Ready Capital Corporation (RC) Q1 2013 Earnings Report, Transcript and Summary

Good afternoon, and welcome to the Anworth First Quarter Earnings Call and Webcast. All participants will be in listen-only mode (Operator Instructions) After today’s presentation, there will be an opportunity to ask questions. (Operator Instructions) Please note this event is being recorded. Before we begin the call, I will make a brief introductory statement. Statements made on this earnings call may contain forward-looking statements within the meaning of Section 27A of the Securities Act of 1933, as amended and Section 21E of the Securities Exchange Act of 1934, as amended, and we hereby claim the protection of the Safe Harbor provisions of the Private Securities Litigation Reform Act of 1995 with respect to any such forward-looking statements. Forward-looking statements are those that predict or describe future events or trends and that do not relate solely to historical matters. You can generally identify forward-looking statements as statements containing the words may, will, believe, expect, anticipate, intend, estimate, assume, continue or other similar terms or variations of those terms or the negative of those terms. You should not rely on our forward-looking statements, because the matters they describe are subject to assumptions known and unknown risks, uncertainties and other unpredictable factors, many of which are beyond our control. Statements regarding the following subjects are forward-looking by their nature: our business and investment strategy, market trends and risks, assumptions regarding interest rates and assumptions regarding prepayment rates on the mortgage loans securing our mortgage-backed securities. These forward-looking statements are subject to various risks and uncertainties including those relating to changes in interest rates, changes in the market value of our mortgage-backed securities, changes in the yield curve, the availability of mortgage-backed securities for purchase, increases in the prepayment rates on the mortgage loan securing our mortgage-backed securities, our ability to use borrowing to finance our assets, and if available, the terms of any financing, risks associated with investing in mortgage-related assets, changes in business conditions and the general economy, including the consequences of actions by the U.S. government and any other foreign governments to address the global financial crisis, implementation of/or changes in government regulations or programs affecting our business, our ability to maintain our qualification as a Real Estate Investment Trust under the Internal Revenue Code, our ability to maintain our exemption from registration under the Investment Company Act of 1940 as amended, and management’s ability to manage our growth. These and other risks, uncertainties and factors, including those discussed under the heading ‘Risk Factors’ in our Annual Report on Form 10-K, and other reports that we file from time to time with the Securities and Exchange Commission could cause our actual results to differ materially and adversely from those projected in any forward-looking statements we make. All forward-looking statements speak only as of the date they are made. New risks and uncertainties arise over time, and it is not possible to predict those events or how they may affect us. Except as required by law, we do not intend to publicly update or revise any forward-looking statements, whether as a result of new information, future events, or otherwise. Except as required by law, we expressly disclaim any obligation or undertaking to release publicly any updates or revisions to any forward-looking statements that may be made today or that reflect any change in our expectations or any change in events, conditions or circumstances based on which any such statements are made. Thank you. I would now like to introduce Mr. Lloyd McAdams, Chairman and Chief Executive Officer of Anworth. Please go ahead.

