PennyMac Mortgage Investment Trust — Q3 2018 Form 10-Q
Business context and reporting period. This unaudited filing covers the quarter and nine months ended September 30, 2018. PennyMac is an externally managed mortgage REIT investing in residential mortgage-related assets. Its businesses include correspondent loan production, credit-sensitive investments, and interest-rate-sensitive investments, including mortgage servicing rights (MSRs), mortgage-backed securities (MBS), and credit risk transfer (CRT) investments.
Financial performance and position
| Metric | Q3 2018 | Q3 2017 | Nine months 2018 | Nine months 2017 |
|---|---|---|---|---|
| Net investment income | $108.5 million | $75.8 million | $267.2 million | $224.2 million |
| Net income | $46.6 million | $19.4 million | $111.2 million | $76.9 million |
| Net income attributable to common shareholders | $40.3 million | $13.3 million | $92.5 million | $67.9 million |
| Diluted EPS | $0.62 | $0.20 | $1.44 | $0.98 |
| Common dividend declared per share | $0.47 | $0.47 | $1.41 | $1.41 |
| Net interest income | $15.7 million | $11.3 million | $34.2 million | $36.2 million |
| Net interest margin / spread | 1.15% / 1.08% | 0.93% / 0.61% | 0.96% / 0.85% | 1.02% / 0.79% |
- At September 30, 2018, total assets were $7.27 billion, liabilities $5.71 billion, and shareholders’ equity $1.56 billion. Total assets were $5.60 billion and equity $1.54 billion at year-end 2017.
- Cash was $88.9 million. Reported borrowings were approximately $5.54 billion, and the leverage ratio was 3.56x, compared with 2.55x at December 31, 2017.
- Repurchase-agreement debt was $4.39 billion. Reported available repurchase borrowing capacity was $2.51 billion, including $564 million committed and $1.95 billion uncommitted.
- For the first nine months, operating cash flow was negative $801.4 million, investing cash flow negative $682.1 million, and financing cash flow positive $1.49 billion; cash increased $11.3 million to $88.9 million. Management attributes the operating outflow mainly to mortgage-loan inventory and investing outflow to increased MBS purchases.
- Book value per common share was $20.48, versus $20.13 at year-end 2017.
Material changes versus comparable periods
- Q3 net income increased to $46.6 million from $19.4 million; nine-month net income rose to $111.2 million from $76.9 million. Management cites stronger MSR results, CRT gains, loan origination fees, and higher Q3 net interest income.
- Net mortgage servicing fees rose to $44.4 million for Q3 and $128.1 million year to date, from $21.9 million and $49.3 million. The increase reflected a larger servicing portfolio and generally rising rates, which supported MSR values.
- Investment gains declined: net gain on investments was $9.7 million for Q3 and $35.2 million year to date, versus $13.8 million and $58.1 million. Rising rates contributed to MBS valuation losses of $19.0 million in Q3 and $50.3 million year to date; distressed-loan and VIE loan valuations also weakened.
- Q3 net interest income improved year over year, but nine-month net interest income declined. Management cites a shift from higher-yielding distressed loans toward lower-yielding MBS and loans held for sale, as well as increased financing. Q3 and year-to-date interest expense included $5 million and $11 million, respectively, of financing incentives.
- The portfolio continued shifting away from distressed assets toward correspondent-generated investments: MBS grew to $2.13 billion from $989 million, MSRs to $1.11 billion from $845 million, while mortgage loans at fair value fell to $633 million from $1.09 billion and REO to $96 million from $163 million.
Outlook, risks, and unusual items
- The filing provides no specific earnings or dividend guidance. Management says continued portfolio growth depends on sourcing loans, financing availability, liquidity, and potentially additional equity capital. It expects to use short-term financing for much of the portfolio while pursuing longer-term funding where available.
- Interest-rate movements affect MBS, MSR, and loan valuations differently. MSRs can lose value when rates fall and refinancing increases; MBS values declined during the period as rates rose. Credit risk, prepayments, home prices, distressed-loan resolution, and fair-value assumptions also affect results.
- Earnings include substantial noncash items: disclosed noncash items were 113% of net investment income in Q3 and 120% year to date. Fair-value estimates rely materially on Level 3 inputs, and reported income may not correspond to current-period cash generation.
- Effective January 1, 2018, PMT changed all MSRs to fair-value accounting. The transition increased MSR assets by $19.7 million, income taxes payable by $5.3 million, and opening equity by $14.4 million.
- Beginning in June 2018, PMT entered a new CRT structure involving firm commitments to purchase credit-risk-transfer securities. At September 30, the commitment’s face amount was $294.7 million and its fair value was $18.7 million. Related credit-loss exposure remains a key risk.
- Repurchase facilities have short maturities, collateral and margin-call provisions, and lender termination risk. A consumer-relief repurchase facility providing the noted interest incentives is terminable by the lender and runs on rolling six-month terms through August 2019.
- At September 30, contractual obligations totaled $8.34 billion, including $1.68 billion of loan-purchase commitments, $578.5 million of CRT deposit-funding commitments, and $294.7 million of CRT security purchase commitments. October subsequent events included funding the CRT deposit obligation using repurchase financing and agreements to sell approximately $300 million UPB of distressed loans, subject to conditions.
- Management reported no material legal proceedings, no material changes to previously disclosed risk factors, and effective disclosure controls. The filing states no off-balance-sheet arrangements.
Important facts for investors to verify
- How much of reported earnings and common-shareholder returns came from recurring cash flows versus fair-value changes and other noncash items.
- Whether the growth in leverage and reliance on short-term repurchase funding remain manageable, including committed versus uncommitted capacity, collateral haircuts, margin calls, and facility renewals.
- The assumptions and sensitivity of the $1.11 billion MSR valuation and other material Level 3 assets, particularly to rates, prepayments, and credit spreads.
- The cash funding needs and realized credit performance of CRT agreements and the new securities-purchase commitment, including the October deposit financing.
- Whether the $0.47 quarterly common dividend is supported by recurring cash generation, given the REIT distribution requirement and the filing’s negative operating and investing cash flows.
- The completion, pricing, and final size of the proposed October distressed-loan sales; the filing says these transactions remained subject to due diligence and closing conditions.