Enact Holdings, Inc. (NASDAQ:ACT) Q4 2023 Earnings Call Transcript February 7, 2024
Enact Holdings, Inc. isn’t one of the 30 most popular stocks among hedge funds at the end of the third quarter (see the details here).
Operator: Hello, and welcome to Enact’s Fourth Quarter Earnings Call. Please be advised that today’s conference is being recorded. I would now like to hand the conference over to your first speaker, Daniel Kohl, Vice President of Investor Relations. You may begin.
Daniel Kohl: Thank you, and good morning. Welcome to our fourth quarter earnings call. Joining me today are Rohit Gupta, President and Chief Executive Officer; and Dean Mitchell, Chief Financial Officer and Treasurer. Rohit will provide an overview of our business performance and progress against our strategy. Dean will then discuss the details of our quarterly results before turning the call back to Rohit for closing remarks. We will then take your questions. The earnings materials we issued after market close yesterday contain our financial results for the quarter, along with a comprehensive set of financial and operational metrics. These are available on the Investor Relations section of the company’s website at www.ir.enactmi.com.
Today’s call is being recorded and will include the use of forward-looking statements. These statements are based on current assumptions, estimates, expectations, and projections as of today’s date. Additionally, they are subject to risks and uncertainties, which may cause actual results to be materially different, and we undertake no obligation to update or revise such statements, as a result of new information. For a discussion of these risks and uncertainties, please review the cautionary language regarding forward-looking statements in today’s press release as well as in our filings with the SEC, which will be available on our website. Please keep in mind the earnings materials and management’s prepared remarks today include certain non-GAAP measures.
Reconciliations of these measures to the most relevant GAAP metrics can be found in the press release, our earnings presentation, and our upcoming SEC filing on our website. With that, I’ll turn the call over to Rohit.
Rohit Gupta: Thanks, Daniel. Good morning, everyone. We delivered very strong fourth quarter and full year 2023 results, including high quality growth in our insured portfolio, strong credit performance, increasing investment income, expense efficiency, and solid profitability in return, while also returning substantial capital to our shareholders. Driving this performance was a continued execution of our cycle tested growth and risk management strategy made possible by the hard work and talent of our employees. I’d like to thank them for their continued focus and commitment and for helping Enact deliver another successful year. Net income for the full year was $666 million or $4.11 per diluted share and return on equity was 15%.
We ended 2023 with record insurance in-force of $263 billion driven by new insurance written off $53 billion for the full year and persistency that reached 86% in the fourth quarter. In addition to our strong financial performance, we achieved several strategic milestones during 2023 that will help position us to perform over the long term and across market cycles. First, we delivered important enhancements to our customer and technology platforms. These enhancements have improved the customer experience and are demonstrative of our commitment to deliver a high caliber, seamless, and efficient experience to our lender partners and have helped us add over 150 new customers in 2023 in a market that saw the number of lenders contract. We also made significant progress in extending our platform into compelling adjacency.
During the second quarter, we launched Enact Re to pursue opportunities in the mortgage reinsurance market. Enact Re continues to provide high-quality and attractive GSE risk share business and we have participated in all seven of the GSE deals that have come to market since its launch. And today, I’m pleased to announce that Enact Re has entered into our first international reinsurance deal with a leading mortgage insurance provider in the Australian market. We are excited to be participating in a familiar, mature, and scaled mortgage insurance market where we can leverage our previous experience. When we launched Enact Re, I discussed our view of the opportunities for compelling returns and we continue to be pleased with the strong underwriting and attractive risk-adjusted returns we have seen since its launch.
Going forward, we continue to see Enact Re as a long-term capital and expense-efficient growth opportunity. Aligned with this view, during the quarter, EMICO contributed an additional $250 million to Enact Re, which will support a 12.5% quota share of our in-force business, up from previously announced quota share of 7.5%, as well as new insurance written and new business opportunities, primarily consisting of GSE credit risk transfer. Based on our current view, we believe that with this infusion, we have sufficiently funded Enact Re to support its growth for the foreseeable future and will continue to keep the market apprised of progress through time. Importantly, we executed on these opportunities while driving expenses below our target for the year and exceeding our target for capital returns to our shareholders.
Both Dean and I will have more to say on these topics shortly. I’m very pleased with our operating performance and the strategic progress we achieved in 2023. In 2024, we will continue to maximize value and efficiencies in our core MI business while also pursuing disciplined growth. After a strong 2023, I’m confident that we are well-positioned for continued success as we enter 2024. I will now turn to the operating environment and our results. The economy remains resilient, supported by a strong labor market and healthy household balance sheet, while macro factors such as geopolitical conflicts, higher interest rates, and continued economic uncertainty post potential risks. Delinquency rates for prime mortgage borrowers are consistent with pre-pandemic levels and our manufacturing quality continues to be strong.