During the fist quarter of 2013, Anworth earned net income to common stockholders of $22.2 million, which is $0.15 per fully diluted common share, this amount includes realized gain of approximately $5.2 million or $0.04 per share. Also during this period, our net interest rate declined from 0.94% at December 31, 2012 to 0.89% at March 31, 2013. Stockholder equity available to common stockholders at quarter-end was approximately $1.015 billion, which equates to a book value of $7.04 per share and that’s based on approximately 144 million shares of common stock outstanding at March 31. This represents a decrease from our book value of $7.14 per share at December 31, 2012. Of the unrealized gain component of our book value was $67.1 million, which means that the balance of our book value excludes the component of $6.58. The fair value of Anworth’s portfolio of agency mortgage-backed securities at quarter-end was approximately $9.52 billion, which as for of you who listened in the past know that we assigned them to three major categories of Agency mortgage-backed securities in which we invest. The first category is adjustable-rate mortgages that shows interest rates reset within one year. Second category is hybrid ARMs whose interest rates reset after 1 year. And lastly, the third category of 15 and 30-year of fixed rate mortgage-backed securities whose interest rates, of course, never reset. With purchase agreements financing of our Agency mortgage-backed security assets, which was approximately $8.025 billion at March 31, was 7.12 times our total equity, of this total equity consist of common stockholders equity plus all preferred stock equity and junior subordinated notes. And the repo financing was 7.9 times our common equity alone. Floating to fixed interest rate swaps were $3.3 billion. This represents approximately 41% of our outstanding repurchase agreement balance at March 31. Anworth, you know is somewhat different from other mortgage REITs and that a significant portion of our portfolio, approximately 19% at March 31, consist of seasoned adjustable-rate mortgages whose coupons will contractually reset within the next 12 months. Excuses for the interruption. If for purposes of this calculation alone, we eliminate the amount of repurchase agreements, which finance these less than one year to reset ARMs because of their significantly reduced interest rate sensitivity. The ratio of our swaps to our outstanding purchase agreement balance increased from approximately 41% to approximately 53%. While the size of our swap position is a significant component of our balance sheet, I believe that the positions average remaining term of 38 months is more significant. Our management’s current decision about the size and the term of this swap position is probably the major determinant of our current return on equity and therefore our dividend yield. We should note that when determining the nature of a prudent hedging strategy, we take into account the specific characteristics of the assets in which we have invested in each of the three major categories of agency mortgage-backed securities, which I just referred to. The weighted average coupon of our portfolio of agency mortgage-backed securities was 2.82% at quarter-end. The weighted average term to reset on our adjustable-rate agency mortgage-backed securities was 43 months at quarter end. After adjusting for interest rates paid through our swap transactions, the average interest rate on our repurchase agreement liabilities was 1.00% and the average term to interest rate reset on our liabilities was 489 days, well over a year. The prepayment rate on our portfolio of agency mortgage-backed securities during the quarter was approximately was 24%. And, finally the average amortized cost of Anworth’s portfolio of agency mortgage-backed securities was 103.08% which is a slight increase from the previous quarter. Also here with me today are Joe McAdams, our Chief Investment Officer and a Director of the Company; Thad Brown, our Chief Financial Officer; and Chuck Siegel, our Senior Vice President of Finance. We’ll now turn the call over to Amy, our conference operator, and we’ll look forward to the question-and-answer session. Thanks very much everybody.

(Operator Instructions) Our first question comes from Bose George at KBW. Bose George – Keefe, Bruyette, & Woods, Inc.: Yes, good morning. Actually can you provide an update on your asset prices and book value since quarter-end?

Sure, Bose. This is Joe. We did have a small decrease in the book value of the portfolio due to changes in the market price of the securities, offset those swaps. By and large the majority of that price decrease has reversed itself during the quarter-to-date. So we would see the book value would be a few cents higher now than it was at quarter-end with part of that being an increase in our mark-to-market and also a few cents of retained earnings one month into the quarter. So the price changes have partly reversed the part of the decline the book value as change in market prices. I would point out that I believe the change in our accumulated other comprehensive income, the AOCI that was due to price changes during the quarter, was a little over $5 million lower. We do have a decline in book value per share every quarter. That is a function of securities paying down. Because we have securities at a gain, we amortized the historic amortized cost on every quarter as the securities pay down. But we also have given as a difference between the average cost, which is close to $1.03 and the average market price, which is closer to $1.06, we also have a loss in AOCI and a loss on book value every quarter through pay downs given that we have a net positive AOCI acquisition. So, it is in that book value change itself has been reversed by the moving the market, but the component of it that is related to price changes has largely been reversed. And we have also have few sense of retained earnings one month into quarter basis. Bose George – Keefe, Bruyette, & Woods, Inc.: Okay, great. Thanks for that color. And then, actually switch to prepayments, just curious what your view on prepayments over the next couple of months given the rally and rate?

