Chimera Investment Corporation

Good day, ladies and gentlemen, and welcome to the Chimera Investment Corporation first quarter 2022 earnings call. All lines have been placed on a listen-only mode, and the floor will be open for questions and comments following the presentation. If you should require assistance throughout the conference, please press star zero on your telephone keypad to reach a live operator. At this time, it is my pleasure to turn the floor over to your host, Victor Falvo, head of capital markets. Sir, the floor is yours.

Thank you, operator, and thank you, everyone, for participating in Chimera's first quarter 2022 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. They're 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 for 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 revise this information. I will now turn the conference over to our CEO and Chief Investment Officer, Mohit Morya.

Thanks, Vic. Good morning and welcome to the first quarter 2022 earnings call for Chimera Investment Corporation. Joining me on the call today are Cholri Yarlagada, our President and Chief Operating Officer, Subra Viswanathan, our Chief Financial Officer, and Vic Falvo, our Head of Capital Markets. After my remarks, Subra will review the financial results and then we will open the call for questions. Last year, we began to prepare for a higher rate environment by optimizing our liability structure, which included the re-securitization of $6 billion of our loans with long-term fixed-rate coupons. As rates began to rise this year, we have begun implementation of the next leg of our strategy to acquire high-yielding residential loans while continuing to obtain long-term financing through securitization. The dramatic increase in headline inflation and widening of credit spreads, which began late last year, continued during the first quarter of 2022. The Federal Reserve Board began to raise short-term rates and announced it would stop new purchases of agency mortgage-backed securities and possibly reduce its current Treasury and MBS portfolios. Markets reacted swiftly to Fed pronouncements causing two-year Treasury notes to increase by 160 basis points, 10-year Treasury yields increased by 83 basis points, and 30-year mortgage rates increased by approximately 160 basis points. all occurring over the course of the first quarter. This combination of high volatility and higher interest rates impacted our book value, which was down 14 percent for the quarter. At the same time, this environment created opportunity for Comair to increase our investment portfolio of residential loans at yields much higher than were available last year. This quarter, we committed to acquire about $800 million of re-performing residential loans. We have settled $570 million into our loan warehouse and expect to settle on the remaining loans early in the second quarter. New purchase activity, coupled with the settlements of loans purchased late in 2021, enabled us to settle on nearly 1 billion loans in the period. We expect these loan acquisitions to contribute to our earnings immediately and like to add more loans as interest rates continue to rise. In February, we sponsored CIM 2022 R1, our first securitization of the year, collateralized by seasoned, re-performing residential mortgage loans with a principal balance of $328 million. The loans had an average coupon of 4.61 percent and are 169 months seasoned. Securities issued by CIM 2022-R1 with an aggregate balance of approximately $264 million were sold in a private placement to institutional investors. The senior securities were rated AAA by Fitch and DBRS and represent approximately 80% of the capital structure and have a 3% fixed rate coupon. We retained 64 million of subordinate notes and interest-only securities for investment. Kamara retained an option to call the securitized mortgage loans at any time beginning in February 2027. Considering the market volatility and increase in interest rates this period, I would like to take a moment and discuss the liability structure we have worked so diligently to establish for our balance sheet. Securitization remains the primary source of funding for our mortgage assets. This debt is permanent and has been structured with call features that enable us to optimize our liabilities over the long term. At quarter end, $8.1 billion of securitized debt represented 70% of our mortgage asset funding. 7.9 billion, representing 98% of our securitized debt, have fixed rate coupons. The average rate of our 8.1 billion outstanding securitized debt as of March 31st was 2.5%. The remaining 30% of our liabilities are comprised of repo or secured financing commitments. At quarter end, we have 3.4 billion secured financing agreements, representing only one turn of recourse leverage on our total capital. Over the $3.4 billion total, $1.9 billion, or 56% of our secured financing, is used to finance non-agency RMBS, which includes our retained securities from securitizations. This portion of our financing has laddered maturities ranging from one month out to three years. 64% of the $1.9 billion were structured with non-mark-to-market or limited mark-to-market pricing arrangements on the underlying assets. and only 36 percent have a mark-to-market pricing feature to the underlying assets. The remaining $1.5 billion, or 44 percent, of our secured financing agreements are used to fund our warehouse loans and agency securities. We intentionally have kept the duration on this portion of our financing to shorter term to provide maximum flexibility for future securitizations of our loans and the management of early prepayments received on our agency CMBS. The average rate on March 31st of our full $3.4 billion of secured funding was 2.53%, up 23 basis points from year end. Our assets are performing well, and we believe our liabilities are well positioned. The company currently has a share repurchase plan in place, which allows us to repurchase up to $226 million of our common shares. Given the sharp movement in our share price relative to our book value, We plan to evaluate the benefits of share repurchases in conjunction with the added benefit of other investments to maximize the long-term benefit to our shareholders. To summarize, over the past several years, we have accumulated a high-yielding portfolio of residential loans and securities that have been primarily funded through securitization. We have locked in a low-cost fixed-rate financing for this portfolio and are regularly utilizing call provisions to optimize our net interest spread. Since the beginning of the pandemic, we have restructured our secured financing agreement to protect our portfolio during periods of high volatility and market dislocation. Higher interest rates and wider credit spreads represent potential opportunities to grow our portfolio. We have a large share repurchase plan at our disposal, and we believe we are well positioned to continue to maximize dividend income for our shareholders over the long term. I will now turn the call over to Subra to review the financial results for the quarter.

