Earnings Call Transcript - RDN Q1 2020

Operator, Operator

Welcome to the Radian First Quarter 2020 Earnings Call. My name is Jenny, and I'll be your operator for today's call. I will now turn the call over to Senior Vice President of Investor Relations, John Damian. You may begin.

John Damian, Senior Vice President of Investor Relations

Thank you and welcome to Radian's first quarter 2020 conference call. Our press release which contains Radian's financial results for the quarter was issued last evening and is posted to the investors section of our website at www.radian.biz. This press release includes certain non-GAAP measures which we will discuss during today's call including adjusted pre-tax operating income, adjusted diluted net operating income per share, adjusted net operating return on equity, and real estate adjusted EBITDA. A complete description of these measures and a reconciliation to GAAP may be found in press release exhibits F and G and on the investors section of our website. In addition, we have also presented a related non-GAAP measure, real estate adjusted EBITDA margin which we calculate by dividing real estate adjusted EBITDA by GAAP total revenue for the real estate segment. This morning, you will hear from Rick Thornberry, Radian's Chief Executive Officer, and Frank Hall, Chief Financial Officer. Also on hand for the Q&A portion of the call is Derek Brummer, President of Radian Mortgage. Due to the current environment, all of our speakers this morning are remote. I would ask that you please excuse any sound quality or technical issues that may arise during the call. Before we begin, I would like to remind you that comments made during this call will include forward-looking statements. These statements are based on current expectations, estimates, projections, and assumptions that are subject to risks and uncertainties which may cause actual results to differ materially. For a discussion of these risks, please review the cautionary statements regarding forward-looking statements included in our earnings release and the risk factors included in our 2019 Form 10-K as updated in our quarterly report on Form 10-Q for the first quarter of 2020 and subsequent reports filed with the SEC. These are also available on our website. Now, I would like to turn the call over to Rick.

