PennyMac Mortgage Investment Trust - Q3 2024

Transcript

Operator (participant)

Good afternoon, and welcome to PennyMac Mortgage Investment Trust third quarter earnings call. Additional earnings materials, including the presentation slides that will be referred to in the call, are available on PennyMac Mortgage Investment Trust website at pmt.pennymac.com. Before we begin, let me remind you that this call may contain forward-looking statements that are subject to certain risks identified on slide two of the earnings presentation that could cause the company's actual results to differ materially, as well as non-GAAP measures that have been reconciled to their GAAP equivalent in the earnings materials. Now, I'd like to introduce David Spector, PennyMac Mortgage Investment Trust Chairman and Chief Executive Officer, and Dan Perotti, PennyMac Mortgage Investment Trust Chief Financial Officer. Please go ahead.

David Spector (Chairman and CEO)

Thank you, operator. PMT's third quarter financial results reflect solid levels of income, excluding market-driven value changes, bolstered by fair value changes, including associated tax benefits. Net income to common shareholders was $31 million, or diluted earnings per share of $0.36. PMT's annualized return on common equity was 9%, and book value per share as of September 30th was $15.85, down slightly from the end of the prior quarter. Turning to the origination market, current third-party estimates for total originations averaged $2.3 trillion in 2025, reflecting expectations for mortgage rates to decline from current levels, driving growth in both refinance and purchase volumes. PMT's stable performance in recent periods of heightened volatility highlights the strength of the fundamentals underlying its long-term mortgage assets and our expertise managing mortgage-related investments in a changing environment.

We continue to focus on PMT's balance sheet, and this quarter, I'm pleased to note that we effectively completed the refinancing of $457 million of CRT and MSR term notes, with $514 million of new term notes with lower effective costs and extended durations. Approximately two-thirds of PMT shareholders' equity is currently invested in a seasoned portfolio of MSRs and the unique GSE lender risk share transactions we invested in from 2015-2020. As the majority of mortgages underlying these assets were originated during periods of very low interest rates, we continue to believe these investments will perform well over the foreseeable future, as low expected prepayments have extended the expected lives of these assets.

Additionally, delinquencies remain low due to the overall strength of the consumer, as well as the substantial accumulation of home equity in recent years due to continued home price appreciation. MSR investments account for more than half of PMT's deployed equity. The majority of the underlying mortgages of these MSRs remain far out of the money, and we expect the MSR asset to continue to produce stable cash flows over an extended period of time. While MSR fair values were down slightly from June thirtieth due to fair value declines and runoff from prepayments, MSR values continue to benefit from the current interest rate environment, as the placement fee income PMT receives on custodial deposits is closely tied to short-term interest rates. Similarly, mortgages underlying PMT's large investment in lender-originated risk share have low delinquencies and a low weighted average current loan-to-value ratio of below 50%.

These characteristics are expected to support the performance of these assets over the long term, and we continue to expect that realized losses will be limited. Given the capital raise in the second quarter, in the third quarter, PMT retained an increased percentage of total conventional correspondent loan production, resulting in approximately $90 million invested in new MSRs, more than double the amount from the prior quarter. In the fourth quarter, we expect PMT will retain a smaller percentage of conventional production as we optimize PMT's capital allocation while also evaluating emerging investment opportunities in the private label securitization market. We believe the mortgage landscape is evolving and increasingly presenting new opportunities for PMT to be a material participant in that market.

Volume or pricing limits for the GSEs on certain types of loans, such as non-owner-occupied and second homes, have driven increased private label securitizations of such loans in recent periods. Additionally, meaningful volumes of jumbo loans are being originated in channels outside of the banks. PMT has long benefited from its synergistic relationship with PFSI and its leading fulfillment and servicing operations to process large volumes of loans at the highest quality standards and positively influence investment performance. Combined, we estimate PMT accounted for approximately 7% of the total production market in the last year, with a leadership position in the correspondent channel and a growing presence in direct lending. Through this multi-channel production platform, we have been acquiring and originating growing volumes of loans we think have the potential for PMT to securitize to drive organic investments in newly created private label securities.

