ARMOUR Residential REIT, Inc.

Good morning and welcome to Armour Residential REIT Fourth Quarter 2024 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 Scott Ulm, CEO. Please go ahead.

Good morning and welcome to our Fourth Quarter 2024 conference call. This morning, I'm joined by our CFO, Gordon Harper, as well as our co-CIOs, Sergei Leziup and Desmond McCauley. I'll now turn the call over to Gordon to run through the financial results.

Thank you, Scott. By now, everyone has access to Armour's earnings release, which can be found on Armour's website, .armourleak.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 factor section of Armour's periodic reports filed with the Security and Exchange Commission describe certain factors beyond Armour's control that could cause actual results to differ materially from those expressed in or implied by these forward-looking statements. Those periodic filings can be found on the SEC's website, that's .sec.gov. All of today's forward-looking statements are subject to change without notice. We just claim any obligation to update them unless required by law. Also, today's discussion refers to certain non-GAP measures. These measures are reconciled with comparable GAP 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. Turning to results. Armour's Q4 GAP net loss related to common stockholders was 49.4 million or 83 cents per common share. Net interest income was 12.7 million. Distributed earnings available to common stockholders was 46.5 million or 78 cents per common share. This non-GAP measure is defined as net interest income plus TBA drop income, adjusted for interest income or expense on our interest rate swaps and futures contracts minus net operating expenses. Armour Capital Management continues to waive a portion of the management fees, waiving 1.65 million for Q4, which offsets operating expenses. The waiver continues until further notice. During Q4, Armour raised approximately 136.2 million of capital by issuing approximately 7.2 million shares of common stock through an -the-market offering program. These issuances were mildly diluted to bulk value of two cents per share. Since December 31st, we have continued to be active in our ATM programs, issuing approximately 14 million common shares and 17,364 preferred C shares through February 4th. 2025 raising approximately 259 million of total net capital, which again were mildly dilutive. Armour paid monthly common stock dividends per share of 24 cents per common share per month for a total of 72 cents for the quarter. As stated previously, we aim to pay an attractive dividend in this appropriate context and stable over the medium term. Taken together with contractual dividends on the current stock, Armour has made cumulative distribution to stockholders of 2.4 billion over its history. Quarter end book value was $19.07 per common share. Our most current available estimate of book value is as of Monday, February the 10th, was $19.18 per common share. Now I will turn the call over to our Chief Executive Officer, Scott Olm, to discuss Armour's portfolio position and current strategy.

Thank you, Gordon. 2024 was a year of transition for Fed policy as the FOMC reduced the Fed funds rate by 50 basis points in September, after keeping it unchanged at .25% since July 2023. The Fed stated that weakness in the labor markets prompted the larger than typical 25 basis point rate cut. Yet the US economy remained resilient in the fourth quarter and as economic data continued to improve, investors reduced the number of expected rate cuts and extended their time, including to increase bond yields and wider spreads. The outcome of the US presidential elections were the supportive pro-growth agenda and a potentially larger fiscal spending program added another layer of concern for the treasury. Lastly, the hawkish weight cut at the December FOMC meeting injected another round of volatility in a month that has been historically favorable for bond investors. Despite the four quarters swings in the buy MBS valuations, Armour maintains a constructive view on agency MBS spreads. Our positively slope steeper yield curve and historically attractive MBS spreads are currently generating approximately 150 basis points positive versus cash. Moreover, a duration edge levered ROE measure produces some of the most attractive yields in Armour's history at 18 to 19% on the production and premium coupon MBS. Although macroeconomic and geopolitical themes continue to prevail, such an attractive carry profile leads us as buyers of MBS during episodes of spread weakness or volatility. Our view is supported by less volatile spreads in 2025 as well as the growing diversification of the mortgage investor base, which has steadily grown from money managers to continued overseas buying and bank demand turning net positive in 2024. With monetary policy on hold, we expect rates to trade in a range-bound environment over the earlier part of the year a tailwind for consistent MBS returns. Of course, it is just as important to recognize the potential headwinds facing MBS investors this year. The recent reemergence of headlines around GSE reform adds to the already busy list of macro drivers that could keep investors in cash for longer than expected. Due to bureaucratic and regulatory complexity and the GSE's outsized role in the housing market, we do not see reforms as an imminent risk, but acknowledge that the new administration, including Scott Bessner as head of the US Treasury Department Bill Poulsey as the head of the FHFA, could begin to introduce details and steps needed for eventual exit. Our exposure to GINI MBS helps mitigate some of the reformers to conventional MBS for now, but until we see more concrete proposals, the current situation will leave us looking to fade headline-driven volatility. Secondly, we believe that banks, seemingly slower than expected deployment in agency MBS assets, could be driven by lack of clarity in the proposed regulatory changes, which though, appearing to turn more favorable in recent months, lacks certainty of details and timing. Thus, this is a win, not an issue, which we will see more transaction if Michelle Bowman, a strong proponent of banking regulations, gets nominated and confirms as new vice-chair for banking supervision. Similarly, we've been encouraged by Treasury Secretary Bessner's plans to keep future coupon treasury issues steady and tackle the budget deficit, steps that strengthen investors' confidence and incentivize banks to allocate the reserves into Treasury and MBS markets. Let me turn it over to Desmond for more detail on our portfolio. Desmond? Thank you, Scott.

