AG Mortgage Investment Trust, Inc.

Good morning and welcome to the AG Mortgage Investment Trust first quarter 2022 earnings conference call. My name is Brandon and I'll be your operator for today. At this time, all participants are in a listen-only mode. Later, we will conduct a question and answer session during which you may dial 01 if you have a question. Please note it is 01, not star 1. As a reminder, this conference is being recorded. I will now turn the call over to Jenny Neslin. And Jenny, you may begin.

Thank you, Brandon. Good morning, everyone, and welcome to the first quarter 2022 earnings call for AG Mortgage Investment Trust. With me on the call today are David Roberts, our chairman and CEO, T.J. Durkin, our president, Nick Smith, our chief investment officer, and Anthony Rosiello, our chief financial officer. Before we begin, please note that the information discussed in today's call may contain forward-looking statements. Any forward-looking statements made during today's call are subject to certain risk and uncertainties which are outlined in our SEC filings, including under the headings cautionary statement regarding forward-looking statements, risk factors, and management discussion and analysis. The company's actual results may differ materially from these statements. We encourage you to read the disclosure regarding forward-looking statements contained in our SEC filings, including our most recently filed Form 10-K for the year ended December 31, 2021, and our subsequent reports filed from time to time with the SEC. Except as required by law, we are not obligated and do not intend to update or to review or revise any forward-looking statements, whether as a result of new information, future events, or otherwise. During the call today, we will refer to certain non-GAAP financial measures. Please refer to our SEC filings for reconciliations to the most comparable GAAP measures. We will also reference the earnings presentation that was posted to our website this morning. To view the slide presentation, turn to our website, www.agmit.com, and click on the link for the first quarter 2022 earnings presentation on the homepage in the investor presentation section. Again, welcome to the call, and thank you for joining us today. With that, I'd like to turn the call over to David.

Thank you, Jenny, and good morning to everybody. In my fourth quarter comments, I said that we were proud to have achieved a smooth transition and become a pure play residential credit REIT. In this first quarter of 2022, we had to contend with a near doubling of interest rates and considerable widening of credit spreads. We can and did hedge against the moving rates, but when spreads increase rapidly, and we have a robust inventory of originated loans yet to be securitized, that will lead to mark-to-market losses. That was largely the tale of the first quarter and the main reason we lost 74 cents per share of GAAP earnings. When spreads widened, we moved quickly to adjust our pricing on newly originated loans. Despite the rise in rates and spreads, we were able to continue originating new loans at a rapid pace. Much of that is due to the fact that we have continued to roll out new origination programs and channels. As well, we have seen some of our competitors retreat from the non-agency origination arena. Finally, our mortgage affiliate, Arc Home, has continued to build out its human capital taking advantage of an improved environment for attracting talent. Despite our first quarter loss, we maintained a dividend of 21 cents per share. Our dividend policy will continue to be guided by our view of earnings on a go-forward basis over a multi-quarter period. I should note that we do not believe that the first quarter movement and spreads will be repeated. In April, spreads relevant to our business ceased to widen and we've begun to see some tightening. During the quarter, we executed three securitizations and we continued our momentum issuing another deal in April. One of our primary objectives is to make the transition from origination to securitization as seamless as we can. While the industry is experiencing an overall decline in origination volumes, this factor serves to benefit us, bringing up more capacity in the securitization markets to execute with increased efficiency. This should improve the company's return on equities going forward. All was not negative. We ended this quarter with ample liquidity to continue to propel our growth strategy at higher asset yields. We continue to be strong believers in our strategy as capable of delivering long-term earnings growth. And so we also believe we will be able to report better results as the year goes on. I'll now turn the call over to T.J. Durkin, our president.