We are seeing slightly lower prepayments so far and the trend in prepayments was from mid-to-high 20s that we’ve seen in the fourth quarter and into the first part of the first quarter to in the lower 20s. The last month of the first quarter was portfolio ahead of 21 CPR, the first month looking into the next quarter has been 23 CPR. So, I do think we will see a trend towards lower prepayments. Again, our focus has been on trying to keep a reasonable asset liability mismatch. We don’t typically look to by securities where we expect no prepayments or very limited prepayments because that obviously as to entail on the other hand a much longer duration then has been securities they’re going to have more typical prepayment behavior. So I would continue to expect our prepayment rate to stay in the low 20s. We might possibly get into high teens, but I don’t expect significantly lower prepayments given the sort of portfolio we’ve intended to construct. We will obviously see low prepayments on the securities we’ve recently purchased. But in this scope of the overall portfolio, we’re expecting slightly lower prepayment rates. Bose George – Keefe, Bruyette, & Woods, Inc.: Okay, great. And this one last thing, is HARP, there has been some chatter about the HARP debt cut out date, potentially being extended. Just curious if, how much have been impact that could have on the portfolio and also do you think that what do you think is likelihood of that happening?

I don’t have the, I don’t believe I have the breakdown for you here on this call, Bose. We don’t have a oversized exposure historically to that sorts of HARP paper. Again we have not actively focused on trying to buy securities that we are materially impaired from refinancing that has in those securities, again those we, as I just mentioned typically had a slower level prepayments and have a significant, often several percentage points market price pay out. So that has not been an area we focused on, we could, we will have some securities that would been originated and acquired during some of the years in question, but we don’t have a significant oversized over-leading to that sector to market. Bose George – Keefe, Bruyette, & Woods, Inc.: Okay. Great, thanks a lot.

Our next question comes from Dan Altscher at FBR. Daniel Altscher – FBR Capital Markets & Co.: Hey, thanks good morning or good afternoon. I think I’m might want to get used to that. I have a question about some of the gain from the sale of security, this is the first time and I guess couple of quarters you’ve seen pretty sizable amount, can you give us a little color on what types of securities you sold, whether in arm bucket, whether in the fixed rate bucket, what vintages, what maturities anything there are in detail would be appreciated?

Sure, it was actually a bit of a continuation of some realized gains that and strategy that we were undertaking beginning in the fourth quarter of last year. Where we have look to sell some securities and certain buckets that we feel ahead significantly appreciated and were lightly to either have continued fast level of prepayments that we keep their yield relatively low or have the potential win rates at some point eventually move higher that have significantly more market-to-market and downside and upside. So all of the sales that we have undertaken either in first quarter or in 2012 and to-date have been focused in the fixed-rate sector of the portfolio, so, while you see the overall percentage of our 15 year exposure isn’t changing a lot, that is there have been sales and additional purchases of newer securities in that 15 year bucket, so these were securities that have been typically acquired in 2010, 2011 and had some very strong price performance for us beyond what we would have expected given our liability structure and would have been sale prices this quarter. Daniel Altscher – FBR Capital Markets & Co.: Yeah, thanks. I think that’s a great level of detail and makes a lot of sense for those individual backed securities to be selling. Of a follow up around that, is this strategy I think we can continue to see going-forward and I ask because that obviously help to bring or support the dividend this quarter to help fill up some of the earnings. So, is there really something we can think about going-forward as either a mechanism to support the dividend or just good risk management.

It’s not going to be a predictable thing. If rates and part rates move higher and prices move lower during the quarter, so when prices are lower it’s going to be a less opportunistic time to sell. We have seen prices and we trace a fair amount of that sell-off. So, I would say that we, it is something we are looking at as made reference either on the last earnings call or possibly the one before that. One of the reasons we do have a low-level of current spread in our portfolio versus historical spreads and also versus the incremental spread were earning making new investments is that we have had a fairly unprecedented decline in mortgage rates due to a number of factors now little one being the quantitative easing it’s going to undertaken. So, while this is creating unusually low spread environment for our existing portfolio one of the benefits has been to the book value of the company. So, from a broader perspective the idea that is fairly unusual period of time where in especially thinking about the magnitude of quantitative easing and should continue would be that there are opportunities that are presented to us to try to opportunistically realize some of these gains would have been created. Especially in areas, where we feel could have more significant underperformance were there to be scaling back of quantitative easing. I don’t think the arm market is especially with shorter hybrids have been, I haven’t sense this directly affected by some of these sort of external influences on the market clearly when the yield curve flattens the way it has, it’s going to have the big impact on the longer duration security. So these would I guess that’s the long answer the short answer is not a predictable strategy, where we are looking to automatically realize some gains every quarter, but certainly given what’s gone on in the market, we continue to look opportunistically, especially in the areas where we feel. Again the upside it seems limited from price appreciation and especially of the quantitative easing were to start to scale back or it could be on some potential significant underperformance. Daniel Altscher – FBR Capital Markets & Co.: Thanks, that’s great color and book value did held up nicely this quarter. Thanks a lot.

