18.4% Dividend Payer Western Asset Mortgage Disappoints - What's The Outlook? [View article]
CK has this exactly right. The non-agencies are a negligible part of their total portfolio at this point in time (and thus a proportionately negligible fraction of the equity if you divide total portfolio by effective leverage), and they're using these as IR hedges to reduce effective duration (while picking up some carry from owning them).
On the dividend: the only reason I can foresee for a reduction in the divvy below .90 is if they were to do a mid-earnings period SPO resulting in dilution of earnings across the new shares. While there's uncertainty with the book value, the earnings power looks transparent at this stage of the game. They're earning a 2.17% NIM and running 9ish effective leverage, which is gives them a ballpark ROE of 21%. Take out 2% for mgmt fees and overhead, and this gives you a predictable 19%. They've shown themselves for several quarters now to be effectively insulated against prepays (the flip-side of which is the negative convexity that bit them in the rear last quarter on a whiff of rising rates...).
Book value is going to fluctuate, but the spread income should remain constant absent a major change in course.
Don't Panic: Survival Guide To Prospering With Mortgage REIT 12% Yields [View article]
Hi CK,
Nice, clear analysis. You do a good job of putting the two most fundamental tensions with mreits into perspective: namely, (a) that NAV and spreads are inversely related; and (b) that you can't hedge away every risk, and thus diff companies make difference choices. These are mathematical truisms, but investors tend to lose sight of these in all the hand-wringing, headlines, and hysteria.
With respect to (a), I think it's quite ironic that last summer/ fall in the face of QE3, many folks were declaring the end of the mreit model as net interest margins were relentlessly compressing. Like everything else, this was overblown, but in some sense (and I said this at the time) it was mathematically correct. Had QE3 succeeded in driving up the price of FNMA 3s (and even launched a 2.5 as the current coupon), the mreit model would have been in run-off mode. There would have been a hell of a build in NAV along the way, but absolutely no way to earn spread income on new investments and dividends would eventually have had to be hacked. Market reaction?: panic and mreit sell-off in fall 2012.
Thankfully, that *hasn't* played out. You saw a big run-up in NAVs with the peak of the QE3 "front-run the fed" trade, but unfortunately the ones that benefited most from this pop couldn't hold the book gains. Disappointing? Sure. But what people aren't realizing is that with the sell-off in mbs, mreits just got a new lease on life. At current mbs prices, there's the poss of being able to reinvest and make new purchases at more attractive spreads. The divvys for AGNC, MTGE, and WMC look solid and sustainable on spread income alone. What's WMC now, almost 19% at these prices?Once again: the market reaction? Panic and sell-off...
The glass is always half-empty in mreit land, but these inefficiences put food on the table for those who can keep their heads.
After Dismal Earnings, 3 Hybrid REITs I Am Considering To Replace American Capital [View article]
+/- 10% hit to NAV, which is disappointing, but the NIM is stronger than before and core earnings clearly support a .90-.95 cent divvy. That's the best you'll get in this mbs market...
Why Exide Could Be A Compelling Speculative Buy [View article]
Hey South Gent,
You're fighting an uphill battle here on SA by providing actual FACTS about things like free cash flow, debt load, and bond prices. How dare you cite objective factors that show the equity to be worthless! Stop talking like a bond investor and tell some just-so stories about what might happen in a diff world with pixies and unicorns.
Your exchange with IM is a fantastic case study in confirmation bias.
PS: always enjoy your Stocks, Bonds, and Politics blog.
After Dismal Earnings, 3 Hybrid REITs I Am Considering To Replace American Capital [View article]
Murray,
I respect your caution about WMC and don't want to discourage you sticking with AGNC. In fact, AGNC and MTGE are currently on blue light special, so there's reason to add as they fall further.
But I think your concerns about WMC are overblown.
