ARMOUR Residential REIT Inc (NYSE:ARR) Q2 2019 Earnings Conference Call - Final Transcript

Jul 25, 2019 • 08:00 am ET


ARMOUR Residential REIT Inc (NYSE:ARR) Q2 2019 Earnings Conference Call - Final Transcript


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Scott J. Ulm

follow up with at least a 50 basis points decrease in overnight borrowing cost by the year's end to help normalize the yield curve.

Mortgage refinancing activity has responded to new lows and mortgage rates not seen since 2016. The average prepayment rate on our agency assets increased from 3.9 CPR in the first quarter of 2019 to 7.2 CPR in the second quarter of 2019. While we expect another quarter of increased mortgage prepayments, the peak in refinancing activity should be behind us by September, as the impact from interest rates and seasonal factors subside. We know that approximately 76% of our agency portfolio is prepaid protected through superior asset characteristics for those of TBA or generic new production bonds, which are at most risk to refinance.

For example ARMOUR's largest holdings bucket the 30-year 4% pool average just 7.8 CPR in the second quarter and 9.6 CPR in July. By contract, all 30-year 4% pools originated in 2018 paid 14.4 CPR in the second quarter and 17.5 CPR in July. Wider option adjusted spreads were the primary driver for ARR's book value decline in the second quarter.

Mortgage OAS wide spread 7 basis points on average across ARR's asset class. Our season does hold with the remaining weighted average life less than 7.5 years, widened out by as much as 16 basis points or 10 basis points more than a longer does hold [Phonetic], as investors moved out the curve. Meanwhile higher prepayment expectations repriced yield higher on older vintage CRTs and 30-year 4% pools.

The 30-year 4.5% and 15-year 4% holdings were not as affected by broader market volume. Offsetting some of the spread widening with positive duration contribution as U.S. treasury rates rallied by 40 basis points to 50 basis points across maturities in the 2-year to 10-year range. ARR's duration average slightly positive in the second quarter due to our active management of hedges and asset, as asset duration attracted a mid rate value.

The near term and well-known headwinds the mortgage investors now face include, higher premium amortization expense resulting from faster prepayments, limited reinvestment opportunities in inverted yield curve requirement, and the collapse of TBA dollar rolls positions [Phonetic]. However, the expectation for lower funding rates make us optimistic for the near-term stability of our dividend policy and our net interest margin.

Repo financing remain consistent and attractively priced from our counterparties. ARMOUR's affiliate BUCKLER Securities is financing approximately 42% of our entire repo position and 43% of our agency portfolio liabilities. 60% of our fixed rate repo balances covered by our hedge book, of which 87% our OIS interest rate swaps.

Overnight index swaps reset daily eliminate unwanted LIBOR OAS spread volatility and have been historically the most appropriate hedge instrument for our short maturity agency funding book. Given the challenges faced in the first half of 2019, we believe mortgages are priced appropriately at their multi-year wise. A convincing monitoring policy should lower interest rate volatility helping to provide a more