Thank you, Mohit. I will review Chimera's financial highlights for first quarter 2022. GAAP book value at the end of first quarter was $10.15 per share and our economic return on GAAP book value was negative 11.5% based on quarterly change in book value and the first quarter dividend per common share. GAAP net loss for the first quarter was $281 million or $1.19 per share. On an earnings available for distribution basis, Net income for the first quarter was $94 million, or $0.39 per share. For one-time non-recurring items, we had approximately $0.07 of income that was derived from securities called during the quarter. Our economic net interest income for the first quarter was $138 million. For the first quarter, the yield on average interest-earning assets was 6%. Our average cost of funds was 2.3%, and our net interest spread was 3.7%. Total leverage for the first quarter was 3.5 to 1, while recourse leverage ended the quarter 1 to 1. For the quarter, our annualized economic net interest return on average equity was 15.6%, and our gap return on average equity was negative 29.72%. And lastly, our first quarter expenses, excluding servicing fees and transaction expenses, were $17 million, down slightly from the previous year. That concludes our remarks. We will now open the call for questions.

Thank you. The floor is now open for questions. If you do have a question, please press star 1 on your telephone keypad at this time. Again, ladies and gentlemen, if you'd like to ask a question, please press star 1 on your telephone keypad at this time. Please hold while we call for questions. Okay, our first question comes from Bose. George, please state your question.

Hey, guys. This is actually Mike Smith on for Bose. Just one on the securitization markets. Can you just provide some color on whether or not some of the older inventory has cleared? Just wondering if some of the pressure has eased up, none of the follow-up. Have you seen any changes in loan prices to reflect the wider spreads in the securitization market?

Hey, good morning, Mike. This is Mohit. I'll start with your second question and then sort of address the first one. As I mentioned in the opening remarks, mortgage spreads widened quite significantly in Q1, which did adjust loan pricing irrespective of what happened in the securitization market. But the securitization market compounded that effect given the credit widening that took place in relation to just the market volatility. A lot of the overhang, if you're talking about new origination, was absorbed and, you know, there was a significant amount of deal issuance relative to Q1 of 2021 in a much lower rate environment. I think, you know, the pull-through rates on what the production coupon was changed materially, and the originators and issuers that bought from originators did bring a fair amount of non-QM and jumbo deals. That was unexpected, and we touched upon this in our Q4 earnings call as well. And that's where we saw a lot of spread widening. And, you know, that also trickled down into some of the RPL space, which the issuance was a much smaller percentage of overall new issue securitizations.

Great. Great. That's helpful. And then maybe just one on leverage. What's the level you're comfortable running that at? And then maybe what would you need to see in the market to get comfortable kind of going on offense here?

So, I mean, as we highlighted in the On the call, you know, we have gone on the offensive. We did add, you know, 800 plus million dollars of new loans to the investment portfolio. You know, given the volatility of securitization that you just asked about is why we only completed one securitization so far as the market stabilized, which they seem to be doing here in Q2. We may bring more deals to the market to term finance some of the loan acquisitions. Our leverage did go up from 0.9 to one turn of recourse leverage for the quarter. We still have ample liquidity, $1.5 billion in total, that we look to deploy in either investments or, like I said, given the hit to our stock price relative to what our book value is, we're going to evaluate from a relative value basis where to deploy the next dollar of investments. As far as what the composition of the leverage could be, it's a function of the type of assets we buy. Our focus remains on credit assets. But given the widening that's taken place in agencies, if you buy more agencies, leverage would run a little bit higher. But if it's more credit-focused, we would run leverage to where we are to generate compelling returns. But the ROE will be the focus on determining where the next dollar of cash goes.

Great. Great. That's a really helpful call. And then just one more. Have you seen any changes to your book value so far in the second quarter?

Yeah. Given, again, the continued move in rates both on the belly of the curve in the 10-year, we project the book value to be down about 4% to 5% since the end of the quarter. Great. Thanks for taking the questions.

Thanks, Mike.

Our next question comes from Trevor Cranston. Please state your question.

Hey, thanks. Good morning. You commented a little bit on the sort of repricing of loans given the move up in interest rates and the widening of credit spreads. Can you maybe go through where you're seeing RPLs available for purchase in the market today in terms of price and yield and kind of where the ROE is on new investment today versus kind of what it was at the end of last year? Thanks.

Sure. So, you know, The better part of last year, we were more focused on the liability side of our balance sheet, as again highlighted in the earnings remarks. In the first half of the year, last year, we actually didn't buy much in new loans, but we were able to optimize the deals we had issued in prior years to lock in that low rate financing. In the second half of the year, we had more success in acquiring loans, but given the all-in low-level yields, loan yields, whether it be season-reperforming non-QM prime jumbo, we're trading on a spread basis to swaps plus mid-100s. That number has widened out to maybe swaps plus 200, but the increase in all-in rates has produced yields that are probably running mid-high force on loans today. Like I said, that effect isn't lost on the securitization market, so the demand to execute a securitization has also increased. And based on where you could sell the top of the capital structure, you're looking at retained pieces yielding probably low double digits at the moment.

