Rithm Capital Corp.
Q1 2014 Earnings Call Transcript

Published: 14 May 2014

[Operator:]

Ladies and gentlemen thank you for standing by and welcome to the New Residential Investment Corp’s First Quarter 2014 Earnings Call. All lines have been placed on mute to prevent any background noise. After the speakers' remarks, there will be a question-and-answer session. (Operator Instructions). Thank you. I would now like to turn the call over to Sarah Watterson. You may begin.

[Sarah Watterson:]

Thank you, Victoria and good morning everyone. Welcome to New Residential's first quarter 2014 earnings call. With me today from management I have Michael Nierenberg, the CEO of New Residential; Susan Givens, the CFO of New Residential; and Jon Brown, the CAO of New Residential will join us for the question-and-answer portion of the call. Throughout the call, we're going to reference the earnings supplement that was just posted to the website this morning. If you haven’t already done so I would suggest that you download it now. And briefly, please let me remind you that statements made today maybe forward-looking statements. These statements by their nature are uncertain and may differ materially from actual results. We encourage you to read the forward-looking statements disclaimer in our supplement as well as the risk factors in New Residential’s 10-Q. I would also like to remind you that nothing on this call constitutes an offer to sell or a solicitation of an offer to purchase any securities. And the webcast and audiocast is copyrighted material of New Residential and cannot be duplicated, reproduced, or rebroadcasted without our consent. With that, let me turn it over to Michael.

[Michael Nierenberg:]

Thanks Sarah. Good morning everyone and thanks for joining us. 2014 is off to a terrific start and we look forward to sharing our results and thoughts with you. What we wanted to do is try to simplify our message a bit. So for those of you who are new to our company we’re a publicly traded mortgage REIT that invests across the $20 trillion housing market. Since our spend from NCT last May our performance has been great, generating an ROE of 25% plus. This quarter was particularly strong as we grew our core earnings to $0.16 a share from $0.14 in Q4 2013. In addition, we’ve paid out a $0.175 quarterly dividend for the past three quarters. In total including special dividends we’ve paid out $0.67 of dividends per share over the past year. Susan will provide more color on our financial highlights on the call. Going forward our mission is simple, we invest in assets that offer reliable mid-teens returns throughout various interest rate environments. Today our portfolio consists of the following, servicing related assets which includes excess MSRs and servicing advances, residential mortgage loans including performing and non-performing mortgage loans, reverse mortgage loans, non-agency mortgage securities and agency securities. And then finally we have one other portfolio which is our consumer portfolio which we’ll speak to a little bit later. If you can now flip to page three in this supplement. As you can see, day one strategy for new residential was to invest in Excess MSRs. The early investments have been great ones. We have also made one-off acquisitions where we believe we could generate outsized returns for our shareholders. We believe this strategy has led us to have a great investment portfolio which should do extremely well in all interest rate scenarios. If you look at our chronology, you can see how we have evolved over the past couple of years. If you start to the left beginning in 2011 while part of NCT, that’s when the company began making its first initial investments in Excess MSRs. And as you walk through, you can see we acquired non-agency mortgage securities; we acquired the consumer loan portfolio approximately a year ago; in Q4 we made some smaller investments in the non-performing loan business; and in late December, we made an announcement that we were acquiring approximately $6.3 billion of servicer advances. Now, if you could flip to page four of the supplement. NRZ today

[Susan Givens:]

