AGNC Investment Corp. (AGNC) Q3 2025 Earnings Call Transcript

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Overview

The earnings call summary highlights a favorable investment environment for Agency MBS, supported by manageable supply, demand growth, and government commitment. The company has strategically raised and deployed capital, enhancing portfolio performance. The Q&A session further supports this positive sentiment, with management addressing concerns about spreads, leverage, and prepayment risks effectively. Despite some unclear responses, the overall outlook remains positive, as management demonstrates confidence in navigating market conditions and optimizing returns. Given these factors, the stock is likely to experience a positive movement over the next two weeks.

Key Financial Performance

Comprehensive Income $0.78 per common share for the third quarter. This was driven by a significant decline in interest rate volatility and tighter mortgage spreads to benchmark rates.

Economic Return on Tangible Common Equity 10.6%, consisting of $0.36 of dividends declared per common share and a $0.47 increase in tangible net book value per common share. This was attributed to a decline in interest rate volatility and tighter mortgage spreads.

Leverage 7.6x tangible equity at the end of the quarter and average leverage of 7.5x, both unchanged from the prior quarter.

Liquidity Position $7.2 billion in cash and unencumbered Agency MBS at the end of the quarter, representing 66% of tangible equity.

Net Spread and Dollar Roll Income Declined $0.03 to $0.35 per common share for the quarter. This decline was driven by lower swap income due to the maturity of $4 billion of legacy swaps and a timing mismatch between the issuance and deployment of new preferred and common equity capital.

Hedge Ratio 77% at the end of the third quarter, reflecting expectations for an accommodative monetary policy environment.

Average Projected Life CPR Increased 80 basis points to 8.6% at quarter end from 7.8% the prior quarter, attributed to lower mortgage rates.

Actual CPRs Averaged 8.3% for the quarter compared to 8.7% in the prior quarter.

Fixed-Rate Preferred Equity Issuance $345 million during the third quarter, the largest mortgage REIT preferred stock offering since 2021. This issuance carries a cost significantly below the levered returns available on deployed capital.

Common Equity Issuance $309 million through the At-the-Market offering program at a significant premium to tangible net book value per share.

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Operating Highlights

Agency MBS Performance: Agency mortgage-backed securities (MBS) outperformed U.S. treasuries for five consecutive months, marking the best performance since 2013. This was driven by improved spreads, balanced supply-demand dynamics, and favorable monetary and fiscal policies.

Demand for Agency MBS: Demand for Agency MBS increased significantly in Q3, with $180 billion of bond fund inflows, driven by favorable monetary policy shifts.

Economic Return: AGNC achieved a strong economic return of 10.6% in Q3, driven by dividends and book value appreciation.

Liquidity Position: AGNC maintained a strong liquidity position with $7.2 billion in cash and unencumbered Agency MBS, representing 66% of tangible equity.

Leverage: Leverage remained stable at 7.6x tangible equity, consistent with the prior quarter.

Hedge Portfolio: The hedge ratio was 77%, reflecting expectations for an accommodative monetary policy environment and positioning for rate cuts.

Capital Deployment: AGNC raised $345 million in preferred equity and $309 million in common equity, deploying this capital into newly originated production coupon MBS.

GSE Reform: The Treasury Department's approach to GSE reform, emphasizing mortgage market stability and tighter spreads, is seen as favorable for Agency MBS and AGNC's business.

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Risk or Challenges

Interest Rate Volatility: Interest rate volatility remains a concern, as it can impact the performance of agency mortgage-backed securities (MBS) and the company's economic returns. Although volatility declined in the third quarter, it remains a potential risk factor.

Hedge Portfolio Positioning: The company's hedge ratio of 77% reflects expectations for an accommodative monetary policy environment. However, any unexpected changes in monetary policy or interest rate hikes could adversely impact the company's net spread and dollar roll income.

Prepayment Concerns: Higher coupons in the portfolio are associated with increased prepayment concerns, especially during periods of declining long-term interest rates. This could affect the performance of these assets.

Regulatory Reforms: While regulatory reforms are expected to increase bank demand for agency MBS, delays or unfavorable changes in these reforms could negatively impact demand and the company's operations.