The next question comes from Steve DeLaney of JMP Securities. Steven DeLaney – JMP Securities LLC: Good afternoon, Lloyd and Joe how are you?

Good.

Hello Steven DeLaney – JMP Securities LLC: Good, can you hear me?

Yes, we can. Steven DeLaney – JMP Securities LLC: Wonderful, so first congratulations on your 15 year anniversary, I didn’t think of you on a St. Patrick’s Day.

Well you have a great memory. Steven DeLaney – JMP Securities LLC: Yes, well, I’ve heard that story a few times about. I’m just wondering, I wanted to talk a bit hard, but those covered that already. You got a nice drop in your average repo rate from 47 to 41, I was just curious if you could give us a little color on what further improvement you might be seeing now? And also looking out over a couple, the next couple of quarters, do you think there any technical factors or any reason to suspect that decline could continue out a little further?

This is Joe. Steven DeLaney – JMP Securities LLC: Hi, Joe.

Hi. As we just talked about on all of our repos that we do our 90 day maturities or in some cases less than 90 days, so we don’t a lot of longer term repo. So the decline that we’ve seen from 47 to 41 really reflects the entire repo book moving from having been put on over year end to now all of it having not been put on, they’ve been put on in 2013. So this is sort of 40 basis point area for a 90 day repos is still sort of the environment we’re in and we have teen rates trend of lower during the quarter. So our average repo rate that reflected in the earnings is higher than 41. So I do think we have some additionals at a positive trend for the income statement. In terms of the rates go further down from here, I don’t have a strong view technically, but and clearly we’ve seen a good move down after year end and we’ve seen a continued sort of gradual decline in repo rate. So I would like to think those factors to continue into the next few quarters before we start gearing up for the next year in the period. Steven DeLaney – JMP Securities LLC: But Joe does it feel a little high to you versus like 23 on three-month LIBOR and 14 or 15 on effective Fed funds, just looking back over your history in the bond market and the money market. It seems to me that and I guess if the banks can have the pricing power, but it seems like the spread of repo over those other two measures seems to be historically what?

Oh, of course, absolutely so. I mean I think when you look over a longer-term horizon, I don’t see a fundamental reason that you should have three-month LIBOR and 27 basis points and a three-month repo at 40 for agency MBS pools. You’re correct this last few years really have been an outlier in terms of that basis between repo and LIBOR. That’s one of the reasons when as you know, even though we use interest rate swaps to hedge our repos when that basis moves, that can have a substantial impact on our cost of funds. Steven DeLaney – JMP Securities LLC: Yeah. It make sure basically make sure swap more expensive, because you are receiving the much lower rate obviously?

Exactly. So as we did during the quarter, we are putting on swaps that have an average fixed rate in the 90ish 90 basis point to 100 basis point area, but at the same time, we’re having to pay 40 basis points on a repo and receive back 27 basis points. Our net all-in borrowing cost when it’s hedged like that is, it’s going to still be again 10 basis points or 15 basis points higher than that sort of headline fixed rate number. So over a longer period of time, I don’t see any reason for that that gap to converge back to a more historical level over most of this continued history of the company, our repos have been LIBOR minus of swaps. Steven DeLaney – JMP Securities LLC: Right. Five over Fed funds and 500 under LIBOR something like that?

