Orchid Island Capital, Inc. (ORC) Earnings Call Transcript & Summary

Good morning, and welcome to the First Quarter 2025 Earnings Conference Call for Orchid Island Capital. This call is being recorded today, April 25, 2025. At this time, the company would like to remind the listeners that statements made during today's conference call relating to matters that are not historical facts are forward-looking statements, subject to the safe harbor provisions of the Private Securities Litigation Reform Act of 1995. Listeners are cautioned that such forward-looking statements are based on information currently available on the management's good faith, belief with respect to future events and are subject to risks and uncertainties that could cause actual performance or results to differ materially from those expressed in such forward-looking statements. Important factors that could cause such differences are described in the company's filings with the Securities and Exchange Commission, including the company's most recent annual report on Form 10-K. The company assumes no obligation to update such forward-looking statements to reflect actual results, changes in assumptions or changes in other factors affecting forward-looking statements. Now I would like to turn the conference over to the company's Chairman and Chief Executive Officer, Mr. Robert Cauley. Please go ahead, sir.

Thank you, operator, and good morning. Thank you for joining us today. I'm sitting here with Jerry Sintes, our Controller; and Hunter Haas, our Chief Investment Officer and Chief Financial Officer. We will follow by the way, before we start, I hope everybody had a chance to download the deck, which we'll be following under the course of the call. So presuming you have that with you, we will be proceeding in chronological order. Just to give you a summary of what we'll do, we'll first have Jerry go over our financial results for the quarter. I'll then discuss the market developments that shaped the decisions we did and the performance of the portfolio, then Hunter will dive into the portfolio and hedging positions, describe where we stand and what we've done. And then finally, I will do a kind of wrap up, and then we'll open the call up to question and answers. So with that, I will turn the call over to Jerry Sintes.

Thank you. If we turn to Page 5. We'll start with the financial highlights for the quarter. For Q1, we earned $0.18 per share compared to $0.07 in Q4. Book value at 3/31 was $7.94 per share compared to $8.09 at 12/31. Total return for the quarter was 2.6% unannualized compared to 0.6% for Q4. And we declared and paid dividends of $0.36 per share for each quarter. If you turn to Page 6, we go to some portfolio highlights. For Q1, the average portfolio was just under $6 billion compared to $5.3 billion in Q4. Our leverage ratio at 3/31 was 7.8% compared to 7.3% at 12/31 and prepayment speeds were 7.8% at Q1 compared to 10.5% for Q4. Liquidity at 3/31 was 52.2% compared to 52.9% at 12/31. On Page 7 is our summarized financial statements, which you can read at your convenience. And now I'll turn it back over to Bob for market development discussion.

