Orchid Island Capital, Inc. — Q2 2022 Form 10-Q
Reporting period: Quarter and six months ended June 30, 2022. Orchid is an externally managed mortgage REIT investing primarily in agency residential mortgage-backed securities (RMBS), funded largely through short-term repurchase agreements.
Financial performance
| Metric | Q2 2022 | Q2 2021 | Six months 2022 | Six months 2021 |
|---|---|---|---|---|
| Interest income | $35.3 million | $29.3 million | $77.1 million | $56.1 million |
| Interest expense | $8.2 million | $1.6 million | $10.8 million | $3.5 million |
| Net interest income | $27.1 million | $27.7 million | $66.3 million | $52.6 million |
| Net portfolio loss | $55.2 million | $13.1 million | $199.2 million | $39.0 million |
| Net loss | $60.1 million | $16.9 million | $208.9 million | $46.2 million |
| Loss per share | $0.34 | $0.17 | $1.18 | $0.50 |
RMBS and Treasury unrealized losses were $170.6 million in Q2 and $480.6 million for the first half; derivative and other hedging instruments generated gains of $103.8 million and $281.6 million, respectively. First-half RMBS sales produced a realized loss of $66.5 million.
For Q2, the GAAP net interest spread was 2.51% versus 2.46% a year earlier; the company-reported economic spread was 2.71% versus 1.99%. For the first half, those spreads were 2.69% and 2.72%, compared with 2.46% and 2.02% in 2021. These economic measures are non-GAAP and should be read alongside GAAP results.
Financial position and liquidity
- At June 30, total assets were $4.47 billion, down from $7.07 billion at December 31, 2021. RMBS at fair value totaled $3.94 billion, compared with $6.51 billion.
- Repurchase-agreement borrowings were $3.76 billion, down from $6.24 billion. Their weighted-average borrowing rate was 1.36%, versus 0.15% at year-end; weighted-average remaining maturity was 27 days.
- Cash and cash equivalents were $219.0 million; restricted cash was $64.4 million. Stockholders’ equity was $506.4 million, down from $768.1 million.
- Six-month cash flows were $184.7 million provided by operations, $2.19 billion provided by investing activities, and $2.54 billion used in financing. Ending cash, cash equivalents and restricted cash totaled $283.4 million. Operating cash flow included substantial noncash fair-value loss adjustments.
- Management said liquidity and capital resources were sufficient for operations, debt repayment and dividends, and reported that all margin-call requirements had been met at June 30. Unpledged securities were approximately $14.7 million, in addition to unrestricted cash.
Material changes and notable items
- Losses widened substantially year over year, principally reflecting sharp declines in RMBS fair values and realized sale losses. Derivative gains partly offset those losses.
- Average RMBS yield increased to 3.31% in Q2 from 2.60% a year earlier, while average funding cost increased to 0.80% from 0.14%. For the first half, average RMBS yield was 3.15% versus 2.63%, and average funding cost was 0.46% versus 0.17%.
- The portfolio’s reported effective duration rose to 5.900 from 3.390 at year-end 2021. The company’s model estimated that a 100-basis-point rate increase would reduce book value by 13.92%, and a 200-basis-point increase by 68.68%; management cautioned that actual outcomes could differ materially.
- Dividends declared were $0.135 per share for Q2 and $0.290 for the first half, versus $0.195 and $0.390 in the comparable 2021 periods. A further $0.045-per-share dividend declared July 13 was payable August 29 and was not reflected in June 30 financial statements.
- Orchid repurchased 876,299 shares during the first half for approximately $2.2 million, at a weighted-average $2.53 per share. No common stock was issued under its at-the-market program during the first half.
Outlook, risks and contingencies
Management described a rapidly tightening monetary-policy environment, persistent inflation, rising rates and widening agency RMBS spreads. It noted that the Federal Reserve had begun reducing its balance sheet and that market participants expected further rate increases; management also discussed recession risk and an inverted Treasury yield curve. Agency RMBS returned negative 3.9% in Q2 and negative 8.8% year to date, while spreads widened sharply. Management said agency RMBS could outperform other fixed-income sectors in a recession, but emphasized uncertainty and weak near-term sector conditions. The filing provides no company-specific earnings or dividend guidance.
Key risks include interest-rate and spread movements, prepayment and extension risk, margin calls, short-term repo refinancing and haircut increases, derivative effectiveness, and counterparty default. TBA settlement or margin requirements could also pressure liquidity. The company relies on fair-value estimates for securities and derivatives. It reported no material pending legal proceedings or known contingencies, no material changes to previously disclosed risk factors, and no material off-balance-sheet arrangements. Management stated disclosure controls were effective.
The company is externally managed by Bimini Advisors. The management agreement runs through February 20, 2023, with extension options; the manager began providing repo trading, clearing and administrative services in April 2022 for additional fees.
Investor verification priorities
- Review the drivers and valuation assumptions behind RMBS fair-value losses, derivative gains and the sharp decline in equity and portfolio size.
- Assess the rate-sensitivity estimates against the portfolio’s higher reported duration, actual hedge positions and the filing’s model limitations.
- Verify repo renewals, borrowing costs, collateral haircuts, margin-call capacity and counterparty exposure given the 27-day average maturity.
- Evaluate dividend coverage and sustainability against GAAP losses, taxable income requirements, cash needs and the post-quarter dividend declaration.
- Review the non-GAAP economic interest measures and related-party management and repo-service fees alongside reported GAAP results.