Arbor Realty Trust

Good day, ladies and gentlemen, and welcome to the Q4 2018 Arbor Realty Trust Earnings Conference Call. At this time, all participants are in a listen-only mode. Later, we will conduct a question-and-answer session, and instructions will be given at that time. If anyone should require operator assistance, please press star and then zero on your touch-tone telephone. And as a reminder, today's conference call is being recorded. I'd now like to turn the conference over to Paul Lineo, Chief Financial Officer. Please go ahead.

Okay, thank you, and good morning, everyone, and welcome to the quarterly earnings call for Arbor Realty Trust. This morning, we'll discuss the results for the quarter and year-ended December 31st, 2018. With me on the call today is Ivan Kaufman, our President and Chief Executive Officer. Before we begin, I need to inform you that statements made in this earnings call may be deemed forward-looking statements that are subject to risk and uncertainties, including information about possible or assumed future results of our business, financial condition, liquidity, results of operations, plans, and objectives. These statements are based on our beliefs, assumptions, and expectations of our future performance, taking into account the information currently available to us. Factors that could cause actual results to differ materially from Auburn's expectations in these forward-looking statements are detailed in our SEC reports. Listeners are cautioned not to place undue reliance on these forward-looking statements, which speak only as of today. Auburn undertakes no obligation to publicly update or revise these forward-looking statements to reflect events, or circumstances after today, or the occurrences of unanticipated events. I'll now turn the call over to Arbus President and CEO, Ivan Kaufman.

