UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 8-K
CURRENT REPORT
Pursuant to Section 13 or 15(d)
of the Securities Exchange Act of 1934
Date of Report (date of earliest event reported): October 24, 2018 (October 23, 2018)
ARLINGTON ASSET INVESTMENT CORP.
(Exact name of Registrant as specified in its charter)
Virginia |
|
54-1873198 |
|
001-34374 |
(State or Other Jurisdiction of Incorporation or Organization)
|
|
(I.R.S. Employer Identification No.) |
|
(Commission File Number) |
1001 Nineteenth Street North
Arlington, VA 22209
(Address of principal executive offices) (Zip code)
(703) 373-0200
(Registrant’s telephone number including area code)
N/A
(Former name or former address, if changed from last report)
Check the appropriate box below if the Form 8-K filing is intended to simultaneously satisfy the filing obligation of the registrant under any of the following provisions:
☐ |
Written communications pursuant to Rule 425 under the Securities Act (17 CFR 230.425) |
☐ |
Soliciting material pursuant to Rule 14a-12 under the Exchange Act (17 CFR 240.14a-12) |
☐ |
Pre-commencement communications pursuant to Rule 14d-2(b) under the Exchange Act (17 CFR 240.14d-2(b)) |
☐ |
Pre-commencement communications pursuant to Rule 13e-4(c) under the Exchange Act (17 CFR 240.13e-4(c)) |
Indicate by check mark whether the registrant is an emerging growth company as defined in as defined in Rule 405 of the Securities Act of 1933 (§ 230.405 of this chapter) or Rule 12b-2 of the Securities Exchange Act of 1934 (§ 240.12b-2 of this chapter).
Emerging growth company ☐
If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act. ☐
Arlington Asset Investment Corp. (the “Company”) issued a press release on October 23, 2018 announcing its financial results for the quarter ended September 30, 2018. A copy of the press release is attached hereto as Exhibit 99.1.
The information in Item 2.02 of this Current Report on Form 8-K, including Exhibit 99.1 furnished pursuant to Item 9.01, shall not be deemed “filed” for the purposes of Section 18 of the Securities Exchange Act of 1934 or otherwise subject to the liabilities under that Section. Furthermore, the information in this Current Report on Form 8-K, including Exhibit 99.1 hereto, shall not be incorporated by reference into any registration statement or other document pursuant to the Securities Act of 1933, as amended.
Item 7.01Regulation FD Disclosure.
The Company has posted an updated investor presentation to its website, www.arlingtonasset.com. A copy of the slide presentation is attached as Exhibit 99.2 hereto and incorporated herein by reference. The foregoing information is not deemed “filed” for the purposes of Section 18 of the Securities Exchange Act of 1934, nor shall it be deemed incorporated by reference in filings under the Securities Act of 1933.
Item 8.01Other Events.
The Company reported net loss attributable to common shareholders of $5.7 million, or $0.19 per diluted common share, and non-GAAP core operating income of $13.9 million, or $0.47 per diluted common share, for the quarter ended September 30, 2018. The Company reported book value of $9.95 per common share and tangible book value of $11.06 per common share as of September 30, 2018.
Forward-Looking Statements Disclaimer
This Current Report on Form 8-K contains “forward-looking statements” made pursuant to the safe harbor provisions of the Private Securities Litigation Reform Act of 1995, including statements regarding future results or expectations about our investments, interest rates, portfolio allocation, dividends, financing agreements, returns on invested capital, investment strategy, taxes, portfolio, earnings, book value, housing market, compensation, growth in capital, agency mortgage-backed security (“MBS”) spreads, prepayments, hedging instruments, duration, cash flow and benefit of deferred tax asset value. Forward-looking statements can be identified by forward-looking language, including words such as “believes,” “anticipates,” “views,” “expects,” “estimates,” “intends,” “may,” “plans,” “projects,” “potential,” “prospective,” “will” and similar expressions, or the negative of these words. Such forward-looking statements are based on facts and conditions as they exist at the time such statements are made. Forward-looking statements are also based on predictions as to future facts and conditions, the accurate prediction of which may be difficult and involve the assessment of events beyond our control. Forward-looking statements are further based on various operating and return assumptions. Caution must be exercised in relying on forward-looking statements. Due to known and unknown risks, actual results may differ materially from expectations or projections. You should carefully consider these risks when you make a decision concerning an investment in our securities, along with the following factors, among others, that may cause our actual results to differ materially from those described in any forward-looking statements: availability of, and our ability to deploy, capital; growing our business primarily through our current strategy of focusing on acquiring primarily agency MBS; our ability to forecast our tax attributes, which are based upon various facts and assumptions, our ability to protect and use our net operating losses and net capital losses to offset future taxable income, including whether our shareholder rights plan will be effective in preventing an ownership change that would significantly limit our ability to utilize such losses; our business, acquisition, leverage, asset allocation, operational, investment, hedging and financing strategies and the success of these strategies; the effect of changes in prepayment rates, interest rates and default rates on our portfolio; the effect of governmental regulation and actions; our ability to roll our repurchase agreements on favorable terms, if at all; our liquidity; our asset valuation policies; our decisions with respect to, and ability to make, future dividends; investing in assets other than MBS or pursuing business activities other than investing in MBS; our ability to maintain our exclusion from the definition of “investment company” under the Investment Company Act of 1940, as amended; our decision to not elect to be taxed as a real estate investment trust under the Internal Revenue Code; competition for investment opportunities, including competition from the U.S. Department of Treasury and the U.S. Federal Reserve, for investments in agency MBS, as well as the timing of the termination by the U.S. Federal Reserve of its purchases of agency MBS; the federal conservatorship of the Federal National Mortgage Association (“Fannie Mae”) and the Federal Home Loan Mortgage Corporation (“Freddie Mac”) and related efforts, along with any changes in laws and regulations affecting the relationship between Fannie Mae and Freddie Mac and the federal government; mortgage loan prepayment activity, modification programs and future legislative action; changes in, and success of, our acquisition, hedging and leverage strategies, changes in our asset allocation and changes in our operational policies, all of which may be changed by us without shareholder approval; failure of sovereign or municipal entities to meet their debt obligations or a downgrade in the credit rating of such debt obligations; fluctuations of the value of our hedge instruments; fluctuating quarterly operating results; changes in laws and regulations and industry practices that may adversely affect our business; volatility of the securities markets and activity in the secondary securities markets in the United States and elsewhere; our ability to successfully expand our business into areas other than investing in MBS; changes in, and our ability to remain in compliance with, law, regulations or governmental policies affecting our business; and the factors described in the sections entitled “Risk Factors” in our most recent
Annual Report on Form 10-K, subsequent Quarterly Reports on Form 10-Q and other documents filed by the Company with the SEC from time to time. All forward-looking statements speak only as of the date on which they are made. New risks and uncertainties arise over time, and it is not possible to predict those events or how they may affect us. Except as required by law, the Company is not obligated to, and does not intend to, update or revise any forward-looking statements, whether as a result of new information, future events or otherwise.
Item 9.01. |
Financial Statements and Exhibits. |
(d) |
Exhibits. |
Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this Report to be signed on its behalf by the undersigned hereunto duly authorized.
|
|
ARLINGTON ASSET INVESTMENT CORP. |
|
|
|
|
|
Date: October 24, 2018 |
|
|
|
|
By: |
|
/s/ Richard E. Konzmann |
|
Name: |
|
Richard E. Konzmann |
|
Title: |
|
Executive Vice President, Chief Financial |
Exhibit 99.1
Contacts:
Media: 703.373.0200 or ir@arlingtonasset.com
Investors: Rich Konzmann at 703.373.0200 or ir@arlingtonasset.com
Arlington Asset Investment Corp. Reports Third Quarter 2018 Financial Results
ARLINGTON, VA, October 23, 2018 – Arlington Asset Investment Corp. (NYSE: AI) (the “Company” or “Arlington”) today reported a net loss attributable to common shareholders of $5.7 million, or $0.19 per diluted common share, income before income taxes available to common shareholders of $4.0 million, or $0.14 per diluted common share, and non-GAAP core operating income of $13.9 million, or $0.47 per diluted common share, for the quarter ended September 30, 2018. A reconciliation of non-GAAP core operating income to GAAP net income (loss) before income taxes appears at the end of this press release.
