Good morning, ladies and gentlemen. Thank you for standing by. Welcome to the Ellington Financial Third Quarter 2018 Earnings Conference Call. Today’s call is being recorded. [Operator Instructions] It is now my pleasure to turn the floor over to Jason Frank, Corporate Counsel and Secretary. Sir, may begin.

Thank you. Before we start, I would like to remind everyone that certain statements made during this conference call may constitute forward-looking statements within the meaning of the safe harbor provisions of the Private Securities Litigation Reform Act of 1995. Forward-looking statements are not historical in nature. As described under Item 1A of our annual report on Form 10-K filed on March 15, 2018, forward-looking statements are subject to a variety of risks and uncertainties that could cause the company’s actual results to differ from its beliefs, expectations, estimates and projections. Consequently, you should not rely on these forward-looking statements as predictions of future events. Statements made during this conference call are made as of the date of this call, and the company undertakes no obligation to update or revise any forward-looking statements, whether as a result of new information, future events or otherwise. I have on the call with me today Larry Penn, Chief Executive Officer of Ellington Financial; Mark Tecotzky, our Co-Chief Investment Officer; and JR Herlihy, our Chief Financial Officer. As described in our earnings press release, our third quarter earnings conference call presentation is available on our website, ellingtonfinancial.com. Management’s prepared remarks will track the presentation. Please turn to Slide 4 to follow along. Please note that any references to figures in this presentation are qualified in their entirety by the endnotes at the back of the presentation. With that, I will now turn the call over to Larry.

Thanks, Jay, and good morning, everyone. As always we appreciate your time and your interest in Ellington Financial. On our call today I will first give an overview of the quarter. Then our CFO, JR Herlihy, will summarize our financial results. And then Mark Tecotzky, our co-Chief Investment Officer, will discuss how the market has performed this quarter, our portfolio positioning and performance and what our investment outlook is going forward. Finally, I will provide some closing remarks, including more detail on our plans, which we announced last night on our earnings release, to convert to a REIT in the first half of 2019. Then we’ll open the floor to questions. Beginning with Slide 4, Ellington Financial continued its strong year-to-date performance through the third quarter of 2018. We grew our Credit portfolio another 15% in the quarter and generated net investment income of $0.38 per share and adjusted net investment income of $0.40 per share, which essentially covered our third quarter dividend of $0.41 per share. I’m extremely pleased with this progress and give our diverse sourcing channels and strong balance sheet, we should be able to continue to grow the credit portfolio from here to support further growth of earnings and ultimately the growth of our dividend. Overall, including realized and mark-to-market gains and losses, Ellington Financial generated net income of $6.7 million or $0.22 per share and an economic return of 1.1% for the third quarter. Adding back dividends paid, book value is now up 9.4% through the first nine months of the year or 12.6% annualized. We had excellent performance in several of our strategies in the third quarter including small-balance commercial mortgage loans, where strong origination volumes and favorable loan resolutions helped generate a high return on equity again for the strategy. In our corporate…

Thanks, Larry, and good morning, everyone. Please turn to Slide 6 for a summary of our income statement. In the third quarter, EFC generated net income of $6.7 million or $0.22 per share, as compared to net income of $21.2 million or $0.69 per share in the prior quarter. Our third quarter net income breaks down as follows. Net investment income was $11.7 million or $0.38 per share. Net realized gains were $10.1 million or $0.33 per share. The change in net unrealized was a loss of $14.3 million or $0.46 per share and the downward adjustment from allocation to non-controlling interest was $813,000 or $0.03 per share. Net income was down sequentially not because net investment income was down, in fact, net investment income was up $0.02 per share; but rather because mark-to-market losses exceeded realized gains in the third quarter. Several strategies that generated significant gains last quarter had smaller gains or modest losses in Q3 and we also had net losses on our credit hedges this quarter as opposed to net gains last quarter. Including the $0.02 per share growth this past quarter, quarterly net investment income per share has now increased 57% year-over-year. After adjustments, net investment income was $0.40, which effectively covered our $0.41 dividend. Additionally, in conjunction with the expected REIT conversion that Larry will discuss in more detail in a moment, we would need to make certain portfolio adjustments to comply with the REIT rules. As a result of these adjustments, we would expect the growth rate of our net investment income to slow temporarily. Once our portfolio composition stabilizes however, we would expect to resume growing net investment income, earnings and ultimately the dividends. One more comment on adjusted net investment income, while we view adjusted net investment income as a good…

