Western Asset Mortgage Capital Corporation (NYSE:WMC) Q1 2021 Earnings Conference Call May 6, 2021 11:00 AM ET
Larry Clark - Investor Relations
Jennifer Murphy - Chief Executive Officer
Sean Johnson - Interim Co-Chief Investment Officers
Greg Handler - Interim Co-Chief Investment Officers
Lisa Meyer - Chief Financial Officer
Conference Call Participants
Trevor Cranston - JMP Securities
Hello and welcome to welcome to the Western Asset Mortgage Capital Corporation's First Quarter 2021 Earnings Conference Call. Today's call is being recorded and will be available for replay beginning at 5:00 p.m. Eastern Standard Time. At this time, all participants have been placed in a listen-only mode and the floor will be opened for your questions following today’s presentation.
Now first I'd like to turn the conference call over to Mr. Larry Clark, Investor Relations. Please go ahead Mr. Clark.
Thank you, Keith. I want to thank everyone for joining us today to discuss Western Asset Mortgage Capital Corporation's financial results for the first quarter of 2021.
The company issued its earnings press release yesterday afternoon and it's available in the Investor Relations section of the company's website at www.westernassetmcc.com. In addition, the company has included a slide presentation on the website that you can refer to during the call.
With us today from management are Jennifer Murphy, Chief Executive Officer; Lisa Meyer, Chief Financial Officer; and Greg Handler and Sean Johnson both Interim Co-Chief Investment Officers.
Before we begin, I'd like to review the safe harbor statement. This conference call will contain statements that constitute forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995. All such forward-looking statements are intended to be subject to the safe harbor protection provided by the Reform Act.
Actual outcomes and results could differ materially from those forecast due to the impact of many factors beyond the control of the company. All forward-looking statements included in this presentation are made only as of the date of this presentation and are subject to change without notice.
Certain factors that could cause actual results to differ materially from those contained in the forward-looking statements are included in the Risk Factors section of the company's reports filed with the SEC. We disclaim any obligation to update our forward-looking statements unless required by law.
With that, I'll now turn the call over to Jennifer Murphy. Jennifer?
Thanks, Clark and thank you all for joining us today. We got a good start to 2021 as our positive momentum continued in the first quarter. The actions we've taken dispensing the balance sheet and protect our portfolio have enabled our shareholders to further benefit from the ongoing mortgage market recovery. WMC delivered an economic return on book value of 3.1%, mainly driven by higher valuations of our residential mortgages and securitized commercial loans.
We recorded GAAP net income of $8 million or $0.13 per share and core earnings of $0.10. Our GAAP book value increased 1.7% during the quarter to $4.27 per share, and has increased by 36% since June 30, 2020 which reflects a partial recovery in the value we see in our portfolio.
In March, we declared a cash dividend of $0.06 per share for the first quarter in line with the previous quarter. We remain committed to paying a sustainable and attractive dividend. We’ve set the dividend each quarter taking into consideration our view of the long term core earnings power of the portfolio, the company's liquidity needs and other factors.
We continue to focus on strengthening our balance sheet, maintaining relatively low leverage, increasing liquidity and positioning the company for growth. During the quarter, we again repurchase some of our outstanding senior convertible notes at a discount to par, which reduces our leverage and increases shareholders equity. We continue to improve the funding term for our assets, as we have renewed and extended some of our financing arrangements at more attractive rates and terms, while reducing our exposure to short term repo. Lisa's going to talk more about this later.
What are Western assets core strength is a team based investment approach and its deep bench of seasoned investors. As a result of their efforts led by Greg Handler and Sean Johnson, we continue to make good progress on protecting and growing the valued portfolio and positioning it to benefit from the full reopening of the economy.
While many of our assets have seen near full recoveries in value, particularly our Residential Whole Loan, a number have yet to experience a similar rebound, most notably our commercial real estate holdings. However, the outlook for commercial real estate has improved, especially as more states have announced their full reopening plans.
Therefore, we're cautiously optimistic that the value of our commercial investments will benefit, as economic activity leads closer to pre-COVID levels. We're encouraged by all the progress we see in the economy and at the WMC. We continue to focus on delivering on our long term objective of generating sustainable core earnings that support an attractive dividend, while enhancing shareholder value. Sean is going to go into more detail about our residential holdings, and then Greg will provide some color on our commercial real estate portfolio. Sean?
Thank you, Jennifer. In the first quarter of 2021, the US economic recovery continued, as more people were vaccinated, and businesses were to fully reopen. Equity and credit markets continue to improve albeit a slower pace than in the second half of 2020. This translated into higher valuations in a number of our portfolio holdings and improvements in our book value.
Our Residential Home Loan portfolio continued to experience appreciation, benefiting from a strong housing market. You'll buy historically low mortgage rates and very tight supply and favorable consumer sentiment.
