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Edited Transcript of CHMI earnings conference call or presentation 9-May-19 9:00pm GMT

Q1 2019 Cherry Hill Mortgage Investment Corp Earnings Call

Moorestown May 25, 2019 (Thomson StreetEvents) -- Edited Transcript of Cherry Hill Mortgage Investment Corp earnings conference call or presentation Thursday, May 9, 2019 at 9:00:00pm GMT

TEXT version of Transcript

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Corporate Participants

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* Jeffrey B. Lown

Cherry Hill Mortgage Investment Corporation - President, CEO & Director

* Julian B. Evans

Cherry Hill Mortgage Investment Corporation - CIO

* Martin J. Levine

Cherry Hill Mortgage Investment Corporation - Secretary, Treasurer & CFO

* Michael Hutchby

Cherry Hill Mortgage Investment Corporation - Controller & Head of IR

* Raymond Slater

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Conference Call Participants

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* Timothy Paul Hayes

B. Riley FBR, Inc., Research Division - Analyst

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Presentation

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Operator [1]

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Greetings and welcome to the Cherry Hill Mortgage Investment Corporation First Quarter 2019 Earnings Call. (Operator Instructions) As a reminder, this conference is being recorded.

I would now like to turn the conference over to your host, Michael Hutchby, Controller. Please go ahead, sir.

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Michael Hutchby, Cherry Hill Mortgage Investment Corporation - Controller & Head of IR [2]

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We'd like to thank you for joining us today for Cherry Hill Mortgage Investment Corporation's First Quarter 2019 Conference Call. In addition to this call, we filed a press release that was distributed earlier this afternoon and posted to the Investor Relations section of our website at www.chmireit.com.

On today's call, management's prepared remarks and answers your questions may contain forward-looking statements that are subject to risks and uncertainties that could cause actual results to differ from those discussed today. Examples of forward-looking statements include those related to interest income, financial guidance, IRRs, future expected cash flows as well as prepayment and recapture rates, delinquencies and non-GAAP financial measures such as core and comprehensive income. Forward-looking statements represent management's current estimates, and Cherry Hill assumes no obligation to update any forward-looking statements in the future. We encourage listeners to review the more detailed discussions related to these forward-looking statements contained in the company's filings with the SEC and the definition contained in the financial presentations available on the company's website.

Today's conference call is hosted by Jay Lown, President and CEO of Cherry Hill. Also present on the call today are Julian Evans, our Chief Investment Officer; and Marty Levine, our Chief Financial Officer.

And now I'll turn the call over to Jay.

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Jeffrey B. Lown, Cherry Hill Mortgage Investment Corporation - President, CEO & Director [3]

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Thanks, Mike, and welcome to today's call.

Overall, Cherry Hill turned in a solid performance for the first quarter of 2019. A dovish Fed posture, highlighted by a surprise shift in their stance on future rate hikes, led to another volatile quarter end.

Despite the market's reaction post the March Fed meeting, which drove U.S. 10-year treasury yields to 15-month lows, our earnings remained strong and our book value held. Low prepayment speeds within our MSR and RMBS portfolios persisted, and we once again outearned our quarterly dividend. Specifically, for the first quarter of 2019, we generated core earnings per share of $0.60. Although we expect the velocity of prepayments will rise in the quarters ahead, as is the seasonal norm, we believe our MSR and RMBS portfolios as constructed today are positioned well to succeed in this lower rate environment.

Book value per share was down marginally by 0.2% to $17.54 at the end of first quarter, net of our common dividend. Like many, we were surprised by the Fed's reversal on future rate hikes in March. But we remain nimble and proactively repositioned our portfolio throughout the quarter in order to protect it against the larger potential book value reduction. Julian will elaborate in his remarks shortly, but we continue to closely watch the global macroeconomic environment as we evaluate the composition of the portfolio over the coming quarters.

