Good morning and welcome to the First Quarter 2022 Earnings Conference Call for Orchid Island Capital. This call is being recorded today, April 29, 2022.

At this time, the Company would like to remind the listeners that statements made during today's conference call relating to matters that are not historical facts are forward-looking statements subject to the Safe Harbor provisions of the Private Securities Litigation Reform Act of 1995.

Listeners are cautioned that such forward-looking statements are based on information currently available on the management's good faith, beliefs with respect to future events and are subject to risks and uncertainties that could cause actual performance or results to differ materially from those expressed in such forward-looking statements.

Important factors that could cause such differences are described in the Company's filings with the Securities and Exchange Commission, including the Company's most recent Annual Report on Form 10-K.

The Company assumes no obligation to update such forward-looking statements to reflect actual results, changes in assumptions, or changes in other factors affecting forward-looking statements. Now, I would like to turn the conference over to the Company's Chairman and Chief Executive Officer, Mr. Robert Cauley. Please go ahead, sir..

Thank you, operator. And good morning, everybody. I hope everybody has had a chance to download both our press release as well as our slide deck, and I'm going to follow the similar format. So, if everybody is ready, I will begin. First, I'll just kind of give you an overlay of what we are going to discuss.

As usual, just give a briefly touch on our financial highlights, then we'll go through market developments quickly and our financial results. And then talk about the portfolio positioning and so forth. With that, on Slide 4. Orchid Island Capital reported a net loss per share of $0.84.

This was actually net earnings per share of $0.20 excluding realized and unrealized gains and losses on RMBS and derivative instruments, including net interest expense on interest rate swaps; a loss of $1.04 per share from net realized and unrealized losses on RMBS and derivative instruments, including the net interest expense on swaps; book value per share was $3.34 at March 31, 2022 versus $4.34 at year-end.

In Q1 2022, the company declared and subsequently paid $0.155 in dividends. Since its initial public offering, the company has declared $12.635 in dividends per share, including the dividend declared in April. Total economic loss was $0.845 per share, or 19.5% for the quarter. Turning to Slide 5. This first slide pictures are stock performance of Q end.

And as you know, we did have reductions in the dividend twice and we did have book value decline, which obviously the market anticipated. As a result, the first quarter stock-based performance lagged our peers meaningfully, and this really has changed all of the comparisons versus our peers on a 12/31/2022 look back.

It really reflects predominantly what happened in Q1. If you look at the calendar periods on the bottom of the page, you can see these results that we are very happy with. However, the first quarter is not something we are happy with, but it -- obviously it happened and we have to live with it and move forward. Turning to the next page.

This is our book value performance. Just tends to be with us, always a one quarter lag, so you see through the end of 12/31/21. We don't have updated information now that'll again is going to lag.

Turning to market developments, just to kind give you a high level view of things before I go through the slides and you can see the pictures, and it can fill in from there.

If you look at the backdrop of where we were before the first quarter, inflation started to accelerate in the second quarter of last year, that's continued well into 2022 already. And over that period, the Fed kind of gave up on their notion that inflation was transitory.

The big developments in Q1 were two, and these were very meaningful and really caused everything to change. The first was the war in the Ukraine between Russian and Ukraine.

And then the second is COVID-19 induced shutdowns in China, both of these have proven to be very inflationary, and they are expected to continue to be so for some time going forward. The net result of this are three developments. The first, the Fed has pivot and adopted a very aggressive tightening stance.

They expect to get to neutral by the end of the year, which is somewhere in the 2.50% to 2.75% range. The second is that interest rates are much higher, and the curve is very much flatter. And the third, and this is more germane to Orchid obviously, is that the MBS universe now is essentially all discount to us.

And in fact, most of the mortgage universe is at a very deep discount, well below par. To give you some added color around this, there's only about 1% of the mortgage universe that's in the money are refinanceable. And the current coupon mortgage represents about 1% of the entire outstanding universe. That is something we've never seen before.

So obviously profound change this quarter. And as I said, brought about by these two events, which are very significant events, but also will play heavily in terms of what we see over the course of the balance of the year. Now just turning to the slides, a couple of things I’d point out.

On the left hand slide, you can see the red line is where we stood at the end of the year. And the blue line is at the end of the first quarter. So obviously a meaningful move. The green line is through last Friday. So as you can see the market has continued to both sell off and flatten. And this is also reflected in the swap curve.