Thanks, David. Good morning, everyone. We continue to be an active participant in the market during the first quarter, acquiring and settling on over 900 million of non-agency and agency eligible loans. We also reduced our agency MBS exposure during the quarter through net sales of approximately 225 million. We continue to be disciplined about our warehouse risk and are very proud of the fact we executed three securitizations during a very challenging quarter. These transactions not only de-risked our warehouse lines, but gave us additional liquidity to take advantage of the dislocation and opportunity set presented to us since the beginning of the year, as some historical players had to step away from their acquisition programs. Nick will cover ArcHome in more detail later in the call, but I'd briefly point out Arc's continued success in taking market share this past quarter, as many non-QM originators were adversely affected by the interest rate move, with many simply not hedging their pipelines at all. Turning to page seven, as our purchase activity accelerates, the velocity of our securitization activity needs to increase. This past quarter's record interest rate selloff brought with it much sought after operational capacity, which will provide us with the necessary resources to increase both our velocity and purchases. Much of this capacity comes from other segments of the mortgage market that are more sensitive to interest rates. We have already benefited from this as large players in the mortgage market are looking for opportunities away from conventional originations, and we believe this is just the beginning. We expect the investments we have made in our infrastructure over the past year to drive organic loan growth. As our securitization portfolio grows, our exposure to mark-to-market warehouse financing will continue to shrink, relative to the portion that has been termed out via securitization. As you can see in the exhibit on this page, this trend has already started. Lastly, I want to highlight our NIM yield and cost of fund metrics on our securitized loan portfolio. We normally don't spend much time on this quarter to quarter, but given the velocity of the interest rate movement this quarter, I think it's important to point out a cost of funds is going up in large part because we are increasing the company's aggregate securitization notional. Given the rate backdrop, our fixed rate cost of funds is higher today than it was six months ago, and it's reflected in the 2.6% cost of funds. Now, our current yield of 4.2%, notably, doesn't capture the earnings profile going forward, given these yields are based on our historical cost basis and don't reflect today's fair values. So when we are acquiring new investments today at current fair values, assuming all other factors being equal, the credit quality, level of financing, etc., We expect this to translate into higher asset yields and NIMs for our investments, which will help drive higher core earnings going forward. I'll now turn the call over to Nick.

Thanks, TJ, and good morning, everyone. Turning to page eight. As you can see here, we have ample liquidity to support loan growth, which we expect to be further supported by our financing strategy, including cash generated from securitization activity. Our captive originator continues to add relationships through its broker and correspondent channels. which will support this organic growth. Year-to-date, we have executed four securitizations and expect this pace to continue throughout the year. We are currently targeting post-securitization returns of 14 to 25 percent, which does not include any ancillary income from our originator. Although this is a wider range than our target ROEs from prior quarters, it takes into consideration the current market volatility, which has resulted in near decade-wide spreads in whole loans along with the corresponding term financing. Turning to page nine, looking at the chart on the bottom left, the portfolio mix has tracked our pure play residential mortgage REIT strategy, which now has over 85% of our equity allocated to residential investments. The top chart outlines the current portfolio yields along with the corresponding cost of funds. Over the quarter, debt yields have moved dramatically as risk-free rates have increased over 125 basis points with credit spreads at the top of the capital stack, widening approximately 60 to 70 basis points. Today, we see asset yields in the low to mid 5% with term financing in the mid to high 4% area. Over the past few quarters, we negotiated higher advance rates and lower spreads on our warehouse lines. The earliest maturity in these facilities is in November. Although we intend to shorten our develop time substantially, the lower cost of funds on our warehouse lines and higher debt yield will improve our returns during the gestation periods. Subsequent to quarter end, we settled on approximately $250 million of loans with a pipeline of over $500 million. We also successfully completed our second agency eligible non-owner occupied securitization in April with a balance of approximately $425 million. Turning to page 10. Here we outline the loan portfolio's characteristics as of quarter end. The portfolio continues to perform well and we anticipate being able to maintain our tight credit profile on future purchases. which will include the aforementioned pipeline. The recent market volatility has created an opportunity for us to provide liquidity on asset profiles we like while creating brand awareness at a time that other originators and capital providers have pulled back. We've already seen a pickup in activity and interest in our product offerings as a result of ARC's commitment to its clients. Turning to page 11, as you can see in the bottom left chart, Lock volumes increased in Q1, with much of this being on the back half of the quarter as competitors pulled back significantly. ARK is forecasting approximately $3.5 to $5 billion of non-agency originations for the year, driven by our increased brand awareness, which helped attract new brokers in correspondence to our platform. MIT purchased approximately $400 million of loans this quarter from ARK, representing over 40% of our acquisitions. Anthony, we'll now go over financial results in more detail. Anthony?

