Redwood Trust, Inc. (NYSE:RWT) Q1 2024 Earnings Call Transcript

Redwood Trust, Inc. (NYSE:RWT) Q1 2024 Earnings Call Transcript April 30, 2024

Redwood Trust, Inc. misses on earnings expectations. Reported EPS is $0.05 EPS, expectations were $0.09. Redwood Trust, 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: Good afternoon and welcome to the Redwood Trust Inc. First Quarter 2024 financial results conference call. Today’s conference is being recorded. I’ll now turn the call over to Kaitlyn Mauritz, Redwood’s Senior Vice President of Investor Relations. Please go ahead.

Kaitlyn Mauritz: Thank you, operator. Hello everyone and thank you for joining us today for our first quarter 2024 earnings conference call. With me on today’s call are Chris Abate, Chief Executive Officer; Dash Robinson, President; and Brooke Carillo, Chief Financial Officer. Before we begin, I want to remind you that certain statements made during management’s presentation today with respect to future financial and business performance may constitute forward-looking statements. Forward-looking statements are based on current expectations, forecasts, and assumptions that involve risks and uncertainties that could cause actual results to differ materially. We encourage you to read the company’s annual report on Form 10-K, which provides a description of some of the factors that could have a material impact on the company’s performance and could cause actual results to differ from those that may be expressed in forward-looking statements.

On this call, we may also refer to both GAAP and non-GAAP financial measures. The non-GAAP financial measures provided should not be utilized in isolation or considered as a substitute for measures of financial performance prepared in accordance with GAAP. A reconciliation between GAAP and non-GAAP financial measures are provided in our third quarter Redwood review available on our website, redwoodtrust.com. Also note that the content of today’s conference call contains time-sensitive information that are accurate only as of today. We do not intend and undertake no obligation to update this information to reflect subsequent events or circumstances. Finally, today’s call is being recorded and will be available on our website later today. I’ll now turn the call over to Chris for opening remarks.

Chris Abate: Thanks Kate. In February, we delivered our fourth quarter commentary where our focus was on actions we took in 2023 to lay the groundwork for a long-term positioning. These actions occurred in the midst of one of the worst housing finance markets in decades. More recently, at our March Investor Day, we updated the market on our progress at that point in the first quarter, putting the announcement of a transformational new capital partnership. With the first quarter now behind us, we’re pleased to be building on the foundation we established, generating significant increases in net interest income, GAAP earnings, EAD earnings, and GAAP book value. As we’ll discuss in today’s call, first quarter is emblematic of our long-term strategic vision, demonstrates the potential of our platform to deliver value regardless of the interest rate environment.

Our business has been fueled by the strong capital position we’ve amassed in recent quarters, while allowing us to form generational partnerships with banks and other institutions who now lack portfolio capacity for residential mortgages. With April now behind us, we continue to gain market share, making our trajectory worthy of a second look by macro traders who’ve been otherwise consumed for the gyrations of the 10-year treasury. Our residential consumer locked volume was up 50% quarter-over-quarter, eclipsing our highest level since the beginning of this Fed tightening cycle. Our residential investor business has also found momentum on the heels of the $750 million strategic partnership that we announced with the Canada Pension Plan Investment Board last month.

As a reminder this partnership includes a $500 million joint venture sized to purchase up to $4 billion of residential investor loans in the quarters ahead. But the partnership with the Canada Pension Plan Investment Board is much more than a traditional joint venture. It also provides us with significant corporate liquidity to a $250 million secured revolving facility. Through today we’ve already drawn $100 million on this facility as it’s well-suited to address the anticipated growth trajectory for our residential consumer business. Leveraging this partnership has reduced our need for additional equity capital thus far in 2024. An extended period of higher rates has also driven the expansion of our home equity product offerings closed our first directly originated home equity investment option through our Aspire platform in the first quarter began the process of rolling out traditional second-lien mortgage products through our seller base.

As we have for some of our other products, we expect to pursue dedicated capital partners for this asset class in the quarters ahead and scale these offerings over time. Turning to our investment portfolio, fundamentals remain strong. The vast majority of our investments backed by single-family housing credit for homeowners continue to build equity. In particular we’ve made meaningful progress within our residential investor portfolio where we saw a sharp reduction in credit rate related charges for multifamily bridge loans relative to recent quarters. This eventual flattening was intuitive to us as we made important shifts in our product focus as rates began to rise in late 2022. And we’ve steered clear of commercial asset classes now experiencing significant stress.

