Chimera Investment Corporation

Welcome to the Chimera Investment Corporation Second Quarter 2021 Earnings Conference Call and Webcast. All lines have been placed on mute to prevent any background noise. After the speaker's remarks, there will be a question and answer session. If you would like to ask a question at that time, simply press the star and the number one on your telephone keypad. If your question has been answered or you wish to remove yourself from the queue, press the pound key. we ask that while posing your question, you pick up your handset to allow for optimal sound quality. It is now my pleasure to turn the program over to Victor Falvo, Head of Capital Markets. Please go ahead.

Thank you, Brittany, and thank you, everyone, for participating in Chimera's second quarter earnings conference call. Before we begin, I'd like to review the Safe Harbor statements. During this call, we will be making forward-looking statements, which are predictions, projections, or other statements about future events. These statements are based on current expectations and assumptions that are subject to risks and uncertainties, which are outlined in the risk factors section in our most recent annual and quarterly SEC filings. Actual events and results may differ materially from these forward-looking statements. We encourage you to read the forward-looking statement disclaimer in our earnings release in addition to our quarterly and annual filings. During the call today, we may also discuss non-GAAP financial measures. Please refer to our SEC filings and earnings supplement for reconciliation to the most comparable GAAP measures. Additionally, the content of this conference call may contain time-sensitive information that is accurate only as of the date of this earnings call. We do not undertake and specifically disclaim any obligation to update or revive this information. I will now turn the conference over to our CEO and Chief Investment Officer, Mohit Marya.

Mohit Marya Thanks, Dex. Good morning and welcome to the second quarter 2021 earnings call for Chimera Investment Corporation. Joining me on the call today are Choudhury Yarlagada, our President and Chief Operating Officer, Subra Viswanathan, our new Chief Financial Officer, Kelly Cortman, our Chief Accounting Officer, and Vic Falvo, our Head of Capital Markets. After my remarks, Kelly will review the financial results, and then we will open the call for questions. This quarter, we continue to make significant progress towards optimization of our liability structure. For the six months of 2021, we successfully refinanced 12 legacy SIM securitizations supporting more than $5.6 billion of loans. The results of these transactions has lowered our overall cost of debt by approximately 245 basis points, and we expect this cost savings to continue to benefit our shareholders in the future. The housing market continues to be one of the most robust components of the U.S. economic recovery. The National Association of Realtors recently reported sales of existing homes at 5.9 million annual units for the median sale price of more than $363,000, up more than 23% from a year ago. Demand for single-family homes remains strong, while the inventory of homes available for sales persists near record low levels. According to Black Knight data and analytics, In June, the national delinquency rate hit its lowest level since the onset of the pandemic and is now back below the pre-Great Recession average. The 30-plus-day delinquency rate was reported at 4.4% of outstanding loans, down 42% on a year-over-year basis. Strong demand for existing homes, higher home prices, and lower delinquency rates provide strong fundamental support for Comair's large portfolio of seasoned low loan balance mortgages. Interest rates on government bonds experienced a bull-flattening move in the second quarter. Over the period, the yield on 10-year Treasury notes fell by 27 basis points, while the yield on 2-year Treasury rose by 9 basis points. Interest rates on money market instruments, including overnight repo, remained near zero. Investor demand for higher-yielding fixed-income products was strong, and spreads on credit products continued to trend tighter. Accordingly, the Bloomberg Barclays U.S. Corporate High Yield Index ended the quarter at 3.75%, its lowest yield ever. Tighter credit spreads, coupled with low absolute interest rates, have presented attractive market opportunities to refinance our existing securitized debt and secure financing at significantly lower costs. As part of our continued call optimization strategy, this quarter we called and refinanced six SIM legacy deals representing more than $1.5 billion of loans. The new securitization successfully optimized our liabilities through the extraction of capital and lowering cost of debt. Our April deals, CIM 2021-R3 and NR3 on a combined basis had a total of $813 million of securitized debt supported by $977 million of loans. The combined advance rate was 83%, enabling us to extract $125 million of capital while lowering our cost of debt for these loans by 200 basis points to 2.12%. Chimera retained $164 million of subordinate and IO securities as investments from these deals. The new securitizations have a calendar call dates. The R3 financing will be callable beginning April 2024, and the NR3 financing is callable beginning April of 2022. In June, we issued $546 million CIM 2021-R4. The deal consisted of $464 million securitized debt representing an 85% advance rate and a 1.97% cost of debt for these loans. The R4 freed up $98 million of capital and provided cost savings of approximately 180 basis points. Camaro retained $82 million of subordinate and IOS securities as investments. The R4 financing has a calendar call date beginning June 2024. We have provided additional details on page 8 of our earnings supplement to further assist you in the analysis of this quarter's SIM securitizations. Securitizations has long been a cost-effective and efficient financing vehicle for Chimera. In the first half of 2021, Chimera's re-securitization activity enabled us to take out capital, reduce the size, and lower the cost of our outstanding credit financing. And in conjunction with this year's re-securitizations, we have also refinanced several of our outstanding secured credit facilities. We have made meaningful improvements with the average cost of our secured financing for residential credit assets in the second quarter at 3.5%, down from 4.9% at year end. We have always been extremely prudent and diligent when making our long-term investment decisions. Our agency CMBS portfolio is constructed with explicit prepay protection. As interest rates have fallen and maintained near historic lows, we have been active in managing our agency CMBS to determine the best course of action between long-term hold, gain on sale, securitization, or reaping benefits through explicit prepaid penalties. This quarter, through the combination of prepaid penalties received from our Ginnie Mae project loans and early paid outs of non-agency credit, we generated one-time non-recurring income of $38 million. The prepaid penalties we received this year is proof of concept for many of the positive convexity attributes we have regularly discussed over the years. Now, at the midpoint of 2021, I believe we have made meaningful impact on our balance sheet. We have re-securitized debt supporting 5.6 billion loans through seven separate securitizations, lowered our cost of securitized debt by over 245 basis points, lowered the cost of our repo credit facilities by 140 basis points since year end, retired high cost debt and warrants incurred during the pandemic, issued three jumbo prime securitizations totaling 1.2 billion, purchased more than 200 million of high yielding fix and flip loans, and increased our quarterly dividend by 10% to 33 cents. Securizations of loans lock in stable long-term financing for our loan portfolio. We have successfully refinanced many of our outstanding legacy deals, and we have an additional five deals with $1 billion of unpaid principal balance that are or will become callable over the next six months. Looking forward, we continue to seek opportunities to further improve our liability structure. And as always, stay the course as a patient long-term investor focus on investments to provide our shareholders with stable book value and a sustainable and attractive risk-adjusted dividend. I will now turn the call over to Kelly to review our financial results for the period.