We remain committed to our proven MSR strategy. And during the first quarter, we grew that portfolio by approximately 11% through both bulk and flow acquisitions. At the end of the quarter, the MSR portfolio represented approximately 39% of our equity capital compared to 41% at the end of 2018. Additionally, we continue to be so selective in adding to our non-Agency MBS investments that meet our risk/return hurdles.

On the capital front, we completed our second preferred equity offering during the quarter, raising approximately $48 million in net proceeds that we deployed into both Servicing Related Assets and RMBS.

Looking ahead for the remainder of 2019, we will remain disciplined in our portfolio construction. Our management team will continue to utilize our collective investment experience to proactively manage our portfolio with the goal of preserving our book value and continuing to generate compelling returns for our shareholders. Longer term, we believe we remain well positioned to succeed across multiple interest rate environments and ultimately create additional shareholder value over time.

With that, I'll turn the call over to Julian, who will cover more detailed highlights of our investment portfolio and its performance over the quarter.

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Julian B. Evans, Cherry Hill Mortgage Investment Corporation - CIO [4]

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Thank you, Jay.

During the first quarter, mortgages as well as other spread sector assets and global equity indices performed well as the Fed followed closely by other central banks move towards a dovish, patient policy stance and pivoted away from a tightening policy stance, bringing interest and mortgage rates to their 15-month lows.

Mortgages outperformed in the quarter, benefiting from the combination of tighter nominal spreads and lower volatility. Mortgage performance was additionally aided by solid supply and demand technicals and improved price premiums for specified pools despite lower interest rates.

For the first quarter, we deployed the preferred offering proceeds into both RMBS and MSR securities. After the deployment, there were slight changes to the equity composition of the portfolio quarter-over-quarter.

As shown on Slide 5, servicing-related investments comprised of full MSRs represented approximately 39% of our equity capital and approximately 12% of our investable assets, excluding cash, at quarter end. Servicing assets were lower as a percentage of equity from the previous quarter as MSR valuations declined alongside interest rates despite additional asset purchase.

Meanwhile, our RMBS portfolio accounted for approximately 52% of our equity, a few percentage points lower than the previous quarter. As a percentage of investable assets, our RMBS represented approximately 88%, excluding cash, at quarter end.

As of March 31, we held MSRs with a UPB of approximately $28 billion and a market value of approximately $304 million. We grew our MSR portfolio by approximately 11% quarter-over-quarter as equity proceeds were put to work. During the quarter, our MSR portfolio continued to perform well as prepayment speeds remained low. As the spring and summer months approach, we would expect to see a pickup in the prepayment speeds given seasonality and lower mortgage rates.

Our conventional MSR and government MSR, CPRs, averaged approximately 6% and 9.1%, respectively, for the first quarter. Conventional MSR speeds rose from 5.2% in the prior quarter, while the government MSR speeds were down from 10.3% posted during the same time frame. Both the MSR and the RMBS portfolios benefited from prepayment speeds which were driven by the portfolio's collateral composition.

As of March 31, the RMBS portfolio stood at approximately $2.2 billion, up from $1.8 billion in the previous quarter as our RMBS assets increased in value as interest rates declined. In addition, our RMBS assets rose as we deployed proceeds from the preferred offering, as shown on Slide 7. Quarter-over-quarter, the RMBS portfolio's composition shifted as capital was deployed. The 30-year securities position stood at 78%, up from 74% as of December 31. And the remaining assets represented 22%.

During the quarter, our RMBS spreads tightened and specified pool price premiums improved as the Fed over the course of 2 FOMC meetings moved towards a neutral policy stance and removed the potential of any rate tightenings in 2019.

In the first quarter, the collateral composition of the RMBS portfolio continued to perform well, posting a weighted average 3-month CPR of approximately 5.48%, a slight increase from the previous quarter, and continued to best Fannie Mae aggregate prepayment speeds. As rates remained low for 2018, we were starting to see faster speeds as a result of lower interest and mortgage rates.

Over the next few months, speeds are expected to rise based on lower mortgage rates and seasonality.