Thanks, Jerry. And before we move on to the market developments, I just want to apologize, in our initial release back in the month, I think it was on the 9th when we released our preliminary earnings per share and book value numbers, we had the breakdown of earnings per share between net interest income and capital gains and loss reversed and it implied that the capital gain component was the larger of the 2. And in fact, it was the much smaller. As we show in the press release, it was roughly a little under $0.02 for the capital gains and the rest of it was from net interest income. So I do apologize for that. Turning now to Slide 9. Q1 was actually very much a continuation of what we saw in Q4, absent what happened very late in the quarter and then, of course, very much changed a lot in early April. So just with respect to Q1, as you see on the top left, you can see the red line there. That's just where we were at the end of the year, and we had a significant rally in the cash treasury curve on the green line. And then since quarter end, we've had a significant move with respect to the tariffs and their expected impact on the economy and inflation. The market moved to price in 3 Fed cuts or 3-plus Fed cuts by the end of the year and the long end sold off quite a bit. The initial concern was that this was foreigners dumping treasuries with the safe haven status of the dollar and U.S. treasury somewhat in doubt. Not so sure now that that's the case. We did see earlier this week the results of last week's auctions last specifically the 10- and 30-year, and there was really nothing that changed with respect to foreign participation in those auctions. But what we have seen in long end pressure, there's probably a couple of trading trends that explain that. One is what are known as basis trades with respect to the futures market. They're typically very highly levered trades put on by hedge funds. And when they have to delever, they involve selling the long end quite a bit. Another is just the fact that with the forced selling that was caused by the disruptions in the market, dealers had to take a lot of bonds onto their balance sheet, and that tends to, one, just selling of treasuries or any instrument that was liquid enough to be sold. But also when dealers take on a lot of positions on balance sheet, you typically see movements in swap spreads downward, more negative. And in fact, if you look just to the right, you can see what happened in the swap curve. It's notable, 2 things. One, if you look at the movements over the course of the quarter from 12/31 to 3/31, similar to what happened in the cash market. And of course, what happened since quarter end kind of mirrors that as well. But notably, the absolute numbers are much lower. So swap spreads moved meaningfully negative late in the quarter and into April. And that had a lot to do with mortgage performance, which we'll get to in a minute. In fact, arguably, movements in swap spreads are the biggest drivers of mortgage performance today, and we'll talk about that, as I mentioned. Moving on to the next slide on Slide 10. As you can see at the top, this is just the spread of the current coupon mortgage to the 10-year. Over very large periods of time, that's probably the most appropriate benchmark, but more meaningfully of late, it's really the 5-year just because the current coupon mortgage is a higher coupon premium, or premium but higher coupon security and it has a shorter duration than a 10-year. So really, if you look at this versus 5-year, you would see that the spread had widened out quite a bit because basically looking here, you would say that we really haven't widened that much. However, as I mentioned previously, swap spreads are very negative. And if you look at the spread of the current coupon to benchmarks of the swap curve, that spread is at very wide levels, widest we've seen probably since the outbreak of the COVID pandemic. The bottom left, you can see the performance of mortgages, absolutely happened late in the quarter and early April did quite well. In fact, if you look at the Bloomberg indices mortgages, agency mortgages were the second-best sector in the fixed income markets behind only tips. And as you can see here on the left here, as we approach late February into March, the market was rallying. Mortgages did very well. Orchid did well. Most of our peers had solid positive returns and kind of characteristic with mortgage market as a whole. To the right, you see the roll market. I'll point out a couple of things. On the left 2/3 of that slide, you can see during most of 2024, rolls were not very attractive. That did change quite a bit in the first quarter. They did quite well. That also just helps the class as a whole. There's a lot of factors that drive roles, one of which is just the technical supply and demand such that if there's demand for mortgages in the front month, but there's not a lot of supply, the price of the front month mortgage can get bid up and the drop appears to be larger, and that gives you a nice attractive role. Most of what we saw in the first quarter was actually demand from CMO desks for mortgages as they were generating unprecedentedly high levels of CMO floaters, mainly for the banking community. So that helps support the role, did fall off quite a bit as we enter April. Now just moving on to Slide 11. Volatility as you can see, the top slide is quite high. This top slide is a 12-month look back. We are at the highest levels for that period. I would note that the VIX, which is equity vol was also very high and correlations, which we typically see that have been in place for decades between bonds, treasuries rates, treasuries in particular, and equities has really broken down to a large extent over the last month or so. So for instance, when you would typically have equity weakness and a flight to quality bid, you would see treasuries rally. In fact, we saw just the opposite and their correlations have become more positive, which is very atypical. Just looking at some perspective here on the bottom just shows these Vol levels going back 10 years. And you can see we're at quite high levels. The big spike you see in March of '23 is the regional banking crisis. And then back in March of '20, that's the COVID pandemic. So the Vol has generally been elevated. And outside of the regional banking crisis, the current level of vol is really at the highs of the range that we've had for the last few years. Now moving on to Slide 12, and this is a new slide. This shows swap spreads. As I mentioned, they've moved quite a bit. So what we show here are just 4 different tenors. The top one is the 2-year. The orange line is the 5-year, the green line is the 7-year, and the blue line is the 10-year. As you can see, they have moved dramatically and become quite volatile of late. So there's 2 takeaways from this. One, if you have new capital to deploy today and you're looking to hedge that with swaps, the investment opportunities are phenomenal, extremely attractive spreads, the widest spreads we've seen in quite a time. The flip side of that is if you entered this period by hedging with swaps, it might have been painful. Hunter is going to talk at length about what we've done in the portfolio. I will just give you a brief executive summary. What we generally did, we raised quite a bit of capital during the quarter. We deployed a lot of that proceeds into higher coupon but shorter-duration assets. So shorter duration assets, and we hedge them predominantly with longer duration hedges. So the combination of a short-duration asset being hedged by a longer duration hedge means that you don't need as much notional to do so. So that mitigated our exposure to these decline in swap spreads. And going forward, we would also change the mix, not as much swaps we use more treasury futures. And so if you, for instance, look at our swap notional versus our repo balance, it's much lower. And the reason is the repo balance tends to track your asset size, but because the asset mix has moved to more shorter-duration assets, and we're using longer tenure swaps or futures, the notionals are low in relation to the repo liability. Moving on to Slide 13. This story remains the same. It's just what we've been experiencing for quite some time. The top left, the blue line there is just the refi index. We are at historically low levels. And the red line is mortgage rates, they are very, very high, and it's keeping refinancing activity low. If you look at the bottom chart, you can see that the percentage of the mortgage universe that's refinanceable is very low by historical standards. The top right just shows the primary-secondary spread. That chart is somewhat misleading, just reflects the fact that one, rates have been very, very volatile, but also, we have rate data on a minute-by-minute, day-by-day basis. Mortgage rates, we don't get the data as regularly. And so sometimes you just have timing differences where you can lead to apparent spikes down in the primary secondary spread basis, but that really has been fairly stable. One thing with respect to spreads, we do want to mention is that, as you probably heard, the merge between Rocket Mortgage and Nationstar, this has the potential to definitely increase speeds or hurt the convexity of the mortgage universe. We have added a slide to the appendix, which we will talk about later, Slide 28, and it basically breaks down our exposure to loans serviced by Nationstar. And obviously, there's a potential for this development to affect performance and the pay-ups for specified pools. But as of yet, we really don't have any hard data to point to. So that's still TBD. Slide 14, I don't really have much to say about that other than it just shows you the long-term historical relationship between nominal GDP and the money supply. And as you can see, as the government has been running massive deficits of late, money supply is very far above its long-term trend growth and has corresponded into higher GDP growth. With that, that's it for the market, and I will turn it over to Hunter. He will go through the portfolio.