Thanks, Mohit. I'll now review Chimera's financial highlights for the second quarter of 2021. GAAP book value at the end of the second quarter was $11.45 per common share. GAAP net income for the second quarter was $145 million. or 60 cents per share on a fully diluted basis. Our core earnings for the second quarter was 130 million, or 54 cents per share. Economic net interest income for the second quarter was 173 million. The yield on average interest earning assets was 7% for the second quarter, while our average cost of funds was 2.6%, resulting in a net interest rate spread of 4.4%. Total leverage for the second quarter was 3.3 to 1, while our recourse leverage ended the quarter at 1.0 to 1. For the quarter, our economic net interest return on equity was 19%, and our gap return on average equity was 18%. Expenses for the second quarter, excluding servicing fees and transaction expenses, were $15 million, down approximately $3 million from last quarter. That concludes our remarks, and we'll now open the call for questions.

At this time, if you would like to ask a question, please press the star and one on your touchtone phone. You may remove yourself from the queue at any time by pressing the bound key. Once again, that is star and one if you would like to ask a question. And we will take our first question from Doug Hartner with Credit Suisse. Your line is now open.

Thanks. Mohit, you mentioned the $38 million of benefit from prepaids. You know, your presentation mentions the 21. Could you just go into what that other 17 million is that you were referring to?

Sure. So the 38 comprises of $21 million of agency CMBS securities that were called that have the explicit prepaid penalties associated with them. In addition to that, we had a handful of non-agency legacy deals that were called, not by us, but by other holders of call rights. and that led to an additional $14 to $15 million of penalties that we received, or I should say accretion as opposed to penalties on the non-agency side. And then some of the IOs that we hold off the Ginnie Mae project deals that were issued by third parties, that was the other $2 to $3 million that we received.

Do you have handy kind of how that what that benefit from call of non-agencies has been in prior quarters?

So it hasn't been that, it's been more muted in prior quarters. We've never had anything to this magnitude in the past. And I guess these were deals that were purchased very early on in 2009, 2010 at very deep discounts. So it hasn't been a meaningful number, otherwise we would have pointed it out on prior calls.

Great. And then just shifting to kind of the new investments, I guess what areas do you see as most attractive today and what type of returns are you generating?