Thank you, Paul, and thanks to everyone for joining us on today's call. We're very excited today to discuss the significant success we had in closing out 2018, as well as our plans and outlook for 2019. As you can see from this morning's press release, we had an exceptional fourth quarter with tremendous operating results, which continues to demonstrate the strength of our brand and the value of our operating franchise. Additionally, our income streams are very diversified and long-dated, providing a predictable and recurring annuity of core earnings, making us very comfortable with the level of our current dividend and confident in our ability to increase our dividend in the future. Our 2018 highlights were truly remarkable and exceeded our expectations. Some of the more significant accomplishments included generating substantial growth in our car earnings, allowing us to increase our dividend twice and significantly earlier than expected to an annual run rate of $1.08 a share, which represents a 29% increase in 2018, delivering a total shareholder return of 30% in 2018 and 26% annually for the last two years. achieving returns on equity of an excess of 13 percent, a 23 percent increase over our 2017 returns, producing record originations of $6.8 billion, an 8 percent increase from our record 2017 numbers, continuing to be a market leader in the small-balance lending arena, increasing our balance sheet 24 percent in 2018 to $3.3 billion, growing our servicing portfolio to $18.6 billion, a 15% increase from 2017, continuing to be a market leader in the non-recourse securitization arena, closing our 10th and largest CLO, totaling $560 million, and improving terms and flexibility, achieving significant economies of scale through substantially reduced debt costs, in all of our borrowing facilities, allowing us to maintain levered returns in excess of 13% in an extremely competitive environment. And effectively accessing accretive growth capital, raising $215 million, allowing us to fund our growing pipeline and increase our core earnings. The considerable growth we produce in our servicing revenues, escrow earnings, and that interest income from our balance sheet portfolio in 2018 has provided us with a very strong baseline of predictable and stable earnings heading into 2019. This makes us feel very comfortable with our current dividend and confident in our ability to grow our dividend in the future. We will be providing a chart with our next investor deck detailing our income sources on a year-over-year basis. This will illustrate the quality, diversity, and duration of our income streams, which differentiates us from our peers and why we believe we should be trading at a lower dividend yield than our peer group. To highlight this further, I would like to talk about the tremendous growth we had in both of our business platforms. In our agency business, we produce significant origination volumes with strong margins while maintaining our servicing fee and growing our servicing portfolio. We originated $1.6 billion in agency loans in the fourth quarter, which is the highest quarterly total in our history, and originated a record $5.1 billion in loans in 2018, representing a 15% increase over our 2017 volumes. We also finished as a top 10 Fannie Mae dust lender for the 12th consecutive year, a distinction only one other dust lender has achieved. And we were once again a top small balance lender for Fannie Mae and Freddie Mac as well. We also grew our servicing portfolio another 5 percent in the fourth quarter and over 35 percent in the last two years and are now at $18.6 billion. This portfolio generates a servicing fee of 45 basis points and has an average remaining life of eight and a half years, which reflects a 13% increase in duration over the last two years. As a result, we have created a very significant, long-dated, predictable annuity of income of over $80 million gross annually and growing the majority of which is prepayment protected. In addition, this growth has resulted in increases in our escrow balances that, combined with a significant increase in LIBOR, has considerably increased our earnings run rate associated with these balances leading into 2019. And these income streams, combined with the fee income we generate from our originations, has also created significant diversity and a high level of certainty in our income sources. With respect to our balance sheet business, we continue to focus on growing our loan book. We grew this portfolio 48% in 2017 and another 24% in 2018 on $1.7 billion in new originations, and we now have a $3.3 billion portfolio heading into 2019. The income generated from these assets is a significant component of our earnings, and based on our strong pipeline, we remain confident in our ability to continue to grow this income stream in the future. As I have discussed in the past, the market remains fiercely competitive, and we do expect this environment to continue throughout 2019. While this will result in some margin compression on our agency product, it will be somewhat offset by reduced commission expenses. We also continue to extend out the duration of our servicing portfolio and have been increasing our average loan size with larger deals that will drive down our servicing costs, creating more long-dated, predictable annuity of income. In addition, as we have talked about on our last few calls, we remain very committed to growing our presence in the single-family rental market We believe the single-family rental market is as big as the multi-family market and at this point is very fragmented and we are very committed to becoming a leader in this space. We were an active participant in the Freddie Mac SFR pilot program prior to its conclusion and we achieved a significant amount of success in a very short period of time. And we are now investing heavily to build out the appropriate infrastructure to develop this platform and are very pleased in our ability to generate a pipeline already. In addition, we announced earlier this week we hired Steve Katz as Chief Investment Officer of SFR to lead in continuing to develop this platform. Steve comes with over 25 years of experience in residential mortgage banking and recently was a Managing Director of residential loan trading and lending groups from Morgan Stanley. We're very, very excited to have Steve join our executive team and are looking forward to leveraging Steve's expertise and our national sales and operational platform to significantly grow this business and further diversify our lending platform. Overall, we're extremely pleased with our 2018 results and in the tremendous success we are having in growing our business. greatly enhancing the value of our franchise and the significant returns we have generated to our shareholders. Our results have been truly remarkable and have consistently outperformed our peers. We're also very excited about our ability to continue to grow our brand, expand our market presence, and feel we have created a very strong baseline of diversified, predictable core earnings heading into 2019. We're a complete operating franchise with a significant, diverse, capital-light agency business, which has allowed us to consistently increase our earnings and create more predictable, stable, and long-dated income streams. And again, we remain confident in our ability to continue to grow our dividend in the future and will continue to work very hard to maximize the return to our shareholders. I will now turn the call over to Paul to take you through our financial results.

