PennyMac Mortgage Investment Trust
Q2 2018 Earnings Call Transcript

Published: 2 Aug 2018

[Operator:]

Good afternoon, and welcome to the second quarter 2018 earnings discussion for PennyMac Mortgage Investment Trust. The slides that accompany this discussion are available from PennyMac Mortgage Investment Trust’s website at www.pennymac-reit.com. Before we begin, please take a few moments to read the disclaimer on Slide 2 of the presentation. Thank you. Now I’d like to turn the discussion over to Stan Kurland, PMT’s Executive Chairman.

[Stan Kurland:]

Thank you, Chris. Let’s begin with Slide 3. For the second quarter, PMT reported net income attributable to common shareholders of $30.2 million on net investment income of $83 million, or $0.47 per diluted share, representing an annualized return on average common equity of 10%. PMT paid a dividend of $0.47 per share for the quarter. Book value per common share increased to $20.27 at quarter-end, from $20.24 at March 31, 2018. Our operating results reflect strong contributions from GSE credit risk transfer and Interest Rate Sensitive Strategies, partially offset by losses from distressed loan investments. PMT reports results through four segments

[David Spector:]

Thank you, Stan. Let’s turn next to Slide 8 for a look at our Correspondent Production highlights. Correspondent acquisitions by PMT in the second quarter totaled $15 billion in UPB, up 15% from the prior quarter and down 8% year-over-year. Total lock volume was $16.2 billion in UPB, up 20% from the prior quarter and down 11% year-over-year. Conventional conforming acquisitions, for which PennyMac Financial performed fulfillment services for PMT, totaled $5.4 billion in UPB in the second quarter, up 28% from the prior quarter and down 9% year-over-year. Seasonal increases in mortgage market originations contributed to higher quarter-over-quarter volumes for PMT. Our volume growth also reflects certain pricing adjustments to remain competitive with the other large mortgage aggregators, which aggressively pursued the conventional conforming market this quarter. The competitive market environment is reflected in Correspondent Production segment pretax income as a percentage of interest rate lock commitments, which was 7 basis points in the second quarter, a decrease from 15 basis points in the prior quarter. Purchase-money loans comprised 85% of total second quarter acquisitions, up from 77% in the prior quarter, positioning the business well for the forecasted growth in purchase-market origination volumes. Monthly production volumes remained strong in July. Total correspondent loan acquisitions were $5.7 billion in UPB, while interest rate lock commitments totaled $6.6 billion in UPB. Now let’s turn to Slide 9 and discuss PMT’s investments in GSE credit risk transfer. During the quarter, CRT eligible loan deliveries to Fannie Mae totaled $3.9 billion in UPB. Deliveries into PMT’s fourth CRT transaction totaled $2.3 billion and resulted in commitments to fund approximately $82 million of new CRT investments. We ended deliveries into this structure in May and expect final settlement in the third quarter. In addition, we are pleased to announce that we entered into our fifth CRT transaction with Fannie Mae and delivered $1.5 billion in UPB of loans subject to this agreement, resulting in a firm commitment to purchase $58 million of new CRT securities under this new REMIC structure. The REMIC structure for PMT’s CRT investment offers several significant structural enhancements including more favorable tax treatment of CRT income, closer alignment with the Fannie Mae CAS structure, which is expected to result in broader availability of financing options. And it also allows a greater percentage of PMT’s production to be eligible for investment in CRT. The performance of PMT’s CRT investments during the second quarter reflects the growth of the investment in continued strong credit markets. Total CRT investment income was $44 million during the quarter and the return on equity allocated to the investment was 39%. Excluding the impact of fair value changes, second quarter income contribution from CRT was $23 million, an increase from $19 million in the prior quarter. The performance of the underlying loans improved from the first quarter. 60 plus days delinquencies decreased to 0.29% at quarter-end, down from 0.55% at March 31, driven by the improving credit performance of loans in hurricane-impacted areas and a strong economy. Cumulative lifetime losses on our CRT investments increased slightly to $2.5 million at quarter-end on an outstanding unpaid principal balance of $32.9 billion. To put the strong performance of PMT’s CRT investments to-date into perspective, since inception, we have realized income of $116 million on our investments. Now let’s turn to Slide 10 and discuss our MSR and ESS investments. PMT’s organic MSR investments, resulting primarily from its correspondent production activity, increased to just over $1 billion at quarter-end, up from $957 million at March 31, driven by an increase in MSR values from higher mortgage rates and continued growth from our loan production activities. PMT’s excess servicing spread investments resulting from bulk, mini-bulk and flow MSR acquisitions by PennyMac Financial decreased slightly from $236 million at the end of the first quarter to $229 million at the end of the second quarter. This decrease was driven by the ongoing pay down of the loans underlying the ESS investment, partially offset by valuation gains resulting from higher mortgage rates and recapture income. PMT’s MSR portfolio totaled $78.4 billion in UPB at June 30, up from $75.3 billion at March 31. The UPB associated with ESS investments totaled $25.1 billion at June 30, down from $26.2 billion at the prior quarter-end. Now let’s turn to Slide 11 and discuss our progress in reducing PMT’s distressed loan investments through liquidations and sales. During the second quarter, we continued to make progress reducing the distressed loan portfolio and transitioning PMT’s capital into correspondent-generated opportunities in CRT and MSRs. At quarter-end, the total distressed loan portfolio totaled $619 million in UPB, down from $646 million in UPB at March 31. Performing loans in our distressed portfolio stood at $339 million in UPB, up 1% from the end of the prior quarter, while down 58% from a year ago. The quarterly increase resulted from additions to the portfolio from the reperformance of previously nonperforming loans which exceeded reductions to the portfolio from the nonperformance of previously performing loans. The nonperforming loan portfolio ended the quarter at $280 million in UPB, a 10% decline from the end of the prior quarter, and down 65% from June 30, 2017. These declines have been driven by previous bulk sales of the distressed loans and ongoing liquidation through special servicing activities. After quarter-end, we entered into an agreement to sell $99 million in UPB of performing loans from the distressed portfolio, which continues our strategy of expediting the transition of capital to CRT and MSR investments. Now I’d like to turn the discussion over to Andy Chang, PMT’s Chief Financial Officer, to review the second quarter’s results.

