Chimera Investment Corporation — Q2 2016 Form 10-Q
Reporting period: Quarter and six months ended June 30, 2016. Amounts are in U.S. dollars; financial statement amounts are generally in millions unless stated otherwise. Chimera is a leveraged mortgage REIT investing in Agency and Non-Agency mortgage-backed securities (MBS) and residential mortgage loans.
Financial results and position
| Metric | Q2 2016 / June 30, 2016 | Comparable period / prior year-end |
|---|---|---|
| Revenue: interest income | $221.1 million | $215.8 million in Q2 2015 |
| Net interest income | $137.9 million | $149.8 million in Q2 2015 |
| Net income; diluted EPS | $74.1 million; $0.39 | $116.2 million; $0.57 in Q2 2015 |
| Economic net interest income (non-GAAP) | $129.4 million; 3.4% net interest rate spread | $142.3 million; 3.6% in Q2 2015 |
| Core earnings (non-GAAP) | $95.5 million; $0.51 per basic share | $116.7 million; $0.57 in Q2 2015 |
| Total assets; stockholders’ equity | $17.59 billion; $2.96 billion | $15.34 billion; $2.95 billion at Dec. 31, 2015 |
| Cash and cash equivalents | $67.4 million | $114.1 million at Dec. 31, 2015 |
| Debt and leverage | $13.82 billion total repurchase and securitized debt; 4.7x GAAP leverage | $11.69 billion; 4.0x at Dec. 31, 2015 |
For the first six months, net interest income was $276.1 million versus $332.4 million in 2015, and net income was $157.2 million versus $183.2 million. Diluted EPS was $0.84 versus $0.89. Economic net interest income was $255.9 million versus $309.5 million; the reported net interest margin was 3.8% versus 4.2%.
Six-month operating cash flow was $114.2 million, investing cash flow was negative $2.0 billion, and financing cash flow was positive $1.8 billion. Cash declined by $46.6 million from year-end. The company declared $0.48 per common share for Q2; six-month declared dividends totaled $1.46 per share, including a $0.50 special dividend.
Material changes versus comparable periods
- Q2 net income fell $42 million year over year, mainly reflecting higher losses on swap terminations and lower net interest income. Six-month net income was also lower, despite a one-time $95 million recovery and higher gains on financial instruments at fair value.
- Six-month derivative losses were $184.3 million versus $66.5 million in 2015; Q2 derivative losses were $47.8 million versus a $40.1 million gain. The company paid $60 million to terminate swaps with $2.3 billion notional during Q2; six-month termination payments were $61 million on $3.3 billion notional.
- Management shifted the portfolio toward seasoned subprime residential mortgage loans, selling Agency MBS to fund purchases. Securitized loans held for investment rose to $9.21 billion from $4.77 billion at year-end; Agency MBS declined to $4.48 billion from $6.51 billion. In Q2, Chimera acquired about $5.0 billion unpaid principal of seasoned subprime loans and consolidated the related trusts.
- Net interest income was pressured by higher funding expense and a changed asset mix. Q2 interest expense increased 26% year over year; management cited higher short-term rates, a flatter yield curve, and greater financing of non-Agency assets. The six-month net interest spread and margin also narrowed.
- GAAP leverage increased to 4.7x from 4.0x, reflecting growth in securitized debt associated with the loan strategy. Recourse leverage was reported at 2.0x at June 30, versus 2.5x at year-end in the portfolio table.
Outlook, risks, contingencies, and unusual items
- Outlook: No numerical earnings or dividend guidance was provided. Management said it would adjust asset allocation with market conditions, seek risk-adjusted returns and income to support dividends, and expects to meet short-term liquidity needs from portfolio cash flows and financing. The filing cautions that distributions depend on taxable income, financing obligations, and Board decisions.
- Funding and liquidity: Repurchase agreements totaled $5.86 billion, generally short-term and subject to renewal, collateral haircuts, and margin calls. A decline in collateral values could create liquidity needs or force asset sales. One repo counterparty represented 16% of equity in amount at risk ($460 million). Cash was $67.4 million at quarter-end.
- Credit and valuation: Non-Agency RMBS are exposed to mortgage credit performance; 90.3% of that portfolio was rated below B or not rated. Seasoned subprime loans had $756.7 million of principal in reported delinquency, bankruptcy, foreclosure, or REO categories. Significant assets and related debt use Level 3 fair-value estimates based on management assumptions, making reported values sensitive to defaults, loss severity, prepayments, and discount rates.
- Interest-rate risk: Rising funding costs may outpace yields on fixed-rate assets; prepayment, extension, basis, and hedge mismatch risks can affect earnings and book value. Management’s Agency MBS sensitivity analysis estimated annual economic net interest income would decline 16.85% under a 100-basis-point rate decrease and increase 17.02% under a 100-basis-point increase; modeled portfolio value would rise 1.39% and fall 2.10%, respectively. These are estimates, not forecasts.
- Unusual item: A $95 million recovery from remedies related to prior Non-Agency RMBS accounting and financial-statement restatement matters was recognized in the first quarter and characterized as taxable income. The filing says those matters were resolved in Q1 2016.
- Contingencies and controls: Management reported no contingencies requiring accrual or disclosure and no subsequent events. It reported effective disclosure controls and no material second-quarter change in internal control over financial reporting. Risk factors were unchanged from the 2015 Form 10-K.
Most important facts for investors to verify
- Whether the shift into seasoned subprime loans sustains yields without worsening delinquencies, credit losses, or fair-value estimates.
- Whether narrowing spreads and higher funding costs continue to pressure economic net interest income and dividend coverage.
- How much derivative losses reflect cash settlement and swap termination decisions versus changes in unrealized values, and how effective remaining hedges are.
- Liquidity and collateral capacity under repo renewals, margin calls, and counterparty stress, particularly given low cash and the disclosed concentration.
- The recurring earnings and cash-flow contribution of the $95 million recovery, which was a one-time item, and the sustainability of the declared dividend.