ARMOUR Residential REIT, Inc. — Q1 2023 Form 10-Q
Reporting period: Three months ended March 31, 2023. ARMOUR is an externally managed mortgage REIT investing primarily in agency mortgage-backed securities (MBS), financed largely through short-term repurchase agreements and managed with derivatives. Amounts below are in U.S. dollars; financial figures are generally shown in millions unless noted.
Financial results and position
| Metric | Q1 2023 / March 31, 2023 | Comparable period / December 31, 2022 |
|---|---|---|
| Interest income | $118.2 million | $33.4 million in Q1 2022 |
| Interest expense | $106.2 million | $2.4 million in Q1 2022 |
| Net interest income | $12.0 million | $31.0 million in Q1 2022 |
| Net loss | $31.4 million; $0.19 per common share | $66.4 million; $0.72 per common share in Q1 2022 |
| Comprehensive loss | $19.8 million | $145.0 million in Q1 2022 |
| Agency securities at fair value | $12,084.7 million | $8,198.6 million |
| Repurchase agreements, net | $10,554.5 million | $6,463.1 million |
| Total assets / stockholders’ equity | $13,249.3 million / $1,215.1 million | $9,437.0 million / $1,112.4 million |
| Liquidity | $550.2 million, including $135.4 million cash and $414.8 million unencumbered securities | — |
| Debt-to-equity leverage | 8.69:1 | 5.81:1 at December 31, 2022 |
The reported net interest margin was 1.97% in Q1, compared with 2.59% in Q4 2022; the reported cost of funds rose to 1.80% from 0.66%. Repurchase agreements had a 4.89% weighted-average contractual rate and 19-day weighted-average maturity at quarter-end. Operating cash flow, including cash collateral movements, was positive $54.2 million, versus negative $83.7 million in Q1 2022. Cash and cash collateral posted to counterparties together ended the quarter at $259.3 million.
Material changes and notable items
- The portfolio expanded substantially: agency securities rose to $12.1 billion from $8.2 billion at year-end, alongside higher repo borrowings. Management attributed the larger average portfolio to repositioning.
- Net interest income fell year over year despite higher interest income: the larger portfolio and higher short-term funding rates drove interest expense sharply higher. Management reported that the portfolio yield increased 1.57 percentage points year over year while cost of funds increased 1.38 points; the net interest rate spread increased 0.19 points.
- Other losses improved to $33.4 million from $88.2 million in Q1 2022. Q1 2023 included $120.4 million of gains on trading agency securities, offset by $134.4 million of derivative losses, $11.9 million of Treasury-security losses and a $7.5 million realized loss on the final available-for-sale securities sold. Q1 2022 had large agency-security losses partly offset by derivative gains.
- ARMOUR sold 29.9 million common shares through its ATM program for net proceeds of $181.2 million and repurchased 843,000 shares for $4.3 million. Common shares outstanding increased from 162.9 million at year-end to 192.0 million at March 31; 195.5 million were outstanding April 25. The company also increased authorized common shares from 300 million to 450 million.
- Quarterly common dividends paid totaled $52.0 million, with per-share payments of $0.10 in January, $0.10 in February and $0.08 in March. The filing reports $0.28 of dividends declared per common share for Q1, versus $0.30 in Q1 2022.
- ARMOUR sold its remaining available-for-sale securities during the quarter. It also received repayment of BUCKLER’s $105 million subordinated loan and committed to provide BUCKLER, on demand, a replacement subordinated loan of up to $200 million through March 2026, secured by ARMOUR securities.
Outlook, risks and contingencies
- Management outlook: ARMOUR said it believes current liquidity, borrowing arrangements and operating cash flows can meet anticipated short-term needs, including investment activity, financing obligations and distributions. It forecast positive ordinary REIT taxable income for 2023; this could make Series C preferred dividends fully taxable as ordinary income and common dividends partly taxable as ordinary income. No specific earnings or book-value guidance was provided.
- Interest-rate and spread exposure: Management’s modeled parallel 100-basis-point rate increase indicated a 1.28% reduction in projected net interest income and an 11.64% reduction in estimated stockholders’ equity. A 25-basis-point widening in MBS spreads indicated a 12.50% reduction in estimated equity. These are model estimates, not forecasts, and assume specified market conditions.
- Funding and collateral risk: Short-term repo financing exposes ARMOUR to refinancing, margin-call and forced-sale risk if collateral values fall or lenders tighten terms. The company’s 3.40% average repo haircut was lower than year-end’s 3.85%. BUCKLER accounted for 49.6% of repo borrowings at quarter-end; ARMOUR also disclosed cross-default and termination provisions and reliance on continued lender access.
- Market commentary: The Federal Reserve raised its target range to 4.75%–5.00% on March 22, 2023 and continued balance-sheet reduction. ARMOUR expected planned FDIC sales of securities, including agency MBS, to create a modest drag on agency MBS valuations, but did not expect a material impact on its current portfolio.
- Management and related-party commitments: The management agreement with ACM runs through December 31, 2029 and has contractual fee commitments of approximately $254.5 million based on the current fee base. The company cannot voluntarily terminate it without cause before expiration; certain termination events can require a fee equal to four times the preceding 12 months’ contractual management fee.
- Litigation: The filing describes unresolved putative class actions related to the 2016 JAVELIN tender offer and merger. ARMOUR said it could not estimate the outcome; the court had deferred an order of dismissal until May 1, 2023, with possible dismissal without prejudice for lack of prosecution if the case was not disposed of by then.
- Other key risks include prepayment uncertainty, hedge mismatch and derivative counterparty or collateral risk, agency and government policy uncertainty, REIT qualification, and conflicts of interest involving ACM and BUCKLER. The filing reported no material changes to the risk factors in the 2022 Form 10-K.
Important facts for investors to verify
- Whether portfolio growth and equity issuance can support per-share book value and sustainable distributions, given the increase in shares outstanding.
- How net interest income, funding costs and repo refinancing needs evolve as short-term rates and MBS spreads change.
- Liquidity available after collateral requirements, margin calls and the concentration of repo funding with BUCKLER and other major counterparties.
- Actual performance of hedges against MBS value changes, including the effect of fair-value accounting on reported earnings.
- Whether ACM’s fee waiver continues, and the implications of the long-term management agreement and related-party arrangements.
- Developments in the JAVELIN litigation and the treatment of 2023 distributions for tax purposes.