ARMOUR Residential REIT, Inc.
Q4 2020 Earnings Call Transcript

Published: 18 Feb 2021

[Operator:]

Greetings and welcome to the ARMOUR Residential REIT, Inc. Fourth Quarter 2020 Earnings Conference Call. As a reminder, this conference is being recorded today, Thursday, February 18, 2021. It is now my pleasure to turn the conference over to Jim Mountain, Chief Financial Officer. Please go ahead, sir.

[Jim Mountain:]

Thank you, France, and thank you all for joining our call to discuss ARMOUR’s fourth quarter 2020 results. This morning, I am joined by ARMOUR’s Co-CEOs, Scott Ulm; and Jeff Zimmer; and ARMOUR’s Chief Investment Officer, Mark Gruber. By now, everyone has access to ARMOUR’s earnings release, which can be found on ARMOUR’s website, www.armourreit.com, along with our Form 10-K and most recent company updates. This conference call may contain statements that are not recitations of historical fact and therefore constitute forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995. All such forward-looking statements are intended to be subject to the safe harbor protections provided by the Reform Act. Actual outcomes and results could differ materially from the outcomes and results expressed or implied by the forward-looking statements due to the impact of many factors beyond the control of ARMOUR.

[Scott Ulm:]

Thanks, Jim, and good morning. The fourth quarter of 2020 provided favorable conditions for mortgage investors and ARMOUR REIT. A one-two punch of fiscal action from Washington and all our commitment from the Fed to the U.S. Treasury and mortgage backed securities markets created a wave of liquidity that drove assets spread significantly tighter in the fourth quarter. The trends have continued into the first quarter of 2021, as markets anticipate a new wave of fiscal stimulus from Congress in the near future. The demand for yield from private investors combined with the official QE purchases delivered a strong MBS performance during a period when longer term treasury yields rose significantly after 2020 lows. Echoing the positive market sentiment, repo financing also approved over the quarter dropping from 20 to 25 basis points in the third quarter for 30-day tenures down to 15 to 20 basis points currently. The flip side of all the good news is that historically low mortgage rates helped create the largest wave of home loan refinancing since 2003.

[Operator:]

Thank you. And our first question will be from the line of Doug Harter with Credit Suisse. You may go ahead.

[Doug Harter:]

Thanks and good morning. You mentioned that you kind of brought down leverage to take advantage of potential better opportunities. It seems like the mortgage market this week, it’s starting to give you some of that opportunity, I guess, if you could just talk about, I guess kind of you view the opportunity today and is that enough to start kind of building back that position? Or would you be looking for more volatility and still potentially better entry points?

[Jeff Zimmer:]

So Doug, this is Jeff, good morning. The middle August, Fannie 2s for example, had OAS of 83, zero volatility OAS of 83. On our last earnings call, they had come into 65, when we last spoke to you and they’re at 31 today. I listened to Leon Cooperman this morning being interviewed on Bloomberg news. And Leon said about stocks, I like to go down, but I don’t want to buy anymore here. And I think that’s the way we feel as well. We like what we own. We’ve done some selective selling, does you may have heard got as wide as 250 off Zs and swaps – excuse me, in March. Now we are trading in the mid-20s. We’ve done a little pruning there, done a little pruning of our 3.5 position where prepayment speeds had gone so wild that the yields on those assets were actually negative and we’ve done some pruning in the lower coupon assets as well. We’re not in a position to say that we will increase our exposure or our leverage quite yet. We’re watching very carefully and we do think the opportunities will come and we’re going to be patient.

[Doug Harter:]

Got it. And I guess, just philosophically, I guess, how do you kind of weigh that the trade-off of potential lost carry by being lower levered versus kind of the potential for book value volatility.

[Jeff Zimmer:]

So between the beginning of the second quarter of 2013 and the end of the second quarter of 2013, many of the firms in this space lost between 10% and 25% of their book value. And with that exact, those numbers and reflections of OAS’s in tightness and demand during that period of time are too dissimilar than what we’re seeing today. So I look at ARMOUR and we sit down at our meetings and we go, gosh, book value is up 4.5% so far this quarter. And mortgage is a really tight and the list looks like another party that got a little sloppy at the end of it. And we’re just going to be patient and watch. And we think we’ll be better off long-term looking at our book value this period.

