Ellington Residential Mortgage REIT (NYSE: EARN) — Q2 2021 Form 10-Q Summary
Reporting period: Quarterly and six-month periods ended June 30, 2021; filed August 11, 2021. The filing identifies the registrant as Ellington Residential Mortgage REIT. The company is an externally managed Maryland REIT focused primarily on Agency residential mortgage-backed securities (RMBS), with a smaller non-Agency RMBS portfolio and related hedges.
Financial condition and results
| Metric | Three months ended June 30, 2021 | Six months ended June 30, 2021 | Comparable prior period |
|---|---|---|---|
| Interest income | $9.9 million | $16.4 million | $3.5 million and $13.4 million |
| Net interest income | $9.2 million | $15.0 million | $1.2 million and $4.9 million |
| Total expenses | $1.5 million | $3.0 million | $1.7 million and $3.0 million |
| Net income (loss) | $(4.5) million | $(4.4) million | $21.3 million and $4.6 million |
| GAAP EPS | $(0.36) | $(0.36) | $1.73 and $0.37 |
| Core earnings | $4.6 million, or $0.37 per share | $8.4 million, or $0.68 per share | $3.2 million and $6.6 million |
| Net cash from operating activities | Not separately provided | $14.5 million | $9.1 million |
Portfolio and capital: Mortgage-backed securities at fair value were $1.21 billion at June 30, 2021, compared with $1.08 billion at December 31, 2020. Agency RMBS represented approximately $1.20 billion, while non-Agency RMBS were $9.3 million. Total assets were $1.38 billion, shareholders’ equity was $161.9 million, and book value per share was $12.53, down from $13.48 at year-end 2020.
Debt and liquidity: Repurchase-agreement borrowings were $1.14 billion, compared with $1.02 billion at December 31, 2020. The weighted-average repo rate was 0.17%, with 16 counterparties and a weighted-average remaining maturity of 134 days. Debt-to-equity was 7.0:1, or 7.2:1 after adjusting for unsettled trades. Cash and cash equivalents were $58.7 million, supplemented by approximately $31.3 million of other unencumbered assets. The company reported no other borrowings.
Cash flow and distributions: Investing activities used $117.0 million during the six months, while financing activities provided $103.0 million. Cash increased by $0.5 million to $58.7 million. Dividends paid were $6.9 million; quarterly dividends declared totaled $0.30 per share in the second quarter and $0.28 per share in the first quarter. A follow-on offering generated $7.1 million of net proceeds from the company’s issuance of 575,000 common shares.
Material changes versus prior comparable periods
- Second-quarter net loss of $4.5 million contrasted with net income of $21.3 million in the second quarter of 2020. The six-month result also shifted to a $4.4 million loss from $4.6 million of income.
- Net interest income improved materially because interest income increased and repo financing costs declined. The adjusted net interest margin increased to 2.04% in the second quarter from 1.86% in the prior-year quarter, and to 1.99% for the six months from 1.49%.
- Market-value losses replaced the substantial gains recorded in the prior-year quarter. Second-quarter other loss was $12.2 million, including approximately $10.4 million of net realized and unrealized Agency RMBS losses and $6.3 million of net realized and unrealized hedging-portfolio losses, partly offset by $6.9 million of TBA gains.
- The RMBS portfolio expanded, primarily through Agency RMBS. Agency RMBS fair value increased from $1.05 billion at December 31, 2020 to $1.20 billion at June 30, 2021, while non-Agency RMBS declined from $17.6 million to $9.3 million.
- Repurchase borrowings increased by approximately $120.3 million from year-end, while shareholders’ equity declined by $4.6 million after dividends, losses, and the equity offering.
- Net cash provided by operating activities increased to $14.5 million from $9.1 million in the first six months of 2020, but investing cash flow reversed from $391.4 million provided to $117.0 million used.
Outlook, management commentary, risks, and unusual items
Management expects capital resources to be sufficient for anticipated short- and long-term liquidity needs, based on the current portfolio, cash, leverage, and financing availability. No formal earnings or dividend guidance was provided. Dividend declarations remain discretionary and depend on earnings, financial condition, REIT requirements, capital needs, and other factors.
Management described a market characterized by accommodative Federal Reserve policy, declining long-term rates during the quarter, widening Agency RMBS spreads, elevated prepayment risk, and very low LIBOR. The company continued to emphasize specified pools, long positions in lower-coupon TBAs, and short positions in higher-coupon TBAs. Management expects to vary non-Agency RMBS exposure as market opportunities change.
- Principal risks include interest-rate volatility, prepayment risk, leverage and repo refinancing risk, margin calls, counterparty risk, valuation uncertainty, credit losses on non-Agency assets, and changes in Federal Reserve, housing-market, GSE, regulatory, or tax policies.
- At June 30, 2021, repurchase counterparties held approximately $1.1 billion of RMBS collateral, and the company had posted approximately $52.3 million of net cash collateral to repo counterparties.
- Interest-rate sensitivity modeling estimated that a parallel 100-basis-point increase in rates would reduce portfolio value by approximately $14.0 million, or 8.65% of equity; the filing cautions that actual results may differ materially.
- Gross unrealized RMBS losses were $7.1 million, including $2.6 million related to adverse changes in estimated cash flows for Agency interest-only and non-Agency securities, primarily from higher expected prepayments. A $0.4 million realized loss was recognized for amounts determined not to be collectible.
- The management agreement provides for a 1.50% annual fee based on shareholders’ equity, expense reimbursement, and, in specified termination circumstances, a fee equal to 5% of defined shareholders’ equity.
- No material legal proceedings or significant contingencies were reported, although the company and its affiliates may receive regulatory inquiries. Management stated that disclosure controls were effective as of June 30, 2021.
Most important facts for investors to verify
- Confirm the intended issuer: the supplied filing is for Ellington Residential Mortgage REIT, ticker EARN, rather than a registrant named Ellington Credit Co.
- Reconcile GAAP net losses with core earnings and assess the effect of fair-value changes, catch-up premium amortization, and derivative gains or losses.
- Monitor the 7.0:1 reported leverage ratio, 7.2:1 adjusted ratio, repo maturities, haircuts, margin requirements, and counterparty concentration.
- Evaluate the sustainability of the $0.30 quarterly dividend relative to core earnings, taxable income, cash flow, and book value.
- Review Agency RMBS prepayment exposure, interest-only securities, specified-pool premiums, and the effect of potential Federal Reserve tapering.
- Assess valuation sensitivity for Level 3 securities and the assumptions for prepayments, collateral losses, recoveries, and discount rates.
- Track the transition from LIBOR to alternative reference rates, including the potential impact on repo financing and interest-rate swaps.