Pennymac Mortgage Investment Trust quarterly report, Q3 FY2022

PennyMac Mortgage Investment Trust — Q3 2022 Form 10-Q

Reporting period: Quarter and nine months ended September 30, 2022. PMT is a specialty finance company investing primarily in residential mortgage-related assets. Its four segments are credit-sensitive strategies, interest-rate-sensitive strategies, correspondent production and corporate. Amounts below are U.S. dollars; financial statement amounts are in millions unless noted.

Financial performance and position

Metric	Q3 2022	Comparable period / context
Net investment income	$151.1	$47.9 in Q3 2021
Pretax income (loss)	$90.4	$(40.7) in Q3 2021
Net income (loss)	$11.9	$(36.0) in Q3 2021
Net income attributable to common shareholders; diluted EPS	$1.5; $0.01	$(43.9); $(0.45) in Q3 2021
Net interest expense; net interest margin	$4.4 expense; (0.19)%	$17.2 expense; (0.65)% in Q3 2021
Common dividend per share	$0.47	$0.47 in Q3 2021

Nine-month results: Net investment income was $254.4 versus $370.8 in 2021; net loss was $78.0 versus net income of $73.7; loss attributable to common shareholders was $109.3 versus income of $53.3. Diluted EPS was $(1.19) versus $0.54.
Balance sheet at September 30: Assets were $13.95 billion, liabilities $11.93 billion and shareholders’ equity $2.02 billion. Book value was $16.18 per common share, down from $19.05 at year-end 2021. Common shares outstanding were 90.1 million.
Liquidity and cash flow: Cash was $58.9 million and short-term investments $352.3 million. For the first nine months, operating cash flow was $1.28 billion, investing cash flow $(1.34) billion, financing cash flow $67.1 million and the net cash decrease $52,000. Operating cash flow was substantially affected by correspondent-loan inventory flows.
Debt and leverage: Total debt was approximately $11.25 billion, including $6.41 billion under repurchase agreements, $2.83 billion of notes secured by CRT and servicing assets, $1.42 billion of nonrecourse VIE asset-backed financing, and $545.5 million of exchangeable notes. Reported debt-to-equity was 5.6:1 including nonrecourse debt and 4.9:1 excluding it. Repo borrowings had a 3.81% weighted-average rate at quarter-end; PMT reported $4.65 billion of available repo borrowing capacity, including $159.6 million committed.
Margins and returns: Net interest spread was 0.59% for Q3 and 0.46% for the nine-month period. Annualized return on average common equity was 0.4% for Q3 and (8.9)% for the first nine months.

Material changes versus comparable periods

Q3 pretax results improved by $131.0 million year over year, while nine-month pretax income declined by $4.4 million. Management attributed the quarterly improvement mainly to better MSR valuation and hedging results, partly offset by investment losses and weaker correspondent production results.
MSR fair value rose to $3.94 billion from $2.89 billion at year-end 2021. Its $504.5 million nine-month valuation gain and $87.7 million of MSR hedging losses contributed to servicing results; MSR and hedging effects together were positive $430.1 million for the nine months.
MBS valuation losses were $251.5 million in Q3 and $620.5 million for nine months, compared with losses of $18.6 million and $60.5 million in the respective 2021 periods. Management cited rising interest rates and wider mortgage and credit spreads.
CRT-related investment results were $11.3 million of income in Q3 but a $64.0 million loss for nine months, versus $74.0 million and $326.4 million of income in 2021. Management cited widening credit spreads and macroeconomic uncertainty.
Correspondent loan purchases fell to $67.4 billion for nine months from $147.4 billion. Net gains on loans acquired for sale declined to $15.9 million from $96.9 million; loan origination fees fell to $42.4 million from $142.8 million. Lower production reflected reduced mortgage demand as rates rose.
Repo financing costs increased: the Q3 weighted-average repo rate was 3.09% versus 1.29% in Q3 2021; the quarter-end rate was 3.81% versus 1.08% at year-end 2021. Total liabilities increased about $523 million from year-end, while equity decreased about $350 million.

Outlook, risks and unusual items

Management cited Federal Reserve rate increases and expected further near-term increases. It referenced an external forecast that mortgage origination volume would fall from $4.4 trillion in 2021 to $2.4 trillion in 2022. Lower production, increased competition, financing costs and agency pricing or capital rules could pressure results. The filing provides no specific company earnings or EPS guidance.
Results are highly exposed to interest rates, prepayments, credit spreads, home prices, borrower performance and the fair-value assumptions used for MSRs, MBS and CRT positions. Most MSRs and several other material assets and liabilities rely on Level 3 fair-value inputs. A 5% adverse change in MSR prepayment speed was estimated to reduce MSR value by $52.1 million; a 50-basis-point rate increase was estimated to reduce MBS value by $102.5 million.
Repo agreements are short-term and subject to collateral valuation and margin calls. Management said debt covenants were met at September 30, and that agreements maturing before the filing date had been extended or renewed. A CRT note with a stated October 2022 maturity was extended during October. Liquidity, financing availability and covenant compliance remain important risks.
Income tax expense was $78.5 million on Q3 pretax income of $90.4 million; the effective tax rate was 86.8%. For nine months, tax expense was $146.5 million on pretax income of $68.6 million, a 213.7% effective rate. Management said TRS income primarily reflected MSR fair-value increases; the deferred-tax valuation allowance was reduced to zero from $3.4 million.
Representation-and-warranty liability was $39.5 million, against $225.1 billion of loan UPB subject to representations and warranties. Management warned rising rates and a potential slowdown could increase repurchases and losses, though it considered the recorded liability adequate. Litigation was described as ordinary-course, with no material legal actions reported at September 30.
LIBOR discontinuation could affect financing costs, earnings, asset values and contract fallback interpretations. The company also faces REIT qualification and distribution requirements, related-party dependence on PFSI affiliates, and borrower delinquency, disaster, regulatory and cybersecurity risks.
Common dividends remained $0.47 per share for Q3. PMT repurchased 987,000 common shares for $13.5 million during the quarter. On October 24, 2022, the board increased the repurchase authorization from $400 million to $500 million.
PMT adopted ASU 2020-06 on January 1, 2022, reclassifying approximately $50.3 million related to exchangeable-note conversion options and reducing reported interest expense by $1.8 million for Q3 and $5.3 million for nine months.

Most important facts for investors to verify

Whether MSR valuation gains and associated hedge performance remain favorable, and how sensitive reported equity and earnings are to rate, prepayment and servicing-cost assumptions.
Whether MBS and CRT valuation losses, credit-spread widening and any worsening borrower performance continue; review CRT exposure and collateral trends.
How rapidly correspondent production, gain-on-sale margins and fee income respond to the weaker mortgage market.
Near-term refinancing and margin-call needs, committed versus uncommitted borrowing capacity, covenant headroom and the status of debt extensions.
The sustainability of the $0.47 common dividend relative to cash earnings, REIT distribution needs, leverage and share repurchases.
Future TRS taxable income, unusually high effective tax rates, and any changes to deferred-tax-asset realizability or REIT status.
Potential representation-and-warranty losses, LIBOR transition effects, and the terms and economics of related-party servicing, management and fulfillment arrangements.