Third Quarter 2018 Financial Highlights
|
• |
$0.19 per diluted common share of GAAP net loss |
|
o |
Includes a $0.33 per diluted common share deferred income tax provision |
|
• |
$0.14 per diluted common share of GAAP pre-tax income |
|
• |
$0.47 per diluted common share of non-GAAP core operating income |
|
• |
$9.95 per common share of book value |
|
• |
$11.06 per common share of tangible book value |
|
o |
Would represent book value per common share if the Company were to elect to be taxed as a real estate investment trust (“REIT”) |
|
• |
$0.375 per common share dividend |
|
• |
$5,180 million investment portfolio of agency mortgage-backed securities (“MBS”) |
|
• |
$4,175 million notional amount interest rate hedge position |
|
• |
Increased interest rate hedge duration leading to a net duration gap of negative 0.2 years |
“Despite heightened volatility during the quarter, Arlington produced an annualized economic return of 2.3% in the third quarter measured as the change in tangible book value per common share plus the $0.375 per common share dividend,” said J. Rock Tonkel, Jr., the Company's President and Chief Executive Officer. “Arlington continued to generate net spread earnings in excess of its quarterly dividend enabling it to deliver a strong dividend to its shareholders despite reduced overall investment volumes during the quarter. With an expectation that the Company will fully utilize its net operating loss carryforward during 2019, the Company is currently evaluating possible long-term tax structures, including potentially electing to be taxed as a REIT as early as January 1, 2019. If the Company were to elect REIT status, it does not anticipate significant modifications to its investment portfolio or operations to qualify as a REIT, and its presentation of book value would be equivalent to its tangible book value, which was $11.06 per common share as of September 30, 2018.”
Other Third Quarter Highlights
As of September 30, 2018, the Company’s agency MBS investment portfolio totaled $5,180 million in fair value, consisting of $4,399 million of specified agency MBS and $781 million of net long to-be-announced (“TBA”) agency MBS. As of September 30, 2018, the Company’s $5,180 million agency MBS investment portfolio was comprised of the following:
|
• |
$96 million of 3.5% coupon 15-year agency MBS |
|
• |
$59 million of 4.0% coupon 20-year agency MBS |
|
• |
$342 million of 3.5% coupon 30-year agency MBS |
|
• |
$2,384 million of 4.0% coupon 30-year agency MBS |
|
• |
$628 million of 5.0% coupon 30-year agency MBS |
As of September 30, 2018, the Company’s $4,399 million specified agency MBS portfolio had a weighted average amortized cost basis of $104.75 and a weighted average market price of $102.17. The Company’s fixed-rate agency MBS are comprised of securities backed by specified pools of mortgage loans selected for their lower propensity for prepayment. Weighted average pay-up premiums on the Company’s agency MBS portfolio, which represent the estimated price premium of agency MBS backed by specified pools over a generic TBA agency MBS, were approximately two-fifths of a percentage point as of September 30, 2018, compared to half of a percentage point as of June 30, 2018.
As of September 30, 2018, the Company’s net long TBA agency MBS investment portfolio had a purchase price of $783 million and market value of $781 million, resulting in a net GAAP carrying fair value of $(2) million. Under GAAP, the gross fair value of the agency MBS underlying the Company’s TBA commitments is not recognized on the balance sheet as the Company accounts for its TBA commitments as derivative instruments.
As of September 30, 2018, the Company had $4,092 million of repurchase agreements outstanding with a weighted average rate of 2.30% and remaining weighted average maturity of 15 days secured by an aggregate of $4,304 million of agency MBS at fair value.
GAAP net interest income was $10.3 million for the third quarter of 2018 compared to $10.9 million for the second quarter of 2018, including the amortization of the Company’s net premium on its agency MBS of $8.4 million for the third quarter of 2018 compared to $8.3 million for the second quarter of 2018. The Company’s weighted average yield on its agency MBS was 3.11% for the third quarter of 2018 compared to 3.00% for the second quarter of 2018, and the actual weighted-average constant prepayment rate (“CPR”) for the Company’s agency MBS was 10.66% for the third quarter of 2018 compared to 10.31% for the second quarter of 2018. The Company’s weighted average cost of repurchase agreement funding was 2.17% during the third quarter of 2018 compared to 1.96% during the second quarter of 2018.
The Company enters into various hedging transactions to mitigate the interest rate sensitivity of its cost of borrowing and the value of its agency MBS portfolio including interest rate swap agreements, U.S. Treasury note futures, put and call options on 10-year U.S. Treasury note futures, and options on agency MBS. Under GAAP, the Company has not designated these transactions as hedging instruments for financial reporting purposes and therefore all gains and losses on its hedging instruments are recorded as net investment gains and losses in the Company’s financial statements.
Under the terms of the Company’s interest rate swap agreements, the Company pays semiannual interest payments based on a fixed rate and receives quarterly variable interest payments based upon the prevailing three-month London Interbank Offered Rate (“LIBOR”) on the date of reset. During the third quarter of 2018, the Company extended the duration of its interest rate swap portfolio by replacing $600 million of notional amount of interest rate swaps with a remaining weighted average maturity of 8.1 years with $750 million of notional amount of interest rate swaps with an average maturity of 12.7 years. As of September 30, 2018, the Company had $3,475 million in notional amount of interest rate swap agreements with a weighted average pay fixed rate of 2.10% and a remaining weighted average maturity of 7.1 years. The Company’s weighted average net receive rate of its interest rate swap agreements was 0.23% during the third quarter of 2018 compared to 0.32% during the second quarter of 2018.
In addition to interest rate swap agreements, the Company held $700 million in equivalent notional amount of short positions in 10-year U.S. Treasury note futures as of September 30, 2018 that were purchased during the third quarter of 2018 when the 10-year U.S. Treasury rate was 2.92%. As of September 30, 2018, the total notional amount of the Company’s interest rate hedges consisting of interest rate swaps and U.S. Treasury note futures was 86% of the Company’s outstanding repurchase agreement funding and TBA purchase commitments with a net duration gap of negative 0.2 years.
The Company reported TBA dollar roll income of $4.6 million for the third quarter of 2018 compared to $6.7 million for the second quarter of 2018. The implied weighted-average net interest spread of the Company’s TBA dollar rolls was 1.86% for the third quarter of 2018 compared to 1.91% for the second quarter of 2018. TBA dollar roll income is considered the economic equivalent of investing in agency MBS financed with a repurchase agreement and is calculated as the price discount of a forward-settling purchase of a TBA agency MBS relative to the “spot” sale of the same security. Under GAAP, the Company accounts for its TBA commitments as derivative instruments and recognizes income from TBA dollar rolls as a component of net investment gains and losses in the Company’s financial statements.
Economic net interest income was $17.2 million for the third quarter of 2018 compared to $20.1 million for the second quarter of 2018. Economic net interest income is comprised of net interest income determined in accordance with GAAP, TBA dollar roll income and
net interest income or expense from interest rate swaps. Economic net interest income is a non-GAAP financial measure that is described later in this press release.
Excluding TBA dollar roll income, we had net investment losses on our investment portfolio of $46.8 million. On our related interest rate hedging instruments, we had net investment gains of $37.6 million, excluding interest rate swap net interest income. This results in a net investment loss on our hedged investment portfolio of $9.2 million, or $0.31 per diluted common share, for the third quarter of 2018.
