Chimera Investment Corporation — Q3 2017 Form 10-Q
Reporting period: Quarter and nine months ended September 30, 2017. Chimera is an internally managed mortgage REIT investing on a leveraged basis in mortgage-backed securities and residential mortgage loans.
Financial performance and position
| Metric | Q3 2017 | Q3 2016 | Nine months 2017 | Nine months 2016 |
|---|---|---|---|---|
| Net interest income | $156.5 million | $156.0 million | $448.3 million | $432.1 million |
| Net income | $139.2 million | $172.8 million | $417.1 million | $330.0 million |
| Net income available to common shareholders | $129.8 million | $172.8 million | $393.0 million | $330.0 million |
| Diluted earnings per common share | $0.69 | $0.92 | $2.09 | $1.76 |
| Common dividends declared per share | $0.50 | $0.48 | $1.50 | $1.94 |
- Margins: Economic net interest income, a non-GAAP measure, was $152.8 million in Q3 and $436.1 million year to date. Economic net interest spread was 2.7% in Q3 versus 3.6% a year earlier; net interest margin was 3.2% versus 3.9%. Nine-month spread and margin were 2.8% and 3.3%, respectively, versus 3.4% and 3.8%.
- Balance sheet at September 30: Total assets were $21.2 billion, liabilities $17.5 billion, and stockholders’ equity $3.65 billion. Cash and cash equivalents were $38.1 million, down from $177.7 million at year-end 2016.
- Portfolio and leverage: Loans held for investment were $13.5 billion, or approximately 67% of interest-earning assets; Agency MBS were 22% and Non-Agency RMBS 11%. Total debt was approximately $16.6 billion; GAAP leverage was 4.6:1 and recourse leverage 1.8:1. Book value per common share was $16.92, up from $16.54 at June 30, 2017.
- Cash flow, nine months: Operating activities provided $309.2 million; investing activities used $4.1 billion; financing activities provided $3.6 billion. Cash declined by $139.7 million over the period.
- Funding costs: Average cost of funds, including realized swap losses, was 3.6% in Q3 versus 2.9% in Q3 2016. Repurchase agreements totaled $6.71 billion; securitized debt collateralized by loans was $9.68 billion at fair value.
Material changes versus comparable periods
- Q3 common earnings fell by $43 million year over year, chiefly because unrealized derivative gains and unrealized gains on fair-value instruments were lower. For the nine months, common earnings rose by $63 million, reflecting higher fair-value gains and lower swap-termination losses, partly offset by a $95 million one-time item in 2016 that did not recur and higher 2017 debt-extinguishment losses.
- Interest income increased 18% in Q3 and 24% year to date, largely from growth in residential mortgage loans. Interest expense rose 48% in Q3 and 61% year to date as loan securitization debt and borrowing balances grew and rates increased.
- The company continued shifting from more interest-rate-sensitive MBS toward residential credit assets. Loans rose from 56% of interest-earning assets at year-end 2016 to 67% at September 30, 2017; Agency MBS and Non-Agency RMBS shares declined.
- In February 2017, Chimera issued $325 million liquidation preference of 8% Series B preferred stock, receiving $314 million net proceeds. Preferred dividends reduced earnings available to common shareholders.
- Common dividends declared were $1.50 per share year to date, versus $1.94 in the comparable 2016 period, which included a $0.50 special dividend.
Outlook, risks and unusual items
- Management described continued investment in residential credit assets and stated it seeks high-yielding opportunities that support a durable dividend while managing risk and protecting book value. The filing provides no specific earnings or dividend guidance.
- Management said the third-quarter Treasury market was volatile and LIBOR rates increased. It reported continued strength in home prices and low mortgage rates, but noted higher rates and borrowing costs can compress spreads; hedges may not fully offset the impact.
- Hurricanes Harvey and Irma could raise delinquencies or delay mortgage-backed security payments for affected loans, including properties that may lack flood insurance. Management did not expect a significant ultimate financial-statement impact, while noting servicers were still assessing affected properties.
- Residential loans carried at fair value increased to $13.5 billion. About 10.1% of their unpaid principal was delinquent or in bankruptcy, foreclosure, or REO at September 30, compared with 12.9% at year-end 2016. Loan fair values rely on significant management estimates and Level 3 inputs.
- Non-Agency RMBS remain credit-sensitive: 62.4% of the portfolio was rated below B and 31.0% was unrated. Credit impairment losses were $43.7 million year to date.
- Q3 included $3.4 million of deal expenses related to loan securitizations. Year-to-date results included a $48.0 million loss on extinguishment of loan-collateralized securitized debt. A further $811 million of securitized debt was retired and new debt issued after quarter-end.
- Repurchase financing creates renewal, collateral valuation and margin-call risk. One counterparty, Credit Suisse, represented an amount at risk of $404 million, or 11% of equity, at quarter-end. The company also disclosed $518 million of unfunded construction-loan commitments, primarily payable within one year.
- The company reported no material change to its previously disclosed risk factors, no legal proceedings, and effective disclosure controls. It identified no material capital expenditure commitments.
Important facts for investors to verify
- Whether loan portfolio growth and credit performance support earnings and book value, and how much reported income depends on fair-value estimates.
- Whether spread and margin compression continues as LIBOR and funding costs rise, and whether hedges adequately limit interest-rate exposure.
- Liquidity capacity under repo maturities, collateral haircuts and potential margin calls, including counterparty concentration and the $518 million in unfunded commitments.
- The sustainability of common dividends relative to core earnings, taxable income and preferred dividend obligations; core earnings were $0.62 per common share in Q3.
- The impact and terms of the post-quarter $811 million debt retirement and replacement, and the significance of hurricane-related delinquencies as servicing assessments develop.