Thank you, Bob, and good morning. We have a lot to discuss this morning. We've been very busy, quite active in the capital markets in the first quarter. And so I have a lot of updates for you. We also want to be mindful of letting our shareholders, as well as the counterparties with which we have credit relationships, know what measures we've been taking to safeguard ourselves from recent market volatility. As such, I'll be discussing activity and several metrics that are as fresh as last night's close. And I just want to mention that's April 24. I just want to reiterate how important it is that these discussions related to activity this month are our company's best estimates and are internally generated, unaudited, subject to change, and all the things that Howard said in the safe harbor discussion at the beginning of the call. So with that, on Slide 16, as I mentioned, we were quite busy. We raised quite a proportion to our size, or quite a bit of capital in the first quarter, $206 million worth. In fact, we sold 25 million shares of stock. We estimate that the shares that we sold were a little bit accretive, slightly accretive to shareholders, and so above book value in the aggregate, net of any fees we would have had to pay. With that said, as the market became more volatile coming into the end of March and more so in April, the stock price just didn't perform very well, and we reactivated our buyback program. April month to date, we've repurchased over 1 million, 1.1 million shares of stock. We did so at a weighted average price net of commissions of $6.44 at a time when we spotted our book value at roughly $7.36, give or take. So there's that buyback was also quite accretive to shareholders' equity. Getting back to the portfolio and what we did with that capital that we raised in the first quarter, we bought quite a bit of Fannie 5.5s, 6s and 6.5s, exclusively those 3 coupons. We did early in the quarter, we've been carrying a $200 million Fannie 3 short just because that role was trading really poorly. It firmed up a little bit, and we found some slow-paying Fannie 3s that really weren't doing anything for us and more or less just delivered them into that TBA. I think we got a little bit of pay up for the pools we sold, but we just sold them on swap and took a little pay up in, reduced our exposure to Fannie 3s by $200 million and really sort of helped the carry of the portfolio overall. So going back to the new capital. We added approximately $306 million Fannie 30-year Fannie 5.5s. Those were all either New York or Florida pools. We're kind of on to the Florida story, I think, relatively early and think that those are going to be good assets to hold, especially in the premium space. We added a lot of 30-year 6s, predominantly Floridas and low loan balance pools in kind of the 200,000 to 275,000 max range and some FICOs. And we also added $458 million 30-year 6.5s. Again, those are the same sort of combination as the 6s, 225,000, Florida, FICO. During the month, we also put on a little bit of a basis hedge or what we hope would be a little bit of a basis hedge in a [indiscernible] 15 Fannie 5.5 swap. We like that for times when mortgages get a little too snug as they were really going into February. With respect to the, going back to Slide 16, sorry. I just want to point out one more thing or 2 more things. The WAC of the portfolio, importantly, at the end of December was 503. As you can see, the result of the securities repurchased in the quarter, that drifted up to 532. And we have sold some assets since the end of the quarter and so the WAC of the portfolio has drifted up a little bit more. And that leads me to some activity that's taken place since the end of the period. We sold roughly $690 million worth of securities, basically to get our leverage back in check. Our leverage at the end of December was 7.3%, 7.8% at the end of the first quarter, and I spotted it last night at 7.4%. Just to kind of carry through that thought. You have a choice to make any time that you suffer some losses, and the portfolio is down in value. We estimate that the portfolio was down book value was down roughly 8.3% as of last night. And so as we moved down a book value, experienced some losses, you have the choice to either explicitly let your leverage ratio rise or mitigate that by selling some securities. We thought it would be prudent to go ahead and sell some bonds. And so the ones we sold were lower carry assets, lower coupons. As I discussed, the WAC of the portfolio drifted up slightly because of what we sold. We sold $353 million Fannie 4s, $125 million 5s and $114 million 5.5s. We also put on a TBA hedge shorting $200 million more Fannie 4s. As it looked last night, I think that we're maybe 4 or 5 basis points tighter on a mortgage swap basis than we were at the time that we executed these sales. And the market has swung around violently since the first few first couple of days of this week. And so we're starting to recover some. The past 3 days have been quite positive for mortgage assets. And so we'll jump back into those securities as and if things continue to quiet down, volatility drops, portfolio gains value and our leverage ratio would then start going lower and lower. So we like where we are positioned, kind of mid-7s leverage ratio. We're comfortable with that. Our liquidity position is actually a little bit higher than it was at the end of 3/31. And so we feel good about the risk of our portfolio and the steps that we've taken to mitigate potential for future losses. Slide 17 is just kind of a rehash of the portfolio stats that we've just discussed. The funding on Slide 18, at the end of 12/31, our weighted average repo rate was 4.46%. I'm sorry, 4.46% at the end of March. And as of last night, the weighted average repo rate was 4.47%. So not a lot of change there. We have not seen a change in any material changes in haircuts or the counterparties pulling back from the space so far at least. So I think that people in our space are reasonably well positioned. And while we might incur some losses, it's nothing as dramatic as it was, say, during COVID times. But who knows anything can change, right? So the average term for the repo book was also 26 days at the end of December, 40 days at the end of March, and it's currently 30 days right now. So not a lot of changes to report in the repo side of the house. As it relates to Slide 19, we talk about our hedges. Of course, I mentioned we unwound several different mortgage securities. We also unwound a number of swaps to offset that risk. We just kind of go through some of the hedging activity that we did in the period. Early in the quarter, as expectations for Fed cuts were low, the Fed funds curve was very flat really with only one full cut priced into 2025 and 2026. We use that as an opportunity to unwind $500 million, 1- and 2-year swaps on the very front end of the curve. We moved that duration out the curve to kind of 10-year point. And then as we added assets during Q1, we predominantly hedged them with a mix of 5, 7s and 10s, skewing a little more heavily towards the 7s and 10 years and skewing more heavily to swaps and treasuries. We did short some 10-year ultra futures. Late in February, early March, the market had gone from pricing in only 1 cut in '25 to '26 to almost 4. And so we reestablished a hedge on the front end of the yield curve to economically lock in those projected Fed cuts. We did so by adding a 2-year SOFR future strip and I think, $115 million and a $250 million 6-month 2-year forward starting swap. Those were done at rates around 360 because I think the yield that we have achieved on the incremental capital that we put to work was in the 5 kind of 60 area, whereas the legacy portfolio is quite a bit lower than that. So we feel good about where we got in and where we've been able to hedge our funding costs. Slide 20 is just more kind of the hedge picture. You can see the stats gone through most of this. As I mentioned, we added some 5, 7s and 10s since quarter end. So this gives you a breakdown of the portfolio from 12/31 or from the hedging book from 12/31 to 3/31. And subsequent to that, most of what we've done on the unwinds has been in the 8- and 9-year forward curve. So we unwound $474 million, 7- and 8-year pay swaps, and we shorted $200 million. Slide #21, I'll just leave this with you. It's just like what the return and risk reward comparison of the coupon stack. This is generic TBAs, and this isn't really specific to our portfolio, although we do it's a little confusing, we do add our portfolio allocation over these are just generic TBAs. Of course, our portfolio is constructed almost all specified pools that have some sort of story to them. So we don't really have anything. We have some lower pay-up bonds, which is a lot of what we sell in times like April distressed periods, but we don't have anything we really call TBA. The Page 22 is our interest rate sensitivity profile. It has a DV01 of the portfolio listed there as well as kind of the dollar and percent change of up and down 50 shot. I'd just note that since the end of March number one, this was at the end of March, this was very flat. This won't guard against basis widening that we've seen. Almost all of our losses that we've experienced in the fourth quarter sorry, in the second quarter have been attributable to basis widening. This profile is even more flat as of yesterday. It's down 0.05% in the down 50% and down 0.24% in the up 50%. We keep an eye on this every day as well as several other risk measures. Slide #23 is our prepayment experience. As you can see, speeds were 6.2% in Jan, 7.3% in Feb and 9% in March. On an average basis for the first quarter, that was 7.5% versus 10.2% in the fourth quarter. I would note that as we've added assets that are higher in coupon, we're going to start seeing that speed probably creep up a little bit. And April was jumped up a little bit. It was 9%. How that relates to our book value, we had in January, $1.2 million worth of accretion. So our discounts were paying fast enough that they overwhelmed the paydowns associated with our premiums to the tune of $1.2 million. So paydowns actually helped us in that case. February, that number was $800,000. March, it was $640,000. And then as I just alluded to, we've skewed up much higher in coupon over the course of the first quarter. So we had $325,000 worth of paydown related amortization in the month of April. That's about all I have for you. So I'll turn it back over to Robert to give you the outlook and the Q1 wrap-up.

