This year has been a wild one for mortgage REITs (mREITs). The COVID crisis created a credit crunch that swept through the entire mREIT sector, causing big declines in book value and sizable dividend cuts. For the most part, the crisis is over for the sector, provided we don't enter another economic shutdown like we had in the March-to-May time frame. For many stocks, it is time to start looking for value.
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Margin calls almost killed the company
MFA Financial (MFA -4.02%) had what amounts to a corporate near-death experience. After beginning the year at $7.64 per share, MFA dropped to a low of $0.32. Margin calls during the market chaos in late March to early August drove the company to the brink, and when it couldn't come up with the cash to meet these calls, it entered into forbearance with its creditors.
MFA suspended the dividend on its common and preferred shares and finally obtained a strategic investment from Apollo Global Management (APO) and affiliated insurance company Athene (ATH), which was able to settle all of the outstanding margin calls. MFA recently announced that it has exited forbearance with its creditors. Its leverage ratio stands at 1.9:1, and the company has a cash balance of $346 million.
The March 30 figure was close to the bottom of the market
As of March 30, book value was $4.34 per share. The end of March, when book value was reported, was the vortex of the forced selling in the mortgage asset markets. It couldn't have been a worse time to mark the book.
On a conference call, CEO Craig Knutson described assets that had been steady as a rock for years suddenly falling 20% to 50%. The Fed stepped in and began buying mortgage-backed securities, which stabilized things. Since then, most assets in the mortgage ecosystem have rebounded.
A lot of activity in the second quarter
MFA has continued to de-leverage its portfolio since the quarter ended. After MFA completed its deal with Apollo and Athene, it gave a snapshot of the portfolio. Residential whole loans and real estate owned are now $6 billion (down from $7 billion as of March 31), the agency-mortgage-backed securities portfolio is gone, and the servicing portfolio has fallen from $738 million to $235 million. MFA also reported that book value per share had increased about 2% to 3% from the end of March.
There remain $31.7 million in margin calls, but MFA has reduced its reliance on short-term financing via repurchase agreements. MFA has also reinstated its dividend on its preferred shares, although it's still suspended on the common stock.
Delinquencies and marks
The number I am most interested in is the delinquency rate on MFA's mortgage book. As of March 30, 97.5% of MFA's nongovernment book was current, and the typical loan-to-value ratio was 66%. We have seen delinquencies tick up across the board, especially in Federal Housing Administration (FHA) and Veterans Affairs (VA) loans. With such low loan-to-value ratios, homeowners will have enough equity to trade down if they cannot afford the current payments. Which means these loans are almost assuredly "money good."
Still, delinquencies will affect cash flows and could cause some strain on income. The other number I want to understand is the mark on these loans as a percentage of amortized value, which would be similar to the percentage of face value. This would represent the unrealized value that is currently held on the balance sheet. If the loans are marked at, say, 80% of amortized value, then that would imply a 20% upside to book. We still don't have enough information to really make an investment decision on MFA, but the second-quarter earnings should bring some clarity.