Funding Costs: The company expects lower funding costs due to anticipated rate cuts. However, if rate cuts do not materialize as expected, funding costs could remain high, impacting profitability.

Supply and Demand Dynamics: Although the supply and demand for agency MBS is currently balanced, any significant changes in primary mortgage rates or investor demand could disrupt this balance and adversely affect the company's performance.

Capital Deployment Risks: The company has raised significant capital and deployed it into newly originated MBS. However, the success of this strategy depends on market conditions and the performance of these assets.

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Guidance & Outlook

Outlook for Agency Mortgage-Backed Securities (MBS): The company expects a constructive outlook for agency mortgage-backed securities due to improved spread environments, balanced supply and demand dynamics, strong financing markets, and favorable GSE reform developments. The administration's focus on maintaining or narrowing mortgage spreads is seen as beneficial for the business.

Demand and Supply Dynamics: Net new supply of Agency MBS is expected to be about $200 billion for the year, at the lower end of initial expectations. Bank demand for Agency MBS is anticipated to increase as regulatory reforms are implemented. Money manager demand has already increased significantly, driven by favorable monetary policy shifts.

Financing Market Conditions: The financing market for Agency MBS is expected to remain strong, with the Federal Reserve likely ending balance sheet runoff within the next few months. Potential changes in the Fed's repo market operations could further benefit the repo market for U.S. treasuries and Agency MBS.

GSE Reform: The Treasury Department's approach to GSE reform is expected to maintain mortgage market stability and potentially strengthen the agency market structure. The reform process emphasizes maximizing taxpayer value, lowering mortgage rates through stable or tighter spreads, and avoiding harm to the housing finance system.

Net Spread and Dollar Roll Income: Future rate cuts and the deployment of recently raised capital are expected to provide a moderate tailwind to net spread and dollar roll income. A shift in the hedge mix toward a greater share of swap-based hedges is also anticipated to enhance income.

Capital Deployment and Portfolio Optimization: The company plans to optimize its asset composition over time by rotating into pools with favorable prepayment characteristics. The weighted average coupon of the portfolio is expected to increase slightly, and the company will continue to adjust its hedge composition to align with market conditions.

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Shareholder Return Plan

Economic return: 10.6%, comprised of attractive monthly dividend and book value appreciation.

Dividends declared: $0.36 per common share for the third quarter.

Common equity issuance: $309 million of common equity issued through At-the-Market offering program at a significant premium to tangible net book value per share.

Preferred equity issuance: $345 million of Fixed-Rate preferred equity issued, the largest mortgage REIT preferred stock offering since 2021.

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Key Q&A

Q:Can you discuss expected ROEs given the spread tightening and the sustainability of the current EBITDA?

A:Peter Federico explained that spreads have tightened significantly, and the expected ROE for current coupon mortgages is between 16% and 18%, aligning with the total cost of capital. He noted that dividend sustainability is supported by these ROEs. He also mentioned that net spread and dollar roll income dropped to $0.35 due to temporary factors like expiration of short swaps and lower hedge ratios, but he expects improvement in earnings going forward.

Q:What drove the meaningful decrease in the hedge ratio this quarter, and what are the key risks associated with the lower ratio?

A:Peter Federico stated that the hedge ratio dropped to 68% overall, with a swap-based hedge ratio at 77%. He explained that 23% of funding is short-term debt, which is costly at 4.43%. This cost will decrease as the Fed eases rates, potentially improving earnings by $0.05 over time. He also mentioned adding $7 billion in receiver swaptions for down-rate protection, which affected the hedge ratio calculation.

Q:Was the incremental demand for MBS from money managers in the quarter episodic or sustainable?

A:Peter Federico noted that bond fund inflows have been robust, with $180 billion in the third quarter and a projected $450 billion for the year. He expects this demand to remain strong due to the Fed's easing stance, a less optimistic equity outlook, and potential bank demand for mortgages as regulatory reforms become clearer.

Q:If Fed easing is delayed or doesn't materialize, do you still expect a near-term tailwind to the net spread?

A:Peter Federico affirmed that he expects a near-term tailwind to the net spread even if Fed easing is delayed. He cited factors like the deployment of previously raised capital and the ability to term out short-term debt into swaps at neutral rates as contributors to improved earnings over the next 3-4 quarters.

