Redwood Trust, Inc. (RWT) Earnings Call Transcript & Summary

Great. Thanks, everyone, for joining us. Happy to welcome Redwood Trust to the Crédit Suisse Financial Services conference. And joining us from Redwood is CEO, Chris Abate. Chris, thanks for coming today. I guess, just as we get started, clearly, the move-in rates has clearly been top of mind for everyone. Just talk big picture kind of how this move-in rates and this increase in volatility kind of impacts your outlook?

Sure. Well, thanks for having me. And I think it's been very volatile over the last few trading sessions past few weeks. I think volatility at the end of the day costs money from a hedging perspective. And I think with our residential business where we're managing a pipeline over the course of a few months from the point we lock to the point we distribute, it's definitely something that's a key aspect of our business. And so we don't -- volatility causes us to reposition and make sure that we're in balance or ideally positioned. And so that's been -- that's consumed a lot of our time recently. But when you think about the jumbo space and where we're at in the refi cycle, our gross WAC, the average coupon of our Sequoia book, for instance, is north of 4%. So I think the vast majority of the jumbo population is still in the money. And I think from a macro perspective, we're still just as optimistic about the business this year as we've been since the year started. Not quite as big of an impact on our BPL business. Those loans we lock very close to when they're originated. So it remains to be seen how the trending up in rates affects investor demand. But I think right now, it's not nearly as impactful as it is in managing the resi pipeline.

Great. I guess if we could just kind of walk through -- just kind of walk through kind of your core businesses on the mortgage banking side. On the jumbo side, in your slide deck, you kind of talk about thinking that you can expand market share kind of by 4 or 5x multiple kind of over the next handful of years. Can you just talk about what it takes to -- what it takes? And what's kind of behind that goal?

Sure. The jumbo business is interesting as part of the non-agency space because it's not nearly as automated as the conforming business. And so it's sort of ripe for disruption, and we've been really focused on technological initiatives and ways to really turn loans faster and if we can buy risk and sell risk more quickly, then we can price more effectively. And we think we can take quite a bit of share. We've been very competitive with Wall Street, who's in jumbo been active and correspondent. And while we do a lot of business with those guys, we also compete. And I think what we've seen is our ability to service our customers and really be kind of Switzerland, and we're not an originator, we're not a servicer. We're really sort of agnostic counterparty that is looking to offer the best execution possible to our originator network. We think that positions us pretty well. And if we can combine that with some of these technology rollouts, we've been talking about, we're actually really optimistic about our capacity to take share.

So I guess just on the technology side, I guess, if you could just give us an example of some of the things you're working on and what is kind of the time frame that you'll start to see kind of a payoff from those investments?

Yes, there's explicit payoff and then there's implicit, implicitly, as we roll out these technologies, you'll see our loans turn faster, which means we'll be able to buy them faster and sell them faster, recycle our capital more quickly. That's a taxable business. That's not a REIT business. So we're able to retain that capital and essentially redeploy it right back into the space. So we've got a lot of different initiatives basically across the board in the entire mortgage value chain and how we purchase loans, how we diligence loans, how we securitize loans. So there's a number of irons in the fire there that as they're implemented, will gradually result in better turn times for us. But then there's also -- we announced RWT Horizons recently, and we're going to be making direct investments in technology disruptors outside the firm. And there, we have more to roll out in the coming quarters. But I think it's a pretty multifaceted approach, but we'll look at various stages of evolution and maturity for start ups. Some technologies are sitting in research labs at universities and others are more mature and the businesses are in the process of taking off or being sold. So I think if we create some type of diverse investment framework and we're successful, we don't need all of these investments to hit. We need those that we think will most directly help us innovate in our space, and that can be anywhere from blockchain to AI to automation data. So I think it's multifaceted. I think you'll begin to see the payoff this year in some of our operating metrics and efficiency. But we're also really excited about the evolution of the company and moving a little bit closer to Silicon Valley, which happens to be down highway.