Income Taxes
The Company is subject to taxation as a corporation under Subchapter C of the Internal Revenue Code of 1986, as amended. As of September 30, 2018, the Company estimated its net operating loss (“NOL”) carryforward at $28.0 million that begins to expire in 2027, its net capital loss (“NCL”) carryforward at $390.9 million that begins to expire in 2019, and its alternative minimum tax (“AMT”) credit carryforward at $9.1 million that does not expire. The Company’s estimated loss and tax credit carryforwards as of September 30, 2018 are subject to potential adjustments up to the time of filing the Company’s income tax returns.
Under GAAP, a C-corporation records its deferred tax assets and liabilities on its balance sheet while a REIT does not record them on its balance sheet. The Company had a net deferred tax liability of $33.6 million, or $1.11 per common share, and an AMT credit carryforward within other assets on its consolidated balance sheet of $9.1 million, or $0.30 per common share, as of September 30, 2018. The Company continues to record a full valuation allowance against its deferred tax assets that are capital in tax character and no valuation allowance against its deferred tax assets that are ordinary in tax character. The Company enters into various hedging transactions to mitigate the interest rate sensitivity of its cost of borrowing and the value of its agency MBS portfolio. For income tax purposes, gains and losses from its agency MBS are capital in tax character while gains and losses from its interest rate swap hedges are ordinary in tax character. During the nine months ended September 30, 2018, the Company had net investment losses on its agency MBS for which no deferred income tax benefit was recorded since the Company records a full valuation allowance against its deferred tax assets that are capital in nature. However, during the nine months ended September 30, 2018, the Company had net investments gains on its interest rate swap hedges for which a deferred income tax provision was recorded resulting in the Company now having a net deferred tax liability on its balance sheet as of September 30, 2018. For accounting purposes, the Company’s interest rate swaps are a hedge against future higher funding costs on the Company’s repurchase agreement financing. However, those future higher expected funding costs are not currently reflected as a deferred tax asset whereas the future benefits of the hedge against the higher expected funding costs are currently reflected as a deferred tax liability. As a result, the deferred tax liability related to the net gain on the Company’s interest rate hedges should be offset in the future by tax deductions related to future higher funding costs on the Company’s repurchase agreement financing as they materialize.
Distributions to Shareholders
The Company’s Board of Directors approved a distribution to common shareholders of $0.375 per share for the third quarter of 2018. The distribution will be paid on October 31, 2018 to shareholders of record as of September 28, 2018. The Company’s Board of Directors also approved a distribution to its Series B preferred shareholders of $0.4375 per share for the third quarter of 2018. The distribution was paid on October 1, 2018 to shareholders of record as of September 18, 2018.
The tax characterization of the Company’s distributions to shareholders is determined and reported to shareholders on Form 1099-DIV after the end of the calendar year. As a C corporation, distributions to common and preferred individual shareholders of current or accumulated earnings and profits are qualified dividends eligible for the 23.8% maximum federal income tax rate whereas similar distributions to individual shareholders by a REIT of current or accumulated earnings and profits are nonqualified dividends subject to the higher 33.4% maximum effective federal tax rate (net of the 20% dividend deduction benefit), each inclusive of the 3.8% Medicare tax rate, on ordinary income. Any distributions in excess of current or accumulated earnings and profits would be reported as returns of capital instead of qualified dividends. Distributions that are classified as returns of capital are nontaxable to the extent they do not exceed a shareholder's adjusted tax basis in the Company’s stock, or as a capital gain to the extent that the amount of the distribution exceeds a shareholder's adjusted tax basis in the Company’s stock.
Conference Call
The Company will hold a conference call for investors at 9:00 A.M. Eastern Time on Wednesday, October 24, 2018 to discuss the Company’s third quarter 2018 results.
Investors may listen to the earnings call via the internet at: http://www.arlingtonasset.com/index.php?s=19. Replays of the earnings call will be available for 60 days via webcast at the Internet address provided above, beginning two hours after the call ends.
The Company will make available additional quarterly information for the benefit of its shareholders through a supplemental presentation that will be available at the Company's website, www.arlingtonasset.com. The presentation will be available on the Webcasts and Presentations section located under the Updates & Events tab of the Company's website.
About the Company
Arlington Asset Investment Corp. (NYSE: AI) is a principal investment firm that currently invests primarily in mortgage-related and other assets. The Company is headquartered in the Washington, D.C. metropolitan area. For more information, please visit www.arlingtonasset.com.
Statements concerning interest rates, portfolio allocation, financing costs, portfolio hedging, prepayments, dividends, book value, utilization of loss carryforwards, any change in long-term tax structures (including any REIT election) and any other guidance on present or future periods constitute forward-looking statements that are subject to a number of factors, risks and uncertainties that might cause actual results to differ materially from stated expectations or current circumstances. These factors include, but are not limited to, changes in interest rates, increased costs of borrowing, decreased interest spreads, changes in political and monetary policies, changes in default rates, changes in prepayment rates and other assumptions underlying our estimates related to our projections of future core earnings, changes in the Company’s returns, changes in the use of the Company’s tax benefits, changes in the agency MBS asset yield, changes in the Company’s monetization of net operating loss carryforwards, changes in the Company’s ability to generate cash earnings and dividends, preservation and utilization of the Company’s net operating loss and net capital loss carryforwards, impacts of changes to and changes by Fannie Mae and Freddie Mac, actions taken by the U.S. Federal Reserve, the Federal Housing Finance Agency and the U.S. Treasury, availability of opportunities that meet or exceed the Company’s risk adjusted return expectations, ability and willingness to make future dividends, ability to generate sufficient cash through retained earnings to satisfy capital needs, and general economic, political, regulatory and market conditions. These and other material risks are described in the Company's most recent Annual Report on Form 10-K and any other documents filed by the Company with the SEC from time to time, which are available from the Company and from the SEC, and you should read and understand these risks when evaluating any forward-looking statement. All forward-looking statements speak only as of the date on which they are made. New risks and uncertainties arise over time, and it is not possible to predict those events or how they may affect the Company. Except as required by law, the Company is not obligated to, and does not intend to, update or revise any forward-looking statements, whether as a result of new information, future events or otherwise.
Financial data to follow
ARLINGTON ASSET INVESTMENT CORP.
CONSOLIDATED BALANCE SHEETS
(Dollars in thousands, except per share amounts)
(Unaudited)
|
|
September 30, 2018 |
|
|
June 30, 2018 |
|
||
ASSETS |
|
|
|
|
|
|
|
|
Cash and cash equivalents |
|
$ |
32,199 |
|
|
$ |
18,696 |
|
Interest receivable |
|
|
14,818 |
|
|
|
13,368 |
|
Sold securities receivable |
|
|
— |
|
|
|
84,349 |
|
Mortgage-backed securities, at fair value |
|
|
|
|
|
|
|
|
Agency |
|
|
4,399,466 |
|
|
|
4,050,458 |
|
Private-label |
|
|
37 |
|
|
|
61 |
|
Derivative assets, at fair value |
|
|
91 |
|
|
|
9,921 |
|
Deposits, net |
|
|
73,966 |
|
|
|
61,550 |
|
Other assets |
|
|
15,835 |
|
|
|
15,973 |
|
Total assets |
|
$ |
4,536,412 |
|
|
$ |
4,254,376 |
|
LIABILITIES AND EQUITY |
|
|
|
|
|
|
|
|
Liabilities: |
|
|
|
|
|
|
|
|
Repurchase agreements |
|
$ |
4,092,251 |
|
|
$ |
3,752,582 |
|
Interest payable |
|
|
4,241 |
|
|
|
3,728 |
|
Accrued compensation and benefits |
|
|
3,665 |
|
|
|
2,413 |
|
Dividend payable |
|
|
12,723 |
|
|
|
12,265 |
|
Derivative liabilities, at fair value |
|
|
3,431 |
|
|
|
234 |
|
Purchased securities payable |
|
|
— |
|
|
|
77,419 |
|
Deferred tax liabilities, net |
|
|
33,639 |
|
|
|
24,011 |
|
Other liabilities |
|
|
1,724 |
|
|
|
1,265 |
|
Long-term unsecured debt |
|
|
74,048 |
|
|
|
73,992 |
|
Total liabilities |
|
|
4,225,722 |
|
|
|
3,947,909 |
|
Equity: |
|
|
|
|
|
|
|
|
Preferred stock (liquidation preference of $8,654 and $8,519, respectively) |
|
|
8,138 |
|
|
|
8,007 |
|
Common stock |
|
|
303 |
|
|
|
282 |
|
Additional paid-in capital |
|
|
1,997,281 |
|
|
|
1,976,309 |
|
Accumulated deficit |
|
|
(1,695,032 |
) |
|
|
(1,678,131 |
) |
Total equity |
|
|
310,690 |
|
|
|
306,467 |
|
Total liabilities and equity |
|
$ |
4,536,412 |
|
|
$ |
4,254,376 |
|
Book value per common share (1) |
|
$ |
9.95 |
|
|
$ |
10.52 |
|
Tangible book value per common share (2) |
|
$ |
11.06 |
|
|
$ |
11.37 |
|
Common shares outstanding (in thousands) (3) |
|
|
30,364 |
|
|
|
28,318 |
|
|
|
|
|
|
|
|
|
|
(1) Book value per common share is calculated as total equity less the preferred stock liquidation preference divided by common shares outstanding. |
|
|||||||
|
|
|
|
|
|
|
|
|
(2) Tangible book value per common share is calculated as total equity less the preferred stock liquidation preference plus net deferred tax liabilities divided by common shares outstanding. |
|
|||||||
|
|
|
|
|
|
|
|
|
(3) Represents common shares outstanding plus vested restricted stock units convertible into common stock less unvested restricted common stock. |
|
|||||||
|
|
|
|
|
|
|
|
|
|
|
ARLINGTON ASSET INVESTMENT CORP.
