Mgic Investment Corp Q1 FY2023 Earnings Call

Thank you, Joel. Good morning, and welcome, everyone. Thank you for your interest in MGIC Investment Corporation. Joining me on the call today to discuss our results for the fourth quarter are Tim Mattke, Chief Executive Officer; and Nathan Colson, Chief Financial Officer. Our press release, which contains MGIC's fourth quarter financial results was issued yesterday and is available on our website at mtg.mgic.com under Newsroom, which includes additional information about our quarterly results that we will refer to during the call today. It also includes a reconciliation of non-GAAP financial measures to their most comparable GAAP measures. In addition, we posted on our website a quarterly supplement that contains information pertaining to our primary risk in force and other information you may find valuable. As a reminder, from time to time, we may post information about our underwriting guidelines and other presentations or corrections to past presentations on our website. Before getting started today, I want to remind everyone that during the course of this call, we may make comments about our expectations of the future. Our actual results could differ materially from those contained in these forward-looking statements. Additional information about the factors that could cause actual results to differ materially from those discussed on the call today are contained in our 8-K and 10-Q that were also filed yesterday. If we make any forward-looking statements, we are not undertaking an obligation to update those statements in the future in light of subsequent developments. No one should rely on the fact that such guidance or forward-looking statements are current at any time other than the time of this call or issuance of our 8-K and 10-Q. With that, I now have the pleasure to turn the call over to Tim.

Thanks, Dianna. Good morning, everyone. We had a solid start to 2023, achieving strong financial results for the first quarter. We continue to focus on executing our business strategies to ensure financial strength, flexibility, and effective risk management for the company's long-term success. We are well-positioned to serve our customers with quality offerings while creating shareholder value. In the quarter, we reported $155 million in net income, or $0.53 per share, and achieved an annualized return on equity of 13.3%. Our insurance in force, the main driver of our revenue, increased by 5.4% year-over-year, reaching $292 billion. This growth occurred despite lower volumes of new insurance written, reflecting an increased persistency rate amid low refinance activity in the market. Our annual persistency rose to 82% at the end of the quarter, up from 67% a year ago. We wrote $8 billion in new insurance during this quarter. We believe the new insurance written in the first quarter reflects the smaller origination market as well as our strategic actions taken in the previous quarters to address perceived risks and uncertainties. Previously, we communicated expectations for a decline in our market share, which was confirmed by industry reports. We also indicated that we anticipated a more significant relative decline in our market share for Q1 2023 compared to Q4 2022, and we still hold that belief. We acknowledge that the loss of market share was a trade-off for achieving returns that align with the risks we faced in an environment marked by rising interest rates, stretched affordability, and expected declines in home prices. It is important to note that there is a delay between taking actions and the resulting new insurance written, as pricing typically leads new insurance written by a month or two. Therefore, the new insurance written in Q1 primarily reflects our risk-return assessments from late last year. While we will not comment on our current competitive position, our risk-return outlook for the market has gradually improved in recent months, and we expect our market share in the second quarter to be higher as a result. Mortgage origination forecasts have been revised as interest rates remain high and affordability challenges persist. Although the overall market for new insurance origination is smaller this year, we anticipate that combining our new business with higher persistency will keep our insurance in force portfolio relatively stable this year. While affordability issues and high interest rates have exerted downward pressure on home prices, recent declines have been less severe than many anticipated. I am cautiously optimistic that home price trends will start to normalize, which I believe will be positive for the housing market and the overall economy. Regarding our insurance portfolio's credit performance, we continue to see historically low levels of delinquency notices and delinquency rates. The credit performance of our 2020 and later policies, which represent about 81% of our risk in force, remains strong. We are encouraged by the positive credit trends in our existing insurance portfolio. Our loss ratio was 3% for the quarter, reflecting reserves established for new delinquencies reported, offset by favorable adjustments to loss reserves from prior quarters. During the quarter, we deployed capital to support new business and returned significant capital to our shareholders through stock repurchases and dividends. We repurchased 5.8 million shares of common stock for $78 million and declared a quarterly dividend of $0.10 per share, totaling $30 million. In April, we repurchased an additional 1.7 million shares for $24 million, and the Board authorized a new $500 million share repurchase program along with a $0.10 per share dividend to be paid on May 25. Over the past couple of years, we've discussed our capital management strategy, which focuses on maintaining financial strength and flexibility to create long-term value for shareholders while ensuring protection for our policyholders. We continuously assess the capital levels of both companies to balance future deployment needs with shareholder returns, positioning both for success under various conditions. Earlier this week, MGIC paid a $300 million dividend to the holding company to enhance its liquidity and overall financial flexibility. Our capital management strategy also encompasses a robust reinsurance program, which mitigates volatility in loss experiences across different economic situations. By the end of the first quarter, about 85% of our risk in force was protected to some degree by reinsurance agreements, and nearly all of the risk in force from 2020 to 2022 was similarly covered.