Collectively, our progress in the first quarter reflects the unique value that our franchise brings to homebuyers, housing investors, banks, independent mortgage companies and private credit institutions who have come to rely upon Redwood. Our focus will now be on scaling our platforms and growing wallet share at a time when few are capable of doing so. While our business stands to significantly benefit from an eventual Fed easing, the first quarter was evidence that we are well-positioned for growth in an extended, hire-for-longer environment as well. As more banks begin to publicly message their early compliance with the anticipated Baseline Game Rules serves as an important reminder of the growing need for Redwood’s products and services.

And with that, I will turn the call over to Dash.

Dash Robinson: Thank you, Chris. I’ll cover the performance of our operating platforms and investment portfolio before handing it over to Brooke to discuss our overall financial performance. As Chris emphasized, the first quarter of 2024 validated the unique opportunity for our residential consumer business to drive volumes and profitability amidst continued pressure on broader industry volumes. We locked $1.8 billion of loans during the quarter, a 53% increase from the fourth quarter. Gross margins were 107 basis points above our historical target range on the strength of three accretive securitizations totaling $1.2 billion, a monthly cadence that drives efficient capital turnover at increased volumes. Credit spreads have remained constructive for issuance.

And earlier this month, we priced our fourth securitization of 2024 at our tightest spreads of the year with robust investor demand. This strength of execution pairs well with our longstanding operational advantages and our first quarter volume mix reflected increased wallet share across our network of loan sellers. Our lock volume with banks rose even as overall bank production fell. Meanwhile, our volumes doubled quarter-on-quarter with independent mortgage bankers or IMBs. These partners remain a key driver of non-agency volumes in the market and represent a longstanding strategic moat for the business, critical to us continuing to drive market share higher. We also saw increased momentum from bulk acquisitions, which more than doubled relative to the fourth quarter.

This is a development we have been planning for as our enhanced capital position allows us to continue to be more aggressive in this channel and pursue larger season portfolios that compliment on the run production. Importantly, momentum in the business continues to grow, notwithstanding the 45 basis point backup in the 10-year treasury yield we have seen in April alone. Lock volumes in April, once again balanced across our seller base and between bulk and flow transactions, outpaced our average Q1 monthly run rate by 25%. Turning to our residential investor platform, our priorities remain prudently growing top-line revenue, proactively managing credit risk and returning the business to sustained operating profitability. For the first quarter, we funded $326 million of loans, effectively flat from fourth quarter volumes.

Revenue margins and segment profitability improved quarter-over-quarter driven by tightening securitization spreads. Volume trends picked up later in the first quarter and given recent volatility and benchmark interest rates, we built important momentum in less rate-sensitive products, including single asset bridge or SAB loans. We entered the second quarter with a growing pipeline as more borrowers come to accept the current rate environment and lock-in coupons. Funding volume in April is trending 15% higher than Q1’s average monthly run rate, driven in part by the largest month for SAB production since the acquisition of the Riverbend platform in mid-2022. Distribution channels for our residential investor loans remain open and are benefiting from a firmer overall market tone.

First quarter bridge production was largely distributed into our Oaktree joint venture and our three revolving bridge securitizations. With the CPP partnership in place, we are finalizing warehouse financing for the joint venture and expect to begin selling both bridge and term loan production to this new vehicle towards the end of the second quarter. Delinquencies in our term and bridge portfolios remain stable quarter over quarter, and we have continued to emphasize disciplined underwriting and product selection. At March 31st, virtually all of our 90-plus-day delinquencies in the bridge portfolio were for loans originated in the third quarter of 2022 or earlier, one of the key junctures at which we evolved our origination approach. Since late 2022, our residential investor production mix has remained predominantly focused on single-family loans, where performance has remained resilient.