For the first quarter, we posted a 1.25% RMBS NIM versus a 1.31% NIM for the fourth quarter. The NIM decline was driven by rising financing costs, which were partially offset by the portfolio's composition, and improved amortization costs based upon prepayments speeds. Near term, we expect the NIM to shift based upon lower mortgage rates, fluctuating financing costs and seasonality of the housing market, some of which will be offset by the received portion of our swap portfolio.

At quarter end, the aggregate portfolio operated with leverage of approximately 4.7x and a slightly positive duration gap. We ended the quarter with an aggregate portfolio duration gap of a positive 0.22 years, a significant change from the previous quarter's. We moved the portfolio's duration gap closer to 0 due to global geopolitical risk and trade uncertainties as well as limited clarity from the Fed. To move the aggregate portfolio closer to neutral, we reduced our payer swap positions and added receiver swap hedges to the portfolio. A continuous rally in interest and mortgage rates had short mortgage durations and thus made the RMBS portfolio only a partial hedge for the MSR portfolio. To offset the impact of the reduced mortgage durations, receiver swaps were added to the portfolio, mainly 10-year receiver swaps. As we move forward, we will continue to evaluate and alter the portfolio as necessary.

I'll now turn the call over to Marty for our first quarter financial discussion.

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Martin J. Levine, Cherry Hill Mortgage Investment Corporation - Secretary, Treasurer & CFO [5]

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Thank you, Julian.

Our GAAP net loss applicable to common stockholders for the first quarter was $22.6 million or $1.36 per weighted average share outstanding, while comprehensive income attributable to common stockholders, which includes the mark-to-market of our held-for-sale RMBS, was $8.8 million or $0.53 per share.

Our core earnings were $10 million or $0.60 per share.

As Jay mentioned, our book value as of March 31, 2019, was $17.54, a decrease of $0.04 per share from December 31,'18, or 0.2% net of the first quarter 2019 dividend.

We use a variety of derivative instruments to mitigate the effects of increases in interest rates on a portion of our future repurchase borrowings.

At the end of the first quarter, we held interest rate swaps, swaptions, TBAs and treasury futures and had put options on treasury futures, all of which had a combined notional amount of $1.9 billion.

For GAAP purposes, we have not elected to apply hedge accounting for our interest rate derivatives. And as a result, we record the change in estimated value as the component of net gain or loss on interest rate derivatives.

Operating expenses were $2.8 million for the quarter, of which approximately $538,000 was related to our taxable REIT subsidiaries.

On March 5, 2019, we declared a dividend of $0.49 per common share for the first quarter, which was paid on April 30. In addition, on March 15, 2019, we declared a dividend of $0.5125 per share on our 8.2% Series A Cumulative Redeemable Preferred Stock and a dividend of $0.36667 on our 8.25% Series B Fixed-to-Floating Rate Cumulative Redeemable Preferred Stock, both of which were paid on April 15, 2019. Our goal remains to distribute regular quarterly dividends of all or substantially all of our taxable income to holders of our common stock and to the extent authorized by our Board of Directors.

Now I'd like to turn the call back to Jay.

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Jeffrey B. Lown, Cherry Hill Mortgage Investment Corporation - President, CEO & Director [6]

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Thanks, Marty.

At this time, we'll open up the call for questions. Operator?

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Questions and Answers

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Operator [1]

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(Operator Instructions) Our first question comes from the line of Tim Hayes with B. Riley FBR.

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Timothy Paul Hayes, B. Riley FBR, Inc., Research Division - Analyst [2]

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Nice job growing the MSR portfolio. My first one just revolves around the MSR market. Looks like you wrote down the MSR by about 8 basis points this quarter after writing it down 7 the quarter before that. As you mentioned, CPRs have remained low. But can you just talk about the moving parts around the value of the MSR if the escrow hit you recognized last quarter results were at play this quarter?

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Raymond Slater, [3]

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Yes. Sure. This is Ray. As far as the escrow hit, it really wasn't a factor this quarter. This quarter really was around the prepayments speeds. Obviously, our quarter actual realized speeds were well behaved, but all the models are suggestive of a lot of the origination from 2018, which was higher [note] rates compared to where we are today, prepayments being picked up, particularly around the summertime. So that kind of factored into the market values.