Thanks, Haas Just to summarize, kind of looking back, Q1 for the most part, was a very good quarter. Mortgage performance was very strong. That was reflected in the price of the stock as well. We were able to raise capital on an accretive basis, and we did take some meaningful changes to the portfolio, and we're happy with how we've repositioned the portfolio. Looking forward, tons of uncertainty. The market has become quite volatile. The driver of the volatility, as we all know, are, of course, the tariffs and the impact they will have on trade relationships, inflation growth, but also the fact that a lot of this information, as we all know, comes out kind of in the form of headlines, which means they're kind of hard to predict. It's not like regularly scheduled economic data that's actually taken a big backseat to these developments. In fact, given the fact that most of the economic data is backward looking, it tends to be disregarded by the market for the most part. And everything is focused on everything with respect to trade, tariffs and so forth. Clearly, the market has taken all of this and process that and try to guess what this means going forward. Obviously, the tariffs are expected to have some potential impact on inflation, drive prices higher, at least in the short term, even if it is a onetime shock in nature, remains to be seen whether or not it plays out in that regard. But in any event, it's expected to be at least short-term inflationary, but also drive growth slower. We've already seen the economy being resilient, but not robust. And these events are likely to cause us to slow. As we mentioned before, the market is pricing in 3 or 4 cuts this year, maybe as soon as June. And so you'll expect this combination of slower growth, which would put upward pressure on the unemployment rate and tariffs and pricing pressures, which put upward pressure on inflation, those work against both of the Fed's mandates. So the Fed is clearly in a predictment here. In any event, we don't know with any degree of certainty. We have no basis of having any conviction in our outlook in terms of how exactly this is going to play out. It's just too volatile and too much remains to be seen. But as I mentioned, the kind of general takeaway from this is it's probably slower for growth. There's potential for Fed eases, and it's going to push inflation up, which would tend to push long-term rates up. Both of those developments lead to a steeper curve, which is good for us. So if you look at the way we're positioned with a skew towards higher coupon, shorter duration assets, that generate lots of carry, hedged on the long end predominantly and the steepness of the curve, the should work quite well. We're very happy with our position, but we also are very, very aware of the fact that this can all change. And we, like everybody else, are just watching the market every day and just interpreting the events as they occur and hoping we can be positioned or repositioned as effectively and quickly as possible. But by and large, we are, all things considered, happy with our positioning. And that's about it. With that, we can turn the call over to questions, operator. So that is all of our prepared remarks.

