MFA Financial(MFA) - 2019 Q1 - Quarterly Report

PART I FINANCIAL INFORMATION This section provides a comprehensive overview of the company's financial performance, condition, and related disclosures for the reported period Item 1. Financial Statements This section presents the unaudited consolidated financial statements, including balance sheets, statements of operations, comprehensive income, changes in stockholders' equity, and cash flows, along with detailed notes explaining significant accounting policies and financial instrument specifics Consolidated Balance Sheets The consolidated balance sheets provide a snapshot of the company's financial position, showing an increase in total assets primarily driven by residential whole loans and repurchase agreements, while stockholders' equity slightly decreased Consolidated Balance Sheets (In Thousands) | Metric | March 31, 2019 (In Thousands) | December 31, 2018 (In Thousands) | Change (QoQ) | | :----- | :----------------------------- | :------------------------------- | :------------- | | Total Assets | $12,801,613 | $12,420,327 | +$381,286 | | Total Liabilities | $9,397,082 | $9,004,226 | +$392,856 | | Total Stockholders' Equity | $3,404,531 | $3,416,101 | -$11,570 | | Residential whole loans, at carrying value | $3,724,146 | $3,016,715 | +$707,431 | | Repurchase agreements | $8,509,713 | $7,879,087 | +$630,626 | Consolidated Statements of Operations The consolidated statements of operations show an increase in net income for the three months ended March 31, 2019, compared to the prior year, primarily due to higher net interest income and other income, despite an increase in operating expenses Consolidated Statements of Operations (In Thousands) | Metric | Three Months Ended March 31, 2019 (In Thousands) | Three Months Ended March 31, 2018 (In Thousands) | Change (YoY) | | :----- | :----------------------------------------------- | :----------------------------------------------- | :------------- | | Interest Income | $140,952 | $103,752 | +$37,200 | | Interest Expense | $79,026 | $50,554 | +$28,472 | | Net Interest Income | $61,926 | $53,198 | +$8,728 | | Other Income, net | $51,169 | $47,660 | +$3,509 | | Operating and Other Expense | $24,238 | $17,463 | +$6,775 | | Net Income | $88,857 | $83,395 | +$5,462 | | Net Income Available to Common Stock and Participating Securities | $85,107 | $79,645 | +$5,462 | | Earnings per Common Share - Basic and Diluted | $0.19 | $0.20 | -$0.01 | Consolidated Statements of Comprehensive Income/(Loss) The consolidated statements of comprehensive income/(loss) indicate a significant reduction in other comprehensive loss for the three months ended March 31, 2019, contributing to a higher comprehensive income available to common stockholders compared to the prior year Consolidated Statements of Comprehensive Income/(Loss) (In Thousands) | Metric | Three Months Ended March 31, 2019 (In Thousands) | Three Months Ended March 31, 2018 (In Thousands) | Change (YoY) | | :----- | :----------------------------------------------- | :----------------------------------------------- | :------------- | | Net income | $88,857 | $83,395 | +$5,462 | | Other Comprehensive Income/(Loss) | $(5,692) | $(26,494) | +$20,802 | | Comprehensive income before preferred stock dividends | $83,165 | $56,901 | +$26,264 | | Comprehensive Income Available to Common Stock and Participating Securities | $79,415 | $53,151 | +$26,264 | Consolidated Statements of Changes in Stockholders' Equity This statement details the movements in stockholders' equity, reflecting the impact of net income, common stock issuances and repurchases, and dividends declared for both common and preferred stock, resulting in a slight decrease in total equity Consolidated Statements of Changes in Stockholders' Equity (In Thousands) | Metric (In Thousands) | December 31, 2018 | March 31, 2019 | Change | | :-------------------- | :---------------- | :------------- | :----- | | Total Stockholders' Equity | $3,416,101 | $3,404,531 | $(11,570) | | Net income | $0 | $88,857 | +$88,857 | | Issuance of common stock, net of expenses | $0 | $551 | +$551 | | Repurchase of shares of common stock | $0 | $(2,610) | $(2,610) | | Dividends declared on common stock | $0 | $(90,097) | $(90,097) | | Dividends declared on preferred stock | $0 | $(3,750) | $(3,750) | | Change in unrealized gains on MBS, net | $0 | $5,094 | +$5,094 | | Derivative hedging instrument fair value changes, net | $0 | $(10,786) | $(10,786) | Consolidated Statements of Cash Flows The consolidated statements of cash flows show a net increase in cash, cash equivalents, and restricted cash for the three months ended March 31, 2019, primarily driven by significant cash provided by financing activities, offsetting substantial cash used in investing activities Consolidated Statements of Cash Flows (In Thousands) | Cash Flow Activity (In Thousands) | Three Months Ended March 31, 2019 | Three Months Ended March 31, 2018 | Change (YoY) | | :-------------------------------- | :-------------------------------- | :-------------------------------- | :------------- | | Net cash provided by operating activities | $37,082 | $5,896 | +$31,186 | | Net cash used in investing activities | $(497,458) | $(116,160) | $(381,298) | | Net cash provided by/(used in) financing activities | $490,245 | $(131,014) | +$621,259 | | Net increase/(decrease) in cash, cash equivalents and