CONSOLIDATED STATEMENTS OF OPERATIONS
(Dollars in thousands, except per share data)
(Unaudited)
|
Three Months Ended |
|
|||||||||||||
|
September 30, 2018 |
|
|
June 30, 2018 |
|
|
March 31, 2018 |
|
|
December 31, 2017 |
|
||||
Interest income |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Agency mortgage-backed securities |
$ |
32,679 |
|
|
$ |
29,940 |
|
|
$ |
30,725 |
|
|
$ |
30,514 |
|
Private-label mortgage-backed securities |
|
2 |
|
|
|
10 |
|
|
|
4 |
|
|
|
19 |
|
Other |
|
183 |
|
|
|
105 |
|
|
|
131 |
|
|
|
76 |
|
Total interest income |
|
32,864 |
|
|
|
30,055 |
|
|
|
30,860 |
|
|
|
30,609 |
|
Interest expense |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Short-term secured debt |
|
21,265 |
|
|
|
17,936 |
|
|
|
15,325 |
|
|
|
13,727 |
|
Long-term unsecured debt |
|
1,261 |
|
|
|
1,257 |
|
|
|
1,231 |
|
|
|
1,225 |
|
Total interest expense |
|
22,526 |
|
|
|
19,193 |
|
|
|
16,556 |
|
|
|
14,952 |
|
Net interest income |
|
10,338 |
|
|
|
10,862 |
|
|
|
14,304 |
|
|
|
15,657 |
|
Investment (loss) gain, net |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Loss on trading investments, net |
|
(37,878 |
) |
|
|
(20,892 |
) |
|
|
(88,343 |
) |
|
|
(23,208 |
) |
Gain from derivative instruments, net |
|
35,620 |
|
|
|
16,052 |
|
|
|
40,154 |
|
|
|
33,169 |
|
Other, net |
|
1 |
|
|
|
324 |
|
|
|
50 |
|
|
|
277 |
|
Total investment (loss) gain, net |
|
(2,257 |
) |
|
|
(4,516 |
) |
|
|
(48,139 |
) |
|
|
10,238 |
|
General and administrative expenses |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Compensation and benefits |
|
2,833 |
|
|
|
2,061 |
|
|
|
3,040 |
|
|
|
3,505 |
|
Other general and administrative expenses |
|
1,121 |
|
|
|
1,400 |
|
|
|
1,257 |
|
|
|
1,442 |
|
Total general and administrative expenses |
|
3,954 |
|
|
|
3,461 |
|
|
|
4,297 |
|
|
|
4,947 |
|
Income (loss) before income taxes |
|
4,127 |
|
|
|
2,885 |
|
|
|
(38,132 |
) |
|
|
20,948 |
|
Income tax provision |
|
9,628 |
|
|
|
6,493 |
|
|
|
18,251 |
|
|
|
13,707 |
|
Net (loss) income |
|
(5,501 |
) |
|
|
(3,608 |
) |
|
|
(56,383 |
) |
|
|
7,241 |
|
Dividend on preferred stock |
|
(151 |
) |
|
|
(149 |
) |
|
|
(137 |
) |
|
|
(133 |
) |
Net (loss) income (attributable) available to common stock |
$ |
(5,652 |
) |
|
$ |
(3,757 |
) |
|
$ |
(56,520 |
) |
|
$ |
7,108 |
|
Basic (loss) earnings per common share |
$ |
(0.19 |
) |
|
$ |
(0.13 |
) |
|
$ |
(2.00 |
) |
|
$ |
0.25 |
|
Diluted (loss) earnings per common share |
$ |
(0.19 |
) |
|
$ |
(0.13 |
) |
|
$ |
(2.00 |
) |
|
$ |
0.25 |
|
Weighted average common shares outstanding (in thousands) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Basic |
|
29,382 |
|
|
|
28,210 |
|
|
|
28,197 |
|
|
|
28,192 |
|
Diluted |
|
29,382 |
|
|
|
28,210 |
|
|
|
28,197 |
|
|
|
28,580 |
|
Non-GAAP Core Operating Income
In addition to the Company’s results of operations determined in accordance with generally accepted accounting principles as consistently applied in the United States (“GAAP”), the Company also reports “non-GAAP core operating income.” The Company defines core operating income as “economic net interest income” less “core general and administrative expenses.”
Economic Net Interest Income
Economic net interest income, a non-GAAP financial measure, represents the interest income earned net of interest expense incurred from all of our interest bearing financial instruments as well as agency MBS which underlie, and are implicitly financed through, our TBA dollar roll transactions. Economic net interest income is comprised of the following:
|
• |
net interest income determined in accordance with GAAP; |
|
• |
TBA agency MBS dollar roll income, which is calculated as the price discount of a forward-settling purchase of a TBA agency MBS relative to the “spot” sale of the same security, earned ratably over the period beginning on the settlement date of the sale and ending on the settlement date of the forward-settling purchase; and |
|
• |
net interest income earned or expense incurred from interest rate swap agreements. |
In the Company’s consolidated statements of comprehensive income prepared in accordance with GAAP, TBA agency MBS dollar roll income and the net interest income or expense incurred from interest rate swap agreements are reported as a component of the overall periodic change in the fair value of derivative instruments within the line item “gain (loss) from derivative instruments, net” of the “investment gain (loss), net” section. We believe that economic net interest income assists investors in understanding and evaluating the financial performance of the Company’s long-term-focused, net interest spread-based investment strategy, prior to the deduction of core general and administrative expenses.
Core General and Administrative Expenses
Core general and administrative expenses are non-interest expenses reported within the line item “total general and administrative expenses” of the consolidated statements of comprehensive income less stock-based compensation expense.
