AG Mortgage Investment Trust, Inc.

Good day and thank you for standing by. Welcome to the AG Mortgage Trust Third Quarter 2022 Earnings Conference Call. At this time, all participants are in a listen-only mode. After the management's remarks, there will be a question and answer session. In order to ask a question during the session, please press the star key followed by the number one on your telephone keypad. Please be aware that today's conference is being recorded. If you require assistance, please press Star, then zero. I'd like to turn the call over to Ginny Neslin, General Counsel for the company. Please go ahead.

Thank you, Katie. Good morning, everyone, and welcome to the third quarter 2022 earnings call for AG Mortgage Investment Trust. With me on the call today are T.J. Durkin, our CEO and President, Nick Smith, our Chief Investment Officer, and Anthony Russiello, 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 risks and uncertainties which are outlined in our SEC filings, including under the headings cautionary statement regarding forward-looking statements, risk factors, and management's 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 31st, 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 links to the third 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 TJ.

Thank you, Jenny. Good morning, everyone. The markets in the third quarter continue to be centered around this year's themes of inflation, volatility, and uncertainty about the future. Despite this, during the quarter, our adjusted book value per share declined 4.2%, from $11.15 to $10.68. predominantly due to widening of credit spreads and securitization markets. We recorded a GAAP loss of $0.33 per share and a loss of $0.03 of core earnings per share, while maintaining our common dividend of $0.21 per share. Consistent with last quarter, we'd like to remind you that our GAAP loss was predominantly driven by unrealized mark-to-market losses. Based on our early preliminary read, Oak value was down approximately 5% to 6% for the month of October. During the quarter, we continued executing this business strategy of acquiring high quality, newly originated non-agency mortgage loans and securitizing them. We have been very disciplined and successful in turning out our warehouse financing into securitizations in very choppy markets, which we think is a testament to our strong relationships with debt buyers who look to our shelf versus others due to its strong performance history. As a result, Our economic leverage ratio decreased from 2.7 to 2.0 times quarter over quarter, with a continued decline in October to approximately 1.4 times as a result of our October deal. In total, there has been $3.8 billion of unpaid principal balance securitized across the GCAT shelf in 2022, putting it as the fifth most active non-QM issuer based on the information made available to us. This discipline puts MIPS liquidity on solid footing with approximately $80 million as of September 30th and approximately $104 million as of October 31st. So unlike others in the space who may need to play defense, our strong liquidity position should allow us to play offense in volatile markets like this in a number of ways. One, Looking ahead with lower mortgage volumes expected, we do believe there is less competition in the non-agency space at both the aggregator level for MIT as well as at the origination level for ArcHome. Two, we believe there will be opportunities to acquire high-quality performing loans at material discounts that were originated in 2021 or earlier this year at materially lower coupons as originators and aggregators could be forced to do something by their lenders. And three, we will continue to use excess capital to buy back our common stock, accretive to book value, while being mindful of our shares trading liquidity. Since August, we have purchased 2.7 million and have 12.3 million of capacity left under the current program. Before I pass it to Nick to go into further detail on the portfolio, I think it's important to be transparent that given the amount of changes that have occurred this year in terms of interest rates and credit spreads, we are seeing more compelling opportunities in the secondary markets from four sellers of recently issued non-agency securities. We are committed to our origination to securitize strategy. However, as markets move and every day brings different opportunities, we believe we may be able to complement our strategy by acquiring the credit exposure we've been making through securitizations over the last few years in a more cost-effective manner by buying that risk in the secondary markets. We believe that credit underwriting and risk profile is very similar to what is in our current portfolio and believe we should be opportunistic to drive risk-adjusted returns into the portfolio, whether it be from our proprietary GCAT shelf or through other issuers. And lastly, I want to say we very much share the frustration of our shareholders with our stock price. Each of us on the management team and Angelo Gordon, the manager, all have meaningful ownership in MIT. While we know we can't change the stock price overnight, we have full confidence in our strategy and our ability, with the resources and full support of Angelo Gordon, to capitalize on compelling opportunities to generate attractive risk-adjusted returns for our shareholders over the long term. I'll now pass it