Given our long-standing relationships with global banks, asset managers, and institutional asset-backed investors, we believe PMT is well-positioned to successfully execute on these activities, especially as the origination market returns to more normalized levels. While we have been selling jumbo loans on a whole loan basis, we've been aggregating agency-eligible non-owner-occupied loans with the expectation that PMT will close a securitization of such loans in the fourth quarter, followed by another similar transaction in the first quarter next year. Now I'll turn it over to Dan, who will review the drivers of PMT's third quarter financial performance and PMT's run rate potential.

Dan Perotti (CFO)

Thank you, David. PMT earned $31 million in net income to common shareholders in the third quarter, or $0.36 per diluted common share. PMT's credit-sensitive strategies contributed $26 million in pre-tax income. Of this, $17 million were from organically created CRT investments, $6 million were from non-agency subordinate MBS, and $3 million were from other opportunistic investments in GSE CRT. As David mentioned, the outlook for our current investments in organically created CRT remains favorable, with a low underlying current weighted average loan-to-value ratio below 50% and a sixty-day delinquency rate of 1.23%, both as of September thirtieth. The interest rate-sensitive strategies contributed pre-tax income of $500,000. The fair value of PMT's MSR investment decreased by $84 million, as the decrease in mortgage rates drove an increase in future prepayment projections.

These fair value declines were offset by the combined impact of changes in the fair value of MBS, interest rate hedges, and related income tax effects. MBS fair values increased by $128 million due to the decline in mortgage rates. Interest rate hedges decreased by $67 million. Fair value declines on MSRs and interest rate hedges held in PMT's taxable REIT subsidiary drove the $15 million tax benefit this quarter. Inclusive of the tax benefit, the interest rate-sensitive segment contributed approximately $19 million to net income. The fair value of PMT's MSR asset at the end of the quarter was $3.8 billion, down slightly from $3.9 billion at June thirtieth, as fair value declines in run-off from prepayments more than offset new investments from loan production.

Delinquency rates for borrowers underlying PMT's MSR portfolio remain low, while servicing advances outstanding decreased to $71 million from $83 million at June thirtieth. No principal and interest advances are currently outstanding. Income from PMT's correspondent production segment was up from last quarter, driven by higher volumes. Total correspondent loan acquisition volume was $26 billion in the third quarter, up 15% from the prior quarter, driven by the larger overall market. Conventional loans acquired for PMT's account totaled $5.9 billion, up 167% from the prior quarter, due to PMT retaining a larger percentage of the total conventional correspondent production. We expect this percentage to decrease to approximately 15%-25% in the fourth quarter in order to optimize PMT's capital allocation.

Profitability in this segment in recent periods has benefited from the release of liabilities related to representations and warranties provided at the time of securitization, as the high volumes of loans produced from 2020-2022 passed the three-year window for violations with minimal repurchase-related losses. We expect the contribution from the release of liabilities to decline to more normalized levels over the next several quarters. The weighted average fulfillment fee rate was 19 basis points, down from 20 basis points in the prior quarter. PMT reported $35 million of net income across its strategies, excluding market-driven value changes and the related tax impacts, unchanged from the prior quarter. Looking forward, slide seven outlines the run rate potential expected from PMT's investment strategies over the next four quarters.

PMT's current run rate reflects a quarterly average of $0.37 per share, up from $0.33 per share last quarter, primarily driven by the decline in short-term interest rates, which reduces expected financing costs. If the yield curve steepens further, we expect PMT's overall run rate would continue to increase closer to the 40-cent range, driven by higher overall yields in interest rate-sensitive strategies. Turning to capital, liquidity is in place for repayment in full of the $210 million in exchangeable senior notes due in November. As David mentioned earlier, we strengthened our capital position, refinancing MSR and CRT term notes at more attractive rates and longer durations. At the end of the prior quarter, we issued $355 million of 3.5-year MSR term notes with a cost of SOFR plus 275 basis points.

In July, proceeds from that issuance were used to refinance $305 million of MSR term notes, which were at a cost of SOFR plus four hundred and nineteen basis points that were to mature in 2027. In August, we issued $159 million in four-year CRT term notes with a cost of SOFR plus three hundred and seventy-five basis points, effectively refinancing $152 million of notes, which were at a cost of SOFR plus three hundred and seventy-five basis points that were due to mature in 2025. We'll now open it up for questions. Operator?