Got it. And then I guess just thinking about jumbo in the shorter term. You mentioned kind of a gross WAC of 4%. Obviously, the purchase market remains strong. I guess just how do you see kind of the volume outlook, coupled with that, kind of how does the near-term competitive outlook look from large banks who are looking to balance sheet the loans?

Yes. Banks have been somewhat surprisingly slow to get ramped back up. Part of that has to do with -- there's still being quite a bit to do in the conforming space. But for us, as I mentioned, the jumbo refi cycle is in a much earlier inning to this day than conforming and when we look at our own book and we look at sort of the averages in the industry, still most borrowers, myself included, are refinanceable at this time. And so we're very, very confident on volumes this year being very strong. The purchase market has also been red hot, and you've had some evolution in via HPA and moving more conforming to conforming high balance to jumbo. So you've got areas like Texas and elsewhere that have been more conforming high balance that are now moving into pure jumbo, just by way of home price appreciation and we did put a slide in our deck that sort of illustrated that HPA has continued to outpace [indiscernible] limit increases at the GSEs. So that's something that I think -- we think the jumbo market is growing. And again, when you combine that with the rental market outside of the agencies, both of them have macro tailwinds at this time.

Got it. I guess moving to -- sticking within residential, but moving to non-QM, I guess, obviously, that kind of took a pretty big hit during COVID. Where would you say you are with your sellers in terms of kind of coming back online and sort of where volumes are today versus kind of pre-COVID?

Yes. Volumes have been very light there. That business a year ago was probably 25%, 35% of our overall purchase activity. Today, it's still very small. It's in the single digits. But as far as growth areas go, we think it still has a ton of potential. It's a very natural evolution with the way the mortgage business works, and these loans are more story loans and they take more work to underwrite. You've got to go through the ATR and ability to pay protocols. So to the extent there is easy 780 FICO, 65 LTV refi opportunities out there, those tend to get the attention of loan originators, but it's a very natural cycle where as those borrowers refinance, the market starts to move back towards non-QM. Now you do have this issue with the CFPB and some uncertainty around the rule. Something came out a day or 2 ago about a postponement and the new regime officially revisiting the rule that was intended to go into place very soon. So I do think that's going to create some type of lag in any evolution to a new non-QM framework. I think for us, we would be concerned if we move to the new rule too quickly that if the rules change, then the loans that we were to purchase or securitized could become a liquid, frankly, because of the fact that they're sort of in the stub period. So we, as a securitizer and purchaser are following the rules and the evolution of the rules very closely in Washington. And hopefully, in the coming weeks or months, we'll have some clarity there.

Got it. And just -- you mentioned kind of volume coming kind of back slowly. Just, I guess, in your model of trying to move risk more quickly, I guess, how do you handle kind of a slower volume product which might take a longer period to kind of aggregate before you can sell? Kind of how does that factor into your kind of willingness to take it on?

Well, we've got great capacity. We've got great financing counterparties at this time. Most of our capacity, our warehouse capacity is non mark-to-market. So we certainly have the bandwidth to take the loans on. But we also -- from the second we lock alone, we're thinking about where it's going to go. And if it's going to go into PLS, then that's 1 path if it's going to go to a life company or a whole loan buyer, that's another path. And so the process of selling the loan or securitizing the loan and moving the risk starts pretty quickly. For us, that's not really too big of a concern. We feel like we've got plenty of capacity to aggregate, if that's the right path for us to take. But certainly, with non-QM, especially we want to make sure we've got strong whole loan demand as well because 1 thing about the non-QM space is effectively 1 loan and a securitization can take the entire deal. And that would be very inefficient from a funding cost perspective to not have a securitization with a significant amount of non-QM product. If you are going to require risk retention and you're going to accept higher subordination levels. So for us, it's very important to have whole loan channels for those types of products. And as long as that's the case, we feel very good about locking them and purchasing them. And I think a lot of the conversations with loan officers today are really getting them re-upped and educated on the choice products and the rollout of the next-generation of choice, if you will.