[Operator Instructions]. Our first question or comment comes from the line of Jason Weaver from Jones Trading.

First of all, can you tell me where you see your duration gap both at the end of the quarter and to date after the sales you made?

We don't do that. Hunter mentioned that we don't look at it in terms of just numbers. We do it in DV01 basis. And I think on Slide 22, we have that as $13. Is that what that represents? So that will be $13. It's very narrow. And I think you mentioned it was about the same as of now.

Yes, it's very, very flat. It's slightly we're kind of in this convexity elbow. So we have a decline in value in this 50 basis point shift. We narrow it in a little bit more, the duration 1 hasn't changed materially since the end of.

Got it. I was just thinking about how you made the comments about how you were hedging with longer-dated swaps, and I didn't know if that had changed post quarter end. But it seems like you would benefit from a seasoning action in that.

Yes. We unwound predominantly longer assets. Most of what we unwound were discounts. So 4s, I think 5.5s and 5. So the 5.5% is a little closer to par. But like I said, I think we really only had to unwind 2 swaps, and one was a 7-year and one was kind of like a 2-year old, 2-year-old 10-year, yes. So other than that, yes, we didn't really have to unwind anything. And it added some TBA hedge as well. So...

And just one more clarification. I heard you mention your quarter-to-date book value was 8 something, and I got cut off.

Yes. Let me just go through that. So I know a lot of our peers have already reported and they reflected their book as of last Thursday. Our book last Thursday estimate was 7.24. That's down 8.8%. We had a rough day Monday, but the market has been good since then. So as of last night, our estimate is $7.28, so $0.04 above where it was last Thursday, and that equates to a decline of 8.3% quarter-to-date. And as we mentioned, our leverage ratio was about 7.4. It's actually lower on the quarter. It's worth throwing in. I always like to mention the total returns as well when we talk about book value because our dividend is relatively high. So when we think about how the total return was, of course, it was 2.6% we mentioned for the first quarter. Quarter-to-date, the change in book value reflects the dividend accrual. So its dividend has been taken out of book, if you will. And so the total return, if we put the dividend account for the dividend that's going to be paid in May is 6.8% quarter-to-date and year-to-date having the benefit of 3 more months worth of dividends, our total return is negative 4.08%.

Our next question or comment comes from the line of Jason Stewart from Janney Montgomery.

A question, after these portfolio changes and hedge changes, where do you see gross ROE sitting today?

Well, versus swaps, very, very high. I mean pick your moment because they're very volatile. But I would say 20%, I don't have the numbers in front of me, but these are the highest levels we've seen in some time.

Yes. We look at the spreads 7-year swaps versus current coupon is above 200 basis points or I don't know what it is like the second but has been over the course of the last week or so. Like you said, it's been very volatile. So on a mark-to-market basis, it wasn't quite that wide at 331. But going forward, if we were, say, putting new money to work, I think, very high teens and even in the low 20s is probably achievable in the context of our leverage framework that our current leverage framework.

And then as it relates to that return environment and your cautiousness going forward in terms of spreads, capital raising activity versus buybacks and the dividend, it kind of seems like cost of capital is a little north of where the returns are. How are you looking at the dividend issuance and buybacks?

Cost of capital, well, let me see to start with where the stock is trading now, obviously, buybacks off the table. We got so cheap there that we basically waited for the market to calm down, and we felt somewhat comfortable using some cash to buy back stock, we did, given where our stock is trading today, we're not far from book. I would say that going forward, assuming nothing changes from where we sit today, which is a big if, but we would even consider raising some capital just if nothing else to add liquidity, not so much to miss as much as the market is appealing and we would love to put money to work, we would also be cognizant of the need maybe just to add some liquidity just because you never know when the turbulent period is going to come back. But even if you do, I mean, investing at these levels, the yield on the stock got what it was at the lows, I assume mid-20s when we were trading in the low 6s. It's come up. So it's not as Hain as the yield, but these are pretty attractive returns. And I know this question comes up a lot when people look at the dividend yield and so forth. A component of the dividend that we pay and have always paid is derived from hedges in particular, closed hedges. And so you can't ignore the fact that when you put on significant hedges and then close them out that they have a lasting impact on your taxable earnings because the gains on those derivatives at the time you close them are amortized basically over the remaining term of that hedge. I know us and our peers in the past have talked about the benefit of these closed hedges. But that's coming out of book value. Those dollars are no longer present on the balance sheet, right? And so if you look at the dividend that's paid versus taxable earnings, it looks like it's fully covered, but not necessarily by current period GAAP earnings. So I want to make that distinction of what you can earn today, forgetting the effective hedge, and hedge accounting and tax accounting is extremely attractive if you're hedging with swaps. And like I said, we haven't seen anything like this in some time. So...