Rick Thornberry, CEO

Thank you, John, and good morning. I appreciate everyone joining us today and your interest in Radian. I am excited to share the results of a strong quarter for our company. These results reflect the robustness of our business model and the effectiveness of our unified team at One Radian. While the primary focus of today's call is the first quarter of 2020, we understand the main concern is how the COVID-19 pandemic will affect our business in the future, and I will provide our thoughts on this matter. Our intention is to give you the best information available. Before I proceed, I want to take a moment to acknowledge our team for their remarkable resilience and commitment during this challenging period. Our business continuity plans were already in place, our technology infrastructure was prepared, and our employees transitioned to a remote work model in mid-March without missing a beat. During these unexpected circumstances, our team has continued to operate effectively with minimal disruption to our businesses or the services we provide to our customers. I'm very proud of how our entire team at Radian has responded to these challenges. Let's begin with our first-quarter results. I'm pleased to report another strong quarter for our company with several key highlights. We reported net income of $140.5 million or $0.70 per share. Adjusted pre-tax operating income was $204.6 million, and adjusted diluted net operating income per share was $0.80. Our return on equity was 14.2%, and the adjusted net operating return on equity was 16.3%. In our mortgage segment, we produced $16.7 billion of new insurance written in the first quarter, which increased our primary insurance in force to $241.6 billion. In our real estate segment, we grew revenues to $28.6 million, a 24% increase compared to the first quarter of 2019. Following the sale of Clayton this quarter, we are now concentrating on expanding our title, valuation, asset management, and real estate services. Frank will provide further details on the quarter and our financial status. Now, let's discuss the mortgage and real estate market environment. We are undoubtedly experiencing an unprecedented time both in our country and across the globe. It is still early to determine the full effect that the COVID-19 pandemic will have on our customers and our company, but it is clear that the economic consequences will significantly impact the housing finance and real estate markets. Given the present situation, we anticipate a slowdown in purchase loan volume in the mortgage market. However, due to the overall low interest rates, we are observing a substantial increase in mortgage finance volumes, which may lead to lower persistency across our insurance portfolio. The pandemic, along with federal, state, and local mandates, has severely affected various industries, causing a dramatic rise in unemployment rates. With rising unemployment coupled with mortgage relief options provided by the CARES Act mortgage forbearance programs, we expect industry-wide mortgage defaults to increase significantly in the second quarter and beyond. These forbearance programs aim to assist borrowers during this temporary hardship, allowing them to stay in their homes, which is beneficial for our company and our industry. While entering these forbearance programs will not affect a borrower's credit, any loan where two payments are missed technically counts as a default in our portfolio, even if those payments were missed due to forbearance. Consequently, we will see an increase in reported mortgage defaults in our insured portfolio, resulting in a rise in PMIERs capital to be held against those loans. I will discuss PMIERs capital in more detail shortly. As we are still early in this cycle, it's crucial to acknowledge that predicting the exact level, timing, and duration of these defaults is challenging. It's important to note that this economic crisis originated from a global health crisis. Unlike the previous financial crisis led by housing, we entered this downturn with a stable housing market characterized by strong demand, supply, home values, and sound mortgage underwriting and servicing standards. Additionally, we believe many borrowers are in a more sustainable position regarding homeownership, having built significant equity in their homes. This will likely better shield the mortgage insurance industry from claims and potential losses. In response to the COVID-19 situation, we have implemented several measures related to our business operations. Our top priority has been to protect our employees and manage the continuity of our business operations. As mentioned, we activated our business continuity program in mid-March to enable our team to work safely from home, which transitioned smoothly. It's noteworthy that we accomplished this quickly while our businesses were very active, showcasing a remarkable team effort. From the perspective of our customers and business partners, we've prioritized staying connected through virtual tools, phone calls, and web meetings instead of in-person meetings, which have proven to be effective and successful. Regarding MI pricing and risk management, we've increased our risk-based pricing and made adjustments to our underwriting guidelines to address the heightened risk and uncertainty in today’s market. Thanks to the dynamic nature of our RADAR pricing model, we swiftly aligned our pricing to the new environment and offered competitive rates to our customers. Despite the sudden and unexpected changes in the business landscape, we have evaluated and adjusted to the temporary underwriting and servicing guidelines introduced by the GSEs, which we consider appropriate and constructive. We remain focused on maintaining strong relationships with the servicers of our insured loans as we closely observe how they navigate the significant rise in defaults and prepare to resolve them through various repayment models. Besides regular communication with the GSEs and servicers, we are also enhancing our reporting and benchmarking related to the most recent forbearance initiatives. Given the current context, there is certainly uncertainty surrounding the forecast for mortgage industry activity and volume. However, based on what we know at this time, including a robust commitment pipeline for new insurance written, we expect to write over $60 billion in new MI business in 2020. In our real estate operations, we are continually refining our service delivery models to adapt to social distancing requirements, including how property valuations are conducted and how real estate transactions are completed. Our capability to leverage data, analytics, and technology, along with our team's innovative response, has been well received by our clients. Overall, I’m proud to say our businesses are performing well with strong momentum during this unprecedented period. Given today’s macroeconomic environment and the anticipated increase in defaulted loans, our capital position is critical. At Radian, we have concentrated on optimizing our capital position, enhancing our return on capital, and increasing our financial flexibility to address any market and economic fluctuations. As the economic implications of COVID-19 became increasingly uncertain, we suspended our share repurchase program as of March 19. As of March 31, Radian Group maintained a solid capital position with $648 million in available liquidity. Additionally, we have a $265.5 million credit facility which we extended through January 2022. Our focus is on several key capital management factors, including the expected rise in our PMIERs minimum required assets due to increasing COVID-19 forbearance defaults and estimating potential long-term claims and losses from these defaults. The PMIERs capital requirements established after the financial crisis provide a structure resilient to extreme stress scenarios. Regarding our current PMIERs position, Radian Guaranty had about $4.1 billion in available assets under PMIERs as of March 31, resulting in a cushion of approximately $1.1 billion or 38% above our minimum required assets. I want to highlight that our minimum required assets were reduced by $1.6 billion at March 31 because 68% of Radian Guaranty’s primary mortgage insurance risk in force is covered by some form of risk distribution through reinsurance and capital markets. In assessing our PMIERs minimum required assets, it is crucial to recognize that COVID-19 is categorized under PMIERs as a FEMA-declared major disaster event, leading to a 70% reduction in the PMIERs capital charge for loans that default during this event, including those in a forbearance plan, since these defaults are anticipated to have a higher likelihood of curing post-event. Currently, all states and the District of Columbia have been recognized as FEMA-declared major disaster areas, so capital reductions are being applied nationwide. You can find more details regarding this criteria in our assumptions detailed in our 10-Q, filed last night and available on our website. Based on the latest MBA survey, roughly 6% of GSE mortgages are in forbearance. We expect a higher percentage of forbearance among loans we insure, particularly those with an LTV of 80% or above. Although estimating the ultimate PMIERs capital impact related to the COVID-19 forbearance defaults is challenging, our current projections as of June 30, 2020, indicate we have the consolidated resources to support a default rate of up to about 25% of our estimated mortgage insurance portfolio. This is based on our PMIERs cushion and resources available at our holding company as shown on the webcast Slide 19. Regarding potential claims and losses, it is important to note that private mortgage insurers do not pay claims until title to the property is transferred, primarily through foreclosure. Whether a default results in a paid claim depends on various factors, including the extent of the macroeconomic decline due to the COVID-19 pandemic and the beneficial effects of government and investor programs set up to assist borrowers. We believe that the measures enacted by the government through the CARES Act, including financial assistance for the taxpayer stimulus, increased unemployment benefits, mortgage forbearance programs, loss mitigation options, and the halt on foreclosures and evictions align our industry with a shared objective of supporting borrowers through this temporary hardship and helping them remain in their homes. Since we anticipate that it will take several years to develop losses and make claim payments, we believe our current capital resources, combined with the continued future contributions from our strong insurance portfolio, position us well. In summary, despite the risks and uncertainties that the COVID-19 pandemic presents, we believe we are well-positioned to fulfill our role as a private mortgage insurer. It’s essential to mention that our industry represents the only committed source of long-term private capital, consistently underwriting and supporting mortgage credit risk throughout different market cycles. We continue to engage in new business today, supporting our customers and their borrowers, and we intend to maintain this approach throughout the cycle, applying our strong risk management practices to create economic value and achieve our targeted risk-adjusted returns. The proactive measures we've taken over recent years to prepare for an economic downturn, such as enhancing our debt maturity profile, leveraging economic value to structure our portfolio, managing customer relations, implementing more granular risk-based pricing, and expanding our use of risk distribution strategies to minimize the risk and financial volatility in our mortgage insurance portfolio, along with building our PMIERs cushion and Radian Group's liquidity, have reinforced our capital and financial status, enabling us to navigate this unprecedented scenario. Now, I would like to hand the call over to Frank for further insights on our financial situation.