Operator (participant)

Thank you. I would like to remind everyone, we will only take questions related to PennyMac Mortgage Investment Trust or PMT. We also ask that you please keep your questions limited to one preliminary question and one follow-up question, as we'd like to ensure we can answer as many questions as possible. If you would like to ask a question during this time, simply press star followed by the number one on your telephone keypad. And if you'd like to withdraw your question, again, it's star one. Your first question comes from the line of Jason Weaver with JonesTrading. Please go ahead.

Jason Weaver (Managing Director and Senior Equity Research Analyst)

Hey, good afternoon. I just wanted to hone in on one of Dan's remarks there, specifically regarding the steepness of the yield curve and the earnings power of the entire PMT. Would you say that that changes the calculus for the board as far as dividend policy goes going forward? And how might that evolve over time?

Dan Perotti (CFO)

You know, I think our narrative has been pretty similar around our expected earnings power and how that plays, you know, how that plays into the dividend evaluation. So, you know, we've been in this inverted yield curve environment for a pretty significant amount of time. To the extent that we see the yield curve de-invert over time, that should allow for greater earnings power in the interest rate-sensitive strategies as the yields on those longer-you know, those assets, which are all really keyed off of longer term rates, and which we mark to market on a monthly basis or a quarterly basis.

You know, as those yields increase or become higher relative to the rate at which we're funding those assets, which are generally at spreads over short-term rates, you know, that drives the overall earnings power and could push us back up toward our run rate back up toward $0.40 level, as I mentioned in my remarks. That's really been the case over the last several quarters, and you know, we're now starting to see that, you know, that de-inversion really take shape, and really see that path back to the $0.40, the $0.40 run rate.

And so as the board evaluates the dividend and as we look at the dividend, we've generally endeavored to keep that stable to the extent that we see that path back to $0.40, which now seems, you know, more apparent given the changes in the environment, that the Fed has begun lowering short-term rates. And you know, most recently, we've seen this increase in the longer end of the curve, and so really it's flattening out there.

I think we're finally starting to see, you know, what we've been talking about for the last few quarters come to fruition, which really, in terms of the dividend and the run rate moving towards it, sort of plays into the narrative that we've had and the stability that we've had for the dividend over time.

Jason Weaver (Managing Director and Senior Equity Research Analyst)

Okay. Thank you for that, and just as a follow-up, I was curious if, maybe more open-ended, but if you're thinking about any emerging opportunities to shift your equity allocation, possibly more towards the credit-sensitive strategies, given that the shift in monetary policy?

David Spector (Chairman and CEO)

Yeah, look, I think, Jason, as you point out, and as I mentioned in my opening remarks, I do think there's a very good opportunity to increase our investment in credit-sensitive assets. We're seeing a lot of good securitization activity in investor loans and second homes, away from the GSEs. And, you know, as I mentioned, we're looking to close a deal in this quarter and aggregating to do another deal right after the new year. And look, this is what PMT was, you know, back in, you know, two thousand and nine when we IPO'd PMT. This was the investment thesis, that we were going to see a return to private label securitization, and it's a whole lot longer than we thought it would be, but I think, you know, we're seeing it very, very clearly.

I like the activity that we're seeing in PFSI in terms of jumbo loan originations, and I think there's opportunity between, you know... They're currently executing those loans whole loan, but I think there could be opportunities to securitize those loans as well as buy loans in through correspondent to securitize. And so I think, you know, the aggregation for a jumbo loan deal, given the power of these two great companies, is one where, you know, if we met our required returns, we can do jumbo loan securitizations.

I do think that, you know, as I think about it, you know, we've got this great CRT investment that's rolling off capital, and the ability to redeploy it into credit-sensitive strategies is something that I would like to do, and it's something that, as I mentioned, we'll be kicking off this quarter.

Jason Weaver (Managing Director and Senior Equity Research Analyst)

Got it. That's very helpful color. Thanks again, guys.

David Spector (Chairman and CEO)

Thank you.