Okay, thank you, Ivan. As our press release this morning indicated, we had an incredible fourth quarter and full year 2018. As a result, ASFO was $28.9 million, or $0.29 per share, for the fourth quarter, and $113.1 million, or $1.21 per share, for the full year 2018. Our ASFO for the fourth quarter was $0.39 per share, excluding a $10 million non-cash loan loss reserve related to a land development project that is our only remaining significant legacy asset left over from the financial crisis. And these results reflect an annualized return on average common equity of approximately 13% for both the fourth quarter and full year 2018, and 17% and 14% respectively, excluding this legacy asset reserve. These ROEs are up significantly from the same time last year, due to the substantial portion of our earnings that are being generated by our rapidly growing Capital Light agency business and from the additional cost efficiencies we are experiencing as we continue to scale our balance sheet business. As Ivan mentioned, we are very pleased with our ability to continue to generate core earnings in excess of our current dividend, and we remain confident in our ability to increase our dividend in the future. Looking at the results from our agency business, we generated approximately $42 million of income in the fourth quarter, on approximately $1.6 billion in originations and $1.7 billion in loan sales. The margin on the fourth quarter sales was 1.13%, including miscellaneous fees, compared to an all-in rate of 1.47 on our third quarter sales, mostly due to some large portfolio deals that we closed in the fourth quarter, which generally have a lower margin and consequently less commission expense. We also recorded $36 million of mortgage servicing rights income related to $1.6 billion of committed loans during the fourth quarter, representing an average mortgage servicing right rate of around 2.25%, compared to 1.83% on our third quarter committed loans of $1.4 billion, mainly due to changes in our valuation assumptions related to our 2018 mortgage servicing rights. Sales margins and MSR rates fluctuate primarily by GSE loan type, size, Therefore, changes in the mix of loan origination volumes may increase or decrease these percentages in the future. Our servicing portfolio also grew another 5% during the quarter and 15% in 2018 to $18.6 billion at December 31st, with a weighted average service fee of approximately 45 basis points and an estimated remaining life of 8.6 years. This portfolio will continue to generate a significant predictable annuity of income going forward of around $84 million gross annually. which is up approximately $7 million on an annual basis from the same time last year. Additionally, early runoff in our servicing book continues to produce prepayment fees related to certain loans that have yield maintenance provisions. This accounted for $5.8 million in prepayment fees in the fourth quarter, which was down from $7.5 million in the third quarter. These fees are recorded in servicing revenue net of a write-off for the corresponding MSRs on these loans. As Ivan mentioned, we also continue to see increases in our interest-earning deposits with over $800 million of escrow balances, which are earning slightly less than one month LIBOR. And with the substantial increase in interest rates, we're now earning significantly more income, approximately $9 million more in an annual run rate as compared to this time last year. So clearly, we had a tremendous 2018 in our agency business. As Ivan mentioned, we have positioned ourselves nicely to have a successful 2019 as well. In our balance sheet lending operation, we grew our portfolio 24% to $3.3 billion on $1.7 billion in originations in 2018. This significant growth continues to increase our core earnings run rate, and based on our current pipeline and deep origination network, we remain extremely confident in our ability to continue to grow our balance sheet investment portfolio in the future. Our $3.3 billion investment portfolio had an all-in yield of approximately 7.66% at December 31st, which is up from a yield of approximately 7.52% at September 30th, mainly due to an increase in LIBOR. The average balance in our core investments was flat at just over $3.2 billion for both the third and fourth quarters, despite our fourth quarter growth, mainly due to the timing of our originations and runoff in the third quarter. and the average yield in these investments was 7.76% for the fourth quarter compared to 7.37% for the third quarter, mainly due to an increase in LIBOR and from approximately $1.5 million more in accelerated fees from early runoff in the fourth quarter as compared to the third quarter. Total debt on our core assets was approximately $2.9 billion at December 31st, with an all-in debt cost of approximately 5.24%. compared to a debt cost of around 5.03% at September 30th, mainly due to an increase in LIBOR. The average balance on our debt facilities was relatively flat, at approximately $2.9 billion for both the third and fourth quarters, and the average cost of funds on our debt facilities increased to approximately 5.13% for the fourth quarter, compared to 4.93% for the third quarter, due to an increase in LIBOR. Overall, net interest spreads on our core assets on a gap basis, increased to 2.63% this quarter compared to 2.44% last quarter, mainly due to more acceleration of fees from early runoff and an increase in LIBOR in the fourth quarter. Our overall spot net interest spread was 2.42% at December 31st compared to 2.49% at September 30th, and with approximately 88% of our portfolio comprised of floating rate loans, we will see an increase in our net interest income spreads if interest rates continue to rise in the future. And lastly, The average leverage ratio on our core lending assets, including the trust preferreds and perpetual preferred stock as equity, was flat at approximately 79% for both the third and fourth quarters. And our overall debt-to-equity ratio on a spot basis, including the trust preferreds and preferred stock as equity, was down to 2.3 to 1 at December 31st from 2.5 to 1 at September 30th, mainly due to the $100 million of capital we raised in December. That completes our prepared remarks for this morning. And I'll now turn it back to the operator to take any questions you may have at this time. Operator?