In Q4, our agency portfolio experienced approximately four basis points of widening in nominal spreads versus approximately five basis points of widening in production MBS treasury basis. -to-date, portfolio assets have tightened approximately three basis points, and our book value stands at approximately $19.18 per share as of market close on February 10th. Net portfolio duration and implied leverage were at 0.36 years and 7.9 terms respectively, while cash and box liquidity is at approximately 50% of the total capital. The hedge book is composed of approximately 25% treasury-based hedges and the remainder in OIS and SOFRO pay swaps. This allocation benefits us if swap spreads continue to appreciate and help diversify some of the risk if concerns around term funding premium resurface. We maintain healthy levels of available capital liquidity with room to grow leverage in the appropriate market conditions. We are successful in bolstering our capital base through issuance of common and preferred equity in late 2024 and in the first quarter of this year. Given our favorable outlook for MBS carry, we deployed newly raised capital to purchase approximately $2 billion of mortgage assets and PBAs here to date, which earn at or above our hurdle rate after accounting for costs and expenses. We expect earnings available for distribution to exceed our Q1 dividend rate. The overall investment portfolio remains liquid with 100% agency MBS and well diversified across the 30-year coupon stack ranging from .5% to .5% with particular overweight to .5% and 6% coupons where spreads and carry are most attractive. Portfolio MBS repayment rates have averaged 8.7 CPR in Q4 and trending at around 6.4 average CPR so far in Q1. We expect the prepayment environment to remain uneventful for our portfolio mix of modest price premiums and discount MBS and while mortgage rates remain above 6.5%. Despite the slow prepayment environment, we continue to favor specified pools which exhibit better convexity over TBA and are less exposed to refinancings should mortgage rates rally to 2024 lows of 6%. Having said that, we have increased our exposure to TBA role in coupons where we see some return in role specialness since the start of the year. While these are not core long-term positions, they help enhance market liquidity and flexibility of the portfolio. The repo market experienced some rising pressures at the year end as expected, but has since returned to a more typical SOFR plus 15 basis points repo spread. We found 40 to 60% of our MBS portfolio with our affiliate Boclo Securities while spreading out the remaining repo balances across 15 to 20 other counterparties to provide armor with the best financing opportunities. Overall, repo funding for agency MBS remains plentiful and competitively priced across the board and Fair Chairman Powell continues to reiterate that banking reserves remain abundant. Back to you, Scott.

Thank you very much. At this point, I think we'd like to open up for any questions.

Yes, sir. We will now begin the question and answer session. To ask a question, you may press star then one on your telephone keypad. If you're using a speakerphone, please pick up your handset before pressing the keys. If at any time your question has been addressed and you would like to withdraw your question, please press star then two. At this time, we will pause momentarily to assemble our roster. The first question comes from Doug Harder with UBS. Please go ahead.

Thanks. First, just a clarification on the book value update. How does that factor in February's dividend?

It does not, as we know, X dividend by the end of this week.

Okay. I appreciate that. And then, just, I guess, how are you thinking about the outlook for volatility and the potential costs of volatility on your returns?

