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Intrinsic Value is all-important and is the only logical way to evaluate the relative attractiveness of investments and businesses.
Good day, and thank you for standing by. Welcome to the Cherry Hill Mortgage Investment Corporation First Quarter 2024 Earnings Conference Call. [Operator Instructions] Please be advised that today's conference is being recorded.
I would now like to hand the conference over to your speaker today, Peter Sceusa, Investor Relations. Please go ahead.
We'd like to thank you for joining us today for Cherry Hill Mortgage Investment Corporation's First Quarter 2024 Conference Call. In addition to this call, we have filed a press release that was distributed earlier this afternoon and posted to the Investor Relations section of our website at www.chmireit.com.
On today's call, management's prepared remarks and answers to your questions may contain forward-looking statements that are subject to risks and uncertainties that could cause actual results to differ from those discussed today. Examples of forward-looking statements include those related to interest income, financial guidance, IRRs, future expected cash flows as well as prepayment and recapture rates, delinquencies and non-GAAP financial measures such as earnings available for distribution, or EAD, and comprehensive income. Forward-looking statements represent management's current estimates, and Cherry Hill assumes no obligation to update any forward-looking statements in the future. We encourage listeners to review the more detailed discussions related to these forward-looking statements contained in the company's filings with the SEC and the definitions contained in the financial presentations available on the company's website.
Today's conference call is hosted by Jay Lown, President and CEO; Julian Evans, the Chief Investment Officer; and Michael Hutchby, the Chief Financial Officer.
Now I will turn the call over to Jay.
Thanks, Peter. And welcome to our first quarter 2024 earnings call.
On our fourth quarter call, we noted that towards the end of 2023, markets were expecting multiple rate cuts from the Fed in 2024, only to see that forecast evaporate over the first 4 months of 2024. As the first quarter progressed and inflation remained elevated, the Fed walked back considerably near the end of the quarter its prior rhetoric around rate cuts. Markets reacted significantly to any economic data believed to be important to the Fed's strategy, and the increased volatility impacted our sector during the quarter.
Early in the quarter, spreads widened as inflation remained sticky. However, as the quarter progressed, spreads tightened as the Fed reconfirmed its likelihood to ease monetary policy later in the year.
Our positioning with respect to MSRs and investing in higher coupon RMBS played a pivotal role in our favor, helping to offset the impact of the flattening yield curve.
As we look out towards the remainder of the year, we believe that the Fed will need to maintain its current posture longer than markets expect due to persistent inflationary data, along with strong employment numbers. We do expect the twist in the yield curve eventually and are positioned for shorter maturity rates to move lower, resulting in a positively sloped curve.
Given that the Fed is primarily driving market sentiment, we will continue to watch economic indicators intently and believe our overall strategy of pairing MSRs with Agency RMBS works well in the current environment.
For the first quarter, we generated GAAP net income applicable to common stockholders of $0.32 per diluted share, and we generated earnings available for distribution, or EAD, a non-GAAP financial measure, of $4 million or $0.13 per share.
EAD is just one factor we consider in setting our dividend policy. We also consider the existing market environment; portfolio return potential; our level of taxable income, including hedge gain impacts; and a degree of certainty regarding forward investment return economics. Thus, while EAD may continue to remain under our dividend level in the near term, we believe other factors are important when considering whether we can sustainably cover our dividend.
Book value per common share finished the quarter at $4.49, down modestly from December 31, as our portfolio positioning, particularly with respect to MSRs and higher coupon RMBS, helped offset the impact of the flattening yield curve.
On an NAV basis, which includes preferred stock in the calculation, NAV was down approximately 0.5% relative to December 31.
Financial leverage at the end of the quarter rose slightly to 4.5x as we continue to stay prudently levered given that volatile market dynamics persist.
We ended the quarter with $48 million of unrestricted cash on the balance sheet, maintaining a solid liquidity profile.
