MGIC Investment's (MTG) CEO Patrick Sinks on Q1 2016 Results - Earnings Call Transcript

| About: MGIC Investment (MTG)

MGIC Investment Corporation (NYSE:MTG)

Q1 2016 Earnings Conference Call

April 19, 2016 10:00 AM ET

Executives

Mike Zimmerman - Senior Vice President, Investor Relations

Patrick Sinks - Chief Executive Officer

Tim Mattke - EVP and Chief Financial Officer

Stephen Mackey - EVP of Risk Management

Analysts

Mark DeVries - Barclays Capital

Eric Beardsley - Goldman Sachs

Bose George - Keefe, Bruyette & Woods

Jack Micenko - Susquehanna Financial Group

Phil Stefano - Deutsche Bank

Geoffrey Dunn - Dowling & Partners

Vivek Agrawal - Wells Fargo Securities, LLC

Doug Harter - Credit Suisse

Mackenzie Kelley - Zelman & Associates

Sean Dargan - Macquarie Research

Chris Gamaitoni - Autonomous Research

Amy DeBone - Compass Point Research

Patrick Kealey - FBR & Co

Matthew Howlett - UBS

Operator

Good day, ladies and gentlemen, and welcome to the MGIC Investment Corporation’s First Quarter Call. At this time, all participants are in a listen-only mode. Later we will conduct a question-and-answer session and instructions will follow at that time. [Operator Instructions] As a reminder, this conference is being recorded.

I would now like to introduce your host for today’s conference, Mike Zimmerman. Sir, you may begin.

Mike Zimmerman

Thanks, Terrance. Good morning, and thank you for joining us this morning and for your interest in MGIC Investment Corporation. Joining me on the call today to discuss the results for the first quarter of 2016 are CEO, Pat Sinks; Executive Vice President and CFO, Tim Mattke; and Executive Vice President of Risk Management, Stephen Mackey.

I want to remind all participants that our earnings release for this morning, which may be accessed on our website, which is located at mtg.mgic.com under Investor Information, includes additional information about the Company’s quarterly results that we will refer to during the call and includes certain non-GAAP financial measures. We have posted on our website a presentation that contains information pertaining to our primary risk in force and other information we think you will find valuable.

During the course of this call, we may make comments about our expectations of the future. Actual results could differ materially from those contained in these forward-looking statements. Additional information about those factors that could cause actual results to differ materially from those discussed on the call are contained in the Form 8-K that was filed earlier this morning.

If the Company makes any forward-looking statements, we are not undertaking any obligation to update those statements in the future in light of subsequent developments. Further, no interested parties should rely on the fact that such guidance or forward-looking statements are current at any time other than the time of this call or the issuance of the 8-K.

At this time, I’d like to turn the call over to Pat.

Patrick Sinks

Thanks, Mike, and good morning. For the quarter, net income was $69.2 million or $0.17 per diluted share. During the quarter we submitted our PMIER certification, we focused on ensuring a smooth implementation of our new premium rates.

Additionally, during the quarter, we repurchased a portion of our convertible debt to the lower interest cost and reduced potential dilution to our shareholders, we reestablished the dividend capability of MGIC and the writing company was returned to investment grade status by both Moody’s and S&P.

All in, this was another quarter that demonstrated the increasing positive influence as the new business written since 2009 is having on our financial results. As we mentioned in the press release, there are a number of items impacting the ability to easily compare the first quarter results of 2016 and first quarter results of 2015. In a few minutes, Tim will go through the financials in more detail, but I feel very good about the financial results and our capital position.

So with that as a backdrop, I am pleased to report that our insurance in force, the primary driver of our future revenues increased on a year-over-year basis by 5.4% ending at $175 million. This growth reflects the expanding purchase mortgage market, our market share and the hard work and dedication of my fellow co-workers, I previously alluded to the 2009 to 2015 books, they continue to generate low level of losses.

In addition, we continue to experience positive trends on the pre-2009 business relative to the number of new delinquent notices and declining delinquent inventory. The increasing size of our insurance in force, the run-off of the older books, solid housing market fundamentals such as increasing household formations to increased home sales and our current capital position put us in a great place to provide credit enhancement and low downpayment solutions to lenders, GSEs and borrowers now and in the future.

Our revised premium rates to both borrower paid and lender paid premium plans became effective in April. The premium rates we offer are competitively positioned in the marketplace and are structured to generate comparable risk-adjusted returns across the spectrum of homes we insure.

On new business written, we expect that the life time after-tax returns after considering re-insurance will be in the mid-teens. While we expect to see some of the lower FICO score business shift away from us, we still expect to retain some of that business as lenders value the customer service we provide and continue to find efficient and cost-effective to use private mortgage insurers versus FHA.

Additionally, the GSEs, the reintroduction of the 97% loan to value program, now with our 5% new business they keep some of the low FICO business with private mortgage insurers, because it will allow borrowers with the private MIs to enjoy faster equity build-up and have the ability to cancel MI coverage as compared to FHA alternatives.

For the quarter we grew $8.3 billion of new business, which is down from last year as a result of fewer refinanced transactions along with some impact from the FHA price changes that took effect in early 2015 and possibly by – as well. We estimate that our market share within the industry is in the 19% to 20% range.

While interest rates are staying low and we have seen refinance transactions increase somewhat, which put some pressure on persistency, the overall origination market is expected to continue to shift towards more purchase transactions and fewer refinances. This is a net positive for our company and our industry.

We estimate that our industry’s market share is approximately three to four times higher for purchased loans compared to refinances and historically MGIC tends to be at the higher end of that range.

