PennyMac Financial Services, Inc.

Good afternoon and welcome to PennyMac Financial Services Inc's fourth quarter and full year 2023 earnings call. Additional earnings materials, including presentation slides that will be referred to in this call, are available on PennyMac Financial's website at pfsi.pennymac.com. Before we begin, let me remind you that this call may contain forward-looking statements that are subject to certain risks identified on slide two of the earnings presentation that could cause the company's actual results to differ materially, as well as non-GAAP measures that have been reconciled to their GAAP equivalent in the earnings materials. I'd now like to introduce David Spector, PennyMac Financial's Chairman and Chief Executive Officer, and Dan Perotti, PennyMac Financial's Chief Financial Officer. Gentlemen, I'll turn the call over to you.

Thank you, Operator. Good afternoon and thank you to everyone for participating in our fourth quarter earnings call. PFSI reported a net loss of $37 million and an annualized return on equity of negative 4% in the fourth quarter. These results included a non-recurring accrual of $158 million relating to our longstanding arbitration with Black Knight and $76 million of net fair value declines on MSRs and hedges given significant interest rate volatility during the quarter. Excluding the impact of these items, performance was very strong, with an annualized operating return on equity of 15%, marking the culmination of another outstanding year for the company and highlighting the strength of our balanced business model. 2023 was one of the more challenging origination markets in recent history, with industry volumes down approximately 40% from 2022 and unit originations at their lowest level since 1990. However, PennyMac, through its multi-channel production platform, generated $69 million of production pre-tax income and produced nearly $100 billion in UPB of mortgage loans, down only 9% from 2022. This demonstrates both our strong access to the purchase market and our ability to profitably support our customers and business partners. These production volumes continue to drive the organic growth of our servicing portfolio, which ended the year with more than 2.4 million customers and over $600 billion in UPB, up 10% from the end of last year. Our servicing business generated $268 million in pre-tax income, the Black Knight Accrual. As the second largest producer of mortgage loans in the country and the fifth largest servicer, we have achieved significant scale in our mortgage banking platform with the capacity for continued growth and profitability in the years to come. This management team's ability to effectively manage capital has always been a competitive advantage for PFSI, and I am extraordinarily proud of the work we accomplished in 2023. Not only did we return more than $110 million to stockholders through share repurchases and dividends, we took meaningful steps to further strengthen the balance sheet, issuing more than $1.5 billion in new long-term debt at attractive terms and redeeming $875 million in debt with upcoming maturities. I would like to provide a brief update on our longstanding litigation with Black Knight as outlined on slide 5 of our earnings presentation. In January, the arbitrator issued a final award of $150 million plus interest to Black Knight down from the interim award determined in November. PFSI recorded the related expense accrual in the fourth quarter as previously noted. While we disagree with the ruling, we are very pleased with the arbitrator's affirmation that SSC remains our own proprietary technology and as well as providing PennyMac the ability to utilize it as we see fit to benefit our customers and stakeholders. Since we launched the system in 2019, it has performed extremely well, meaningfully enhancing our capabilities while helping to drive down costs. With this technology now free and clear of any restrictions on use or development, we believe there is potential for additional opportunities for the company and stakeholders over time. Turning now to the origination market, we believe the overall market troughed in 2023, as mortgage rates have declined from their recent highs and anticipated future rate cuts have increased third-party estimates for industry originations in 2024 to approximately $2 trillion. Much of this anticipated growth is based on expectations for interest rate reductions later on in the year, And we expect volume in the loan origination market to remain seasonally low in the first quarter of 2024 before moving into the spring and summer home buying season. With a balanced business model and scale in both production and servicing, we remain very well positioned if interest rates remain high or decline further. As you can see on slide seven of the earnings presentation, operating returns on equity have increased throughout 2023. returning to the double digits and consistent with our goals at the beginning of the year. The servicing segment continues to drive earnings, and operating pre-tax income has improved in recent quarters due to the growth in the size of PFSI's own portfolio and increased earnings from placement fees on custodial balances due to higher short-term rates. Operating expenses remain low given our growing operational scale and continue low delinquencies. In production, while the market is expected to remain competitive, margins have improved over the course of 2023, and we estimate we have gained a considerable amount of market share, especially in the correspondent and broker direct channels, which provide strong access to the purchase market. As we add these higher note rate mortgages to our portfolio, we are creating additional opportunities for our consumer direct business to offer our customers a new lower rate mortgage when interest rates do decline. At year end, 22% of our servicing portfolio consisted of mortgages with note rates in excess of 5%. In the fourth quarter, production pre-tax income was 39 million dollars. And while we expect some seasonality in the first quarter, we expect to build on this profitability in future quarters as the origination market improves. As I said earlier, I am extraordinarily proud of what we accomplished in 2023, and I am even more excited about PennyMac Financial's future. Our long track record of strong operational and financial performance is unique in the mortgage industry and and has been driven by the resilience of our balanced business model with industry-leading positions in both production and servicing, as well as our strong capital and risk management disciplines. I believe we are the best positioned company in the industry with a fully scaled balanced business model, proprietary industry-leading technology, a strong balance sheet, and a growing number of servicing customers that stand to benefit from the products and services we offer to fulfill their home ownership needs. I will now turn it over to Dan, who will review the drivers of PFSI's fourth quarter financial performance.