This trend bears what we are seeing in our broader investment portfolio, particularly in our re-performing loan, or RPL book, where delinquencies have hit three-year lows, partly on the strength of steadily improving LTVs. In addition, delinquencies within our securitized Sequoia portfolio remain low at just 20 basis points. As a reminder, our investment portfolio sits with $2.47 per share of discount, much of we continue to believe is recoverable with both continued performance of the underlying investments and further firming of risk sentiment, which could reverse unrealized losses from spread widening taken in 2023. During the first quarter, we found attractive pockets of relative value, deploying approximately $115 million of capital into new investments at an estimated mid-teens blended return.

This represented our most active investment quarter since the third quarter of 2022 and we anticipate continuing to deploy excess capital accretively in the coming quarters both in support of our operating platforms and into opportunistic third party investments. And with that, I will turn the call over to Brent to cover our financial results.

Brooke Carillo: Thank you, Dash. We reported GAAP earnings of $29 million for the first quarter or $0.21 per share compared to $19 million or $0.15 per share in the fourth quarter, resulting in a first quarter GAAP ROE of 10%. We reported book value per share of $8.78, a 1.6% increase from $8.64 on December 31st. GAAP earnings exceeded our Q1 common dividend of $0.16 per share and we delivered a quarterly total economic return of 3.5% for the quarter. The improvement in GAAP earnings was driven by higher net income from both of our mortgage banking platforms as well as positive mark-to-market changes in the investment portfolio. Net interest income increased 20% or $4 million in Q1 driven by $200 million of accretive capital deployment over the last two quarters and improved interest income on bridge loans.

This positively impact earnings available for distribution for EAD, which was $11 million or $0.08 per share in the first quarter as compared to $7 million or $0.05 in the fourth quarter. As has been mentioned, we grew box volume and maintained healthy margins above our target gain on sale range in our residential consumer mortgage banking segment, ultimately delivering a 17% GAAP return up from 10% in the prior quarter. We have demonstrated our operating leverage as we rescale the platform, driving down our cost per loan to 37 basis points during the quarter, approaching our run rate target of 30 basis points to 35 basis points in line with historical ranges for the business, contribution from our residential investor mortgage banking segment also improved quarter-over-quarter even with slightly lower volumes due to improved securitization economics from spread tightening.

On our last quarter’s earnings call, we guided the market to another 5% to 10% reduction in G&A from 2023 levels. We made substantial progress towards this goal in the first quarter, following recent expense reduction initiatives completed in late March. Our first quarter G&A expenses include $3 million of costs related to these actions. In aggregate, we expect our go-forward G&A to decrease by approximately $2 million quarterly or $8 million on an annualized basis. Our strong liquidity position was further bolstered by two important new sources of corporate capital. The first was the $250 million secured facility, which was part of the CPP partnership. And the second was the $60 million inaugural senior unsecured debt offering in January. As previously described the CPP financing facility is secured by unencumbered assets as well as by equity in certain of our operating subsidiaries.

The facility is structured with revolving capacity, which makes it well suited to address the anticipated growth trajectory of our residential consumer business. Subsequent to quarter end, we completed an initial draw of $100 million and have begun to deploy the capital in line with the mid-teen return targets Dash mentioned. We reported total recourse leverage of 1.9 times for the first quarter, a decrease from 2.2 times from the fourth quarter as a result of lower recourse debt at our operating businesses as we successfully completed three Sequoia Securitizations during the quarter and reduced our convertible debt by approximately $31 million. Cash and cash equivalents at quarter end were $275 million, compared to $293 million at year end, which is notable given the $146 million of capital deployed during the quarter inclusive of the corporate debt repurchases.

During our Investor Day in March, we took the opportunity to walk the market through our path to higher earnings. Our performance during the quarter serves as a testament toward that goal and we expect to continue to build on the net interest income we generated in the first quarter. We’re committed to growing market share and deploying capital effectively to boost earnings in line with the current dividend level over the remainder of this year. And with that operator, we will open the line for questions.

Operator: Thank you. We will now conduct our question-and-answer session. [Operator Instructions] Our first question comes from the line of Rick Shane with JP Morgan. Please proceed with your question.

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Q&A Session

Rick Shane: Hi, guys. Thanks for taking my question this afternoon. When we compare the bridge loan maturity on schedule from the fourth quarter to the first quarter, it looks to me like about $165 million or $170 million of the pending first quarter maturities have been rolled in or extended into the second and third quarter. Is that about right?