Thanks Michael and good morning everyone. Turning to our summary financial results on page 12, we had a really strong quarter and a great start to the year. We reported core earnings of $42 million or $0.16 per share, that's up $0.02 per share from Q4 when we reported core earnings of $37 million or $0.14 per share. The $0.02 increase in core earnings was primarily driven by our investment in servicer advances which we made in December 2013. Q1 was the first quarter to reflect a full three month contribution from this investment. As of year-end, we had invested about $116 million of equity in servicer advances. During Q1, we invested an additional $82 million which brought our total equity invested in servicer advances to $198 million at quarter-end. Subsequent to the quarter, we invested an additional $86 million of equity. So, if you include that, to-date our total equity investment in servicer advances is about $284 million as Michael mentioned previously. We expect these pieces of the business to contribute even more to our core earnings as we move forward and as we start to benefit from the additional investments made in the first and second quarters. Moving on to GAAP income, for the first quarter, we generated GAAP income of $49 million or $0.19 per share. This was down versus Q4 2013 when we generated $81 million of GAAP income or $0.31 per share. The difference between the first quarter and Q4 was primarily attributable to gains we generated last quarter from the sale of non-agency securities. With respect to dividends, we pay out $44 million of common dividend in the first quarter or $0.175 per share. In total, including special dividends, we paid out $0.67 per share of dividends over the past year. And since the spin off in May of last year, we’ve generated a 25% annualized return on equity. Now turning to our balance sheet we ended the first quarter with approximately $141 million of cash. That number includes working capital associated with the servicer advances and if you exclude that cash, our balance sheet was about $65 million at quarter-end. Subsequent to quarter-end, we raised approximately $175 million of gross proceeds to the sale of about 29 million shares of our common stock. We’re using those proceeds to fund new investment activity including investments in excess MSRs, servicer advances and non-performing loans. On page 13 we’ve laid out an analysis to give you a little bit of insight into how we think about our balance sheet. On this page we’ve broken out our primary asset categories along with the associated asset values and GAAP book value as of 3/31. The majority of our assets are marked each quarter so we believe there are two standout assets that could be worth meaningfully more than where they are marked today. First the excess MSRs, this has been a great investment for us and this is really the core piece of our business. Our excess MSRs make up more than 50% of our book value today. To-date we have invested $701 million of total equity in excess MSRs and we’ve received $230 million of cash flows from our investments. The primary drivers of value are prepayment fees recapture rates and discount rates. In a rising interest environment we believe that all three of these metrics could change pretty substantially. We think prepayment fees could slow from 14% today to something in neighborhood of 8% to 10%. We think recapture rates to increase from 30% to something around 35%, and we think discount rates could tighten from 12% to 13% to something closer 8% to 9%. If any or all of those things happen our investment could be meaningfully more valuable than where we [have it marked] today. We also think there is meaningful upside in our consumer loans which appears on this page under the heading other investments. This has been a truly great investment for us we made this investment last April along with two other co-investors we purchased a portfolio of consumer loans of the UPBS 3.9 billion for 3 billion or about 76% of par. NRZ invested $241 million to purchase a 30% interest in the portfolio. In September of last year we sold a med piece and took out about $110 million of proceeds so our cash basis in the investment is about $130 million. We carry the investment on our books at $230 million and we believe that if we were to sell or refinance our entire position today the implied value of our investment could be well north of where we hold on our books. If you keep the rest of the balance sheet constant you will see that based on the assumptions I laid out our book value could increase from $5.04 per share today, that is something that could be potentially closer to $6 to $6.50 per share, so an increase of a $1 to $1.50. Obviously this is all pull through, but hopefully this provides a little color as to how we think about it. So to wrap up, we had a great start of the year and we are making great progress on multiple fronts and we look forward to updating you on our results in the second quarter. And with that, I will turn it over to the operator for Q&A.

[Operator:]

(Operator Instructions). Your first question comes from Bose George with KBW.

[Bose George:]

Hey, good morning. Just given the timing of some of the investments, is there a way to think about how much excess capital was due in the quarter?

[Susan Givens:]

It was I think last quarter we talked about we had kind of a $150 million of invested cash on our balance sheet, we are not providing a comparable metric this quarter. I think on we ended the quarter with like I said $65 million of cash on our balance sheet. So we obviously invested that at various points throughout the quarter, but I don’t think we are in a position to say we had a meaningful cash drag on the balance sheet like we talked about last quarter, does that answer to your question.

[Bose George:]

Next question then. Thank you. Just switching Question on the non-performing loan market. Can you just talk about the competition there, you know supply where that is trending versus last year et cetera?