Thanks, JR. Q3 was generally a strong quarter for credit strategies. The S&P was up over 7% for the quarter, which set the tone for tightening credit spreads for both ABS and corporate credit. EFC stuck to its long-term plan in Q3, diligently growing the portfolio primarily through proprietary sourcing channels: consumer, non-QM, small-balance commercial and by manufacturing investments through our CLO program. You can track changes in portfolio size and composition on Slide 8. We continued to be less focused on the more commoditized credit sectors, which saw continued spread tightening in Q3. We opportunistically used some of these lower-yielding sectors to increase returns on corporate cash, but we are not excited about trying to generate double-digit returns on equity by increasing leverage on sectors where future spread tightening looks limited. As our portfolio size increased, we also added some credit hedges, as you can see on Slide 16. JR and Larry mentioned that our adjusted net income effectively covered our dividend for the quarter. That’s very important. But equally important in my opinion is the high quality of our net investment income. Much of our net investment income is coming from higher yielding shorter duration assets with predictable cash flows, oftentimes well collateralized and at a very low LTV. That positioning is looking particularly relevant now, given that financial markets have been a lot less hospitable since quarter end. Credit spreads have changed direction, widened with the extreme volatility in equities. Using a lot of leverage on assets that are dropping in price can wreak havoc on book values or worse. In contrast, we were pleased to report last night Ellington Financial had a positive economic return in October. Our conservative portfolio construction, including the proportional increase in credit hedges that I previous mentioned, both contributed to our…

Thanks, Mark. As we see new challenges emerge in the market, Ellington Financial’s focus remains the same. Our strategy of investing across a diversified mix of assets based on favorable risk reward, being nimble in our allocations and disciplined with our hedging strategies; positions us to drive superior risk-adjusted returns over market cycles. And 2018 has been a very good year for us. And as you can see on Slide 12, this strategy has been a differentiator for us in terms of the stability of our performance. Of course during the first weeks of the fourth quarter, we’ve seen increased volatility and we’ve seen virtually every fixed income sector widen relative to Treasuries. We believe that this environment again underscores the importance of our disciplined hedging and liquidity management, both in preserving book value and enabling us to take advantage of buying opportunities during market dislocations. We have been strategically growing our portfolio and utilizing a bit more leverage to drive earnings growth and set us up for the future. We also retain the ability to repurchase our own shares opportunistically when we believe they represent an attractive value. In fact, as you can see back on Slide 4, we’ve repurchased over 140,000 shares since quarter end with our stock price down. Finally, as announced last night in our earnings release and while we have not completed our analysis or made any final decision, we are now in a position to say that EFC expects to convert to a real estate investment trust or REIT during the first half of 2019, barring an unforeseen impediments. In connection with such a conversion, we would expect to take several steps to help qualify as a REIT, including selling certain non-real estate related assets and moving other non-real estate related assets into taxable…

[Operator Instructions] Your first question comes from the line of Steve Delaney of JMP Securities.

Congratulations on the book value performance, especially here in October. We’re hearing down 3% to 5% from most of the hybrid residential REITs this week, as they’ve reported. Regarding the NQM program with LendSure, could you remind me the profile of your particular NQM product in terms of what it looks like and where the broadening of the agency credit box exists in your product? I assume there’s a degree of homogenization there if you’re able to continue to do securitizations.

This is Mark. So you can look at our first non-QM deal which is on Bloomberg, its ticker symbol EFMT 2017-1. The deal we priced this morning will be on Bloomberg shortly. So typically we’re around a 6.5% note rate. LTV is high 60s to 70s, FICOs low 700s. And where we have seen an opportunity to get to credit worthy borrowers that don’t fit into a Fannie-Freddie-Ginnie box, is for a lot of borrowers that are self-employed. Really Fannie, Freddie, FHA; post-crisis they’ve really been focused on documenting income with W-2s and 1040s. So to the extent borrowers have tax returns that are more complicated, maybe they have K-1s, maybe they have partnership income, rental income; they don’t fit neatly into the agency box. So those borrowers, we’ll look at years of bank statements. We’ve seen a good opportunity there. We’ve also seen opportunities with investor properties where the borrower is an LLC as opposed to an individual. Fannie and Freddie focus on just individuals. So it’s been a variety of niches like that, where we’ve been able to get our volume, but get it at sort of the lower LTVs, the better credit qualities that we like.

So the RMBS market is letting you blend owner-occupied self-employed loans in with business purpose investment properties in the same trust?

Yes. Yes, the rating agencies have a methodological framework for calculating expected losses. They have a lot of data on that.

Okay, and it sounds like most of what you’re doing is with LendSure. Are you working to develop additional sourcing as well?

Yes, so we have focused on purchasing LendSure production since they started originating. Recently we have some initiatives to buy from some other lenders that we think have the capability of similarly getting that combination of strong credit quality and relatively attractive note rates.

Got it, so your 45% equity interest, it sounds like there’s no exclusive connection there that requires that you only buy loans from them?

Yes, that’s correct. And also there’s no exclusivity that they can’t sell loans to others and they have on a small scale.