Thank you. Ladies and gentlemen on the phone lines, if you would like to ask a question at this time, please press star and then the number one key on your touchtone telephone. If your question has been answered or you wish to remove yourself from the queue, you may press the pound key. Once again, to ask a question at this time, you may press star one. And our first question comes from Jade Romani of KBW. Your line is now open.

Thanks very much. Could you provide any color on the impact of volatility that played out in December? You know, how did your clients, your key borrowers react? Were there any deals that got postponed, pulled from the market, any repricings? And has there been any spillover so far this year?

So, you know, most of the volatility was more so on the stock market side, on the interest rate side. We saw a significant decline in the 10-year quarter earlier, which created a surge in business. I think maybe there was a little uncertainty as to where the market was going, so people were looking to lock down and lock in their rates to get as many transactions closed as they could. We had a great fourth quarter. I think it was a reflection of the drop in interest rates and also people being a little concerned where volatility would be going in the next couple of months. So people were pretty comfortable with where rates were at that point in time.

Do you have any color on the mix of acquisitions versus refis in your business?

Sure. It's running pretty much the same. As it's been for the last few quarters, it's about 60% refi, 40% acquisition. It fluctuates from 50-50, 60-40, 55-45, but right now it's about 60-40.

How about loans that are bridge-to-bridge financings? We've been hearing a lot about this from some other mortgage REITs and debt funds. Are you seeing that as a prevalent trend in the market? And are you looking to avoid those situations? Do you see anything alarming about that?

You mean bridge to bridge? Yeah, bridge to bridge. I think the debt funds are extremely aggressive. We've been taken out a few times on some of our bridge to other bridges. So we've seen a little bit of that. We had some runoff last quarter on a few assets that were on our books for a substantial period of time. and we did get taken out. We opted not to match those bridges, and we felt that the market on those were a little too aggressive. So you're seeing a little bit of that, not an overwhelming amount, but definitely a little bit of that.

Okay, thanks. On the legacy impairment, is this all related to the Tahoe land asset, and can you just provide any color on the decision to take a charge now and how much risk there might be related to the potential for additional impairments down the road.

Sure. It is related to the Tahoe investment. We took a write-down, which is reflective of where we're getting market feedback. We're actively in the market now that it's fully entitled to bring in development partners and or sell it, and that reflects that. And that reflects an analysis of where we think the market is based on the equity returns of the developers, and that's how we came about it.

Did any softness in the current housing market play a part of that impairment?

Yes, it did. I think that the market for luxury high-end is probably a little softer than it was a year or two ago. and that definitely impacted the returns that developers needed or funds needed on this asset type.

And are you seeing a healthy amount of interest from developers in the property?

Well, we're beginning that process. We're in the midst of that at this point in time.

Thanks for taking the questions. Okay.

Thank you, and our next question comes from Ben Zucker with B2IG. Your line is now open.

Good morning, and thanks for taking my questions. Looking at the gain on sale and MSR margins, it sounds like there were some one-time things impacting both of those in 4Q18, so is it safe to say that we should probably just model a return to the more normalized historical level going forward?

Hey, Ben, it's Paul, and all that I've been but I think there's a couple of things there. You're right. There were some larger portfolio deals we did get done in the fourth quarter, which carried lower margin, but consequently lower commission expense. So that played a role. But I think in our commentary, in Ivan's commentary, we did lay out that we do think the market continues to be fiercely competitive, and we may start to see a little compression in our margins. It will not be what it was for the fourth quarter, but there could be some compression on margins going forward. However, we think some of that will be offset by reduced commission expense. So I don't know that we can say we'll pencil in what we averaged for the year in 2018 and 2019. It may come in a little tighter than that, but it won't come in as tight as it did in the fourth quarter. That was an anomaly with some larger deals we had.