restricted cash | $29,869 | $(241,278) | +$271,147 | | Cash, cash equivalents and restricted cash at end of period | $118,578 | $222,465 | $(103,887) | Notes to the Unaudited Consolidated Financial Statements These notes provide comprehensive disclosures on the company's accounting policies, financial instruments, and other significant financial information, offering context and detail for the consolidated financial statements - The Company operates as a Real Estate Investment Trust (REIT) and must distribute at least 90% of its annual REIT taxable income to stockholders[25] - Management makes significant estimates in areas such as other-than-temporary impairment (OTTI) on mortgage-backed securities (MBS), valuation of MBS, Credit Risk Transfer (CRT) securities, Mortgage Servicing Rights (MSR)-related assets, residential whole loans, and derivative instruments[27] - The Company manages its business and reports results based on one operating segment: investing, on a leveraged basis, in residential mortgage assets[28] 1. Organization Details the company's formation, election as a REIT, and the use of Taxable REIT Subsidiaries (TRS) to conduct activities not directly permissible for a REIT - MFA Financial, Inc. was incorporated on July 24, 1997, and began operations on April 10, 1998[25] - The Company has elected to be treated as a REIT for U.S. federal income tax purposes, requiring distribution of at least 90% of its annual REIT taxable income[25] - Certain subsidiaries are treated as Taxable REIT Subsidiaries (TRS), allowing them to hold assets and engage in activities not directly permissible for the Company as a REIT[25] 2. Summary of Significant Accounting Policies Outlines the fundamental accounting principles and methods applied in preparing the financial statements, covering asset valuation, revenue recognition, and treatment of various financial instruments and transactions - Interim unaudited consolidated financial statements are prepared in accordance with SEC rules and U.S. GAAP, with certain information condensed or omitted[26] - Management makes significant estimates in areas such as other-than-temporary impairment (OTTI) on mortgage-backed securities (MBS), valuation of MBS, Credit Risk Transfer (CRT) securities, Mortgage Servicing Rights (MSR)-related assets, residential whole loans, and derivative instruments[27] - The Company has one reportable segment: investing, on a leveraged basis, in residential mortgage assets[28] 3. Residential Mortgage Securities and MSR-Related Assets Provides detailed information on the company's residential mortgage securities portfolio, including Agency MBS, Non-Agency MBS, and CRT securities, along with MSR-related assets. It covers their composition, fair value, unrealized losses, and interest income components, noting that unrealized losses on Agency MBS were deemed temporary - The MBS portfolio includes Agency MBS (guaranteed by federal entities), Non-Agency MBS (not government-guaranteed), and Credit Risk Transfer (CRT) securities[94] - Gross unrealized losses on Agency MBS were $35.5 million at March 31, 2019, but were deemed temporary due to high credit quality and no intent to sell[112] - Gross unrealized losses on Non-Agency MBS were $2.0 million at March 31, 2019, and were not considered indicative of other-than-temporary impairment (OTTI)[113] Interest Income on Residential Mortgage Securities and MSR-Related Assets (In Thousands) | Category | Three Months Ended March 31, 2019 | Three Months Ended March 31, 2018 | | :------- | :-------------------------------- | :-------------------------------- | | Agency MBS | $18,441 | $15,293 | | Legacy Non-Agency MBS | $37,416 | $46,036 | | RPL/NPL MBS | $16,585 | $10,066 | | CRT securities | $6,200 | $9,496 | | MSR-related assets | $10,620 | $7,623 | | Total Interest Income | $140,952 | $103,752 | 4. Residential Whole Loans This section details the company's residential whole loan portfolio, categorizing them as Purchased Performing Loans, Purchased Credit Impaired Loans (both at carrying value), and Residential Whole Loans at Fair Value. It provides balances, interest income, and information on loan loss allowances - Total residential whole loans increased to approximately $5.2 billion at March 31, 2019, from $4.7 billion at December 31, 2018[132] Residential Whole Loans, at Carrying Value (In Thousands) | Category | March 31, 2019 | December 31, 2018 | | :------- | :------------- | :---------------- | | Purchased Performing Loans | $2,950,205 | $2,218,728 | | Purchased Credit Impaired Loans | $773,941 | $797,987 | | Total | $3,724,146 | $3,016,715 | Net gain on residential whole loans measured at fair value through earnings (In Thousands) | Component | Three Months Ended March 31, 2019 | Three Months Ended March 31, 2018 | | :-------- | :-------------------------------- | :-------------------------------- | | Coupon payments and other income received | $19,473 | $15,397 | | Net unrealized (losses)/gains | $(1,060) | $13,747 | | Net gain on payoff/liquidation of loans | $2,283 | $2,908 | | Net gain on transfers to REO | $4,571 | $6,446 | | Total | $25,267 | $38,498 | 5. Other Assets This section provides a breakdown of the company's other assets, primarily focusing on Real Estate Owned (REO) properties, detailing their carrying value and activity during the period Components of Other Assets (In Thousands) | Component | March 31, 