In the quarter, approximately 82% of the new business was written for purchased loans versus 71% in the first quarter of 2015. That all said, I would reiterate the guidance we provided in January, which is that for 2016 versus 2015 we expect modest reduction in new business written and that the insurance in force will modestly increase.

Turning to our industry’s opportunity to further reduce the risk borne by the GSEs and outgoing taxpayers we believe the private mortgage insurers can insure risky for even get to the GSEs and a deeper coverage for front-end reassuring would be the way to readily implement this.

We have many supporters who agree with this approach and we have continued discussions with the GSEs and FHFAs on these matters both at the trade association and individual company buyers. We continue to believe that the next logical step is through the FHFA to conduct the pilot program with the MIs and lenders to validate the current sets and we are working towards that goal.

Tim will now go through the financial details for the quarter.

Tim Mattke

Thanks, Pat. In March of this year we reached another important milestone when we filed our certification with the GSEs that MGIC was in compliance with our financial requirements of PMIERs as of December 31, 2015. As of the end of the first quarter, MGIC’s available assets totaled approximately $4.8 billion and based upon our interpretation of the financial requirements the minimal required assets are $4.3 billion.

For the quarter, we earned $69.2 million of net income compared to $133.1 million for the same period last year. This is the large decline on a year-over-year basis, but as we pointed out in the press release, there are number items that need to be considered when comparing periods.

The biggest change on a year-over-year basis is that as a result of the reversal of the deferred tax asset valuation allowance we recorded provision for taxes. For the quarter, we reported approximately $35 million of tax provision versus just $3 million in the first quarter of last year.

Second, last year we opportunistically realized approximately $26 million of investment gains versus only $3 million of gains this year. Next is losses incurred and the impact of positive reserve developments.

As reported on the income statement, incurred losses were higher year-over-year due primarily to less positive developments. In the first quarter of 2015, there was positive developments of $22 million on our primary loss reserves compared to positive developments of approximately $5 million on the first quarter of 2016.

As to the positive development, losses incurred on new notices were lower on a year-over-year basis and that was primarily a result of fewer new delinquency notices received.

Finally, during the quarter, the holding company purchased $138 million of par value of the 2017 5% convertible senior notes and MGIC purchased $133 million of par value of the 2063 9% convertible junior debentures. As a result, we recorded a pre-tax loss of $13.4 million on the income statement.

The transactions reduced potentially fully diluted shares by $20.1 million and lowered our consolidated annual interest expense as the annual interest expense on the repurchased debt was nearly $90 million.

So overall, when you consider these items, we would see the first quarter’s results favorably when compared to the first quarter of 2015.

Circling back to losses incurred, through the quarter we received approximately 11% fewer delinquency notices than we did in the first quarter of 2015 and 9% fewer than in the fourth quarter of 2015.

Reflecting the current economic environment, the new notices received are estimated to have a claim rate of approximately 12% which due to seasonal influences was down slightly for the fourth quarter, but about same as the first quarter of 2015.

In regards to projecting the future claim rates, as we have previously discussed, historically we think of a 10% claim rate as the long-term average. We are currently in the 12% to 13% range. While we do expect that we will ultimately return to the 10% level, the pace of that is difficult to project given the unique performance of the pre-2009 months.

Importantly, we continue to expect fewer notices in 2016 than 2015, which is material contributor to the level of losses incurred each quarter and we do expect that 2009 and forward books to generate materially fewer life time delinquency notices than the pre-2009 life time books did.

As I just mentioned, the pre-2009 legacy books continued to dominate the new notice activity and they generated approximately 90% of the delinquent notices received during the quarter while those books now comprise just over 35% of the risk in force. We expect that the pre-2009 books will continue to be the main contributor through notice activities for the foreseeable future.

The delinquent inventory was down 23% from last year and down 11% sequentially. In addition to seasonal influences, the sequential decline also reflects our processing previously held recessions that were involved in the settlement and the removal of 732 loans that were included in the non-performing loan sales that was completed by one of our larger insurance counterparties.

Neither of these transactions had a material impact on our financial results during the quarter. We expect to see the remaining inventory to continue to decline due to eventual resolution of older delinquencies combined with the lower level of notices being received.

The number of claims received in the quarter also declined, down 33% in the same period last year and down approximately 8% sequentially. Net paid claims for the first quarter were $222 million, including $47 million that was associated with claims paying practice settlement and the non-performing loan sale I just mentioned. Primary pay claims were $166 million, down 23% from the same period last year.

The calculated weighted average effective premium yield for the quarter declined from the fourth quarter level of 52 basis points to approximately 51 basis points. As a reminder, last quarter we said that we expected the effective yield to be 2 to 3 basis points lower in 2016 than the 52 basis points reported in the fourth quarter.

This is primarily the result of increases in the amount of insurance in force covered by reinsurance and as expected losses are ceded to the reinsurance, our profit commission has reduced while net losses incurred on the income statements increased.

The net cost of reinsurance during the quarter came in as expected at approximately $11.5 million. At quarter end, cash and investments totaled $4.8 billion including $265 million of cash and investments at the holding company. The investment portfolio had a mix of 74% taxable and 26% tax exempt securities, a pretax yield of 2.5% and a duration of 4.7 years.

As we have previously disclosed, we have been having discussions with the Wisconsin OCI regarding MGIC’s ability to pay quarterly dividends to the holding company. I am pleased to report that the OCI approved a $60 million dividend that was paid by MGIC to the holding company earlier this month. Our expectation is that we would receive similar size dividends on a quarterly basis.