Okay, that sounds good. And then at the end, everything, the compensation is off the net revenue, so that will kind of be a sliding sleeve as well. That's correct. Gotcha there. Can you talk about the single-family rental market and the opportunity there a little bit? I heard you mention you guys were active in the Freddie Mac's pilot program, but what are the next steps there now that that pilot program is over?

Sure. So I have an enormous background in the single-family market side, but And it's very attractive. When you look at the scale and size of that market, it's enormous. It's the same size as the multifamily market, but it's very fragmented, but it's changing. It was mostly a market dominated by mom-and-pop operators who owned one to ten properties. And then with the crisis, you had big people going in and buying pools, but that only accounted for a small amount. But what you're seeing now is efficient operators aggregating a lot of these homes and actually building homes for rentals. And it's become a bigger and bigger part of that market. In the Freddie Mac program, within a short order, I think we did about 10 to 12 different transactions, average size about $12 million. And then the FHFA shut down that program. But we had a lot of traction, and there were a few other players in the market that are able to aggregate and securitize. So we found that very attractive. We understand the securitization market, and we were very fortunate to be able to hire Steve Katz. I have a history with Steve Katz. He actually worked at Arbor on the private side and We aggregated a very significant single-family residential platform, which he was the CEO of and ran. So he worked with me for many years. So we reached out to him. We think he has a perfect securitization background and organizational background. And in a very short order, we already began to accumulate a pipeline. We think it's a phenomenal business, and with the right infrastructure, we definitely have the originations capacity and capability. We can build that out and believe it will be a significant driver in another diverse income stream for the company and leverage off of our existing platform.

That's great. And as far as maybe, like, I know it may be getting a little ahead of ourselves, but the net returns that you could see there, I mean, do you think it's comparable to, you know, the economics of the agency multifamily originated sell and service business?

I think that it can be comparable. Right now the margins are pretty wide. I think in aggregating the collateral, we'll aggregate them and deliver similar type, you know, mid-13% to 15% return in the aggregation process. On the securitization side, we believe it could be a one-and-a-half to three-point business, which is somewhat comparable to the multifamily side. So we think it's similar, and we think it's a huge market. There's no dominant force. And as that market begins to get put into more, I wouldn't call it institutional, but one level down, we think it's going to grow and grow and grow.

Perfect. Well, I appreciate your comments and congrats on a strong close to 2018. Thanks.

Thank you. And our next question comes from Stephen Laws of Raymond James. Your line is now open.

Hi, good morning. Thanks for taking my questions and congratulations on a very nice quarter to end a very good year. You know, can you maybe talk about Across your different business lines, it seems like all are doing pretty well. But with the new capital raised kind of later in the fourth quarter, can you talk about where you expect to deploy that and maybe how we should think about the time it will take to deploy that capital as you put the money to work?

Sure. So clearly we earmarked that capital to fund the growing pipeline we had on our balance sheet portfolio business. That obviously – We look at our capital needs depending on where our pipeline is, where we're expecting runoff to go, and what our capital reserves are at that time. So we definitely earmarked that $100 million to fund a very robust and growing pipeline. We started doing that already. I would say it probably takes us through this quarter, right, Ivan, maybe a little bit into the second quarter to fully fund that capital, but it's totally earmarked. for the pipeline we have in the balance sheet business. And as we've said many times, that balance sheet pipeline continues to be robust.

I think there are a lot of variables in this business, and one is runoff. So depending on the runoff will dictate how we use our capital. And I guess an earlier question, a bridge-to-bridge situation, You know, sometimes you can't predict that somebody's going to provide a bridge and take you out of your existing loans. It happened to us, I think, last quarter on one pretty big loan, which, by the way, we're very pleased that we no longer have it. It was time. So, you know, I think the runoff is definitely a factor. Sometimes we come across, you know, one-time opportunities that are very lucrative and You know, we're very nimble as a firm, and in a market like this, you just never know what's going to happen. But, you know, based on a current pipeline, we have a good amount of cash on hand to fund the current pipeline and cash available on our CLOs to continue to operate our business effectively with a capital raise.