Yes. I'd just reiterate that point. Companies in the space talk about earnings available for distribution and those types of non-GAAP metrics. We prefer to talk about tax, I guess. And for tax, you defer the benefit of those closed hedges and realize them over time. But for GAAP, once it's mark-to-market, it's coming out of book value to the extent that you have an in-the-money swap, whether it's open or closed. So yes, that's just a slightly different tact we take and how we approach that.

I guess just coming back to the economic side of it, though. I mean, the dividend on a book value basis compared to the marginal return, it seems like once you take out operating costs, I'm struggling to see why raising capital here is accretive on an economic basis relative to the dividend unless you obviously change the dividend.

Well, like I said, the dividend that you're paying is closely related to taxable earnings. So some of that's coming out of book because it's closed, a component of that are the deferred interest expenses associated with hedges that have been closed. And that's coming out of book, simple as that. Those dollars are no longer here. Let me explain it another way. Let's say you have a $1 billion portfolio, and you hedge it. Let's say the market sells off and the value of your assets goes up by $100,000, and the value of your hedges goes up by $100,000. So there's no impact on book, right? Now let's say, shortly after that, you close those hedges, the value of the open equity in that hedge, $100,000 is amortized against interest expense over the balance of that hedge period, right? However, in my example, you had a $100,000 gain on your hedge and $100,000 gain or loss on your assets. Now let's assume that your counterparties are efficient with respect to margining activity. So in other words, your hedges went in your favor by $100,000, you called in $100,000. Your assets went against you by $100,000, and your counterparties called you for $100,000. So your net economic impact of that is 0, right? $100,000 went in, $100,000 went out. So your cash balance is unchanged. For tax purposes, that $100,000 of gain on those hedges, if you close the swaps at the end of that period, is amortized against interest expense for the remainder of that term. Let's say, it's a 10-year swap. You're going to reduce interest expense over the remaining term of that 10-year swap by $100,000. You don't have that in book value, right? That $100,000 was sent out to your asset counterparties when they called you, but it's a component of taxable income. So you pay a dividend based on that. And you say, well, look, the yield on that dividend is so high, why would you raise new capital? But how much of that dividend, which is a byproduct of taxable earnings is actually being earned in the future. It's coming out of book. So you have to look at what are you going to earn on a purely economic basis versus what you're paying on a purely economic basis, apples-to-apples, and it is higher in the current market.

I guess I'd just add that the portfolio hasn't changed so much, and it could very well change. If we have to cut the portfolio more, we might get in a position where we're not earning as much. But our outlook now is that we have a tax obligation. We have a distribution obligation to pay out taxable income as we go through the course of this year. And part of that is attributable to things that aren't on the books anymore. So we don't have a lot of leeway there. We either pay taxes or we can pay a dividend. With respect to your question about whether or not it's prudent to raise capital, I don't think either one of us were trying to say that we're 100% going to be doing that. The market has been very volatile. We're just pointing out the fact that we are trading close to book, closer than we were, especially when we bought back shares. I mean, when we bought back the shares at $6.44 after commissions, book value we estimated at that time was around mid-7.30s, right? So that was enormously accretive. It's much less so now is the only point.

I got it. I understand the accounting. One last just question, and then I'll jump out. So the expectation is that at the current dividend level and based on your taxable earnings outlook, the 2025 dividend would be 100% taxable income and not return of capital?

Certainly not going to say that in late April. I did mention earlier this year, with respect to 2024, I think it was 96% of the 2024 dividend was taxable. At this point, I would say that does not appear to have changed, but we've got a lot of months to go. And we have no idea what's going to happen. And the last thing I want to do is say on a recorded earnings call that our dividend is going to be all taxable earnings for 2025. I have no basis for making such a statement. Year-to-date, what was the case in 2024 has been the case. In other words, the percentage of the dividend that's taxable earnings is retained and stayed in that level. The balance of the year is completely uncertain.

Yes. Year-to-date, our taxable income has been right on top of our distribution. So yes. And those are massive estimates at this point in the year. But we're not formally doing those. But we do keep track of tax on a month-to-month basis every time factors come out. And so far, the distribution has been right on top of taxable earnings.

Our next question or comment comes from the line of Mikhail Goberman from Citizens.

Not much for me given all the terrain that we've already covered. But if I could ask, you mentioned Slide 28 in the appendix. Just maybe some thoughts on the Rocket-Mr. Cooper deal and how that affects what prepay speeds in the MSRs there.

