ARMOUR Residential REIT, Inc.

Good morning and welcome to the Armour Industrial REITs third quarter 2022 earnings conference call. All participants will be in listen-only mode. Should you need assistance, please signal a conference specialist by pressing star then zero on your telephone keypad. After today's presentation, there will be an opportunity to ask questions. To ask a question, you may press star then one on your telephone keypad. To withdraw your question, please press star then two. Please note, this event is being recorded. I would now like to turn the conference over to Jim Mountain, Chief Financial Officer. Please go ahead.

Thank you, Drew, and thank you all for joining our call to discuss Armour Residential REIT's third quarter 2022 results. This morning, I'm joined by Armour's co-CEOs, Scott Ulm and Jeff Zimmer. and by Mark Gruber, our CIO. By now, everyone has access to Armour's earnings release, which can be found on Armour's website, www.armourreek.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 Armour's periodic reports filed with the Securities and Exchange Commission describe certain factors beyond Armour's control that could cause actual results to differ materially from those expressed or implied in these forward-looking statements. Those periodic filings can be found on the SEC's website at www.sec.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 Armour's website shortly and will continue for one year. Net interest margin for the quarter was 2.21%, a decrease of one basis point compared to Q2-22. Armour's Q3 comprehensive loss related to common shareholders was $155.7 million, which includes $144.3 million of GAAP net loss. Distributable earnings available to common shareholders was $38.8 million, or 32 cents per common share. This non-GAAP measure is based on historical cost and excludes gains or losses from security sales and early terminations of derivatives, as well as market value adjustments. It does include TVA drop income. Armour paid monthly common dividends of $0.10 per common share during the quarter and has announced dividends at that rate for October and November 2022. The outlook for dividends appears to be stable based on current conditions. However, we will keep a keen eye on economic conditions, which could change rapidly in this environment. Taken together with the contractual dividends on preferred stock, Armour has made cumulative distributions to stockholders of over $1.9 billion throughout our history. ACM, the company's external manager, continues to voluntarily waive $1.95 million of its management fee, which offsets Q3 operating expenses. Armour was proactive in managing its common share capital base in Q3, resulting in positive accretion to stockholders of 14 cents per share. During the quarter, we issued over 22,733,000 shares of common stock through our ATM programs. That raised $167.2 million of capital after fees and expenses. That represents an average price of $7.36 per common share. In September, we repurchased 780,000 shares of common stock at an average cost of $4.96 per share. For context, Q3 volume weighted average price was $6.89 per common share. Quarter end book value was $5.83 per common share. As of last night, the 26th, we estimate that book value per common share was between $5.26 and $5.31 per common share. Again, between 5.26 and 5.31. As we finalize our tax projections for calendar 2022, We expect that all common stock dividends and Series C preferred stock dividends will be treated for federal income tax purposes as returns of capital and not currently taxable to our shareholders. This is comparable to last year's tax results. Looking forward to 2023, we forecast that Series C preferred stock dividends for 2023 will likely be treated as fully taxable ordinary income to those shareholders. Common dividends for 2023 will also likely be treated at least partially as taxable ordinary income. Now I want to turn the call over to Co-Chief Executive Officer Scott Ulm to discuss Armour's portfolio and current strategy in more detail. Scott.

Thanks, Jim. In his fight to normalize high inflation, the Fed has delivered the fastest pace of tightening since the 1980s when former Fed Chair Paul Volcker raised the Fed funds rate to nearly 20%. During the third quarter, the Fed funds rate rose by 150 basis points to 3.25%. The two-year Treasury yield rose by 132 basis points to 4.28%, and the 10-year Treasury yield rose by 91 basis points to 3.83%. The historic upsurge in risk-free borrowing rates, combined with the start of quantitative tightening of $95 billion per month, sent 2022 total returns on U.S. Treasury bonds to negative 13.1%. It's worst on record. The U.K. pension industry, which six weeks ago most of us had very limited knowledge of, emerged as a catalyst for a major risk-off trade in interest rates around the globe. Such is the market we're in. Our March 2020 experience served as a valuable tool to stay ahead of the increased volatility by proactively managing our dollar liquidity and MBS portfolio risks. In September and October, we reduced our mortgage portfolio by $2.9 billion of MBS pools with 3.5 to 4.5 coupons, raising the overall liquidity to $591 million and trimming our implied leverage down to seven times as of 10-25. Since the beginning of September, we have decreased our spread duration by 32%, and our net duration gap was 0.79. Despite dialing down the overall risk levels, we still maintain a healthy exposure to the MBS market, which in our view is approaching levels of incredible value, seen prior only during the great financial crisis a decade and a half ago. With MES spreads just 20 to 30 basis points lower than the widest levels of 2008, we believe the risk-reward ratio now firmly favors the investor. To further improve our resilience to rising turbulence in the market, ARMA raised $167 million of new capital in the third quarter through our ATM share issuance program, that was accretive to our shareholders by 14 cents, and ensured healthy levels of cash liquidity even under the harshest stress test scenarios. Repo financing remains another strong pillar of our business in these markets. Shielded from greater volatility observed in nearly all financial markets, funding of our high-quality MBS assets remained liquid and plentiful. Armour is active with 20 different repo counterparties, and approximately 50% of our borrowed balance is funded through our broker-dealer affiliate, Buckler Securities. Our business relationship with Buckler provides us with a particular advantage in the mortgage REIT sector, securing our lifeline to the funding markets even in times of great distress. We have very limited dependence on third-party repo providers that are dependent on the FICC. 104% of a repo book is hedged with current fixed-to-floating OIS and SOFR index swaps, absorbing the impact of the Fed hiking cycle on overall funding rates due to the daily floating receive leg of the swap. If we include the notional amount of all of our interest rate hedges, our funding is covered by 125%. Armour has vastly reduced its exposure to premiums paid on specified pools and has high excess liquidity as a percentage of total capital, both of which better position the balance sheet to weather the unexpected turns that the rise in market volatility can bring. We believe the expected slowdown in the pace of interest rate hikes in 2023 will provide a catalyst to lower volatility and reward agency MBS investors who have stayed the course with outstanding returns. We expect our all-agency MBS strategy will deliver compelling returns in the future without the risk of credit. We view our current dividend of 10 cents as appropriate. In this volatile environment that has particularly affected book value, we will, as always, continue to evaluate the level of the dividend. We're also mindful that this environment can deliver upside surprises as well that can move our metrics substantially. We'll now open the line to questions.