Thanks, Tim and good morning. As Tim mentioned, we had another strong quarter. We earned $155 million in net income, or $0.53 per diluted share, compared to $0.54 per diluted share during the first quarter last year. Adjusted net operating income was $0.54 per diluted share, compared to $0.60 last year. A detailed reconciliation of GAAP net income to adjusted net operating income can be found in our earnings release. The results for the first quarter were reflective of continued strong credit performance, which has led to favorable loss reserve development and resulted in a 3% loss ratio this quarter. Net losses incurred were $6 million in the first quarter compared to negative $19 million in the first quarter last year. Our review and re-estimation of ultimate losses on prior delinquencies resulted in $41 million of favorable loss reserve development, compared to $56 million of favorable loss reserve development during the first quarter last year. The favorable development in the quarter was related to new delinquencies from 2021 and prior. It's curious that those delinquency groups continue to exceed our expectations, leading us to continue to make favorable adjustments to our ultimate loss expectations. In the quarter, our delinquency inventory decreased by 6% to 24,800 loans, compared to an increase of 2% last quarter. In the quarter we received 11,300 new delinquency notices, compared to 11,900 last quarter, and 10,700 in the first quarter last year. Historically, the first quarter has been seasonally good for credit performance. So what we saw in the quarter may be a reversion to seasonal trends that were largely disrupted starting in March 2020 with the onset of the COVID-19 pandemic. During the quarter total revenues were $284 million, compared to $295 million for the same period last year. Net premiums earned were $242 million in the quarter compared to $255 million for the same period last year. The decrease in net premium earned is primarily due to a decrease in accelerated single premium cancellation, an increase in ceded premiums and a decrease in our premium yield offset somewhat by growth in our insurance in force. The in-force premium yield was 38.7 basis points in the quarter, down two-tenths of a basis point from last quarter. The in-force portfolio yield reflects the premium rates in effect on our insurance in force and has been declining for some time. But the pace of decline has been slowing in recent quarters. As I mentioned on the call last quarter, we continue to expect the in-force premium yields to remain relatively flat during 2023. Book value per share increased 4.7% during the quarter to $16.57. The unrealized losses in the investment portfolio narrowed by approximately $100 million, which benefited the growth in book value per share in the quarter. Despite the headwinds from increased unrealized losses due to changes in interest rates and paying our quarterly shareholder dividend, book value per share increased more than 12% compared to a year ago due to our strong results and accretive share repurchases. While higher interest rates are a headwind for book value per share in the short term, higher interest rates are a long-term positive for the earnings potential of the investment portfolio, and that is coming through in the results. The book yield on the investment portfolio ended the quarter at 3.2%, up 20 basis points in the first quarter and up 60 basis points from a year ago. Sequentially, investment income was up $3 million in the quarter and up $11 million from the first quarter last year. Assuming a similar interest rate environment, we expect the book yield on the investment portfolio will continue to increase during the year and approach 3.5% by the end of 2023, as reinvestment rates remain significantly higher than the current book yield. Operating expenses in the quarter were $73 million, down from $74 million last quarter and up from $57 million in the first quarter last year. The increase in operating expenses during the first quarter compared to last year was due in large part to $8 million in pension settlement charges this quarter, compared to zero in the first quarter last year. Going forward, we expect to incur settlement charges more often, because as we previously announced we froze our pension plan effective December 31, 2022. However, the level of those charges should be significantly lower for the remainder of 2023. We continue to expect full year operating expenses to be down modestly in 2023 to the range of $235 million to $245 million, the same range we provided in February. Turning to our capital management activities, during the first quarter, the capital levels of MGIC and liquidity levels of the holding company continued to be above our targets consistent with our capital strategy. During the second quarter, we received approval and paid a $300 million dividend from MGIC to the holding company and our Board approved an additional $500 million share repurchase authorization, which expires on June 30, 2025. The additional share repurchase authorization reflects our strong capital position and outlook for continuing to generate excess capital at the operating company and to pay dividends to the holding company. In the first quarter, we repurchased 5.8 million outstanding shares of common stock for $78 million and we paid a $0.10 per share quarterly dividend to shareholders. The holding company ended the quarter with cash investments of $582 million. In April, our Board authorized the $0.10 per share quarterly common stock dividend payable on May 25. And we repurchased an additional 1.7 million shares for $24 million. Our recent share repurchase activity levels reflect both caution towards the increased uncertainty in the current environment, as well as the strong mortgage credit performance and financial results we continue to experience and recent share price valuation levels that we believe are very attractive to generate long term value for remaining shareholders.