2019 | December 31, 2018 | | :-------- | :------------- | :---------------- | | REO | $290,587 | $249,413 | | MBS and loan related receivables | $130,495 | $127,154 | | Other interest earning assets | $66,101 | $92,022 | | Other | $64,435 | $59,196 | | Total Other Assets | $551,618 | $527,785 | - The carrying value of REO properties increased to $290.6 million at March 31, 2019, from $249.4 million at December 31, 2018[154] - Net gains from disposals of REO properties were approximately $1.4 million for the three months ended March 31, 2019, compared to $2.0 million in the prior year[157] 6. Derivative Instruments This section details the company's use of derivative instruments, primarily Swaps, for hedging interest rate risk. It covers their fair value, balance sheet classification, collateral pledged, and impact on net interest expense and Accumulated Other Comprehensive Income (AOCI) - The Company uses Swaps to economically hedge a portion of its exposure to market risks, including interest rate risk and prepayment risk[159] - Aggregate notional amount of Swaps was $3.0 billion at March 31, 2019, with an average term of 26 months[163] - Net losses on Swaps not designated as hedges for accounting purposes were $8.9 million for the three months ended March 31, 2019, including a $7.8 million realized loss on unwind[167] Impact of Derivative Hedging Instruments on AOCI (In Thousands) | Metric | Three Months Ended March 31, 2019 | Three Months Ended March 31, 2018 | | :----- | :-------------------------------- | :-------------------------------- | | AOCI from derivative hedging instruments (Balance at end of period) | $(7,665) | $8,245 | 7. Repurchase Agreements This section provides comprehensive information on the company's repurchase agreement borrowings, including the types of assets pledged as collateral, weighted average haircuts, repricing schedules, and contractual maturities. It also details exposure to financial counterparties - Borrowings under repurchase agreements had a weighted average remaining term-to-interest rate reset of 28 days at March 31, 2019[170] Repurchase Agreement Borrowings and Collateral (In Thousands) | Category | March 31, 2019 Borrowings | March 31, 2019 Fair Value of Collateral Pledged | Weighted Average Haircut | | :------- | :------------------------- | :-------------------------------------------- | :----------------------- | | Agency MBS | $2,353,173 | $2,524,612 | 4.49% | | Residential whole loans | $2,746,804 | $3,321,187 | 15.54% | | MSR-related assets | $647,535 | $825,363 | 21.35% | - The Company had repurchase agreement borrowings with 26 counterparties at March 31, 2019[180] 8. Offsetting Assets and Liabilities This section clarifies that repurchase agreements are presented on a gross basis in the consolidated balance sheets and provides the fair value of financial instruments pledged as collateral against these agreements and Swaps - All balances associated with repurchase agreements are presented on a gross basis in the consolidated balance sheets[186] - The fair value of financial instruments pledged against repurchase agreements was $10.2 billion at March 31, 2019[187] - Variation margin payments on cleared Swaps are treated as a legal settlement of exposure, reducing the reported fair value of the Swap[187] 9. Other Liabilities This section details the components of the company's other liabilities, including securitized debt, Senior Notes, and dividends payable, highlighting their respective balances and characteristics Components of Other Liabilities (In Thousands) | Component | March 31, 2019 | December 31, 2018 | | :-------- | :------------- | :---------------- | | Securitized debt | $659,184 | $684,420 | | Senior Notes | $96,827 | $96,816 | | Dividends and dividend equivalents payable | $90,353 | $90,198 | | Accrued interest payable | $16,951 | $16,280 | | Payable for unsettled residential whole loans purchases | $0 | $211,129 | | Accrued expenses and other | $24,054 | $26,296 | | Total Other Liabilities | $887,369 | $1,125,139 | - Securitized debt represents third-party liabilities of consolidated Variable Interest Entities (VIEs), with no recourse to the general credit of the Company[188] - Senior Notes bear interest at a fixed rate of 8.00% per year and mature on April 15, 2042, subordinate to all secured indebtedness[189][190] 10. Commitments and Contingencies This section outlines the company's various commitments and contingencies, including office lease obligations, representations and warranties related to loan securitization, and corporate and rehabilitation loan commitments - The Company amended its corporate headquarters lease to extend through June 30, 2021, and executed a new 15-year lease for new office space, with relocation expected in Q4 2020[193][194] - No reserve was established for repurchases of loans related to representations and warranties in loan securitization transactions, and no material unsettled claims were identified[195] - Unfunded commitments for purchased Rehabilitation loans totaled $53.5 million at March 31, 2019[196] 11. Stockholders' Equity This section provides detailed information on the company's preferred and common stock, including dividend declarations, public offerings, the Dividend Reinvestment Plan (DRSPP), the stock repurchase program, and changes in Accumulated Other Comprehensive Income (AOCI) - The Company's 7.50% Series B Cumulative