Welcome to Invesco Mortgage Capital, Inc's Fourth Quarter 2019 Investor Conference Call. Now I would like to turn the call over to Brandon Burke in Investor Relations. Mr. Burke, you may begin the call..

Well, thank you, and welcome to the Invesco Mortgage Capital fourth quarter 2019 earnings call. The management team and I are delighted you've joined us and we look forward to sharing with you our prepared remarks and conducting a question-and-answer session.

Before turning the call over to our CEO, John Anzalone, I wanted to provide a reminder that statements made in this conference call and the related presentation may include forward-looking statements, which reflect management's expectations about future events and our overall plans and performance.

These forward-looking statements are made as of today and are not guarantees. They involve risks, uncertainties and assumptions and there could be no assurance that actual results will not differ materially from our expectations..

Good morning, and welcome to IVR's fourth quarter earnings call. I'll be joined on this call this morning by Brian Norris, our CIO; Kevin Collins, our President and Head of Commercial Credit; Lee Phegley, our CFO and Dave Lyle, our COO and Head of Residential Credit.

We are pleased to announce core earnings for the fourth quarter of $0.52 per share, an increase of $0.05 from the third quarter as the portfolio has benefited from a full quarter of earnings power generated by the August capital raise, as well as lower effective cost of funds.

The increase in core earnings allowed us to raise our common dividend for the quarter by 11% to $0.50 per share. Once again, our book value remained stable, ending the quarter relatively unchanged at $16.29. The combination of our increased dividend and our steady book value produced an economic return of 2.9% for the quarter.

While we produced strong results for the fourth quarter, I want to spend a few moments highlighting IVR's achievements for the full year. 2019 was a stellar year for IVR's stockholders as we increased our dividend 19% from $0.42 to $0.50 per share and improved book value nearly 7% from $15.27 to $16.29, delivering an economic return of 18.8%.

We also raised over $500 million of equity capital during the year, which allowed us to increase scale and invest in additional accretive assets. As always, active management was a key to our success and we are quite active with respect to our investment portfolio, as well as our interest rate hedges during the year.

On the investment side, we continue to be deliberate in allocating capital to strategies that minimize our exposure to prepayment risk as increased prepayments have a detrimental impact on core earnings.

Over 2019, we reduced our allocation to Agency RMBS and the assets we continue to hold in this sector are backed by collateral that is less exposed to refinancing activity. At the same time, we have steadily increased our Agency CMBS position, which constituted 16% of our equity and 22% of our assets at year-end..

Thanks, John, and good morning to everyone on the call. I'll start on Slide 6 where we detailed our sector allocations on an equity and asset basis. As detailed in the pie charts on the left, we remain well diversified across asset classes.

Our actively managed hybrid strategy continues to provide a stable book value and attractive core earnings and what proved to be a volatile year in the fixed income markets..

Thank you. And our first question is from Doug Harter with Credit Suisse. Your line is open..

Thanks.

Can you talk about the relative return characteristics of Agency CMBS, kind of where you see spreads leverage, ROE on that compared to Agency RMBS just to understand kind of the different profiles there?.

Sure Doug. This is Brian. Agency RMBS is generally ROEs around 13% to 14% with Agency CMBS maybe 200 basis points behind that in the low-double-digits area. Leverage on both of those asset classes are pretty similar, we get similar financing on repo there. So leverage is going to be in the 9 to 10 range, 10 times on that..

And I guess is that 200 basis points back is that factoring in kind of the strong move I guess you've seen in the first quarter.

So I guess that's -- those returns probably were more comparable before kind of the first quarter move?.

That's right. When we were more aggressive adding Agency CMBS back in kind of middle and late 2019, those ROEs were kind of on top of each other..

And then I guess just with that, I guess how do you see the attractiveness of sort of continuing to hold it kind of given the strong move you've already captured versus the less volatility that you mentioned? I guess how do you see that trade-off today?.

Sure. We'll certainly continue to hold it. We've been able to lock in the NIM on those holdings that we've already purchased. So we like the kind of dependable steady stream of earnings that that provides the portfolio.

So in Agency RMBS, as I mentioned, it is a little bit more attractive right now, but certainly given the increased convexity risk that we see in those holdings, it's a bit of a balancing act. We'd like to add a little bit more Agency CMBS if we can see a little bit better valuations there..