So we continue to focus on the business purpose loans. We think that's a very attractive short duration asset that produces mid-teens type of levered returns. We continue to grow that year-to-date. As mentioned in the opening remarks, we've been successful in acquiring over $200 million. We're continuing to expand our counterparties on where we acquire that, but that's still a large area of focus for us. In addition, the season re-performing space, as shown from the relevers that we've done off of our existing deals, is still a place where you could optimize, you know, your equity finance holdings to a pretty decent levered returns. The loan space has gotten crowded. There's been some new entrants that are pretty aggressive. But as I've mentioned on several calls in the past, there's still a fair amount of loan sales that have to occur from the GSEs and other banks that will create opportunities in the future. I mean, we've been extremely busy. We've done seven legacy season prime securitizations. We've done three jumbo securitizations, you know, and been bidding on loans unsuccessfully. But again, we're optimistic that things will come our way and we'll be able to acquire investments in the future. We don't have to make any rash decisions given the liquidity and the earnings being driven by our current call strategy.

Helpful. Thank you.

And we will take our next question from Eric Hagan with BTIG. Your line is now open.

Hey, thanks. Good morning. I was hoping to get your perspective on how the expiration of the foreclosure moratorium impacts the portfolio and what the overall approach will be in extending any modifications to seasoned re-performing borrowers around the pandemic, including what percentage of the portfolio is still in a COVID-related core balance.

Overall, the delinquency pipeline of our season-reperforming portfolio didn't really materially change prior to the pandemic to post-pandemic. Our 60-plus delinquency pipeline was around 9%. I think it may have inched up to about 10%. It's reverted back to, in that same context now, around 9% on the aggregate. As far as what we plan on doing on extensions or other strategies as it relates to servicing, Given that all of these loans are in trust, we do not control the servicing. Within our governing docs and the PPMs of these deals that we issue, there is a loss mitigation matrix that the servicers have to follow, and they have to do best practices on their end, so we don't really have much control on the servicing of these deals on a go-forward basis.

All else being held equal, does the expiration of the foreclosure moratorium Should investors see that as an incremental kind of positive for the yield in the portfolio, or is it really kind of a neutral event?

Honestly, I mean, we didn't see that much of a cash flow disruption. I mean, if you think about the portfolio composition, the average balance of our mortgage loan is under $100,000. The average mortgage payment is just north of $800 a month. So from A cash flow perspective, we didn't see much change as a result of the pandemic. But overall, the mortgage universe, as highlighted in the opening remarks, the don't come down. The forbearance moratorium should be a positive from a cash flow perspective. Again, given the strong housing appreciation that's been experienced over year over year, coupled with continued low mortgage rates. So anybody having challenges could potentially refinance or reset their rates lower to lower their payments.

Got it. And then one housekeeping item on the credit portfolio. What's the LTV in the portfolio at this point? The loans held for investment, of course.

Loans held for investment, that LTV is probably going to be probably mid-80s, but that number is from the time those loans were acquired. Once we securitize those loans, we will update the BPOs, and that number will probably go lower given, again, the strong housing HPA. Got it.

Okay, thank you very much. Thanks, Eric.

And we will take our next question from Bose George with KBW. Your line is now open.

Hey, everyone. This is actually Mike Smith on for Bose. Just on the funding cost, they declined your material to 2.6%. I'm just wondering, you know, where do you see this going in the near term, you know, maybe second half of 21? And then, you know, how does that relate to your expectations for run rate core earnings?

I mean, we've made both on the securitized debt side, the financing costs have come down quite significantly, as well as on our recourse borrowings, just given the low level of rates and the dealer appetite to finance those assets. I think on the recourse side, I don't really see much more improvement that could really take place given where spreads are. But again, it depends on the amount of cash sloshing in the system, which at the moment it's Plentiful. On the securitized debt side, we still have five deals between now and year-end that are callable, totaling $1 billion of UPB. And if you look at the supplement, the last page of the supplement, it highlights the deals that are callable, the amount of balance or secured debt that's outstanding there. So I think that could still drive earnings on the back half of the year. Now, if you look at where that debt is issued relative to where we've been able to get some deals done, It could, you know, be north of 100 basis point reduction in financing cost on those deals.

Great. That's helpful, Collin. And then just one more for me. How is book value trend since quarter end?

So book value since quarter end, although the market is rallied, spreads have been pretty sticky. So I would say it's unchanged to where we ended June 30th. Great. Thanks for taking the questions.

And we will take our next question from Trevor Cranston with JMP Securities. Your line is now open.