Frank Hall, CFO

Thank you Rick and good morning everyone. As Rick mentioned, our first-quarter 2020 results were excellent, and I am pleased to share more details on those results shortly. I will also touch on some of the potential risks to our future operating performance expected as a result of the COVID-19 pandemic at the end of my remarks, but it is important to note that our results for the first quarter were relatively unaffected by the impact of COVID-19. As a reminder, given that the GAAP accounting standard for mortgage insurance establishes reserves only after a borrower has missed two loan payments, the financial impact from expected delinquencies associated with COVID-19 forbearance programs are likely to occur beginning in the second quarter. So turning now to our first-quarter results. I would like to highlight changes to our reporting segments as reflected in our release. These segment reporting changes align with the recent changes in personnel reporting lines, management oversight, and branding following the sale of Clayton in January of this year. Reflecting these changes, we now have two reportable segments: mortgage and real estate. Among other changes, the historical results for Clayton have been removed and are now included in a separate all-other category to aid in the analysis of trends for our two reportable segments. The segment information included in press release Exhibit E has been recast to this new structure for all periods presented. Additional background on these changes can also be found in our press release. To recap our financial results issued yesterday evening, we reported GAAP net income of $140.5 million or $0.70 per diluted share for the first quarter of 2020 as compared to $0.79 per diluted share in the fourth quarter of 2019 and $0.78 per diluted share in the first quarter of 2019. Adjusted diluted net operating income was $0.80 per share in the first quarter of 2020, a decrease of 7% from the fourth quarter of 2019 and an increase of 10% over the same quarter last year. I'll now turn to the key drivers of our revenue. As Rick mentioned earlier, our new insurance written was $16.7 billion during the quarter compared to $20 billion last quarter and $10.9 billion in the first quarter of 2019. Direct monthly and other recurring premium policies were 81% of our new insurance written this quarter, a slight decrease from 82% for the fourth quarter of 2019 and 83% for the first quarter a year ago. In total, borrower paid policies accounted for 97% of our new business for the first quarter. Primary insurance in force increased to $241.6 billion at the end of the quarter, with year-over-year insurance in force growth of 8%. It is important to note that monthly premium insurance in force increased 11% year over year and has grown by approximately $33 billion over the past two years. Given the current mortgage rate environment, changing industry forecasts and the overall COVID-19 operating environment, it is expected that persistency will be more volatile in the near term and therefore difficult to predict, though will likely decrease. Our 12-month persistency rate of 75.4% decreased from 78.2% in the prior quarter and 83.4% in the first quarter of 2019. Our quarterly annualized persistency rate was 76.5% this quarter, an increase from 75% in the fourth quarter of 2019 and a decrease from 85.4% in the first quarter of 2019. The year-over-year decline in quarterly annualized persistency is primarily driven by increased refinance activity observed in the quarter. Moving now to our portfolio premium yield. Our direct in-force premium yield was 46.1 basis points this quarter compared to 47.1 basis points last quarter and 48.6 basis points in the first quarter of 2019. Our level of single premium policy cancellations accounted for 4 basis points of yield in the first quarter compared to 4.4 basis points in the prior quarter and 1.8 basis points in the same quarter a year ago. As noted in previous quarters, we expect our in-force portfolio yield to continue to decline as recent trends of lower persistency and higher levels of new insurance written contribute to a faster rate of turnover of our mortgage insurance portfolio which accelerates this premium yield decline. The timing and magnitude of future portfolio yield changes will continue to depend on several factors including the volume, mix, and pricing of new business relative to volume and mix of cancellations and prepayments in our portfolio. With regard to our pricing on new business, we remain focused on maximizing economic value and generating attractive risk-adjusted returns in the mid-teens. These projected returns do not include the impact of insurance-linked notes, but do incorporate the impact of our single premium quota share reinsurance program which is a forward commitment by our panel of reinsurers and is in place at the time of loan origination. Radian Guaranty continued to execute its risk distribution strategy in the first quarter of 2020 by entering into the 2020 single premium QSR program which covers the 2020 and 2021 vintages of single premium production. Net mortgage insurance premiums earned were $277.4 million in the first quarter of 2020 compared to $301.5 million in the fourth quarter of 2019 and $263.5 million in the first quarter of 2019. The decrease of 8% on a linked-quarter basis is primarily attributable to a $17.4 million impact from the recognition of deferred initial premiums on monthly policies recognized in the fourth quarter of 2019. Excluding the impact of the fourth-quarter 2019 adjustment, our linked quarter decrease was approximately 2%. Our net premiums earned increased 5% compared to the first quarter of 2019 primarily attributable to the growth in our insurance in force as well as the increase in single premium policy cancellations. Total real estate segment revenue was $28.6 million for the first quarter of 2020, representing a 6% increase compared to $27 million for the fourth quarter of 2019 and a 24% increase compared to $23 million from the first quarter of 2019. Our reported real estate adjusted EBITDA for the first quarter of 2020 was impacted by several immaterial transition-related expenses and recorded a loss of $365,000. Our investment income this quarter of $41 million was down 1% from the prior quarter and 7% from the same quarter prior year due to lower investment yields which were partially offset by higher balances in our investment portfolio. At quarter end, the investment portfolio duration was approximately four years, consistent with the prior quarter. Moving now to our loss provision and credit quality. As noted on Slide 14, the provision for losses for the first quarter of 2020 includes positive development on prior period defaults of $5.9 million, a decrease from favorable reserve development on prior period defaults of $18.2 million recognized in the first quarter of 2019. The positive development in the first quarter of 2020 was driven by CARES and other activity on foreclosures and other aged defaults. As noted on Slide 15, observed trends in claim submissions and cures during the first quarter of 2020 were favorable in comparison to prior quarters. However, we did not make any material adjustments to our reserve assumptions during the period primarily due to uncertainty that previous favorable trends would persist given the potential impact of the COVID-19 pandemic. The default-to-claim assumption on new defaults remained at 7.5% during the first quarter of 2020, consistent with the fourth quarter of 2019. It is expected however that the impact of forbearance programs related to COVID-19 will materially change the reported delinquencies in the second quarter of 2020, and our default-to-claim rate assumptions on new defaults will be reevaluated in the context of available information at that time. Now turning to expenses. Other operating expenses were $69.1 million in the first quarter of 2020 compared to $80.9 million in the fourth quarter of 2019 and $78.8 million in the first quarter of 2019. The decrease in operating expenses on a linked-quarter basis was primarily driven by lower incentive expense in this quarter relative to last quarter. The decrease