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spk02: Good day, and thank you for standing by. Welcome to the Impact Mortgage Holdings Incorporated Fourth Quarter 2021 Earnings Conference Call. At this time, all participants are on a listen-only mode. After the speaker's presentation, there will be a question-and-answer session. To ask a question during the session, you'll need to press star 1 on your telephone. Please be advised that today's conference is being recorded. If you require any further assistance, please press star 0. I would now like to hand the conference over to Joe Joffrion, General Counsel. Please go ahead, sir.
spk03: Good morning, everyone, and thank you for joining Impact Mortgage Holdings' year-end 2021 earnings conference call. During this call, we will make projections and other forward-looking statements in regards to, but not limited to, gap in taxable earnings, cash flows, interest rate and market risk exposure, mortgage production, and general market conditions. I would like to refer you to the business risk factors in our most recently filed Form 10-K and Form 10-Qs filed in the Securities and Exchange Act of 1934. These documents contain and identify important factors that could cause the actual results to differ materially from those contained in our projections or forward-looking statements. This presentation, including any outlook and guidance, is effective as of the date given, and we expressly disclaim any duty to update the information herein. I would like to get started by introducing George Mangiaracena, Chairman and CEO of Impact Mortgage Holdings. George?
spk07: Thank you, Joe. Tiffany Essinger, our COO, John Glockner, our treasurer, Toby Wakori, our CIO, will join me for prepared remarks, and Justin Mozio, our CIO, will be available for the question and answer segment of today's call. For the fourth quarter of 2021, the company reported gap net income of $3.6 million, or 15 cents, per diluted common share, and a core loss of approximately... $5 million or 23 cents per diluted common share. The year ended December 31st, 2021. The company reported a gap net loss of 3.9 million or 22 cents per diluted common share and a core loss of approximately 12.4 million or 5.8 cents per diluted common share. The delta between gap and core results is primarily attributable to the increase in the fair value of our residual portfolio, which John Glockman will discuss in his prepared remarks later in this call. As we've outlined in prior earnings calls, the company broadly classifies its origination activities, irrespective of channel, as either rate or credit. Our rate business is centered around our GSE product, while our credit business is focused on our non-QM product. In the fourth quarter of 2021, with respect to our rate business, The company was not immune from the reduced origination volumes and margin compression typically experienced by the industry at the later stages of refinance waves that were driven by low rates and accommodative monetary policy. This is reflected in our GSC origination volumes in the fourth quarter. We anticipate that market conditions will continue to be challenging for the foreseeable future in our rates business and have adjusted our capacity models, marketing spend, and headcount accordingly. With respect to our credit business, the fourth quarter of 2021 further evidenced the resilience of our non-QM franchise. Non-QM originations totaled close to 400 million in the fourth quarter of 2021, double that of the third quarter, and positioned the company for an annualized run rate of approximately 1.5 billion. In the full year 2021, the company posted close to 700 million in non-QM, two and a half times out of 2020. Further context, the company originated less than 15 million in non-QM in the four quarters post-COVID, the second quarter of 2020 through the first quarter of 2021. The non-QM segment of the mortgage market experienced significant market pressure beginning in the fourth quarter of 2021, with conditions further deteriorating into the first quarter of 2022. Expectations related to rising short-term interest rates, as expressed in the two- and three-year swap rates, have resulted in concerns over extension risk and more extensive structured financing terms. In addition to a disciplined approach to hedging activities, non-QM note rates were required to be recalibrated with the consumer from a low of a 4% range prevalent in 2021 to a target in the mid-5s to 6%. levels not coincidentally present in the market prior to the COVID-induced emergency monetary policy measures of March 2020. The average note rate of the company's current locked pipeline reflects this arduous climb up the rate ladder. The company continues to believe that the addressable market for non-QM will expand once markets normalize. The first quarter of 2020 introduced increased market volatility and heightened market awareness of non-transitory inflation and credit and liquidity risk brought on by geopolitical events. Some of us were cutting our teeth in the business back in October of 1998 at the advent of the Russian debt crisis, which triggered a flight-to-safety rally in U.S. Treasuries and a concurrent sell-off in credit-based assets. Especially finance companies at that time experienced losses and liquidity calls on their Treasury short-hedge positions and also faced warehouse margin calls and market value declines in their subprime and all-day mortgage loan portfolios. Layered risks are difficult to effectively hedge in times of acute market dislocation. The company has deployed a wide range of capital markets hedge strategies and delivery mechanisms over the last several years with increased utilization over the last six months on futures on treasury swaps, forward sale agreements, and best-effort deliveries in lieu of aggregating non-QM for bulk sale. We will continue to remain disciplined in our origination and capital markets activities and remain undeterred in our belief that the addressable market for non-QM will expand to our benefit once markets normalize with respect to volume and margin. Turning now to our longstanding preferred delitigation. As we disclosed in our 8 filing on July 19th, the Maryland Court of Appeals issued an order which affirmed the lower court's ruling, specifically that the proposed 2009 amendment to the preferred B articles did not receive the required votes and that therefore the original preferred B articles remained in place. I will now turn the call over to our general counsel, Joe Jafion, for a more detailed update on this matter.