Q:Are you seeing different behavior in terms of speeds in the current refi environment, and is it a risk to consider?

A:Peter Federico acknowledged that refinance activity is influenced by technology and pent-up demand. He noted that only 20% of the market has a 50 basis point incentive to refinance at current rates, and a significant drop in mortgage rates would be required for a large prepayment event. He also mentioned that refinances are happening faster due to improved technology and capacity in the system.

Q:What levers are available to policymakers to improve affordability and increase speeds?

A:Peter Federico mentioned that policymakers could streamline processes like waiving appraisals or title insurance, adjust g-fees, or focus on reducing the spread between mortgage rates and risk-free rates. He also noted that the administration's focus on mortgage spreads and potential GSE reforms could improve refinanceability and affordability.

Q:What is your outlook on volatility and its impact on spreads?

A:Peter Federico stated that monetary policy and potential clarity on tariffs could keep volatility low, which would support tighter spreads. He noted that there are fewer reasons for spreads to widen and more factors pointing to the possibility of spreads breaking through the lower end of their historical range.

Q:Can you discuss the creation of the current coupon indices and its purpose?

A:Peter Federico explained that the indices were created to provide transparency and information about the mortgage market, particularly for retail investors. The indices focus on production coupons and are updated monthly, offering a benchmark for newly originated mortgages.

Q:What is your view of optimal leverage in the current spread and volatility environment?

A:Peter Federico stated that the company is operating at 7.5x leverage, which he considers appropriate given the current environment. He emphasized the flexibility provided by their unencumbered cash and noted that leverage decisions will be informed by evolving market factors.

Q:What are the biggest near-term risks to your constructive view on spreads?

A:Peter Federico identified macroeconomic factors like changes in fiscal policy, inflation outlook, and potential Fed actions as the main risks. He noted that significant changes in these areas could impact fixed income and Agency MBS spreads.

Q:What is your approach to managing down-rate risk, and was the decision to expand TBAs driven by sizing considerations?

A:Peter Federico explained that the company manages down-rate risk through asset selection and convexity hedges like TBAs and receiver swaptions. He noted that the decision to expand TBAs was not driven by sizing constraints but by the need to deploy capital efficiently while optimizing the portfolio over time.

Q:What is the time frame for the $0.05 tailwind from short-term rate adjustments?

A:Peter Federico stated that the $0.05 tailwind would materialize over the next six months, depending on the pace of Fed rate cuts or the company's ability to term out short-term debt into swaps at neutral rates.

Q:Does further tightening of spreads make it harder to cover the dividend?

A:Peter Federico explained that tighter spreads would increase book value but lower future earnings. However, from an investor perspective, the economic benefit remains the same, as the return is realized either through book value appreciation or future earnings.

Q:Does the Fed's runoff of Agency MBS create potential spread risk?

A:Peter Federico noted that the Fed is likely to end its balance sheet runoff soon and does not expect actions that would destabilize the market. He mentioned that the current runoff pace is manageable and that changes in the Fed's balance sheet composition could improve mortgage affordability.

Q:What is your view on prepayment risk in higher coupon 30s, and what collateral protections are you focusing on?

A:Peter Federico stated that almost all higher coupon 30s in the portfolio have embedded prepayment protections, such as low loan balances, favorable credit characteristics, and geographic considerations. He emphasized the importance of optimizing the portfolio to manage prepayment risk.

Q:What was the rationale behind raising preferred stock, and how does it fit into the capital structure?

A:Peter Federico explained that the preferred stock issuance reopened a dormant market and provided a cost-effective way to generate returns for common shareholders. The preferred stock now represents 18% of the capital structure, with room for slight increases if needed.

Q:Review of Unclear Management Responses

A:Management avoided directly addressing the specific impact of potential delays in Fed easing on dividend sustainability and the exact timeline for achieving the $0.05 tailwind from short-term rate adjustments. Additionally, while discussing prepayment risks and collateral protections, the responses lacked detailed numerical data to fully quantify the risks.

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Earnings Word Cloud

The most frequently occurring keywords in this quarter's earning call

AGNC Transcript

AGNC Investment Corp. (AGNC) Q3 2025 Earnings Call Transcript

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