in expenses compared to the first quarter of 2019 were primarily driven by higher ceding commissions due to single premium policy cancellations which reduced our expenses as well as a decrease in legal and other professional services expense. Now moving to capital. For Radian Guaranty, in January, we closed on our third insurance-linked note transaction of approximately $488 million. This brings the total insurance-linked note issuance by Eagle Re to approximately $1.5 billion, with remaining coverage outstanding of approximately $1.2 billion, covering originations from January 2017 to September 2019 for our monthly premium business. In total, we have reduced Radian Guaranty's PMIERs capital requirements by $1.6 billion as of the first quarter 2020 by distributing risk through both the capital markets and third-party reinsurance execution as noted on press release Exhibit L. As a reminder, in the first quarter, we terminated our intercompany reinsurance agreement with Radian Reinsurance resulting in the transfer of $6 billion of risk from Radian Reinsurance to Radian Guaranty, along with a $465 million return of capital from Radian Reinsurance to Radian Group, and the transfer of $200 million of cash and marketable securities from Radian Group to Radian Guaranty in exchange for a surplus note. Following these steps, Radian Guaranty now holds all of our traditional mortgage insurance risk, and Radian Reinsurance exclusively holds our exposure to the GSE's credit risk transfer programs. For Radian Group, as of March 31, 2020, we maintained $648 million of available liquidity. Total liquidity, which includes the company's $267.5 million unsecured revolving credit facility, was $916 million as of March 31, 2020. And just yesterday, we extended our $267.5 million credit facility by 15 months to January of 2022. During the first quarter of 2020, Radian Group repurchased approximately 11 million shares of our common stock for approximately $226.3 million including commissions under the August 2019 share repurchase program. And during the quarter, we announced the suspension of our share repurchase program by canceling the 10b5-1 plan effective March 19, 2020. The current share repurchase authorization expires on August 31, 2021, and has purchase authority remaining of up to $199 million. And now to the expected impact of COVID-19. The impact of COVID-19 on our operating results is expected to have both short-term and long-term impacts. We expect to experience a short-term impact over the next couple of quarters when we expect to see higher delinquencies driven by government-supported forbearance programs. While we expect these programs to be beneficial in terms of ultimate losses, these delinquencies will trigger both an increase in the minimum required assets, factors of PMIERs, and for our GAAP financial statements through our initial estimate of the ultimate claim rate which will drive higher provision expense and higher reserve levels. The expected longer-term impact for PMIERs will be driven by the overall number of delinquencies and how these delinquencies age or cure. The expected longer-term impact for our GAAP financials will depend on what our actual claims experience on COVID-19-based defaults will be relative to our second quarter and subsequent period reserve estimates. And as Rick mentioned earlier, actual claims could take years. While PMIERs is frequently referred to as a capital framework, it is actually an asset-based framework that is calibrated to a significant stress scenario and has little or no impact on our GAAP financial statements, but rather focuses on the maintenance of sufficient high-quality assets to pay claims. Minimum required asset factors for both performing loans and delinquent loans are defined within PMIERs and are expressed as percentages of the risk held. As delinquent loans age through older delinquency or missed payment buckets, the minimum required asset factor increases. The highest percentage change in asset factor occurs in the initial delinquency bucket of two to three missed payments, where the minimum required asset factor moves from an approximate 6% to 7% level for performing loans, up to 55% for initial defaults. In the FEMA-declared major disaster areas, this 55% asset factor is reduced by 70% to 16.5%, still a significant increase from the base 6% to 7%. So, as Rick mentioned, we expect to be able to absorb up to 25% of our portfolio in delinquent loans as of June 30, 2020, depending on the level of holding company resources we use. This is simply the application of the relevant PMIERs minimum required asset factor for our projected portfolio with escalating delinquencies at that time relative to our then projected excess of available assets over minimum required assets. Generally speaking, minimum required assets can be reduced by reinsurance and other risk transfer, and available assets can be increased by contributions from the holding company to the operating company, as well as from positive operating cash flows over time. Our GAAP financial statements are impacted by our own estimates of ultimate losses, not formulaic and static factors of PMIERs. It is critical to understand this difference primarily because movements in PMIERs minimum required assets may imply a different view of ultimate expected losses than our own. It is also important to remember that our initial loss estimates will be based upon the best information we have at the time to estimate a default-to-claim rate. However, our initial estimates may be materially different from what ultimately rolls to claim. These estimates are updated in every reporting period and could cause material fluctuations in our provision expense in each period. Despite the increased risks and uncertainties posed by the COVID-19 pandemic, the quality of our mortgage insurance portfolio and the steps we have taken in recent years to enhance our financial strength and flexibility have positioned us well for an economic downturn, and we believe will help us weather the macroeconomic stresses ahead. Some of these industry and Radian-specific mitigants include maintaining over $900 million in total liquidity at our holding company and no debt maturities until October 2024. The risk-based capital framework of PMIERs has been fully implemented by all mortgage insurers and has increased to the available resources of the industry to withstand stress events. At Radian Guaranty, we have $1.1 billion in excess PMIERs available assets. We also have significant benefits from risk distribution transactions on more recent vintages, and our older vintages have benefited from significant home price appreciation, providing another potential barrier to loss. Loan originations since the last financial crisis have been underwritten in a more disciplined environment driven in large part by the qualified mortgage loan requirements under the Dodd-Frank Act and are of much higher quality than those written during 2008 and prior. There have also been significant advancements in the risk-based pricing framework that have helped increase the flexibility of the mortgage insurance industry in recent years. The shift away from a predominantly rate card-based pricing model and the increase in black box and other pricing frameworks such as our RADAR Rates tool provides a more dynamic pricing capability that allows for more frequent and targeted pricing changes throughout the mortgage insurance industry and the ability to respond to macroeconomic shifts more quickly. Because of this, we, at Radian, have been able to institute significant price increases in response to the greater risks and uncertainties to the macroeconomic environment resulting from the COVID-19 pandemic. And as Rick mentioned, there are policy changes occurring now and potentially in the future that will likely support keeping people in their homes and preventing foreclosure. And while these strategic and systemic defenses will not provide complete immunity to the expected upcoming negative effects to our results, we believe that we are much better positioned to absorb the impact of economic stress than in the global financial crisis. I will now turn the call back over to Rick.