[Michael Nierenberg:]

Sure. First of all the pipelines are huge, I mean it’s all the big money center banks are going to continue to sell lots and lots in non-performing loans. As you think the GSEs at some point will come out with some non-performing loan sales as well and then we coupled that with (inaudible) announcing recently that they are going to sell $5 billion of non-performing loans in I believe it’s early June. The amount of supply is and we think it’s going to continue to be there with a non-performing and reperforming loan market that’s north of $1 trillion, we think there will be tons of supply that are going to continue to come over the course of the next couple of years. So I would say that, prices have gone up a fair amount and to your question Bose that competition, there is a plenty of pools of money out there that are involved in the sector. I guess our feeling is one is we're not going to purchase every non-performing loan pool, because the investment returns in every non-performing loan pool won't meet our objectives. So what we think are going to kind of the mid teens to upper teens return. But while saying that, it is a competitive market, there will be plenty of supply, if you think about from a capital structure standpoint, if you are committing to as I pointed out roughly 75% leverage, or 70% leverage on some of these pools, if you took a $1 billion pool for example and said the prices give or take $0.70 and then you assume that you are going to need 30% in equity that's going to give you a $200 million in equity. So, I think there is plenty of supply around to satisfy the dollars that are out there, that are there in the sector, it's very competitive. However working closely with Nationstar and other services, we're very optimistic that we're going to be able to achieve those returns. Nationstar is making a very, very big push in the non-performing loan servicing sector and be in they are our partner, working close with them I think we're optimistic that we'll get there.

[Bose George:]

Okay. Great. And then just one more, on the Springleaf portfolio, you guys considering refinance there?

[Michael Nierenberg:]

Yes. I think -- we mentioned I think on the last call that we were looking at a refinance. Today, we do have the ability to refinance and work with that capital structure, there is three ways we are thinking about that, one is the refinance, two is obviously always looking to selling an asset and then three is some kind of other structured financing. And we would expect to do something this quarter on that.

[Bose George:]

Okay, great. Thanks.

[Operator:]

Your next question comes from the line of Paul Miller with FBR.

[Unidentified Analyst:]

Hi guys, this is [Jessica] for Paul. Just a quick question on the servicing advance pipeline that you noted in the presentation. Would you be looking at servicing advances at other servicers or just with Nationstar and then thinking about what they can acquire?

[Michael Nierenberg:]

I think it's both. I think it's going to be a little bit difficult, more difficult to do it with other servicers today, because there is not that -- I mean quite frankly, there is that many what I would call non-bank servicers that are equipped to actually acquire the types of MSR or servicing portfolios that we do. So the majority of that from a servicing advance standpoint will likely come from our relationship with Nationstar. And we feel like and as I pointed out earlier that Nationstar is in a great position now to acquire portfolios of servicing.

[Unidentified Analyst:]

Okay. And what Nationstar has the agency advances on its portfolio? And I remember when you made the servicing advance transaction initially you talked about getting the right approvals. Is that still something that's on the table or where is that now?

[Michael Nierenberg:]

It is, I think when you look at Nationstar today, I think their financing with their financing lines and the things that they have with the agencies, I think for now it's probably likely to remain there, but we're always looking at it.

[Unidentified Analyst:]

Okay. Thank you very much.

[Michael Nierenberg:]

Thank you.

[Operator:]

Next question comes from the line of Douglas Harter with Credit Suisse.

[Douglas Harter:]

Thanks. I was wondering if you could talk about how you would expect to fund the pipeline of excess servicing and servicer advances.

[Susan Givens:]

Sure. So obviously, we raised some capital. So we’re going to use some of that capital we raised to fund servicer advances and some of the Excess MSRs. Something else you’ve seen us kind of do in the past, you saw us do it last quarter is that we continuously evaluate our portfolio in particular our non-agency securities and you saw us sell some of the securities last quarter where we were able to book some pretty significant gains. And we’re going to continue to kind of look at that portfolio and see if things like that make sense. So I think we have a lot of options and a lot of things we can do with our existing balance sheet to generate some liquidity.

[Douglas Harter:]

Great. And then can you just remind where do you see the returns on the non-performing pools that are in the market right now?

[Michael Nierenberg:]

Again Doug, it depends on the type of pools, some are on an unlevered basis; some could be in the 5 to 7 range so with leverage you put your lower double-digit; some could be in the kind of upper single-digit. So I think the way that we’re targeting the sector is again we’re a 15, I mean the way that we look at our company is we target 15% plus returns, so we’re not going to buy every pool that’s out there. And with prices recently gravitating higher, again certain pools may not fit our returns. But we think it’s up in the 15% to 20% return.

[Douglas Harter:]

Great, thank you guys.

[Michael Nierenberg:]

Thanks.

