CHIMERA INVESTMENT CORP Q3 FY2024 earnings call

• Fed rate cuts: Fed cut funds rate by 50 basis points in September and guided for another 50-basis-point reduction by year end, with market pricing in more rapid cuts. Yields on US treasury notes ended the quarter materially lower. - Housing fundamentals: Home prices up ~5% y-o-y, delinquencies and default rates low; existing home inventories increased but in line with pre-pandemic levels, housing supply shortage to support home prices. - Securitization: Closed CIM 2024-R1 securitization, sold $352 million of securities, retained $116 million investment; closed out $307 million short five-year treasury futures contract position to protect net interest spread. - Bond issuance: Issued $75 million of 9.25% unsecured notes due 2029, combined total issuance for the year $140 million; produced and settled $543 million agency CMOs. - Investments: Purchased ~$47 million non-agency subordinate bonds, committed to purchase $118 million residential transition loans. - Acquisition: Signed definitive agreement to acquire Palisades Group, which has capabilities in asset management, servicer and vendor oversight, proprietary technologies; combined notional value of loans and real estate owned, advised or managed to be over $30 billion, expected to close in fourth quarter and be accretive in 2025.

GAAP net income for the third quarter was $113.7 million or $1.39 per share. GAAP book value at the end of the third quarter was $22.35 per share. Economic return on GAAP book value for the third quarter was 6.8% based on the quarterly change in book value and the third quarter dividend per common share, and year-to-date 2024 it was 15.6%. On an earnings available for distribution basis, net income for the third quarter was $29.9 million or $0.36 per share. Economic net interest income for the third quarter was $71.5 million. Yield on average interest-earning assets was 6.1%, average cost of funds was 4.5%, and net interest spread was 1.6%. Total leverage for the third quarter was 3.9 to 1, while recourse leverage ended the quarter at 1.2 to 1. The company ended the quarter with $648 million in total cash and unencumbered assets. Had $2.5 billion floating rate exposure on outstanding repo liabilities, $1.5 billion pay interest rate swaps at a weighted average fixed pay rate of 3.56% as hedge, $500 million one-year swaption, and $1.4 billion in either non or limited mark-to-market features on outstanding repo agreements representing 43% of secured recourse funding.

• Expect one more and maybe a second rate cut this year, but further Fed cuts to be in smaller 25-basis-point increments. - Acquisition of Palisades expected to be accretive in 2025. - Residential credit markets robust, aligning with business strategy. - Established new source of unsecured funding through capital markets. - Acquisition of Palisades will strengthen and expand existing business and provide growth opportunities.

• Forward-looking statements are subject to risks and uncertainties outlined in Risk Factors section of most recent annual and quarterly SEC filings; actual events and results may differ materially from forward-looking statements.

Q: You talked a lot about some of the opportunities you guys are seeing on the loan side. One thing we've heard from some of the non-bank originators recently is a focus on trying to grow home equity lending. I was wondering if you could talk about kind of what you guys are seeing there and if you think that's a potential opportunity for Chimera to participate in in the future?

A: Listen, yes, we are looking at that space and, it actually is an area that Palisades has got some experience in. And it's an area that we are looking at, pretty closely. It just hasn't worked for us right now, but we've heard the same things and we're seeing things that are interesting. We just haven't found something yet to pull the trigger on.

Q: When you say you're flat from the end of the quarter, I guess what are you comparing that time frame to? Just to make sure we're on the same page.

A: So the book value as of end of 9/30 versus the move today. That's what we're looking at.

Q: Can you just talk about with the acquisition of Palisades, kind of how you think about kind of growth in, kind of like broadly defined AUM, how you would think about whether you want that to kind of be on balance sheet for Chimera versus kind of third-party funds and how you would look to balance that?

A: Sure. So right before I answer, I just want to make sure to clarify. I think what we meant to say on the book value is we've given up, most or nearly all of the gains that we showed at the end of the third quarter prior -- relative to the end of the second quarter. So most of that increase… That's correct. On Palisades, that is something, we are working through in terms of how we're going to think about third-party asset management in the fund business. We will develop a pretty detailed allocation policy that will be -- that will work well for Chimera's shareholders and any limited partners and any future funds that we create through that. That's kind of an early-stage business for them and we'll look to grow that, but we'll look to grow it in a way that's beneficial for all parties. And then, as I said, their third-party asset management is an interesting business and to the extent we'll look to grow that as well and they have, capabilities, both investment and collateral management that we'll find useful on our own portfolio.

Q: How do you think about your kind of earnings EAD exposure to the short end? I know you updated your swap positions, but, just how to think about your -- kind of your net interest spread or earnings sensitivity to lower short-term rates or a steeper curve?

A: Hi, Doug. This is Subra. Thanks for the question. We -- I mean, the way to think about it is EAD will react both positively and significantly. So if you think about our floating rate liabilities at the end of the quarter, that was about $2.5 billion. So that will continue to see some benefit, right? Now hedging those floating rate liabilities, we have $1.5 billion of swaps. And we have those at a rate of 3.56%. So some of the ops -- the benefits we receive from the floating rate liabilities going down will be offset by these swaps losing some of that benefit. However, as the rates go below 3.56%, we will continue to see benefit. Now also, I will remind you that the swaps, most of them mature by the end of the second quarter of 2025. So we'll have to readjust and evaluate our hedging strategy there. Outside of that, we have about $525 million of preferred dividend -- preferred dividends, which are again floating rate. And so those, we'll continue to see benefit right away because of the floating rate changes. Okay. And then, separately, we obviously have some longer dated limited mark-to-market liability -- sorry, non-mark-to-market or limited mark-to-market facilities that would be maturing early in 2025, about $115 million. So as those get restructured, we will see some benefit there. And then obviously, as paydowns happen and we reinvest, we should hopefully be able to reinvest the paydowns in higher-yielding assets. So that's kind of like the summary of how to think about the interest rate sensitivity and how it will affect EAD.

Q: I just wanted to touch on the fact that your EAD seems to be run-rating around the $0.36 to $0.37 range. Can you just discuss some of the drivers that can get you from here to a double-digit net ROE after expenses, please?

A: I mean, I just explained some of the, EAD growth that we could expect. But the -- as the rates go down, obviously, we will continue to go up. But I would say -- I mean, in my prepared remarks, I did say that the return on our economic net interest, net interest income return on EAD is about 10.6%. So we are, on an economic, perspective, getting the 10.6%. And as rates continue to go down and our interest expense go down, we will see some additional benefits. The one other thing that I will say is there are some investments that still don't go through EAD like our investment in a -- LP investment in an RIA. But some of those, we will get it. But even though it doesn't go through EAD, it's really from an economic net interest income perspective, we are seeing growth and we will continue to see growth.

Q: Just wondering if you could walk through the opportunity you have to potentially raise the dividend further or more quickly if you're able to resecuritize the callable debt. Thank you.

A: Okay, so I'll start with that. So just like as when we raised capital and we're able to invest it accretively, I think that adds to the earnings power of the portfolio. We've held off on the relevering of some of the existing deals, in part because we could raise capital with a lower hurdle than we could in terms of collapsing those deals at the time. But they've now paid down further and rates have come down. So we are looking, more aggressively and given where the securitization market is to begin to look for opportunities to relever and pull cash out. And we think there's opportunities to reinvest that money accretively, which will be a driver to enhance the returns on the portfolio.