Rick Thornberry, CEO

Before we take your questions, I'd like to remind you of a few items. The first quarter of 2020 was a very strong quarter for the company. We believe that we are well positioned to weather this negative economic environment resulting from the COVID-19 pandemic with strong PMIERs capital and Radian Group available liquidity plus the unrecognized future value in our insurance portfolio. While the market has changed dramatically, and our team is working currently remotely, we believe we have the resources and capabilities to continue to deliver our broad array of products and services to our customers and come out of this environment in a strong position. I also want to note that while we are managing our business in the new normal, we are also focused on making sure that we support our communities through thoughtful and high-impact charitable contribution programs, both as a company and in support of our employees. Operator, we are ready to take questions.

Operator, Operator

Our first question comes from Mihir Bhatia from BoA.

Mihir Bhatia, Analyst

Good morning and thank you for taking my questions. I hope everyone is staying safe and healthy. I would like to start by discussing the forbearance loans and default-to-claim rate assumptions. I realize it may be too early to provide specific numbers, but could you compare the range you observed during the crisis regarding your prime loans and the crisis in terms of default-to-claim with what you anticipate following a natural disaster? This would help us understand what a reasonable range of outcomes might be for that default to claim.

Derek Brummer, President of Radian Mortgage

This is Derek. In terms of the crisis, it's a little hard to use that as a proxy, one, given the fact that that was a housing-led downturn. Also, fundamental home prices were significantly overvalued at that point. Also, the underwriting quality and credit quality was much worse. So on those defaults, they roll at a much higher level. I think that a better proxy is if you look at hurricane propensities to roll the claim after default, those were significantly lower. And if you look at kind of our experience with Harvey and Irma, you would see kind of a roll to claim rate more in that 2% range. So the question, I don't think you would use the financial crisis as probably a good proxy for a roll to claim. What you would look at is just a bit of a combination of I would say a natural disaster induce. So you would see that as a bit of a proxy for a roll to claim. But as part of this, you also have real economic stress. But it's important to keep in mind that that economic stress is on much better quality loans with better underwriting and also much more temporary in nature in terms of its dislocation from an economic perspective which would also push down the probability that those loans would ultimately roll to claim. So that's why, I think you'd look at more of a run-of-the-mill recession and also more kind of our disaster experience. And it's kind of a combination of those things that you use to get your ultimate I would say roll to claim rate.

Mihir Bhatia, Analyst

Understood, that's helpful, thank you. I have another question. Are there any statistics you can share regarding borrower-level industry exposure? Certain segments of the economy are more affected, and I'm trying to understand recovery rates and how quickly defaults might translate into claims based on your borrower business, if you have that information.

Derek Brummer, President of Radian Mortgage

Yes, it’s a bit challenging to provide a specific statistic. What we observe, as indicated by the data, is that those applying for unemployment in the initial wave tend to come from income segments that are underrepresented in the mortgage borrower pool and less reflective of our portfolio. This complicates the use of traditional measures like unemployment to determine a default rate because it skews away from our portfolio. Similarly, from an industry perspective, the impact is more concentrated in sectors such as restaurants and leisure, which are also not well represented. This is significant because we factor these elements into our pricing strategy. When considering pricing adjustments, we are increasing prices more proportionately in areas with greater concentration in those industries. Compared to historical trends, I would say that the unemployment forbearance trend has shifted away from our segment more than it has in the past.

Rick Thornberry, CEO

And this is Rick. I might just add one comment to Derek's comments which he alluded to which is really just trying to understand the split between renters and homeowners in that unemployment number. And given Derek's characteristic of kind of that group, we really are watching the rent roll rates as much as we are kind of forbearance because from all the statistics, we can see is this is hitting renters potentially pretty hard as well. So again, more information to come, and we all need more data. But I think it's something that we're watching very carefully as well.

Mihir Bhatia, Analyst

That is helpful. Thank you. And then just last question before I'll jump back in queue. But I had a question on the disaster relief on the 70% or the 30% multiplier, if you will, the disaster relief capital charge discount. There's a line in your 10-Q about the GSEs potentially interpreting that less favorably. I was just curious, what do you mean by that? Because I guess my understanding, like when you look at the PMIERs, it's there. So what is up for interpretation on that? Thank you.

Derek Brummer, President of Radian Mortgage

I think the risk factors are primarily related to how the haircut is applied moving forward. Essentially, you identify the loans that received the initial haircut and examine the events that occurred 30 days prior to and 90 days after. The key question is how long that multiplier remains applicable. When looking at the PMIERs, you focus on FEMA-declared disaster areas eligible for individual assistance. This is less concerning for us because approximately 90% of our risk is in those areas. The significance lies in the fact that if a loan is in one of those areas and is under a forbearance plan, it maintains a 70% haircut for as long as it remains in forbearance. The real concern revolves around the remaining 9% of loans that are not in eligible areas. This represents the primary risk at the moment. Additionally, there are technical aspects to consider; unlike hurricanes, which have a specific event date, this situation involves a more ongoing natural disaster. Therefore, determining the event's timeframe is more complex. These are the technical nuances we are currently discussing in relation to the PMIERs.

Mihir Bhatia, Analyst

Just to clarify, there isn't a risk that they would say this 70% isn't what we meant when we referred to a natural disaster. They would need to make a change to PMIERs to state that. So, as a base case, it is safe to assume that it does apply because it is PMIER designated.