Great. I appreciate the color on that. And, you know, kind of a bigger picture out of D.C., you know, a lot of news reports comes and goes as far as new regulations and impact on the housing market in the United States. Are there any specific issues there you're watching? Are there developments that are taking place here in the last couple of months that have been positive for your business, will be a headwind for your business? Or can you maybe talk about the impact any new regulations out of Washington is having on your activities?

I think it's early to see where anything's coming out. We've been battling this for the last eight years. There's always a change, always a rumor of something happening. I think the last rumor that I heard yesterday was that the desire to do away with the 30-year mortgage, which would devastate the residential business, which is not our business. The offshoot would be is that I think more people would be renting. It would be good for our business. But there's just too much speculation going on at this point. Of course, everybody wants to take Fannie and Freddie out of conservatorship. How do they do that? How do they impact the resi market? How do they impact the multi-market? It's too early to tell. We've been going at this for eight years, and every day it's another story.

Yes, it definitely is. So Ivan and Paul, I appreciate you taking my questions. And, again, very nice quarter. Thank you.

Thank you. And our next question comes from Steve Delaney of JMP Securities. Your line is now open.

Good morning, Ivan and Paul. Thank you for taking my questions. Obviously, the number that blew us away was the $1.6 billion in agency in the quarter. And we know fourth quarter is usually the peak period in the year. But could you comment if there were any particularly large loans in that total and maybe what was the largest loan that you might recall that really stood out in the quarter? Thanks.

Sure, Steve. Hey, it's Paul. So as we mentioned in our commentary, yes, we had a phenomenal fourth quarter of $1.6 billion. There were probably four to 450 million of portfolio deals, probably four or five or six portfolio deals, we closed in the fourth quarter. That were in our pipeline, and we didn't know if they would close fourth quarter or first quarter, but they all got done in the fourth quarter. The biggest one of those portfolio deals, I think, was $150 million. So we did a couple of big portfolio deals. We had a couple of larger loans as well, but it's really driven by these portfolio deals we closed. I think from our standpoint, the $1.6 billion was tremendous, a little shocking for us as well. We expected some of that to flow over into the first quarter, and I think, as Ivan said, as rates went where they went and people got a little anxious, a lot of that got pulled forward into the fourth quarter. But as you said, this happens a lot in this industry. You've seen it in other competitors as well. Your fourth quarter is usually very, very strong, and then you reset for the first quarter. But that's the reason we had such a dominant fourth quarter.

And just to be clear, I heard you mention the $150 million. The aggregate of all the portfolio deals, did you say that was between $400 million and $500 million?

Yes, at 4 to 450.

4 to 450. Okay, great. Thank you. And, Ivan, as far as what you're seeing, obviously we're only, well, I guess only we're a month and a half, we're halfway through the first quarter now. I was, Paul mentioned pull forward, and I was sort of thinking, too, that rally in the 10-year, you know, breaking down well below 3%. I was just wondering if maybe there was any Are you concerned about cannibalization of the usually weaker first quarter, or are you seeing sort of steady business flows?

I definitely think there was a little stronger fourth quarter and some pullout of the first quarter. First quarter is usually a little weak. And, you know, people on vacation, the pipeline is a little slow to build in the first couple of weeks, but we're seeing the trend of the pipeline in the last two weeks, you know, get back to the normal pace of buildings. So it's a normal first quarter where the first three weeks are slow, and now it's back on pace.

Yeah, and I think, Steve, to help guide you a little bit, I think if you go back and historically look at our first quarter buy-ins, that's probably what you see typically with us. And as Ivan said, it's a little slow in January, and then it starts to build. And then as the trend, you'll see in our financial statements for the years we've been in the residency agency business, you'll see the first quarter a little weaker than the second quarter bills, and then the third and fourth quarters are always much stronger, and that's just the way the business plays out.

Understood. That's helpful. I want to follow up on Ben's question about the single-family rental initiative. I'm curious. We understand that on a big-picture basis and how it has comparable opportunities to the multifamily, but from an internal standpoint, I'm curious – whether Steve Katz is charged with building a completely separate origination and servicing platform, or will this overlap and utilize Arbor's current loan origination force?

