Press 11-4-15

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Two Harbors Investment Corp. Reports Third Quarter 2015 Financial Results

Quarter Highlighted by Growth of Operational Businesses

NEW YORK, Novemer 4, 2015 Two Harbors Investment Corp. (NYSE: TWO), a real estate investment trust that invests in residential mortgage-backed securities (RMBS), residential mortgage loans, mortgage servicing rights (MSR), commercial real estate and other financial assets, today announced its financial results for the quarter ended September 30, 2015.

Summary

  • Sponsored two securitizations, issuing securities backed by approximately $605.9 million unpaid principal balance (UPB) of prime jumbo residential mortgage loans.
  • Added senior and mezzanine commercial real estate loans with an aggregate carrying value of $245.3 million at September 30, 2015.
  • Repurchased 1.4 million shares of common stock at an average price of $8.96 per share, which was accretive to book value.
  • Reported Core Earnings of $79.4 million, or $0.22 per weighted average common share.(1)
  • Generated an aggregate portfolio yield of 4.14% and a net interest margin of 2.83% for the quarter ended September 30, 2015.
  • Reported book value was $10.30 per common share, representing a (2.3%)(2) total return on book value after accounting for a dividend of $0.26 per share, bringing the total return on book value for the first nine months of 2015 to (0.2%).(3)
  • Incurred a Comprehensive Loss of $92.8 million, a return on average equity of (9.4%), or ($0.25) per weighted average common share.

“We achieved several key stated goals in the third quarter with respect to our operational businesses,” stated Thomas Siering, Two Harbors’ President and Chief Executive Officer. “Notably, we increased our capital allocation to our mortgage loan conduit, MSR and commercial real estate franchises to 30%. As we strive to be an industry leader and bring innovative capital solutions to the U.S. real estate market, we are quite proud of our achievements in this regard during the quarter.”

(1) Core Earnings is a non-GAAP measure. Please see page 13 for a definition of Core Earnings and a reconciliation of GAAP to non-GAAP financial information.

(2) Return on book value for the quarter ended September 30, 2015 is defined as the decrease in book value from June 30, 2015 to September 30, 2015 of $0.51, plus the dividend declared of $0.26 per share, divided by June 30, 2015 book value of $10.81 per share.

(3) Return on book value for the nine months ended September 30, 2015 is defined as the decrease in book value from December 31, 2014 to September 30, 2015 of $0.80, plus dividends declared of $0.78, divided by the December 31, 2014 book value of $11.10 per share.

Operating Performance
The following table summarizes the company’s GAAP and non-GAAP earnings measurements and key metrics for the respective periods in 2015:

(1) Please see page 13 of this press release for a reconciliation of GAAP to non-GAAP financial information.

Earnings Summary
Two Harbors reported Core Earnings for the quarter ended September 30, 2015 of $79.4 million, or $0.22 per weighted average common share outstanding, as compared to Core Earnings for the quarter ended June 30, 2015 of $80.2 million, or $0.22 per weighted average common share outstanding. On a Core Earnings basis, the company recognized an annualized return on average equity of 8.1% and 7.9% for the quarters ended September 30, 2015 and June 30, 2015, respectively.

For the third quarter of 2015, the company recognized:

  • net realized gains on RMBS and residential mortgage loans held-for-sale of $62.4 million, net of tax;
  • net unrealized gains on RMBS and residential mortgage loans held-for-sale of $4.4 million, net of tax;
  • net losses of $49.0 million, net of tax, related to swap and swaption terminations and expirations;
  • net unrealized losses of $89.1 million, net of tax, associated with interest rate swaps and swaptions economically
  • hedging its investment portfolio, repurchase agreements and Federal Home Loan Bank of Des Moines (FHLB) advances;

  • net realized and unrealized losses on other derivative instruments of approximately $2.7 million, net of tax;
  • net realized and unrealized gains on consolidated financing securitizations of $1.1 million, net of tax;
  • a net decrease in fair value of $54.7 million(2) on MSR, net of tax; and
  • securitization deal costs of $1.7 million, net of tax.