Operator (participant)

Your next question comes from the line of Bose George with KBW. Please go ahead.

Bose George (Managing Director and Senior Equity Research Analyst)

Hey, guys. Good afternoon. Actually, a couple of follow-ups. One, just on the steepening curve, you know, the way that's happening now with the ten-year, you know, selling off, are you kind of agnostic to how the curve steepens in terms of, you know, it impacting your, you know, your returns?

Dan Perotti (CFO)

So, yeah, those. We're fairly agnostic to how the curve steepens. It's really when we're looking at the interest rate-sensitive strategies, the relationship between the longer end of the curve and the shorter end of the curve. So whether interest rates come down or longer-term rates go up, and when I say shorter-term rates, I mean really financing rates. You know, that drives that spread overall in the interest rate-sensitive strategies to be larger and drives, you know, that income potential or return potential for the strategy. So either way or both is helpful, and we're fairly agnostic to, you know, to exactly-

... you know, which way or both it happens.

Bose George (Managing Director and Senior Equity Research Analyst)

Okay, great. Thanks. And then you noted you've been selling the jumbos out of PFSI. Can you just talk about the returns, if those were securitized? I assume you're selling them just because securitization has not kind of hit the hurdle rates that you're targeting. And, yeah, can you just talk about, you know, how close that math is getting?

David Spector (Chairman and CEO)

You know, that's right. I think that, you know, I want to complete a securitization of investor loans and second homes and really build on that. You know, I think it's something that, you know, we need to, you know. We did a jumbo securitization back in around 2013, and so we have, you know, the muscle memory. We just need to, you know, reignite it, and I think that, it's one that will get done. I would say that it's getting close to our return target.

I would say, you know, it's not there yet, but I think given the amount of jumbo loan activity we're seeing in the marketplace, and really the ability to aggregate rather quickly to do a securitization, is what I'm finding encouraging about a jumbo loan securitization. Now, I'll tell you, when you're securitizing investor loans and second home loans that are eligible for delivery to the agencies, if there is a disruption in the private label market, you have the ability to deliver those loans to the GSEs. So that's, in effect, you know, your hedge for the spread risk. That's not the case with jumbo loans.

So what's important to me is that we are able to aggregate quickly, get in the market quickly to do a securitization, to help alleviate the spread risk associated with doing the jumbo loan securitization. So we just got to get you know, I want to get our first securitization under our belt, and then we'll continue to, you know, grow that operation. I don't see private label securitization declining. I think clearly the banks have spoken. They're not going to be as active in jumbo loans other than for their prime customers. I think, you know, there's going to be opportunity to do jumbo loan securitizations. And similarly, I don't see the GSEs reducing their pricing on investor loans and second homes, and so I think there'll be opportunities there.

So I'm really, as you can tell, excited about the opportunity that we have in PMT, given, you know, PFSI and PMT together represent 7% of the mortgage market. So the ability to aggregate the loans is one that's not the issue. And I think that that's, you know, I think it's one that over time, we're going to continue to grow our expertise and our ability to securitize those loans and have subordinate bond investments.

Bose George (Managing Director and Senior Equity Research Analyst)

Great. That's helpful. Thank you.

Operator (participant)

Your next question comes from the line of Doug Harter with UBS. Please go ahead.

Doug Harter (Managing Director and Senior Equity Research Analyst)

Thanks. David, one of the areas you didn't touch on as possible securitization would be second liens, where, obviously, PennyMac is originating those as well. Can you just talk if the execution there has come close to hurdle rates or would still have a ways to go to be attractive?

David Spector (Chairman and CEO)

It does, it does have a ways to go. As you can tell from, as I'm talking today to you, everyone on the phone, you know, at the top of the waterfalls, investor loans and second homes, those meet our return targets. Secondly is jumbo loans, which is getting very close. I think the second liens, you know, we're still seeing a tremendous bid, on a whole loan basis going to, other market participants who have a lower cost of capital. And so it's one that, you know, we'll continue to look at, and we monitor, as you can tell, all of these markets. But, you know, suffice it to say, if there was a market disruption or we saw the ability to invest in there, there's nothing to prevent us from doing that securitization.