As we've discussed previously, while our financial leverage has stayed relatively low, our capital structure leverage consisting of our mix of common to preferred equity amplifies how changes in our NAV or total equity impacts our common book value per share.
During the quarter, we began to act on one of our top priorities of creating a more stable equity profile by repurchasing a portion of our Series B preferred shares. As of May 3, we have repurchased approximately $9.3 million of Series B preferred shares, and we expect that will continue in the days and months ahead.
The repurchase of Series B preferred shares benefits common shareholders by ultimately reducing the amount we pay for preferred dividends now that the Series B has transitioned to a floating rate as well as rightsizing our capital structure and putting it more in line with peers.
We will continue to work towards stabilizing our equity profile while remaining mindful of our balance sheet strength and our investment portfolio.
I did want to take a moment to share that recently, we announced that our Board of Directors established a special committee to explore strategic alternatives to maximize stockholder value. We do not intend to discuss on this quarterly earnings call or any subsequent call any information or developments relating to the special committee or its process until the evaluation of strategic alternatives has been completed or the special committee determines disclosure is appropriate or legally required.
Looking ahead, we continue to pay close attention to the ever evolving macro environment and further focus on risk management. We will continue to selectively deploy capital into additional Agency RMBS, which still presents a strong risk-adjusted return profile, and we'll continue to reduce the portion of preferred equity in our capital structure to provide greater stability of our equity profile for the ultimate benefit of common shareholders while not sacrificing our strong liquidity and leverage.
With that, I'll turn the call over to Julian, who will cover more details regarding our investment portfolio and its performance over the first quarter.
Thank you, Jay.
We have been positioned for a higher-for-longer environment for some time now. While the interest rate rally at the end of 2023 impacted our book value, we have held relatively firm in that position given the economic and inflationary data we were seeing that supported our thesis.
Throughout the first quarter, inflation remained elevated and, just as quickly as the Fed shifted its tone towards rate cuts, the recent data has compelled the Fed to begin dialing back from that aggressive language.
In the quarter, rates rose, spreads fluctuated and our positioning with respect to the MSR and higher coupon RMBS enabled us to preserve book value. We continue to watch how the Fed reacts to macro data as ongoing volatility requires us to pay significantly close attention to ensure that the portfolio is optimally positioned. We will further proactively adjust our portfolio as necessary as we move forward.
At quarter end, our MSR portfolio had a UPB of $19.6 billion and a market value of approximately $250 million. The MSR and related assets represented approximately 44% of our equity capital and approximately 28% of our investable assets, excluding cash at the end of the quarter.
Meanwhile, our RMBS portfolio accounted for approximately 41% of our equity capital. As a percentage of investable assets, the RMBS portfolio represented approximately 72%, excluding cash at year-end.
Prepayment speeds for our MSR and RMBS portfolios continue to remain relatively steady compared to the prior quarter given the elevated mortgage rate environment.
Our MSR portfolio's net CPR averaged approximately 3.9% for the first quarter, modestly down from 4.2% net CPR in the previous quarter. The portfolio's recapture rate remained consistent but low at approximately 1% as the incentive to refinance continues to be minimal. Moving forward, we continue to expect low recapture rates and a stable net CPR in at least the near term.
The RMBS portfolio's prepayment speeds remained low as expected driven by the combination of new asset purchases as well as the current higher mortgage rate environment continuing to compress CPR for the existing portfolio. As of today, the majority of the mortgage universe remains out of the money in terms of refinancing. We would expect prepays to remain low as long as interest rates remain at these levels.
For the quarter, the RMBS portfolio's weighted average 3-month CPR edged slightly higher to approximately 5.2% compared to approximately 4.9% in the fourth quarter. As of March 31, the RMBS portfolio, inclusive of TBA, stood at approximately $654 million, relatively flat compared to the previous quarter end. Quarter-over-quarter, we acquired additional RMBS coupon mortgages and increased some of our TBA hedges in the portfolio as we remain positioned to protect against the spread widening.