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Timothy Paul Hayes, B. Riley FBR, Inc., Research Division - Analyst [4]

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I see. Okay. That's helpful. And then how much of the MSR acquisitions were bulk versus flow?

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Raymond Slater, [5]

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It was about $2 billion bulk and the remainder was flow.

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Timothy Paul Hayes, B. Riley FBR, Inc., Research Division - Analyst [6]

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Okay. $2 million bulk. And correct me if I'm wrong, but I don't believe -- I believe it's been several quarters since you've executed on a bulk transaction. Just wondering how bids look today in the market today versus maybe 6 months ago, if you're seeing more opportunities there and where these opportunities are coming from.

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Raymond Slater, [7]

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Sure. The bulk markets still maintains well bid. There's definitely portfolios that have been coming out. A lot of them have been of the larger size. So call them $10 billion-plus. We haven't seen as much of the typical, call it, $500 million to $3 billion coming to market as frequently as we did same time last year. But there's definitely a lot of supply. It's just coming in big blocks.

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Timothy Paul Hayes, B. Riley FBR, Inc., Research Division - Analyst [8]

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Okay. And -- okay. And Ray, you mentioned that assets still remain well bid. So despite the rally in rates, you're not really seeing kind of that much more of the attractive opportunity set there?

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Raymond Slater, [9]

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Yes. I think some of this has to do with level setting once we see actual prints come in. Folks may be holding back on putting out their portfolios right now after what they experienced in pricing in Q3, Q4 before the rally. So I think that's a large factor. And buyers have been eager to pick up the short amount of supply.

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Timothy Paul Hayes, B. Riley FBR, Inc., Research Division - Analyst [10]

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Okay. Understood. And then would you, Ray or Jay or it might be a question for Julian, but just maybe put -- can you kind of quantify the returns you're seeing on spec pools today versus the MSR?

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Jeffrey B. Lown, Cherry Hill Mortgage Investment Corporation - President, CEO & Director [11]

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Yes. Probably Julian will take that.

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Julian B. Evans, Cherry Hill Mortgage Investment Corporation - CIO [12]

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In terms of spec pools, I mean, think on a levered basis, we're seeing anywhere, I want to say, between 9% and like 12% type of returns on a levered basis. I'd also say if you throw in some non-Agencies, they're kind of around the 9% to 11% and CRT is about 10% to, let's call it, 14%, all depending upon your financing that you're seeing there.

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Jeffrey B. Lown, Cherry Hill Mortgage Investment Corporation - President, CEO & Director [13]

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Okay. On the MSR front, I'll let Ray.

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Raymond Slater, [14]

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Yes. I mean on unlevered basis, you're talking mid to high single digits. And then depending on your leverage, you can get that into the low to mid-teens.

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Timothy Paul Hayes, B. Riley FBR, Inc., Research Division - Analyst [15]

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Okay. Got it. That's helpful. And then one more from me for now. Can you just remind me? Do you guys have a buyback program outstanding? And at what valuation would you be interested in potentially using that, if you have one?

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Jeffrey B. Lown, Cherry Hill Mortgage Investment Corporation - President, CEO & Director [16]

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No. We currently do not have one in place. It's something that we have been discussing with the Board. I don't have a good answer for you on a specific number for when and how we would put that in place. But it's something we have been thinking about.

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Operator [17]

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(Operator Instructions) Ladies and gentlemen, we have reached the end of the question-and-answer session, and I would like to turn the call back to management for closing remarks.

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Jeffrey B. Lown, Cherry Hill Mortgage Investment Corporation - President, CEO & Director [18]

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Thank you very much today for joining us in today's call, and we look forward to updating you soon on our second quarter results. Have a nice evening.

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Operator [19]

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This concludes today's conference. You may disconnect your lines at this time. Thank you for your participation.