Doug Harter (Managing Director and Senior Equity Research Analyst)

Great. And then as you think about, you know, how should we think about the amount of capital that can be deployed into these opportunities and, you know, just, you know, and thinking about kind of the level of MSR retention that PMT is likely to have, you know, kind of over the, you know, the coming quarters?

David Spector (Chairman and CEO)

Look, I think that, we've done a really nice job keeping the MSR investment, the UPB of the MSR portfolio, rather flat over the last two to three years as we've been faced with the capital constraints of PMT. I look at the runoff from our CRT investments as the capital that we can use to redeploy into the credit-sensitive strategies to maintain that at a pretty constant level. At the end of the day, as we continue to produce returns that we've seen over the past two years, I am confident that we'll be able to raise additional capital.

That's something that we've been focused on at PMT, you know, really focused on delivering the returns that exceed the dividend yield, that will allow us to continue to see PMT share price go up, so we can issue common equity, or we can issue other forms of equity. But clearly, we have enough capital to really ramp up the securitization effort, as I mentioned, from the capital running off from CRT, and then we'll continue to produce the returns.

Doug Harter (Managing Director and Senior Equity Research Analyst)

... Great. Thank you, David.

Operator (participant)

Your next question comes from the line of Matthew Howlett with B. Riley. Please go ahead.

Matthew Howlett (Managing Director and Senior Equity Research Analyst)

Oh, hey, David. Hey, Dan. Thanks for taking my question.

David Spector (Chairman and CEO)

Thanks, Matt.

Matthew Howlett (Managing Director and Senior Equity Research Analyst)

Hey, Dan, just to follow up on the last question, would you expect PMT eventually to retain more, you know, get back to that, you know, 50-plus% retention of conventional correspondent production? Or do you have so many opportunities, it sounds like you just have this incredible subset. Does it make sense to just, you know, just sell, you know, continuing to selling to PFSI and free up capital for the securitization effort and other things?

Dan Perotti (CFO)

Yeah, exactly, Matt. I think that's the- that's really the idea behind the reduction in terms of the allocation of conventional correspondent that we mentioned from the 42% in the past quarter to you know the 15%-25%. So as we see these opportunities in the securitization market and are aggregating for those opportunities, you know, it's ensuring that we're not sort of crowding out by adding on you know more additional MSR through the conventional correspondent retention. And so it- I think it's exactly as you described it, opening up you know a little bit of capital room to aggregate and retain the interest on those securitizations. And that's really leading to that reduction on the correspondent side.

As David mentioned, if we deliver, you know, returns as we expect and are able to raise additional, you know, capital, that could be a catalyst to increase that proportion of the conventional loans that are retained again, and, you know, invest in additional MSR alongside the credit-sensitive or a greater concentration in the credit-sensitive assets, but, you know, that's sort of as we move forward and we see the opportunities moving forward.

Matthew Howlett (Managing Director and Senior Equity Research Analyst)

Thanks for that. And is the goal... I remember, I've been covering PMT for a long time, and you were a 50/50 credit interest rate, you know, five, six, seven years ago. It's gonna take time. I'd love to see it be a program, you know, a regular issuer in a non-securitization market. It's gonna be great. How long does it-- where do you want to take the credit segment? I mean, do you want PMT looking out, you know, five years to be 50/50 , or is this just gonna be all dependent on the market?

Dan Perotti (CFO)

Look, I think it's look, we're an investment vehicle in PMT, and we want to deliver the highest return to our shareholders, and that's gonna drive our decision making. Having said that, I'm with you, Matt. I'd like to see a better balance between the credit-sensitive strategies and the interest rate-sensitive strategy segments. And so the ability to do more and more securitizations to increase the amount of investments in credit-sensitive strategies is one that we're highly focused on. But at the end of the day, it's gonna be return. It's gonna be, you know, the return on common equity that we want to continue to be above 10% on that, if not higher, and do it in a meaningful way.

And so I do think that, you know, it's gonna take a little bit of time, but, you know, we're clearly well on our way to getting there.