Thanks, Nathan. A few additional comments before we open it up for questions. We have been asked about the impact of FHA's 30 basis point decrease in MI premium rates and the GSE's LLPA pricing adjustment, each announced during the first quarter. We operate in a very competitive and dynamic marketplace where several factors drive consumer behaviors, and mortgage product preferences, cost being one of the most important of those factors. With multiple moving parts to fully understand how these changes will impact our new insurance written volume. We'll continue to monitor, evaluate and alter our approach to the market as needed. Lastly, in April, the GSE published updated equitable housing finance plans. The plan seeks to advance equity in housing finance over a three year period and includes potential changes to the GSE's business practices and policies. We welcome the opportunity to engage with the GSE and other industry stakeholders to responsibly expand access to homeownership. We will continue to advocate for the increased use of private mortgage insurance in housing finance. In closing, we had another successful quarter and a great start to the new year. I'm optimistic that the favorable credit and employment trends we have been experiencing, as well as the resiliency of the housing market will continue. We are comfortable with our market position and continue to believe that we are well situated to navigate the current environment's uncertainties and deliver on our business strategies. With that, Operator, let's take questions.

Thank you. Our first question comes from Bose George of KBW. Your line is now open.

Everyone, good morning. Actually, first question just on the expense guidance. Does that range include the $8 million for this year, or should we sort of add that to that range that you provided?

Hey, Bose, it's Nathan. The full year guidance will be inclusive of the settlement charges that we incurred in the first quarter.

Okay, great. Thanks. When you consider leverage going forward, do you want to maintain the current debt to capital range, which is historically quite low, as your target rate?

Yes. Bose, it's Nathan again. We've said as we've delivered over the last year or two, we've said that our target debt to capital ratio in kind of normal times is in the low to mid teens. And I think right now we're approximately 12%. So we're in a very comfortable range for us and don't foresee any meaningful increase in leverage in the near term.

Okay, great. Thanks a lot.

Thanks, Bose.

Thank you. Please stand by for our next question. Our next question comes from the line of Mark DeVries of Barclays. Your line is now open.

Thank you. I have a follow-up question regarding Tim's comments about market share. I'm curious because you mentioned that the risk-reward dynamic has become more favorable from your viewpoint. You anticipate an increase in market share in the second quarter. Can you explain what has changed? Has one of your competitors mentioned a tightening market and rising prices? Have you seen the market respond to the earlier price increases that led to a decline in share, or are there other factors that have made the risk-reward situation more appealing?