spk03: Joe? Thanks, George. As previously discussed, as a result of the court's order, the company will be required to pay approximately $1.2 million in unpaid dividends to certain preferred B stockholders, which amount was previously accrued by the company back in 2018. The payees of the unpaid dividends will be determined once the circuit court determines the basis for an appropriate record date. In addition, the court's order required a special meeting of preferred B stockholders for the election of two additional directors of the company. The special meeting of the preferred B stockholders was originally convened on October 13th, 2021. However, it was adjourned to November 23rd, 2021 due to a lack of quorum sufficient for an election of directors. Similarly, on November 23rd, 2021, the meeting was further adjourned until January 6th, 2022 due to a lack of quorum. And finally, also due to a lack of quorum at the January 6th, 2022 meeting, the special meeting was concluded without the election of any new directors. The company was hopeful a quorum would have been achieved at one of the special meeting dates, as we were looking forward to welcoming the new board members and their input, especially in aligning the company's stakeholders to create a sustainable capital structure and strategic vision for the future. With respect to payment of the future dividends on preferred B stock, such dividends are cumulative. However, they are not payable unless declared by the board. The preferred B stock is perpetual with respect to both its liquidation preference and payment of dividends. At this time, there is no intent to declare any dividends on the preferred B stock, especially in light of the $82 million in short and long-term debt that has seniority in the company's capital structure. Additional information on the company's capital structure, the court's order, and the special meeting of preferred B stockholders can be found in our 10-Ks, 10-Qs, and 8-K filings. John Glockler will now discuss the operating results for the fourth quarter of 2021. John Glockler Thank you, Joe.
spk05: For the fourth quarter, the company reported gap earnings of $3.6 million as compared to $2.1 million for the third quarter and a loss of $2.2 million in the fourth quarter of 2020. Our 2021 year-to-date gap net loss was $3.9 million as compared to a loss of $88.2 million in 2020. For the fourth quarter, core loss was $5 million as compared to earnings of $810,000 in the third quarter and earnings of $3.3 million in the fourth quarter of 2020. Our 2021 year-to-date core loss was $12.4 million as compared to a core loss of $58.7 million in 2020. The financial results of the quarter reflected increased loan production, net of the effect of market margin compression. Gain on sales loans decreased to $14.9 million during the fourth quarter as compared to $19.6 million during the third quarter. During the fourth quarter of 2021, our originations were $759 million with margins of 196 basis points as compared to originations of $683 million with margins of 287 basis points in the third quarter of 2021. The increase in production quarter over quarter was due to our ability to grow our non-QM production to 382 million, which increased 105 percent as compared to 186 million in production during the third quarter. During the fourth quarter, 129 million, or 34 percent, came from our retail channel, as compared to 54 million, or 29 percent, during the third quarter of 2021. The shift in our production focus and subsequent increase in non-QM production through both our TPO and retail channels has helped to offset the declines in conventional originations we all knew was coming, with the fourth quarter conventional originations decreasing by 25% to $351 million as compared to $467 million during the third quarter. During the fourth quarter of 2021, other income increased $7.3 million in mark-to-market fair value gains on our net trust assets as a result of a decrease in residual discount rates, a decrease in loss assumptions on certain trusts, and an increase in prepayment assumptions. as well as a $1.5 million increase in fair value gains on our long-term debt. As George had previously indicated, changes in fair value of the net trust assets and long-term debt are excluded from core earnings. Operating expenses increased to $20.5 million in the fourth quarter, as compared to $19.8 million in the third quarter, primarily due to personnel costs, which increased to $13.2 million from $12.7 million in the third quarter. The increase in personnel costs during the fourth quarter was primarily the result of an increase in variable compensation as a result of the increase in origination volume, as well as personnel costs, which continue to remain elevated across the industry due to the competition for talent. Our business promotion expense was relatively flat at $2.2 million quarter over quarter. This reflects our previous push to target non-cum production in our retail channel. expand production outside of California, and maintain lead volume. While the company previously experienced a substantial amount of organic lead flow, the increase in competition has prompted an increase in marketing spend to maintain a consistent level of lead volume. We currently have warehouse lines with a combined borrowing capacity of $600 million and will continue to balance capacity needs to meet funding demands of our non-QM production goals. We continue to carefully manage our liquidity and balance the demands of an aggregation model. Based on our current cash position, turn times, and borrowing resources, we feel we have the liquidity necessary to meet our near-term production goals. Obi Wakori will provide specific commentary around our non-QM capital markets philosophy. Obi? Thank you, John.
