Angel Oak Mortgage, Inc. (NYSE:AOMR) Q1 2023 Earnings Call Transcript May 5, 2023

Operator: Good morning, and welcome to the Angel Oak Mortgage REIT First Quarter 2023 Earnings Conference Call. All participants will be in listen-only mode. Please note, this event is being recorded. I would now like to turn the conference to Randy Chrisman, Chief Marketing Officer. Please go ahead.

Randy Chrisman: Good morning. Thank you for joining us today for Angel Oak Mortgage REIT’s first quarter 2023 earnings conference call. This morning, we filed a press release detailing these results, which is available on the Investors section on our website at www.angeloakreit.com. As a reminder, remarks made on today’s conference call may include forward-looking statements. Forward-looking statements are subject to risks and uncertainties that may cause actual results to differ materially from those discussed today. We do not undertake any obligation to update our forward-looking statements in light of new information or future events. For a more detailed discussion of the factors that may affect the company’s results, please refer to our earnings release for this quarter and to our most recent SEC filings.

During this call, we will be discussing certain non-GAAP financial measures. More information about these non-GAAP financial measures and reconciliations to the most directly comparable GAAP financial measures are contained in our earnings release and SEC filings. This morning’s conference call is hosted by Angel Oak Mortgage REIT’s Chief Executive Officer, Sreeni Prabhu; Chief Financial Officer, Brandon Filson; and Angel Oak Capital’s Co-CIO, Namit Sinha. Management will make some prepared comments, after which we will open up the call to your questions. Additionally, we recommend reviewing our earnings supplement posted on our website at www.angeloakereit.com. Now, I will turn over the call to Sreeni.

Sreeni Prabhu: Thank you, Randy, and thank you, everyone, for joining us today. The first quarter of 2023 marked a solid start to the year for our business, as we continued to execute on our strategy to strengthen the holistic earnings power and the return profile of our portfolio, while also taking opportunities to mitigate risk over both short and long term. We have meaningfully decreased our amount of whole loan warehouse debt and our level of mark-to-market exposure has come down significantly, both of which are key elements of our risk reduction strategy. Building upon these strategic actions, we believe our position was further improved by taking advantage of a strong securitization market in January with our AOMT 2023-1 deal, which produced positive economics while releasing additional capital.

We saw GAAP and economic book value appreciation for the first quarter since Q3 2021, and are pleased to have resumed purchasing newly originated high-coupon loans, which Brandon and I will discuss in more detail shortly. With that said, we continue to battle heightened risk in the markets with volatility, with yields and rates. The Federal Reserve has continued its rate actions, pushing through three rate hikes of 25 basis points this year. The Fed funds rate is now sitting at over 5%, roughly five times higher than where it sat just a year ago. As one would expect, this directly impacted all fixed income assets and mortgage rates moved directionally in tandem with the Fed’s decision. Despite this, we are beginning to see some promise for a potential pause to rate hike activity from the Fed, with the added potential for rate compression.

Given where the market was this quarter, our primary focus was to build our portfolio for long term by prudently managing risks as seen through the market and rate exposures, but also with the enhanced focus on our internal expenses and costs. Thus far, through the first quarter, we have progressed our operating expense reduction efforts as seen through lower G&A and management cost savings. Though managing liquidity and expenses remained the key focus last quarter, thanks to our unique business model and progress we have already made with regard to our liquidity position, we were able to take some selective actions this quarter. First, we have resumed purchasing newly originated loans, notably at an attractive higher coupon in the mid-8% range.

Our strong liquidity profile has positioned us to make meaningful loan acquisitions over the next quarter while providing us the flexibility to purchase these loans while being conservative in our effort to actively manage the risk. While new loan origination has been suppressed over the recent months, the Angel Oak ecosystem provides us the confidence to adjust to market conditions, given our ability to customize loan characteristics and prudent underwriting standards of our affiliated entities. I would also like to point out an important action that we have not taken. Despite market turmoil over the last 18 months, we have not been forced to raise capital or to refinance existing debt with high-cost debt. The protective actions we have taken created the optionality that has allowed us to ride out the storm thus far without incurring long-term liabilities that will dampen our future earnings potential.

The expense mitigation efforts that began in 2022 have started to materialize. We have taken aggressive action on our expense management side, including renegotiating with key vendors and rightsizing our levels of service for the current macro backdrop. We expect that this quarter’s operating expense will be representative of the go-forward run rate with some potential for upside. We are proud of the growth we have achieved from a book value perspective, and we believe there is a meaningful upside to be captured as we execute our strategy. As we enter the second quarter and look at the balance of the year, we look forward to delivering greater returns to our shareholders. With that, I’ll turn the call over to Brandon.

Brandon Filson: Thank you, Sreeni. AOMR’s core business has proven resilient this quarter despite continued volatility in rates. We have been aggressively managing our risk and maintaining sufficient liquidity, all while strategically setting the stage for the long-term earnings power of the portfolio. Now, let’s talk through the details of our financial results, then I’ll discuss some of our plans and expectations for the near future. For the first quarter of 2023, we added GAAP net income of $500,000, or $0.02 per diluted common share. This is our first quarter of GAAP income since Q4 2021. Distributable earnings were negative $9.1 million, or a loss of $0.37 per share, driven by the realized loss from the 2023-1 securitization.