Okay, got it. That's helpful.

The last thing I will say, let me just make one last comment. You know, the loan market, at least on the season re-performing side, is This is not something that's being produced that already exists. On average, these loans are 100 to 160 months seasoned, depending on what comes out for sale. So the controlled nature of that flow has protected sort of the spread widening that's occurred in some of the other newer origination products. Yesterday, Fannie Mae had their second loan sale of the year. And based on early color, it seems to have traded well and in line with the spreads I just mentioned to you.

Okay. You got it. That's good color. In terms of the book value change, could you kind of roughly talk about how much of that was driven kind of by the movement in rates versus the movement in credit spreads, and if there's any sort of net duration exposure on the portfolio at this point? Thanks.

Sure. A lot of the book value movement is a function of rates. Like I said, the belly of the curve moved about 165 to 170 basis points from December through March. The tenure itself moved over 80 plus basis points over the same timeframe. So that led to a large movement in our book value. From a credit perspective, spreads were wider in sympathy with what happened to agencies. So that, I would say, was a 25% reduction in book value. 75% of the change was driven by the rate movement. As we sort of move past quarter end, rates have continued to sell off. And both the 10-year and the 5-year have moved almost, I think, 35% of the move that occurred in Q1 on the 5-year and almost 70% of the move that occurred on the 10-year so far has been experienced in April, and which is why, again, book value is down anywhere between 4% to 5% since the end of the quarter. But yesterday with the Fed announcement, I think, has given a little bit more clarity on what the Fed's going to do. There was a lot of chatter around a potential 75 basis point hike, but Powell has sort of taken that off the table, predicts that there could be one or two, possibly three more 50 basis point hikes, And then they will see what the data shows in terms of inflation expectations. So I think that's provided a little bit more certainty on the rate outlook as we sort of move into the back half of the year here.

Got it. Appreciate the comments. Thank you.

Again, ladies and gentlemen, if you'd like to ask a question, please press star one on your telephone keypad at this time. Again, that's star one if you'd like to ask a question. Our next question comes from Doug Harder. Please state your question.

Thanks. In the past, and you've done a good job of calling and reissuing securitizations to improve your liability structure, obviously the cost of that has gone up. But can you just talk about the potential to still do that and get the re-leverage benefit, or if there are other ways to kind of re-lever those securitizations?

That's a good question. And, you know, we highlighted in our Q4 earnings call that we do have a fair amount of deals that are either callable or will become callable in the calendar year 2022. And there's a page in our supplement that reflects that. As you mentioned, the cost of issuing new debt has increased quite significantly from Q4 to today. But As we evaluate the equity takeout from the deals and redeploying that today relative to issuing new debt, we're continuously monitoring that. And as it stands today, that's not that attractive to do. The additional new debt that would be issued would be almost negative to where you could deploy the equity, even if we were to repurchase that in stock. So we will continue to evaluate that over the course of the year. But another way to think about it is each month that those deals remain outstanding and they pay down and they continue to deliver, that's an additional dollar of equity we'll be able to take out in the future once we do call those deals. So it is a source of liquidity for the company on a go-forward basis.

I mean, I guess would there be ability to put –

leverage against that additional equity that that's building without having to to redo the whole securitization and give up the attractive cost of funds yes i mean as as the subordinate notes that we retain off these securitizations continue to deliver our repo financing counterparties would take that into account and we could optimize the higher value of those assets over time in the form of additional borrowings on repo that would be another way to sort of tap into that equity

Got it. And I guess, you know, that market has kind of had ebbs and flows. You know, I guess how would you characterize the market there and your level of comfort, you know, kind of given the volatility of that financing?

Yeah, I mean, and I think if you look at the overall repo market for Q1, given the large rate move, given the geopolitical events going on, the market has actually performed really well. And especially, as I mentioned with yesterday's Fed announcements, has given a little bit more clarity on potential future rate path. We don't necessarily see an issue there today, but again, based on the liquidity that we have in the company and our current cash needs, to the extent we're comfortable and we find attractive opportunities, we will increase our leverage and put more stuff on repo. And one of the things we touched upon We're very cognizant of the type of financing we're getting. We would prefer non-market-to-market and longer tenor, but we want to weigh that against the cost of that type of financing relative to the investment opportunities. But we're pretty comfortable overall with where the repo market is today and the counterparties that we're dealing with.

Great. Thank you. Thanks, Doug.

Again, ladies and gentlemen, if you'd like to ask a question, please press star 1 on your telephone keypad at this time. Please hold while we poll. OK, and it doesn't look like we have any further incoming questions, so I'll turn the call back over to Mohi for closing remarks.

Thanks, Operator, and thank you, everyone, for joining us today, and we look forward to speaking to you on our Q2 earnings call.

Thank you. This concludes today's conference call. We thank you for your participation. You may disconnect your lines at this time, and have a great day.