[Scott Ulm:]

I’d also add that. It’s relatively often that we find opportunities to create earnings may come at the – it may come with some risks that we may or may not like, but opportunities to find earnings are usually there. Opportunities to create book value are more difficult to achieve.

[Doug Harter:]

Understood. Thank you.

[Operator:]

Our next question is from the line of Trevor Cranston with JMP Securities. Please proceed.

[Trevor Cranston:]

Thanks. Good morning. Follow-up on the question about leverage, would you guys say at this point that you’re finding opportunities to reinvest pay downs or given your views on the market, are you sort of letting portfolio runoff not be replaced at this point? And which would apply to leverage may continue to tick down a little bit going forward?

[Jeff Zimmer:]

Good morning, Trevor, this is Jeffrey. We can invest in $2 and $2.5 rolls and get mid double-digit return, 12%, 13%, 14% double digit returns, but that comes with a price and the price is these assets are becoming increasingly poor convexity assets. And that’s why the TBA market trades is way lower levels in the specified market. They’re specified assets now trading at four or five points over TBAs number – about a hundred years of experience sitting at this table, and these are new levels stretching that out. So we will selectively add and we have added some dollar roles over the last quarter when we see some opportunities, but we want to be very cautious of the convexity. And that gets back to our point to Doug Harter that you can blow up a lot of book value by just reaching for a little bit of extra earnings. And at the end of the day, we’re better off not reaching and protecting book value. And that’s how we will do it in the immediate future. Those earnings opportunities will come and it’s pretty easy to buy 1 billion or 2 billion of them when opportunities are there. But Scott just boldly stated very hard to find those opportunities to increase book value.

[Trevor Cranston:]

Got it. Okay. And then actually my second question is related to, you just commented on the convexity of some investments. How do you guys think about the extension risk within the portfolio? Obviously, we’ve seen the tenure move higher over the last – in the fourth quarter, and again, in the first quarter. So I was curious how you guys think about the extension risk in your book and how you’re approaching that on the hedge side as well.

[Jeff Zimmer:]

So 94%, as Scott said in his comments of our non-TBA position are assets that have qualities that have improved convexity and as a result, improved convexity means, improved extension characteristics. I mean, that’s like almost 100%, right? So when rates go up, we don’t extent. I would also say that model wise, most of the DVO1 exposure we have is in the very short end of the curve. And the fed was very clear in their minute yesterday that is not going anywhere. So our exposure out to the tenure area, well, let’s look at this, when we last spoke, what was the tenure 45 basis points, 50 basis points lower in yield than it is now.

[Trevor Cranston:]

Yes. That is very helpful. Appreciate the comments. Thank you.

[Jeff Zimmer:]

Great.

[Operator:]

And our next question is from the line of Christopher Nolan with Ladenburg Thalmann. Please proceed.

[Christopher Nolan:]

Hey guys. Based on Scott’s comments in terms of – just some follow-ups in terms of – I’m not reaching for earnings and protecting book value. In the past, you guys indicated that you’re targeting high single digit, low double digit core ROE. How would you characterize the target now?

[Jeff Zimmer:]

So we’re paying a dividend of $0.10 a month based on our stock prices, about 10% dividend yield, right? And we’ll continue to pay that dividend. And we would hope that at the end of the year, the total 2021 earnings and book value will exceed the dividends paid. And that’s our goal, comprehensive income.

[Christopher Nolan:]

Got it. That’s it for me. Thanks.

[Jeff Zimmer:]

Thank you.

[Operator:]

And speakers, it appears we have no further questions at this time. I’ll return the call back to you.

[Jim Mountain:]

Again, I’d like to thank everybody for joining us. We look forward to continuing our conversations with you individually over the next – over the rest of the quarter. So as always, if there’s anything that comes up that you want to talk about in more depth, we’re here. Give us a call. And until next time stay warm, stay safe.

[Operator:]

Thank you. This does conclude the conference call for today. We thank you all for your participation. And kindly ask that you please disconnect your lines. Have a great day, everyone.