Brooke Carillo: And as right we had about $155 million of extensions on the quarter that were anywhere between about 6 months to 12 months I think around eight months on average.

Rick Shane: Got it. And last year you guys provided, sort of, a pie chart showing the outcomes by – of 2023 maturities on any broke out how what percentage were extended what percentage were extended with additional commitments on that $155 million was a high percentage extended with additional equity commitments or how should we think about that?

Dash Robinson: It was more, Rick. You know a lot of those were shorter term in nature. So we always — we don’t extend alone without number one procuring economics; and number two, for ensuring that our equity position remains sufficient. So in certain of those cases yes, we did ask that bar to re up but in many cases where we feel like we have sufficient equity position and the borrower just needs a few more months on the houses on the market and there is looking to sell it. We don’t always require it, but we always obviously pulled out a fresh appraisal and ensure that our equity position is sound.

Brooke Carillo: And that’s – other Rick, right.

Rick Shane: I’m sorry, what?

Brooke Carillo: Sorry, I just noting that the associated fees are in other income that Dash mentioned.

Rick Shane: Got it. And as we move through 2024 under current market conditions reasonable to assume on sort of a roughly 50-50 mix between payoffs and extensions at this point?

Dash Robinson: We would actually probably expect extension activity to drop a bit on you know just for context since the beginning of the year through today the end of April we’ve had about $250 million in payoffs in the full bridge portfolio about 80% of that was from 2022 vintage earlier. So you’re starting to see a little bit better on velocity particularly as the single-family market remains strong and people are starting to move inventory a little bit more efficiently sort of on the consumers as single-family markets remained strong. So we would historically we’ve generally seen a third or so. And going forward we would expect this number to trend back closer to that. So Rick….

Rick Shane: That’s certainly helpful.

Dash Robinson: No just to make sure we don’t bury the lead. We thought that the performance of the bridge book this past quarter certainly from a credit perspective was substantially improved. When you dig into the numbers and you look at the slope of delinquencies and on credit there is a significant flattening which I don’t think we’ve observed across the sector. So we’re actually really, really pleased with that our asset management team and how we’ve sort of evolved that book. But I’m sure all of that will be evident in the review.

Rick Shane: Yes. No look we certainly we certainly see that on the bridge book 20 basis point increase on quarter-over-quarter versus 260 the quarter being or 160 the quarter before so that that second derivative is very favorable. There’s no question on. I’m just trying to understand sort of how the dispositions work.

Dash Robinson: Yes.

Operator: Thank you. Our next question comes from the line of Bose George with KBW. Please proceed with your question.

Bose George: Hi, everyone. Good afternoon. I wanted to ask at the Investor Day, you guys mentioned accretion from the JV. I think it was $0.25 to $0.27 over I think it was a three year period. And the $0.15 that was mentioned in the review today is that over sort of a shorter timeframe and then we’ll sort of grow into that some of the higher numbers over the next three years or just yet trying to figure out the cadence.

Brooke Carillo: Yes and we’re really just reiterating what we had said at Investor Day. So it remains the same and it’s a $0.15 annual number for the joint venture in terms of accretion over where we are kind of with our standalone business as it financed today. As you saw with us in Oaktree, it will take a quarter or so. We’re actively working on financing facilities for the joint venture. We’re seeing a lot of very robust appetite from lenders to finance this facility, as you might expect, which is really going to help us further with our deployment. So we’re excited about it, but this will be a later in Q2 deployment as we get those lines established.

Bose George : Okay. Great. Thanks. And then in terms of deployable capital, how should we think about that now? You have I guess with $274 million of cash, but you’ve got more obviously more flexibility with the JV. And the reviewed mentions unencumbered assets that you could lever up. So just trying to think of put the pieces together and think about how much sort of flexibility you have?

Chris Abate : We think our flexibility is really good, Bose. It’s a great question. At the moment, in terms of liquidity on hand, we think we have about $175 million of deployable capital. That does not include further optimization of unencumbered assets, obviously, inclusive of on the ability to draw on the CPP line further. That by the way is net of the July 2024 convert maturity. So we’re backing that out. We have just over $100 million of remaining outstandings under that issuance. So net of that today we have about $175 million and that can go up by another $125 million plus or more between further draws on CPP, which as a reminder includes unencumbered assets as well as equity in certain of our operating subsidiaries. So definitely net asset value there that’s not otherwise easy to monetize on we can borrow against.