[Andy Chang:]

Thank you, David. Let’s turn to Slide 13 and discuss the second quarter’s income and return contributions by strategy. PMT’s investments in the second quarter generated an annualized return on common equity of 10%, net of all expenses and overhead. In total, Credit Sensitive Strategies contributed $32.7 million to pretax income, or an 18% annualized return on equity during the second quarter. Within the segment, CRT investments contributed pretax income of $43.7 million. As David discussed, these investments benefitted from continued strong markets for credit-related investments. Distressed loan investments contributed a loss of $11.4 million in the quarter and continued to underperform, which I will discuss in further detail on the next slide. Interest Rate Sensitive Strategies, which include the performance of our MSRs, ESS and Agency and non-Agency senior MBS positions and related interest rate hedges, together contributed $16.4 million of pretax income or a 9% annualized return on equity in the second quarter. Income from our MSR investments increased, due in part to a growing MSR portfolio. Income from MSRs and ESS also benefitted from valuation increases primarily as a result of lower projected prepayment activity, driven by the rise in interest rates during the quarter, partially offset by an increase in the realization of MSR cash flows. Conversely, the market value of our Agency MBS positions was adversely impacted by higher interest rates. While we show the income contribution for each of these interest rate sensitive strategies separately, they are managed together as the interest rate sensitivity of MSRs and ESS is inversely correlated to MBS and many of our interest rate hedges. Correspondent Production contributed $4.5 million in the second quarter, or an annualized return on equity of 18%. The results reflect the highly competitive environment for conventional conforming production. The contributions from PMT’s investment strategies were reduced by $11.3 million of Corporate expenses and $5.9 million of income tax expense. Now let’s turn to Slide 14 and discuss the performance of PMT’s distressed loan investments in greater detail. Net losses on nonperforming and performing loans totaled $4.7 million, compared to $10 million in the prior quarter. Valuation losses on the performing loans were $4.4 million while valuation losses on nonperforming loans were $400,000. The losses on distressed loans were primarily driven by a $5.8 million reduction in fair value due to an increase in investor yield requirements in the second quarter. Gross cash proceeds from the liquidation of mortgage loans and REO, before debt repayment and payment of related expenses totaled $42 million. For distressed loans and REO liquidated or sold during the quarter, $4.8 million in net valuation losses were recognized over the holding period of the assets, while $2.6 million of gains were realized at time of liquidation. And with that, I’ll turn the discussion back over to Stan for some closing remarks.

[Stan Kurland:]

Thank you, Andy. Our earnings this quarter reflect the ongoing work to transition our equity allocation more towards GSE credit risk transfer and organic investments in mortgage servicing rights generated by our Correspondent Production business. As we continue to redeploy capital resulting from the resolution of our distressed investments into CRT and MSRs, we expect to see higher returns for PMT. We believe investors are showing confidence in PMT’s return potential as reflected in the performance of our common shares this year. Lastly, we encourage investors with any questions to reach out to our Investor Relations team by email or phone. Thank you.

[Operator:]

This concludes PennyMac Mortgage Investment Trust’s second quarter earnings discussion. For any questions, please visit our website at www.pennymac-reit.com, or call our Investor Relations department at 818-224-7028. Thank you.