MITT - NYSE

Good day, and thank you for standing by. Welcome to the AG Mortgage Investment Trust, Inc. Third Quarter 2024 Earnings Conference Call. At this time all participants are in a listen-only mode. After management remarks there will be a question-and-answer session. [Operator Instructions] Please be advised that today's conference is being recorded. [Operator Instructions] I'd now like to turn the call over to Jenny Neslin, General Counsel for the company. Please go ahead.

Thank you. Good morning, everyone, and welcome to the Third Quarter 2024 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 Rossiello, 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 31, 2023, 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 Q3 2024 earnings presentation on the home page. Again, welcome to the call, and thank you for joining us today. With that, I'd like to turn the call over to T.J.

Thank you, Jenny. I'm pleased to report our third quarter financials, which shows our continued execution of the core business strategy. Walking through MITT's financial position as of September 30, we saw book value move higher from $10.37 to $10.58, while paying our $0.19 dividend and producing a healthy economic return on equity of 3.9% for the quarter, with it being too early to give an estimate of October book value. During the quarter, we earned $15.8 million of net interest income, $0.40 of earnings per share and $0.17 of EAD per share. The level of EAD for this quarter is largely driven by model assumptions of increased future prepayment speeds on our loan portfolio given the large rate rally that occurred during the quarter. These prepayments have not been realized yet and given both the non-agency emphasis of our portfolio and the reverse loan rates that has occurred in October, these may be conservative in terms of EAD. With regards to the balance sheet, we reduced leverage back to 1.5 turns during the quarter. As previously discussed, we issued approximately $100 million of investment grade unsecured bonds earlier this year in anticipation of the $86 million WMC convertible note maturity date on September 16, which is now fully retired. Which also came down as we sold temporary holdings of Agency MBS to offset cash drag heading into the convertible note maturity. After accounting for this deleveraging, we ended the quarter with ample liquidity of approximately $120 million. MITT had another active quarter issuing two agency eligible nonowner-occupied securitizations, totaling approximately $750 million. We are sourcing this collateral from both ARC Home and some of the largest mortgage originators in the country. This quarter's issuance further strengthened our market-leading position in this compelling space where we are seeing credit outperform even prime jumbo this year. Another area we are excited about is the home equity space. As borrowers look to tap their growing home equity amounts while preserving their low 30-year fixed rate mortgage. We believe we are in the very early innings of this product becoming more mainstream for US consumers, and Nick will go into further detail later in the call. Wrapping up, we normally stay away from macro and certainly politics, but given its election day, I'll make a few brief comments. Housing supply and affordability remain hot topics that all politicians like to pontificate on. Unfortunately, we see no silver bullet to solve the affordability or supply constraints facing the nation. On the positive side, tight mortgage credit and resilient home prices are positive for MITT's credit book and we believe the market is coalescing around this fact. With regards to macro, as displayed by this quarter's book value performance, we believe MITT is fundamentally less exposed to interest rate volatility than the average mortgage rate. While a steeper positively sloped yield curve would be supportive of earnings power, we believe MITT can still deliver strong results in this flat curve environment, as we all wait to see how the Fed handles the soft landing economic scenario. I'll now turn the call over to Nick.