At the bottom of the page, we show the change. And that's through last Friday, that's not through quarter end. Turning to Slide 9, you can see how things really pivoted in late February when the war began in Ukraine. So we have had a selloff in the early parts of the first quarter but this really accelerated when the war started.

And I just want to point out that many of these slides go through forward '22, not just the end of this quarter. So through forward '22, the nominal or the cash tenure was up 139 basis points, swaps up 137 basis points. Turning to Slide 10. This is the slope of the curve 5, 10.

As you can see, we have flattened materially, the lowest previously were in July of '18 that’s been taken out. And as we sit here today, we're actually toggling right around zero. It’s actually been negative a couple of times this morning already. Turning now to the mortgage universe.

Top left, you can see this is the same slide we've been presenting for some time. We've kind of normalized prices starting at the beginning of the period, so each line represents a respective coupon. And what this shows is just the price change relative to where the price was at the beginning of the quarter. So these are not necessarily actual prices.

And as you can see, it's been a meaningful sell off. Again, this data goes through the April 22nd. And you can see through the end of the first quarter, there was a meaningful sell off, though in the case of Fannie 2s, for instance, the longest duration assets. They're down about 7 points at the end of the quarter. But now they're down about 12.

So this April obviously witnessed even more sell off than what we saw in the first quarter. As the market is now in a discount composition, call protection as reflected in the specified pool payups have collapsed. And arguably, these payups just reflect option value, if you will, to the extent the market rallies.

With respect to rolls, you can see there's only two rolls that are trading above the rest that are at very, very elevated levels. And those are the current production coupons, 4s and 4.5s. And really what that reflects is a lot of mortgage investors wanting to own the current coupon and there just isn't enough supply.

So you have a big supply demand imbalance, even the Fed is exacerbating not for the time being, and so the special is in the roll. The rest of those rolls are actually trading at or below carry on.

Moving on to Slide 12 vol, as you can see, it's very elevated, not quite as high as it was in March of 2020, when we were north of [160] in this particular index, but very, very elevated. Moving through the rest of the slides, just accelerate now, I think we've made major points here.

LIBOR OAS on Slide 13, obviously, we've had some cheapening and specified pool payups as I mentioned it collapsed. Slide 14 just gives you a picture of the whole financial markets really, the top chart shows you the Q1 returns, and the bottom one is through the end of last Friday, and you can see all these returns are negative.

So obviously, mortgage is the one that's in green, had a rough quarter, but every sector did, including equities, S&P 500. So it's been a very difficult quarter for all financial market participants. Slide 15 is an important slide. As I mentioned, if you look at the bottom of this slide, you can see the shaded area.

That represents a percentage of the market that's in the money. And as I said, it's only 1%.

So we really have had a paradigm shift whereby the market went from very much premium with the Fed buying and driving up prices, and everybody was concerned with prepays, you had two ways to avoid those, either you viewed the dollar rolled market or you owned specified pools. And you're trying to minimize premium amortization.

Well now while we’re at a discount, so now it's no longer premium loss due to pay downs for us. It's discount accretion and fast speeds went from being a bad thing to a good thing. And high gross WACs on pools was a bad thing and now it's a good thing. If you look at the right side, I’d just make one point here.

And this is kind of germane, I think for what we see going forward. You can see the primary secondary basis looks very evolved. I think that speaks more to the volatility of the underlying, which had been rates, because they've been so volatile.

But it also points out the fact that originators now that the universe is at a discount are doing everything they can to maintain production volumes that's primarily in the form of cash out refis or turnover. But it also points to the fact that they're going to have a challenge to keep their production levels and their staffing levels higher.

It really just speaks to the fact that all rate sensitive sectors of the economy are going to be feeling things. Now, our financial results, Slide 17. As you can see, if you kind of tried to dissect what happened, this left hand slide just shows our returns absent the unrealized gains and losses. And as you can see, those numbers were large.

And it's really all because of the pass-through portfolio. The pass-through portfolio had an annualized return of almost negative 40%, obviously a very big number. And that was really driven by the performance of TBAs. If you look on that chart there, you see realized and unrealized losses of $378 million.

Outside of realized losses, over 80% of our mark-to-market losses for the quarter were the result of changes in TBA prices, about 17%, 17.5% were the erosion of payups on specified pools and the rest was just premium loss.