Correct. And just as we’ve seen the basis between Fed funds and LIBOR, right now a lot come back and so I guess my answer to your question initially was really focused on some short-term technical issues, and I am not sure what the catalyst would be to drive that significantly tighter, but when you step back and take a look over a longer term horizon, I think you would expect this to move back to levels that will fundamentally are related to the credit issues that drive the difference between those rates. Steven DeLaney – JMP Securities LLC: And I guess that segways in one final brief thing, we got I think have some new initial margin requirement on swap transactions and sounds like some other mortgage reach are starting to look at euro-dollar futures, I mean some of you those in the past, but as I understand there are lower margin requirements on futures may be then they are in swaps and I am just curious if you guys are considering that I know these changes are fairly recent, but is that something you would think about it you found but that the euro-dollars were just a cheaper way to edge.

We’re definitely looking at it, again for Anworth, we are not in a position yet, we are leading to clear swaps and post the margin, and we don’t currently post the margin on any of our swaps outstanding, but according to the way the plan is moving along, and we could very well be in a position by the end of this year. Where we do need to move our swaps so put new swaps on through clearing house, that its, it is a bit of a complicated process that estimate, what the margin will be, but and this could certainly change between now and whenever it is that Anworth needs to move its swaps to the clearing house for Dodd–Frank but I think the expectation is that it could be 2% to 3% area and if you looked at new dollar futures, which have fairly lower margins. I think you will see that for an individual contract especially if it’s several years out. I believe it’s only about $500 for $1 million contracts. So if you sort of string together, all of the contracts that will be required to replicate, let’s say a five year swap. I think you find your collective would be sort of a 1% area. Steven DeLaney – JMP Securities LLC: Yes.

So that is the difference, that’s said there is not a tremendous amount of liquidity out in those three and four and five year outstrips of euro dollar. Liquidity is so focused on maturity, so that’s the trade off that we would look at. It would only help us more participants in the swap markets move to the euro dollar future market that would improve liquidity and it would be sort of a virtuous cycle, but right now that there is a, we have a significant amount of excess capital over our average 5% [year cut] we have on our repos, if we have. Steven DeLaney – JMP Securities LLC: All right.

40% let’s say of our repos have swaps associated with them and there was a potential 1% or 2% margin savings by moving from swaps to future, I mean there is, it doesn’t change the dynamic dramatically, but it is meaningful, so that’s certainly something we are looking for it. Steven DeLaney – JMP Securities LLC: It sounds like it would just help you a little bit on liquidity, if you didn’t have to tie up those assets.

Right. I mean the illiquidity of the longer Euro dollars would, I think or to primarily on a rate basis, but again there are some liquidity issues there as well. Steven DeLaney – JMP Securities LLC: I really appreciate that color, that’s very helpful. Thanks guys.

Our next question comes from Steven [Steven Mitchell].

Yes, I noticed MFA recently called their 8.5% preferred A and replaced it with a new 7.5% preferred, can you give us your thoughts on [85A] Series A Preferred.

Yes, I’m aware of that they did that. What they did was in fact they eliminated a security which they could have called, either by using common turn capital or selling additional security. They had two choices they sold this they chosen to sell a different security. What they got is and what anyone who does that trade gets, if you got to do 7.5% security that is non-callable for five years, so you give up the ability to call the security at what you think is the proper time to do it. I think that’s the entire decision, if someone ever sells the same security at 6.5%, then it would have been to awaited, the security never trades at 7.5%, again only goes up, probably it might not have even made sense. It would have made sense to have done it and to have a 1% lower rate for the next five years. So under, my general take is that it’s not a sure thing to just automatically redeem any preferred stock at a lower interest rate when you have to pay five years of non-call. If you only had to pay one year of non-call, I don’t that there would be any decision, but that’s not the case, you have to, you are non-callable for five years. And that’s the way I tend to think about it, so that’s the approach we take.

Okay, thank you.

Sure, thanks

Showing no further questions I would like to turn the conference back over to Mr. McAdams for closing remarks.

Well thank you very much everybody for joining us. We’re glad we got to have a chance to answer some of those questions. There were actually quite important as it relates to what is going to happen over the next couple of quarters. We look forward to seeing you again and hearing from you this time. Thanks a lot and every one have a great day.

Conference is now concluded, thank you for attending today’s presentation. You may now disconnect.