Redeemable Preferred Stock has 8,000 shares issued and outstanding with an aggregate liquidation preference of $200 million[12][197] - A common stock dividend of $0.20 per share was declared on March 6, 2019, payable on April 30, 2019[201] - No shares were repurchased under the stock repurchase program during the three months ended March 31, 2019, with 6,616,355 shares remaining authorized for repurchase[206] - The balance of Accumulated Other Comprehensive Income (AOCI) was $414.6 million at March 31, 2019, reflecting changes in unrealized gains/losses on AFS securities and derivative hedging instruments[207] 12. EPS Calculation This section reconciles the earnings and shares used to calculate basic and diluted Earnings Per Share (EPS) for the reported periods, highlighting the impact of participating securities and anti-dilutive instruments EPS Calculation (In Thousands, Except Per Share Amounts) | Metric | March 31, 2019 | March 31, 2018 | | :----- | :------------- | :------------- | | Net income to common stockholders - basic and diluted | $84,851 | $79,426 | | Weighted average common shares for basic and diluted EPS | 450,358 | 398,317 | | Basic and diluted earnings per share | $0.19 | $0.20 | - Approximately 2.4 million equity instruments, primarily Restricted Stock Units (RSUs), were outstanding but excluded from diluted EPS calculation for Q1 2019 as their inclusion would have been anti-dilutive[215] 13. Equity Compensation, Employment Agreements and Other Benefit Plans This section details the company's equity compensation plan, including grants of Restricted Stock Units (RSUs) and their associated expense, as well as information on employment agreements and deferred compensation and savings plans for employees and directors - The Equity Plan allows for grants of stock options, restricted stock, RSUs, and other stock-based awards, with approximately 4.0 million shares available for grant at March 31, 2019[217] - 752,500 RSUs were granted during the three months ended March 31, 2019, with $9.3 million in unrecognized compensation expense expected to be recognized over a weighted average period of 2.2 years[218][220] Equity-Based Compensation Expense (In Thousands) | Instrument | Three Months Ended March 31, 2019 | Three Months Ended March 31, 2018 | | :--------- | :-------------------------------- | :-------------------------------- | | RSUs | $998 | $553 | | Total | $998 | $553 | - The Company sponsors deferred compensation plans for senior officers and non-employee directors, and a tax-qualified employee savings plan with matching contributions[225][230] 14. Fair Value of Financial Instruments This section describes the company's methodologies for determining the fair value of its financial instruments, categorizing them into a three-level hierarchy based on the observability of inputs. It provides fair value measurements for various assets and liabilities - Fair value measurements are categorized into a three-level hierarchy: Level 1 (quoted prices in active markets), Level 2 (observable inputs for similar assets/liabilities), and Level 3 (unobservable inputs)[231][232][233] - Residential whole loans at fair value and term notes backed by MSR-related collateral are classified as Level 3 due to significant unobservable inputs[238][239] - Agency MBS, Non-Agency MBS, CRT securities, and Swaps are generally classified as Level 2, utilizing observable market data points[237][241] Total Assets Carried at Fair Value (In Thousands) | Category | March 31, 2019 | December 31, 2018 | | :------- | :------------- | :---------------- | | Total assets carried at fair value | $8,335,502 | $8,713,810 | 15. Use of Special Purpose Entities and Variable Interest Entities This section explains the company's use of Special Purpose Entities (SPEs) and Variable Interest Entities (VIEs) for financing and loan securitization transactions, detailing the criteria for consolidation and the impact on the consolidated financial statements - The Company uses SPEs to facilitate transactions related to securitizing financial assets, aiming for non-recourse financing and improved terms[264] - Entities created for loan securitization transactions are consolidated as VIEs because the Company has the power to direct their activities and a right to receive benefits or absorb losses[265][271] - As of March 31, 2019, securitized loans with a carrying value of approximately $202.7 million and a fair value of $647.0 million are included in the consolidated balance sheets[270] Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations This section provides management's perspective on the company's financial performance, condition, and liquidity, highlighting key factors influencing operations, asset allocation, market conditions, and future strategies. It includes a detailed analysis of net interest income, other income, and operating expenses - Net income available to common stock and participating securities for Q1 2019 was $85.1 million, up from $79.6 million in Q1 2018[354] - Core earnings (non-GAAP) for Q1 2019 were $0.17 per basic and diluted common share, compared to $0.20 in Q1 2018[355] - Total assets were approximately $12.8 billion at March 31, 2019, with residential mortgage securities comprising 47.4% and residential whole loans 41% of the portfolio[279] - Book value per common share was $7.11 as of March 31, 2019, a slight decrease from $7.15 