For the first quarter, our RMBS net interest spread was 3.42%. The reduction from the prior quarter was driven by a reduction in dollar roll income and higher repo costs due to higher repo balances.
As Jay mentioned, the portfolio's financial leverage stood at approximately 4.5x, and the 30-year securities position continues to represent 100% of the RMBS portfolio at quarter end.
Moving forward, we expect investment markets to remain volatile in the near term, with upcoming Fed decisions being driven by persistent inflation. In this volatile environment, we will proactively manage our portfolio through the volatility while continuing to shift our overall capital structure to add value for shareholders through improved performance and earnings.
I will now turn the call over to Mike for our first quarter financial discussion.
Thank you, Julian.
GAAP net income applicable to common stockholders for the first quarter was $9.7 million or $0.32 per weighted average diluted share outstanding during the quarter, while comprehensive income attributable to common stockholders, which includes the mark-to-market of our available-for-sale RMBS, was $3.2 million or $0.11 per weighted average diluted share.
Our earnings available for distribution attributable to common stockholders were $4 million or $0.13 per share. EAD is inclusive of approximately $400,000 or about $0.01 a share of expenses related to special committee work.
Our book value per common share as of March 31 was $4.49 compared to a book value of $4.53 at December 31, 2023.
We used a variety of derivative instruments to mitigate the effects of increases in interest rates on a portion of our future repurchase borrowings. At the end of the first quarter, we held interest rate swaps, TBAs and treasury futures, all of which had a combined notional amount of approximately $968 million. You can see more details with respect to our hedging strategy in our 10-Q as well as in our first quarter presentation.
For GAAP purposes, we have not elected to apply hedge accounting for our interest rate derivatives. And as a result, we record the change in estimated fair value as a component of the net gain or loss on interest rate derivatives.
Our operating expenses were $3.6 million for the quarter.
On March 14, 2024, the Board of Directors declared a dividend of $0.15 per common share for the first quarter of the year, which was paid in cash on April 30, 2024. We also declared a dividend of $0.5125 per share on our 8.2% Series A cumulative redeemable preferred stock and a dividend of $0.515625 on our 8.25% Series B fixed-to-floating rate cumulative redeemable preferred stock, both of which were paid on April 15, 2024.
At this time, we will open up the call for questions. Operator?
[Operator Instructions] Our first question will come from Mikhail Goberman from Citizens JMP.
Just wanted to get your thoughts on how you're seeing the servicing market as we head deeper into the sort of spring selling season from a bulk and flow perspective. And can we sort of expect UPB to continue to drift downward at the pace that it has been over the last few quarters?
Mikhail, it's Jay. I'll let Ray answer some of the question relative to what the market looks like because he's in the midst of it day-to-day. But broadly speaking, I think the biggest reason we've let it drift down is we saw a more compelling risk-return profile from the RMBS versus the MSR. And so we've deployed amortization of our excess capital into MBS for that reason relative to the potential returns on the MSRs given current pricing. But it's not because of a lack of interest in the product, it's just a function of getting the best return we can for shareholders in the near term.
With respect to volumes and the strength of the market, et cetera, I'll let Ray chime in on some of that.
Sure. I mean volumes have been relatively high still going into Q1 of this year. I mean, it's a little off from last year. But essentially, volumes remain pretty strong. To Jay's point, it's essentially just a relative value play between MBS and where we see MSRs today.
Got you. Is there any appetite for maybe driving leverage a little bit higher in order to protect the EAD and the dividend coverage?
It's definitely something we talk about. We don't have any current plans to dramatically take it up. But as we get closer to some sense of where the Fed is going and where the shape of the curve might end up towards the end of the year, I think it's possible that we could definitely consider that.
Got you. And if I can squeeze in one more, given the nice little mini bond rally, I'd say, of the recent days, any update on book value thus far this quarter?