Non-GAAP Core Operating Income Results
The following table presents the Company’s computation of economic net interest income and core operating income for the last four fiscal quarters (unaudited, amounts in thousands, except per share amounts):
|
Three Months Ended |
|
|||||||||||||
|
September 30, 2018 |
|
|
June 30, 2018 |
|
|
March 31, 2018 |
|
|
December 31, 2017 |
|
||||
GAAP net interest income |
$ |
10,338 |
|
|
$ |
10,862 |
|
|
$ |
14,304 |
|
|
$ |
15,657 |
|
TBA dollar roll income |
|
4,604 |
|
|
|
6,742 |
|
|
|
6,643 |
|
|
|
7,171 |
|
Interest rate swap net interest income (expense) |
|
2,295 |
|
|
|
2,483 |
|
|
|
(816 |
) |
|
|
(2,434 |
) |
Economic net interest income |
|
17,237 |
|
|
|
20,087 |
|
|
|
20,131 |
|
|
|
20,394 |
|
Core general and administrative expenses |
|
(3,202 |
) |
|
|
(3,162 |
) |
|
|
(3,846 |
) |
|
|
(3,768 |
) |
Preferred stock dividend |
|
(151 |
) |
|
|
(149 |
) |
|
|
(137 |
) |
|
|
(133 |
) |
Non-GAAP core operating income |
$ |
13,884 |
|
|
$ |
16,776 |
|
|
$ |
16,148 |
|
|
$ |
16,493 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Non-GAAP core operating income per diluted common share |
$ |
0.47 |
|
|
$ |
0.59 |
|
|
$ |
0.57 |
|
|
$ |
0.58 |
|
Weighted average diluted common shares outstanding |
|
29,718 |
|
|
|
28,463 |
|
|
|
28,430 |
|
|
|
28,580 |
|
The following table provides a reconciliation of GAAP pre-tax net income (loss) to non-GAAP core operating income for the last four fiscal quarters (unaudited, amounts in thousands):
|
Three Months Ended |
|
|||||||||||||
|
September 30, 2018 |
|
|
June 30, 2018 |
|
|
March 31, 2018 |
|
|
December 31, 2017 |
|
||||
GAAP income (loss) before income taxes |
$ |
4,127 |
|
|
$ |
2,885 |
|
|
$ |
(38,132 |
) |
|
$ |
20,948 |
|
Add back (Less): |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total investment loss (gain), net |
|
2,257 |
|
|
|
4,516 |
|
|
|
48,139 |
|
|
|
(10,238 |
) |
Stock-based compensation expense |
|
752 |
|
|
|
299 |
|
|
|
451 |
|
|
|
1,179 |
|
Preferred stock dividend |
|
(151 |
) |
|
|
(149 |
) |
|
|
(137 |
) |
|
|
(133 |
) |
Add back: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
TBA dollar roll income |
|
4,604 |
|
|
|
6,742 |
|
|
|
6,643 |
|
|
|
7,171 |
|
Interest rate swap net interest income (expense) |
|
2,295 |
|
|
|
2,483 |
|
|
|
(816 |
) |
|
|
(2,434 |
) |
Non-GAAP core operating income |
$ |
13,884 |
|
|
$ |
16,776 |
|
|
$ |
16,148 |
|
|
$ |
16,493 |
|
Non-GAAP core operating income is used by management to evaluate the financial performance of the Company’s long-term investment strategy and core business activities over periods of time as well as assist with the determination of the appropriate level of periodic dividends to common stockholders. The Company believes that non-GAAP core operating income assists investors in understanding and evaluating the financial performance of the Company’s long-term investment strategy and core business activities over periods of time as well as its earnings capacity. A limitation of utilizing this non-GAAP financial measure is that the effect of accounting for “non-core” events or transactions in accordance with GAAP does, in fact, reflect the financial results of our business and these effects should not be ignored when evaluating and analyzing our financial results. For example, the economic cost or benefit of hedging instruments other than interest rate swap agreements, such as U.S. Treasury note futures or options on U.S. Treasury note futures, do not affect the computation of non-GAAP core operating income. In addition, the Company’s calculation of non-GAAP core operating income may not be comparable to other similarly titled measures of other companies. Therefore, the Company believes that net income and comprehensive income determined in accordance with GAAP should be considered in conjunction with non-GAAP core operating income.
The following tables present information on the Company’s investment and hedge portfolio as of September 30, 2018 (unaudited, dollars in thousands):
Agency MBS:
|
|
Fair Value |
|
|
Specified agency MBS |
|
$ |
4,399,466 |
|
Net long agency TBA position |
|
|
781,258 |
|
Total |
|
$ |
5,180,724 |
|
Specified Agency MBS:
|
|
Unpaid Principal Balance |
|
|
Net Unamortized Purchase Premiums |
|
|
Amortized Cost Basis |
|
|
Net Unrealized Gain (Loss) |
|
|
Fair Value |
|
|
Market Price |
|
|
Coupon |
|
|
Weighted Average Expected Remaining Life |
|
||||||||
15-year fixed rate: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
3.5% |
|
$ |
95,675 |
|
|
$ |
1,673 |
|
|
$ |
97,348 |
|
|
$ |
(746 |
) |
|
$ |
96,602 |
|
|
$ |
100.97 |
|
|
|
3.50 |
% |
|
|
4.7 |
|
20-year fixed rate: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
4.0% |
|
|
57,977 |
|
|
|
1,956 |
|
|
|
59,933 |
|
|
|
(825 |
) |
|
|
59,108 |
|
|
|
101.95 |
|
|
|
4.00 |
% |
|
|
6.9 |
|
30-year fixed rate: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
3.5% |
|
|
346,872 |
|
|
|
8,123 |
|
|
|
354,995 |
|
|
|
(12,715 |
) |
|
|
342,280 |
|
|
|
98.68 |
|
|
|
3.50 |
% |
|
|
8.8 |
|
4.0% |
|
|
2,346,617 |
|
|
|
113,716 |
|
|
|
2,460,333 |
|
|
|
(76,102 |
) |
|
|
2,384,231 |
|
|
|
101.60 |
|
|
|
4.00 |
% |
|
|
8.1 |
|
4.5% |
|
|
1,359,321 |
|
|
|
73,604 |
|
|
|
1,432,925 |
|
|
|
(20,314 |
) |
|
|
1,412,611 |
|
|
|
103.92 |
|
|
|
4.50 |
% |
|
|
8.0 |
|
5.0% |
|
|
99,526 |
|
|
|
5,400 |
|
|
|
104,926 |
|
|
|
(311 |
) |
|
|
104,615 |
|
|
|
105.11 |
|
|
|
5.00 |
% |
|
|
5.5 |
|
5.5% |
|
|
18 |
|
|
|
— |
|
|
|
18 |
|
|
|
1 |
|
|
|
19 |
|
|
|
108.68 |
|
|
|
5.50 |
% |
|
|
6.2 |
|
Total/weighted- average 30-year fixed rate |
|
|
4,152,354 |
|
|
|
200,843 |
|
|
|
4,353,197 |
|
|
|
(109,441 |
) |
|
|
4,243,756 |
|
|
|
102.20 |
|
|
|
4.15 |
% |
|
|
8.1 |
|
Total/weighted-average |
|
$ |
4,306,006 |
|
|
$ |
204,472 |
|
|
$ |
4,510,478 |
|
|
$ |
(111,012 |
) |
|
$ |
4,399,466 |
|
|
$ |
102.17 |
|
|
|
4.13 |
% |
|
|
8.0 |
|
Net Long Agency TBA Positions:
|
|
Notional Amount: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net Long (Short) Position |
|
|
Implied Cost Basis |
|
|
Implied Fair Value |
|
|
Net Carrying Amount |
|
||||
4.5% 30-year MBS purchase commitments |
|
$ |
250,000 |
|
|
$ |
258,549 |
|
|
$ |
257,945 |
|
|
$ |
(604 |
) |
5.0% 30-year MBS purchase commitments |
|
|
500,000 |
|
|
|
524,797 |
|
|
|
523,313 |
|
|
|
(1,484 |
) |
Total TBA commitments, net |
|
$ |
750,000 |
|
|
$ |
783,346 |
|
|
$ |
781,258 |
|
|
$ |
(2,088 |
) |
Interest Rate Swap Agreements:
|
|
|
|
|
|
Weighted-average: |
|
|
|
|
|
|||||||||||||
|
|
Notional Amount |