spk04: As has been mentioned, the industry saw significant pressure on margins in the fourth quarter. During the quarter, we saw a flattening of the yield curve, with two-year and three-year swap rates increasing by over 50 basis points each. The rise in short-term rates was driven by stationary pressures in the economy and the market's expectation to the Fed's reaction to that pressure. In addition to the sell-off rates, we saw a widening of credit spreads across the capital stack, with spreads on new-issuing non-QM AAA-rated transfers moving from 65 basis points over interpolated swaps at the beginning of the quarter to 90 basis points over by the end of the quarter. Credit spreads have continued to widen, and AAA non-QM spreads are currently around 160 basis points over benchmark rates. The rise in credit spreads occurred as we saw increased volatility in the broader markets, but this widening was also a reflection of a supply, demand, and balance in the non-QM sector with supply outstripping demand during the fourth quarter. Investors also began to focus on extension risk for lower coupon mortgages. Originators were generally slow to react to these changes in investor appetite. As a result of these pressures, the company began to take steps during the quarter to protect its margins by raising rates across all non-QM products. We also began raising the minimum rates allowed on our rate sheets from 3.125 at the start of the quarter to 4.625 today. The effect of these changes to the rate sheet is that the weighted average coupon on newly originated non-PM loans has gone from the low 4% in the fourth quarter to mid to high 5% today. We also introduced some new tools, as George previously mentioned, and expanded others to more closely manage the interest rate and credit exposure on our non-QM mortgage pipeline. We entered into interest rate swap features to manage the interest rate risk and increased our forward loan sales to manage the pipeline risk. With that, I'll now turn it over to Tiffany to discuss production activity during the quarter.
spk01: Thank you, Obi. As we discussed during the second half of 2021, the landscape of the GFC lending space continued to present challenges to conventional lending growth. Decreased loan application volume industry-wide is suggestive of the noticeable stagnation in GFC origination volume for many lenders competing for market share. A rising rate environment combined with ongoing competitive pressure, the further constricted margins as well as the opportunity for growth around GFC production. Impact's primary driver of GSE originations is our retail consumer direct call center. While the volume in our retail channel remained relatively flat in the fourth quarter as compared to the third quarter, it did experience a decrease in GSE originations of 23%. We will continue to originate in the GSE space through our retail channel with minimal marketing spend, but will remain diligent around market conditions with an eye toward protecting margin and credit quality. Previously, we discussed the important pivot within our consumer direct retail call center, allowing it to navigate shrinking GSE margins and offsetting the selling with non-QM origination volume and revenue. We are pleased with how quickly we've been able to shift focus and increase non-QM production in the call center. By leveraging the sales and marketing expertise that was so successful in ramping up this product previously, we've compressed the timeline significantly in shifting product composition within the retail channel. Our non-QM funding volume in the retail call center increased to $129 million in the fourth quarter 2021, more than doubling the $54 million of non-QM funding volume in the third quarter. While that non-QM growth trajectory in the call center will level off, we do expect our non-QM run rate to remain relatively flat into the first quarter of 2022. As John touched on, our business promotion expense, attributed almost entirely to our retail channel, increased slightly in the fourth quarter as compared to the third quarter. We increased business promotion to both maintain our lead volume in the call center and augment targeted marketing to attract non-QM focused consumers. With the aforementioned increase in business promotion related to non-QM marketing in the consumer direct channel, we continue to see a corresponding shift in pipeline composition. Currently, non-QM