(2) Decrease in fair value on MSR, net of tax, of $54.7 million is comprised of a decrease in fair value of $39.2 million, net of tax, excluded from Core Earnings and $15.5 million, net of tax, of estimated amortization included in Core Earnings

The company reported a GAAP Net Loss of $34.8 million, or ($0.09) per weighted average common share outstanding, for the quarter ended September 30, 2015, as compared to GAAP Net Income of $221.5 million, or $0.60 per weighted average common share outstanding, for the quarter ended June 30, 2015. On a GAAP Net Income basis, the company recognized an annualized return on average equity of (3.5%) and 21.8% for the quarters ended September 30, 2015 and June 30, 2015, respectively.

The company reported a Comprehensive Loss of $92.8 million, or ($0.25) per weighted average common share outstanding, for the quarter ended September 30, 2015, as compared to Comprehensive Income of $2.7 million, or $0.01 per weighted average common share outstanding, for the quarter ended June 30, 2015. The company records unrealized fair value gains and losses on the majority of RMBS, classified as available-for-sale, in Other Comprehensive Income. On a Comprehensive Income basis, the company recognized an annualized return on average equity of (9.4%) and 0.3% for the quarters ended September 30, 2015 and June 30, 2015, respectively.

Other Key Metrics
Two Harbors declared a quarterly cash dividend of $0.26 per common share for the quarter ended September 30, 2015. The annualized dividend yield on the company’s common stock for the quarter, based on the September 30, 2015 closing price of $8.82, was 11.8%.

The company’s book value per share, after taking into account the third quarter 2015 dividend of $0.26 per share, was $10.30 as of September 30, 2015, compared to $10.81 as of June 30, 2015, which represented a total return on book value for the quarter of (2.3%).(1)

Other operating expenses for the quarter ended September 30, 2015 were approximately $16.1 million, or 1.6% of average equity, compared to approximately $15.8 million, or 1.6% of average equity, for the quarter ended June 30, 2015.

Portfolio Summary
The company’s aggregate portfolio is principally comprised of RMBS available-for-sale securities, inverse interest-only securities (Agency Derivatives), MSR, residential mortgage loans held-for-sale, net economic interests in consolidated securitization trusts and commercial real estate loans held-for-investment. As of September 30, 2015, the total value of the company’s portfolio was $14.1 billion.

The company’s portfolio includes rates, credit and commercial real estate strategies. The rates strategy consisted of $9.7 billion of Agency RMBS, Agency Derivatives and MSR as well as their associated notional hedges as of September 30, 2015. The credit strategy consisted of $4.1 billion of non-Agency RMBS, net economic interests in consolidated securitization trusts, prime jumbo residential mortgage loans and credit sensitive residential mortgage loans, as well as their associated notional hedges as of September 30, 2015. The commercial real estate strategy consisted of senior and mezzanine loans with an aggregate carrying value of $290.9 million as of September 30, 2015.

For the quarter ended September 30, 2015, the annualized yield on the company’s average aggregate portfolio was 4.14% and the annualized cost of funds on the associated average borrowings, which includes net interest rate spread expense on interest rate swaps, was 1.31%. This resulted in a net interest rate spread of 2.83%.

(1) Return on book value for the quarter ended September 30, 2015 is defined as the decrease in book value from June 30, 2015 to September 30, 2015 of $0.51, plus the dividend declared of $0.26 per share, divided by June 30, 2015 book value of $10.81 per share.

RMBS and Agency Derivatives
For the quarter ended September 30, 2015, the annualized yield on average RMBS and Agency Derivatives was 4.1%, consisting of an annualized yield of 3.3% in Agency RMBS and Agency Derivatives and 7.8% in non-Agency RMBS.

The company experienced a three-month average constant prepayment rate (CPR) of 9.7% for Agency RMBS and Agency Derivatives held as of September 30, 2015, compared to 9.0% for those securities held as of June 30, 2015. The weighted
average cost basis of the principal and interest Agency portfolio was 108.0% of par as of both September 30, 2015 and June 30, 2015. The net premium amortization was $34.7 million and $40.3 million for the quarters ended September 30, 2015 and June 30, 2015, respectively.