Great. And then, I guess, if we move to the business purpose lending, CoreVest, I guess just what segments of BPL are you finding most attractive today?

Well, the SFR, the single-family rental business, continues to be a cornerstone of the CoreVest franchise. It's been a fantastic business. CoreVest is easily the market leader. Our capital PLS platform is the deepest and executes the best. So I think SFR, we're very, very strong, and we've got a lot of brand power and a proven ability to close and provide good experiences for investors. So I think there, that's always going to be the core aspect of the business, akin to jumbo and residential. On the bridge side, it's gotten much more competitive. We are typically as involved in single asset bridge, if you will, just buying the house and flipping it. We're more focused on lines of credit and working with more institutionalized sponsors and principles, areas that are really interesting to us there. You take a product like build-to-rent, where you can really combine the best of everything the CoreVest platform has to offer from a customer experience perspective. Where you are participating on ground-up construction, you're taking it all the way through to a permanent outlet through a rental loan. That task is very exciting and sort of really speaks to all of the inherent advantages the platform has. And also, from a mission perspective, really helps expand our footprint in non agency.

Got it. You mentioned there that the fix and flip was getting more competitive. Can you, I guess, just talk about the competitive dynamics in the build-to-rent in the single family rental?

Yes. I mean, we as -- through our capital program, our all-in financing costs, I think, are inherently the lowest, just by way of the way our bonds execute. And so we can be extremely competitive on rate. We're credit oriented. And when you look at the credit performance of the capital deals, it's been absolutely stellar. So we're not just trying to push as many loans through the system as we can. We're still very, very focused on our brand and reputation. But the deals execute extremely well. The team has done an amazing job building that franchise. So with that so far, I continue to believe we'll have very durable advantages, certainly, rates and reliability and speed. On some of the other products, on single asset bridge, you aren't able to really leverage the entire platform as much for much smaller loans for less -- typically less experienced developers. So we actually like moving in the opposite direction in some of these larger product -- projects like build-to-rent or workforce housing, where you can really retain that customer or that clients and offer them bridge products, as I said, from the ground up and then ultimately turn them out.

Great. And I guess the profitability in CoreVest has been quite strong in the past couple of quarters. I guess, how do you think about where that can normalize or kind of a more normalized level of profitability is?

Well, all in last year, it's sort of normalized. We had -- we went through COVID, the first couple of quarters. And the third and fourth quarter benefited from some loans that had been in the pipe that had been originated either at wider spreads or had been written down. That really -- those recovered extremely well and did support earnings to an extent. More so in the third quarter than the fourth quarter. But the -- I think the offset there is the origination outlook there is also very strong. Rental demand continues to grow. There are still very positive forces at play as far as affordability goes, affordability, folks wanting to move into single-family homes, whether they need to rent them or if they can't buy them. So I think overall, it's still a very strong outlook. And certainly, things are volatile today in the rate markets, and we've -- we'll be back in the market at some point here with another capital transaction, but the last one, which I think the AAA is priced at something like swaps plus 75, which when you look at historically, where those bonds have traded, it's just pretty outstanding. So we're -- we continue to think that based on a strong outlook, as far as the all-in mortgage banking income we can generate there will remain strong. And it continues to be somewhat of an unsung piece of our franchise because we closed and partnered with CoreVest in the fourth quarter of 2019 and in the first quarter of 2020 COVID hit. So I think that the rollout, as we had sort of foreseen was immediately disrupted. But I think as investors are starting to take note, when you look at the results of that business in the third and fourth quarter, it is certainly what we thought it was and more. So we're really excited about how that weaves into the enterprise. And I'd also say, we operate under these 2 flags, but really, the combination of CoreVest in our residential business with Redwood is meant to really cover holistically the nonagency mortgage space in single family. So there are 2 flags, but it's really our footprint as Redwood is really all of non-agency, and that includes serving consumers and investors.

I guess, just on that last point of kind of covering the whole non-agency space. Can you just talk about the synergies that you might see kind of across those 2 flags? Is it kind of how they work together and any benefits you kind of get from having both?