I mean it wouldn't be a conference call if I didn't get that question. Mike?
That's a fair point. As of Friday, we estimate that our book value per share was down about 3% from 3/31, and that is before any common dividend accrual as the Board has not yet met to approve the second quarter dividend.
Best of luck going forward.
Thanks, too.
And our next question will come from Matt Howlett from B. Riley Securities.
You guys seem to own the playbook here on MBS spreads and interest rates. So I got to ask you, I think I heard you say you expect near-term volatility followed by, at some point, yield curve twist and steepening. I'd just love to hear the playbook, the CHMI playbook, cause you seem to have nailed it really the last year or maybe 2 years.
Matt, it's Julian. Look, I think when we look at the portfolio, we're trying to look at it over a longer time frame, not just maybe 1 quarter but perhaps 2 quarters. We are currently positioned for kind of a yield curve steeper in the portfolio. We are long on the front end and are short on the back end of the treasury curve at this point in time, whether that be through some type of a derivatives play in terms of futures or via kind of how we're positioned on the coupon stack. So we're playing it from both fronts.
We do believe that at some point in time, the Fed will shift. Powell, I think at the last meeting, was pretty adamant that he would like to cut rates at some point in time. He perceived that there will be a cut more so than a hike, but he's highly data dependent. And I think the data will play out in terms of how the curve will play out as well as how the next steps forward. We were asked if we would increase leverage. I think if we got some bit of certainty, as kind of Jay mentioned, or a little something that we would like to see that really affirms that this is going to be here but steeper over a longer time frame, we probably do bring up our leverage.
Yes. I mean, you guys have a lot of room here to take up the leverage. When I look at the RMBS side, you said you're up in coupon right now, mainly specified pools. Did I hear you correctly on what you're focused on?
We have a combination of specified pools as well as TBA. Some of the positioning has shifted. I would say, in terms of our specified pools, they're mainly in 5s and 5.5s. And in TBAs, we own long positions in 6s and 6.5s. We're kind of short on TBAs and the lower coupons.
And the servicing book is such a low coupon that they're so far out of the money, that kind of cash flow, even if we get some lower rates. So do I see that right? I mean it would take them just a massive rally in mortgage rate, right, to put it anywhere close to being refinanceable.
You have that right, Matt. I mean, that portfolio is performing like a rock star right now.
So Jay, I got to ask the question. I don't want to ask you any specifics about the special committee. But why now? I mean the company is so well positioned here for the next phase of the Fed. And you really got it well, the preferred is coming down, the capital structure is improving. Everything you said here, the earnings power looks terrific. Why appoint a special committee? Or why even look at one at this point given how well positioned the company is?
Well, Matt, broadly speaking, we're always looking to maximize shareholder value on any given day. I think from the perspective of the committee, you have to talk to them directly. But I can tell you that it's our job to evaluate what we can do in the best interest of shareholders on any given day and the path going forward. But as the press release suggested, there are multiple avenues that the Board might pursue. And some of those avenues result in something like an internalization. So I would think that the Board's got a lot to consider. They're taking their time. They're being diligent. And at the right time, I'm sure they'll feel compelled to share that with the markets.
Perhaps, I'll write them a letter. But look, I appreciate the good job you're doing. And by the way, you're getting that Series B. You're buying that below par, correct? I mean looking at it, you're taking some of that in below par?
That's correct. Yes.
Yes, that's right.
Great. Well, look, keep up the good work, and we're certainly supportive of what you're doing there, and we'll certainly voice our opinion to the special committee. Appreciate it.
Thanks, Matt.
And I am showing no further questions from our phone lines. I'd now like to turn the conference back over to Jay Lown for any closing remarks.
Thank you. Thanks for joining us on our first quarter 2024 earnings call. We look forward to updating you on our second quarter performance in a few months. Have a great evening.
This concludes today's conference call. Thank you for your participation.