Each dividend will be considered extraordinary versus regular and therefore requires OCI approval. The holding company interest payments on its outstanding debt is approximately $55 million, of which approximately $12 million is paid to MGIC. Regarding the overall capital structure in the leverage of the holding company, we continue to analyze or willing to consider options that lower the leverage ratio, reduced interest expense or minimized dilution in order to add long-term value to shareholders.

With that, let me turn it back to Pat.

Patrick Sinks

Thanks, Tim. Before moving to questions, let me give a quick update on the regulatory and political fronts. To review and update our state capital standards of the NAIC, which the Wisconsin Insurance Regulators meeting continues to move forward, although we are not aware of the timeframe or implementation.

We still do not expect to revise the capital standards to be more restrictive than the financial requirements of the few months. While no real legislative progress has been made on overall housing policy in Washington, we continue to be actively engaged in these discussions to be sure that we have a seat the table.

I continue to believe that the current market framework is what we will be operating in for a considerable period of time. Regarding the FHA, while we cannot say definitively that there will not be any further price reductions based on public comments and actions to-date by FHA’s officials, we are not aware of any changes that are being planned at this time.

In closing, we continue to make great progress. We have net income of $69.2 million, wrote $8.3 billion of high quality business, the insurance in force portfolio grew, the level of new delinquency notices and delinquent inventory continue to decline, MGIC’s capital position and our market share when our industry is strong and we maintain our traditionally low expense ratio.

We also took advantage of our financial position through reduced potential dilution to shareholders and lowered our interest expense through the debt repurchases and resumed paying dividends out of MGIC to the holding company and of course MGIC is now back to be in investment grade.

I see lots of opportunity for MGIC in the coming years. I firmly believe that there is a greater role for us to play in providing increased access to credit for consumers and reducing GSE credit risk while generating good returns for our shareholders and we are committed to pursuing those opportunities.

With that operator, let’s take questions.

Question-and-Answer Session

Operator

[Operator Instructions] Our first question comes from Mark DeVries. Your line is open.

Mark DeVries

Yes, thanks. If you had an opportunity to assess you had how many loans you have that might be eligible for the FHFA’s new principal forgiveness program?

Stephen Mackey

Yes, this is Steve Mackey. We’ve cited that to be approximately 3000 loans at this point.

Patrick Sinks

Mark, I would also add to that. One of the things that is hard about that, we can run the mark to market LTV, make new assumptions there, so what we don’t know is the borrower income and the streamlined role of sales require as ETA they gets below a certain threshold. So, there is potential there but we don’t see it being very significant.

Mark DeVries

So you are saying, there is potential, sorry, and is that 3000 number, is that pretty firm or could it be higher or lower depending on the income information?

Mike Zimmerman

Yes, I mean, it’s our best guess using mark-to-market and LTV information. This is Mike at the MSA level. Keep in mind, 20 plus percent of our notices are non-GSE and then when you factor in that, that it make – try to make some estimates as far as the rear edge goes, that’s kind of our best guess before applying other rules that our borrowers think.

Mark DeVries

Okay. By considering all the eligible borrowers have to be, those three months past due, but also such a high LTV that presumably these would be seriously delinquent borrowers. Is it not safe to assume that for every cure that you get out of that population, there is probably somewhere in the order of $40,000 benefit to your reserve right, because it’s the average claims of that the 49, 50, your claims rate assumption on your loans and that the stock it is kind of in the 85% range. Are my numbers close to correct there?

Stephen Mackey

I think you are thinking about at the right way that if you are talking about the loans and the how farther delinquent and obviously longer they are delinquent, the higher probability to go to claim. So we wouldn’t have the – for example, the 12% claim rate on those because they are not due notices and that they conserve the severity. So I think you are thinking about at the right way. As Mike said, I don’t think at this point we think it’s going to be a big benefit to us, but I think we’d acknowledge that there could be potential benefit to us from the program.

Mark DeVries

Sure. But even if you take the 3000 loan number, which is clearly kind of low relative to what’s implied by the addressable pool that they’ve outlined and the benefit of that or are you are still talking about a potential $100 million plus benefit to the reserve? Am I thinking about that correct?

Mike Zimmerman

Mark, this is Mike. I mean what best we can do is tell you that based on that high level information that we’ve got, running at the MSA level price appreciation and you really got to get to the neighborhood level and they are really not reliable data to forecast mark-to-market LTVs at that street level. We can’t get to anymore specifics on that. We are not going to endorse the numbers that you published or talking about here now. We do think that there is going to be some incremental benefit from the program, but we got to wait and see what’s out there and see how it plays out before we could see anymore definitive than making these very high level estimates.

Mark DeVries

Okay, fair enough. But my next question, my concern is, from the math we do, just ignoring this whole FHFA principal forgiveness issue, just looking at your existing inventory of delinquent loans, that you could be anywhere between $1 million to $200 million overreserved just based on the current run rate on your claims right at the – of the existing pool. And yet there is a $5 million claim benefit in the quarter. And a loss ratio that is up year-over-year at 38% and way above the single-digit loss ratios that the two-thirds of your book is running at. So my question is, when can we expect to see more of the reserves kind of bleed through towards the benefit and when should we expect the blended loss ratios start to look more like the loss ratio we see on most of the business that you have on your book now?

Tim Mattke

This is Tim speaking. I think as far as the reserve developments, we sort of set the reserves based on our best estimate this point. We can’t predict future development positive or negative. We wait to see the trend to continue to develop and take those as they do that. As far as when the loss ratio continue to decline, we sort of mentioned in the prepared remarks, the majority of our notices are coming from the 2008 prior books that’s creating the tension of keeping the loss ratio higher. So that will take some time and we continue to believe that our new notices will come from those books which have a higher loss ratio on them than the newer books that we said are performing extraordinarily well and have very low loss ratios.