over to Nick. Thanks, TJ. As TJ mentioned earlier and outlined on page six, During the third quarter and into the beginning of the fourth quarter, we reduced risk and raised liquidity through the programmatic issuance of securities on our well-established GCAT shelf. We issued three transactions totaling just under $1.3 billion. The first two transactions we marketed and priced in August when market conditions were more favorable. The third transaction we marketed and priced in early October. In the relatively short period of time between these transactions, AAA spreads widened out nearly 100 basis points, while risk-free nominal yields increased over 100 basis points. We expect this sort of volatility to persist as the Fed continues to combat inflation. These securitizations were critical in right-sizing our aggregation risk, taking into account both the current market volatility and expected future volatility. Ultimately, this increased our liquidity relative to previous quarters while deleveraging the balance sheet. Although this capital is generally defensive, we believe that there is a high likelihood that the market will present compelling investment opportunities in residential credit in the coming quarters. Aside from these opportunities, the current business is expected to generate the same or higher returns with less risk, which is good since each dollar of capital will be more efficient in what will also be a meaningfully smaller market. Turning to page seven. As you can see, our securitization issuance through October exceeded the pace of acquisitions in the third quarter. This graph on the right shows the significant growth of our securitized loan portfolio, along with the corresponding decrease in warehouse exposure, which is now the lowest it's been in over a year. The left of this slide also summarizes our expectations of forward-looking business. Despite meaningfully lower expected forward origination volumes, we expect to source new credits around an 8% yield with equity returns in the middle to high teens while on warehouse. Once securitized, we expect equity returns in excess of 20% on retained tranches while deploying one to two turns of leverage depending upon the collateral composition. Turning to page eight. On this page, we provide high-level summary statistics of our aggregate loan portfolio. When thinking ahead with a slower economy and weaker housing market, it's important to note the current LTV is 60%, and the 60-day delinquent loan population across the over $4 billion of loans is less than 100 basis points. The last takeaway from this page is how out of the money this portfolio is relative to forward-looking originations with 8% yields, which sets us up for the next slide. Turning to page 9. Although the mark-to-market losses have been significant, we'd like to reiterate what we said in previous quarters. Most of the losses are unrealized. And although we expect market conditions remain volatile, we are constructive on residential mortgage credit fundamentals even as a recession combined with negative home prices becomes the more likely scenario. It is worth noting that the underlying mortgages backing the interest-only and excess spread certificates we own are substantially out of the money providing significant cash flow stability, while the slices of supported certificates we own are priced at significant discounts on a relatively thick part of the capital stack. We believe that the combination of these two profiles provide stable cash flows along with mark-to-market upside and limited exposure to recourse leverage. Turning to page 10, the top right bar chart outlines our leverage ratio over the past year. Here you can see loans transitioning from warehouse lines to securitized debt, bringing down the recourse leverage to where it is today. Although we have not reached our lowest recourse leverage ratio, we have made substantial progress from the peak. As you can see, our recourse leverage as of quarter end was approximately 2x, which, subsequent to quarter end, has been reduced further to 1.4x. The table on the bottom outlines the composition of our aggregate debt, including securitized debt. repo and retained securities, and home loan warehouse. As of quarter end, recourse debt accounted for approximately 24% of the aggregate. Turning to page 11. In previous quarters, we made it a point to emphasize that we believed that Arc Home was more insulated than conventional and government originators because of its non-agency origination focus. Although we still believe this is generally true, the most recent move to multi-decade high mortgage rates has made it less insulated than expected. ARC Home's management team has taken significant measures to right-size costs while maintaining prudent operating capacity to take advantage of recent market dislocations. We will continue to closely monitor capacity while matching it with the most attractive market opportunities. Despite this challenging backdrop, it is important to note ARK Home's strong capital position as outlined on this page. As of quarter end, ARK Home had $32 million of cash and MSRs valued at $92 million, which are largely unlevered. We believe that ARK Home is well positioned relative to many of its competitors and expect this challenging period to show its resiliency while gaining market share and ultimately returning to profitability. I will now turn the call over to Anthony.