Even as originations have slowed amid higher borrowing costs, we are encouraged by the pent-up demand amongst first-time homebuyers, the long-term outlook for housing, and the attractive opportunity we see in the private mortgage insurance market. Home prices continue to be supported by low housing inventory and strong demand, and mortgage insurance will remain an important tool to help buyers qualify for a mortgage. While higher interest rates have affected mortgage originations, elevated persistency has continued to support insurance-in-force growth. As of December 31, only 4% of the mortgages in our portfolio had rates at least 50 basis points above the prevailing market rate. Also, as mortgage rates have come down following a peak of more than 8% in the fourth quarter, recent data has pointed to an uptick in housing activity which may provide a tailwind heading into the spring selling season.
Our overall expectations based on current information is for 2024 MI market size to be similar to that in 2023. The credit quality of our insured portfolio remains strong with a weighted average FICO score of 744 and a weighted average loan-to-value ratio of 93% in the fourth quarter and layered risk in our portfolio was 1.3%. Pricing overall was constructive during the quarter and underwriting standards remained rigorous. We increased our price on NIW in certain cohorts and geographies in response to potential macroeconomic risks. Our dynamic pricing rate engine enables us to deliver our best price to customers while targeting appropriate risk-adjusted returns in real time, ensuring we onboard a prudent mix of business while managing expected returns.
Our delinquency rate in the fourth quarter was 2.1%, up 13 basis points sequentially, relatively flat year-over-year, and consistent with our expectations and pre-pandemic levels. Strong credit performance continued during the quarter and our loss mitigation efforts helped drive strong cure activity. As a result, we released $53 million of reserves and the loss ratio was 10%. We believe we remain well reserved for a range of scenarios. We continue to operate from a position of financial strength with strong balance sheet principles and liquidity. At year-end 2023, our PMIERs sufficiency was a strong 161% or $1.9 billion of sufficiency and approximately 90% of our risk in-force was subject to credit risk transfers. Since last quarter, we have completed an ILN, a quota share, and an excess of loss reinsurance transaction, providing capital efficiency and loss volatility protection that Dean will detail later.
As a proof point to our continued financial strength and liquidity, EMICO received multiple upgrades to its insurer financial strength rating by three different rating agencies in 2023. And as previously announced, S&P upgraded EMICO to A minus in January. With that upgrade, EMICO is rated A minus or equivalent across four different rating agencies and our holding company is rated investment grade across four different rating agencies also. Additionally, the upgrades in 2023 drove Enact’s senior debt rating to investment grade. The strength and flexibility of our capital position allowed us to deploy capital to support new business and grow our insurance in-force, while also meeting our commitment to return capital to our shareholders. In 2023, we returned over $300 million to shareholders in the form of dividends and share repurchases, including a 14% increase in the quarterly dividend beginning in the second quarter and a special dividend of $113 million during the fourth quarter.
Additionally, we completed our first share buyback program of $75 million and authorized a second program of $100 million. Going forward, we remain committed to maximizing shareholder value through our balanced approach to capital allocation. As we enter 2024, we will continue to prudently invest in the growth opportunities we see for the business while also maintaining strong liquidity levels and our commitment to return capital to our shareholders. On that front, for 2024, we expect total capital return will be similar to what we delivered in 2023, and given the compelling valuation we have seen in our stock through late 2023 and early 2024, we expect to increase our share repurchase activity. We had a strong quarter and I’m very pleased with our performance in 2023.
We look forward to continuing to serve our customers and their borrowers and delivering on our opportunity to drive value for our shareholders. With that, I will now turn the call over to Dean.
Dean Mitchell: Thanks, Rohit. Good morning, everyone. We again delivered strong results for the fourth quarter of 2023. GAAP net income for the fourth quarter was $157 million or $0.98 per diluted share as compared to $0.88 per diluted share in the same period last year, and $1.02 per diluted share in the third quarter of 2023. Return on equity was 14%. Adjusted operating income was $158 million or $0.98 per diluted share as compared to $0.90 per diluted share in the same period last year. And a $1.02 per diluted share in the third quarter of 2023. Adjusted operating return on equity was 14%. For the full year, GAAP net income was $666 million or $4.11 per diluted share, compared to $704 million or $4.31 per diluted share in 2022.