First Quarter national home price indices again rose at double-digit annual rates. The residential credit market continues to improve as a result of lower delinquency and forbearance metrics for non-agency mortgages. Our residential loans continue to perform well and the percentage of loans that were part of a forbearance plan declined, dropping to 3.4% at quarter end from 6% at year end and a higher 19% in May of last year. Nearly all the loans in forbearance are now in their repayment period. And those that aren't represent about 1.5 of 1% of the total residential portfolio.
We see this as a confirmation of the effectiveness of our credit underwriting, when we focus on borrowers that have meaningful equity in their homes, as we believe it creates a strong incentive to remain current on their mortgage payment.
The non-QM origination market was fairly soft for most last year and into the early part of this year, as mortgage originators focused on making agency deliverable loans as low mortgage rates drove high refinance volumes. With the recent modest rise in rates and the corresponding decline in refinance applications, originators are once again beginning to refocus on non-QM production.
During the quarter, we have actively engaged with both new and existing non-QM originators to grow this portion of our portfolio in the near-term, with the goal of financing these investments through another securitization.
I'll now turn the call over to Greg to discuss our commercial portfolio. Greg?
Thank you, Sean. While our residential loan has recovered in value, a number of our commercial real estate holdings have yet to experience a similar recovery. In general, commercial real estate continues to lag the residential market, as many property types are still impacted by the pandemic and performing its suboptimal level due to ongoing restriction and reduce demand.
While the outlook has improved, there still is uncertainty around the timing and the extent of the recovery in the performance of these properties. Within non-agency, commercial mortgage backed securities, our holdings continue to be weighed down by concerns, regarding the future performance of the underlying property.
A large loan credit portfolio consists mainly of Class A retail, hotel and office building. A number of these properties have seen their cash flows adversely impacted during COVID by lower occupancy and other operating metrics, and their recoveries have yet to materialize.
This portion of our portfolio had an approximate 66% original loan to value and all but one of these loans remains current, representing less than 2% of our holdings in this bucket. These properties are generally high quality assets with strong equity sponsors. So we believe that their collateral values have not been materially or permanently impaired.
In our commercial mortgage-backed conduit exposure, delinquency trends are improving as some loans have become current through a mix of improved cash flow and equity infusion. We continue to believe that these near-term challenges will eventually be overcome as COVID restrictions are lifted and the economy moves towards a full reopen.
Our commercial mortgage portfolio which carries an approximate 65% original loan to value is generally performing according to our expectations, and all but one of these ones remains current. The $30 million hotel loan that we have previously discussed continues to be in default. The property is in the midst of bankruptcy proceedings, and we are currently -- actively monitoring the process. Additionally, the hotel is currently listed for sale and there appears to be significant interest in the assets.
We feel there is strong value in the property. And we have the added benefit of recourse to the borrower. We continue to reinforce our rights on the personal guarantee. And we believe that there is a reasonable likelihood that ultimately the majority of the principal and missed payments will be recovered. Although there is no guarantee that will be the case.
As we also discussed on our last call, we hold the junior mezzanine loan with a face value of $90 million in this portfolio. The underlying property is a high quality retail and entertainment complex located in New Jersey, and owned by a prominent equity sponsors.
The pandemic has adversely impacted the operating performance of this asset. However, the property is now operating at 50% capacity versus approximately 25%. capacity in the fourth quarter of last year.
We are encouraged the New Jersey is planning for a full reopening of their economy on July 1, and eliminating capacity constraints on May 19 for all retail, restaurants and amusement parks. We believe that as this happens it will accelerate what are already improving operating trends at this premier property. This loan remains marked down to a value of just over $80 million, while we still believe there's significant equity value in the asset. We recognize the borrower still need time to stabilize the property before bringing a loan current and being able to refinance the capital back.
As a rule, we work closely with our impacted commercial real estate borrowers to achieve customized solutions designed to help them whether the near-term disruptions caused by the pandemic. When necessary, our team becomes actively involved in assisting them and working through property stabilization plan.
We believe that these measures allow us to protect our collateral and increase the probability of eventual recovery in our investments. However, there remain significant challenges and losses could occur to the reopening stall and financial conditions deteriorate.
In the meantime, we remain focused on maintaining sufficient liquidity and positioning our portfolio for future appreciation, which we expect to occur as the economy continues to reopen.
With that, I'll turn the call over to our CFO, Lisa Meyer. Lisa?
Thanks. Thank you, Greg. Before I review our first quarter results, I want to discuss further improvements, we have proactively made on our financing arrangements to improve our balance sheet. Since the onset of the pandemic, WMC has benefited from the broader Western asset platform, which has facilitated our ability to work with our strategic financing partners to improve liquidity and reduce our exposure to short term daily mark-to-market financing.
From its high level at 9.5 times at the end of March 2020, our recourse leverage has declined to 2 times at the end of the quarter, also significantly lower than 5.4 times at December 31, 2019.