Thank you. As T.J just described, we had an active quarter, which I will unpack in more detail and provide background on how we are thinking about future capital deployment. We issued two more securitizations backed by agency eligible investor loans, totaling approximately $750 million. We are currently the largest issuer in this space and expect to issue one or two more transactions before the end of the year. Recently, other REITs have announced that they intend to or have already entered this space. While we agree this sector is so attractive, we likely will commit less capital to it over the next few quarters. There are three primary reasons for this shift. First, Fannie and Freddie's mortgage whole loan conduits, often referred to as their cash windows are increasingly bidding through MBS execution. Second, mortgage servicing rights, valuations and third-party origination channels are increasingly stretching. And lastly, we have seen increased competition from insurance companies and others in this space. We closely watch these and other factors, and we'll continue to commit capital accordingly. It is worth noting that none of this is necessarily new but is more a function of magnitude. That being said, MITT securitized agency-eligible investor book has less delinquencies on a percentage basis than similar vintage non-AC prime jumbo transactions. To put this in context, the major rate agencies expected losses and corresponding credit enhancement is on average 2 times to 2.5 times more for agency-eligible investor loans relative to the non-agency prime jumbo sector. Said differently, MITT's retained investor credit positions had more than doubled the credit protection of comparably rated and more delinquent prime jumbo deals. And while this probably goes without saying MITT's Agency investor book has far superior convexity than prime jumbo. Moving on to an exciting and attractive new opportunity that MITT began to point capital into, Home Equity loans. In the third quarter, we acquired approximately $150 million of home equity loans and have committed to purchase another $200 million. This rapidly growing segment of the residential mortgage market has attracted a lot of press. This segment provides loans to homeowners that have accumulated equity in their properties for over the years, we are looking to borrow against it to fund home improvement and debt consolidation among many other uses. Over the past 15 years, this segment was dominated by banks that use their low cost of capital to subside client acquisition for only the wealthiest households. In contrast, today the demand for home equity lending is much larger. With potentially interested borrowers made up of well-qualified homeowners with significant equity and a sub 4.5% first lien mortgage. Most borrowers in the US have COVID stimulus era 30-year fixed rate mortgages, that are 2% to 4% lower than today's prevailing rates. We expect this cheap and long-dated financing, combined with historic home price appreciation to be the primary drivers of demand in this segment. We estimate the total addressable home equity lending market to be as much as $2 trillion, which we believe should result in annual loan originations of $200 billion to $300 billion. While this is a new and exciting opportunity, it is worth emphasizing that MITT's mortgage banking, investment and asset management teams are leveraging the same technologies, principles and expertise used over the years. It is also worth highlighting the strong collateral characteristics of the current and target portfolio. These loans have been extended to well-qualified borrowers with average credit scores in the mid-700s and have an average combined loan-to-value in the mid-to-high 60s. We believe this segment offers a long-term opportunity and that we will enjoy the benefits of being an early mover. We see ROEs in the 20s and expect this to be accretive to EAD over the coming quarters and years. Turning to Arc Home. In conjunction with industry trends, Arc Home was profitable in September. While this is a move in the right direction, there remains a lot of room for improvement. And given the recent retracement in rates, along with seasonality, there is reason to be cautious. While Arc cannot control the path of rates, the executive leadership team continues to focus on scale, efficiency and providing innovative products to the market. One potential significant area of growth for Arc Home lies in home equity lending. Turning the call over to Anthony.

Thank you, Nick, and good morning. During the third quarter, MITT grew its book-value through strong GAAP earnings remain active in acquiring and securitizing agency eligible loans, expanded our product set into home equity loans and paid-off the convertible notes assumed from WMC. One point of note, we've historically disclosed our book value, both with and without the impact of the liquidation preference on our preferred stock. And to simplify our reporting this quarter and going forward, we plan to solely report book value that has been adjusted for the liquidation preference. Book value increased by approximately 2% this quarter to $10.58 per share, producing a 3.9% economic return for our shareholders when considering the $0.19 quarterly dividend. The increase in book value was primarily driven by hedge adjusted mark-to-market gains on our securitized loan and non-Agency RMBS portfolios given the decline in benchmark rates and credit spread tightening experienced this quarter. As a result, we recorded GAAP net income available to common shareholders of approximately $11.9 million or $0.40 per share. We generated EAD of $0.17 per share for the third quarter. Net interest income, inclusive of our interest earned on our hedge portfolio was $0.61, which exceeded our operating expenses and preferred dividends of $0.42, generating earnings of $0.19 per share. This is offset by a $0.02 loss contributed from Arc Home, which continued to improve quarter-over-quarter. And as a reminder, we record interest income based on effective yields derived from projected cash flows and as T.J. mentioned earlier, net interest income decreased from prior quarter due to projecting an assumed increase in prepayment speeds on our residential loan portfolio given the rate move. Our investment portfolio decreased slightly by approximately 1.4% to $6.8 billion. We remain active acquiring approximately $525 million of residential mortgage loans and $51 million of non-Agency RMBS. However, this growth was offset by the sale of $543 million of Agency RMBS and $160 million of loans. Our economic leverage ratio at quarter end was 1.5 turns, which declined from 2.5 turns in June. As discussed last quarter, we invested excess cash from our bond issuances earlier in the year into Agency RMBS on a short-term basis. This portfolio was liquidated in September in connection with paying off the WMC convertible notes at maturity, decreasing our leverage by 1 turn. In addition, we've continued to prudently manage our leverage exposure on residential mortgage loans through our programmatic securitization ending the quarter with only $226 million of warehouse financing outstanding. Lastly, we ended the quarter with total liquidity of approximately $120 million consisting of $103 million of cash and $17 million of unencumbered agency RMBS. This concludes our prepared remarks, and we now like to open the call for questions. Operator?