|
|
Fixed Pay Rate |
|
|
Variable Receive Rate |
|
|
Net Receive (Pay) Rate |
|
|
Remaining Life (Years) |
|
|
Fair Value |
|
||||||
Years to maturity: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Less than 3 years |
|
$ |
1,050,000 |
|
|
|
1.53 |
% |
|
|
2.33 |
% |
|
|
0.80 |
% |
|
|
1.8 |
|
|
$ |
(225 |
) |
3 to less than 7 years |
|
|
225,000 |
|
|
|
1.95 |
% |
|
|
2.35 |
% |
|
|
0.40 |
% |
|
|
3.5 |
|
|
|
(77 |
) |
7 to less than 10 years |
|
|
2,050,000 |
|
|
|
2.34 |
% |
|
|
2.33 |
% |
|
|
(0.01 |
)% |
|
|
8.6 |
|
|
|
(822 |
) |
10 or more years |
|
|
150,000 |
|
|
|
3.01 |
% |
|
|
2.32 |
% |
|
|
(0.69 |
)% |
|
|
29.8 |
|
|
|
91 |
|
Total / weighted-average |
|
$ |
3,475,000 |
|
|
|
2.10 |
% |
|
|
2.33 |
% |
|
|
0.23 |
% |
|
|
7.1 |
|
|
$ |
(1,033 |
) |
|
|
Maturity Date |
|
Notional Amount |
|
|
Net Fair Value |
|
||
10-year U.S. Treasury note futures |
|
December 2018 |
|
$ |
700,000 |
|
|
$ |
(219 |
) |
The following table presents information about the components of the Company’s net deferred tax assets (liabilities) as of September 30, 2018 and June 30, 2018 (unaudited, dollars in thousands):
|
|
As of September 30, 2018 |
|
|
As of June 30, 2018 |
|
||||||||||
|
|
Gross Amount |
|
|
Tax Effected |
|
|
Gross Amount |
|
|
Tax Effected |
|
||||
Ordinary deferred tax (liabilities) assets: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
NOL carryforward |
|
$ |
27,988 |
|
|
$ |
7,204 |
|
|
$ |
40,318 |
|
|
$ |
10,378 |
|
Deferred net gain on designated hedges |
|
|
(17,262 |
) |
|
|
(4,443 |
) |
|
|
(2,349 |
) |
|
|
(605 |
) |
Net unrealized gain on designated hedges |
|
|
(148,457 |
) |
|
|
(38,212 |
) |
|
|
(137,071 |
) |
|
|
(35,282 |
) |
Stock-based compensation |
|
|
6,707 |
|
|
|
1,726 |
|
|
|
7,134 |
|
|
|
1,836 |
|
Other, net |
|
|
336 |
|
|
|
86 |
|
|
|
(563 |
) |
|
|
(338 |
) |
Total ordinary deferred tax liabilities, net |
|
|
(130,688 |
) |
|
|
(33,639 |
) |
|
|
(92,531 |
) |
|
|
(24,011 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Capital deferred tax assets: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
NCL carryforward |
|
|
390,923 |
|
|
|
100,624 |
|
|
|
392,655 |
|
|
|
101,069 |
|
Net unrealized loss on investments |
|
|
170,934 |
|
|
|
43,998 |
|
|
|
138,253 |
|
|
|
35,587 |
|
Valuation allowance |
|
|
(561,857 |
) |
|
|
(144,622 |
) |
|
|
(530,908 |
) |
|
|
(136,656 |
) |
Total capital deferred tax assets, net |
|
|
— |
|
|
|
— |
|
|
|
— |
|
|
|
— |
|
Total deferred tax liabilities, net |
|
$ |
(130,688 |
) |
|
$ |
(33,639 |
) |
|
$ |
(92,531 |
) |
|
$ |
(24,011 |
) |
Investor Presentation Third Quarter 2018 Exhibit 99.2
Information Related to Forward-Looking Statements Statements concerning interest rates, portfolio allocation, financing costs, portfolio hedging, prepayments, dividends, book value, utilization of loss carryforwards, any change in long-term tax structures (including any REIT election) and any other guidance on present or future periods constitute forward-looking statements that are subject to a number of factors, risks and uncertainties that might cause actual results to differ materially from stated expectations or current circumstances. These factors include, but are not limited to, changes in interest rates, increased costs of borrowing, decreased interest spreads, changes in political and monetary policies, changes in default rates, changes in prepayment rates and other assumptions underlying our estimates related to our projections of future core earnings, changes in the Company’s returns, changes in the use of the Company’s tax benefits, changes in the agency MBS asset yield, changes in the Company’s monetization of net operating loss carryforwards, changes in the Company’s ability to generate cash earnings and dividends, preservation and utilization of the Company’s net operating loss and net capital loss carryforwards, impacts of changes to and changes by Fannie Mae and Freddie Mac, actions taken by the U.S. Federal Reserve, the Federal Housing Finance Agency and the U.S. Treasury, availability of opportunities that meet or exceed the Company’s risk adjusted return expectations, ability and willingness to make future dividends, ability to generate sufficient cash through retained earnings to satisfy capital needs, and general economic, political, regulatory and market conditions. These and other material risks are described in the Company's most recent Annual Report on Form 10-K and any other documents filed by the Company with the SEC from time to time, which are available from the Company and from the SEC, and you should read and understand these risks when evaluating any forward-looking statement. All forward-looking statements speak only as of the date on which they are made. New risks and uncertainties arise over time, and it is not possible to predict those events or how they may affect the Company. Except as required by law, the Company is not obligated to, and does not intend to, update or revise any forward-looking statements, whether as a result of new information, future events or otherwise.
Company Overview Investment firm focused on securitized residential mortgage assets Currently invest primarily in agency MBS issued by Fannie Mae and Freddie Mac May invest opportunistically in other asset classes High quality liquid assets with substantial interest rate hedges to protect long-term capital that produce predictable cash flows to support consistent dividends to shareholders Internally-managed NYSE Ticker AI Share Price (10/22/18) $8.42 Tangible Book Value Per Common Share (9/30/18) $11.06 GAAP Net Loss per Diluted Share (Q3 ‘18) $(0.19) Non-GAAP Core Operating Income per Diluted Share (Q3 ‘18) (1) $0.47 Dividend per Common Share (Q3 ‘18) $0.375 Dividend Yield (10/22/18) 17.8% Market Cap (10/22/18) $256 million Total Investment Portfolio (9/30/18) $5.2 billion (1) A reconciliation of non-GAAP core operating income to GAAP pre-tax income is provided on slide 17.
Publicly Traded Capital Class A Common Stock Ticker: AI Exchange: NYSE Market Capitalization: $256 million (1) Annual Dividend Yield: 17.8% (1) Senior Notes Due 2023 Ticker: AIW Exchange: NYSE Per Annum Interest Rate: 6.625% Payable Quarterly Maturity Date: May 1, 2023 Senior Notes Due 2025 Ticker: AIC Exchange: NYSE Per Annum Interest Rate: 6.75% Payable Quarterly Maturity Date: March 15, 2025 Series B Cumulative Perpetual Redeemable Preferred Stock Ticker: AI PrB Exchange: NYSE Per Annum Dividend Rate: 7.00% Payable Quarterly (1) As of October 22, 2018.