And you may wonder how we could have premium loss, but that's just because that's a function of prices at the beginning of the period when the portfolio was still at a premium. Turning to Slide 18. This is just a picture of our name, if you will, and shown kind of along with the dividend. It appears that our funding costs went down.

That's really just some timing differences there. Obviously, our funding costs will be going up, even with hedges there's probably going to be some modest upward pressure. This number dropping down just kind of reflects the fact that our hedges started to move up before -- are faster than our funding costs.

But you should see that being stabilized, you may see slight upward trend in the funding cost net of the hedges and the NIM remains to be seen. That'll be predicated on how the asset yields go. Slide 19. Just again, this shows you our proxy for core income. This red line, as you can see, it's been running in the low 20s.

Our ultimate low was back in '19 and '18, and it's been fairly stable since then. We expect it to remain so, but there is still a lot of bluff cards on the table. We'll have to see how things play out. Slide 20 just shows you our dividend versus our peers.

We will say that in this type of an environment where the curve is very, very flat and liquidity is at a premium, this is not going to be an emphasis. We're going to manage the portfolio as prudently as we can. We don't know what our peers will do dividend wise. But as you know, we have reduced ours twice just to reflect current market conditions.

And we don't know what the future holds. We just hope that all of that's behind us. But again, there is just a lot of moving parts in the economy. So, there's a potential that you could have movements both with us or anybody.

So, it's really hard to say what's going to happen to relative dividend performance, but I don't think it's a primary concern for any of us. Slide 21. This just gives you the two important things, the roll forward of each portfolio, and then the capital allocation.

As you can see on the left side, the main development here is the allocation to IOs has increased in pass throughs has decreased. We had mentioned last year that because of the current market conditions that we were going to take our allocation to IOs up. We had mentioned on previous calls a target of around 25%.

We actually got up to 38%, was beyond that. Now what does that mean going forward? And it's kind of hard to say, IOs have obviously had a good run. While we would like to own some more, they are really becoming somewhat rich and it's hard to find value.

They might even be some good sale candidates and we haven't actually sold a few in early '20 in the second quarter. Some of the details of the change. The sales that we did in the quarter were predominantly in the pass through portfolio. I'll talk about that in a little more -- greater detail in a moment.

And then we had pay downs as well, and then mark-to-market losses. Suffice it to say, these asset sales occurred to maintain leverage, but also just to shed duration. And then we did not reinvest pay downs for the most large. So, that's how we migrated the portfolio to its current position. Now, we will talk a little more detail about the portfolio.

Before I do that, I just want to say a few words, kind of give some background. As you recall, last year, through most of the last three quarters of the year, we had talked about being positioned defensively. We thought that the Fed was going to end our tapering program and that we were trying to do everything we could to minimize the impact on us.

Obviously, we are an all agency REIT, so we are kind of locked in the building, if you will. We have to own mortgages. So, we tried to avoid production coupons and we took our allocation up to IOs to a higher level, and we own specs.

And even to this day, we still see long-term value in them, even though they are trading at the fairly distressed levels. On the Fed, we were right, the Fed did exit, but obviously the events of the first quarter, especially the second half have changed things quite materially.

And so, that positioning and the way we looked at things last year is really it doesn't apply as much in a current environment. So just again, to review the actions that we took. We did reduce the portfolio. We had 1.4 approximately billion of sales of pass throughs. Those were mostly lower payup specified pools, mostly lower coupons, 2.5s.

We had about $147 million of pay downs and $10.5 million in return of investment on our IOs, which was not reinvested. And all of this was enough to not only allow us to maintain very high levels of liquidity, but it also allowed us to actually lower our leverage ratio. So from the low rate 8 to the mid 7s, we're actually below that today.

We might go -- probably won't go meaningfully lower than this. This is probably the floor. With respect to post quarter end, we have done some up in coupon trades both 30 year and 15 year. We would continue to refine our hedge positions. We'll talk about that a little bit in more detail.

But the important thing, and the key takeaway here is that, while it was a very difficult quarter, we were able to navigate through it successfully. We did have to shrink the balance sheet somewhat to maintain leverage at good levels. But we also did so in a manner where we could maintain very high levels of liquidity.

Our target is to maintain 50% cash that's not even including unencumbered assets, just cash relative to equity because first and foremost, we need to be able to weather any of these storms. And we've obviously had some very volatile days in the market, days with mortgage underperformance versus hedges and margin calls.