Mark, it's a good question. I appreciate it. As I said in the comments, we made the majority of our changes, really in the late third quarter, early fourth quarter pricing last year, which we thought was reflective of the market. The way I look at things, I don't think much has deteriorated since then. So I think it can be a combination of both, right, the market maybe moving a little bit more towards this. I've heard the other comments too. I think we've observed some of that. I think we're also getting a little bit more comfortable with what's out there, right? And it's been pretty orderly. And I think some of the stresses that we might have been concerned about six months ago, while still a possibility, it seems like a pretty orderly, sort of falling out of house price appreciation, which feels good as well. So I think, again, we made most of our actions early on. I think that hurt us from a volume standpoint for this quarter in particular. But I think this pricing in the market seems more constructive now, which is a good thing for us to be able to get the returns we want, and we have to stay disciplined on.

Okay, got it. And my next question has to do with the expense ratio. I think, unless I'm interpreting it wrong, Nathan, the guidance around total OpEx would still have you probably close to a mid-20s expense ratio, which is still pretty materially above where it had been for a long time kind of pre-pandemic. Can you just talk about, one, am I interpreting that correctly? And two, kind of what's changed to make the expense ratio higher?

Yes, Nathan. I believe you are interpreting the 2023 expense ratio correctly. It is likely to fall within the 24 to 26 range, depending on net premiums and the impact of losses related to profit commission dynamics. This makes it challenging to provide a precise figure for the expense ratio. However, it has increased over time, largely due to significant investments in our platform in recent years. These investments have aided our market understanding and improved customer service. Nonetheless, we remain focused on managing expenses and enhancing efficiency moving forward. I don't think the mid-20s expense ratio we may see this year reflects the lowest it can potentially reach, and we are dedicated to addressing this daily.

Okay, got it. Thank you.

Thanks.

Thank you. Please stand by for our next question. Our next question comes from the line of Juliana Bellona from Compass Point. Your line is now open.

Thanks, first of all, great quarter. And thanks for taking my questions. Kind of following up on a similar topic on the expense side, if I look at kind of what's implied by reiterating the guidance after being high in the first quarter is kind of $57.5 million per quarter on average, which actually is more of a $230 million run rate, kind of for the balance of the year. And I'm curious about the right way to think of that, acknowledging that you mentioned there might be some additional pension settlement related costs that could flow through. Is that kind of where the new base is that you'll be growing from? Or how should I think about the cadence of that going forward?

This is Nathan. I do think we expected some higher first quarter expenses. We did expect some level of settlement charges. The actual amount was higher than we were expecting. There's also some other things that just happened in the first quarter that drive kind of Q1 expenses a little bit higher, things like payroll taxes and other costs that are just higher in the first quarter. So I think the full year guidance is probably the right way to think about the full year run rate. But the quarterly numbers will have some variability to them. And I think this year in particular, but even going forward, maybe a little skewed to Q1 being higher than some of the other quarters.

That makes sense. You've been very active on capital return. Looking ahead to the buyback, do you feel it would be beneficial to increase your cushion from accessible assets, or are you comfortable with your current cushion regarding capital levels at the insurance company?

Yeah. So we ended the first quarter with a $2.4 billion excess to our targets. You know, we felt like that was above our targets that ultimately prompted requesting and receiving approval and paying the $300 million dividend from MGIC to the holding company. The operating company continues to generate significant amounts of capital. So that's something that we've really had to actively manage, but where we were post dividend, which is on a pro forma basis $2.1 billion at the end of the first quarter, that's still obviously a very comfortable level for us. So we've been consistently above our target levels and using large dividends from the operating company to the holding company to manage that. But again, that's driven off of the strong financial results and credit performance that we've seen. So we are taking this on a quarter by quarter basis to evaluate what we think the right things to do are capitalized. To date, credit performance has remained very, very strong, and the results have been strong, and that's afforded us opportunities, like we have, to return capital to shareholders and to continue to pay dividends to the holding company.