Adjusted operating income for 2023 totaled $676 million or $4.18 per diluted share compared to $708 million or $4.34 per diluted share in 2022. Turning to revenue drivers, primary insurance in-force increased in the fourth quarter to a new record of $263 billion, up $1 billion sequentially and up $15 billion or 6% year-over-year. New insurance written of $10 billion was down $4 billion or 27% sequentially and down $5 billion or 31% year-over-year. These declines were primarily driven by a lower estimated private mortgage insurance market in the fourth quarter. Persistency was 86% in the fourth quarter, up two percentage points sequentially and flat year-over-year. As Rohit mentioned, just 4% of the mortgages in our portfolio had rates at least 50 basis points above the prevailing market rate.
While rates remain elevated, we anticipate elevated persistency which will help offset lower production from the impact of higher mortgage rates. Net premiums earned were $240 million were down $3 million or 1% sequentially and up $7 million or 3% year-over-year. The decrease in net premiums earned sequentially was primarily driven by the lapse of older, higher-price policies and higher ceded premiums, driven by the successful execution of our CRT program and partially offset by insurance in-force growth. The year-over-year increase was driven by insurance in-force growth, partially offset by higher ceded premiums and the lapse of older higher-price policies. Our base premium rate of 40.1 basis points was down 0.1 basis points sequentially and 0.9 basis points year-to-date.
Remember that our base premium rate is impacted by a variety of factors and tends to modestly fluctuate from quarter to quarter. Premium yields for the full year 2023 were in line with our expectations and we expect yields to continue to stabilize around current levels in 2024. Our net earned premium rate was 36.4 basis points, down 0.9 basis points sequentially, primarily reflecting higher ceded premiums in the current quarter. Investment income in the fourth quarter was $56 million, up $1 million or 2% sequentially and up $11 million or 25% year-over-year. Higher interest rates have lifted yields in our investment portfolio and we expect and we expect our book yield will continue to increase overall as our portfolio continues to turn over and higher-yielding assets become an increasing proportion of the overall mix.
Our new money yield was over 5% and our portfolio book yield increased to 3.6% for the quarter. Turning to credit, losses in the quarter were $24 million as compared to $18 million last quarter and $18 million in the fourth quarter of 2022. Our loss ratio for the quarter was 10% compared to 7% last quarter and 8% in the fourth quarter of 2022. Our losses and loss ratio were driven by higher current quarter delinquencies, primarily driven by seasonal trends sequentially, in addition to the normal loss development of new books. This was partially offset by favorable cure performance, primarily from 2022 and earlier delinquencies that remained above our expectations, resulting in a $53 million reserve released in the quarter. New delinquencies increased sequentially to 11,700 from 11,100.
Our new delinquency rate for the quarter was 1.2% compared to 1.1% in the fourth quarter of 2022 reflective of ongoing positive credit trends and primarily driven by historical seasonality and the normal loss development of new large books. We continue to book new delinquencies at an approximate 10% claim rate, reflecting our prudent approach to reserving in a dynamic macroeconomic environment. Total delinquencies in the fourth quarter increased sequentially to 20,400 from 19,200. The primary delinquency rate increased 13 basis points sequentially to 2.1%, consistent with our expectations and in line with pre-pandemic levels. We continued to deliver expense discipline throughout 2023. Operating expenses for the full year of 2023 were $223 million compared to $239 million for the full year 2022, lowered by 7%, driven by our commitment to operational excellence and cost reduction initiatives.
Operating expenses for the fourth quarter were $59 million, up 7% sequentially, driven by the timing of premium tax expense recognition and incentive-based compensation, and down 6% year-over-year. The expense ratio for the quarter was 25%, up 2 percentage points sequentially and down 2 percentage points year-over-year. We remain focused on disciplined expense management and towards that end, for 2024, we expect expenses to be in the range of $220 million to $225 million or approximately flat year-over-year. Moving to capital, we continue to operate with a strong capital base and liquidity position. Our PMIERs efficiency was 161% or $1.9 billion above PMIERs requirements at the end of the fourth quarter. Additionally, 90% of our risk in-force is subject to credit risk transfers and our third-party CRT program provides $1.7 billion of PMIERs capital credit.
During the quarter, we completed our sixth ILN issuance, which saw strong interest from investors and reinforced our ability to access the capital markets. And subsequent to quarter end, we closed a new quota share and a new excess of loss reinsurance transaction, both with panels of highly rated reinsurers to provide forward protection for our 2024 business. Lastly, during the quarter, we added a strongly rated reinsurer partner to our 2023 quota share transaction, increasing our cede percentage from approximately 13% to approximately 16%. As this level of activity reflects, our credit risk transfer program remains a critical component of our enhanced business model, driving capital efficiency and volatility protection for unexpected losses.