Thank you, Nick. Turning to slide 12, we provide a reconciliation of our book value per common share. During the third quarter, book value declined by approximately 4% as a result of recording a gap net loss available to common shareholders of approximately $7.5 million, or $0.33 per fully diluted share. The loss was driven by unrealized mark-to-market losses recorded across asset classes due to credit spread widening, partially offset by gains on our securitized debt and interest rate swap portfolio. In addition, we also recorded $5.3 million of transaction-related expenses, which primarily relate to upfront costs associated with the two securitizations that closed during August, and a partial accrual for expenses related to the October securitization. The decline in book value associated with our preferred and common dividends was slightly offset by accretion from our share repurchases. As you may recall, we fully utilized the remaining capacity on our previous repurchase program and authorized a new program in August with a capacity of $15 million. During the quarter, we repurchased approximately 400,000 shares or 2% of our total outstanding at a weighted average price of $6.08 per share, representing a 43% discount to our September 30th adjusted book value. As previously noted, our remaining capacity under this program is $12.3 million. On slide 13, we disclose a reconciliation of GAAP net income to core earnings, as well as provide the components of core earnings. During the quarter, net interest income exceeded our hedge and operating expenses, generating earnings of 4.9 million or 22 cents per share. We recorded net interest income of approximately 17 million and our net interest margin at quarter end was 1%. This was offset by a $0.25 loss contributed to core earnings from our investment in Arcom, bringing core to a $0.03 loss overall for the quarter. Arcom generated an after-tax loss to MIT of $1.3 million, or $0.06 per share, driven by reduced volumes and lower gain on sale margins. Losses from ARK's origination business were partially offset by mark-to-market gains on its MSR portfolio. However, these are excluded from core earnings. ARK Home's gain on the sale of loans sold to MIT approximated $1.8 million or $0.08 per share this quarter, which you can also see are excluded from core earnings. As a reminder, these gains are recorded as unrealized gains contributing to GAAP earnings. As of September 30th, the fair value of our investment in ARK Home approximated $46 million, which we valued using a multiple of 0.94 of book. Lastly, we ended the quarter with total liquidity of approximately $80 million. And as of October 31st, liquidity was approximately $104 million, which was inclusive of $102 million of cash and $2 million of unlevered agency RMBS. This concludes our prepared remarks, and we would now like to open the call for questions.

Thank you. At this time, if you would like to ask a question, please press star 1 on your touchtone phone. You may remove yourself from the queue at any time by pressing star 2. Once again, that is star 1 to ask a question. We will pause for a moment to allow questions to queue. Thank you. Our first question will come from Doug Harder with Credit Suisse. Your line is now open.

Thanks. I'm hoping you could talk about, you know, kind of how you're viewing the dividend. You know, are you viewing that concept of sort of spread income, less expenses as kind of a level to think about? Or, you know, how should we think about how, you know, the sustainability of the dividend given where kind of earnings have been lately?

Yeah, I think that's right, Doug. I think Anthony just walked through you know, a couple, you know, non-core measures, which, you know, we factor into setting the dividend. And so I think that's a fair way to look at the available cash flow.

Okay. And then, you know, you talked about the attractiveness of opportunities today. You know, I guess how much of kind of the available cash that you had as of the end of October that you gave, would you be comfortable kind of leveraging and, you know, therefore kind of how much more growth do you think you could have in the portfolio? Yeah.

Yeah. I mean, I don't, I don't know if we give an exact number. I mean, I think we're, we, we really de-risked the, the portfolio, you know, year to date in 2022. Um, I, I do think it's going to continue to be choppy, you know, at least headed into year end. And so I think we, we just wanted to be able to play from a position of strength kind of into year end here, um, across the opportunity set. I think we've been running the company with, you know, much lower economic leverage than in previous cycles. And so I think we have kind of room to expand that without, you know, being close to kind of an upper ceiling from where we are today.

Yeah, I guess just to clarify, I mean, I guess, do you view you know, kind of available liquidity or leverage, you know, recourse leverage as more of a gating factor for growth?

I would say we're probably more focused on liquidity. I think leverage is, you know, readily available to us. Okay. Yeah.

Okay. That makes sense. Thank you.

And once again, that is star one to join the queue. Our next question will come from Trevor Cranston with J&P Securities. Your line is now open.

Hey, thanks. You mentioned that you're seeing more opportunities in the secondary market as a place to potentially add to the portfolio. Can you comment on kind of where you're seeing yields on bonds in the secondary market and sort of what your approach to financing any purchases there would be? Thanks.

Yeah, so, I mean, I think just to be very clear, I mean, we're looking at effectively, you know, recently issued within the last, call it, 18 months, you know, non-QM or other non-agency bonds. uh securities that uh you know i think are being uh sold in the market um you know basically the same underlying credit that we've been making through gcat i mean we saw i think this week just to give you context probably um you know an eight percent eight and a half percent yield on like single a securities at a material discount to par um for a recently issued non-QM deal off of a different shelf that was just being sold in the secondary market. So with a simple turn or two of leverage, I mean, you can definitely get into the mid to high teens ROEs. And it's just a much simpler execution of putting that risk on versus buying loans, warehousing them, hedging them, and then having to securitize them. And so I think normally we don't see this much opportunity in the secondary markets from newly created securities, but I think there's a lot of outflows from the money managers and we're seeing opportunities that just seem like a better risk reward when you kind of put all that together.