Yes, good morning, Doug. This is Sergey. How are you? Thank you for your question. We've seen volatility decline here, both in rates and spread. And I think this has been the kind of really the tailwind for the MBS market to earn consistent ROE without the volatility that we've seen over the last two years. We expect this volatility to continue to decline to grind lower. With the Fed on hold, we feel like this will be a more range-bound environment that we've seen in prior years. At the same time, we do feel like there's more costs on the table. The question is going to be their timing, but overall, the volatility aspect of the market looks very favorable.

Great, appreciate that,

Sergey. The next question comes from Jason Weaver with Jones Trading. Please go ahead.

Hey, good morning. Thanks for taking my question. Scott, I think in your initial comments, you mentioned you expect something like 18%, 19% ROE on generics concurrently. How do you compare with your actual deployments, the two billion of actual deployments here today? What are you expecting there?

We've been able to deploy at those expected numbers. Scott, what tomorrow brings... Oh, okay, that's

fair. I just wanted to clarify.

Yeah, I can't tell you what tomorrow brings, but we've been pretty encouraged by what we've been able to achieve with capital.

Got it, thank you for that. And what we're seeing on the side of the table is that the screen, at least year to date, is mirroring your expectation of somewhat higher spreads, even in the face of some of these hotter inflationary prints. I was curious, what are the biggest sort of risk factors you're concerned about for spread widening going forward?

There's all this stuff to worry about, as you know. It starts with geopolitical stuff that's out there. It follows through. We've

got,

yeah, GSE reforms have been a wild card. As we said, I think that's gonna be a heavy lift. It's been on the agenda for past Trump administrations and didn't quite get there. And there is certainly headline risk there, comments on what could happen, but there's a lot of wood to chop on that one. But that could introduce some headline stuff there. We've got ongoing fiscal issues, treasury supply that might be there. And obviously we've got this inflation story which continues to evolve. Probably another couple pages of things that we could come up with. There's always a lot to worry about, something going bump in the night.

So, yeah, I think that's a good thing. Got it, thanks for that, Coller.

The next question comes from Jason Stewart with Janne Montgomery Scott. Please go ahead.

Hey, good morning, thank you. I wanted to follow up on the GSE reform topic. Thanks for the color and the comments there. Maybe you could put a finer point on how much you think is priced into the mortgage basis right now. And as we go through that process and at least see headlines, what kind of widening you would expect to see in terms of basis points and how you would position the portfolio and risk for that environment?

That's a tough one. Look, I saw some research that said if the agencies were stood on their own, they'd be single-A rated. And cut that at 70 basis points or a point of additional spread required. That's a big number. On the other hand, I think it's a little beyond the pale to think that after the better part of a century of enjoying a implicit government guarantee, now we've got, and obviously the issues making it explicit in law, but we've got preferred purchase stuff and five treasury secretaries that say they back the agencies that we're gonna walk away from the implicit support that we've got. My bet is that we'll see efforts to exit conservancy and probably tie that with substantial private capital tied to the front bumper to protect the taxpayer but still leaving some version of what's been in place for a long time. How much is priced in today? I don't know, a whole lot. I wouldn't say it now because it's hard to say now, but I don't think there's a whole lot priced in right now.

Yeah, a good measuring tool for that are teeny-tiny swaps, which haven't really reacted to many of the headlines that you see in the equity markets. So that kind of underlines what Scott just mentioned. The steady growth of retained earnings could put them on the path to eventual exit. So the new FHFA director could look to increase their profitability through certain ways, like increasing the risk premiums on loans and things like that. So this could reshape the footprint of GSEs going forward, but we don't see an abrupt exit as the base case today.

Okay, that's helpful. So the net takeaway for ARR would be that the equity probably doesn't change much unless we get a material shift in terms of the path forward.

I agree with that.

Okay, okay, that was it for me. Thank you.

The next question comes from Mikhail Goberman with CitizensJMP. Please go ahead.

Hey, good morning, guys. Thanks for taking the question, sitting in for Trevor today. Just curious, what would you guys need to see to either increase or decrease leverage from this point on?