Mark DeVries

Okay, sorry – just one other follow-up. I guess, what I trying to understand is, what did you not see in this quarter that you saw in 1Q 2015 around development? I mean, you continue to have – in fact, you are on a sequential quarter basis, your delinquent or your new notices declined more than they did last year, right, as a percentage basis. You had very good claims rate across all buckets including your 12 or more months past due. But, what do you need to see to reflect more positive development going forward?

Tim Mattke

Well, on the new notices, we are obviously reflecting that based upon the talents as far as the number of them, how they all performed, we think it’s pretty close to where we’ve been in the last few quarters against seasonally adjusted. As far as the – I guess, the older notices that you allude to, we continue to look at the information over the most recent quarters to see if there is the same sort of continued improvement that haven’t seen enough to leaders to believe that we should lower the reserves on those items yet.

Mark DeVries

Okay, thanks.

Operator

Our next question comes from Eric Beardsley. Your line is open.

Eric Beardsley

Hi, thank you. I guess just as a follow-up to that last question. I mean, I guess, is there any way to think about, I guess what you need to see whether Q ratio standpoint or for those low rates to claim to have more of that development and I guess the Q ratio being a 114% this quarter. I mean, is there a certain threshold to see more of a even – more of a year-over-year improvement?

Tim Mattke

No specific threshold on that, but as you pointed out, we do focus on the cure activity, in particular and that relation to what’s being paid on certain buckets and when we feel like we have a trend that we can act upon. We do and we require to update sort of azimuth based upon those.

Eric Beardsley

Got it. And then, just on the premium rate guidance for the two to three basis points lower in 2016. How should we think about the pace of that over the year? Is that relatively steady decline?

Tim Mattke

I would say, relatively steady for the most part. The biggest thing the variable on that quite frankly is they can move it more quickly as the losses ceded. As we talked before as the losses under the quota share increased which we thought they would increase a little bit and they did a little bit this quarter that takes away from the profit commission and lowers our average basis points. So that’s what can move it the most. But that’s just a –that’s no bottom-line impact. That’s just a swap between losses incurred and the premium line.

Mike Zimmerman

This is Mike. Of that, we have to remind you that, all the listeners that as with this time up for the last several quarters, as the older books the pre-2009 books have higher premium rates those run down that’s going to influence it as well. The ten year resets for premium and there is another – other items in addition to the reinsurance that Tim talked about that that will continue to flip down, that’s some downward pressure.

Eric Beardsley

Got it. And then, I guess, just if we were to think about the persistency trends over the rest of the year, obviously there was more elevated Refi in the first quarter. Are you expecting to stay around this level? Or is this something that we should start to see tick up?

Mike Zimmerman

Well, this is Mike again. You are right. The Refis are going to be – I mean, they are up sequentially, but there is still lower year-over-year, so it’s that annual persistency, I think, plus or minus this area to be right in this area. Yes. And kind of it, also as a reminder, we said, maybe not in the last call, but in several calls prior to that, we really don’t anticipate the portfolio level getting above the mid-80s or 85 we have said historically been at the highest watermark there. So, I think you are right in the right zone, plus or minus a point or so.

Eric Beardsley

Great, thank you.

Operator

Our next question comes from Bose George. Your line is open.

Bose George

Hey guys. Just switching over to capital, you noted that you’d like to or you expect to have a similar dividend up to the hold co, going forward. Just curious, if that could increase over time, just given that you seem to have a fair amount of significant excess capital at the insurance company at least just based on what you need for PMIERs?

Tim Mattke

This is Tim. I mean, our expectation is that, we’d have the steady dividend that this rate we hope to pay will increase, but I wouldn’t expect them to increase this year. It’s part of the dialogue that we continue to have with our regulators, the OCI and obviously as a result continue to be favorable, I think that adds some more ability to have more dialogue around that. So I’d say for the foreseeable future, I’d assume it at this level, but I think it’s the right way to think about it over time that it could increase based upon the results to continue to do well.

Bose George

Okay, great. Thanks, and then, just switching over to your market share, you had mentioned in the 19% to 20% range. Did you see any change in that over the last couple of quarters as it seems like some competitors rolled out their rate cards little earlier or our market share is do you think fairly stable in the last couple of quarters?

Patrick Sinks

This is Pat. I think there was a little bit of an adjustment just based on timing. In other words, some competitors rolled the market sooner than we were. So if you were to look at it individual month, perhaps our market share dropped, but as a matter of general course, general trend, we didn’t see any significant changes. That’s why we still think we are in the 19% to 20% range.

Bose George

Okay, great. Thanks a lot.

Operator

Our next question comes from Jack Micenko. Your line is open.

Jack Micenko

Hi, good morning. Tim, I wanted to go back and get some clarity on something you said I think in the prepared comments. You had talked about a 13% claim rate and I thought that’s kind of where we felt like we were headed for 2016 and you kind of threw a 12 in there. So I am trying to figure out is 12 to new 13 is – are you signaling that maybe trends are better in the first quarter than in the 13 you had thought but you are there. I mean, how do we interpret those comments?

Tim Mattke

So, Jack it really has to do with the seasonality. The first quarter historically has had a lower claim rate on new notices than the remainder of the year based on sort of the composition of notices that come in at the end of the year going into the first quarter, especially, January and February. So, all things being equal, we’d expect that the first quarter claim rate to be slightly better than the run rate for the rest of the year. So, while we said the new notices came on at 12% this quarter, our expectation were even if things were still sort of where they are now that the claim rate would probably back up closer to 13% in Q2.