As of September 30, 2018: $5.18 Billion Fair Value As of June 30, 2018: $5.20 Billion Fair Value Agency MBS Investment Portfolio Allocation Specified Pool vs. TBA Allocation (1) Includes the fair value of the agency MBS underlying forward-settling “to-be-announced (“TBA”) purchase or sale commitments that are accounted for as derivative instruments in accordance with GAAP. The difference between the contractual forward price of the Company’s TBA commitments and the fair value of the underlying MBS is reflected on the Company’s consolidated balance sheets as a component of “derivative assets, at fair value” or “derivative liabilities, at fair value.” By Fixed Coupon Rate (1) As of June 30, 2018: As of September 30, 2018
Agency MBS Quarterly Balances and Yields TBA dollar roll transactions involve delaying, or “rolling,” the settlement of a forward-settling purchase of a TBA agency MBS by entering into an offsetting “spot” sale prior to the settlement date, net settling the “paired-off” positions in cash, and contemporaneously entering another forward-settling purchase of a TBA agency MBS of the same essential characteristics for a later settlement date at a price discount relative to the “spot” sale. Cost basis is based upon the contractual price of the initial TBA purchase trade of each individual series of dollar roll transactions. Asset yield calculated based upon future cash flow estimates obtain from Citi’s the Yield Book, a third-party model, for an illustrative 4.5% coupon specified pool purchased on October 17, 2018. For comparative purposes, assumes agency MBS is 100% financed with a one-month repurchase agreement. TBA dollar roll net interest spread based upon the “price drop” between the November and December settlement of a Freddie Mac 4.5% coupon TBA as of October 17, 2018. Estimated TBA Dollar Roll Advantage as of October 17, 2018
Financing Summary 15 counterparties with access to 19 total counterparties Less than 10% of equity at risk with any one counterparty 6.2% of equity at risk with largest counterparty 29.4% of equity at risk with five largest counterparties Favorable repo financing costs Diversified Funding Sources As of September 30, 2018 (dollars in thousands): The Company’s repo agreements generally have one-month terms while the Company receives three-month LIBOR on its interest rate swaps Increases in the spread between three- and one-month LIBOR generally positively impact the Company’s economic funding costs (and vice versa) Spread between average one-month LIBOR and the Company’s average repo financing rate remains low
Hedging Summary Hedge Position Helps Mitigate Impact of Rising Rates on Value of Fixed-Rate Agency Portfolio and Short-Term Funding Costs Duration is calculated based upon each interest rate swap’s “DV01” (a valuation metric illustrating the dollar value of a one basis point increase in interest rates) as reported by the Chicago Mercantile Exchange, the clearinghouse through which those instruments were centrally cleared. Duration is a measure of how much the price of an asset or liability is expected to change if interest rates move in a parallel manner. Interest Rate Swaps as of September 30, 2018 (dollars in thousands): U.S. Treasury Note Futures as of September 30, 2018 (dollars in thousands):
Interest rate swap book well matched to repo funding balance for the life of the portfolio Hedged agency MBS portfolio exhibits durable net interest spread in a wide range of interest rate environments over its life Excludes the Company’s TBA dollar roll position. Illustrative repurchase agreement balances in future periods are based upon outstanding balances as of September 30, 2018 reflecting paydown of agency MBS collateral based on projected agency MBS balances based upon cash flow and prepayment estimates derived from Citi’s “The Yield Book,” a third-party model. Illustrative interest rate swap notional amounts in future periods are based upon the contractual maturity dates of the Company’s interest rate swap agreements in place as of September 30, 2018. Illustrative agency MBS asset yields in future periods are based upon cash flow and prepayment estimates derived from Citi’s “The Yield Book,” a third-party model. Illustrative repurchase agreement and interest rate swap receive rates are assumed to be equal to 2.50% and 3.50%, respectively, in all future periods of the illustration.
Portfolio Weighted Average Statistics Calculated as the total of the following, expressed as an annualized percentage of the total agency MBS weighted average cost basis for the period: GAAP interest income from agency MBS, plus TBA dollar roll income, less agency MBS repurchase agreement interest expense, less interest rate swap net interest expense.
MBS Portfolio Economics MBS Portfolio Net Spread Income Return on Investable Capital (1): Total investable capital is calculated as stockholders’ equity determined in accordance with GAAP, less the net deferred tax asset, plus long-term unsecured debt. Includes interest expense incurred from repurchase agreement financing and net interest expense incurred from interest rate swap. Excludes the economic cost or benefit of hedging instruments other than interest rate swap agreements. Calculated based upon weighted average repurchase agreement and average investable capital balances for the period. Excludes implied financing of TBA dollar rolls. Expressed as an annualized percentage of average investable capital for the period. Expressed as an annualized percentage of average investable capital for the period. For example, for the third quarter of 2018, calculated as $4.6 million in dollar roll income (representing an implied net interest spread of 1.86% on a weighted average cost basis of $990 million). All else being equal, as the average balance of the Company’s TBA dollar roll portfolio increases, the calculated annualized return on average investable capital will increase (and vice versa). Core general and administrative expenses represent non-interest expenses reported within the line item “total general and administrative expenses” of the consolidated statements of comprehensive income less stock-based compensation expense.
Non-GAAP Core Operating Income (1) Core operating income and economic net interest income are non-GAAP financial measures. These non-GAAP measures are used by management to evaluate the financial performance of the Company’s long-term investment strategy and core business activities over periods of time as well as assist with the determination of the appropriate level of periodic dividends to stockholders. The Company believes that non-GAAP core operating income and economic net interest income assist investors in understanding and evaluating the financial performance of the Company’s long-term investment strategy and core business activities over periods of time as well as its earnings capacity. A limitation of utilizing these non-GAAP financial measures is that the effect of accounting for “non-core” events or transactions in accordance with GAAP does, in fact, reflect the financial results of our business and these effects should not be ignored when evaluating and analyzing our financial results. The Company believes that net income and comprehensive income determined in accordance with GAAP should be considered in conjunction with non-GAAP core operating income and economic net interest income. A reconciliation of non-GAAP core operating income to GAAP pre-tax income is provided on slide 17. Non-GAAP Core Operating Income Per Diluted Share Rollforward – Q3 2018 vs. Q2 2018
Net operating loss carryforward of $28MM as of September 30, 2018 Net capital loss carryforward of $391MM as of September 30, 2018 AMT credit carryforward of $9MM as of September 30, 2018 Common and preferred stock dividends of a C-corp are qualified dividends whereas similar dividends of a REIT are non-qualified dividends (1) The Company's distributions to shareholders of current or accumulated earnings and profits (“E&P”) are qualified dividends eligible for the 23.8% maximum federal income tax rate whereas similar distributions to shareholders by a REIT of current or accumulated E&P are nonqualified dividends subject to a 33.4% maximum effective federal income tax rate on ordinary income effective January 1, 2018, each inclusive of the 3.8% Medicare tax. Any distributions in excess of current or accumulated E&P would be reported as a return of capital instead of qualified dividends. Distributions that are classified as returns of capital are nontaxable to the extent they do not exceed a shareholder’s adjusted tax basis in the stock, or as a capital gain to the extent that the amount of the distribution exceeds a shareholder’s adjusted tax basis in the common stock. Corporate Structure Provides Enhanced Shareholder Returns and Flexibility Currently structured as a C-Corp with significant tax benefits Could potentially elect to be taxed as a REIT effective as early as January 1, 2019 No expected significant modifications to investment portfolio or operations to qualify as a REIT Unused tax loss carryforwards would provide corporate flexibility to retain and reinvest some earnings Reported book value would equal tangible book value for financial accounting purposes Currently evaluating potential REIT election Internally managed structure provides operating leverage Operating expense leverage improves as the Company grows and increases scale Opportunity to improve return on equity to shareholders with new capital Alignment of interest between shareholders and management Eliminates inherent conflicts of interest of externally managed structures Alignment of management compensation to Company performance Annual cash incentive compensation and long-term incentive stock compensation earned based on Company and stock performance
Appendix
Market Data (1)(2) 30-Year FNMA fixed rate price information is provided for illustrative purposes only and represents generic FNMA TBA prices and is not meant to be reflective of securities held by the Company. Source: Bloomberg
Balance Sheet Book value per common share is calculated as total equity less the preferred stock liquidation preference divided by common shares outstanding. Tangible book value represents total stockholders' equity, plus net deferred tax liabilities, less the preferred stock liquidation preference. Represents shares of common stock outstanding plus vested restricted stock units convertible into common stock less unvested restricted common stock.