Okay great, and then lastly from me, Larry, I guess this is for you. You touched on it. Could you just review for us when you convert to a REIT – I’m not going to say if – but when you convert to a REIT in 2019, what would be the two or three most significant activities that you would have to move down into a TRS? I’m not sure. I understand that’s got to take place, but I’m not sure I understand exactly what activities will go down there. Thanks.

Sure. Hey Steve, it’s JR.

Hey JR?

How are you?

Good.

Yes, so I think that I mean big picture, as Larry mentioned, the Ellington sponsored CLOs and our consumer businesses we expect to maintain. The consumer businesses are already in a blocker. But we would move the Ellington sponsored CLOs as well as any secondary CLOs we continue to invest in. Those are probably the two largest categories. Larry also mentioned euro non-conforming RMBS that aren’t structured as REIT assets. I think perhaps some of those would be moved, but probably more would be sold. That would be maybe the third bucket to think about.

Okay, so if I’m hearing you there, then the way we should think about it is non-real estate related investments primarily would be what you would need to put into a TRS, because you need to have your – what is it – 80% test of good REIT assets.

Yes, that’s right.

Yes, the 20% TRS test and then 75% gross asset test. So, yes. But that’s the right way to think about it.

And then just we would also move some credit hedges as well, the majority I would think of our credit hedges would also move to one form of TRS or another.

Okay got it thanks for the comments for the commands guys.

Your next question comes from the line of Crispin Love of Sandler O'Neill.

Good morning thanks for taking my question. Can you comment on what you’ve been seeing in the CLO market recently and how your CLO investments have been performing? There’s been a lot of press recently about CLOs getting riskier and that they might be the next shoe to drop in the market. So I just wanted to kind of get your views on kind of if you agree with that and kind of how you are positioned there.

Hi Crispin, it’s Mark. So yes, there’s certainly been an erosion in the quality of covenants on the bank loans that typically go into broadly syndicated CLOs. Our program is a little bit different. We focus on primarily secondary loans, not new issue. But they’re a little bit wider spreads. They’re a little bit less leverage. We’ve been able to get stronger covenants. So I think this erosion of covenants and sort of erosion of credit quality is one of the reasons why we’ve designed our program the way we’ve designed it. So one consequence of this erosion of covenants is that for an entity like Ellington Financial or our other credit strategies, we generally have not been participating in third-party equity, because sort of the concerns you articulated.

And if you look at our deal structures and the kind of assets that we have in there, as Mark mentioned, we’re buying some fallen angels that there really isn’t technical support in the market from that your garden variety new issue CLO can’t buy them. They’re not distressed, so they’re not really the kind of thing that distressed fund managers would buy. So we think that there is actually a technical but real and inherent spread advantage on an after-loss basis in those assets versus I think a lot of the new issuance in the loan market that has been getting a lot of press And when you look at our deals in our equity tranches, the amount of future losses that you need to really dent those equity tranches to the degree where they wouldn’t look like a good investment is obviously you expect more losses than you do on your typical vanilla deal. But here we believe as we look at the yield profiles on these investments that given just how much losses would have to reach in order to make these investments as I say poor yielding investments, to us the investment looks very compelling.

Okay, great. Thank you. That’s helpful. And can you talk a little bit about what led you to choose to convert to a REIT rather than a C corp or staying a PTP? I understand that nothing is final yet. But I thought early on kind of within the past year, you may have been leaning towards a C corp. So I’m wondering how your decision and thought process has evolved over the last 10 or 11 months.

Right. Well, okay. So in terms of the decision to convert, we now this year have been I think – we think proving that the moves that we’ve made in our portfolio and our business model are not only headed in the right direction, but have succeeded. And yet, when you look at the stock price and when you look at the ability of investors to buy our stock because we’re a PTP, it’s so much more limited. We’re not able to reach that broad investor base. So that’s one reason. The other reason, of course, in terms of a REIT, is that with the tax law change in 2017, REIT dividends are effectively taxed at a 20% lower rate for U.S. taxpayer than are, say, other types of income, for example the PTP income that we were generating for our investors before ordinary income, by and large. So that also was a huge factor. We did look at a C corp, because we knew that a C corp would give us the most flexibility frankly of any structure, even more than a REIT and then even more than a PTP. But the effective tax rate that we would pay would go up too much. We got also excellent feedback from investors on that front that we had said that if we did that we would have to have a drop in our dividend to account for taxes that we’d have to pay. And with the REIT structure, we don’t think that there’s going to be a material change in our tax rate, at least not for a while. And you see this with all the REITs in the sector. So it’s tax efficient. The only negative really of the REIT structure, right, is twofold. And we addressed this, I…

Right that makes sense and thank you for taking my question.

Thank you.

Your next question comes from the Doug Harter of Credit Suisse.

This is actually Josh on for Doug. Just one follow-up on the REIT conversion, how are you guys thinking about allowing the non-core assets to run off versus outright sales and should we expect to see any uptick in agency investments during the process of redeploying that capital into target assets? Thanks.

