Business context and reporting period
Chimera Investment Corporation is a leveraged mortgage-focused REIT investing in residential mortgage loans, Agency MBS and Non-Agency RMBS. This unaudited Form 10-Q covers the quarter and six months ended June 30, 2019; comparisons are with the corresponding 2018 periods unless noted. Amounts below are U.S. dollars.
Key financial metrics
| Metric | Q2 2019 / June 30, 2019 | Comparison |
|---|---|---|
| Interest income | $339.9 million | Up 11% from $306.4 million |
| Interest expense | $198.1 million | Up 23% from $161.3 million |
| Net interest income | $141.8 million | Down from $145.2 million |
| Net income | $58.8 million | Down from $118.1 million |
| Net income available to common shareholders; diluted EPS | $40.3 million; $0.21 | $108.7 million; $0.58 |
| Core earnings (non-GAAP); per basic share | $98.5 million; $0.53 | $112.1 million; $0.60 |
| Economic net interest income (non-GAAP); spread and margin | $143.5 million; 2.0% spread; 2.3% margin | $146.9 million; 2.5% spread; 2.9% margin |
| Book value per common share | $16.24 | $16.15 at March 31, 2019 |
| Total assets; stockholders’ equity | $27.64 billion; $3.97 billion | Assets were $27.71 billion and equity $3.70 billion at December 31, 2018 |
| Repurchase agreements; securitized debt | $14.51 billion; $8.03 billion | Combined debt was approximately $22.54 billion |
| Cash and cash equivalents | $54.0 million | $47.5 million at December 31, 2018 |
For the six months ended June 30, 2019, net income was $176.9 million and income available to common shareholders was $141.1 million, versus $357.1 million and $338.3 million, respectively, in 2018. Operating cash flow was negative $147.1 million, investing cash flow positive $462.1 million, and financing cash flow negative $308.5 million. Cash increased by $6.5 million. Operating cash use reflected, in part, $203 million paid to terminate swaps and $157 million of derivative margin paid.
Material changes versus the prior comparable period
- Q2 common income fell $68.4 million. Management attributed the decline primarily to $237 million of net derivative losses, partly offset by $191 million of gains on financial instruments at fair value. Six-month derivative losses were $441.7 million, versus gains of $119.0 million in the first half of 2018.
- Interest income increased as the portfolio shifted toward Agency MBS and average Agency MBS balances rose. Higher repo balances and borrowing rates drove much of the increase in interest expense; lower interest income from loans partly offset the revenue increase.
- Economic net interest spread and margin contracted year over year. Management cited higher LIBOR-related financing costs; it also noted the inverted yield curve could pressure spreads and reinvestment returns.
- Portfolio mix at amortized cost was approximately 46% loans, 46% Agency MBS and 6% Non-Agency RMBS at June 30, 2019, compared with 47%, 47% and 5%, respectively, at year-end 2018 (figures are rounded).
- GAAP leverage was 5.7:1 versus 6.1:1 at year-end; recourse leverage was 3.7:1 versus 3.8:1. The Company issued $193 million net proceeds from Series D preferred stock in January 2019.
Outlook, risks and unusual items
- No specific earnings, spread, portfolio or dividend guidance is provided. Management said it would continue pursuing high-yielding investments while managing risk, and intends to pay regular quarterly dividends. The common dividend declared was $0.50 per share for Q2, unchanged from Q2 2018.
- Management reported that the Federal Reserve had signaled possible rate cuts, mortgage rates had declined, and purchase and refinancing activity had increased. It also cited a slowing pace of home-price growth and historically low unemployment. These observations are not formal forecasts.
- The Company terminated swaps with $1.3 billion notional during Q2 and $2.8 billion during the first half, recognizing respective losses of $95 million and $203 million. Derivative losses can vary substantially with interest rates and hedge positioning.
- Liquidity and refinancing risks include short-term repo maturities, collateral haircuts and margin calls. At June 30, $4.98 billion of repo borrowings matured within 1–29 days and $6.71 billion within 30–59 days. Management believed available cash and liquid Agency securities were adequate for anticipated short-term needs, but warned that collateral declines could require asset sales, potentially at a loss.
- Credit risk is material in the loan and Non-Agency portfolios. Non-Agency RMBS were predominantly below B-rated or unrated (92.4%); 15.7% of residential loan unpaid principal was reported in delinquency, bankruptcy, foreclosure or REO categories. These assets and certain debt are valued using significant management assumptions and Level 3 inputs.
- Valuation judgments warrant attention: for ten MBS holdings, internal model values totaling $80 million exceeded third-party prices by $9 million; the Company retained its higher values. A loan pool valued internally at $167 million was $26 million above the third-party price, and the higher internal valuation was used.
- The Company had a $150 million capital commitment to Hains Point, of which $59 million had been funded at quarter-end. It also acquired a subordinate interest in a seasoned Freddie Mac loan pool through the fund; principal and interest are not guaranteed by Freddie Mac. The filing reports no material change to previously disclosed risk factors, no legal proceedings, and no subsequent events.
Important facts for investors to verify
- Whether recurring net interest income and core earnings can support common dividends as spreads and margins narrow.
- How much of reported earnings and book-value movement reflects derivative marks, swap terminations and fair-value changes rather than recurring interest returns.
- Repo renewal, collateral and margin-call exposure, including the concentration of near-term maturities and the adequacy of available liquidity.
- Credit performance, delinquency trends and valuation assumptions for seasoned residential loans and predominantly lower-rated or unrated Non-Agency RMBS.
- The use of internal fair-value estimates that exceeded third-party indications, and the remaining Hains Point commitment and investment risks.