Please note that the net impact of this securitization was approximately $10 million of positive income due to the reversal of previously recorded unrealized losses on the whole loans contributed to the securitization. Interest income for the quarter was $23.7 million, and net interest margin was $6.8 million, which compressed due to both a reduction in the size of our portfolio as well as higher financing costs. Operating expenses, excluding securitization costs, were $4.7 million. This compares to a quarterly average of $7.2 million for 2022 when also adjusting for severance expense, representing a $2.5 million quarterly decrease. As Sreeni stated, we expect to maintain these savings and are actively working on additional expense savings initiatives.

Turning to the balance sheet, as of March 31, 2023, we had $36.8 million of cash, representing an increase of $7.5 million from Q4 2022. Our recourse debt-to-equity ratio was 3.6x as of the end of the quarter. As of today’s date, our recourse debt to equity ratio was 2x, which reflects the maturity of repurchase obligations from short-term trades that matured in early April. This compares to 2.9x as of the end of the fourth quarter of 2022. We have residential whole loans at a fair value of $544 million financed with $439 million of warehouse debt, $1 billion of residential mortgage loans and securitization trust and $523 million of RMBS, including $73.7 million in retained AOMT securities from off-balance sheet securitizations. We finished the quarter with undrawn financing capacity of approximately $690 million.

As of today, we have a total of $438 million of warehouse debt, only which 36% is subject to mark-to-market risk. This represents a decrease of over 60% over the last two quarters. We’re happy with the result of the AOMT 2023-1 securitization. In addition to reducing $190 million of warehouse debt, and releasing approximately $16 million in cash, the company retained its effective economic ownership interest in the rated bonds from the securitization, which had a fair value of $21.8 million as of the deal date. These bonds are expected to yield between 11% and 13% on a go-forward basis. The weighted average coupons of loans we contributed to the deal was 5.15%, which did have the effect of bringing down the weighted average coupon of our remaining residential loan portfolio to 4.63%.

We’re actively working on the next securitization, which we hope to execute shortly. GAAP book value per share increased 3.3% to $9.80 per share as of March 31, 2023, from $9.49 as of December 31, 2022. Economic book value, which fair values all non-recourse securitization obligations, was $13.39 per share as of March 31, 2023, up 2.1% from $13.11 per share as of December 31, 2022. We expect changes to our GAAP and economic book value over the near term to be largely tied to the interest rate and spread movements as we continue to rebuild the earnings power of our portfolio. As Sreeni discussed, we have resumed purchasing newly originated loans and plan to methodically and prudently increase our purchase volumes throughout the quarter. Recent rate locks are in the 8% range with LTVs at 72%, average FICO scores in the mid-700s.

A balance between these new loans and a structured securitization process is the best way for us to develop the earnings power of our portfolio. As we securitize, we’ll move into more newly originated non-QM loans with significantly higher coupons in our current loan portfolio. Finally, the company has declared a $0.32 per share common dividend payable on May 31, 2023 to shareholders of record as of May 22, 2023. This implies an annual dividend rate of $1.28 per share or a yield of approximately 17% as of the closing price on May 3, 2023. I will now turn it back to Sreeni for closing remarks.

Sreeni Prabhu: Thank you, Brandon. Before turning the call over to the operator for Q&A, I would like to conclude with some brief remarks. We are confident in our ability to navigate this current environment while progressing on our long-term strategic outlook. We strongly believe that the embedded strength and the resilience of our portfolio and the business model will be apparent in the coming quarters. That said, we are not naive to the fact that credit cracks are starting to appear and rate volatility story will move to credit risk story. Currently, all eyes are on commercial real estate, and we have not seen any weakness in our residential loan portfolio. But judging from the environment that we’re in and the volatility that we are seeing, we are tightening our credit box, being conservative on our HPA assumptions and lowering our loan to values in our new loan originations.

As always, I would like to thank the entire Angel Oak team for their hard work and contributions as we seek to build long-term value for our shareholders. With that, we’ll open up the call to your questions. Operator?

Q&A Session

Operator: We will now begin the question-and-answer session. Our first question will come from Don Fandetti with Wells Fargo. You may now go ahead.

Don Fandetti: Yeah. So, can you talk a little bit about your liquidity position? I mean, it seems like things are relatively stable, in particular, if you’re able to do another securitization that can help with the $500 million of loans that are yet to be securitized. And then also, can you talk about plans for the dividend?

Brandon Filson: Yeah. So, hey, Don. Yes, our liquidity position is much stronger than it’s been in the past, and that’s why we, post quarter-end, post 3/31, started buying and locking new loans or originating out of the mortgage companies. The business is still generating lots of cash flow, especially if we do get another securitization off in short order, I mean more to come on that hopefully by the time we meet up again for the next quarter. But — and then again, on the dividend side, as soon as we start buying these higher-coupon loans, our NIM will start widening out and then coupling that with expense mitigation strategies, barring unforeseen circumstances or what’s going on with regional banks spilling over to us, we’re kind of — we’re anticipating that we would obviously look at the dividend every quarter. But we think that $0.32 is an achievable target coming in the next few quarters in terms of coverage ratio.

Don Fandetti: Okay. Thanks.

Operator: This concludes our question-and-answer session. I would like to turn it back over to management for any closing remarks.

Sreeni Prabhu: Thank you, everyone, for your time and interest in Angel Oak Mortgage REIT. We look forward to connecting with all of you guys next quarter. In the meantime, if you have any questions, please feel free to reach out to us. Have a great day.

Operator: The conference has now concluded. Thank you for attending today’s presentation. You may now disconnect.