Thank you, Nick, and good morning, everyone. Turning to slide 12, we provide a reconciliation of our book value for common share. During the first quarter, book value declined by approximately 6.6 percent as a result of recognizing a gap net loss available to common shareholders of approximately 18 million or 74 cents per fully diluted share. Overall, the net loss is driven by realized and unrealized losses on our investment portfolio resulting from the rising interest rate environment and credit spread widening across asset classes. Aside from the price volatility on our investments, we recorded net interest income of $17 million during the first quarter, a 24 percent increase from the prior quarter, resulting from the continued growth in our residential loan portfolio. In connection with this growth and the current market volatility, we also increased our interest rate swap portfolio, resulting in higher hedge expense. Lastly, we recognized a higher level of transaction-related expenses during Q1, given our increased pace of securitizations previously discussed. On slide 13, we disclosed a reconciliation of GAAP net income to core earnings, as well as provide a summary of the components making up core earnings. During the quarter, we recognized a loss in core earnings of two cents per share. Overall, Net interest income exceeded our hedge and operating expenses by approximately $3 million. However, our investment in Arc Home contributed a $3.6 million loss to core earnings, despite having a profitable quarter. This is because Arc Home's MSR mark-to-mark gains, as well as gains on the sale of loans sold to MIT, are excluded from core earnings. As a reminder, Although the gains on the sale of loans from ARK Home to MID are excluded from core earnings, they are recognized as unrealized gains in our income statement contributing to GAAP earnings. On slide 14, we provide further details related to our investment in ARK Home. Currently, our investment approximates $54 million, which we value using a multiple of approximately one times book. During the quarter, ARC Home generated after-tax net income of $7 million, driven by mark-to-market gains on its MSR portfolio due to the rising rate environment, offset by reduced volumes, lower gain on sale margins, and income tax expense, as our investment is held within a taxable REIT subsidiary. MIT's portion of the earnings generated from ARC Home's operating business was approximately $3 million. And another point to highlight is Our Home's MSR portfolio, which is $84 million in fair value as of March 31st, and it remains virtually unlevered. Turning to slide 15, we provide an update on our financing profile as of March 31st. After completing three securitizations during the quarter, securitized debt makes up 56% of our total financing, up from 35% at December 31st. We expect this trend to continue increasing as we sponsored an additional deal in April and remain focused on our pace of securitization strategy. Lastly, we currently have $1.3 billion of additional borrowing capacity on our warehouse lines and ended the quarter with total liquidity of approximately $138 million, which was inclusive of $50 million in cash as well as $88 million of unlevered agency RMBS, $38 million of which was sold and settled post-quarter end. This capacity and liquidity level will support the continued growth in our investment portfolio throughout 2022. This concludes our prepared remarks, and we would now like to open the call for questions. Operator?

Thank you. We will now begin the question and answer session. If you have a question, please dial 01 on your touchtone phone. If you'd like to be removed from the queue, please dial 02. If you're on a speakerphone, please pick up your handset first before dialing. Once again, if you have a question, please dial 01 on your touchtone phone. And from Credit Suisse, we have Doug Harder. Please go ahead.

Thanks. Nick, you mentioned the 14% to 25% expected ROE on securitizations. Can you just remind us what the prior range was and kind of where you see returns on the loans as they're on the warehouse lines?

Of course. So previously we'd stated 14 to 18%, which, you know, probably tracks what guys had been quoting for, for, you know, a pretty long period of time. Um, on the warehouse lines, we still still see caught very low, um, double digit, um, ROEs. Um, we have had a decent amount of benefit from negotiating, you know, better terms on those. And as mentioned in the script, um, you know, earliest maturing one is in, um, is in November.

Got it. And that return for the securitization, is that on newly purchased loans? I mean, I guess how does the spread, widening, higher cost of funds impact the loans that, you know, as you transition them from the warehouse to securitization today?

Yeah, of course. So that takes into consideration really, you know, so that is more forward looking. So it's where we've been acquiring loans, call it, you know, for the vast part of you know, the first quarter and into the new quarter. Now, obviously, looking backwards, you know, the mark-to-market losses on the loans from the spread widening, you know, that, you know, given those mark-to-market losses, the subsequent ROEs are still, you know, post-securitization in that range. Got it. That makes sense.

And then just to make sure I understand slide 13 specifically, So our column made the 3.1 million for the quarter. Does that 3.1 include the MSR gain? So if you stripped out the MSR gain, would that be kind of a small negative for the quarter?

That's correct, Doug. If you look at that slide, the 4.4 million that's being backed out is essentially the MSR mark during the quarter permit.

Got it. I guess, how do you think about the profitability, you know, both on kind of a, you know, a true operating basis and then also, you know, kind of on a core basis, you know, as we kind of go through 22 and obviously the world has kind of changed for originators?

Yeah, Doug. I mean, I think what we're trying to highlight on the earlier slide is, you know, we continue to, you know, transition the share of origination towards non-agency products. So obviously agency margins are challenging. They probably aren't going to get materially better anytime soon. And so as we invest in the pipeline, if you will, and getting more credit product in, we hope that'll be good for the operational efficiency. I think core earnings, we're trying to, I would say, walk through what's a bit convoluted from an accounting perspective. And Anthony's trying to give you the the reversals, if you will, of it, but we're trying to look at it as the holistic versus maybe the traditional like core definition of our combs profitability vertically up intimate. So, so that's why we're trying to give a little bit more detail on, you know, what we have to back out versus, you know, what's really happening on the ground.