originations represent approximately 52% of our locked consumer direct pipeline, as compared to approximately 35% at the time of our last earnings call in November. Additional marketing allocations will continue to be deployed if needed to leverage the expertise in the call center and educate consumers around the non-QM product offering to further promote growth in the channel. The primary focal point in ramping up our non-QM production remains within our third-party wholesale origination channel. Wholesale has traditionally been a driving channel around non-QM originations industry-wide, as well as a successful vehicle for increasing volume over the last several years. Measuring from the first quarter of this year, the momentum around non-QM origination volume has steadily increased. As George mentioned, the company originated over $380 million of non-QM production in the fourth quarter 2021, as compared to $185 million in the third quarter. doubling our non-QM production from the third to fourth quarter. Roughly 66% of our non-QM production volume was generated through our TPO channel, with the overall composition of the TPO pipeline almost entirely non-QM product. Over the course of the second half of 2021, the progress we've made in our TPO channel is indicative of the clear focus the business has on rebuilding a successful alternative credit platform. In December, our wholesale channel funded $95 million in non-QM production, equaling the largest wholesale non-QM funding month as compared to historical volume numbers since 2015, a very impressive milestone for our non-QM team. While the dramatic growth of our wholesale channel following its relaunch in the third quarter of 2020 has produced positive results, the TPO channel has still not fully relaunched the correspondent division. there's additional opportunity to capture market share and drive volume through delegated and non-delegated course on the business relationships in the future. As Obi mentioned, we've taken steps to protect margins by raising rates across all non-QM products. This has been an adjustment for our borrower and broker partners as they recalibrate to pricing changes and a rising rate environment. Despite these changes, our non-QM run rate across all channels has remained at over 100 million per month during the first quarter. We will continue to build our non-QM teams with both channels to offer alternative credit products in the same thoughtful and responsible way we have since 2015. That concludes the financial results and our prepared remarks, and I'll now turn the call over to Justin Mozio for the question and answer session.
spk06: Thanks, Tiffany. So we received a list of questions from Trevor Cranston ahead of the call. So what I'll do right now is I'll go through those questions and have the team answer them directly. So the first item that Trevor had mentioned was his understanding that the impact of the non-QM valuation at the end of the fourth quarter had to do with spreads widening within non-QM securitizations. So with that said, given what has happened in the first quarter with the recent rate movement, do we see margins tightening even further? So, Obi, maybe you can touch on that briefly.
spk04: Yes, sure, Justin. So, yeah, I mean, we've continued to see margin compression into the first quarter of this year. As mentioned in the prepared remarks, AAA non-QM spread ended the fourth quarter at roughly 90 basis points over the interpolated swaps. You know, today with, you know, a few deals in the market, we're seeing those spreads at somewhere between 155 to 160 basis points over. So, you know, another, you know, call it 65 to 70 basis points are increasing in credit spreads at the AAA level. And that obviously has continued to impact margins. We've also seen rates, you know, I mentioned earlier that rates had increased around 50 basis points during the fourth quarter. You know, we've probably seen another 80 to 90 basis points sell off in rates since that time. So again, you know, the combination of these two things have continued to put pressure on margins. You know, I do think that, you know, originators ourselves included, have responded, and we're beginning to see increased rates offering on the rate sheets. And I think that given where we did average coupons, probably 150 basis points higher than it was back then, and all of this is in an attempt to arrest some of that margin compression.