at December 31, 2018[298] Forward Looking Statements This section serves as a cautionary note, indicating that the report contains forward-looking statements about future business, financial condition, and objectives, which are subject to various known and unknown risks, uncertainties, and assumptions - Statements regarding future business, financial condition, liquidity, results of operations, plans, and objectives are identified as forward-looking statements[277] - Key risks include changes in interest rates, prepayment rates, credit risks, government regulations, and the ability to maintain REIT qualification[277] - Readers are cautioned not to place undue reliance on these statements, and the Company is not obligated to update or revise them[277] Business/General Describes the company's core business as an internally-managed REIT focused on leveraged investments in residential mortgage assets, aiming to generate shareholder value through distributable income and strong asset performance, while managing various market and credit risks - The Company is an internally-managed REIT primarily engaged in investing, on a leveraged basis, in residential mortgage assets[278] - Principal business objective is to deliver shareholder value through distributable income and asset performance linked to residential mortgage credit fundamentals[278] - At March 31, 2019, total assets were approximately $12.8 billion, with $6.1 billion in residential mortgage securities and $5.2 billion in residential whole loans[279] - Investments in residential mortgage assets, especially whole loans and Non-Agency MBS, expose the company to credit risk, mitigated by discounted purchase prices and sound underwriting standards[282][283] Recent Market Conditions and Our Strategy This section outlines the company's asset portfolio activity and investment strategy, emphasizing a focus on residential whole loans. It also discusses key financial metrics such as book value, leverage, liquidity, and net interest spread in the context of recent market conditions - The residential mortgage asset portfolio increased to approximately $12.4 billion at March 31, 2019, from $12.1 billion at December 31, 2018[290] - The Company expects to continue seeking investment opportunities primarily in residential whole loans and selectively in residential mortgage securities and MSR-related assets[290] - Net interest spread was 1.98% for Q1 2019, down from 2.25% for Q1 2018, primarily due to increased funding costs and changes in investment mix[300] - Estimated net effective duration remained relatively low at 1.07 as of March 31, 2019, managed through investment selection and interest rate swaps[301] - The Company has access to over $217.4 million in liquidity, including cash, unpledged Agency MBS, and other collateral, and $1.1 billion of unencumbered residential whole loans[299] Information About Our Assets This section provides a detailed breakdown of the company's asset allocation, including Agency MBS, Legacy Non-Agency MBS, RPL/NPL MBS, Credit Risk Transfer (CRT) securities, residential whole loans (at carrying and fair value), and MSR-related assets, along with their respective fair values and associated debt Asset Allocation at March 31, 2019 (In Millions) | Category | Fair Value/Carrying Value | Less Repurchase Agreements | Less Securitized Debt | Less Senior Notes | Net Equity Allocated | Debt/Net Equity Ratio | | :------- | :------------------------ | :------------------------- | :-------------------- | :---------------- | :------------------- | :-------------------- | | Agency MBS | $2,547 | $(2,353) | — | — | $194 | 12.1x | | Legacy Non-Agency MBS | $1,814 | $(1,360) | — | — | $454 | 3.0x | | RPL/NPL MBS | $1,285 | $(1,009) | — | — | $276 | 3.7x | | Credit Risk Transfer Securities | $424 | $(339) | — | — | $85 | 4.0x | | Residential Whole Loans, at Carrying Value | $3,724 | $(2,151) | $(155) | — | $1,418 | 1.6x | | Residential Whole Loans, at Fair Value | $1,512 | $(596) | $(504) | — | $412 | 2.7x | | MSR Related Assets | $825 | $(648) | — | — | $177 | 3.7x | | Other, net | $540 | $(54) | — | $(97) | $389 | | | Totals | $12,671 | $(8,510) | $(659) | $(97) | $3,405 | 2.7x | - At March 31, 2019, the total investment in CRT securities was $423.7 million, with a net unrealized gain of $9.9 million and a weighted average yield of 5.42%[331] - The Company sold certain CRT securities for $83.4 million during Q1 2019, realizing gains of $6.5 million[332] Exposure to Financial Counterparties This section details the company's exposure to financial counterparties through repurchase agreements, outlining the collateralization levels and the geographic distribution of these exposures. It also discusses the monitoring and management of such risks - The amount of collateral pledged typically exceeds the financing amount, ranging from 3-5% for Agency MBS to up to 35% for Non-Agency MBS and MSR-related assets[339] Exposure to Counterparties at March 31, 2019 (In Thousands) | Country | Number of Counterparties | Repurchase Agreement Financing | Exposure | Exposure as a Percentage of MFA Total Assets | | :------ | :----------------------- | :----------------------------- | :------- | :------------------------------------------- | | European Countries | 7 | $3,159,471 | $598,548 | 4.68% | | United States | 14 | $3,787,007 | $835,651 | 6.53% | | Canada | 2 | $923,927 | $248,677 | 1.94% | | South