Ellington Residential Mortgage REIT (EARN) — Q1 2021 Form 10-Q Summary
Reporting period: Three months ended March 31, 2021; comparisons are primarily with the three months ended March 31, 2020 and December 31, 2020 balance-sheet amounts. The filing identifies the registrant as Ellington Residential Mortgage REIT, although the request metadata refers to Ellington Credit Co.
Business context and portfolio
EARN is an externally managed Maryland REIT that acquires and manages residential mortgage-related assets, primarily Agency residential mortgage-backed securities (RMBS), with smaller non-Agency RMBS and derivative positions. The company uses repurchase agreements to finance Agency RMBS and derivatives to manage interest-rate exposure. As of March 31, 2021, Blackstone Tactical Opportunities Funds owned approximately 26.8% of outstanding common shares.
- Mortgage-backed securities at fair value: $1.205 billion, up from $1.081 billion at December 31, 2020.
- Agency RMBS: $1.178 billion, up 12% from $1.051 billion.
- Non-Agency RMBS: $10.4 million, down 41% from $17.6 million, reflecting opportunistic monetization of gains.
- Common shares outstanding: 12.34 million at March 31, 2021.
Financial performance and key metrics
| Metric | Q1 2021 | Q1 2020 |
|---|---|---|
| Interest income | $6.5 million | $9.9 million |
| Interest expense | $(0.8) million | $(6.1) million |
| Net interest income | $5.8 million | $3.8 million |
| Total expenses | $1.5 million | $1.3 million |
| Other income (loss) | $(4.2) million | $(19.2) million |
| Net income (loss) | $0.1 million | $(16.7) million |
| Basic and diluted EPS | $0.01 | $(1.35) |
| Core Earnings | $3.8 million | $3.4 million |
| Core Earnings per share | $0.31 | $0.27 |
- Excluding catch-up premium amortization, portfolio yield was 2.41%, total average cost of funds was 0.45%, and net interest margin was 1.96%, compared with 3.05%, 1.85%, and 1.20%, respectively, in Q1 2020.
- Net realized and unrealized losses on securities were $7.2 million, including approximately $10.0 million of losses on Agency RMBS.
- Net realized and unrealized gains on financial derivatives were $3.1 million. Interest-rate swaps and U.S. Treasury futures generated gains, partially offset by losses on TBAs.
- Management fees to the affiliate were $0.6 million, compared with $0.5 million in Q1 2020. The external manager receives a fee equal to 1.50% annually of defined shareholders’ equity.
Balance sheet, leverage, liquidity, and cash flow
- Total assets were $1.432 billion, versus $1.195 billion at December 31, 2020.
- Total liabilities were $1.269 billion; shareholders’ equity was $163.1 million, down from $166.4 million.
- Repurchase agreement borrowings were $1.107 billion, versus $1.015 billion at year-end; weighted-average borrowing rate was 0.22%, versus 0.25%.
- Debt-to-equity was 6.8:1, or 7.0:1 adjusted for unsettled purchases and sales, compared with 6.1:1 at year-end.
- Cash and cash equivalents were $52.5 million, down from $58.2 million. Other unencumbered assets were approximately $48.2 million.
- Operating activities provided $6.7 million of cash; investing activities used $86.2 million; financing activities provided $73.8 million. Cash decreased by $5.7 million during the quarter.
- The company declared a quarterly dividend of $0.28 per share, totaling $3.5 million.
- Book value per share declined to $13.22 from $13.48 at December 31, 2020. After including the dividend, reported economic return was 0.1%.
Material changes versus prior periods
- Net income improved to $0.1 million from a $16.7 million loss in Q1 2020, primarily because sharply lower funding costs and improved derivative results more than offset lower interest income and securities losses.
- Interest expense fell substantially as short-term rates and repo financing spreads declined.
- Agency RMBS holdings increased, while non-Agency RMBS holdings decreased materially.
- Leverage and repo borrowings increased as the overall RMBS portfolio expanded.
- Compared with Q1 2020, the company did not repurchase shares in Q1 2021; it repurchased 136,142 shares for approximately $1.0 million in Q1 2020.
- Market conditions reversed from Q1 2020: long-term rates rose significantly in Q1 2021, with the 10-year Treasury yield increasing 83 basis points to 1.74%, pressuring Agency RMBS prices but benefiting interest-rate hedges.
Outlook, commentary, risks, and unusual items
Management provided no formal earnings or dividend guidance. It expects to continue actively managing specified pools and adjusting its non-Agency allocation as market opportunities change. Management stated that liquidity and capital resources should be sufficient for anticipated short- and long-term requirements.
- Management expects to continue targeting specified pools designed to provide attractive yields, lower prepayment sensitivity, or potential trading gains.
- Prepayment risk remains significant. The fixed-rate specified-pool CPR increased to 23.6% from 21.0% in the prior quarter, while broader Fannie Mae 30-year MBS prepayments remained elevated.
- Interest-rate, prepayment, leverage, financing, liquidity, counterparty, valuation, and non-Agency credit risks are material. The portfolio is particularly sensitive to changes in rates and mortgage prepayments.
- Repo financing is short-term relative to the longer expected lives of RMBS, creating refinancing and margin-call risk. The company posted approximately $48.8 million of net cash collateral to repo counterparties.
- COVID-19-related economic effects, government policy, Federal Reserve actions, the future roles of Fannie Mae and Freddie Mac, and LIBOR transition may affect results.
- As of March 31, 2021, management reported no significant contingencies, no material legal proceedings, and no material changes to previously disclosed risk factors. Indemnification exposure exists, but no liability was recorded.
- Fair-value estimates for certain Level 3 assets depend on unobservable assumptions, including prepayments, collateral losses, recoveries, yields, and option-adjusted spreads.
Most important facts for investors to verify
- Confirm the registrant’s identity and ticker: the filing is for Ellington Residential Mortgage REIT, ticker EARN.
- Assess whether the $3.8 million of Core Earnings and $0.31 per share adequately support the $0.28 quarterly dividend; Core Earnings is non-GAAP and not a substitute for GAAP net income.
- Monitor leverage, repo maturities, haircuts, margin requirements, and the company’s $52.5 million cash balance relative to its $1.1 billion repo borrowings.
- Evaluate sensitivity to higher interest rates, widening RMBS spreads, increased prepayments, and changes in collateral performance.
- Review the concentration in Agency RMBS, the decline in non-Agency RMBS, and the fair-value assumptions for Level 3 assets.
- Verify future dividend declarations, REIT qualification, and the company’s ability to maintain exclusion from registration under the Investment Company Act.