The floor is open for questions. [Operator Instructions] Our first question will come from Bose George with KBW. Please go ahead.

Hi, guys, good morning. I wanted to ask just about the home equity opportunity. That currently is very attractive, but how meaningful do you think it could be in terms of your equity allocation?

I think when we think about our equity allocation going forward, given the attractiveness of the underlying asset, we would expect a high portion of any rotation and future deployment to be in this sector. As I mentioned earlier on the call, we expect to do some of the things we've been doing in the past. But I think that thematically, this will be something that will sort of dominate the next quarters and years.

Okay. Great. And then just in terms of drivers of taking your earnings up sort of closer to your dividend, like when I look at Slide 12, can the ROEs go up in some of the individual buckets? And then you noted that the slower prepays quarter-to-date should benefit, I guess the returns in some of those buckets as well. So can you just talk about the returns going forward.

Yes. So from a return standpoint, there is certainly room as these assets mature, and so the credit plays out how we expect to take out additional leverage and sort of re-deploy the equity taken that additional leverage to drive ROEs higher. Obviously, if you look at our aggregate economic leverage, it is fairly modest, particularly relative to certain peers. So there's certainly room to increase ROEs. And I think that also plays into -- you see the line item for home equity loans, I think that's a component of it as well.

Okay, thanks.

Thank you. Our next question will come from Brad Capuzzi with Piper Sandler. Please go ahead.

Thanks for taking my questions. I appreciate all the commentary. Can you just speak on your current thoughts on the dividend? Obviously, operating earnings dipped a bit this quarter, which was expected as you positioned to address the convert. I wanted to get your thoughts when you look at the rate outlook and what you need to see to continue covering the dividend with EAD.

Yes. So I think we kind of moved through this transitionary period, but with some of the capital raising and obviously, the debt repayments, I think we probably look at the Page 12 that we were just referencing, I think there's probably $40 million to $50 million of capital that we would look to rotate into higher ROE opportunities when they present themselves, and we are building that pipeline. And then obviously, the other headwind that we've talked about in terms of the dividend has been on Page 10, we kind of break out the Arc Home EAD per share, and that's trending in the right direction. Obviously, we'd love it to be going faster, but it is moving towards sort of breakeven before we obviously hope it flips into a positive contributor. So those are probably the two drivers that when you flip the profitability, you get some of that kind of capital turned into what Nick mentioned would be round numbers, 20% ROE. That should kind of even us out to something along the lines of a dividend, which we would think we remain consistent on for the intermediate term.

Thanks. I appreciate the color there. And then I know it was discussed in the prepared remarks, but just was wondering if you could expand on how the team is thinking about the elections and implications for MITT, we can see rate moves, potential volatility, housing implications et cetera. Just curious on how you are thinking about it and positioning both near and immediate.

Yes. I mean, listen, in terms of like near-term volatility, I mean, listen, we're -- we have more credit type products. We don't have a lot of leverage. Most of it is termed out for securitization leverage. There isn't a ton of volatility that could really affect the portfolio in terms of -- I could see a lot of [whipsaw] (ph) and rates over the next week or two. I think, generally speaking, away from the election, I think just the continued -- I would say, bank retrenchment nothing to do with the election, but more capital and regulatory, I think are tailwinds for sort of specialty finance and non-bank origination engines. So I don't think whoever wins the election will change that sort of motion of direction.

Thank you.

Thank you. Our next question will come from Doug Harter with UBS. Please go ahead.

Thanks. Anthony, I was hoping you could size the impact of the prepay assumption in the current quarter?

I don't have an exact number off Pan, but I would say it was the majority of the driver just when you think about quarter-over-quarter from $0.21 down to $0.17.

Okay. I appreciate that. And then as you think about the home equity opportunity and financing that, do you view securitization as kind of the likely take out for that financing? And if so, kind of how do you think about the size you need to execute a securitization?

Yes. So we've predominantly been executing in the securitization space. There are alternative ways to finance it, that are also attractive. But the appropriate sizes have ranged typically, call it, $275 million to $500 million, probably on average right in between.

Great. And then within the home equity space, some people are looking at kind of closed in seconds. Some are looking at home equity interest or appreciation? Kind of how are you thinking about what are the attractive ways to play and to help consumers tap into that equity?