Turning to capital allocation, we remain committed to our capital prioritization framework which balances maintaining a strong balance sheet, investing in our business, and returning capital to shareholders. We returned just over $300 million to shareholders in 2023 in the form of dividends and share repurchases. During the quarter, we paid out $26 million through our quarterly dividend and $113 million through our special cash dividend and we bought back 656,000 shares for a total of $18 million through our share repurchase program. During January, we repurchased an additional 133,000 shares for a total of $4 million. As of January 31, 2024, there was approximately $82 million remaining on our current share repurchase authorization. As we head into 2024, we will continue to balance investing in growth opportunities across the business with our commitment to return capital to shareholders.
We expect total 2024 capital return to be approximately $300 million, similar to what we delivered in 2023. As in the past, the final amount and form of capital returned to shareholders will ultimately depend on business performance, market conditions, and regulatory approvals. Shifting to Enact Re, as Rohit mentioned, Enact Re has continued to produce solid results since its launch. During the fourth quarter, EMICO contributed an additional $250 million of capital to Enact Re and subsequent to quarter end increased the affiliate quota share cede percentage from 7.5% to 12.5%. This capital contribution will support the increased quota share and for the foreseeable future will provide Runway for Enact Re’s new business opportunities, primarily consisting of GSE credit risk transfer.
We’re very pleased with all we accomplished in 2023 and I would like to thank all of our employees for driving this outstanding performance. We believe we are well-positioned heading into 2024 and remain focused on driving solid returns. Thank you. I will now turn the call back over to Rohit.
Rohit Gupta: Thanks, Dean. As we look ahead, we are encouraged by the significant long-term opportunities for mortgage insurance and believe that our strength and flexibility position us to continue to execute and deliver value for all our stakeholders. Our commitment to responsibly help more people become homeowners motivates everything we do and has never been stronger. Operator, we are now ready for Q&A.
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Q&A Session
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Operator: Thank you. [Operator Instructions] And our first question coming from the line of Bose George with KBW. Your line is open.
Unidentified Participant: Hey, good morning, everyone. This is actually Alex on for Bose. I just wanted to touch on the recent ratings upgrades first. Can you discuss how these upgrades could potentially impact the business? And then maybe just to go into a little bit more detail, what is the benefit of the higher rates for both Enact and the MI industry as a whole?
Rohit Gupta: Yeah. Good morning, Alex. This is Rohit. I’ll get started and I’ll have Dean add color to that. So I think from a business perspective, we are very happy with the ratings upgrade — rating upgrades we have received both in 2023 and 2024. As a reminder, in 2023, we received ratings upgrade from all rating agencies in early part of the year. And in addition to that, we also got A and best rating at A minus for our insurance company. And then in January, we received an upgrade from S&P that upgraded us to A minus at an insurance company level, and at an investment grade level for our holding company. So as I said in my prepared remarks, I think having A minus ratings for our insurance company is positions us very strongly in front of all counterparties, whether that’s GSEs, whether that’s depository institutions or for Enact Re, whether it’s third parties that we do business with.
And then from a holding company perspective, it also positions us well in terms of holding company being investment-grade rated across all rating agencies. So I think both from playing participation in the market, that’s an upside. And at the same time, hopefully, it helps our cost of capital over a period of time.
Dean Mitchell: Yeah, Alex. I’ll just pick up on that last point that Rohit made. I think with now the holding company being fully investment grade, coupled with the fact that we have $750 million of notes outstanding to mature in August of 2025, I really think that sets the table for better access to the investment grade market and ultimately tighter spreads when we ultimately do refinance the 2025 notes. So we think it’ll have a meaningful economic impact as we go forward towards that refinance activity.
Unidentified Participant: Great, that makes sense. And then just one more, maybe on the high or higher ceded premiums in the quarter. Is this — is the 4Q level something that will run rate moving forward?
Dean Mitchell: Yeah. Alex, a good question. Appreciate that. I think we were very active recently in the CRT market, so start with that. We talked about the execution of our first ILN transaction since 2021. We also added the highly rated reinsurer to our 2023 quota share transaction, which increased the cede commission from 13% to 16%. And then post to year end we added both a forward XoL and a quota share transaction on our 2024 NIW. So that activity isn’t fully baked into our Q4 run rate. So I would say the $25 million probably is not the right run rate as we head into Q1 when we fully bake in a full quarter of the ILN. In addition to that, start baking in the forward XoL and forward quota shares, I think you’re going to see a run rate closer to $28 million, $29 million entering in Q1, just taking into account those transactions.