Makes sense. Thank you.

From Jones trading. We have Jason Stewart. Please go ahead. Okay.

Good morning. Thanks. Just following on the ARC MSR, if I'm doing the math right, does that mean it was marked up at ARC about $10 million quarter-to-quarter?

Yes, Jason, at ARC it was about $12 quarter-to-quarter.

Okay. And can you give us the multiple on that?

Multiple is $4.9 as of March 31st.

Okay, great. Thank you. And then, you know, I think someone else, if you didn't give it and I missed it, I apologize. Do you have a book value quarter to date in 2Q?

Yeah, Jason, just since we're early in our process for April, we don't have an exact number, but given the volatility and what's going on, we think we're marginally down a quarter to date.

Okay. Yeah. And then just pulling back up for a minute, I get the concept of trying to preserve liquidity. I guess two parts to that. One is when you think about that in the volatility of spreads, were there opportunities? Are there opportunities for you to be an opportunistic slash, I don't want to call it distress, but buyer of assets in 1Q and 2Q based on that volatility? And then the second part is have you adjusted sort of the way you think about liquidity and leverage going forward given that volatility?

Yeah, so we did have opportunities to acquire assets, you know, that were attractive. I still believe that, you know, given sort of the sell-off that, you know, we've gravitated towards positioning ourselves to current coupons. Um, you know, our, our view is that in the debt markets, there's potentiality that orphaned coupons, you know, will just be less liquid. So, you know, we continue to look forward rather than backwards. Um, you know, so that's, that's, that's our general view there. And the nice thing is, is I think we probably said three times or more in our presentation, um, that, that as others pull back that we've actually been able to, to drive volumes there at, at really what I consider near historic wides and spreads for all the past decade.

Thanks, Nick. I wanted to pivot from the origination side to the acquisition side. Is there an opportunity to acquire pools, securities at discounts that are sort of from distressed or non-liquid sellers?

You know, I think there's more rumors of distress out there than there is actual distress. Now, obviously, that can change. We have had success acquiring stuff through our bulk channel, you know, you know, as you know, very recently and in the past. So, you know, the expectation that, that, that should continue, but, you know, quite honestly, probably at a slow pace. I think, I think sort of the, the, the event and widening is sort of already occurred and the people were going to pull back already pulled back.

Got it. Fair enough. I'll jump out. Thanks.

From KBW, we have Bose George, please go ahead.

Hey guys, this is actually Mike Smith on for Bose. Just one on the securitization markets. Can you just provide some color on the volatility and how that's trended in April? I'm just wondering if most of the older inventory has cleared and then if you seen any changes to loan prices to reflect that volatility.

Yeah, so the loan prices, I think we, you know, earlier in the year, I think they were somewhat stubborn and then, you know, call it the back half of January, February, you know, things sort of gapped wider and that's when we really started seeing opportunity. Um, you know, so for a while it didn't really necessarily track what was going on in the debt markets. Um, now if anything, it's, it's, it's on, you know, sort of flip to the other side, you know, you can buy assets at attractive levels where you can sell, sell debt. That being said, you know, given the backdrop of volatility, you know, that can change quickly. We did, you know, see some relief, um, you know, very recently, um, called the past two, three weeks in, in where we're selling the IG part of the stack, um, you know, off pretty, you know, substantially tighter than sort of what we saw the wides being, call it, you know, anywhere from 30 to 50 basis points, depending on, you know, what part of the capital stack. So, you know, if anything, it feels like it was a little bit overdone. And if anything, that was tightening where we're issuing debt while sort of the markets, you know, broader markets around us actually, you know, you know, we're a little bit weaker. So I think that plays into things being a little, maybe a little overdone.

Great. Great. That's helpful color. And just one more, can you just, um, is there anything strategic that you're considering just given the valuation of the shares? I'm just wondering if you can maybe talk through how you're thinking about bridging the gap between the share price and book value.

Hi, it's David Roberts. You know, we do have a share repurchase program that is, uh, that is outstanding and we're always looking at opportunities to, uh, drive earnings growth and therefore dividend growth. So it's definitely an arrow in our quiver in terms of improving shareholder value.

Great. Thanks for taking the questions.

And we have no further questions at this time.

Thank you everyone for joining us and for your questions. We appreciate it and look forward to speaking with you again next quarter. Thank you. Have a great weekend.

Thank you, ladies and gentlemen. This concludes today's conference. Thank you for joining. You may now disconnect.