It's a good question. Initially, we'll leverage off of the infrastructure that we put in place for the Freddie Mac program, but from an origination standpoint and an underwriting standpoint, a closing standpoint, we'll build out a separate unit. and a separate skill set because we're going to have a broader product line and it'll be self-contained. From a servicing standpoint, it's our plan to augment our servicing capability up in Buffalo and keep it under the same management and leadership but build out the separate skills and talent because we'll be doing multiple products, not just a fully stabilized asset because we'll be providing bridge loans like we do on the multifamily side to get products stabilized and then securitize it. So we'll build out a full complement of staff to support our entry into this space.

That's helpful, Ivan. And should we think of the end game being primarily to acquire, aggregate these loans and then structure, you know, finance them in a way that they can be, you know, relatively long duration investments on the REITs balance sheet?

I think that the duration on the aggregation side is, Between 12 and 24 months, people buy them, they aggregate them, they lease them up, and once they're leased, then you can securitize and put five, seven, and 10-year fixed-rate products on that. That's the game.

Okay. And that product, if you were to securitize that, would the subordinate retained bonds provide an additional investment opportunity for the REITs balance sheet?

Yes, we would intend on retaining that with a good yield and also having an appropriate gain on sale.

Great, okay. And just one final thing, a simple little thing. Can you estimate what your total, in terms of the build-out of the franchise and the platform, what was the approximate total headcount for the whole Arbor franchise at the end of the year and how would that compare to, say, one year earlier?

Sure, Steve. Hey, it's Paul. So in total, we were sitting with about, I think, 445 people at the end of the year this year, and I think actually 468. It was 445 at the end of this time last year. So headcount's up 5%. It's up about 3% in the agency business, and the rest is in the balance sheet business.

Great. Thank you both for the comments. Thank you. Thank you.

And our next question comes from Rick Shane of J.P. Morgan. Your line is now open.

Hey, guys. Thanks for taking my questions this morning. I also want to circle back on Ben's question, but I heard a good answer, a clear answer on the sales margin, but I wanted to make sure we understood the NSR rate going forward. It looks like you trued up. You talked about sort of truing up the assumption there. I'm curious if that's going to be a go-forward assumption as well.

Sure. It's Paul. So, yes, we did true up in the fourth quarter kind of re-evaluating our assumptions for our 2018 MSRs as you're required to put them on as close to fair value as you can. We use an outside service to help us value it, as most firms do. We do think that under the new policy and new strategy, it will be higher in the future as a result of those fair value assumptions, but obviously that 225 has a cumulative adjustment in the number. So I think the quarter before that, it was, I think, 183. It may be around there or a little bit up from there going forward, depending on mix. So I think the assumptions will change the value in an upward way, but it also depends on mix of the product. Obviously, certain products have higher servicing value because they have higher servicing fees than others. But if the mix stayed the same, we will see an upward trend. It just won't be 225 every quarter.

Got it. So if we look at it on a year-over-year basis for the years, it was 194 this year, it was 177 last year. Is 194 potentially a reasonable assumption going forward?

It is if mix doesn't change because that reflects what the new values are. So I would say that is a good assumption if mix doesn't change.

Perfect, okay, and mixed was essentially the same year over year. What was the change in assumption? Was it a change in discount rate or was it a change in duration?

It was both, but it was more duration than discount rate, but discount rate did play a role, and it's duration and cost as well.

Terrific. Hey, guys, thanks for taking my questions this morning. Okay, thank you.

Thank you. And our next question comes from Jay Ramani of KBW. Your line is now open.

Good morning. This is actually Ryan on for Jay. Thanks for taking the follow-up, guys. Hey, Ryan. With the growth that you've experienced in the agency business and the success you've had there, are there any issues you anticipate with respect to read eligibility? Perhaps you could say what percentage of the dividend or earnings is being generated by the agency business or what percent of the agency businesses' cash earnings are actually re-qualified?

