MFA Financial, Inc. — Q3 2017 Form 10-Q
Reporting period: Quarter and nine months ended September 30, 2017. Unaudited. MFA is a REIT investing on a leveraged basis in residential mortgage assets, including Agency and Non-Agency MBS, residential whole loans, CRT securities and MSR-related assets.
Financial results and position
| Metric | Q3 2017 / September 30, 2017 | Comparable period / prior date |
|---|---|---|
| Net income | $63.8 million; $0.15 per diluted common share | Q3 2016: $83.0 million; $0.21 per share |
| Net interest income | $55.9 million | Q3 2016: $64.5 million |
| Net interest spread / margin | 2.02% / 2.54% | Q3 2016: 2.13% / 2.46% |
| Other income, net | $29.1 million | Q3 2016: $33.9 million |
| Operating and other expense | $21.2 million | Q3 2016: $15.0 million |
| Common dividend declared | $0.20 per share; payout ratio 1.33x quarterly EPS | Q3 2016: $0.20 per share |
| Total assets / stockholders’ equity | $11.10 billion / $3.26 billion | December 31, 2016: $12.48 billion / $3.03 billion |
| Repurchase agreements and other advances | $6.87 billion | December 31, 2016: $8.69 billion, including $215 million of FHLB advances later repaid |
| Cash and cash equivalents | $608.2 million | December 31, 2016: $260.1 million |
| Book value per common share | $7.70 | June 30, 2017: $7.76; December 31, 2016: $7.62 |
| Leverage multiple | 2.4x | December 31, 2016: 3.1x |
Nine-month results: Net income was $221.8 million, or $0.54 per diluted share, versus $240.0 million, or $0.61, in 2016. Net interest income fell to $183.9 million from $201.2 million; net interest margin rose to 2.59% from 2.49%. Other income increased to $94.0 million from $83.6 million, while operating and other expense rose to $55.1 million from $44.3 million.
Cash flow, nine months: Operating activities provided $119.0 million; investing activities provided $1.94 billion, primarily reflecting asset principal payments; financing activities used $1.71 billion. Cash increased by $348.1 million to $608.2 million. The company issued common stock in a May offering, raising approximately $180.6 million gross.
Material changes and drivers
- Q3 common earnings declined year over year as lower average Agency and Non-Agency MBS balances and higher funding costs reduced net interest income. Higher yields partly offset the volume decline.
- Quarterly interest expense was $49.3 million versus $48.2 million; the effective cost of borrowings rose to 2.66% from 2.10%.
- Q3 other income included $18.7 million of gains on residential loans held at fair value and $14.9 million of securities-sale gains, partly offset by $5.2 million of unrealized CRT losses.
- Operating expense included approximately $5.1 million of one-time costs related to the death of former CEO William S. Gorin, including accelerated share-award vesting and a death benefit. Craig L. Knutson became sole CEO.
- Compared with year-end 2016, Agency MBS declined to $3.0 billion from $3.7 billion and Non-Agency MBS to $3.9 billion from $5.7 billion; CRT securities grew to $653.6 million from $404.9 million, MSR-related assets to $411.8 million from $226.8 million, and residential whole loans to about $1.7 billion from $1.4 billion.
- REO increased to $138.0 million and 671 properties from $80.5 million and 447 properties at year-end. The company recorded $3.1 million of Q3 downward REO valuation adjustments.
Outlook, risks and unusual items
- Management expected to continue investing during the remainder of 2017, chiefly in credit-sensitive residential whole loans, RPL/NPL MBS and MSR-related assets, but said elevated market pricing made attractive risk/reward purchases difficult.
- Management noted RPL/NPL MBS runoff slowed in Q3 to about $400 million from about $1.3 billion in Q2, but further runoff could occur if issuers call securities.
- Management said estimated available liquidity exceeded $1.2 billion. It identified $608.2 million cash, $186.0 million of estimated Agency MBS financing capacity and $363.4 million of estimated Non-Agency MBS financing capacity; those itemized amounts total about $1.16 billion.
- Repurchase funding is uncommitted and renewable at lenders’ discretion. Margin calls, higher haircuts, counterparty disruption, rising short-term funding costs, interest-rate movements, prepayments and credit losses could impair liquidity, earnings or book value. The company reported compliance with its financial covenants at quarter-end.
- The interest-rate sensitivity analysis estimated that an immediate 100-basis-point rise would reduce projected 12-month net interest income by 3.08% and portfolio value by 0.81%; management cautioned these estimates rely on assumptions and actual outcomes may differ.
- Management estimated nine-month REIT taxable income of $250.9 million and undistributed taxable income of $60.7 million, or $0.15 per share. The first-quarter unwind of an MBS resecuritization was estimated to generate taxable income exceeding $0.12 per share without corresponding GAAP income, illustrating potential differences between taxable and GAAP earnings.
- No Q3 OTTI was recognized in earnings; nine-month 2017 OTTI was $1.0 million. Management reported no material pending legal proceedings and no material changes to the risk factors in its 2016 Form 10-K. The filing provides no specific earnings or dividend guidance.
Key facts for investors to verify
- Reconcile management’s stated liquidity of more than $1.2 billion with the listed sources totaling approximately $1.16 billion, and assess availability under stress.
- Assess the sustainability of earnings and the $0.20 quarterly common dividend against Q3 EPS of $0.15 and the 1.33x payout ratio.
- Review repurchase-agreement maturities, collateral haircuts, counterparty exposure and the ability to meet margin calls; quarter-end borrowings had a weighted average 19-day reset period.
- Evaluate credit and valuation assumptions for whole loans and Non-Agency assets, including the rise in REO and the significant Level 3 loan and MSR-related valuations.
- Track interest-rate and prepayment exposure, CRT volatility, potential RPL/NPL security calls, and the timing of taxable income versus GAAP income and required REIT distributions.