AGNC Investment Corp. — Q3 2018 Form 10-Q
Reporting period: Quarter and nine months ended September 30, 2018; comparisons are to the corresponding 2017 periods unless otherwise noted. AGNC is a leveraged mortgage REIT, investing primarily in Agency residential mortgage-backed securities (RMBS) and funding investments mainly through repurchase agreements.
Financial performance and position
| Metric | Q3 2018 | Q3 2017 | Nine months 2018 | Nine months 2017 |
|---|---|---|---|---|
| Interest income | $500 million | $318 million | $1,345 million | $907 million |
| Interest expense | $312 million | $140 million | $755 million | $350 million |
| Net interest income | $188 million | $178 million | $590 million | $557 million |
| Net income | $216 million | $286 million | $933 million | $386 million |
| Net income available to common stockholders | $207 million | $271 million | $906 million | $357 million |
| Diluted earnings per common share | $0.45 | $0.74 | $2.16 | $1.03 |
| Common dividends declared per share | $0.54 | $0.54 | $1.62 | $1.62 |
- Spread and funding: Q3 economic asset yield, excluding catch-up premium amortization, was 3.18%; aggregate cost of funds was 1.88%, producing a 1.30% net interest spread. The comparable 2017 Q3 spread was 1.41%. These are company-defined non-GAAP measures.
- Cash flow, nine months: Operating activities provided $840 million (2017: $935 million); investing activities used $16.957 billion (2017: $6.155 billion); financing activities provided $16.281 billion (2017: $5.330 billion). Cash, cash equivalents and restricted cash totaled $1.527 billion at period end.
- Balance sheet, September 30: Total assets were $92.031 billion, liabilities $82.404 billion and stockholders’ equity $9.627 billion. Investment securities at fair value were $72.365 billion; repurchase agreements were $65.734 billion. Unrestricted cash was $1.071 billion.
- Leverage and book value: Tangible net book value per common share was $18.00, down from $19.69 at December 31, 2017; reported net book value per share was $19.10 versus $21.09. Period-end tangible net book value “at risk” leverage was 8.2x, compared with 8.1x at year-end 2017.
- Returns: Economic return on tangible common equity was 0.7% for Q3 and -0.4% for the first nine months, including declared common dividends. Comprehensive income attributable to common stockholders was $14 million in Q3 and a loss of $53 million for the nine months.
Material changes versus comparable periods
- Q3 net income available to common stockholders fell to $207 million from $271 million; nine-month income rose to $906 million from $357 million. Results included substantial fair-value movements: Q3 unrealized losses on securities measured through net income were $363 million, while derivative and other securities gains were $430 million. For the nine months, those respective amounts were losses of $980 million and gains of $1.466 billion.
- Interest income and interest expense both increased as the average investment portfolio and borrowings expanded and market rates rose. Average asset yield improved, but higher funding costs reduced the Q3 net interest spread year over year.
- Interest-rate increases and wider mortgage spreads reduced tangible net book value by $0.41 per share in Q3 and $1.69 per share over nine months, declines of 2.2% and 8.6%, respectively.
- The investment portfolio, including TBA securities, increased to $81.8 billion from $72.8 billion at December 31, 2017. AGNC raised approximately $1.6 billion of net common equity through public and at-the-market offerings during the first nine months; shares outstanding increased to 477.8 million from 391.3 million at year-end.
Management outlook, risks and unusual items
- Management said near-term rate expectations were biased upward, but cited trade tensions, weaker conditions abroad, contained inflation and potential asset-price corrections as factors that could limit rate increases. It anticipated that volatility, higher rates or further yield-curve flattening could contribute to additional Agency RMBS spread widening. Wider spreads could hurt book value but may improve prospective returns on new investments.
- AGNC said its hedges should mitigate, but not fully offset, the effect of further rate increases. The hedge portfolio is not designed to protect against wider Agency RMBS spreads. Q3 hedge coverage was 95% of funding liabilities, down from 99% at June 30.
- Interest-rate sensitivity models estimated that an instantaneous 100-basis-point increase would reduce net interest income by 11.5% and tangible net book value by 13.2%; a 25-basis-point spread widening was estimated to reduce tangible net book value by 14.0%. These are static-portfolio model estimates and actual results could differ materially.
- Repo funding totaled $65.7 billion, carried a 2.30% weighted-average rate and had a 67-day weighted-average remaining maturity. About $14.0 billion of Agency repo funding matured overnight. Management reported that all margin requirements were met and cited $1.1 billion of unrestricted cash and approximately $4.3 billion of unpledged securities as available liquidity. Renewals, collateral haircuts, margin calls and repo-counterparty performance remain key risks.
- MTGE Investment Corp.’s sale closed September 7, 2018, ending AGNC’s management agreement after a transition period. AGNC recognized a $42 million termination fee as management fee income and wrote off approximately $23 million of related intangible assets, with about $3 million of other termination-related expenses. The fee and write-off materially affected reported operating results.
- Three stockholder derivative lawsuits remain pending concerning past management-agreement renewals and internalization of management. AGNC said it believed the claims lacked merit and had not accrued a loss contingency. The filing reported no material change in previously disclosed risk factors.
- The board declared a monthly common dividend of $0.18 per share on October 11, 2018, payable November 9, 2018. AGNC said it expected to distribute 100% of taxable income, subject to REIT rules; estimated taxable income is subject to adjustment.
Most important facts for investors to verify
- Whether recurring spread income and funding costs can support the $0.18 monthly common dividend as short-term rates and repo costs change.
- How subsequent rate and mortgage-spread movements affect tangible book value, collateral requirements and the effectiveness of hedges.
- Whether the expanded repo and TBA financing, including short maturities, can be renewed on acceptable terms and liquidity remains adequate under stress.
- The effect of common-share issuance and the MTGE management-agreement termination on per-share earnings and future fee income.
- Subsequent updates on the derivative lawsuits, estimated taxable income and the company’s ability to maintain REIT qualification.