Jack Micenko

Okay, that makes sense. And then I noticed in the release, your singles business remained flat as a percentage of what it was in the fourth quarter and I guess I would have thought with the steeper pricing there, that business would have fallen off. So I guess, are single buyers less price sensitive? Is that some residual refi that came out of some of the rate move in the fourth quarter or is it just maybe a competitive dynamic you are trying to figure out why that number was higher than we thought it would have been?

Mike Zimmerman

I mean, this is Mike, with the price changes that didn’t take effect until this month that we were still really operating with the older pricing. So there really wasn’t much change in behavior from a customer basis relative to singles.

Jack Micenko

Okay, and then the premiums, the guidance is two to three, I mean, if singles stayed at this level, I mean, would that change the premium guidance outlook at all?

Mike Zimmerman

Not single really, I got to think that the main point on the guidance on the premium the two to three basis points was more on loans covered by the reinsurance and the potential for there is more seasonal losses that would bring on the profit commission to bring down the premium line, but still net income being the same.

Jack Micenko

Okay, thank you.

Mike Zimmerman

Sure.

Operator

Our next question comes from Phil Stefano. Your line is open.

Phil Stefano

Yes, thanks and good morning, and I was hoping to revisit the capital management thoughts and with the dividends coming up to the holding company, I guess, is there any way that we could be thinking about strategically where this capital is growing – capital base is going to be applied to or how we can think about that moving forward?

Tim Mattke

Yes, I mean, I think, obviously, the thing that we focused on is that we have access at the writing company is trying to get some of that up to the holding company that gives us some more flexibility. Obviously, we have some convertible debt that’s out there at the 2017 for the most part we have cash at the holding company to handle the maturity of those at this point. But obviously, we did some things this quarter was repurchase of the 2063s when we thought the price is attractive by using writing company cash. We could use holding company for that standpoint and obviously we got the 2020 convertibles that are out there that we still look at to see if there is anything that’s economic there. And historically, we have returned capital to shareholders, but we’ve got a few convertible issues that we probably are working through before that happens.

Phil Stefano

No, no, that’s great. Thanks, I appreciate it.

Tim Mattke

Sure.

Operator

Our next question comes from Geoffrey Dunn. Your line is open.

Geoffrey Dunn

Thank you. Good morning. The first question on pricing, and I think the comments theme has been fine pricing has settled down in early April, but what’s the risk of additional competition from here. Magic put out a good card earlier in the year then had to revise as you saw the other competitive pressures. How are you feeling about the BPMI environment for pricing on a go-forward basis and what conviction do you have that companies will actually stick to their cards and we won’t see continued erosion in the returns.

Stephen Mackey

Yes, this is Steve Mackey. We think in BPMI’s space things have stabilized leads a bit as everybody publish their cards and more or less in line. I think the true test will be as it comes through the quarter and how people are interacting, or our competitors are interacting with customers and how that evolves. But we think for the time being it’s stabilized, but we are monitoring very closely.

Geoffrey Dunn

Okay. And then, Tim, on the premium rates this quarter, if you strip out the noise on the reinsurance, you still had about a point and a half compression year-over-year and sequentially. What is it incrementally that hit the quarter? Are we – is it the ten year reset having an incremental impact versus the 15 year? Or what other factors stepped up more materially in the first quarter that caused the decline before we think about the reinsurance impact?

Tim Mattke

Yes, in absence to ask the reinsurance, Geoff, the items you mentioned had an impact, the non-performing loans that we did had a little bit of impact as well. So I’d say between those three items, probably no one is significantly larger than the other. Those were sort of the main contributors to the decline.

Geoffrey Dunn

Okay. And then the last question, in terms of – it sounds like basically you are looking for instance the flat year-over-year, actually maybe kind of little higher than we how calculate it on the 15 year. What are the factors that can clean out that back 2008 book? Are we really looking at home price appreciation giving you a chance to try to cure some of that out? Is it purely mix? What are some of the macro or magic specific factors we can try to anticipate in more confidence and the pace that we model?

Tim Mattke

And Geoff, you are talking about the – not necessarily the delinquency, the long delinquent, you are talking about just the book in general and how many that were coming to – in new notice inventory?

Geoffrey Dunn

Right, I mean, the challenge here is we know, what your loss ratio is going down, it’s all about the pace. So, to me, it looks like, there were some improvement on the year-over-year, as cure rates on the mid and late-stage buckets. Maybe you need more trend there to be confident to adjust for it or it doesn’t sound like you are thinking that way for the year. So what are the other factors we can look at in your numbers to gain some conviction on the pace of improvement on the incidence?

Tim Mattke

I think you are looking at the right information and you said I think we need to feel confident than have conviction that is continuing to improve as far as when you start talk about the claim rate on those new notices. The actual count of the new notices coming in the door as we said continues to decline and that’s obviously a major factor. We don’t see they are being a big cliff or those falling off. We see they are being a steady decline that we’ve been seeing for the last few years. Then again, getting back to the claim rate on the new notices, we need to have the conviction that that is continuing to improve and we haven’t seen it based on what we’ve been looking at – to name a few that we – I guess, we’d like to take that down.

Geoffrey Dunn

Okay, all right. Thanks.

Tim Mattke

Sure.

Operator

Our next question comes from Vivek Agrawal. Your line is open.

Vivek Agrawal

Good morning. Thanks. I was just curious on your thoughts as we are hearing a potential rising credit and auto loans. But are you seeing any spillover effect in your books given the increasing exposure to lower FICO borrowers?