Yes, hi, Mikhail. So we are very comfortable with the current leverage. The last time we checked, we were somewhat above the average of our peers. So we like the leverage where it is today, given the compelling returns, profile of assets that we purchase. Yet as we mentioned in our prepared remarks, there are some questions that we are looking to have answered in order for us to increase our leverage. That is the GSE reforms, QT, the timing of any potential tapering of QT. These are the things that we are kind of looking for more clarity on in order to increase leverage from here. In terms of potentially decreasing leverage, we don't see that in our base case, but if, for example, we see the curve flattening for some reason, maybe more Fed Heights get priced in, those could be the areas of concern that may cause us to reduce our leverage. But those are tail risks. We don't see that as base case.

Got it, thank you. And what is your outlook on swap spreads for this year and the trade-off of using swaps versus treasuries for hedges?

Yes, so swap spreads have had quite a move this year. I think we moved more than 10 base points from the site late December. This was all driven by the fact that, you know, Treasury Secretary Dessin's commentary and commitment to bringing term premium lower, as well as some of the banking deregulation proposals by the Fed and potentially new Vice Chair, Michelle Bowman. So a lot has been priced in behind those comments already. I think the next pricing point is gonna be what actions are actually going to be taking. So we use our swap position of 75% versus 25 in treasuries. That's kind of, you know, very base case, a comfortable position where we're well positioned for the further widening appreciation of swap spreads. But, you know, if things turn around, we do have a treasury position to diversify some of that risk.

Great, thank you for that color. And just to confirm on current book value, that's 19.18?

Correct, $19.18.

Great, thanks a lot. Best of luck going forward, guys, thank you.

The next question comes from Christopher Nolan with 'Edward-Tallman. Please go ahead.

Hey, guys, first on the ATM, 136.2, is that gross or net?

Net.

Okay, and then as memory serves, last quarter, you guys basically were increasing your portfolio, waiting to lower coupon shorter term MBS on the expectations of further Fed rate cuts. Now, fast forward to the fourth quarter, has your expectations of rate cuts changed with the outcome of the presidential election? And are you positioning the portfolio more for a higher long end, or if you get a little color in terms of how your portfolio position has changed?

Yes, thank you. So we followed the model, don't fight the Fed. In December meeting, they've indicated that rates are still well-restricted territory and that's well above the neutral rate. Now, since then, we did have new economic data releases, including unemployment and CPI. So a lot of these things will continue to move the timing of further cuts, but we still firmly believe that there's more cuts on the table and we're positioned for it on duration and coupon stack positioning. Now, what the guy said in terms of ROE, the most attractive part in a coupon stack isn't five and a half and six higher coupon positioning. So we've been particularly active there.

Okay,

thank you.

Again, if you have a question, please press star then one. The next question comes from Eric Hagen with BTIG. Please go ahead.

Hey, thanks, good morning. Another follow-up on the asset selection. I mean, I think you mentioned liking higher coupon specified pools. How are the payups right now relative to payups in the current coupon historically? And do you feel like payups maybe have as much value as they have historically, just given how aggressive the originators are and targeting borrowers for a refi?

Yeah, that's a good question, Eric. A lot of the spec payups have appreciated over the last few months. We're seeing the theoretical break-even on the payups versus the model, approaching close to 100%. So this is why we've increased our positioning in TBA dollar rolls as well to kind of diversify away from full payup premiums. But, you know, so that's been the strategy to wait out into some of the TBA positions to be able to swap back into spec pools when we see them more attractive.

Okay, interesting. Going over to repo market conditions, I mean, do you feel like the steeper yield curve is supportive for spreads in liquidity in the repo market? And how much demand do you guys see to extend repo, you know, pick up term repo right now? Thank you.

Yeah, so the repo curve, it's particularly the look of one to two months, is relatively flat. So, you know, it's really more depends on kind of what the initiatives out of the treasury department are coming in terms of their funding and their financing and how that affects the calendar rates. But overall repo market has been extremely well behaved since the year end. I think we're seeing kind of sulfur plus mid-teens type of spread and, you know, that part of the market is very beneficial to the agency MBS.

Okay,

thank

you guys so much.

This concludes our question and answer session. I would like to turn the conference back over to Scott Ulm for any closing remarks.

Thank you so much for joining us this morning. And we look forward to speaking with you. Feel free to call us with any follow-up chat. Thank you.

The conference has now concluded. Thank you for attending today's presentation. You may now disconnect.