Are they new? Yes, but they're managed by the mortgage guys at Western Asset--the Pimco of Pasadena. Other than the Kain team that came from Freddie, or the NLY folks who've been around forever, they've probably had more experience running more money than almost anyone else in the mreit business. But most importantly, the fact that they're new means that their hedges are fresh (cheaper) and they don't have some of the legacy costs on swaps that others face. They're also smaller (nimbler) but are backstopped by the buying power of WAMCO.
I think there's every reason to be optimistic about their dividend. We know their NIM, and that their CPRs are in the low single digits. These won't change even in the face of the backup in agency mbs prices. In fact, if you've locked in the kind of rich spreads they've put together, the last thing you want is for mbs prices to drop and prepays to kick in.
Yes, they run more leverage than AGNC, but they also hedge more fully across the whole yield curve. I've been trying to model this (albeit with imperfect and dated info), but spit-balling, I think that we're going to see much less deterioration in NAV than people are expecting, prob <5%. They were heavier in 3.5s than you'd like, and I'm thinking they also got suckered into the TBA drop income gimmick like AGNC, but they also were expecting to pick up a decent amount of negative duration from the long end of the curve. MBS fell more relative to 10s (which is partly what screwed up AGNC's hedging), but there was a bigger relative dip from the 15-30 year portion of the curve where WMC has some nice swaps in place.
Hard to say at this point, but I'm betting that just as WMC didn't pick up as much NAV in the QE3 runoff as the Kain operations, they won't lose as much on the flip-side...
The mortgage REITs are lit up bright red (MORT -1.9%), again led by American Capital Agency (AGNC -3.5%) and American Capital Mortgage (MTGE -3%), with Annaly (NLY -3.1%) not far behind. Yes, the 10-year Treasury yield is a 3 bps higher, but there's also rare action in Fed Funds futures, now pricing in a whopping 50 bps in rate hikes by this time 2016. AGNC presents at the JMP Conference at 2 ET. [View news story]
Recent book value drops are the flip-side of the big gains in NAV you saw from QE3. I'm usually all for trading these with an eye to book value, but here I think you have to keep your eye on NIM/ spreads. Even if there's a 10% decline in NAV, does it make sense to sell out of a co like WMC, with a NIM of 200 bps, CPRs in the 3.5% range, and close to 20% annualized ROE? MTGE is also starting to look like a screaming bargain down here.
Caesars Entertainment Equity Still Has Essentially No Value: A Capital Structure Arbitrage Trade [View article]
Great call on CZR--exactly how a capital arb trade ought to work. Something in their capital structure has to give, in one direction or the other. I'd bet that it's going to end in a prepack or some version of an 11 in which the equity gets hosed. But with the uncertain timing, owning the debt gives not only a hedge but generates some carry.
Short Candidates For When The Tide Goes Out [View article]
Hey Brad,
Your screen seems like a pretty crude way of identifying candidates--although you pulled up RSH, which is near the top of my 2013 conviction short list. There are far better ways of identifying companies with crushing debt-loads and declining businesses. Start with distressed bonds and the capital structure, working backward, and you'll find dozens of potential shorts where the equity is theoretically worthless.
But regardless of your methodology, I want to emphatically second the insight behind your article. This current bull market has proven incapable of pricing the risk of bankruptcy, but at some point the inefficiencies have to get re-priced. The frustrating thing is that most of today's distressed cos are like zombies: the equity is not going to crack until the minute the ch. 11 filings come through...
Coal, solars, distressed retailers, casinos, media--these train wrecks are going to continue to shamble along until suddenly one day they don't. A brutally frustrating market for shorts, on the one hand, but on the other hand, it creates some *amazing* inefficiencies to arbitrage away.
15.3% Dividend Yield Makes This mREIT Attractive [View article]
Just spit-balling, generic Fannie 3.5s were at 105.5 on March 31 (not the 2013 lows, but close to them)...closed at 106.5 today. That's an NAV reprice since the date of earnings of +7% of book--assuming hedges are constant.
