AGNC Investment Corp. (American Capital Agency Corp.) — Q3 2011 Form 10-Q
Reporting period: Quarter and nine months ended September 30, 2011. The company invests primarily in government-agency residential mortgage-backed securities, funded largely through short-term repurchase agreements and managed with leverage. It is externally managed and has elected REIT tax treatment.
Financial performance and position
| Metric | Q3 2011 | Q3 2010 | Nine months 2011 | Nine months 2010 |
|---|---|---|---|---|
| Interest income | $326.8 million | $62.6 million | $756.0 million | $152.0 million |
| Net interest income | $231.7 million | $44.1 million | $561.5 million | $100.6 million |
| Net income | $250.4 million | $60.0 million | $561.8 million | $150.0 million |
| Net income per share | $1.39 | $1.69 | $4.19 | $4.97 |
| Dividends declared per share | $1.40 | $1.40 | $4.20 | $4.20 |
- At September 30, 2011, total assets were $47.0 billion, including $42.0 billion of agency securities; total liabilities were $42.1 billion and stockholders’ equity was $4.94 billion. Net asset value was $26.90 per share, up from $24.24 at year-end 2010.
- Repurchase agreements totaled $38.84 billion, at a 0.28% weighted-average rate and 30-day weighted-average remaining maturity. Period-end leverage was 7.7:1 after adjustment for unsettled trades. Agency portfolio weighted-average yield was 3.18% at quarter-end.
- Q3 average asset yield was 3.14%, average cost of funds 1.00%, and net interest rate spread 2.14%, versus 3.23%, 1.02%, and 2.21%, respectively, in Q3 2010.
- Nine-month operating cash flow was $668.9 million. Investing activities used $29.6 billion and financing activities provided $29.7 billion; cash and cash equivalents ended at $984.4 million. These large investing and financing flows reflect portfolio turnover and growth in borrowings and equity.
Material changes versus comparable periods
- The portfolio expanded substantially: agency securities at fair value rose from $13.5 billion at December 31, 2010 to $42.0 billion at September 30, 2011. Three follow-on offerings raised $2.98 billion net during the first nine months, alongside sales under the equity issuance program.
- Net income increased year over year, principally as the larger average investment portfolio drove higher interest income. Per-share earnings fell despite the increase in total earnings, as weighted-average shares increased to 180.7 million from 35.5 million in Q3 2010.
- Net gains on agency-security sales were $262.8 million in Q3 2011, versus $24.6 million a year earlier. These gains were partly offset by $173.2 million of other realized derivative and securities losses and $46.5 million of unrealized losses in Q3.
- Management discontinued hedge accounting for interest-rate swaps on September 30 to gain flexibility in setting repo maturities. Subsequent swap fair-value changes will flow through earnings; $744.4 million of deferred net losses remained in accumulated OCI, with $208.8 million expected to be reclassified to interest expense over the next 12 months, subject to stated conditions.
- Unrealized gains on available-for-sale securities contributed to nine-month comprehensive income of $672.6 million. These valuation changes should be distinguished from net income and realized returns.
Outlook, management commentary and risks
- Management reported volatile markets, falling Treasury and mortgage rates, and elevated concerns about mortgage prepayments. It said it repositioned the portfolio toward lower-coupon securities and loans it viewed as having more favorable prepayment characteristics; it estimated less than 5% of holdings were likely to be affected by the HARP changes announced October 24, 2011.
- Management declared $1.40 per share for each of the first three 2011 quarters and reported estimated undistributed 2011 taxable income of $156.3 million, or $0.85 per share, at September 30. No earnings or dividend guidance was provided.
- Key risks include interest-rate, spread, prepayment and extension risk, as well as liquidity and repo-renewal risk. Falling rates can accelerate prepayments and premium amortization; rising rates or slower prepayments can extend asset duration and reduce asset values. Management’s modeled parallel rate shocks estimated net interest income declines of 9.8% and 17.5% for +100 and -100 basis points, respectively; estimated portfolio value declines were 0.8% for either shock. Management cautioned that estimates rely on assumptions and exclude leverage effects.
- Repo financing is short term and collateral-dependent; lenders may demand additional collateral or raise haircuts. At quarter-end the company reported $984.4 million in unrestricted cash and $1.8 billion of unpledged agency securities available for liquidity needs, and said it had met all margin requirements.
- After quarter-end, MF Global Holdings filed for bankruptcy; AGNC reported less than $1.0 million of exposure to the related counterparty. Also after quarter-end, AGNC completed a 40.5 million-share offering that generated approximately $1.1 billion net.
- The filing reported no legal proceedings and no material changes to previously disclosed risk factors, but highlighted Investment Company Act exemption risk and potential conflicts arising from its external manager and affiliated investment vehicles.
Important facts for investors to verify
- Whether the expanded hedge ratio, repo maturity profile and post-quarter equity raise improve funding resilience without materially diluting per-share returns.
- How the $744.4 million deferred swap loss and future derivative mark-to-market volatility affect reported earnings and the dividend’s taxable-income coverage.
- Whether actual mortgage prepayments and HARP-related activity match management’s assumptions, including the 13% forecast CPR.
- Whether repo counterparties maintain financing availability and collateral terms through market stress; assess margin-call exposure and counterparty concentration.
- Reconcile net income, realized gains and losses, OCI, NAV changes and declared dividends when evaluating economic returns.