Derek Brummer, President of Radian Mortgage

Right. Yes, it's pretty clear in the language. These are declared disaster. It's very clear which ones are subject or eligible for individual assistance. So it would have to be a fundamental change with respect to how they're approaching the PMIERs for that change to be made. Understood. Thank you. I'll jump back in queue. Thank you.

Operator, Operator

Our next question comes from Bose George from KBW.

Bose George, Analyst

Good morning. I would like to revisit the topic of capital. It seems that this year, due to the forbearance and the discount multiplier, you are in a strong position concerning high forbearance rates. Looking ahead to next year, once the forbearances conclude, if there happens to be an organic recession resulting in high delinquencies, capital may be needed again. I’m interested in how you are approaching this. Are there strategies being considered to ensure capital availability if it becomes necessary in the future?

Frank Hall, CFO

Thank you, Bob. This is Frank. Regarding our capital planning in the current environment, we will remain flexible and adjust our capital positioning to stay nimble as the situation changes. This may involve utilizing more reinsurance and ILNs. At present, we have approximately $2 billion in excess available resources under PMIER guidelines, which provides us with a 68% cushion. As circumstances evolve, we will respond accordingly to ensure we're well-positioned. Fortunately, as Derek mentioned, the haircut is beneficial. We need to observe how governmental policies develop, as there seems to be a general interest in keeping people in their homes. If measures like a foreclosure holiday persist, that will reduce ultimate claims, and we'll monitor how all of these factors align moving forward. The possibilities are numerous, and we aim to use the best information available to maintain our strength and flexibility over time.

Bose George, Analyst

That makes sense. Thanks. And then actually, going back to the comments you said you made about price increases. Can you give us an idea of the magnitude of the increases? And also just in terms of the ROE, is it essentially still targeting the same ROE but the higher prices just incorporate the higher risk now in terms of returns?

Derek Brummer, President of Radian Mortgage

Yes, this is Derek. That's a good question. So that's the right way to think about it. As we consider pricing, we are adjusting it to reflect the new economic conditions and the anticipated rise in delinquencies during this stressful period. Our goal is to align our pricing with our targeted returns. Consequently, we have made significant price adjustments across the board. In certain areas, particularly from a credit or geographic perspective, we have increased prices more or less depending on our assessment of the associated risks to achieve the expected returns we aim for. Based on the available data, it appears that our competitors have also raised their prices. Some may have done it more selectively, while we have implemented price increases broadly. We are consistently monitoring the competitive landscape and looking for ways to enhance the economic value generated from new business. This is why our new pricing tool, RADAR Rates, is beneficial; it allows for dynamic and flexible pricing adjustments, enabling us to manage the portfolio effectively and respond quickly to changes in economic conditions.

Bose George, Analyst

And actually, what's significant is whether that's over 20% or if we need to be less precise about what that means.

Derek Brummer, President of Radian Mortgage

Yeah. I think generally, you've been seeing price changes I would say just industrywide, ranging I would say anywhere from 10% to 50% increases depending upon again very dependent upon kind of the credit sectors that people are trying to target. So I would say, significant double-digit price increases we've been seeing.

Operator, Operator

Next question comes from Mackenzie Aron from Zelman.

Mackenzie Aron, Analyst

Thanks. Good morning. Following up on the pricing changes. Can you also give us some insight into the underwriting changes that you've made? And I know there have been some product restrictions, and any way to quantify what percent of volume that was done in 2019 may no longer be eligible?

Derek Brummer, President of Radian Mortgage

We have stopped underwriting investor loans and cash-out refinances, which represented a very small portion of our overall portfolio, definitely less than 1%. The underwriting changes we've implemented aim to adapt to the current environment, where challenges such as verifying employment, income, and assets exist. This means we've tightened documentation requirements and reduced the timeline for updating necessary documents. Furthermore, we're conducting additional diligence in underwriting, especially given the complexities that can arise during the appraisal process. These changes are designed to help us manage risk effectively. We're collaborating closely with the GSEs, and we've observed changes in their automated underwriting systems. Overall, the business we've moved away from isn't significant, but we are seeing adjustments in our underwriting processes to mitigate tail risk. Additionally, when we look at our risk profile, we've noticed an ongoing trend over the past year and a half. The percentage of our business with a FICO score below 680, LTV greater than 95, and DTI greater than 45 has increased significantly. However, the combination of these layered risks has dramatically decreased. It's important to note that our recent books of business, which have experienced less significant home price appreciation, are among the highest credit quality we've ever underwritten.

Mackenzie Aron, Analyst

That's helpful. Thank you. And then switching gears. On the Real Estate services segment, can you talk about expectations around that business this year, given the lower transaction environment? And how we should be thinking about the contribution?

Rick Thornberry, CEO

Thank you, Mackenzie. I’m glad to provide input on that. We've started the year strong from a business perspective following the sale of Clayton, which has allowed us to refocus on a core set of real estate assets. Our primary aim is to grow our title valuation, asset management, and other real estate services, with a specific emphasis on real estate transactions. We appointed Eric and Brien as co-heads of this segment and integrated our sales, operations, technology, and marketing teams across the four product groups. Our focus involves competing with monoline players that specialize in either valuation or title services. Our teams are dedicated to establishing a disruptive presence in their respective markets. Given the current market uncertainty, we are not in a position to provide guidance at this time. However, I can say that the momentum in our businesses is quite strong, particularly with regard to refinancing activity and valuation title, which are driving growth. As the year progresses and the environment stabilizes, I hope to provide clearer guidance. The team has excelled following the changes made in mid-March, as they effectively increased volume in our title and valuation businesses. I’m pleased to report that we’re seeing significant receptivity from our MI clients, increasing our penetration across multiple products and acquiring new clients. Currently, our strategy focuses on high-value opportunities in the markets closely tied to our MI partnerships, especially after selling the Clayton business. Overall, I’m very satisfied with our progress and look forward to sharing more positive developments in upcoming quarters.