That's great. Thanks for taking my questions. I will jump back in the queue.

Thanks.

Thank you so much. Please standby for our next question. Our next question comes from the line of Mihir Bhatia from Bank of America.

Hi, good morning. Thank you for taking my question. I want to revisit the topic of expenses. I'm curious about what specifically changed last year. The reason I ask is that for three to four years, your expenses were around $190 million to $200 million. Then last year, you saw a significant increase to the $235 million to $240 million range, which seems to be the expectation moving forward based on your previous comments. I'm trying to understand what led to such a substantial increase going forward.

Mihir, it's Nathan. I kind of put you to probably three things. One, and we kind of went through this last quarter and at various times last year, but we did incur significant, I think, if my memory serves me about $25 million for the full year and pension-related costs and settlement charges last year, which increased the expense level last year. The other thing, in our long-term incentive plan, the financial performance in 2021 and 2022, particularly on an ROE basis, was very, very strong. And that has led to additional expense under our performance-based long-term performance-based comp plans, which has added to that a little bit versus years like 2020, with COVID an increased load losses, there were the performance-based compensation expense was much lower as a result of performance that was, while still generating, I believe 10% or at least that year, not at the level that we've experienced subsequent to that. And then I think the third is one that we started talking about as early as 2019, which is just making continued investments in our infrastructure, in our data and analytics and in our ability to perform well and be in the right positions in this market. So I think the combination of those things has led to an increase in expense last year, and a little bit this year. But I think one of those things is really due to the high performance that we've had from an ROE standpoint. If we do have periods that are more, as expected, some of that would just naturally be less as well.

Okay, and then maybe just switching gears a little bit to your comments about just the risk reward. Obviously, as you mentioned, the pricing environment has gotten better, but maybe on the credit side, just wanted to get your view. Are there any specific pockets or areas or particular issues that you're concerned about on the credit side? Just trying to understand, like, where you are on the credit side today versus maybe three months ago, six months ago? Thank you.

I would say there isn't much change on the credit side when considering underwriting characteristics. We feel comfortable with the individual borrower dynamics, including FICO and LTV. The enhanced risk we noted in Q3 and Q4 of last year was related to the potential decline in home prices, which could lead to higher loss rates, particularly if unemployment increases. Another aspect to consider, which relates to credit but leans more towards affordability, is the debt-to-income ratio. DTI is more stretched now compared to before. However, we are confident in the profile we see and have the capability to adjust pricing based on DTI, which reassures us about our returns. Although DTI will be higher as a percentage of our volume this year than last year before interest rates increased, we feel generally comfortable with our position and the risk-return balance we can achieve by pricing for those characteristics.

This is my last question about the insurance in force. Do you expect it to increase this year based on your current situation and considering new insurance written against persistency? What are your expectations for insurance in force this year? Thank you.

Yeah, I think I'd reiterate, I think what we said probably on our last call, which we think is pretty much going to be flat for the year. So I know a little bit down quarter-over-quarter this quarter. But I think as we think about just normal seasonality within housing, and I think we believe continued persistency being sort of at a strong level, we say we're still believe we're going to be flat year-over-year.

Thank you.

Thank you. Our next question comes from Eric Hagen at BTIG. Your line is now open.

Hi, thanks. Good morning. A couple questions here. The legacy book isn't huge, but it is a chunk of the delinquency pipeline. Can you talk about how much you're reserving for in the legacy book at this point? Maybe how the mark to market LTV compares to some of the newer issue loans and the severities that you're expecting now? Whether anything has shifted at all. Then the second question is, do you feel like there's any like a threshold for costs in the reinsurance market, which should maybe look to change the risk profile you target or, or even how you reserve for credit, based on what you see in that market? Thank you.