Hey, thanks. Good morning. On the income you guys got from the legacy bonds being called this quarter, I was curious if there's any particular reason you guys would point to as to why some of those deals started to be called this quarter in particular. And if it's something that was, you know, widespread across counterparties or if there's maybe, you know, one particular counterparty in the market or something who's calling some of their legacy deals.

Thanks. Hey, good morning, Trevor. As it relates to, you know, who's calling the deals, I'm not really sure who owns the call rights on these transactions. But it was, you know, it's across shelves, it's across different issuers on the legacy side that deals that got called. Again, given how strong the new issue market has been and the securitization market has been, it is an attractive time to call deals and issue new debt, especially on top of where the new issue market is just where loan pricing is also supportive of deals getting called. So, you know, I'm not surprised this activity has been taking place, you know, since 2018, 19, slowed down meaningfully in 20 as a result of just COVID as well as, you know, forbearance moratoriums, but as those, as highlighted on the earlier question, go away, we do expect this to pick up. But it hasn't been that meaningful in prior quotas, and we highlighted at this time just the amount of, you know, accretion that we did realize.

Okay. Yeah, that makes sense. And on your legacy non-agency portfolio, do you have the number handy in terms of how many of those deals you think are callable at this point? Is it pretty much all of them, or is it mainly less than that?

I don't have a number handy, but I'll spitball it at around probably north of 80%. And if you look at the legacy Q-SIF that we hold, those securities were issued back in 2006, 2007, 2008. Most of those deals have either 10% to 20% cleanup calls. And given we are now 13 years into the issuance of those securities, I would expect a lot of those have factored down to where they could be callable today. But again, on an aggregate portfolio number, if I had to put a number on it, I would say around 80% of our legacy assets are probably callable.

Okay, perfect. That's very helpful. Thank you.

And we will take our next question from Stephen Laws with Raymond James. Your line is now open.

Hi, good morning, Monique. You know, the portfolio is a little smaller. I know there's a lot of competition out there, and, you know, we've just discussed with Trevor and others the call activity that seems likely to take place. But, you know, can you talk about, you know, any other asset classes you're watching that seem to fit the investment mandate you like from a credit standpoint, or you really think you're going to continue, I don't want to say narrow focus, but just focusing on the same, you know, line of assets you've done historically?

I mean, from an investment standpoint, we look across the full gamut of stuff available in resi as well as commercial. You know, we've participated in the season re-performing space. We've done prime jumbo deals. We've done agency eligible investor deals. You know, we're focused on growing the business purpose loan portfolio. So it's across the gamut, like I said, where we think best relative value opportunities exist. is where we want to deploy capital. The space has gotten crowded in the past, and we've been patient and still picking small pools up here and there, but in addition to the season-reperforming loans that we've done, we have done three jumbo deals, and that market, as highlighted on prior earnings call, is one that's interesting where at times there's a great ability to securitize, and at times that widens out in a vacuum, and creates a challenging environment to issue those securities. But the way we've structured the business, I think we want to be involved. We want to be a repeat issue as shown with the deals we've done. And I guess going forward, still optimistic on acquiring loans and continuing to use securitization to finance those vehicles.

Great. Thanks for the color there. And to follow up a question earlier around LTVs, you know, if you take the you know, the older vintage loans, the re-performing loans, and look at, you know, I don't know, mark-to-marking those LTVs based on home price appreciation. You know, have you guys looked at that math and kind of where does that number shake out given current home prices?

We have, and I'll touch upon this. So, as mentioned, we've called 12 legacy deals totaling $5.6 billion, given that those were relevered into new securitizations. When we completed new securitizations, we got updated BPOs. That $5.6 billion of loans in the prior securitizations, which were issued in 2016 and 17, had LTVs in the mid-'80s. When we refreshed the BPOs, the new LTVs based on amortization over the last four years, coupled with home price appreciation, was in the low 60s. So it's been a meaningful drop in LTVs, both due to amortization and home price appreciation, And if you transfer that to the rest of the assets that we own, we would expect to see a similar trend down in LTBs.

That's great, Tyler. Thank you for the numbers there. And then just one touch-up. I think it was mentioned expenses were down about $3 million sequentially. Is that due to seasonality around some stock vesting in Q1, or was there another impact for the sequential decline?

It was all compilated, so it's Just a correction of that, Q1, some stock vestings, which didn't reoccur in Q2.

Fantastic. Thanks a lot. Take care.

Thanks, Stephen.

And I will now turn the program back over to Monique for any additional or closing remarks.

Thank you. And thanks, everyone, for joining us on our call. We look forward to speaking to you on our Q3 earnings call.

This does conclude today's program. Thank you for your participation. You may disconnect at any time, and have a wonderful day.