The company experienced a three-month average CPR of 6.9% for non-Agency principal and interest RMBS held as of September 30, 2015, as compared to 6.0% for those securities held as of June 30, 2015. The weighted average cost basis of the non-Agency portfolio was 63.7% of par as of September 30, 2015, compared to 63.0% of par as of June 30, 2015. The discount accretion was $24.1 million for the quarter ended September 30, 2015, compared to $25.3 million for the quarter ended June 30, 2015. The total net discount remaining was $1.3 billion as of September 30, 2015, compared to $1.5 billion as of June 30, 2015, with $0.5 billion designated as credit reserve as of September 30, 2015. As of September 30, 2015, fixed-rate investments composed 80.5% and adjustable-rate investments composed 19.5% of the company’s RMBS and Agency Derivatives portfolio.

As of September 30, 2015, the company had residential mortgage loans held-for-investment with a carrying value of $3.0 billion and the company’s collateralized borrowings had a carrying value of $2.0 billion, resulting in net economic interests in consolidated securitization trusts of $987.8 million.

Mortgage Servicing Rights
The company held MSR on mortgage loans with UPB totaling $48.1 billion. The MSR had a fair market value of $447.3 million as of September 30, 2015, and recognized unrealized losses of $61.5 million during the quarter ended September 30, 2015.

The company does not directly service mortgage loans, but instead contracts with fully licensed subservicers to handle substantially all servicing functions for the loans underlying the company’s MSR. The company recognized $32.0 million of servicing income, $6.8 million of servicing expenses and $0.4 million in reserve expense for representation and warranty obligations during the quarter ended September 30, 2015.

Residential Mortgage Loans Held for Sale
As of September 30, 2015, the company held prime jumbo residential mortgage loans with a fair market value of $714.7 million and had outstanding purchase commitments to acquire an additional $501.2 million UPB of residential mortgage loans, subject to fallout if the loans do not close. For the quarter ended September 30, 2015, the annualized yield on the prime jumbo residential mortgage loan portfolio was 3.9%, compared to 3.8% for the quarter ended June 30, 2015.

During the quarter, the company completed two securitizations, Agate Bay Mortgage Trust 2015-5 and Agate Bay Mortgage Trust 2015-6. The trusts issued securities backed by approximately $605.9 million UPB of prime jumbo residential mortgage loans.

Commercial Real Estate
As previously disclosed, the company intends to allocate $500 million in equity capital to its commercial real estate initiative. As of September 30, 2015, the company held senior and mezzanine commercial real estate loans with an aggregate carrying value of $290.9 million. The company expected to deploy the remainder of this capital allocation in the fourth quarter of 2015 and into 2016.

Other Investments and Risk Management Derivatives
The company held $782.0 million notional of net long TBAs as of September 30, 2015, which are accounted for as derivative instruments in accordance with GAAP.

As of September 30, 2015, the company was a party to interest rate swaps and swaptions with a notional amount of $24.0 billion. Of this amount, $8.0 billion notional in swaps were utilized to economically hedge interest rate risk associated with the company’s LIBOR-based repurchase agreements and FHLB advances, $6.0 billion notional in swaps were utilized to economically hedge interest rate risk associated with the company’s investment portfolio, and $10.0 billion net notional in swaptions were utilized as macroeconomic hedges.

The following tables summarize the company’s investment portfolio:

(1) Net economic interest in securitization consists of residential mortgage loans held-for-investment, net of collateralized borrowings in consolidated securitization
trusts.

(1) Legacy non-Agency RMBS includes non-Agency bonds issued up-to and including 2009. New issue non-Agency RMBS includes bonds issued after 2009.
(2) Cost of funds includes interest spread expense associated with the portfolio’s interest rate swaps.
(3) Defined as total borrowings to fund RMBS, residential mortgage loans held-for-sale, commercial real estate loans held-for-investment and Agency Derivatives, divided by total equity.
(4) Weighted average cost basis includes RMBS principal and interest securities only. Average purchase price utilized carrying value for weighting purposes.
(5) Average purchase price utilized carrying value for weighting purposes. If current face were utilized for weighting purposes, total non-Agency RMBS excluding the company’s non-Agency interest-only portfolio would be $58.98 at September 30, 2015.