Stephen Mackey

Yes, this is Steve Mackey. No, we are not. The credit box for mortgages has been very tight for a number of years and as a result, we are continuing to experience very strong credit performance and the factors that we are continuing to monitor on the economy as far as home prices and employments are stable except for a few spots that we are closely monitoring in Texas. So, we don’t see any spillover into mortgage or into our books at this point.

Vivek Agrawal

And how is the Texas part that you just mentioned sort of materializing at this point?

Stephen Mackey

Yes, so far it’s remaining pretty stable. We continue to monitor all of those markets very closely. The whole state as a matter of fact, both in actual performance, low rates and then projected home prices and employment and the outlook and the actual performance continues to be relatively stable. So, we are cautiously optimistic, but closely monitoring that area.

Vivek Agrawal

Thanks. And then, Tim, can you give us some more color on the use of the FHLB?

Tim Mattke

Yes, I mean, we use the Federal Home Loan Bank as a mechanism to repurchase some of the 2063, the 9% debt as the writing company effectively trying to trade the 1.9% interest rates that we are paying at the Federal Home Loan Bank line for the 9% that we are paying externally. As far as the – if the question is what capacity do we have to do additional, I would say that we’ve done what we feel we are comfortable at this point. So I wouldn’t anticipate doing more at the writing company as far as more it draws for repurchases. But we think it’s a very good mechanism for us for what we use it for as well as for other purposes including liquidity at the writing company.

Vivek Agrawal

Okay, thanks, that was helpful.

Tim Mattke

Sure.

Operator

Our next question comes from Doug Harter. Your line is open.

Doug Harter

Hi, given the excess capital you have at the writing company, can you talk about your plans for the amount of reinsurance you want to use going forward?

Tim Mattke

Sure, I think, it’s something that we are focuses on. I think it’s one of the reasons quite frankly why we like the reinsurance is the ability to hopefully scale it. If you recall our current reinsurance agreement, we have the ability to early terminate at the end of 2018 if we feel like we have too much of an excess at that point. But at the same point we view it as a very low single-digit, mid single-digit cost of capital for us that is accretive to our returns on the new business. And so like that relationship there. So I think as we look forward, it’s something, as we said before that we are going to consider strongly in our capital positioning because of the flexibility provides us and from a cost to capital perspective find it, it is something that is very interesting at this point of cycle.

Doug Harter

And just, when you say early terminate, is that a kind of an all or none or could you early terminate, I mean, a portion of it to sort of size that to the amount of excess capital that you would have in 2018?

Tim Mattke

Well, contractually, it’s all are non, but what I would say is, one of the things we also like about the reinsurance partnerships that we have is that, there can be a dialogue there, the current agreement we’ve had is on second or third iteration of changes we’ve had to make, and we’ve got a very good panel of reinsurers on there that we have good dialogue with. So, if we needed to scale it as opposed to fully turn it off or keep it on, hopefully we could have those discussion. But contractually, it’s an all are non in that point.

Doug Harter

Got it. Makes sense, thank you.

Tim Mattke

Sure.

Operator

Our next question comes from Mackenzie Kelley. Your line is open.

Mackenzie Kelley

Thanks, good morning. On operating expenses, can you just kind of elaborate on what drove this sequential increase in the quarter? And how we should be thinking about the run rate through the remainder of the year? Is it going to be similar to what we saw last year where we expect it to kind of moderate following the initial 1Q pickup?

Tim Mattke

Yes, I think, as we alluded to a little bit on the last call, we’d expect that last year is probably a low point from a nominal dollar standpoint than we guided upward probably somewhere up to two points on the expense ratio. Obviously the expense ratio came in higher this quarter than, I think, on average last year, we are 14.9 in expense ratio, this quarter we’re 16.9. I would say, first quarter, you are right, normally it’s a little bit higher although based upon sort of the trajectory I think on expense ratio basis, in this ballpark and probably the right way to think of it going forward, at least for the foreseeable future.

Mackenzie Kelley

Okay, got it. And then just going back to the capital management, can you just give us some framework in terms of, as the capital starts to build up at the hold co, roughly how much cash would you want to just have at the hold co as a buffer that wouldn’t be used for servicing your annual interest expense and then being opportunistic with the balance sheet, and then just lastly, just when did the dividend from the hold co become regular versus special?

Tim Mattke

Are you talking on the dividend? The dividend is coming from the writing company right now are special as opposed to regular dividend. The main constraint we have on there right now is because of our ability to continue to reserve. The dividend calculation is the impacted by that. So I would anticipate for the foreseeable future that they will be special dividends coming from the writing company and then as far as the target of cash at the holding company, it’s something we continue to talk about internally and with the Board of Directors as far as how much cash we want to have on hand there. But as you mentioned, it’d be nice to have some dry powder there to be opportunistic, but that’s something that we continue to have dialogue about.

Mackenzie Kelley

Got it. Thank you.

Tim Mattke

Welcome.

Operator

Our next question comes from Sean Dargan. Your line is open.

Sean Dargan

Thanks, good morning. As you look out, at what point do you think the majority of your new notices will no longer be coming from the 2009 bucket, the pre-2009 budget?

Mike Zimmerman

Sean, this is Mike. I mean, I think that’s the question both here and out there we are all trying to seek, but the performance, those – pre-2009 books, that should be 2005 through 2008 came through, obviously a – once in a generate –multi-generation experience relative to the depth of the house price depreciation, the extraordinary efforts relative to loss mitigation, all the, signing issues, et cetera along the way. So, I think, as we said in the prepared remarks, that’s what’s making it difficult that kind of looking back to when do we get back to the historic clay break and still 80s plus percent of the notices we are getting from there are VP delinquencies. So, I know the fact right insight on there, but just reiterating why it’s difficult to get there was that we can keep monitoring that through price appreciation could help. Steve, do you want to add something?