Yes. So maybe addressing the products we're playing in, specifically the home equity appreciation. That's not what we're doing. We're saying to have more traditional type lending either being closed end second or HELOCs, if that answers your question.

You bet. Thank you.

Thank you. Our next question will come from Jason Weaver with Jones Trading. Please go ahead.

Hi, good morning. Thanks for taking my question. Not to belabor on the subject, but on the home equity product, can you talk a little bit more about where you're sourcing that and it possibly Arc Home could be a source of that in the future?

Yes, certainly. So it's still relatively early as we stated multiple times in our prepared remarks. That being said, the closed end second space is somewhat a copy paste of Fannie and Freddie's automated underwriting system. So you can source that from a very wide range of entrance to HELOC space is a little more niche, but we think, growing and going to grow bigger than the closed end second space. And we are buying from everyone in basically everyone who is active in that space at the moment.

Got it. So it is pretty even mix of both banking institutions and non-bank lenders, you would say?

We would expect, going forward, the vast majority of this to be come from non-banks.

Fair enough. Okay. And then one more. I was curious how you feel -- what your comfort zone is around the current level of cash and unencumbered liquidity you have around $120 million.

We feel comfortable around that level. There is certainly room to draw that down and sort of enhance our enhance sort of the leverage profile of the firm.

Got it. Okay, thank you.

Thank you. Our next question will come from Trevor Cranston with Citizens JMP. Please go ahead.

Great. Thanks. One more question on the prepaid projections that impacted third quarter. Can you maybe give us a sense of how much of the portfolio you would say was in the money when kind of rates were at their recent lows versus how much of the portfolio is actually in the money where we sit today?

Yes. So I don't have specific numbers I think the answer to that is the vast majority of the portfolio is out of the money today. And I think that speaks to sort of the resilience of pretty decent rate rallies and actually increasing speeds.

Okay. Got it. And then one more on the home equity loans. Can you talk a little bit about what you're seeing in terms of securitization structures and how much equity you would expect to have invested once the pool of loans is securitized?

Yes. So very high level, if anything the securitizations, given sort of the up and credit nature of the product can be more efficient than even non-QM from sort of a proceeds standpoint or leverage you can take out. Obviously, that's compensating for the expected losses. So they are relatively efficient. Obviously, that is product dependent. But somewhat comparable to other sort of asset classes out there.

Got it. Okay, appreciate the color. Thank you.

Thank you. [Operator Instructions] Our next question will come from Eric Hagen with BTIG. Please go ahead.

Hi, thanks. Good morning guys. Okay. So when you think about the discounted price and the valuation for non-QM, I mean how much do you attribute to interest rates versus maybe concerns around weaker credit performance? And do you see there being risk to valuation in the capital structure of the narrative around a recession or borrower credit kind of intensified from there?

When you're talking about -- Eric, are you talking about like a routine book in the company or like new origination going forward?

Both, but really referring more to the backlog.

Yes. I mean the backlog has benefited from massive home appreciation, the delinquency pipeline is -- I mean, the GCAT shelf is -- if you look at sort of sell-side research, top quartile in terms of performance, we are not seeing any sort of deterioration. And to the extent there was delinquencies, there's multiple sort of loss remediation tactics in terms of the borrowers selling their house, getting the equity out, et cetera. So I mean we are not seeing or not concerned about any sort of recession led spike in losses by units.

Yes. And I think we refer you to Page 8 where it shows that our current portfolio is delinquency is 1%, 90-plus and a sub-60 mark-to-market LTV. So obviously, there is plenty of room for degradation for the portfolio to stand up.

Yes. Okay. That's helpful. Do you guys feel like there are any scenarios of dislocation where you might look to raise capital even if it's below book value, maybe at the expense of some upfront dilution, but the forward returns could be really attractive, are there scenarios where you could look to maybe tap into that. How do you guys think about that from here?

I mean the short answer is probably, No, Eric. I mean I think the market is fairly orderly despite sort of a lot of noise in the headlines I don't think we're looking to entertain that.

Okay, all right. Thank you guys.

Thank you. And at this time, it appears there are no further questions in queue. I will turn the call back to management for closing remarks.

Thank you, everyone, for joining us this morning and for your questions. We appreciate it, and we will look forward to speaking with you again next quarter. Thanks, everyone.