Business context and reporting period
AGNC Investment Corp. (then American Capital Agency Corp.) filed this unaudited Form 10-Q for the quarter ended March 31, 2014. The externally managed REIT primarily invests, on a leveraged basis, in agency mortgage-backed securities (MBS), financing holdings mainly through repurchase agreements. Its stated objectives include preserving net asset value and generating returns for stockholders.
Financial results and position
Amounts are in millions of dollars, except per-share data and ratios.
| Metric | Q1 2014 / March 31, 2014 | Comparable period / December 31, 2013 |
|---|---|---|
| Interest income | $399 | $547 in Q1 2013 |
| Net interest income | $291 | $407 in Q1 2013 |
| Net income (loss) attributable to common shareholders | $(144); $(0.41) per share | $228; $0.64 per share in Q1 2013 |
| Comprehensive income (loss) attributable to common shareholders | $420; $1.18 per share | $(560); $(1.57) per share in Q1 2013 |
| Common dividend declared per share | $0.65 | $1.25 in Q1 2013 |
| Total assets | $67,318 | $76,255 |
| Total liabilities | $58,504 | $67,558 |
| Stockholders’ equity | $8,814 | $8,697 |
| NAV per common share | $24.49 | $23.93 |
| Repurchase agreements and other debt | $50,603 | $64,443 |
| Cash and cash equivalents | $1,726 | $2,143 |
Net interest rate spread averaged 1.19%, versus 1.52% in Q1 2013; including estimated TBA dollar-roll income, the spread was 1.43%, versus 1.87%. Average cost of funds was 1.35%, compared with 1.28%. The company reported Q1 economic return of 5.1% (20.5% annualized), comprising a $0.56 increase in NAV per common share and a $0.65 dividend.
Operating cash flow was $488; investing activities provided $13,244 and financing activities used $14,149. Cash and cash equivalents decreased by $417 during the quarter. Quarter-end agency MBS fair value was $56.4 billion, down from $65.9 billion. GAAP leverage was 5.9:1 and “at risk” leverage, including net TBA positions, was 7.6:1. The company reported a $14.1 billion net long TBA position.
Material changes versus comparable periods
- Common-shareholder GAAP results shifted from $228 million income in Q1 2013 to a $144 million loss in Q1 2014, principally as net derivative and other securities losses increased to $378 million from $98 million.
- Net interest income fell by $116 million year over year. Management attributed the decline mainly to a smaller average portfolio and lower asset yields; lower average repo balances partly reduced funding expense, while cost of funds increased.
- Other comprehensive income was $564 million, primarily reflecting a $521 million unrealized gain on available-for-sale securities. This helped lift comprehensive income despite the GAAP net loss.
- Quarter-end GAAP leverage declined from 7.3:1 at December 31, 2013 to 5.9:1, while at-risk leverage rose slightly from 7.5:1 to 7.6:1 as the net long TBA position expanded.
- Common dividends declared fell to $0.65 per share from $1.25 in Q1 2013. The company repurchased 3.4 million common shares for $74 million at an average $22.10 per share.
Outlook, commentary, risks and unusual items
Management described Q1 2014 fixed-income markets as more stable, with agency MBS prices generally higher amid lower long-term rates and lower implied volatility. It said the portfolio’s positioning, including a larger share of 15-year MBS and a larger duration gap, contributed to results. The filing provides no specific earnings or dividend guidance. Management said it believed liquidity and capital resources were sufficient for investments, debt repayments, margin requirements and dividends, but cautioned that repo financing may not be renewable on favorable terms or available at maturity.
- Key risks include interest-rate and yield-curve changes, mortgage prepayment and extension behavior, MBS spread widening, leverage, repo refinancing and margin calls, TBA settlement or margin requirements, and counterparty defaults. Hedges may not protect against spread risk and may be ineffective or costly.
- Management’s modeled +100 basis-point parallel rate shock at March 31 estimated a 12.2% decline in NAV; a 25-basis-point widening in MBS spreads estimated a 10.2% decline in NAV. These are model-based estimates, assume a static portfolio, and actual outcomes may differ materially.
- Available-for-sale agency MBS had $903 million of gross unrealized losses at quarter-end. The company reported no other-than-temporary impairment, attributing losses to interest rates and prepayment expectations rather than credit losses, and said it did not expect to be forced to sell before recovery.
- Estimated taxable income available to common shareholders was $167 million, or $0.47 per share. The company had $1.7 billion ($4.77 per common share) of remaining prior-year capital loss carryforwards; management noted that future use could affect dividend tax characterization.
- Subsequent event: on May 8, 2014, AGNC completed an offering of 7.0 million depositary shares representing Series B preferred stock, raising approximately $169 million net of offering expenses. The preferred shares carry a 7.750% annual dividend rate.
- The filing reported no material litigation, no material changes to previously disclosed risk factors, and effective disclosure controls as of March 31, 2014.
Important facts for investors to verify
- Whether lower net interest income and the reduced common dividend are sustainable, considering asset yields, funding costs, portfolio size and leverage.
- How much of reported returns depends on realized and unrealized derivative results, MBS valuation changes and TBA dollar-roll income.
- Whether the stated liquidity resources and repo counterparties can withstand higher haircuts, adverse margin calls or reduced financing availability.
- How interest-rate, spread and prepayment assumptions change, and how those changes affect NAV, premium amortization and modeled risk sensitivities.
- The final tax characterization of dividends and the effects of capital loss carryforward usage and the Series B preferred issuance.