And so we want to always be in a position where we can deal with those quite comfortably and we have. We know this is a difficult market environment, we also know it's not likely to last indefinitely.

And so given the very favorable opportunities that are in the market today, we want to be able to take advantage of those once the market has stabilized. And we're in a position to do so. Now with respect to the portfolio on Slide 23. Just going through the column for fair market value on the pass throughs.

Two big changes with respect to 30 year 2.5s, we took that down very materially, sold about 941 million, mostly, and again, low payup specified. And we sold over 900 million in 30 years. Same thing predominantly and low payup pools.

Our weighted average coupon is a result of the relatively more sales to 2.5s versus 3; weighted average coupon is a little higher, went from 2.93 to 3.01. We did not reinvest pay downs. And so our portfolio is aged by 4 months and speeds remain very subdued high single-digits and we would expect them to stay there, it might even decline.

We did make meaningful changes to the hedge book. We'll get into that in a little moment here. But if you look at the notional amount of the hedges versus the total mortgage assets, the coverage went from about 45% to closer to 80%. That's notional, that's somewhat misleading, because the DV01 of our hedges is quite high.

In fact, we have a lot of alters in our swap positions, and so forth. So if you look, for instance, on the far right column, and you look at our rate sensitivity to plus or minus 50 basis point shocks, you can see it's a very flat profile given the size of this portfolio and that's much flatter than it was at the end of the year.

So -- and that really is consistent with what we're seeing. Even though rates as I mentioned earlier, have sold off quite a bit in April and mortgages have widened, our book value is probably down just a few pennies. And we really trade pretty much in line to hedges net-net, so far.

So basically reflects the fact that mortgages have expanded, and they kind of trade in line with the hedges. So even though it's a high rate environment, it's stabilized. And that reflects the nature of the hedges we have in the assets that we own. Slide 24 is interesting.

This is something we used to take great pride in because we've reflected well on our asset selection, our prepayments versus the cohorts. This is of course, backward looking. So it's our legacy portfolio. As I mentioned, we have not been reinvesting too much. We've done some up in coupon trading.

But it also kind of reflects kind of the prior reality that we lived in, which is where premium amortization was the thing you avoided, and everybody was trading at a meaningful premium. Now, obviously, we're at a discount. So you could see these slides change going forward.

Slide 25, just the same point, the red line or the orange line, there's the 10-year Treasury, this one only goes through the end of the quarter, that number is now at 2.9 or so. But the prepayments you would assume in this environment are going to stay low, kind of like they were in '13 and '14. I mentioned on Slide 26, our leverage ratio is down.

It's actually down a little bit from where it shows here. But we're probably pretty much where we want to be. Finally, Slide 27, this is our hedges, just make a few points here. On the top left, we have our Treasury Futures, and we've shifted those materially. These numbers are up higher.

The 5-year sector is up by almost $1 billion and the Ultras by not as much, but 50 million. We have no TBA shorts in place at quarter end, although we have placed some on since quarter end. We have some shorts in Fannie 2s. And then with respect to swaps, the belly or the 3 to 5 year has come down.

So we've moved our swaps out the curve that was about 950 million at the end of the year, it's only about 300 million. And then expiries weigh than 5 years was about 400 million, now that’s 1.1 billion. And you can see the average pay fixed rates.

And those all obviously are very much in the money in this current environment and so they're effectively helping us with our increased funding cost. With respect to the swaps and swaptions, not going to say much about that if somebody wants to ask a question, wants detail on that.

What I would say about those is that we dynamically hedge those positions. So as our strikes move more or less in the money, we take action to ensure that they're going to work as effectively as possible going forward. So in this environment, that basically means taking some profits and extending strikes higher.

And that has worked very well for us and probably explains why we've had the stable performance we've had so far in April. So with that, that concludes my prepared remarks. Operator, I will turn the call over to questions. Thank you..

[Operator Instructions]. Our first question comes from Mikhail Goberman with JMP Securities..

I apologize I missed a good chunk of the call, a little trouble getting on. So, I apologize if you mentioned -- if you covered something that I'm about to ask. But I do believe I heard you saying that IOs are becoming a bit rich. You've already sold some in the second quarter.

If that's the case, how much have you sold?.