Excellent question, thank you. So yes, so on the second one you hit the nail right on the head. So I think in the short term, we probably would have a modest increase in our Agency strategy. Those are good REIT assets, Agency RMBS. And as you know, we buy a lot of whole specified pools, home mortgage pools. So, yes. So I think we would see a little uptick there and I think JR alluded to the fact that while we don’t see our adjusted net investment income dropping materially as a result of this conversion in the short term, we do see our growth. And I think we mentioned that its net investment income per share grew 57% I think from a year ago. So we’re not going to see that kind of growth probably for the next couple of quarters, but maybe a little more stabilization there. And then after the dust settles on this conversion, I think we can then we would expect to be able to drop that increased Agency allocation again back to more normal levels for us, or closer to more normal levels and that will happen as we continue to fill the portfolio with all the good REIT assets that obviously are a major focus of what we’ve been doing anyway. So that’s your second question. And you first question is – I think it was sort of selling versus runoff. So most of the assets that we were talking about selling are pretty liquid. You’re talking about a lot of these – sometimes we call them the placeholder assets, some certain CLO debt investments, for example. So given that even – I mean the earliest that we would convert would be January 1, 2019. And under the REIT rules, the asset tests are measured at quarter end. So we have even under a January 1 conversion, we have until March 31 to basically satisfy the REIT tests on assets. So that gives us plenty of time – these are really liquid assets – to do that. And the second thing would be that there are some assets that we would probably look more to runoff, because they’re a little more liquid, some of the European assets potentially. But again, it’s a pretty modest portion of our portfolio. And so I think that for most of the stuff sale is really not an issue in terms of we have plenty of time and they’re plenty liquid. I think Mark or JR, you want to add something to that?

Yes, I would just say that in terms of a lower yielding asset we have in the company now that’s not a good REIT asset, say, like some seasoned CLO debt; we think about it more as a rotation. So a rotation out of that into CMBS debt, into non-Agency mortgage market; so there is a lot of sectors where we deploy some of this placeholder cash. A couple of them aren’t good REIT assets. Many of them are. So I think about it more as sort of an incremental portfolio rotation.

Good thanks guys.

Thank you.

Your next question comes from the line of George Bahamondes of Deutsche Bank.

Hey good morning. Just a quick on REIT conversion, how should we think about the expenses associated with the REIT conversion process?

Sure. It’s JR. There will be costs associated with the conversion. They will be one-time costs, mostly professional fees to get through the conversion. In fact, some of those costs have hit us this quarter, a couple hundred k. But to reiterate, they’d be one-time costs and then we would look to kind of stabilize expense ratios after, as Larry says, the dust settles on the conversion.

Got it okay that’s helpful all from me today thank you.

Thanks.

Your next question comes from the line of Tim Hayes of B. Riley FBR.

Hey guys good afternoon thanks for taking my questions. Just a follow-up on that last question, do you not have to pay an earnings and profit distribution in conjunction with the conversion? Sorry if just my understanding of the, I guess, rules around that are not there.

So if we were currently a corporation that would be correct. But given that we’re currently a partnership there are some little things that go on with some of our assets in certain subsidiaries. But we’ve looked at this and our preliminary analysis says that any one-time tax effect similar to what you’re alluding to would be extremely minor. And remember also, we take a 475 election, mark-to-market election on certain assets that might mitigate some of it. But in any case, we’re largely through that analysis and we don’t believe that there is going to be anything material along those lines.

Okay. That’s really helpful. Thanks for explaining that. And do you happen to have a book value estimate at this point during the quarter?

We have. We just published October last night.

Oh, I missed it. I apologize.

That’s okay, a lot going on. And that’s diluted or?

Diluted, yes. Fully diluted $19.44 per share as of 10/31.

That’s where– so we had a positive economic return in the month, which – and I think one of your colleagues alluded to earlier in the call, compares extremely favorable to some of the announcements on October book in the REIT sector otherwise.

Understood, thanks for the clarification. And then have you been buying back stock at all this quarter with shares trading kind of much closer to that 80% of book value range where allocating capital – that strategy is usually more attractive to you guys?

Exactly. So since we were in a blackout period basically until this call, we’ve been operating under our automated 10b-51 program. And as you can see on Slide 4 I think it is, yes, we’ve purchased 144,117 shares, so another 0.5% of our shares at an average price of $15.52 through November 6. So that gets you pretty up to date. And as you correctly remarked, that coincided with the drop in our stock price post quarter-end towards that 80% and even below that 80% price-to-book level. And there you go.

Okay appreciate all the comments.

Thank you.

That was our final question. We thank you for participating in Ellington Financial’s Third Quarter 2018 Earnings Conference Call, and you may now disconnect.