2022 is declining while the fed seems by no means to be at the end of rate increases the size does matter and we should eventually see a more stable rate environment. We also expect the economic and rate environment to continue to moderate the supply of mortgages.
Importantly, the unprecedented decline in bond prices generating incredible values as measured by zero volatility adjusted MBS spreads, reaching just shy of 150 basis points.
Spread levels not observed since the great financial crisis of 2008 nine.
While spreads have tightened driving our book value, we continue to see an attractive investment environment.
The new investment opportunities armored purchased over $3 billion of MBS pools, and TBA positions in the fourth quarter of 2022.
$2 2 billion in MBS at 100 and $800 million TBA.
Armour continue to grow the portfolio in 2023, with the addition of $5 $9 billion of MBS.
Divided $4 $9 billion of MBS at $1 billion of TVN.
As of February 13th Armours portfolio sizes over $12 3 billion.
Arbor supported the new purchases through our ATM share issuance program raising over $345 million of capital since the third quarter of 2022.
The MBS assets, we purchased are concentrated in the most liquid low premium bank service production coupon MBS pools.
We believe these pools will benefit the most as volatility eases from its recent highs and revert to historical norms.
Investments also reflect historically low prepayment risks as the MBA refinance index has fallen to its lowest level since the 19 nineties.
Farmers average prepayment rate for all MBS assets for the fourth quarter of 2022 was $4 three CPR and just three seven CPR so far in 2023.
Although mortgage rates have already declined from the recent highs of seven 2% in early November 2022% to six 3% in mid February 2023.
Sampsell refinance wave would require mortgage rates well below the four 5% to provide approximately 20% of existing borrowers with enough incentive to prepay gorilla.
Harbor maintains very healthy levels of available liquidity, our total leverage closed the year at six eight times and currently sits at eight times, providing us with room to increase our investment portfolio size as future opportunities come along.
Armour continues to fund just over 50% of borrowings through our broker dealer affiliate Buckler Securities.
The overall increase in market volatility agency repo funding remained on a strong footing throughout the quarter with spreads.
10 to 20 basis points above the stove for benchmark.
Weighted average haircut on our repo book remained exceptionally low at three 6% of years adds with numbers.
We see leveraged and hedge returns in the current market in the low to mid teens.
We're prospective investments as well as the card book a substantial amount of yield is provided by hedges.
Nonetheless, we have always viewed our investment book is holistically comprised of MBS and related hedges.
As we've always noted we set our dividend would be appropriate for the medium term earnings available for distribution of moderated and we feel it is appropriate to reduce our dividend by <unk> <unk> to <unk> <unk> per month, we will as always continue to evaluate the level of the dividend. We're also mindful that this environment could deliver upside surprises as well they can move our metrics substantial.
We'll now open the line to questions.
We will now begin the question and answer session.
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At this time, we will pause momentarily to assemble our roster.
Our first question will come from Doug Harter with Credit Suisse. You May now go ahead.
Thanks, a lot.
I was hoping you could talk about where you see available returns on incremental investments and just help.
<unk> put the new dividend in the context of <unk>.
Those returns rather than.
Rather than in.
Perspective.
Good morning, Doug It's Jeff here good morning, Thanks for calling in.
Billable returns are in the 14% to 16% area.
Some of that supported by.
Neither new marginal investments of course.
Supported by swaps are still positive you swap you're actually getting paid so.
Back looking back two years ago.
You paid.
On a swap and it may have been detrimental to your earnings capabilities will now the swaps that we have in swaps, we put on our own.
Incremental to the earnings and that is a benefit to shareholders. So we pay that out $6. A share you got about a 16% payout right now we think that's appropriate based on the book that we have and where we've been able to invest I think as Scott stated 150 basis points, just a nominal spread.
Most as good as it gets and I think in October we might spike that to $175 million 80 for a very short period of time, but these are the best investment opportunities.
We've seen it a long time and we're <unk>.
The investments with their new capital and paying that benefit out to shareholders.
Okay.
And then just on expenses.
Can you talk about one of the rationales her for using the ATM.
Kind of spread the expense base.
You know I guess, if I look at the operating expense as a percentage of equity, it's actually been going up over the course of the year.
Since the management fee is.
Doug are you there.
Yes, we lost chip.
Well, let me try and jump in and look.
Didn't get back Doug.
His lifetime silent.
Once you go ahead Jim.
Our well will pick up.
Answer on replay.
Sort of the way we look at expense.
And the ATM.
When we look at the <unk>.
The dollar difference between net landed proceeds and recent.