Matthew Howlett (Managing Director and Senior Equity Research Analyst)

Yeah, that's exciting to see. Like you said, David, this sort of PMT originally was started out as, and it's taken time, but it sounds like the non-agency market is just gonna really take off. Last question. I mean, look, you got the interest rate strategy with the steepening, you know, repo starting to come down. Looks like the Fed will cut a little bit more. You got how much more and you refinance these CRTs and the MSR term notes. I mean, how much more is there left to do with this? I mean, can you how much cost savings is left?

Dan Perotti (CFO)

I think generally speaking, on the refinancing of debt side, it you know depends a little bit on what happens in the market and where spreads go, and so there may be additional opportunities. Obviously, we've struck on the opportunities that we've seen thus far. And we don't necessarily see anything imminently on the horizon in terms of refinancing further, in terms of those term notes or term loans that we have. But we have seen pretty significant spread tightening over the past few quarters. That's what led or precipitated some of these refinancings. And to the extent that we see further spread tightening, you know that could precipitate us looking at doing some further refinances.

But in the near term, you know, we think we've done some pretty good work here that will benefit us as we're moving forward, and there isn't necessarily anything specifically on the horizon that we're looking at.

Matthew Howlett (Managing Director and Senior Equity Research Analyst)

You got the company in great position. I really appreciate it. Thanks, guys.

Dan Perotti (CFO)

Thanks, Matt.

Operator (participant)

Your next question comes from the line of Eric Hagen with BTIG. Please go ahead.

Eric Hagen (Managing Director)

Hey, thanks. Just one, I think. Did you, did you say what the source of cash or liquidity is to retire the debt that's coming due next month? And is the expectation to carry lower leverage for a period of time, or how are you thinking about that?

Dan Perotti (CFO)

So the source of funds for repaying the debt that's due next month is drawing on our secured lines. And so we've positioned the liquidity really more or less already to, you know, to be able to retire that debt. And sorry, what was the second part of your question, Eric? I didn't hear that clearly.

Eric Hagen (Managing Director)

... well, it sounds like the leverage is gonna be unchanged. Is the draw that you made to retire that reflected on the balance sheet at the end of the third quarter?

Dan Perotti (CFO)

Yeah, it's not reflected at nine thirty, so yeah, about during the month, this month, but yeah, you're right. Overall leverage is pretty similar, you know, would be pretty similar to nine thirty. We're basically swapping secured debt for that unsecured, you know, that convertible issuance.

Eric Hagen (Managing Director)

Okay, super. All right, thank you.

Operator (participant)

Your next question comes from the line of Bose George with KBW. Please go ahead.

Bose George (Managing Director and Senior Equity Research Analyst)

Hey, guys. Thanks for the follow-up. I just wanted to see if you could provide some color on the types of buyers in the whole loan market for, you know, both for the jumbos and the second liens.

David Spector (Chairman and CEO)

Look, we're seeing, you know, a wide range of buyers. You know, I think that it's, and we're able to sell these loans to insurance companies. You know, some of the private equity shops are setting up their own conduits and doing their own aggregation, securitization. You know, and similarly, you know, on the PFSI side, when we sell second liens, we see similar buyers. And so it's a wide range of buyers. The thing that impresses me is the depth of the market, and that's why, quite frankly, I'm fairly confident, very confident in our own ability to securitize because I think there's a very deep bid for these loans, deeper than I've seen in quite some time.

And so I just think that there's a need for you know structured assets and structured investments. And so the ability quite frankly to organically create the opportunity is one that's really unique in the marketplace. And so it's just you know it's not banks. I know I will tell you that. It's but it's all of the usual cast of characters that we've seen in the past.

Bose George (Managing Director and Senior Equity Research Analyst)

Okay. Great. Thanks a lot.

Operator (participant)

We have no further questions at this time. I'll now turn it back to Mr. Spector for closing remarks.

David Spector (Chairman and CEO)

Well, well, thank you, operator, and thank you all for joining us today. Really appreciate the time and the questions that were asked. If you have any follow-up questions, please feel free to reach out to our investor relations group, and they will follow up with you and me. Have a good day, and we'll... and again, thanks a lot for the time.

Operator (participant)

This does conclude today's conference call. Thank you for your participation, and you may now disconnect.