[Operator:]

(Operator Instructions). Your next question comes from the line of Henry Coffey with Sterne Agee.

[Henry Coffey:]

Hi, good morning everyone. Just going back to some of the other questions; and I am just jumping to your balance sheet schedule. Can you talk a little bit about how the equity in the HSBC loans works? If you go in there and you’re able to refinance, maybe you can just kind of walk through how a refinance would take you from $231 million of book value to the number that you are suggesting here?

[Susan Givens:]

Yes sure. Henry what we are to do there is just kind of show sort of illustratively what either a refinance or a sale would look like. Realistically if we were to do a refi, it would just increase our cash. So that’s how to think about it. An out rate sale would obviously contribute to our cash as well, but that’s how we are kind of trying to illustrate it.

[Henry Coffey:]

And then looking at the income statement briefly, there was sort of a gain on the settlement and then I was just looking at some of the unraveling between -- unwinding between core and non-core. Can you talk about that a little bit?

[Susan Givens:]

Sure. So we sold some non-agencies this quarter, so the gain you are seeing is from that. It was less than last quarter, but we did a little bit of sales this quarter. And then I am not sure what you are…

[Henry Coffey:]

That’s the line item called gain on settlement.

[Susan Givens:]

Yes, that’s right.

[Henry Coffey:]

And then were there any other realized gains in there?

[Susan Givens:]

Note that it’s really just non-agency sales.

[Henry Coffey:]

Now some of your, on some of the mortgage REIT calls companies have talked about creating insurance subs and then actively entering negotiations with the home loan banks? Has that sort of surfaced as an option for NRZ yet or…

[Michael Nierenberg:]

It has and we are exploring and working on that as we speak. I will say Henry that there is a ton of liquidity the way that we see it in the lending markets from banks and non-bank type lenders to fund ample amounts of assets. However we are down the path with looking at that.

[Henry Coffey:]

What would be the advantage of their financing versus the five other options you probably have?

[Michael Nierenberg:]

It could be cost, it could be term where this -- once we got to go down the path with them and understand what assets turn that to finance other assets they won’t, but we are currently in discussion with them now.

[Henry Coffey:]

Great, thank you very much.

[Michael Nierenberg:]

Thanks Henry.

[Susan Givens:]

Thanks Henry.

[Operator:]

We do have a follow-up question from the line of Bose George with KBW.

[Bose George:]

Yes. I just wanted to ask about the potential of calling those securitizations, just curious about how the economic benefits work in terms of calling them and re-securitizing them?

[Michael Nierenberg:]

If you look at the -- those securities were issued call it in if you go back it’s probably ‘03 to ‘07ish. The coupons on those, on the underlying collateral were much higher than where other coupons are currently in the market. So it’s nice seasoned collateral that investors really they will pay up for. So what we -- the way that we think about it we are doing some securities in the portfolio that our market discounts to par. So that’s part one; part two is the absolute levels of execution or above par. So the way that we think about it, we have the rights to call over 800 deals, not every deal is economics as it depends upon the performance. But, so we’ll call them, we’ll do a re-securitization which we are currently doing now and then sell up all the parts and put the money.

[Bose George:]

And do you think this could be a reasonably material number where the economics work?

[Michael Nierenberg:]

It’s hard to say material, Henry, but it depends on the deal, but we look at every single deal that we have the option to do it on. Some are going to be more meaningful than others.

[Bose George:]

Okay, great. Thanks.

[Michael Nierenberg:]

All right.

[Operator:]

Your next question comes from Michael Klein with Citigroup.

[Michael Klein:]

Hi, just wondering update, do you have any interest in buying additional mortgage loans from Springleaf?

[Michael Nierenberg:]

We do and we continue to look at that and work with them on their mortgage loan portfolio. They have a bunch of stuff that's in that raw mortgage loans, as well as they have some stuff that's in securitization. So, we do have active dialog with them on that.

[Michael Klein:]

Okay. Thank you.

[Operator:]

At this time, I'd like to turn the call back over to Michael for any closing remarks.

[Michael Nierenberg:]

Thank you very much. Appreciate everybody calling in. And look forward to updating you throughout the quarter.

[Operator:]

Again, thank you for your participation. This concludes today's call. You may now disconnect.