Nathan, regarding your first question about the legacy book, you're right that it represents only a small portion of the risk we're currently facing. However, it contributes significantly to new delinquencies and the overall delinquency inventory. A key feature of this group of loans is that a majority have been delinquent six times or more. Our supplemental information includes statistics on new notices we received this quarter and the percentage that had been previously delinquent. For loans from 2008 and earlier, approximately 97% of those delinquencies have occurred before, with many experiencing five, ten, or even fifteen delinquencies over the years. Our observations indicate that this group tends to have a lower likelihood of resulting in a claim, as we see a cycle where these loans go from delinquent back to current and then back to delinquent again within a short timeframe. While we consider reserving factors at the cohort level for notices received, we do not apply different factors for these types of loans. The important takeaway is that while many of these loans enter the delinquency inventory, they often come out again shortly afterward, which leads to a very low likelihood of a claim for any individual delinquency. Therefore, we do not expect an increase in claim rates from these vintages simply because of their delinquent history.

That's really helpful. Yeah, go ahead. Thank you.

I was going to say relative to the question on reinsurance costs, I think we have done reinsurance deals where we thought the cost of capital, at least the cost of our capital was very, very low, sub 4%. We've done deals where that cost was somewhat higher. So I think we're comfortable transacting in a range of cost bands there. What's happened, I think, in the reinsurance market is just the availability there. We did a deal last year, but subsequent deals, it seems at least observing were more difficult to transact. The traditional reinsurance market has continued to be very active, and I think still provides pricing that we would find attractive for deals. So that's obviously an area where we've placed a 25% quota share covering our 2023 business, and continued to have dialogue with that market around other risk transfer opportunities there. So the bright line level, I'm not sure that could give you good guidance on that. But just to say that levels right now in the reinsurance market I think still look pretty attractive.

Great. Thank you guys very much.

Thanks, Eric.

Thank you. Please stand by for our next question. Our next question comes from the line of Geoff Dunn of Dowling and Partners. Your line is now open.

Thanks. Good morning. Tim, I don't remember when it was exactly. But I think it's been at least a couple years ago, when the company guided that we should expect a couple years of increased expenses for tech spend. And I'm wondering, based on the conversations we're having now about expenses, is that partly because that program or that effort proved more expensive for longer or yielded higher recurring expenses than maybe you thought at the beginning of that effort? Or are we talking about kind of more broadly spread higher expenses across the company?

It's a good question. There's definitely some inflation, with our biggest costs being our people. With the demand for talent, we need to ensure we keep the best to serve our customers. This has been a challenging headwind for us in the past few years. From an investment perspective, we have tried to remain disciplined in our approach. Typically, our investment levels are higher than we initially expected, particularly in enhancing our analytical capabilities to better understand the market and organize data effectively. I don't see this as a permanent change, but compared to a couple of years ago, we are continuously investing. At our current level or where we were at the start of the year, it’s becoming easier to make those investments. However, I think we're headed towards a bit lower investment than we anticipated at the beginning of the year. Nevertheless, there will always be a need to invest in the platform, especially in this operating environment.

So I think, at least my thought process was we might kind of have a cliff recovery, when you first announced that after a couple of years. It sounds like it's kind of a trickle improvement, as efficiencies are gained, some expenses decline, but not a return to that original absolute original relative level. Because…

I think that's fair. I mean, I'll tell you, being in this business myself since 2006, and the company being around since 1966, I think efficiency is something we always have to be focused on. First and foremost, we have to serve our customers, but we have to do it in the most efficient way. I can tell you that it's something that we talk about as a management team, making sure that we are thoughtful about that. But I don't anticipate a step down, not in the near future here. But it is something that I would say that we're focused on.

All right. Thanks.

Thank you very much. Please hold on while we prepare the Q&A lineup. Now, I would like to hand it back to Tim Mattke for the closing comments.

Thank you, Operator. I want to thank everyone for your interest in MGIC and remind you that we'll be participating in a Panel Discussion at Mortgage Finance at the BTIG Housing Conference on Monday, May 8. I look forward to talking to all of you in the near future. Hope you have a great rest of your week.

Thank you for your participation in today's conference. This does conclude the program. You may now disconnect.