And then we have other securities, which we could encumber if we wanted to and more sort of run-of-the-mill repo. So we feel really good about our deployment. It’s a big part of the NII walk, which was up 20% quarter-on-quarter. And where we where we see future growth, we have some information in the review this quarter about that. A lot of that is linked to this deployable capital and just our ability to go on offense and continue deploying that like we did in the first quarter.

Bose George : Okay. Great. Thanks.

Operator: Thank you. Our next question comes from the line of Doug Harter with UBS. Please proceed with your question.

Kaitlyn Mauritz: Doug, you might be on mute.

Doug Harter : How about now? Hey, can you hear me?

Kaitlyn Mauritz: We can hear you now Doug.

Doug Harter: Perfect. Another question on the bridge delinquencies. Last quarter you gave us a little bit of a — you gave us a break down kind of where — whether how much of it was multi versus single asset. Just wondering if you could update us on kind of that mix of those delinquencies? And then kind of on resolutions, have you — kind of how are the resolutions are trending and kind of where any liquidations that are happening and kind of what the recoveries are there relative to your loans?

Dash Robinson: Sure. We do still have that information. It is in our Excel tables this quarter. It’s out of the body to review. So it’s Table 16 in our Excel tables. I would say the trends are similar. One thing I would note is, we — as Rick pointed out, about 4.7% 90-plus at 3.31 [ph]. Chris talked about the flattening of that curve. Since the end of the quarter in April, we have resolved about 1.3% of the portfolio. So that 90-plus numbers now in the threes, that’s not reflected in the review. Those are all as of 3.31. But we were able to continue momentum with resolutions on guarantee during the month of April last year to-date. In terms of outcomes we’ve been pleased on the bridge portfolio, most of the severities have been zero.

They’ve averaged high single digits in terms of what we’ve resolved, which in terms of where we have the position marked, we feel very, very good about those outcomes and resolutions. You didn’t ask about term, but I’ll mention it. We’ve continued to see good momentum there. Realized severities have been very low in that book sub 1% in terms of the loans to be resolved in the first quarter. So, like we’ve talked about before. We’re not altogether surprised at some of the delinquencies, but we’re pleased that they’re headed back in the right direction. And obviously, ultimately, it’s about the long content. As we resolve, Chris talked about how the asset management team is doing. So we’ve been pleased with the ultimate outcomes there so far.

Brooke Carillo: I also just now you saw that in NII as well, Doug. Our nonaccrual loan bucket declined by about $70 million on the quarter, which contributed about $2 million positive to net interest income for the portfolio. So I think we’re — we try to be pretty conservative about placing loans on nonaccrual sense even in advance of them rolling 90 days delinquent and don’t really take them off until kind of we’re all caught up by the borrower. So I just wanted to know that to that it may explain to NII.

Doug Harter: I appreciate that. And can you give us an update on how book value is trending so far in April?

Chris Abate: Book, we estimate as of effectively today is flat to down 1%.

Doug Harter: Thank you.

Operator: Thank you. Our next question comes from the line of Crispin Love with Piper Sandler. Please proceed with your question.

Q – Crispin Love: Thanks. Appreciate you taking my question. So just first with banks pulling back on Jumbo. Can you just speak to some of the competition that you’re seeing in the space? Are you seeing any new entrants coming in, whether they are mortgage players, asset managers? Just curious on the competitive landscape here, thanks for pulling back and who could be contained with you per share now and who might enter the space going forward.

Chris Abate: Sure. The competitors that we’ve seen more or less over the past year or so have largely been the Wall Street banks, the broker dealers. I think our bank strategy is pretty differentiated because most banks — their first choice is in to sell loans to banks — so if you’re looking for a capital partner, we’re kind of like Switzerland in that regard. And our business operates a lot like the GSEs where we don’t service mortgages, we don’t originate mortgages, which really are. So from that standpoint, the competitive landscape hasn’t changed that much. And we’ve used this period of time where transaction activity in the housing market has been very low, just to deepen these relationships. We keep adding banks to our seller base.