I think it’s important to remember with those latter two transactions, those are forward transactions on our 2024 NIW. So those will continue to increase over the course of the year as we continue to produce more NIW and the coverage continues to expand. There is some obviously potential for lapse offset in that run rate, but lapse has been incredibly slow in our CRT program, given the high degree of persistency that we’ve experienced in the current quarter. So, I think hopefully the $28 million, $29 million gives you a run rate heading into Q1. And then just consider that those 24 coverages will continue to increase protection and increase ceded premiums over the course of the remainder of the year.
Rohit Gupta: So Alex, just one or two things to add to Dean’s points. First thing, from an overall operating leverage perspective, we have messaged before that we want our operating leverage to be in mid-30s and we are building up to that. So this is part of the build and an important aspect of that is our participation in quota share transaction where our peer group probably has a higher percentage of quota share transactions where you actually see the higher level of premium upfront. So you see an increase in ceded premium, but part of that premium comes back in your ceding commission and offsets your expense ratio. So that’s new for us. This is our second quota share transaction, so just important to point out that balance in P&L.
And then the last thing I would say just to kind of wrap this up is from a ceded premium perspective, having those forward quota share and excess of lost transactions done on 2024 new originations, new insurance written gives us a capital return confidence that Dean talked about in our prepared remarks. So being able to give that capital return guidance early in the year is also based on that fourth quarter activity in CRT space.
Unidentified Participant: Got it. That makes sense. Thanks so much for taking the questions.
Rohit Gupta: Thank you.
Dean Mitchell: Thanks, Alex.
Operator: Thank you. And our next question is coming from the line of Rick Shane with JPMorgan. Your line is open.
Richard Shane: Thanks for taking my questions this morning, guys. Look, we’re in a unique environment where disproportionately volumes are purchase-driven versus refi-driven. But we’re also in an environment where purchase activity is quelled by lack of supply. I’m curious, strategically — both tactically and strategically, how you approach that market. Is it — are there short-term things that you do? And then when you think about taking that risk on that may be slightly different between purchase and refi, and owning that risk for five years, how do you think about the differences there as well?
Rohit Gupta: Yeah. Good morning, Rick. So I will get started and Dean can add color on this. So definitely we have been operating in a very dynamic and complex market. And I think in recent months we have even seen more factors in play between higher mortgage rates that actually went above 8%. In second half of 2023, we have seasonality in play and then also some weather events. But I think the combined effect of that has had an impact on purchase originations volume in Q4 and as a result on MI market size too. I think from a volume perspective, those are the factors kind of we take into account in terms of what MI market size is and the market we are playing in. From a risk perspective, as we have stated in the past, we have very granular and very deep models that are based on our own data that is kind of with us for the last 40 years.
And that gives us a lot of confidence that once we come up with our view of the market and the range of outcomes around that base case, then we can actually pivot our participation based on risk categories, based on risk attributes, and our risk-based pricing engines allow us to deploy that strategy down to an MSA level from a geography perspective, and then down to any risk attributes that we choose to. So I think that’s how I would think about it. More broadly, it’s tough to talk about our commercial strategy in terms of risk attributes that are in play in different cycles. But hopefully, that gives you our mindset and the tools that we have at our disposal to deploy our pricing and risk management mindset. And that has kind of delivered results that you see over the last few years for us,
Dean Mitchell: Yeah. The two aspects that Rohit didn’t cover that I’ll pick up on probably don’t change as much, to be honest with you. One is expense management. Obviously, we’re always focused on making sure that our economic footprint is in relation to our — into the market size and the market realities. But I think quite frankly, whether a big market or a small market, we’re focused across the business on prudent expense management. So I don’t know that anything changes there, but it does highlight our focus. We may get more scrutiny on expense management in a smaller market. And then CRT, and again, not much change here. I think our business objectives with our CRT is driving efficient capital as a capital source, and traditionally we think about that in the PMIERs context and then lost volatility protection.
So we still want to go out and secure CRT for those two purposes. Obviously, the quantum might change given the amount of new business, but I think the objectives of the CRT and the use of CRT are programmatic and remain in place.
Richard Shane: Got it. Okay. And if I may ask one follow-up, the existing book is probably more barbell than at any time in the history of the industry where you have a couple of cohorts that are benefiting from huge HPA, incredibly low underlying rates, and so the quality there is going to be extremely high, your more recent cohorts, less HPA, higher coupon, presumably more credit risk. When we look to a more dovish fed, is the opportunity to modestly derisk the book? Yes, persistency will go down on those more recent cohorts, but presumably, that will drive some HPA and borrowers’ opportunity to step down in rates. Is that how we should look at things? Is that the favorable opportunity ahead?