<unk>.
Book value that we actually used to.
The ATM program for.
The full year.
That dollar difference that we disclosed in the 10-K is about $9 $5 million. If you divide that by ending share count at the end of the year of.
About 163 million shares you get six cents a share.
Sure.
The $6 ending share price, that's kind of 1% ish, but.
If you look at running costs for 2021 divided by ending shares.
<unk> 37, a share ending the running cost for 2022 divided by ending share at <unk> <unk> a share so <unk> 14 per share pick up.
If it costs you <unk> a share to pick up 14, <unk> annually that has a payback of.
It seems to us less than six months good deal.
So Doug Thank you for calling in and if you'd like to call back I'm sure the outbreak.
Otherwise operator, if there is another question available we're here to answer thank you.
Okay. Our next question will come from Trevor Cranston with JMP Securities You May now go ahead.
Hey, Thanks, good morning.
Looking at the portfolio over the last few months as you guys have.
Added MBS and moved up in coupon.
It looks like.
Physicians have been changed.
All that much.
So I guess, there's two questions first.
Can you say what the.
The Treasury hedges that you show in the slide deck can you.
Detail what those are and can you more generally just talk about how you guys are approaching hedging rigorous because you're making incremental investments here. Thanks.
Sure Marc once you get into that please sure.
Sure.
Gruber.
Thanks, Jeff So Trevor so.
The first factor is the treasuries are going to be a mix of futures and cash treasuries and it's going to be across the curve. So to $5 seven stands so it's.
It's just the mix of that.
And yes, as we've added assets, we have moved up in coupon. So the duration of the asset side has shortened.
And we didn't add a lot of hedges also because we took our duration up a little bit we were a little more comfortable as rates were higher did not add hedges and extend the portfolio duration, just a little bit so thats whats going on there.
Okay got it that makes sense.
And then in terms of leverage obviously the portfolio has been growing and it looks like leverage is up to around eight times or so currently is that has that kind of where you guys are targeting for the near term or could we expect to see additional portfolio growth.
Over the next month or so thanks.
Sure.
Historically rubber.
Go ahead, mark either way.
Okay.
We were targeting somewhere between eight and nine so we have a little bit of dry powder historically, we've been closer to nine.
So youll, probably see it drift up a little bit from here, but not much from where we are today.
Got it okay. Thank you.
Yeah.
Again, if you have a question. Please press Star then one on.
Our next question will come from Matthew Howlett with B Riley.
May now go ahead.
Hey, guys. Good morning, Thanks for taking my question.
Topic of leverage let me ask you you've had good success.
Success accessing the equity capital markets when I look at the preferred market here.
And there's been some recent activity in the space and look at your series C is trading at.
20 to 25.
7% coupon, what's the what's the outlook and the equity common equity basis.
Increased to the extent that Youll could you do have room to do another preferred series, what's sort of looked at that market is it open would you look at it here in 'twenty three.
Hey, good morning, Matt Jeff Zimmer here. So if you look at our preferred last night I believe it closed at 22 and a half okay. So that's a current strip yield of something like 778, Okay. The reason that we issued a fixed fixed and we are the only company whose primary issuance over the last three years have been.
Fixed fixed.
We did not want to subject.
Our balance sheet and our income statement in the future to the possibility of rates going up.
And rates are higher and the most recent issuance by other firms that are broader space have been at higher coupons.
And the existing issues that they have outstanding that were fixed for five years and go to floating will mean their coupons are going to go to 9% and 10%. So in the environment that we have today, we're able to raise common equity right around par right around book value as Jim Mountain stated and we think that that's.
Better way to run the company right now we can access mortgages at some of the wider spreads they've been in a decade.
Excess capital around book value and the costs go down you would not see us in the near future going back to the preferred market. It's just too expensive right now I hope that answers your question.
No it does.
Yes.
Certainly acknowledge that you don't have that those five year switching to flooding. So that was a good move on your part.
It certainly looks at the balance sheet has grown but.
Choose to wait for the market to come back that would make it makes sense.
And Jeff just on the macro.
I mean look it looks like the fit.
I'd love to hear your thoughts and it looks like markets thinking 25 and March 25 in June and then pausing love to hear if you think the next right next move after that would be.
Cut and then on the fed obviously the balance sheet in palisade will take a couple of years to shrink the MBS just your thoughts on.
The impact on MBS spreads would you think that they'll eventually start selling or what could surprises I guess.
So I'll address that and then I'll see if marker.
Scott wanted to improve we do expect.
Increase in the next two meetings, a 25 basis points, our firm does not anticipate the fed cutting rates in 2023.