spk06: Okay. Thank you. The next item is kind of a follow-up there. Within the non-QM space, has the market, specifically the brokers and our consumers, adjusted to the increase in higher non-QM rates? And do we expect there to be a dip in volume? Then after that, do we expect that to stabilize? So I can just take that one. So as we touched on in a couple different places in the prepared remarks, the geopolitical events combined with what was already a very volatile market, put significant pressure on us and the rest of the industry, and obviously that was pushed forward to consumers and brokers, and they had to recalibrate to these significant pricing changes, which we outlined previously. So for that reason, within specifically just the unlocked pipeline, so those folks that had not yet locked their loans yet. We did see some fallout there, which was to be expected when they felt that the rates that they were going to get were going to be considerably lower, and then there was that large move. So there was some fallout there. So depending on how Mark shakes out, non-QM for Q1 will most likely be down as compared to Q4. However, and Tiffany had just mentioned this, we're still remaining at $100 million a month of non-QM production And as the market gets comfortable with where rates are currently, we do expect that to stabilize and then increase our locks and subs going forward. The next question that Trevor had asked was, do we ever expect non-QM gain-on-sale margins to return to the levels that we got to enjoy in the third quarter, or is there a more realistic target gross margin that with these higher coupon levels. That's a difficult one from a crystal ball perspective. But, Obi, do you want to maybe give your thoughts on that?
spk04: Yes, sure. Yes, really, really difficult question to answer given the volatility in the market and some of the changing dynamics we're seeing. But, you know, we do think that the market will normalize at some point. And once it does, the originators will find a rate level that returns margins to, if not the same levels you saw in Q3 of 21, at least close. That allows us to run the business in a profitable manner. The one thing I would say, it's obviously a pipeline business with a lag between when rates are locked by the borrower and when the loans are are shown to investors or purchased by investors. So, you know, there's some continued compression there, but I do think that at some point we stabilize here and originators, you know, come to the rates that allow us to get back to those, you know, 354, 4% type margins.
spk06: Okay, thanks. Next question. Do we expect competition to remain as intense as it has been the last three or four months within the non-QM space? Or do we believe that some new entrants could fall out due to all the volatility that's gone on? So, I mean, the question's around the staying power of some of our competitors. So I'll take that one as well. So since really late third quarter, There's been a lot of new faces step into the non-QM space, which I think can be expected. We've seen this before to help offset the anticipated loss of the GSE production. It's really outside of purchase money, the one pivot that a lot of folks will move to. So while it's still too early to tell, I would say, some of these new entrants, to the extent that they hadn't built out their proper technology Alternative credit non-QM infrastructure, similar to ourselves and some of the larger non-QM lenders out there, yeah, they could conceivably back away from the table at this point to the extent that the volatility was too much for them to stomach. However, we do believe that the larger names, ourselves included, that have been tied to non-QM since really its inception will continue to aggressively compete on margin, market share, So from a big picture standpoint, I don't think that the competition in the space will fall off at all. But you could see some of the newer entrants back away from it. And the last question that Trevor had focused on the call center and the GSD space. So regarding GSD production, The assumption is that our call center has experienced the same pain as some other GSE shops. Have we adjusted appropriately? Where do we see non-QM in the call center? And I'll just hold on to this one as well. So we talked about this last couple calls, on this call a bit, and George even mentioned it in his prepared remarks in terms of with respect to the rate business. We are certainly not immune from the reduced origination volumes and margin progression around GSE production. So while our total volume in the retail call center remained relatively flat in the fourth quarter as compared to the third, we did experience a decrease of about 23% in GSE originations. We do expect that decrease to continue going further Not a surprise there, especially when you take into account, and John mentioned this in terms of marketing spend, you know, we're not chasing that production currently with increased marketing spend. We've pivoted almost all of our business promotion within the call center to non-QM, and so the GSE that's coming in right now, it's purely organic, and we'll continue to capture as much of that that we can get that comes in. but we're not going to chase that volume at these margin levels. And Tiffany touched on it in her prepared remarks. We doubled our non-QM production within the call center in the fourth quarter compared to the third, so clearly we've made that a point of emphasis and we're finding great success doing so. And then a topic that continues to come up in terms of trade publications that you read all the time is reduction of headcount at some of the larger institutions out there. And that's not something that we're immune from either. But the difference here is that our folks know how to originate alternative credit and GSE products from years of being cross-trained on that. So that makes that much easier. But we'll continue to staff thoughtfully and respond appropriately as the market changes right-sizing our capacity to current market conditions as we always do. So that concludes what we have in terms of questions today. So with that, thank you all for joining us, and we'll speak to the market in a few months here for the results of the first quarter. Thank you.
spk02: Ladies and gentlemen, this concludes today's conference call. You may now disconnect. Everyone have a wonderful day.
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