Sure. So the way we look at it right now is I think for the fourth quarter, the agency business on an AFFO basis came in about 57% of our total. I think it was close to the 60% for the year on our 121 at AFFO. A good part of the income, as we've talked about before on our call, is from this Capital Light agency business, which is actually very accretive. As far as TRS eligibility and REIT eligibility, we still have lots of room because, as you know, we employed a strategy early on when we purchased the agency business that was selling off a piece of the servicing as excess servicing up to the REITs. We're actually creating a significant amount of the servicing value. Up at the REIT level, it's not taxed at the TRS level. So although the AFFO is roughly 60% agency and 40% REIT, a lot of the servicing value is going back up to the REIT, so it's giving us lots of room in our eligibility on our REIT test. We still have a lot of room, and we're fine.

Okay. And we saw recently that Fannie announced it's raising its small balance loan program limit to $6 million from $3 million. which would be in line with Freddie Mac. So, Ivan, I was just wondering what comments you can give on that in terms of the potential impacts to your addressable market and competition overall.

Well, I think it's very positive that B&A has moved up their score balance to compete with Freddie. It gives us more product diversity. They have some products that are a little bit better specifically on the 10-year than Freddie Mac. So we're pleased. It just makes it a bigger market for us. We've always been a leader with Fannie Mae in that space. We, as you know, designed the Freddie Mac program. So it just gives us another tool in our toolbox to effectively compete in the market.

And then just a few housekeeping items. Paul, can you give the commission rate in the agency business? You said it was lower based on the larger portfolio deals.

Yeah, it was lower this quarter for a few reasons. mostly due to the larger portfolio deals. Secondly, due to when you get to year end, you're estimating your commissions all along, and then you kind of true up your pool. So I think in the fourth quarter, it was about 30%, but for the year, it ran about 37%. And that's how I look at it. Obviously, if, you know, margins compress a little bit, that number could come down. But right now, it's sitting at about 37% for the year.

And then... Okay, great. And then the... average spread on balance sheet loan originations in the quarter?

Yeah, sure.

I have that.

So, yeah, we do look at it a little differently. I know you guys like to ask that question each quarter, and we have it. We look at it on a levered return basis, obviously, because we have senior debts and subordinated paper as well. So the subordinated paper will have a higher gross interest income, but obviously not as leverageable. But for the quarter, we came in at just about 8% all in with fees on the $448 million that we originated. Our levered returns were 13.5%, which was quite impressive considering how competitive the market is. And we'd be able to do that through scale and obviously through reducing all our borrowing costs in our lines. But our gross interest income on those loans and yield came in at 8% for the quarter.

And I'm guessing the 8% seems like a bit high probably due to some mix. Any chance you could say for like the standard bridge first mortgage product where our spreads currently are today in the market or where they were in the fourth quarter?

Yeah, I'll let Ivan comment on where spreads are right now in the market, but I think, to your point, it is a little bit of a mix. 90% of the loans we originated in the quarter were senior debt, were bridge loans. 10% were subordinate paper. So that does impact it. As I said, the 10% carries a much higher gross yield. But again, we look at it from a levered return perspective, and from a levered return perspective, 13.5% and a little bit over 13% of the year was a really strong year for us. But Ivan could give more color on where we think spreads are right now on that structured product.

I think spreads on bridge debt, senior debt, are definitely very, very tight and extremely competitive. And we've been effective in reducing our borrowing costs and getting more efficient leverage, so maintaining our yields. On the other hand, LIBOR is going up, so the growth rate is going to inch up as LIBOR is inching up. So we've been able to maintain the kind of yields that we need to in order to be an effective operator, but that's been by creating other efficiencies to offset the spread compression.

Got it. Thanks for taking the follow-up.

Sure.

Thank you. And that concludes our question and answer session for today. I'd like to turn the conference back over to Ivan Kaufman for closing remarks.

Okay. Thank you, everybody, for your good questions and your participation the entire year. It was an outstanding year. We're pretty thrilled about our baseline starting point for 2019. Numbers really support a great dividend and the opportunity to grow our dividend for 2019 and forward. Thanks, everybody. Have a good day.

Ladies and gentlemen, thank you for participating in today's conference. This does conclude the program, and you may all disconnect. Everyone have a great day.