I'm also betting that the spread of mbs/TSY--which can monkey-hammer your swaps if you're hedging off TSY--has come back in subsequently. Never been crazy about the "drop income" trade (CYS, cough...), or hedging via short TBAs.
This is what eventually happens when you make aggressive unidirectional bets. Sooner or later the dice come up snake eyes.
In sum, buy the competitors--esp the hybrids--on the big mreit dip that's coming tomorrow. Low-balls bids already in as the stops get blown out. Come to papa!
James River Coal (JRCC +30.1%) pushed higher all session after posting a Q1 loss that wasn’t as big as expected, but there's no apparent explanation for the stock's final-hour explosion on heavy volume. Some in the Twitter universe ruefully note Patriot Coal spiked just before declaring bankruptcy. Briefing.com reports JRCC debt is trading at distressed levels. [View news story]
Capital Structure 101
When a company's debt is trading at severely distressed levels--in this case .30 on the $--the bonds are pricing in a bankruptcy. This is not an insinuation, it's an empirical fact. For the thick-headed longs among us, that means that the people who are ABOVE you in the capital structure are pricing in a bankruptcy and a 70% haircut. You own only what's left over after paying them.
I'll let you do the math and figure out how much this makes the common equity worth...
Are Investors Right To Panic About Exide Technologies? [View article]
I always assume the worst case because I don't like to lose money. So if something is listed as a "current liability," I assume it needs to be paid. And paid in $US dollars--not in car batteries, inventory, goodwill, hypothetical RE sales of contaminated lead factories, or even from accounts receivable, which have a way of becoming less "receivable" when debtors sniff a bankruptcy in the air.
If there is some FCF, then sure you can take that into account in terms of coverage for FY 2014. But my recollection of their position is that they've been bleeding cash and paying bills by borrowing on their credit lines. That's not sustainable.
Southern Gentleman had this exactly right. If there's any long play here, it remains from the bond side. The prices at which the seniors and converts are trading signal the equity to be worthless. If the bondholders are pricing in a 50-75% haircut, why would you think that the equity is worth anything? Price out the liquidation value of the enterprise and, who knows, maybe the seniors are a bargain at 25?
With all due respect to Tom, who's obviously a very smart guy and a great, lucid writer, even before the Lazard revelation and the environmental suits, BK was a foreseeable poss. A few months ago, deep OTM put options were paying 3.5 to 1 on a BK by the end of 2014, which is an implied probability of less than 33%. To my mind, it was more like 75%, making the short side the smart trade.
Don't Panic: Survival Guide To Prospering With Mortgage REIT 12% Yields [View article]
18.4% Dividend Payer Western Asset Mortgage Disappoints - What's The Outlook? [View article]
On the dividend: the only reason I can foresee for a reduction in the divvy below .90 is if they were to do a mid-earnings period SPO resulting in dilution of earnings across the new shares. While there's uncertainty with the book value, the earnings power looks transparent at this stage of the game. They're earning a 2.17% NIM and running 9ish effective leverage, which is gives them a ballpark ROE of 21%. Take out 2% for mgmt fees and overhead, and this gives you a predictable 19%. They've shown themselves for several quarters now to be effectively insulated against prepays (the flip-side of which is the negative convexity that bit them in the rear last quarter on a whiff of rising rates...).
Book value is going to fluctuate, but the spread income should remain constant absent a major change in course.
Don't Panic: Survival Guide To Prospering With Mortgage REIT 12% Yields [View article]
Nice, clear analysis. You do a good job of putting the two most fundamental tensions with mreits into perspective: namely, (a) that NAV and spreads are inversely related; and (b) that you can't hedge away every risk, and thus diff companies make difference choices. These are mathematical truisms, but investors tend to lose sight of these in all the hand-wringing, headlines, and hysteria.