Our next question is from Eric Hagen with KBW. Your line is open..

Thanks. Good morning, guys. Just kind of following up on the relative value conversation. I mean rates have already come down a lot this year and the MBA Refi Index just hit a multi-year high.

I'm just curious, how you guys are thinking more holistically kind of longer term about your approach to prepayment risk and the relative value of being in Agency RMBS where the premiums on most of those securities have increased pretty meaningfully, but the yield and the liquidity are higher than they are in the agency DUS market where the prepay risk is obviously lower, but you don't have the same liquidity and the yield is also lower? So just how do you kind of think -- I mean you addressed kind of the current market, but more holistically, just from a risk management standpoint where rates are today? Just curious how do you think about that trade-off? Thank you..

Right. Yeah, that's exactly right, Eric. This is Brian again. And certainly given where the refi index is right now, we expect speeds to increase pretty meaningfully over the next few months. It hasn't really started yet. And as a matter of fact, we've seen slower speed so far this quarter.

But moving forward, we'd like to be well diversified and that includes in the credit assets as well. We're at 52% of total assets in Agency RMBS. So we think that's a fairly manageable amount of kind of convexity risk from that perspective, certainly relative to the rest of our holdings that certainly mitigate that risk.

So we're pretty comfortable with where we are right now. And like I mentioned, that Agency RMBS number will trend up modestly just given the equity raise that we just deployed into Agency RMBS..

Okay. All right, great. Thank you for that answer. And then it just looks like the funding basis, the receive rate on swaps relative to repo funding rates has tightened a bit over the last few weeks, I guess that depends though on what the receive rate is on your swaps.

Can you guys just give us a breakdown again of how -- what percentage of your swaps are three month LIBOR as the receive rate versus one month LIBOR?.

Sure. As of 12/31, we were about 24% three month LIBOR. And given the swaps that we've added so far this year that has trended down to about 16% of three month LIBOR of total notional. So yeah, we've seen LIBOR rates come down. So the spread between what we're receiving versus what we're paying has come in little bit..

Okay. And then the remainder of that breakdown is a one month LIBOR rate had to be dense, but just it's not like....

Yeah..

Okay, thanks..

Exactly, right. Yeah..

Okay. Thank you very much..

Our next question is from Trevor Cranston with JMP Securities. Your line is open..

Hey, thanks.

On the book value change you guys mentioned that's occurred so far in 2020, can you say if any of that was due to having positive net duration in the portfolio or if it was kind of more purely related to spread tightening? And related to that, can you also just maybe talk generally about how you guys are currently managing the net duration portfolio and rate sensitivity of the portfolio?.

Right. Yeah, I would say, yeah, it was a bit of both in terms of first quarter. I mean Agency CMBS has had a very good start to the year. So I mean clearly that. We benefited from that. Other spread, non-Agency spreads have also tightened during the quarter.

And with the duration gap that you've questioned, we tend to run a -- our empirical duration has tended to be very stable. So our book value has been relatively stable over the course of the last year. And part of trying to balance that is, you've got credit assets and that are going to react one way to interest rates.

As interest rates fall, credit assets tend to widen. So we always tend to run somewhat of a longer duration gap model wise to offset that. And that's true now and was true -- has been true so far this year.

So we did benefit a little bit from having a longer duration gap because it's not usual that you have spreads tightening and rates falling at the same time. So we did benefit from both sides of that. Throughout 2019, it was more normal where that was almost completely offset and we didn't see much book value movement at all..

Okay. Got you. That's helpful. And then looking at the funding slide on Page 13 of the deck, it looks like the -- particularly the non-Agency portfolio had a pretty significant drop in cost of funds during the fourth quarter.

I was curious if there was anything notable you guys are seeing on that side of the book in terms of like tighter spreads on the funding for non-Agency securities or if it was more so just related to lower LIBOR rates? Thanks..

Hey Trevor, this is Dave Lyle. Yeah, most of that was definitely lower LIBOR, but there is a component that is resulting from just the further improvement in the credit quality of our assets.

As they continue to season, as we're seeing rating upgrades and as we continue to see our repo counterparties be very competitive in terms of wanting to provide us with funding, we're seeing same benefits on the repo spread side as well..

At this time, I'm showing no further questions..

All right. Well, thank you everybody for joining us and we look forward to talking to you in May..

Thank you for participating in today's conference. All lines may disconnect at this time. .