Korea | 1 | $295,962 | $22,030 | 0.17% | | Japan | 2 | $246,420 | $19,472 | 0.15% | | China | 1 | $96,968 | $8,041 | 0.06% | | Total | 27 | $8,509,755 | $1,732,419 | 13.53% | - Management monitors exposure to repurchase agreement counterparties regularly and may initiate reverse margin calls or take other actions to reduce exposure[344] Tax Considerations This section discusses the company's estimated taxable income and highlights key differences between GAAP net income and REIT taxable income, particularly concerning the accounting for residential mortgage securities and whole loans, and the impact of securitization transactions - Estimated taxable income for the three months ended March 31, 2019, was approximately $88.7 million, with $32.0 million, or $0.07 per share, undistributed[345] - Key differences between GAAP net income and REIT taxable income arise from the tax treatment of MBS and residential whole loans, including discount accretion, premium amortization, and realized losses[346] - Securitization transactions may be treated as sales for tax purposes but as financing for GAAP, leading to differences in income recognition and potential taxable gain or loss not recognized in GAAP net income[348] Regulatory Developments This section reviews the ongoing impact of regulatory changes, including the Dodd-Frank Act and the Consumer Financial Protection Bureau (CFPB), on the mortgage and securitization industries. It also discusses potential reforms to the U.S. housing finance system and their uncertain effects on the company's business - The Dodd-Frank Act and related regulations are expected to continue increasing economic and compliance costs for participants in the mortgage and securitization industries[351] - The SEC is reviewing interpretive issues related to Section 3(c)(5)(C) of the Investment Company Act, which could impact companies engaged in acquiring mortgages[352] - Potential reforms to the U.S. housing finance system and the operations of Fannie Mae and Freddie Mac could adversely affect the types of assets the Company can buy, their costs, and business operations[353] Results of Operations This section provides a comparative analysis of the company's financial results for the three months ended March 31, 2019, and 2018, detailing changes in net income, net interest income, other income, and operating expenses, along with an analysis of net interest spread and margin Key Financial Results (In Millions, Except Per Share Amounts) | Metric | Quarter Ended March 31, 2019 | Quarter Ended March 31, 2018 | Change (YoY) | | :----- | :--------------------------- | :--------------------------- | :------------- | | Net income available to common stock and participating securities | $85.1 | $79.6 | +$5.5 | | Basic and diluted common share EPS | $0.19 | $0.20 | -$0.01 | | Net interest income | $61.9 | $53.2 | +$8.7 | | Other Income, net | $51.2 | $47.7 | +$3.5 | | Operating and Other Expense | $24.2 | $17.5 | +$6.7 | - Net interest spread decreased to 1.98% for Q1 2019 from 2.25% for Q1 2018, primarily due to increased funding costs[357] - Interest expense increased by $28.5 million (56.3%) to $79.0 million in Q1 2019, driven by higher financing rates and increased average borrowings[377] Selected Financial Ratios This section presents a summary of key financial ratios, including return on assets, return on equity, dividend payout ratio, leverage multiple, and book value per share, providing insights into the company's financial performance and capital structure over recent quarters Selected Financial Ratios | Ratio | March 31, 2019 | December 31, 2018 | September 30, 2018 | June 30, 2018 | March 31, 2018 | | :---- | :------------- | :---------------- | :----------------- | :------------ | :------------- | | Return on Average Total Assets | 2.66% | 1.87% | 2.94% | 2.58% | 2.93% | | Return on Average Total Stockholders' Equity | 10.40% | 6.96% | 10.21% | 8.74% | 10.27% | | Total Average Stockholders' Equity to Total Average Assets | 26.71% | 28.65% | 30.15% | 31.19% | 29.91% | | Dividend Payout Ratio | 1.05 | 1.54 | 1.05 | 1.18 | 1.00 | | Leverage Multiple | 2.7 | 2.6 | 2.3 | 2.3 | 2.2 | | Book Value per Share of Common Stock | $7.11 | $7.15 | $7.46 | $7.54 | $7.62 | Core Earnings This section defines "Core earnings" as a non-GAAP financial measure, providing a reconciliation to GAAP net income. It explains that Core earnings exclude certain unrealized gains and losses to offer a clearer view of the investment portfolio's economic income, used by management for evaluation and dividend determination - Core earnings is a non-GAAP measure that excludes certain unrealized gains and losses from GAAP Net Income to better reflect the economic income generated by the investment portfolio[386] Reconciliation of GAAP Net Income to Core Earnings (In Thousands, Except Per Share Amounts) | Metric | Three Months Ended March 31, 2019 | Three Months Ended March 31, 2018 | | :----- | :-------------------------------- | :-------------------------------- | | GAAP Net Income Available to Common Stock and Participating Securities | $85,107 | $79,645 | | Total adjustments | $(7,530) | $880 | | Core earnings | $77,577 | $80,525 | | GAAP earnings per common share | $0.19 | $0.20 | | Core earnings per common share | $0.17 | $0.20 | Recent Accounting Standards to Be Adopted in Future Periods This section discusses Accounting Standards Update (ASU) 2016-13, "Measurement of Credit Losses on Financial Instruments," which is effective for fiscal years beginning after December 15, 2019. It outlines the anticipated changes to how the company will account for credit impairment losses on available-for-sale debt securities and residential whole loans - ASU 2016-13, "Measurement of Credit Losses on Financial Instruments," is effective for public business entities for fiscal years beginning after December 15, 2019[390] - The Company anticipates changes to accounting for credit impairment losses on available-for-sale debt securities, requiring credit losses to be recorded through an allowance that allows for subsequent reversals[391] - The new guidance is expected to increase the gross carrying amount of Purchased Credit Impaired Loans and the allowance for credit losses for Purchased Performing Loans held at carrying value[392] Liquidity and Capital Resources This section details the company's sources and uses of cash, its capital raising strategy, and how it manages repurchase agreements and margin calls. It also provides an overview of the company's liquidity position and debt-to-equity multiple - Principal sources of cash include borrowings under repurchase agreements, principal and interest payments on investments, operating cash, and proceeds from capital market transactions[393] - At March 31, 2019, the Company had access to over $217.4 million in liquidity, including cash and unpledged collateral, and $1.1 billion of unencumbered residential whole loans[400] - The debt-to-equity multiple was 2.7 times at March 31, 2019, compared to 2.6 times at December 31, 2018[403] - Cash, cash equivalents, and restricted cash increased by $29.9 million during the three months ended March 31, 2019[402] Item 3. Quantitative and Qualitative Disclosures About Market Risk This section outlines the company's approach to managing various market risks, including interest rate risk, credit risk, credit spread risk, liquidity risk, and prepayment risk, and provides quantitative and qualitative disclosures about their potential impact on financial performance - The Company seeks to manage risks related to interest rates, liquidity, prepayment speeds, market value, and credit quality of its assets[413] - Interest rate risk is managed through investment selection and the use of interest rate Swaps to mitigate the impact of rising borrowing costs and duration gaps[415][416] - The Company is exposed to credit risk through its credit-sensitive residential mortgage investments, including Legacy Non-Agency MBS, CRT securities, and residential whole loans[436] Interest Rate Risk This section details the company's exposure to interest rate risk, explaining how changes in interest rates affect net interest income and asset/liability fair values. It describes the use of Swaps for hedging and presents a "Shock Table" to project the potential impact of hypothetical interest rate changes on net interest income and portfolio value - Borrowing costs on repurchase agreements generally change more quickly than asset yields in response to interest rate fluctuations[415] - The Company uses Swaps to lock in a portion of the net interest spread and reduce the duration gap between assets and liabilities, hedging against future interest rate increases[415][416][423] Projected Impact of Interest Rate Changes (Next 12 Months) | Change in Interest Rates | Estimated Change in Net Interest Income | Estimated Change in Portfolio Value | | :----------------------- | :-------------------------------------- | :---------------------------------- | | +100 Basis Point Increase | (3.32)% | (1.32)% | | + 50 Basis Point Increase | (1.22)% | (0.60)% | | - 50 Basis Point Decrease | 0.75 % | 0.47 % | | -100 Basis Point Decrease | 0.54 % | 0.81 % | - Estimated net effective duration, including the effect of Swaps and securitized debt, was 1.07 at March 31, 2019[435] Credit Risk This section details the company's exposure to credit risk from its credit-sensitive residential mortgage investments, including Legacy Non-Agency MBS, CRT securities, residential whole loans, and MSR-related assets. It describes the analytical processes and mitigation strategies employed for each asset class - The Company is exposed to credit risk through its Legacy Non-Agency MBS, CRT securities, residential whole loans, and MSR-related assets[436] - For Legacy Non-Agency MBS, credit risk is managed by assigning assumptions for future interest rates, prepayment rates, default rates, and loss severities, and allocating a portion of the purchase discount as a Credit Reserve[437] - Credit risk on Purchased Performing Loans is mitigated through underwriting standards, including assessment of borrower financial condition, collateral nature, and low Loan-to-Value (LTV) ratios[447] - For non-performing and Purchased Credit Impaired Loans, credit risk is managed by acquiring assets at discounted prices and selecting sub-servicers with expertise to mitigate losses[446] Credit Spread Risk This section explains credit spread risk, which arises from the additional yield investors demand for credit risk. It notes that widening credit spreads can decrease the value of existing financial instruments but may lead to higher yields on future investments, potentially causing volatility in financial results - Credit spreads measure the additional yield demanded by investors based