With respect to (a), I think it's quite ironic that last summer/ fall in the face of QE3, many folks were declaring the end of the mreit model as net interest margins were relentlessly compressing. Like everything else, this was overblown, but in some sense (and I said this at the time) it was mathematically correct. Had QE3 succeeded in driving up the price of FNMA 3s (and even launched a 2.5 as the current coupon), the mreit model would have been in run-off mode. There would have been a hell of a build in NAV along the way, but absolutely no way to earn spread income on new investments and dividends would eventually have had to be hacked. Market reaction?: panic and mreit sell-off in fall 2012.
Thankfully, that *hasn't* played out. You saw a big run-up in NAVs with the peak of the QE3 "front-run the fed" trade, but unfortunately the ones that benefited most from this pop couldn't hold the book gains. Disappointing? Sure. But what people aren't realizing is that with the sell-off in mbs, mreits just got a new lease on life. At current mbs prices, there's the poss of being able to reinvest and make new purchases at more attractive spreads. The divvys for AGNC, MTGE, and WMC look solid and sustainable on spread income alone. What's WMC now, almost 19% at these prices?Once again: the market reaction? Panic and sell-off...
The glass is always half-empty in mreit land, but these inefficiences put food on the table for those who can keep their heads.
After Dismal Earnings, 3 Hybrid REITs I Am Considering To Replace American Capital [View article]
Why Exide Could Be A Compelling Speculative Buy [View article]
You're fighting an uphill battle here on SA by providing actual FACTS about things like free cash flow, debt load, and bond prices. How dare you cite objective factors that show the equity to be worthless! Stop talking like a bond investor and tell some just-so stories about what might happen in a diff world with pixies and unicorns.
Your exchange with IM is a fantastic case study in confirmation bias.
PS: always enjoy your Stocks, Bonds, and Politics blog.
After Dismal Earnings, 3 Hybrid REITs I Am Considering To Replace American Capital [View article]
I respect your caution about WMC and don't want to discourage you sticking with AGNC. In fact, AGNC and MTGE are currently on blue light special, so there's reason to add as they fall further.
But I think your concerns about WMC are overblown.
Are they new? Yes, but they're managed by the mortgage guys at Western Asset--the Pimco of Pasadena. Other than the Kain team that came from Freddie, or the NLY folks who've been around forever, they've probably had more experience running more money than almost anyone else in the mreit business. But most importantly, the fact that they're new means that their hedges are fresh (cheaper) and they don't have some of the legacy costs on swaps that others face. They're also smaller (nimbler) but are backstopped by the buying power of WAMCO.
I think there's every reason to be optimistic about their dividend. We know their NIM, and that their CPRs are in the low single digits. These won't change even in the face of the backup in agency mbs prices. In fact, if you've locked in the kind of rich spreads they've put together, the last thing you want is for mbs prices to drop and prepays to kick in.
Yes, they run more leverage than AGNC, but they also hedge more fully across the whole yield curve. I've been trying to model this (albeit with imperfect and dated info), but spit-balling, I think that we're going to see much less deterioration in NAV than people are expecting, prob <5%. They were heavier in 3.5s than you'd like, and I'm thinking they also got suckered into the TBA drop income gimmick like AGNC, but they also were expecting to pick up a decent amount of negative duration from the long end of the curve. MBS fell more relative to 10s (which is partly what screwed up AGNC's hedging), but there was a bigger relative dip from the 15-30 year portion of the curve where WMC has some nice swaps in place.
Hard to say at this point, but I'm betting that just as WMC didn't pick up as much NAV in the QE3 runoff as the Kain operations, they won't lose as much on the flip-side...
The mortgage REITs are lit up bright red (MORT -1.9%), again led by American Capital Agency (AGNC -3.5%) and American Capital Mortgage (MTGE -3%), with Annaly (NLY -3.1%) not far behind. Yes, the 10-year Treasury yield is a 3 bps higher, but there's also rare action in Fed Funds futures, now pricing in a whopping 50 bps in rate hikes by this time 2016. AGNC presents at the JMP Conference at 2 ET. [View news story]
Want out? I'll take your cheap shares...