Stephen Mackey

Yes, this is Steve Mackey. Just to layer on a little bit and we’d like to say, it could be a couple to several more years before the pre-2009 book actually declines to a level that it doesn’t make up the majority of the new notices. The good part though is that the level of new notices coming in continues to decline. So, it’s also a function that the 2009 coming forward books aren’t throwing off any delinquent notices. So it’s not that we have a steady new notice count that they are continuing to make out, that the count of them are actually coming down and they are just not getting replaced by the 2009 coming forward books to the – how clean those underwriting books are.

Mike Zimmerman

Yes, I think that’s great point to emphasis, is that is coming down to a level that the existing books are just so, few notices being shown up by them and it takes quite a while for the 2009 – pre-2009 books come down.

Sean Dargan

Got it, thanks, and I am wondering if you can share with us if you have an internal view of excess capital, relative to what you think your economic capital needs are and if you can share that with us?

Stephen Mackey

It’s something that we are still talking about internally and talking to the Board about, but nothing to share at this time.

Sean Dargan

Okay, given your current extraordinary dividend capacity, how long would it take to clear out the converts?

Mike Zimmerman

Sean, this is Mike, I said it’s taking $50 million and applying those all to convert – I don’t know if you could sort of link those two together if that was your point. I mean, the 2017s that are coming up for maturity in a year, that’s 12 months to go on those and then the 2020 while there is a function of both the stock price relative to conversion or maturity in 2020. I don’t think it’s right to link the – that’s fairly the dividend of $50 million right to reduction of these convertible securities.

Sean Dargan

Okay, thanks.

Operator

Our next question comes from Chris Gamaitoni. Your line is open.

Chris Gamaitoni

Good morning guys. Thanks for taking my call. Could you let us know what the IBNR was at the end of the quarter?

Mike Zimmerman

Look for that as we are…

Patrick Sinks

If you have another question, we can take that, I’ll look and try to see if I can get the exact number for you.

Chris Gamaitoni

Sure and I guess I'll ask the 50th reserving question. The average reserve per default increased year-over-year from 29.2000 to 30.3000, and just looking at the mix, there is less late-stage delinquencies and as you disclosed and we can calculate the new delinquent or the reserves per early-stage delinquencies should be lower. So it’s just hard to make that math work where you have a newer book and the reserves per newer notice are lower, how was the total reserve higher per delinquency?

Mike Zimmerman

There is a little bit from mix, Chris, as far as households, maybe some of the other notices are, but the other thing I guess to consider in that also is, the severity on the claims paid and on the defaults inventory. Our average claim paid has moved up a little bit over the last few quarters. And so, obviously we take that into account once coming in. So not only the claims rise but also the severity component.

Chris Gamaitoni

And what’s the – what’s driving that severity? It’s not HPA, is it less kind of curtailment expense or just what’s leading to that severity, mix?

Patrick Sinks

The severity is increasing, one, it have the older books, I mean, you have the judicial states, I mean, you have New York you have New Jersey with left in there little bit higher dollars states that are remaining because it’s a judicial market, the northeast a little bit down at Florida relative to the average along the way, plus it’s just taking to me, I think the average claim we paid was on average about four years delinquent. So those are kind of the factors drive us.

Stephen Mackey

Yes, this is Steve Mackey. We’re seeing an increase in the claims actually slowing through on judicial states that were really shutdown for a long period of time. So, New York, New Jersey, Maryland, we are starting to see volume come through and those volumes are very home loans that have – I would say relatively higher severities.

Chris Gamaitoni

Okay and did you guys find the IBNR?

Patrick Sinks

We’ll get back to you offline on that, Chris.

Chris Gamaitoni

Okay, thanks.

Operator

Our next question comes from Amy DeBone. Your line is open.

Amy DeBone

Thanks. I actually had a few more follow-ups on credit. At what point during the quarter did the settlements that impacted the 732 loans take place and did this potentially increase the reserves for default?

Mike Zimmerman

Hey, this is Mike. I mean, the 732 that was removed in March, so that’s when the agreement was finalized and when we processed the transaction. And there was really immaterial impact relative to our loss reserve that was relating to that.

Amy DeBone

Okay.

Mike Zimmerman

But it was not a driver of the change, it was factored with the previous answer and really kind of mix up within there.

Amy DeBone

Okay, and then, so I guess, it’s the mix. Anything from an industry perspective that could be driving the increase in terms of the GSEs or another counterparty?

Patrick Sinks

No.

Amy DeBone

Okay, and then, just regarding paid claims, the – as far as the average paid claim for bulk declined quarter-over-quarter, and then slow declined as well, but then the total average claim paid actually increased and so what drove that increase?

Mike Zimmerman

I mean, I guess, you are looking at the – on the bulk, it went from 65.7 to 65.1 with it on there and then, so I think, it still can get back to the mix issue relative to what that process is through.

Tim Mattke

To slightly more bulks getting processed this quarter in proportion compared to last quarter when they was being at the higher average claim pays.

Amy DeBone

And is there anything that could be potentially driving the pickup in claims or late-stage claims that are flowing through judiciary states, is that going to continue throughout the rest of the year?

Mike Zimmerman

And it is why I think, yes, as Steve mentioned, I wouldn’t say, as you know, the dam burst relative to the judicial state processing but we – it’s how we’ve seen a pick up and we’d expect to see that flow start to come along, but not like I say, a dam bursting of all of them processing at one given quarter, it’s something, real acceleration of material nature on a quarter-to-quarter.

Amy DeBone

Okay, great, thank you.

Operator

Our next question comes from Patrick Kealey. Your line is open.