on the credit risk of financial instruments relative to benchmarks[454] - Widening credit spreads generally result in lower values for existing financial instruments but higher yields for future investments with similar credit risk[454] - Changes in credit spreads can lead to volatility in the company's financial results and reported book value[454] Liquidity Risk This section addresses the primary liquidity risk stemming from financing long-maturity assets with shorter-term repurchase agreements. It discusses the potential impact of margin calls, market tightening, and the company's available liquidity sources - The primary liquidity risk arises from financing long-maturity assets with shorter-term borrowings, mainly repurchase agreements[455] - Significant margin calls due to a sudden decrease in asset value or market tightening could materially and adversely affect the company's liquidity position[455] - At March 31, 2019, the Company had access to over $217.4 million in liquidity, including cash and unpledged collateral, and $1.1 billion of unencumbered residential whole loans[455] Prepayment Risk This section explains prepayment risk, which refers to how changes in prepayment rates (CPRs) affect the amortization of premiums and accretion of discounts on mortgage-backed securities (MBS) and loans. It highlights the impact on interest income and the ability to redeploy capital - Increased prepayment rates accelerate the amortization of purchase premiums, thereby reducing interest income earned on assets[456] - Increased prepayments, typically associated with decreasing market interest rates, may accelerate the redeployment of capital to generally lower-yielding investments[457] - Conversely, decreased prepayments, associated with increasing market interest rates, may slow the ability to redeploy capital to generally higher-yielding investments[457] Item 4. Controls and Procedures Management, under the direction of the CEO and CFO, concluded that the company's disclosure controls and procedures were effective as of March 31, 2019. No material changes in internal control over financial reporting occurred during the quarter - Management concluded that the Company's disclosure controls and procedures were effective as of March 31, 2019[460] - There were no material changes in the Company's internal control over financial reporting during the quarter ended March 31, 2019[461] PART II OTHER INFORMATION This section provides additional information not covered in the financial statements, including legal proceedings, risk factors, equity sales, and regulatory disclosures Item 1. Legal Proceedings This section states that there are no material pending legal proceedings involving the company or its assets - There are no material pending legal proceedings to which the Company is a party or any of its assets are subject[464] Item 1A. Risk Factors This section refers to the company's Annual Report on Form 10-K for a comprehensive discussion of risk factors, noting that there have been no material changes from the previously disclosed risks, while acknowledging the potential for new or currently immaterial risks - There are no material changes from the risk factors set forth in the Company's Annual Report on Form 10-K for the year ended December 31, 2018[465] - Additional risks and uncertainties not currently known or deemed immaterial may also adversely affect the Company's business and securities trading price[465] Item 2. Unregistered Sales of Equity Securities and Use of Proceeds This section details the company's stock repurchase program, including the authorized shares and the absence of repurchase activity during the first quarter of 2019. It also reports on shares withheld to cover tax withholding obligations related to equity-based compensation awards - The Board authorized a stock repurchase program for an aggregate of 10.0 million shares, with 6,616,355 shares remaining available for repurchase[466][468] - No shares were repurchased under the Repurchase Program during the first quarter of 2019[468] - 370,244 restricted shares were withheld in January 2019 to offset tax withholding obligations related to equity-based compensation awards[468] Item 3. Defaults Upon Senior Securities This section states that there were no defaults upon senior securities during the reported period - None[470] Item 4. Mine Safety Disclosures This section indicates that there are no mine safety disclosures to report - None[471] Item 5. Other Information This section states that there is no other information required to be disclosed - None[472] Item 6. Exhibits This section lists all exhibits filed as part of the Quarterly Report, including certifications from the Chief Executive Officer and Chief Financial Officer, and XBRL interactive data files - The exhibits include certifications from the Chief Executive Officer and Chief Financial Officer pursuant to the Sarbanes-Oxley Act of 2002[478] - XBRL Instance Document, Taxonomy Extension Schema Document, Calculation Linkbase Document, Definition Linkbase Document, Label Linkbase Document, and Presentation Linkbase Document are furnished as interactive data files[478] SIGNATURES This section contains the required signatures, confirming the due authorization and submission of the report - The report was signed by Stephen D. Yarad, Chief Financial Officer, on behalf of MFA FINANCIAL, INC. on May 7, 2019[476]