“In the third quarter we sponsored two Agate Bay securitizations, increased our MSR investments and added eight commercial real estate loans,” stated Bill Roth, Two Harbors’ Chief Investment Officer. “These developments highlight our commitment to growing our operational businesses, as they have the potential to drive long-term stockholder returns.”

Financing Summary
The company reported a debt-to-equity ratio, defined as total borrowings under repurchase agreements and FHLB advances to fund RMBS, Agency Derivatives, residential mortgage loans held-for-sale and commercial real estate loans held-forinvestment divided by total equity, of 3.1:1.0 as of both September 30, 2015 and June 30, 2015, respectively.

As of September 30, 2015, the company had outstanding $8.0 billion of repurchase agreements funding RMBS, Agency Derivatives and residential mortgage loans held-for-sale with 21 different counterparties. Excluding the effect of the company’s interest rate swaps, the repurchase agreements had a weighted average borrowing rate of 0.87% and weighted average remaining maturity of 57 days as of September 30, 2015.

The company’s wholly owned subsidiary, TH Insurance Holdings Company LLC (TH Insurance), is a member of the FHLB. As a member of the FHLB, TH Insurance has access to a variety of products and services offered by the FHLB, including secured advances. As of September 30, 2015, TH Insurance had $3.7 billion in outstanding secured advances, with a weighted average borrowing rate of 0.38% and a weighted average of 12.9 years to maturity, and had an additional $290.0 million of available uncommitted credit for borrowings.

As of September 30, 2015, the company’s aggregate repurchase agreements and FHLB advances funding RMBS, Agency Derivatives and residential mortgage loans held-for-sale had a weighted average of 4.2 years to maturity.

The following table summarizes the company’s borrowings by collateral type under repurchase agreements and FHLB advances, excluding borrowings on U.S. Treasuries, and related cost of funds:

(1) Includes the retained interests from on-balance sheet securitizations, which are eliminated in consolidation in accordance with U.S. GAAP.

Share Repurchase Program
During the third quarter, the company repurchased 1.4 million shares of its common stock pursuant to its share repurchase program at an average price of $8.96 per share, which was accretive to book value, for a total cost of $12.5 million. Through September 30, 2015, the company had repurchased 3.8 million shares for a total cost of $36.4 million pursuant to its share repurchase program, with an additional 21.2 million shares remaining available for purchase.

Conference Call
Two Harbors Investment Corp. will host a conference call on November 5, 2015 at 9:00 a.m. EST to discuss third quarter 2015 financial results and related information. To participate in the teleconference, please call toll-free (877) 868-1835 (or (914) 495-8581 for international callers), conference code 50181271, approximately 10 minutes prior to the above start time. You may also listen to the teleconference live via the Internet on the company’s website at www.twoharborsinvestment.com in the Investor Relations section under the Events and Presentations link. For those unable to attend, a telephone playback will be available beginning at 12:00 p.m. EST on November 5, 2015, through 12:00 a.m. EST on November 12, 2015. The playback can be accessed by calling (855) 859-2056 (or (404) 537-3406 for international callers), conference code 50181271. The call will also be archived on the company’s website in the Investor Relations section under the Events and Presentations link.

Two Harbors Investment Corp.
Two Harbors Investment Corp., a Maryland corporation, is a real estate investment trust that invests in residential mortgagebacked securities, residential mortgage loans, mortgage servicing rights, commercial real estate and other financial assets. Two Harbors is headquartered in New York, New York, and is externally managed and advised by PRCM Advisers LLC, a wholly owned subsidiary of Pine River Capital Management L.P. Additional information is available at www.twoharborsinvestment.com.