Just this week, we amended our primary securities repurchase facility, which finances most of our Non-Agency CMBS and RMBS assets. The term of the facility was extended by one year. We obtained improved advance rates and secured more attractive pricing, significantly lowering our borrowing costs from LIBOR plus 500, to LIBOR plus 200. At March 31, we had outstanding borrowings on this facility of $93.9 million, secured by assets with a fair value of $199.4 million.
Additionally, we recently amended our Commercial Whole Loan Facility, converting it from a facility that automatically rolled every 30 days to now having a one year maturity. At March 31, we had outstanding borrowings of the earnest facility of $119.2 million, secured by commercial loans with a fair value of $243.5 million.
During the first quarter, we further reduced our recourse debt by repurchasing an additional $6.7 million in principal amounts of our convertible senior notes at an average 6.3% discount to par value. At March 31, the outstanding balance about convertible notes was $168.3 million, down from $205 million at December 31, 2019.
Moving to earnings, we have provided great detail regarding our portfolio and our first quarter results in both our press release and our investor presentation. So I'm only going to focus on items that warrant some additional explanation.
We reported core earnings of $6.1 million or $0.10 per share for the first quarter. Our core earnings more than covered our first quarter dividend of $0.06 per share. We evaluate the level of the dividend every quarter, based on a number of factors, including our outlook for the sustainable earnings power of the portfolio.
GAAP book value for the quarter increased by 1.7%, mainly driven by the overall improved valuation of our residential mortgages, which fully offset the significantly lower valuations on two Non-Agency CMBS bonds.
Economic book value, which reflects the value of our attained interest in the consolidate securitization trust, rather than the gross assets and liabilities, decreased by 4.1% for the quarter to $4.02 per share. The decrease was mainly driven by lower valuations on our Non-Agency CMBS which was not partially offset by the improved valuations of those retained interests.
As we have discussed in the past, this non-GAAP financial metric reflects our actual financial interest in all of our investments, and eliminate the accounting mismatch that may arise from our Arroyo securitization where we fair value the loans and not the debt.
In summary, we continue to focus on actions that will solidify our capital structure, increase our liquidity and enable us to participate meaningfully in the reopening of the economy post-COVID.
Our net interest margin remains healthy, and with a significant portion of our assets now financed by attractive longer term financing. We believe that we are well-positioned to selectively grow our portfolio with the objective of improved financial results in the quarters ahead.
With that, we will open up the call to your questions. Operator, please go ahead.
Yes. Thank you. We will now begin the question-and-answer session. [Operator Instructions] And the first question comes from Trevor Cranston with JMP Securities.
Hey, thanks. Good morning. And thank you for the update on the status of the properties in the CRE loan portfolio. That was very helpful. I guess, when I look at the portfolio, I was focused on slide 9, where you share the CMBS investments, which obviously are still under fair value, which is a pretty big discount in it. So I was wondering if you could maybe talk a little bit more about that. And as you guys run credit analysis on that portfolio, is there like a projected loss level? You see embedded within that and basically trying to size how much of that discount you think is ultimately likely to be recoverable within the CMBS investments? Thanks.
Thanks Trevor. Yeah, in terms of the unrealized loss, we would assume that is on the upper end of what is recoverable. I would say, in the first quarter, some of the challenges that we face in the commercial mortgage-backed security portfolio were related to near-term maturity, which the market is still very negative on the outlook. However, we typically do have the control rights and security, so we have the ability to effectuate loan workout, and we are actively pursuing those opportunities to maximize the value of these properties. So while, I can't give you an exact number, I would say we are actively working to maximize the recovery on the security towards the upper end of that range.
Okay, got it. That's helpful. And then in terms of financing, it sounds like you guys made some nice improvements to the financing agreements you have in place after the end of the first quarter.
I was curious as you as you look at your financing profile today, do you see any areas where there's room for further improvements, either in the rate or the structure of the financing that you guys have in place today, or with the improvements you're able to get and then two facilities in the second quarter, do you think the financing side is pretty well squared away at this point?
Trevor, its Sean. Yes, I think we do have the opportunity to improve some things on the margin. Those two facilities were the source of a lot of interest expense for us. So, making changes there was extremely important in addition to making them more longer term and reducing our margin call vulnerability.
So, there are there are a couple other financing facilities that we think we can improve and we're going to continue to work on that. That's always been a focus, especially this first quarter; we spent a lot of time trying to improve that side of the book. So, there is some marginal opportunity to improve things from here.
Okay, got it. Appreciate the comments. Thank you guys.
Thank you. [Operator Instructions] All right. And as there is nothing at the present time, this concludes our question-and-answer session. I would like to return the conference back to Jennifer Murphy for any closing comments.
Great. Thank you all for joining us today and please follow-up with us if you have any additional questions and have a great day.
Thank you. The conference has now concluded. Thank you for attending today's presentation. You may now disconnect your lines.