Thank you, David. PFSI reported a net loss of $37 million in the fourth quarter, or negative 74 cents in earnings per share for an annualized ROE of negative 4%. As David mentioned, these results include a non-recurring expense accrual of $158 million before income taxes, or $2.20 per diluted share after income taxes, related to the final award of our longstanding arbitration with Black Knight. PFSI's Board of Directors also declared a fourth quarter cash dividend of $0.20 per share. Book value per share was $70.52 down from the end of the prior quarter primarily due to the net loss. Turning to our production segment, pre-tax income was $39 million, up from $25 million in the prior quarter. Total acquisition and origination volume were $26.7 billion in unpaid principal balance, up 6% from the prior quarter, despite a decrease of more than 20% in the size of the origination market from the prior quarter. $24.2 billion was for PFSI's own account, and $2.5 billion was fee-based fulfillment activity for PMT. PennyMac maintained its dominant position in correspondent lending, with total acquisitions of $23.6 billion in the fourth quarter and margins similar to levels reported last quarter. We estimate that in 2023, PennyMac represented more than 22% market share in correspondent lending, up from 15% in 2022. We attribute this market share growth not only to the retreat of certain market participants, but also to our consistency in execution and industry-leading technology. Acquisitions in January are expected to total approximately $6.6 billion, and locks are expected to total $6.9 billion. In broker direct, we see strong trends and continued growth in market share as we position PennyMac as a strong alternative to the channel leaders. Both locks and fundings for the quarter were down in the single-digit percentages from last quarter, less than the overall market, and margins were down due to higher levels of fallout as mortgage interest rates declined. The number of approved brokers at year end was over 3,800, up 42% from the end of the prior year, and we estimate that we represented approximately 3.6% of originations in the channel in 2023. In January, broker direct originations were $600 million and locks were $1 billion. In Consumer Direct, volumes remain low, but as David talked about, we remain well-positioned given the number of customers we have added to the portfolio with higher mortgage rates. Production expenses, net of loan origination expense, were 8% lower than the prior quarter, primarily due to lower compensation accruals related to financial performance. Turning to servicing, the servicing segment recorded a pre-tax loss of $96 million, primarily driven by the non-recurring expense accrual mentioned earlier. Excluding the accrual, servicing contributed $63 million to pre-tax income, down from $101 million in the prior quarter, primarily due to higher net MSR valuation-related declines. Excluding valuation-related changes and non-recurring items, servicing had very strong results with pre-tax contribution of $144 million, or 9.6 basis points of average servicing portfolio UPB, up from $120 million, or 8.6 basis points in the prior quarter. Loan servicing fees were up from the prior quarter primarily due to growth in PFSI's own portfolio as PFSI has been acquiring a larger portion of the conventional correspondent production in recent periods. Operating expenses declined, also due to lower compensation accruals related to PFSI's financial performance. As expected, earnings on custodial balances and deposits and other income decreased $10 million from the prior quarter as balances declined due to seasonal property tax payments. Realization of MSR cash flows decreased $14 million from the prior quarter due to higher average interest rates for the majority of the quarter. EVO income remained relatively unchanged, and we continue to expect its contribution will remain low for the next few quarters, while interest expense increased from the prior quarter due to higher average balances of debt outstanding. The fair value of PFSI's MSR decreased by $371 million during the quarter, driven by a decline in mortgage rates. which drove expectations for increased prepayment activity in the future. Hedging gains were $295 million, offsetting 80% of the decline in the MSR fair values. The net impact of MSR and hedge fair value changes on PFSI's pre-tax income was negative $76 million, and the impact on earnings per share was negative $1.05. The investment management segment contributed $1.9 million to pre-tax income during the quarter, and assets under management were unchanged from the end of the prior quarter. Finally, on capital, last quarter we noted the October issuance of a five-year $125 million term loan secured by Ginnie Mae MSRs and servicing advances. In December, we successfully raised $750 million in six-year unsecured senior notes and subsequently retired $875 million of secured term notes due in 2025. We'll now open it up for questions. Operator?