So we are -- hang on, I've got some numbers here. I can be a little more specific. So in the first quarter we sold 80 million worth of IOs backed by loan balance 3s. So that -- the profile, as of March 31st, those would be out of that. And then, in the last month, we have -- or this month, I guess I should say, we've sold another 200 million.

It's like 35 million market of loan balance 3.5s. And those, again, as I alluded to, they had extended pretty much as far as they could. They just get to where the profile is very asymmetric. You don't get much bang for your buck in the future further sell off and they have downside exposure. So, it's kind of like what we mentioned about the hedges.

Sometimes you kind of re-strike to a higher level, that's probably what we are looking to do there, just have to find the opportunities to do so..

Now that's exactly right. It’s -- unfortunately I think as Bob alluded to earlier, I don't know if you were on or not, but only 1% of the mortgage universe is refinanceable at this point. So, it's tough to find IOs that are not -- have -- that don't have a great deal of extension already baked in, even if they're paying fast.

So, just not something we're highly constructive on right now.

So, we have been focused more on doing things in rate derivatives and trying to improve the complexity of our profile through an increased focus on options that will increase in value at an increasing rate, into a continued sell off and have limited downside if we were to rally from here, whereas the IOs are sort of the opposite of that.

They have a tremendous amount of downside into lower rates. And the durations on some of that stuff had gone from negative 15 to 20, down to negative 4 to 6. So, that's not the case in a lower rate environment. They have a lot of value that can be lost at this point.

So, we think it's prudent to turn back our exposure there, at least until some enough higher rate mortgages have been produced there. The CMO machines turned back on and focused on something that IOs that can continue to extend..

And that's a good point, I'll just add specific to that. Production of new IOs is minimal. I mean, the CMO machines as it's referred to, has shut down to large extent, but new IO creation is very sparse..

That makes sense. So, you said like about 200 million sold in second quarter that effectively kind of zeros out the portfolio almost at the moment..

No. That was the face amount. It was 35 million market..

Okay. I got you. All right..

Sorry for the confusion there..

No worries. No worries. And then you mentioned book value only down a few pennies thus far in second quarter despite the spread widening and the volatility.

And what would you guys describe that relatively strong performance in the month of April too?.

Well, we didn't reposition the portfolio meaningfully. So as I mentioned we've done some modest up in coupon trade. So we’re basically on a lot of 3s, and they're very extended, makes them a lot easier to hedge. And we extended the duration of the hedges. And we keep re-striking in the case of the swaptions or the swaps.

So that even with -- we're down in book some and that reflects the widening, but it's really the fact that they're just much easier to hedge the amount. Our exposure, part of the reason for what -- not everyone has reported their earnings yet, but we felt like we had a particularly rough quarter.

And a lot of that had to do with the fact that we had such a heavy focus on specified pools whereas a lot of our peer group had a much higher concentration on TBA portfolios. That's -- so we felt maybe our pain disproportionately in the first quarter, and have done -- managed to be a little bit better.

And again, it's all, I think, attributable to this focus on improving the convexity profile of our net asset hedge book..

So beyond maybe stepping up further in coupon, you guys see yourself maybe stepping up the 15 year mortgages as well?.

Not. We've done some. We think there's some opportunities in TBA space. We've rolled out some of those specified pools there that just looked fully valued. And there's some specialness in some of the 15-year rolls. And so, it can be an area where we add a little bit. But on the margin, that's usually a relatively small part of our book..

And also with this curved this flat 15-year production is pretty light. And so it's up there, it's been pretty picked over. Right now the market is really starting to focus given that we're in a discount environment at seasoning.

And there's not a lot of trading to the -- obviously, we get the cash when the all the production lists come out and you see how new production specs trade, you don't see a ton. Well put this way, there are season pools trading, you don't always get the color. So the price discovery is a bit challenging at times.

But there's no question that the market is very much seeing the value of season pools, and they pay faster, and when they're at a discount. And so one of the benefits that we have is that because we haven't rolled the portfolio much, the vast, vast majority of it is seasoned and it has greater value for that reason..

[Operator Instructions]. There are no further questions at this time. I will now turn the call back over to Robert Cauley for closing remarks. .

Thank you, operator. Thank you, everyone. To the extent there are those of you who were not able to make the call, the live call and wish to call later with questions, we'll be glad to take those. Our office number is 772-231-1400. Otherwise, we look forward to checking in with you next quarter. Hope everybody has a great weekend. Thank you. .

This concludes today's conference call. You may now disconnect..