Yes. So I did want to go over that, and I'm glad you brought it up. So on the bottom of the slide, it just shows you by coupon, the dollar amount of loans serviced by Nationstar versus our total holdings in that coupon. As you can see, it runs in the generally high single to low double digits. I think what's constructive to consider is what percent of the universe is serviced by Nationstar and how do we stack up? So for instance, let's say in the 6% coupon across the cohort, Nationstar serviced 15% and only 12.1% of ours are. So that's somewhat beneficial position to be in. So that's just an observation. We know that Rocket is a very fast servicer, and we presume that once they start servicing Nationstar loans, they're going to get faster. So the convexity of the mortgage universe will be impacted in a negative way. We own specified pools; specified pools trade at a pay up. The reason they trade a pay up is because of a relatively slower speed. Now in this case, it remains to be seen. Certainly, the specified poles would be expected to pay faster because more of them are going to be serviced by Nationstar. Same with respect to the TBA though, the underlying cohort. So they're both going to get faster. The question is, does the relative speed stay the same? In other words, does 150k 6 pay at 80% of TBA or does it pay at 90? That will determine over time how TBAs evolve. That remains to be seen. But there's no question that having Rocket service a greater percentage of the mortgage universe is not a good thing from the perspective of the convexity of the mortgage universe.

Yes. I would just add that we have a lot discounts. I think this slide kind of alludes to the fact that at the time we put this together at 3/31, 5.5s and below were discounts and 6, 6.5 and 7s were premiums. So we have a little bit of exposure in the premium space, but we will also notice the Rocket's are faster for out-of-money borrowers as well. So a mixed bag of TBD. I don't think it's today's problem. It might be coming down the pike in a few months as the transfers have occurred and the loan officers are able to start using Rocket's technology to try to refi people. So I'm not terribly worried about it. We did see in the GSEs sold some pools earlier in the month. Fannie Mae didn't really restrict the percent of Nationstar on their list, might have even come out before the announcement. And then Freddie pulled back and limited the amount going into the cash window pools to 10% going forward. And I think they've indicated that going forward, they're going to keep that rule in place. We have some things to do to the extent we have a few pools that are high Nationstar percentages, we can combine them with other pools we own and get the kind of the percent Nationstar/Rocket down. I don't expect it to be a material impact to the portfolio. It's been certainly something to talk about though.

Great. And just a follow-up on a piece of that. Slide 2 slides prior to that, given perhaps expectations that the margin for Fed easing at some point, what are your thoughts generally on the MBS supply going forward if that were to happen?

I'm going to mention the one thing we don't have on our slide is affordability, which as we all know, is extremely low. And if there's any credence to the argument that these tariffs are going to be harmful to growth, slow growth, drive the unemployment rate higher, I don't see supply getting too high. I mean as far as the coming summer, I would expect it to be a below average supply summer. And there's just a combination of too many factors working against it. Affordability is low, rates are still high. If there's inflationary impacts on these tariffs, it's going to keep the long end higher. And if you have people worried about their jobs, that's not good. One thing that's interesting, you mentioned that the home sales data that came out, new home sales. I don't know what the change was month-over-month, but if you look at the details, the absolute number of new homes for sale is the highest since 2009. And we all know what happened in 2008 and 2009. That's not a good sign. So there's builder buydowns. That's very prevalent. They can support the market that way. But I don't think we're going to have a huge surge of supply.

No, I totally agree. Best of luck going forward.

Our next question or comment comes from the line of Eric Hagen from BTIG.

I want to ask about whether you think the level of spreads has reset higher, wider as a result of the tariff war, like in a scenario where interest rate vol comes down and spreads tighten, like what do you think the level that we could tighten to is? And has that level changed over these last few weeks?

Well, pre-COVID, it was 80. I don't think we're going there. We haven't seen on Slide 26; banks have been not very aggressive participants. They used to be kind of the backbone bid. Money managers were very supportive of late. They've had redemptions. They haven't been tighter. It depends on your benchmark. Obviously, swap spreads a wider number than the 10-year or the 5-year. I think tightening, but I don't think we're going to have an outsized tightening.

Yes. It's tough to say, on an OAS basis, and versus treasuries, mortgages don't look nearly as compelling as they do versus swaps. I think that's because treasuries have almost kind of traded like a risk asset here in this more recent move in April. So there could certainly be constraints just owing if we're entering a period where the market expects increased volatility, that's certainly not good for mortgages, and that keeps spreads on the wider side. But it's been amazing to see how with one tape bomb, things tighten back up. So on fire power day 21, it was looking pretty bleak, and then we've come back as much as $0.26 in a couple of days very quickly. So yes, I think that comes full circle, I guess, if this is going to be how things are, I think investors are going to demand a wider spread to deal with that uncertainty and the ability for them to take leverage down to a more appropriate level for this type of volatile environment.