Mackenzie Aron, Analyst

That's all. Thank you Rick.

Rick Thornberry, CEO

Thank you.

Operator, Operator

Our next question comes from Jack Micenko from SIG.

Jack Micenko, Analyst

Hi. Good morning everyone. Frank, I wanted to revisit your initial comments about the 25% delinquency rate in PMIERs compliance. Does that figure assume the initial asset factor for the three-month delinquency, or does it extend out to the one year? Also, where does that $2 billion available fit in? I'm referring to the 68% cushion when factoring in all the debt and untapped resources. How does that influence the calculation?

Frank Hall, CFO

Sure Jack. The 25% figure comes from an estimate made as of June 30. Considering where we are now with the delinquencies tied to forbearance programs, most of them are only in the missed two to three payment category as of June 30. This is likely the most significant assumption in calculating that number. That's what we're considering. The resources we are assigning to absorb that number are the total resources shown on Slide 19, which represent the estimated resources as of June 30 too. It's crucial to keep in mind that the June 30 estimate includes the PMIERs cushion along with the expected holding company available resources and the credit facility.

Jack Micenko, Analyst

Rick, can you discuss the $60 billion figure and what you're observing in April regarding volume, whether it's year over year or divided between purchase and refinance? It's clear that refinancing numbers will be significantly higher than previously anticipated, which should support confidence in reaching the $60 billion full-year estimate.

Rick Thornberry, CEO

Thank you, Jack. We are feeling optimistic about exceeding $60 billion, as we noted earlier, especially with a strong pipeline of new commitments. Refinances are increasingly significant in the market, and we have observed that purchases may rebound as listings become available. However, we currently expect a growing share of refinances and a declining share of purchase loans overall. Our activity in refinances is increasing, and our committed pipeline is solid. As we consider the outlook for the second half of the year, we are mindful of factors such as government stimulus funding, interest rate changes, and the state of the purchase market. Therefore, we are maintaining a cautious perspective on future developments. Based on our current assessment, we feel confident about exceeding $60 billion. Hopefully, by the end of the second quarter, Derek and I will be able to provide a clearer outlook for the rest of the year, but we believe it may be too soon to make predictions for the second half.

Jack Micenko, Analyst

Got it. Hey Frank, just real quick, one more, if I could sneak one in on expenses and run rate. You had some volatility in the expense line. It came in better this quarter, and I think there were some incentive and some one-timers. But as we go into this and everybody sort of activates their transition plan, there's some tech spend that probably goes up, but then there's some offset. The sales force is now entertaining and that sort of a thing. How do we think about expense run rate through the balance of the year on a quarterly basis?

Frank Hall, CFO

Sure. Last quarter, we were estimating a $70 million quarterly figure following the sale of Clayton. It's likely too early to determine the lasting effects of the changes in the landscape. If things return to normal, whatever that means, I believe that figure is probably a reasonable estimate. However, it truly is premature to make any definitive adjustments at this time.

Jack Micenko, Analyst

Okay. Fair enough. Thanks guys. Good luck.

Frank Hall, CFO

Thank you.

Operator, Operator

Our next question comes from Mark DeVries from Barclays.

Mark DeVries, Analyst

Thanks for the follow-up question on the 25% default assumption. Frank, do you have an idea of how high the default rate can rise before you need to distribute any excess resources from the holding company to Radian Guaranty? Is it straightforward to say that it would be in the 12% to 15% range, considering that it appears to represent about half of the available excess assets?

Frank Hall, CFO

Yeah. That actually is a good estimate for what that range is.

Mark DeVries, Analyst

And should we assume that you're just going to be hoarding cash at the holding company until you get a sense that those kind of defaults have peaked out?

Frank Hall, CFO

Our approach has historically focused on ensuring that our cash is strategically positioned across our legal entities to maintain maximum flexibility. We will remain attentive to the operating company's requirements and respond accordingly. However, we want to ensure that we retain maximum flexibility at the holding company while being mindful of the PMIERs cushion at the operating company. We'll observe how this evolves over time, especially as we gather new information and see how the second quarter takes shape. This has been our general strategy for managing resources throughout the organization.

Rick Thornberry, CEO

And Mark, this is Rick. I want to add to Frank's comments. As we released our 10-Q last night, we provided detailed information on the risk factors regarding our views on the capital situation, and you can take a look at that. Additionally, we have intentionally held capital at the holding company to maintain financial flexibility, which may differ from others. We have always considered capital at the holding company to be flexible, especially in this type of environment. As things develop, they will guide our actions moving forward. We continuously evaluate capital on a consolidated basis.

Mark DeVries, Analyst

Got it. My next question might be for Derek. Can you discuss what assumptions you're making regarding rates when you price for a mid-teens return in this environment? Should we anticipate that this will be lower than what you expect to see on your existing book?

Derek Brummer, President of Radian Mortgage

I'm sorry, you cut out slightly there. Are we assuming what would be lower?

Mark DeVries, Analyst

The ultimate default rate in claims rate on new insurance that you'll be writing today would be lower than what you expect to see on your existing book.

Derek Brummer, President of Radian Mortgage

The way to approach this is by considering that as we adjust our pricing, we are factoring in a higher expected default rate for new business. We are utilizing a simulation approach to pricing, analyzing various scenarios. Given the current economic conditions, which indicate a potential recession, the expected outcomes in our simulations have worsened. This results in assumptions of increased claim rates, prompting us to adjust our pricing accordingly. Additionally, the higher claim rates suggest an increase in default rates, which necessitates holding more capital. These factors serve as inputs to determine a suitable price that aligns with our targeted returns.