Forward-Looking Statements
This presentation includes “forward-looking statements” within the meaning of the safe harbor provisions of the United States Private Securities Litigation Reform Act of 1995. Actual results may differ from expectations, estimates and projections and, consequently, readers should not rely on these forward-looking statements as predictions of future events. Words such as “expect,” “target,” “assume,” “estimate,” “project,” “budget,” “forecast,” “anticipate,” “intend,” “plan,” “may,” “will,” “could,” “should,” “believe,” “predicts,” “potential,” “continue,” and similar expressions are intended to identify such forward-looking statements. These forward-looking statements involve significant risks and uncertainties that could cause actual results to differ materially from expected results, including, among other things, those described in our Annual Report on Form 10-K for the year ended December 31, 2014, and any subsequent Quarterly Reports on Form 10-Q, under the caption “Risk Factors.” Factors that could cause actual results to differ include, but are not limited to: the state of credit markets and general economic conditions; changes in interest rates and the market value of our assets; changes in prepayment rates of mortgages underlying our target assets; the rates of default or decreased recovery on the mortgages underlying our target assets; the occurrence, extent and timing of credit losses within our portfolio; the concentration of credit risks we are exposed to; declines in home prices; our ability to establish, adjust and maintain appropriate hedges for the risks in our portfolio; the availability and cost of our target assets; the availability and cost of financing; changes in the competitive landscape within our industry; our ability to successfully implement new strategies and to diversify our business into new asset classes; our ability to manage various operational risks and costs associated with our business; interruptions in or impairments to our communications and information technology systems; our ability to acquire mortgage loans and successfully securitize the mortgage loans we acquire; our ability to acquire mortgage servicing rights (MSR) and successfully operate our seller-servicer subsidiary and oversee our subservicers; the impact of any deficiencies in the servicing or foreclosure practices of third parties and related delays in the foreclosure process; our exposure to legal and regulatory claims; legislative and regulatory actions affecting our business; the impact of new or modified government mortgage refinance or principal reduction programs; our ability to maintain our REIT qualification; the state of commercial real estate markets and our ability to acquire or originate commercial real estate loans or related assets; and limitations imposed on our business due to our REIT status and our exempt status under the Investment Company Act of 1940.

Readers are cautioned not to place undue reliance upon any forward-looking statements, which speak only as of the date made. Two Harbors does not undertake or accept any obligation to release publicly any updates or revisions to any forwardlooking statement to reflect any change in its expectations or any change in events, conditions or circumstances on which any such statement is based. Additional information concerning these and other risk factors is contained in Two Harbors’ most recent filings with the Securities and Exchange Commission (SEC). All subsequent written and oral forward-looking statements concerning Two Harbors or matters attributable to Two Harbors or any person acting on its behalf are expressly qualified in their entirety by the cautionary statements above.

Non-GAAP Financial Measures
In addition to disclosing financial results calculated in accordance with United States generally accepted accounting principles (GAAP), this press release and the accompanying investor presentation present non-GAAP financial measures, such as Core Earnings and Core Earnings per common share, that exclude certain items. Two Harbors’ management believes that these non-GAAP measures enable it to perform meaningful comparisons of past, present and future results of the company’s core business operations, and uses these measures to gain a comparative understanding of the company’s operating performance and business trends. The non-GAAP financial measures presented by the company represent supplemental information to assist investors in analyzing the results of its operations. However, because these measures are not calculated in accordance with GAAP, they should not be considered a substitute for, or superior to, the financial measures calculated in accordance with GAAP. The company’s GAAP financial results and the reconciliations from these results should be carefully evaluated. See the GAAP to non-GAAP reconciliation table on page 13 of this release.

Additional Information
Stockholders of Two Harbors and other interested persons may find additional information regarding the company at the SEC’s Internet site at www.sec.gov or by directing requests to: Two Harbors Investment Corp., Attn: Investor Relations, 590 Madison Avenue, 36th Floor, New York, NY 10022, telephone (612) 629-2500.

Contact
July Hugen, Director of Investor and Media Relations, Two Harbors Investment Corp., (612) 629-2514 or July.Hugen@twoharborsinvestment.com.

 

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