We’ve actually gained a significant amount of share with the independents as well. So I think just being capital efficient and being a great partner has enabled us to really build our business. And I think we’re pretty excited about the growth trajectory of consumer residential. We’re printing results there with CAGRs that reflect that. So ironically, obviously, I think the market views an easing of rates is extremely positive for our business, and that’s true. But as rates sort of paying out at these levels, every day it’s compelling another bank to think about a capital partner. So from that standpoint, ironically, it’s been very positive for the relationships that we’re building. And hopefully, we can continue to do that through the course of 2024

Q – Crispin Love: Great. Thanks. Appreciate all the color there. And then just on the bridge book. On the quarterly funded volume side, it’s decreased, but hasn’t but not as much as some other players in the space. So how do you expect funded volume to trend across the bridge and term portfolios? Do you think you could be reaching the bottom here? Are you seeing opportunities? And are the additions pretty much all in SFR, and do you think there are any multifamily or just very little?

Chris Abate: Yes. That’s a great question, if you think. So as we said in the prepared remarks, April’s run rate will be about 15% higher than the average monthly run rate for Q1. There are a few reasons for that. I think the one we’re most excited about, frankly, is the growth in the single asset bridge funding. That’s a business that we are very committed to. Last quarter, as you saw, was about 16% of our fundings in April, that will probably double or probably 35% of our fundings in April. That’s a single-family strategy, largely an area where we feel like we can compete really strongly with the market with our sales team and our fulfillment, but also frankly, our distribution. Our distribution — across our businesses, but certainly in residential investor at this point is probably in as good a spot as it’s been in quite some time.

When you marry securitization demand, obviously, the joint ventures with CPP coming online next to Oaktree and also demand for whole loans remains really robust, particularly for those smaller balance single asset bridge loans. And we’ve used that to our advantage to really grow volume there, take advantage of the funnel. So that’s one piece and term volumes are trending in the right direction as well. Even with benchmark rates higher, securitization spreads have tightened. We’ve been able to use that to our advantage to build a pipeline there. And also frankly we’re in a situation with a lot of borrowers are wanting to get out of bridge loans that are very high single low double-digit rates and are willing to accept the somewhat higher term loan rates as a result of our benchmark rates are at this point.

So all of those are tailwinds for the business, that it really starts with the right funnel and obviously distribution. And to address your question on multi. Yes, I think we’re remaining very selective there. As we said last quarter, there were a lot of multifamily deals over the past four or five quarters, we could have done and are glad we didn’t. And so I think we’re going to be more opportunistic there. There’s a bit of an analog to the bank store and jumbo what you asked about as well, which is an area we are definitely focusing on. We’re a lot of really, really good sponsors that have gotten low loan to cost loans from banks over the years are not going to be able to be served by those depositories anymore, multifamily sponsors. That’s definitely an opportunity for us, where again, we have this distribution on the other side stronger than we’ve had in quite some time.

So those pieces need to come together in terms of NOIs and just the thoughts on multifamily broadly but at a macro level the pieces are there for that to potentially grow as well.

Crispin Love: Great. Thank you. Appreciate all you answering my questions.

Operator: Thank you. Our next question comes from the line of Don Fandetti with Wells Fargo. Please proceed with your question.

Don Fandetti: Just to clarify, the $100 million drawdown on the CPP facility, is that – am I thinking about it correctly you’re going to use that to essentially fund residuals of residential credit production? Is that how I should think about that?

Brooke Carillo: Yes. We can use it to fund residuals and securitizations as we go forward. We also have a number of residuals that are unfinanced today that represent that $370 million of our unencumbered basket. So I think Dash mentioned the revolving nature of it and we did in our prepared comments as well. I think that’s probably the most interesting feature of the facility just because our working capital needs of the residential mortgage business Flex even intra-months as we’re securitizing at this cadence once a month. And so it really allows us to accordion with those working capital needs. But yes, it allows us to finance a number of different types of assets between our residuals from all the securitizations that we do as well as some of our other assets within the investment portfolio.

Don Fandetti: Got it. And then in terms of EAD covering the dividend, I guess you mentioned that’s going to happen this year probably driven by NII continues to march higher and then you’ve got some cost saves. Is that sort of the best way to think about it?