Mark DeVries, Analyst

Understood. And then any color you can provide on kind of what you would assume today on kind of those default rates and claim rates?

Derek Brummer, President of Radian Mortgage

I'm not going to provide too many specifics on the assumptions since they are quite fluid. It's important to remember that we are still in the early stages of this process and are collecting a lot of information, especially with the upcoming payment dates in May. We continuously adjust our pricing, and any base case I mention will likely become outdated quickly. Our dynamic pricing requires constant adjustments, and due to the unprecedented nature of this situation, there is notable volatility in those adjustments. Our modeling considers significant factors like home price trends and unemployment rates, and we observe that a large portion of those facing unemployment may only be temporary. The speed of recovery in those areas will be crucial. We consistently refine our assumptions and look at how they impact home prices. Fundamentally, we believe home prices were fairly valued before this situation, and the supply-demand balance was healthy without much speculative excess. Therefore, while we anticipate some pressure on home prices, we do not foresee a significant decline in our base case scenarios, although we are making ongoing adjustments as needed.

Rick Thornberry, CEO

I think Mark, I want to emphasize that Derek and his team have done an outstanding job with RADAR Rates by quickly incorporating real-time analytics into our pricing. In the past, the industry struggled to make pricing changes, but now we can respond rapidly and adjust to the risk environment as it happens. What Derek mentioned is applied in the marketplace in real time.

Mark DeVries, Analyst

Great. Appreciate all the color.

Operator, Operator

And our next question comes from Geoffrey Dunn from Dowling & Partners.

Geoffrey Dunn, Analyst

Thanks. Good morning.

Frank Hall, CFO

Good morning.

Derek Brummer, President of Radian Mortgage

I think you said earlier on, maybe one way to think about this is kind of a combination of hurricane considerations and a run-of-the-mill recession, so something like a Moody's S3? Did I catch that correctly? I believe that's the appropriate perspective to have. It's challenging to differentiate between these types of defaults, so it’s important to consider them as a whole. In the short term, it could be more disastrous, particularly due to some of the early forbearances. Typically, during a disaster, businesses may shut down and then resume operations, but this situation might extend over a longer period compared to a hurricane disaster. We see this as a significant factor. However, it's crucial to remember that not all businesses will reopen and not all jobs will return as they would in a natural disaster, leading to a more typical recessionary effect as well. One aspect to consider is the unprecedented government support; in an average recession, such as an S3, we wouldn’t typically see measures like expanded unemployment benefits, direct financial aid to individuals, or PPP loans. So, even if we view this as a standard recession, the government support will exert downward pressure. Additionally, for borrowers facing difficulties in repaying missed forbearance payments, it’s likely that these amounts will be added to the end of their mortgages. In this scenario, driven by health issues and policy decisions, there’s a concerted effort to keep individuals in their homes, which is crucial for us since we don’t incur claims until the foreclosure process is initiated. Thus, this situation combines elements of a natural disaster and a typical recession, but with significant government intervention on an unprecedented scale.

Geoffrey Dunn, Analyst

What I wanted to understand is whether ILNs typically attach in the majority of the scenarios Radian is analyzing. Just a couple of years ago, the normalized loss assumption in pricing was around two to two and a half percent cumulative. On average, I would say ILNs were attaching at about two and a half percent. Considering your perspective and the various scenarios you are exploring, do you generally see ILNs attaching in most cases?

Derek Brummer, President of Radian Mortgage

Our expectation is that we generally do not see attachments on the ILNs. While there are common scenarios to consider, such as using Moody's S3, in which you would not see an attachment, with Moody's S4, some ILNs do attach while others do not. This is particularly relevant for the newer ILNs, as we were fortunate to issue one that covered the first three quarters of 2019. In the case of S3, there is a potential for attachments to occur. However, overall, I would say that these ILNs are not attaching and are instead providing tail coverage, as we are observing in most reasonable scenarios.

Geoffrey Dunn, Analyst

So on a life-of-book basis, while near term could be painful, if you're not attaching ILNs, you're not exceeding maybe two and a half cumulative, it doesn't sound like your targeted returns are likely all that disrupted. Is that the right conclusion?

Derek Brummer, President of Radian Mortgage

Again, I would say that there's a lot of uncertainty around it in terms of that economic path. But I do think the way to think about it is kind of making a distinction which Frank talked a bit about which is kind of a short term I would say PMIERs capital increase issue we have because as you have these delinquencies, you have to stack increased capital because PMIERs is quite pro cyclical in that sense. But if you think about it over the long term and the probability that those go delinquent in curing, and again, that natural disaster kind of scenario I talked about, you do see kind of this I would say front-loaded increase in delinquencies. So you have an increase in PMIERs capital, and then you have incurred losses, but then that should be pretty front-loaded. And over the long term again I think that depending on the scenarios, that's why I think we feel pretty comfortable from an ultimate claim perspective and how this plays out over the long term. But again, I would just caution, there's obviously a lot of uncertainty around that because it's based upon the information we have at this point in time, and it's going to be heavily dependent upon what happens, not only from an economic perspective but what's happening from a health perspective and how quickly states get back up online and how long they stay online.

Operator, Operator

And I will turn it over to CEO, Rick Thornberry, for final remarks.

Rick Thornberry, CEO

Thank you for joining our first virtual call. Derek, Frank, John, and I are all in different locations across the country, and our team has created a successful remote environment. I want to wish you and your families good health during these challenging times. I also want to commend our employees for their outstanding work. We asked everyone to leave their offices quickly and transition to remote work, and they have handled it exceptionally well. Our customers have frequently praised their efforts. We look forward to ongoing discussions as the situation evolves and hope to speak with you all soon. Thank you, and stay safe.

Operator, Operator

Thank you ladies and gentlemen, this concludes today’s conference. Thank you for participating. You may now disconnect.