Statement of Comprehensive Income
Non-GAAP Core Operating Income Reconciliation (1) Core operating income and economic net interest income are non-GAAP financial measures. These non-GAAP measures are used by management to evaluate the financial performance of the Company’s long-term investment strategy and core business activities over periods of time as well as assist with the determination of the appropriate level of periodic dividends to stockholders. The Company believes that non-GAAP core operating income and economic net interest income assist investors in understanding and evaluating the financial performance of the Company’s long-term investment strategy and core business activities over periods of time as well as its earnings capacity. A limitation of utilizing these non-GAAP financial measures is that the effect of accounting for “non-core” events or transactions in accordance with GAAP does, in fact, reflect the financial results of our business and these effects should not be ignored when evaluating and analyzing our financial results. The Company believes that net income and comprehensive income determined in accordance with GAAP should be considered in conjunction with non-GAAP core operating income and economic net interest income. Reconciliation of GAAP pre-tax net income to non-GAAP core operating income:
Book Value Per Share Rollforward – Third Quarter 2018 Tangible book value represents total stockholders' equity, less (plus) net deferred tax assets (liabilities), less the preferred stock liquidation preference. Calculated based upon weighted average diluted shares outstanding during the quarter. Excludes TBA dollar roll income, which is included in non-GAAP core operating income. Excludes net interest income or expense incurred from interest rate swap agreements, which is included in non-GAAP core operating income.
Specified Agency MBS Investment Portfolio Other specified pools include pools of loans refinanced through the Home Affordable Refinance Program (“HARP”), low FICO loans, 100% investor occupancy status loans, high LTV loans, and seasoned loans. Specified pools of loans with original balances of up to $150K. Specified pools of loans with original balances between $150K and $175K. Specified pools of loans with original balances between $175K and $225K. WAC represents the weighted average coupon of the underlying collateral. Loan age represents the weighted average age of the underlying collateral. Actual 3-month constant prepayment rate (“CPR”) represents annualized 3-month CPR published in October 2018 for securities held as of September 30, 2018. Remaining life represents the weighted average expected remaining life of the security based on expected future CPR as estimated by Citi’s “The Yield Book,” a third-party model. Duration is derived from the Citi’s “The Yield Book,” a third-party model. Duration is a measure of how much the price of an asset or liability is expected to change if interest rates move in a parallel manner and is dependent upon several subjective inputs and assumptions. Actual results could differ materially from these estimates. In addition, different models could generate materially different estimates using similar inputs and assumptions. Fixed-Rate Agency MBS Selected for Prepayment Characteristics
TBA Agency MBS Investment Portfolio Net long position in TBA securities represents forward-settling contracts to purchase or sell agency MBS on a generic pool basis. TBA commitments are accounted for as derivative instruments in accordance with GAAP. The difference between the contractual forward price of the Company’s TBA commitments and the fair value of the underlying MBS is reflected on the Company’s consolidated balance sheets as a component of “derivative assets, at fair value” or “derivative liabilities, at fair value.” Duration is derived from the Citi’s “The Yield Book,” a third-party model. Duration is a measure of how much the price of an asset or liability is expected to change if interest rates move in a parallel manner and is dependent upon several subjective inputs and assumptions. Actual results could differ materially from these estimates. In addition, different models could generate materially different estimates using similar inputs and assumptions. Net Long TBA Position (1) as of September 30, 2018 (dollars in thousands): Notional Amount Implied Cost Basis Implied Fair Value Net Carrying Amount Duration (Years) (2) 30-year 4.5% MBS purchase commitments $ 250,000 $ 258,549 $ 257,945 $ (604) 4.2 30-year 5.0% MBS purchase commitments 500,000 524,797 523,313 (1,484) 2.7 Total/weighted average $ 750,000 $ 783,346 $ 781,258 $ (2,088) 3.2
Book Value Sensitivity to Interest Rates Duration is derived from the Citi’s “The Yield Book,” a third-party model. Duration is a measure of how much the price of an asset or liability is expected to change if interest rates move in a parallel manner and is dependent upon several subjective inputs and assumptions. Actual results could differ materially from these estimates. In addition, different models could generate materially different estimates using similar inputs and assumptions. Total liability and hedge duration is expressed in asset units. Excludes long-term debt. Interest rate sensitivity of agency MBS and TBA commitments is derived from The Yield Book, a third-party model. Actual results could differ significantly from these estimates. Interest rate sensitivity is based on assumptions resulting in certain limitations, including (i) an instantaneous shift in rates with no changes to the slope of the yield curve, (ii) no changes in agency MBS spreads, (iii) no changes to the investment or hedge portfolio, and (iv) no changes to the deferred tax liability. Net Duration Gap Interest Rate Sensitivity
Book Value Sensitivity to MBS Spreads Agency MBS spread sensitivity is derived from The Yield Book, a third-party model. Actual results could differ significantly from these estimates. The estimated change in book value reflects an assumed spread weighted average duration of 5.7 years, which is a model-based assumption that is dependent upon the size and composition of our portfolio as well as economic conditions present as of September 30, 2018. The agency MBS spread sensitivity is based on assumptions resulting in certain limitations, including (i) no changes in interest rates, (ii) no changes to the investment or hedge portfolio, and (iii) no changes to the deferred tax liability. MBS Spread Sensitivity Historical MBS to U.S. Treasury Spread 109 bps 136 bps
Well Matched Hedging Can Protect Profitability Though Various Rate Environments Mortgage investment spreads fluctuate based on economic and U.S. Federal Reserve cycles The Company utilizes interest rate swaps to lock into an investment spread for a defined period Mortgage principal paydowns are reinvested at current investment spreads Mortgage investment spreads have historically never been negative even in periods of inverted U.S. Treasury yield curves Historical Spread Between Current Coupon Agency MBS and Three Month LIBOR 242 bps
Arlington has transitioned its portfolio from private-label to agency assets to achieve the highest risk adjusted returns December 31, 2009 December 31, 2011 December 31, 2013 Agency MBS capital allocation Private-label MBS capital allocation Arlington constantly evaluates different investment opportunities to allocate capital in order to achieve the highest risk adjusted returns Arlington has actively transitioned the allocation of capital towards agency MBS as levered returns, paired with Arlington’s hedging strategy, have become more attractive As markets and housing have recovered, private-label MBS returns have fallen relative to agency MBS Arlington's increased concentration of agency MBS has enhanced its ability to prudently leverage its balance sheet December 31, 2015 September 30, 2018 Agency MBS allocated capital is composed of MBS and its related interest receivable, repo, derivative instruments, deposits, net receivable or payable for unsettled securities and cash. Private-label MBS allocated capital is composed of MBS and its related repo.
"C]>67WQBE/1\VKBG[M"AB*^V'K6\W_X?0_\ !3+ _P",
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M/TV_X?/?\%,?E8_M+R#<."/A)\!AP/8?# <^G]*1?\ @M!_P4Q9B1^TM)EL
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MFA4QM/,.*>/\KKX/+O[<<$CB*]_8T*MLH_P#!:'_@I>&W#]IF0GU_X5'\!@.G3!^%
M^/;ITII_X+0_\%,-V[_AIB7/J/A+\!P/R_X5>!^E:>G?\$I?CEJ7["J?MB65
MO_;>J:A=)XSL/ 6FZOX0LX="^ &E>&/$/B/7OB7X@U+6-8TXWNLZA=:;I$FE
M^!O#V?$FD:4QWG4]8U&32_"WE7A/_@EK^WWX[^&^G?%CPM^S?XIOO!&J:%)X
METFZD\2?#W2/$.H:';PW'>\6RU;4+2U'6^O;'2=*C).8+$=1BOQ^\(_&GXP_#WP[K7A'P!\6OB
M7X(\*>*FNCXI\+>$/'GB_P ,>'M>-[IJ:5=MK>@:/K&G6&JG4+&..P;[?IQ8
MZ8B:5SA<9?C;XE_$;XES:-<_$7XA>-/B#+X9TF+P_P"'[CQKXJUSQ/+H>AVY
MW6^BZ5_;-[J']D:-9-EC8Z>!IQ.6() -3DOA/G& XRHYWB:XG(^
M%