Patrick Kealey

Good morning. Thanks for taking my questions. Most have been answered, but I just wanted to go back to the FHFA principal reduction program and the 3000 loans you have that are potentially affected. Do you have any view on potential take up rate within those 3,000 loans or is that kind of factor into your wait and see approach on kind of the ultimate benefit to reserves?

Mike Zimmerman

Mike, Pat, no we have no view as to what the acceptance rate by borrowers will be, all we did was take the three big categories of the loan size, GSE investor and made an estimate at the mark-to-market LTV to get to the 3000. Everything else is really lot of the wait and see how things develop.

Patrick Kealey

Okay, great, and then, last question just on your investment portfolio. I mean, should we be thinking about the current yield at today's levels where you are comfortable or do you see maybe opportunities to fund some incremental yield within the portfolio as we move forward through the year and maybe into 2017?

Tim Mattke

We are always looking for more yields at a good risk. I would say that, based upon where we are right now is it’s a probably a good place to say that we are focused on moving from taxable to tax preference which we said that we will move there over time. But I think as far as the yields on the portfolio, we are not going to, sort of go outside of what we’ve traditionally done which is high quality, sort of bonds that we invest in.

Patrick Kealey

Okay. Great, thank you.

Tim Mattke

Sure.

Operator

Our next question comes from Matthew Howlett. Your line is open.

Matthew Howlett

I guess, particular to ask about the United spin-off, the plans were obviously to spin that unit off, I know they are the market leader. Just any thoughts in terms of - does that level the playing field? Would they get more aggressive? How do you view? Is that a positive for the industry long-term?

Mike Zimmerman

Matt, this Mike. I mean, we’ve said for many, many years, that we have seven players before the great recession. We thought that that was probably too many or add seven. So I think that statement was so old. So, fewer would be better, but how it plays out, whether it’s a luck, 100% if they are aggressive, it’s part of the company, large small company, we’ll have to wait and see how that all plays out.

Matthew Howlett

And do you feel there is a meaningful – is it cost of capital advantage, the way they sit today, inside - does that become - does it level things out if they are outside, I mean, any way to sort of look at it that way? I mean, it was – it will sort of have seven – sort of monoline players there is some sort of – has other businesses, but any – I mean, just given that they are the dominant player, I just thought, maybe outside of AIG that they will be more of a level to cost of capital.

Tim Mattke

I mean, I think it really depends on who the acquirer is and what their cost to capital is versus where AIG has been. So, I mean, we haven’t spent a lot of time speculating about the future of AIG’s subsidiaries.

Matthew Howlett

Gotcha, okay, and then Mike, just switching to the persistency expectations, it’s difficult for us to look at it, given this older 2009 book that’s sort of just still sitting there, but, when you look at cancellations, particularly as it relates to stuff done after 2010, I mean have those been on the high level of things with the rapid home price appreciation? Do you expect them to come down under a normal price appreciation environment? Does that benefit things like that? Tim, how do you look at cancellations going forward in the new business written?

Tim Mattke

I think, I’ll let Steve to tell more about this, but I think we are looking at more average life assumptions in the 80% cycle persistency levels, but Steve?

Stephen Mackey

Yes, this is Steve. We think that it’s been pretty stable if you look at the post 2009 book years and how they performed and with home prices increasing, I think that that could potentially offset by increases in rates over the next year or two as the Fed moves and the tenure we have been in the long into the curve. So we – I believe that it’s going to continue to be a relatively stable environment there.

Matthew Howlett

Gotcha, and then just lastly, just on the FHA, anything other than what’s been out there, are you guys hearing anything regarding what’s happening internal there? I know they’ve said they are not going to take down pricing this year again, just anything anecdotally that- that’s coming that you’ve heard from Washington regarding FHA?

Patrick Sinks

This is Pat. Nothing beyond what we’ve mentioned and I think just recently, Secretary Castro came out and said they didn’t plan on reducing rates. So nothing new to report.

Matthew Howlett

Great. Thanks guys.

Operator

And we have a follow-up question from Geoffrey Dunn. Your line is open.

Geoffrey Dunn

Thanks. Tim, I want to follow-up on your answer about the expenses. It looks like an 18.5% expense ratio now could imply double-digit gross earnings expense growth this year. So, are you expecting 10% plus gross expense growth?

Tim Mattke

No, we would not expect 10% plus gross expense growth.

Geoffrey Dunn

All right, but 5% to 10% probably and then, maybe tempering those gradually over time?

Tim Mattke

Yes, I would say, in that 5% to 10% range is probably the right way to think of it on the growth expense for this year.

Geoffrey Dunn

Okay, thanks.

Tim Mattke

Yes.

Operator

I am showing no further questions in the queue at this time. I’d like to turn the call back to Mike Zimmerman for any further remarks.

Patrick Sinks

This is Pat. Thank you for joining our call this morning. We understand lot of questions regards to loss development and premium yields and appropriately so, and questions in regards to the comparability on the prior year to the current year.

That said, we feel pretty good about the quarter. We got a lot done. We don’t want to lose sight of the fact that PMIERs slightly is overdone in terms of compliance and we did quite a bit along the lines of debt taking on interest expense and dilution. We are very pleased with the rating agency upgrade. We are back at investment grades.

It’s been a long time coming in, we’re back and then of course we now finally here in April got our premium rate changes into the market. So, we understand the focus on the numbers that’s appropriate, but also don’t want to lose sight of the many things we accomplished this quarter. So thank you very much and we appreciate your interest in our company.

Operator

Ladies and gentlemen, thank you for your participation in today’s conference. This concludes the program. You may now disconnect. Everyone have a great day.

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