Okay, got it. And then on ARCOM, you mentioned that there's been some focus on sort of managing expenses there. um i guess with where where rates are today and where you know sales acts um you know do you guys foresee that uh arc will be in a position where it can be um you know profitable in this environment or how are you sort of thinking about where they shake out after you know the companies sort of scaled for the for the market as it is today it um

Obviously, there's a lot of factors that go into that. We do expect gain on sale margins to increase. We'd like to think we're, you know, closer to the bottom than not. And then, you know, from sort of a consolidation standpoint, which TJ had alluded to in the prepared remarks, we're already starting to see that maybe not as quickly as we had thought. So I think sort of That sort of plays into the gain on sale. Ultimately, as you see that consolidation, you know, what inning we are, I'd like to think we're in, you know, later innings just because of, you know, how violent this sell-off has been versus previous ones. I think a lot, not think, as you can see in other companies, have right-sized staffing very aggressively. And so hopefully that gets us closer to a return on healthy gain on sale. Our view is that it should normalize soon and return to profitability, but obviously something like everyone else in this space is monitoring very, very closely. Okay. Appreciate the comment. Thank you.

Thank you. Our next question will come from Jason Stewart with Jones Trading. Your line is now open.

Hey, guys. Good morning. I just wanted to hear your view on what you think of delinquency transition rates in non-QM right now, and maybe relative to G-CAT versus the rest of the market. Thanks.

Yeah, so-

Look, we've yet to really see a meaningful impact or really any meaningful increase in delinquencies in our shelf. If anything, we can comp it versus other sectors. In general, the non-QM space, non-ANC space increase in delinquencies has been benign universally. There may be other segments of the mortgage market that we don't think comp. to, you know, the credits we've generated where you're starting to see upticks in delinquencies. So although we think our credits will outperform relative to peers in the non-GM, non-ANC space, we haven't seen cracks really in anyone else's credit creation either. So, you know, for now it's still, you know, very healthy. All right. Thank you.

Thank you. Our next question will come from Eric Hagan with VTIG. Your line is now open.

Eric Hagan Hey, thanks. Good morning. I hope you guys are doing all right. I have a couple questions. In the investor property collateral, which was popular in sourcing last year, how are you feeling about the leverage of the borrowers and the stability of the LTV in that portfolio? Maybe just its sensitivity to interest rates in general? And because they're agency eligible, does that mean the financing should be better for those loans if they need to be brought back on the balance sheet because of the delinquency?

Yep. So, first, I think we've got to distinguish between sort of the, you know, full back underwrite agency eligible cohorts that we've originated versus the non-agency component or non-QM component. you know, versus other peers, we've done a lot less. You know, probably, you know, if the rest of the markets, you know, for the past year, call it 45% to 55% DSCR, we're like 15. You know, we haven't seen cracks there. And, you know, quite honestly, we still believe in, you know, we're still constructive like many others on rent growth. As long as there's rent growth, we expect delinquencies to be all right, particularly in the full doc stuff where we have a strong belief that those properties are all rented and are not speculative credits.

Got it. How about the funding for those loans if they need to be brought back on balance sheet? How do you guys feel about that? Cool.

I mean, the funding, if they need to be brought back on balance sheet, you know, the vast majority of the debt we have has been termed out. So there isn't a scenario where they have to be brought back on balance sheet. Okay.

Yeah, and then the follow-up there is, how are you guys hedging a pipeline risk for non-QM? Forgive me if you guys discussed this. I had to hop on a little late. And how are you thinking about managing that with, I guess, the visibility for sourcing new product being – somewhat challenging itself.

On the hedging side, we have internal models that are run like everyone else's. that we monitor our hedge ratios. And, you know, we like, you know, we stayed close to home on what we think the duration impact. Now, on the credit hedge standpoint, you know, we don't actively hedge the credit spread component. That being said, versus where credit spreads are today, I would hope that we're, you know,

there and you know if anything we see the credit spreads you know very very attractive on a historical basis okay great thank you guys very much thank you once again if you would like to ask the question please press star one now again as a final reminder that is star one to join the queue It appears we have no further questions at this time. I'll now turn the program back over to our presenters for any additional or closing remarks.

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.

Thank you, ladies and gentlemen. This concludes today's event.