I would say one thing, this is truly speculation though, but if there is really a softening in the economy and it really truly weakens, mortgages could just benefit from spread widening in the corporate bond market, high yield and investment grade, and they could be deemed to be more of a safe haven asset, that could be beneficial in the short term, especially if long end stays high and speeds are slow, you could see that in the near term, money managers making relative value allocations, but they were pretty overweight mortgages not long ago. So I don't know how much more they could go back the other way from where they are now. So, no, I don't see any catalyst for us to materialize tightening in the near term.

Okay. I appreciate you guys. What are your thoughts on buying swaptions and just the overall cost of hedging volatility right now? Like, do you feel like you have the flexibility and the liquidity to hedge if you wanted to? Or are we basically kind of like getting the 20% yield as a result of sort of not hedging that volatility risk?

Well, it's expensive, right? So...

Yes. Great idea in February.

Putting that on now would be pretty pricy.

Well, we do. I think as you know, we have in years past been quite active in all trades, really caught off guard by feeling pretty good about the world going into the first quarter of this year. So we certainly didn't see the market reacting to the tariff talks and threats as violently as they did, particularly in the treasury market. So yes, it's something that we look at a lot. We spend a lot of time on trades that we don't execute. We had a great one that we looked at, perfect for this scenario. We've executed dual digital options in the past, whereby rates up or down and equities down as well. We had one that we evaluated in December, opted not to do it, and taking ourselves a little bit for that. But yes, we will try to be more cognizant certainly of volatility. I just think it's tough to lag in right now. That's a tough trade to do right now. So we're just going to keep doing as we have been, which is sort of delta hedging and staying on top of keeping our leverage in check and adding when we've had a few days of strength and to the extent that we feel more uncertain about things, we like to use the leverage lever to really help us manage our risk because we can't ever get away completely away from the risk of this portfolio without some volatility and convexity hedging, but we can insulate it through lowering leverage.

Just one final point, not to belabor it, but a lot of our use of swaptions is usually driven by attractive entry points into those positions when those present themselves. And sometimes it's just because the vol is lower, sometimes it's because you can do a long and a short to get your all-in cost down. That's just really challenging to do right now.

We tend to focus on data minimization strategies where we're doing some kind of a spread trade or putting on a trade that is very highly geared where we have kind of a defined risk where we are comfortable losing 100% of our premium, but are looking for outcomes that might have 8 to 10x multiples of that premium to the extent that the hedge goes our way. And these tend to be kind of tail-risk-type of events. And so it's just tough to put on a tail risk trade when you're in the middle of kind of the tail. We're deep in the tail.

Our next question or comment comes from the line of Christopher Nolan from Ladenburg Thalman & Company.

I'll be short. I was really surprised by your comments saying the banks are not coming back into the market because looking at the steepening of the treasury curve, deteriorating commercial real estate asset quality, it would seem to me that the banks naturally be increasing their purchases of MBS. Where am I wrong on that?

I know they have in Ginnie space. I don't know that we've seen in structured space in agencies, but I don't think we've seen a lot in pass-throughs, conventional pass-throughs.

They're there. I don't think enough to overwhelm, what we've seen in money manager redemptions and hedge fund redemptions, that deleveraging.

They may, as we speak, because mortgages are attractive. But when you look at early April, when you had all the forced selling, money managers, a lot of T+1 settle because when they get a redemption, they have to meet it the next day. So they're selling what they can, mortgages and treasuries for T+1 settle. So that overwhelmed it, and that created a very cheap, attractive mortgage universe. They may be now. But really in this week, the commentary, mortgage has done well this week. I haven't seen anything other than Ginnies, and again, in some structured product.

The final question would be on housing affordability, the question that was asked earlier. Higher property insurance costs are part of it. In some places, you can't even get homeowners' insurance. And my question is, why hasn't there been more new insurance pools formed for home insurance, because rates are so hard there. I don't know.

It's really hard. I mean, that's 2 things. One, the yield book, which we all use in this space, was updated with the model yesterday. One of the changes in the model was to reflect the slow prepayment activity of Florida pools because of insurance. Insurance is very, very high. I've always been a believer that global warming will manifest itself through that. Given what's happened over the last 6 months with fires in California, hurricanes here, reinsurance prices are on the moon. New polls, I mean, I think that's a government source from the government. Private capital is going to be very expensive. I would think the risk premium associated with entering that business would be very, very high. Whether you believe in global warming or not, there's no question in the last few years between hurricanes, floods, and whatever, they're very, very high, and the costs are staggering, and you have to deal with regulators. I look at California, where when they set insurance rates, it's backward-looking based on historical losses versus projected losses. A lot of the high-end homes in California are insured by D&O providers, which have staggeringly higher premiums and what they call retention or deductibles. I think there's going to be meaningful money brought to the insurance market, it's going to have to come from the government.

[Operator Instructions] I'm showing no additional questions in the queue at this time. I'd like to turn the conference back over to Mr. Cauley for any closing remarks.

Thank you, operator, and thanks, everyone, for listening in. To the extent that a question comes to mind after the call or if you listen to the replay and have a question, please feel free to reach out to us at the office. The number is (772) 231-1400. Otherwise, we look forward to talking to you at the end of the second quarter. Thank you.

Ladies and gentlemen, thank you for participating in today's conference. This concludes the program. You may now disconnect. Everyone, have a wonderful day.