Caesars Entertainment Equity Still Has Essentially No Value: A Capital Structure Arbitrage Trade [View article]
Short Candidates For When The Tide Goes Out [View article]
Your screen seems like a pretty crude way of identifying candidates--although you pulled up RSH, which is near the top of my 2013 conviction short list. There are far better ways of identifying companies with crushing debt-loads and declining businesses. Start with distressed bonds and the capital structure, working backward, and you'll find dozens of potential shorts where the equity is theoretically worthless.
But regardless of your methodology, I want to emphatically second the insight behind your article. This current bull market has proven incapable of pricing the risk of bankruptcy, but at some point the inefficiencies have to get re-priced. The frustrating thing is that most of today's distressed cos are like zombies: the equity is not going to crack until the minute the ch. 11 filings come through...
Coal, solars, distressed retailers, casinos, media--these train wrecks are going to continue to shamble along until suddenly one day they don't. A brutally frustrating market for shorts, on the one hand, but on the other hand, it creates some *amazing* inefficiencies to arbitrage away.
Mortgage REITs: Sell In May? Not If Spreads Hold Up [View article]
Shares on sale tomorrow with a 28 handle!
American Capital Agency Corp. Reports $(1.57) Comprehensive Loss Per Common Share And $28.93 Net Book Value Per Common Share [View article]
And, FWIW, if you don't understand what this means, you prob shouldn't own mreits.
15.3% Dividend Yield Makes This mREIT Attractive [View article]
I'm also betting that the spread of mbs/TSY--which can monkey-hammer your swaps if you're hedging off TSY--has come back in subsequently. Never been crazy about the "drop income" trade (CYS, cough...), or hedging via short TBAs.
This is what eventually happens when you make aggressive unidirectional bets. Sooner or later the dice come up snake eyes.
In sum, buy the competitors--esp the hybrids--on the big mreit dip that's coming tomorrow. Low-balls bids already in as the stops get blown out. Come to papa!
15.3% Dividend Yield Makes This mREIT Attractive [View article]
GK and the gang got caught with their pants down. Maybe it's not as bad as it looks at first glance, but a 2.73 haircut to book is an ugly number.
James River Coal (JRCC +30.1%) pushed higher all session after posting a Q1 loss that wasn’t as big as expected, but there's no apparent explanation for the stock's final-hour explosion on heavy volume. Some in the Twitter universe ruefully note Patriot Coal spiked just before declaring bankruptcy. Briefing.com reports JRCC debt is trading at distressed levels. [View news story]
When a company's debt is trading at severely distressed levels--in this case .30 on the $--the bonds are pricing in a bankruptcy. This is not an insinuation, it's an empirical fact. For the thick-headed longs among us, that means that the people who are ABOVE you in the capital structure are pricing in a bankruptcy and a 70% haircut. You own only what's left over after paying them.
I'll let you do the math and figure out how much this makes the common equity worth...
Are Investors Right To Panic About Exide Technologies? [View article]
If there is some FCF, then sure you can take that into account in terms of coverage for FY 2014. But my recollection of their position is that they've been bleeding cash and paying bills by borrowing on their credit lines. That's not sustainable.
Southern Gentleman had this exactly right. If there's any long play here, it remains from the bond side. The prices at which the seniors and converts are trading signal the equity to be worthless. If the bondholders are pricing in a 50-75% haircut, why would you think that the equity is worth anything? Price out the liquidation value of the enterprise and, who knows, maybe the seniors are a bargain at 25?
With all due respect to Tom, who's obviously a very smart guy and a great, lucid writer, even before the Lazard revelation and the environmental suits, BK was a foreseeable poss. A few months ago, deep OTM put options were paying 3.5 to 1 on a BK by the end of 2014, which is an implied probability of less than 33%. To my mind, it was more like 75%, making the short side the smart trade.