Cherry Hill Mortgage Investment Corporation — Q2 2022 10-Q
Reporting period: Three and six months ended June 30, 2022; balance-sheet comparisons are to December 31, 2021. The company invests in residential mortgage-backed securities (RMBS) and mortgage servicing rights (MSRs), and is externally managed.
Financial performance and position
| Metric | Q2 2022 | Comparable period |
|---|---|---|
| Interest income | $6.0 million | $3.5 million in Q2 2021 |
| Net interest income | $3.5 million | $2.2 million in Q2 2021 |
| Net servicing income | $10.6 million | $9.7 million in Q2 2021 |
| Net income (loss) | $(15.5) million | $(11.6) million in Q2 2021 |
| Common-stockholder earnings (loss) | $(17.6) million; diluted EPS $(0.92) | $(13.8) million; diluted EPS $(0.81) in Q2 2021 |
The Q2 GAAP loss included a $46.0 million realized loss on RMBS. Gains on derivatives ($17.6 million unrealized) and servicing-related assets ($6.2 million unrealized) partly offset that loss. For the first half, net income was $13.3 million and common-stockholder earnings were $8.1 million, versus $9.6 million and $4.5 million, respectively, in the first half of 2021. First-half diluted EPS was $0.43 versus $0.26.
- Non-GAAP earnings: Earnings available for distribution (EAD) attributable to common stockholders were $5.2 million, or $0.28 per diluted share, in Q2, down from $6.2 million, or $0.34, in Q1. First-half EAD was $11.4 million, or $0.61 per diluted share, versus $8.3 million, or $0.48, in first-half 2021. EAD is management-defined, excludes significant realized and unrealized items, and is not a substitute for GAAP earnings or liquidity.
- Margins: The reported quarter-end average net yield spread on RMBS was 3.25%, up from 2.49% at Q1-end. The RMBS portfolio net interest spread was 3.46% at June 30, versus 2.46% at year-end 2021.
- Balance sheet: Assets were $1.20 billion and stockholders’ equity $255.1 million, down from $1.30 billion and $278.8 million at year-end. RMBS fair value was $728.8 million; MSRs were $263.6 million, on underlying loan UPB of $20.7 billion.
- Debt and liquidity: Repurchase borrowings were $683.2 million and MSR facility debt $178.3 million, for total debt of $861.5 million, down from $1.01 billion at year-end. Cash and cash equivalents were $61.5 million, with another $16.0 million restricted. Six-month operating cash flow was $29.5 million; investing activities provided $94.8 million and financing activities used $123.5 million.
- Distributions and equity: Common dividends declared were $0.27 per share for the quarter; preferred dividends were also declared. The company raised $5.9 million gross through Q2 common-stock ATM sales, issuing 847,656 shares. It made no share repurchases.
Material changes versus prior periods
- Q2 moved from Q1 net income of $28.7 million to a $15.5 million net loss, primarily as RMBS sale losses rose to $46.0 million from $13.2 million in Q1. Management said securities were sold in response to rising rates, with proceeds intended for higher-yielding RMBS.
- Q2 interest expense increased to $2.5 million from $1.6 million in Q1, reflecting higher rates and increased notes payable. Net interest income declined to $3.5 million from $3.9 million.
- Six-month RMBS interest income rose to $11.5 million from $6.8 million, largely due to lower premium amortization. Servicing fee income declined to $26.3 million from $27.3 million as the MSR portfolio contracted; lower servicing costs partly offset the decline.
- RMBS carrying value fell to $728.8 million from $953.5 million at year-end, while MSR fair value rose to $263.6 million from $218.7 million. Accumulated other comprehensive loss was $24.2 million, compared with $7.5 million of accumulated other comprehensive income at year-end.
- Repurchase debt declined, but its weighted-average rate rose to 1.20% from 0.14% at year-end; average remaining maturity shortened to 16 days from 38 days.
Outlook, commentary and risks
- Management reported no specific numerical earnings or portfolio guidance. It said it expected available cash and operating cash flow to cover anticipated liquidity needs over the next 12 months, including financing, potential margin calls and operating costs.
- The Federal Reserve had raised the federal funds rate by 225 basis points since the start of 2022 and ended Agency RMBS purchases. Management warned that further rate increases and market volatility could raise funding costs, pressure net interest income and asset values, and increase hedging costs. Slower prepayments may benefit MSR cash flows and reduce RMBS premium amortization, but could also extend RMBS duration and weaken hedge effectiveness.
- Repurchase agreements are uncommitted, short-term funding and expose the company to refinancing, collateral and margin-call risk. The company reported a 4.1% weighted-average haircut and said no repo counterparty exposure exceeded 5% of equity.
- MSR fair value is Level 3 and depends on significant unobservable assumptions, including prepayment speeds and discount rates. RMBS unrealized losses were attributed mainly to market rates and spreads; the company reported no credit-loss allowance or impairment charges.
- At June 30, 0.9% of borrowers underlying Aurora’s MSRs were in active forbearance; 17.9% of those borrowers continued regular payments. Management cited ongoing uncertainty from inflation, the economy, COVID-related programs, mortgage credit and prepayments.
- The Freddie Mac MSR revolver was extended in June 2022. The management agreement was due for automatic renewal in October 2022; the filing says no non-renewal notice had been provided. Related-party management fees and servicing arrangements are disclosed.
- A subservicer reported a December 2021 information-security breach in June 2022; borrower personal information was affected. The company said the incidents had no operational impact on its systems. It reported no material legal or regulatory claims and no subsequent events requiring disclosure.
Investor verification priorities
- Reconcile the $46.0 million Q2 realized RMBS loss and assess the economics of selling securities to reinvest at higher yields.
- Review EAD’s definition and reconciliation, and compare distributions with GAAP results, EAD and REIT taxable income; these measures differ.
- Assess exposure to higher repo rates, short maturities, collateral haircuts, margin calls and financing renewal risk.
- Test MSR valuations and sensitivities to prepayment speeds, discount rates and servicing costs, including the effect of loan forbearance and runoff.
- Monitor common-share dilution from ATM issuance, the renewal and terms of the external management agreement, and the performance of subservicers following the disclosed data breaches.