They cut it would be in 2020 for the economic numbers that are coming out are just showing that the employment picture is very strong.
That's not going to go away, it's going to take some time they may internally have to change their target from two to like 3% to 4% without <unk>.
Hum and to ease off the pedal a little bit.
On the other hand.
We did see an announcement yesterday that already we're seeing commercial credit defaults without saying companies named there were two defaults just announced four office buildings in New York and La So even though you have a very strong employment situation as you see credit defaults.
The Federal reserve expects these credit defaults youll see that will spread to the employment sector. Just takes a while so that's where we are now now we also believe mortgages as I said a number of times on today's call are historically, very well priced and attractive we would expect in the near future where mortgage spreads to stay where they are or EBIT, perhaps tighten a little.
Bill.
We are not nervous about the fed selling mortgages down the road.
Matter of fact, most of what they would have to sell or not in our portfolio frankly, we've got a mid to higher coupon.
Matrix right now that Mark and his team have put together and the fed did unknown that own that stuff. So they want to go ahead and sell their two and two and <unk>, which are areas that others may be invested in thats fine, but there is no other supply other than them and theres no originations in that sector. So we're always going to be aware of it.
Cutely aware I guess, I'd say of the possibility of them selling but it shouldnt have an awful direct effect now look when the tide goes out all ships go down okay, and we understand that but we will not have a direct impact on the assets we own.
From them selling.
Our portfolio.
So does that answer your question no.
Absolutely and it's always good to hear your insights.
On that and I guess, the last topic. The CPI I mean, I think you said $4 seven it will be the lowest numbers I've seen in my career and I looked.
And I asked the question last call about the vaccine and it looks like you.
You're buying step close to par now here I mean, just I think you said.
Any sense on.
Yes.
There'll be a pickup in CPR.
What you are looking at when you put on new MBS at these higher coupons. Thanks a lot.
I'm going to hand that over to market because he and his team spent a lot of time working on that Mark.
Yes, we would expect.
Our portfolio CPR is pick up a little bit as we're adding newer bonds. So they're going to start at zero and they are going to slowly ramp up.
And it really just depends on rates.
Rates declining mortgage rates decline, we'll see it pick up.
We don't see anything systemic wherever we go back to 15 to 20 CPR right now.
And the premium you're adding or is it just sort of minimal in terms of what you're putting on that what you are booking discounts.
It's minimal.
Pay ups in general like we said earlier are usually single digits, maybe a half a point.
But when you look at five five or six coupons.
Two points or so.
Got you. Thanks, a lot I appreciate it.
Thanks for calling in.
Our next question will come from Christopher Nolan with Ladenburg Thalmann.
You May now go ahead.
Hey, guys I think I'll try to tick up from the I think the latter question, Doug Harter with pursuing on the dividend.
I'm hearing mixed signals from the standpoint that you are saying that.
The environment is good and you're going to get low to mid teen returns.
Then we're cutting the dividend.
And I guess my question really centers is the dividend cutting just expectations.
Dramatically growing share count going forward or can you give some clarification on that please.
Sure in all cases, when we increase our share count, it's the benefit existing shareholders and not just new shareholders.
As I said before we look at it very holistically.
Repo rates have gone from 25 basis points to four five and $4 seven right now.
So as those repo rates go up and the tenure remains inverted to those rates, it's generally going to put a stress on.
Your earnings right. So whether we had raised zero or $300 million, we would be cutting the dividend right. Now. So please look at that as the whole lipstick approach and a separate sub.
With things I hope that's helpful. Yes, that's helpful.
Thought I heard your comments, where you're going to have a low to mid teen <unk>.
What are your returns, which is pretty consistent with what you've been seeing in recent quarters that might've misheard, it but just trying to get a clarification.
Returns available are in the 14% to 16% range and we're currently paying approximately 16%, but what I also said and I want to be crystal clear on that so we have a very large swap book that was put on at very low rates and thats still covers about 65% of our.
Repo book, So that is a.
A real big driver and benefit that we're passing longer shareholders in terms of earnings. So that's a trailing aspect and some.
Some of that has quite a ways to go.
Okay. Thank you.
Thanks very much.
It appears there are no further questions. This concludes our question and answer session I would like to turn conference back over to Jim Mountain for any closing remarks.
Well, we'd like to thank you all for joining US. This morning for the attention that you give to our firm and our stock and our shareholders.
And.
Look forward to speaking again.
April until then.
The conference has now concluded. Thank you for attending today's presentation you may now disconnect.