Invesco Mortgage Capital Inc. quarterly report, Q3 FY2023

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Invesco Mortgage Capital Inc. — Q3 2023 Form 10-Q

Business context and period. This externally managed mortgage REIT invests primarily in mortgage-backed securities (MBS). The filing covers the quarter and nine months ended September 30, 2023. At quarter-end, about 98% of its investment portfolio was 30-year fixed-rate Agency RMBS.

Financial performance and position

  • Q3 results: Interest income was $75.1 million, up from $49.7 million a year earlier; interest expense was $65.7 million, versus $18.0 million. Net interest income fell to $9.4 million from $31.7 million. Net loss was $68.6 million, and net loss attributable to common stockholders was $74.0 million, or $1.62 per share, compared with a $94.6 million common-stockholder loss, or $2.78 per share, in Q3 2022.
  • Nine-month results: Interest income was $215.8 million and interest expense was $174.4 million, yielding $41.4 million of net interest income. Net loss was $43.1 million; common-stockholder loss was $59.8 million, or $1.40 per share, versus a $447.6 million loss, or $13.42 per share, in the 2022 period.
  • Investment and hedge results: Q3 investment losses were $224.9 million, including $191.8 million of unrealized MBS losses, while derivative gains were $151.7 million. For the nine months, investment losses were $272.6 million and derivative gains were $203.4 million. The company attributed MBS valuation losses primarily to higher rates and wider spreads.
  • Margins and adjusted earnings: GAAP net interest rate margin was 0.11% for Q3 and 0.56% year to date, down from 2.51% and 2.82%, respectively, a year earlier. Management’s non-GAAP effective margin, which incorporates swap interest, was 5.84% for Q3 and 5.57% year to date. Non-GAAP earnings available for distribution were $69.2 million, or $1.51 per common share, for Q3 and $190.0 million, or $4.46 per share, for nine months. The company cautions this measure is not GAAP earnings, cash flow, taxable income, or a guarantee of dividends.
  • Balance sheet and leverage: Total assets were $5.83 billion and stockholders’ equity was $785.0 million. Repurchase-agreement borrowings were $5.0 billion, at a 5.43% quarter-end weighted average rate and 24-day remaining average maturity. Debt-to-equity was 6.4x, versus 5.3x at December 31, 2022. Book value per common share declined 22%, to $9.93 from $12.79.
  • Liquidity and cash flow: Cash, cash equivalents, and restricted cash totaled $359.7 million, including $173.9 million unrestricted cash; the company also reported about $218.3 million of unencumbered investments. Nine-month operating cash flow was $206.1 million, investing cash outflow $899.8 million, and financing cash inflow $774.6 million. The company raised $109.1 million net through common-stock sales during the period.
  • Dividends: The Q3 common dividend was $0.40 per share. Series B and C preferred dividends were $0.4844 and $0.46875 per share, respectively. Common shares outstanding increased to 48.46 million from 38.71 million at year-end 2022.

Material changes and management commentary

  • Higher short-term rates drove up funding costs substantially, while rotation into higher-yielding Agency RMBS lifted asset yields. Management said the funding-cost increase compressed GAAP net interest income and margin; swap receipts partly offset financing costs in its non-GAAP effective measures.
  • Agency RMBS underperformed similar-duration Treasuries during Q3 amid rising rates and volatility. The Federal Funds target range was 5.25%–5.50% at quarter-end, and the 10-year Treasury yield rose 73 basis points during the quarter to 4.57%.
  • Management described near-term conditions as volatile but said lower volatility, attractive valuations, and improving supply-demand dynamics could support Agency RMBS opportunities over time. This is commentary, not quantified earnings or dividend guidance.
  • The company reported that it was in compliance with repurchase-agreement financial covenants. It had no material legal proceedings and reported no material changes to previously disclosed risk factors.

Risks, contingencies, and unusual items

  • Repurchase financing is short term and generally repriced at maturity. A decline in collateral values or higher haircuts can trigger margin calls; failure to renew financing could require asset sales or repayment. Repurchase collateral was 105% of borrowings at quarter-end.
  • Interest-rate, spread, prepayment, and extension risks can affect both asset values and income. Management’s static sensitivity analysis estimated that a parallel 100-basis-point rate rise would reduce projected portfolio value by 0.36% and projected net interest income by 0.07%; actual outcomes may differ.
  • Management believed short-term liquidity was sufficient, but said longer-term liquidity depends on obtaining additional debt financing. It also cautioned that sufficient liquidity to meet margin calls cannot be assured.
  • The remaining affiliate-managed unconsolidated venture is in liquidation; the company may be required to contribute up to $2.9 million for future expenses. A $212,000 credit-loss allowance was recorded on one non-Agency CMBS during the first nine months.
  • Common-stock issuance supported capital and increased the share count. Preferred-stock repurchases were substantially lower than in the comparable 2022 period. The company’s REIT status generally requires annual distributions of at least 90% of REIT taxable income; that amount is not the same as GAAP earnings or earnings available for distribution.

Important facts for investors to verify

  1. Whether refinancing remains available on acceptable terms for the $5.0 billion of short-term repurchase borrowings, and how margin requirements or haircuts change.
  2. Whether swap income and asset yields continue to offset rising funding costs, and how much reported earnings depend on volatile fair-value and derivative results.
  3. How book value, leverage, and common shares outstanding evolve after the 22% book-value-per-share decline and 2023 equity issuance.
  4. Whether non-GAAP earnings available for distribution translate into sustainable cash dividends; it is not a substitute for GAAP earnings, cash flow, or REIT taxable income.
  5. Developments in rates, Agency MBS spreads, prepayment assumptions, and the liquidation and potential $2.9 million funding obligation of the unconsolidated venture.