Annaly Capital Management (NLY) Q4 2021 Earnings Call Transcript

Annaly Capital Management (NLY 0.67%)
Q4 2021 Earnings Call
Feb 10, 2022, 10:00 a.m. ET

Contents:

• Prepared Remarks
• Questions and Answers
• Call Participants

Prepared Remarks:

Operator

Good morning, and welcome to the Annaly Capital Management fourth quarter 2021 conference call. [Operator instructions] Please note, this event is being recorded. I would now like to turn the conference over to Sean Kensil, director of investor relations. Please go ahead.

Sean Kensil -- Director of Investor Relations

Good morning, and welcome to the fourth quarter 2021 earnings call for Annaly Capital Management. Any forward-looking statements made during today's call are subject to certain risks and uncertainties, including with respect to COVID-19 impacts, which are outlined in the risk factors section in our most recent annual and quarterly SEC filings. Actual events and results may differ materially from these forward-looking statements. We encourage you to read the disclaimer in our earnings release in addition to our quarterly and annual filings.

Additionally, the content of this conference call may contain time-sensitive information that is only accurate as of the date hereof. We do not undertake and specifically disclaim any obligation to update or revise this information. During this call, we may present both GAAP and non-GAAP financial measures. A reconciliation of GAAP to non-GAAP measures is included in our earnings release.

As a reminder, Annaly routinely posts important information for investors on the company's website, www.annaly.com. Content referenced in today's call can be found in our fourth quarter 2021 investor presentation and fourth quarter 2021 financial supplement, both found under the Presentations section of our website. Annaly intends to use our web page as a means of disclosing material nonpublic information for complying with the company's disclosure obligations under Regulation FD and to post and update investor presentations and similar materials on a regular basis. Participants on this morning's call include David Finkelstein, president and chief executive officer; Serena Wolfe, chief financial officer; Ilker Ertas, chief investment officer; Mike Fania, head of residential credit and other members of management.

And with that, I'll turn the call over to David.

David Finkelstein -- President and Chief Executive Officer

Thank you, Sean. Good morning, everyone, and thank you for joining us for our fourth quarter earnings call. Today, I'll provide an overview of the current macro environment, briefly discuss our performance during the quarter and full year 2021 and close with our outlook for the year ahead. Ilker will then provide more detailed commentary on our investment portfolio, while Serena will discuss our financial results.

And as noted, our other business heads are also here to provide additional color during Q&A. Now, beginning with the macro landscape, we saw increasingly challenging market conditions in the fourth quarter and into 2022 as the robust performance of the U.S. economy has made it evident that a withdrawal of pandemic era stimulus is imminent. Strong consumption and investment activity helped the U.S.

economy grow 5.7% in real terms in 2021, marking the best annual growth in nearly 40 years. Meanwhile, the labor market has seen a rapid recovery as employers added 6.4 million jobs last year and the unemployment rate fell to 3.9%. Both measures suggest that the labor market has recovered significantly since the onset of the pandemic. Stimulus measures fueled this rapid recovery, which has also spurred inflation to generational highs as seen in December when the consumer price index reached 7% year over year.

Although much of this increase in prices was initially seen as temporary, ongoing elevated price gains across various categories of goods and services raise the risk that inflation could persist for some time. Accordingly, current macroeconomic conditions have led to a meaningful shift by the Fed, which now views less accommodative monetary policy is the primary way to ensure parts of its mandate, full employment and stable prices are being met. In addition to an accelerated taper, Fed has begun to signal a larger number of hikes than previously expected. Front-end rate markets are pricing roughly 25 basis point rate hikes this year beginning in March, up from just two -- one quarter ago.

Given the uncertainties around the economy, the Fed is likely to direct market pricing and hike in line with it rather than provide forward guidance well ahead of time. The Fed has also begun to discuss shrinking its balance sheet, and we expect the Fed will let assets run off at a pace faster than the prior taper of $50 billion per month. Now, this notable shift in policy expectations and higher volatility have led to a tightening of financial conditions and an underperformance of assets most closely tied to monetary policy, best seen through the spread widening in agency MBS in recent weeks. Turning to Annaly's portfolio, agency MBS underperformed given weaker demand following the initiation of Fed taper and a flattening of the yield curve.

In anticipation of wider spreads, we managed the portfolio to decrease leverage and optimize our asset allocation with total assets decreasing by approximately $5 billion to $89 billion in the quarter. As a result, economic leverage declined slightly from 5.8 times to 5.7 times. Now, we were certainly not immune to the spread volatility as we experienced an economic return of negative 2.4% however, we generated earnings available for distribution of $0.28, unchanged from the prior quarter and exceeding our dividend by $0.06 per share. With respect to capital allocation, in line with recent quarters, we increased the allocation to our credit businesses by approximately 200 basis points to 32% in the fourth quarter as prospective returns continued to favor credit.

Looking back on the full year, our credit allocation increased approximately 10 percentage points from December 2020, even with the successful sale of our commercial real estate business, which underscores the favorable fundamentals and strong execution from our resi credit and middle market lending businesses. Now, I'll touch more on our outlook shortly, but notably, both market and business-specific tailwinds remain favorable for our credit businesses. Now, 2021 was a transformative year for Annaly, marked by the sale of our CRE business, the launch of our mortgage servicing rights platform and the expansion of our residential credit business. The collective impact of these initiatives has increased our presence throughout residential housing finance and allow us to allocate capital effectively where returns are most attractive, a key differentiator for Annaly.

Now, I'd like to briefly touch on notable milestones in our businesses and how they have better equipped Annaly to be nimble in the midst of volatility. First, our MSR business had a solid year with assets increasing over $500 million throughout 2021 to $645 million. We successfully established our MSR platform last year through the addition of key hires, procurement of strategic partnerships and build out of the operations and infrastructure necessary to scale the business efficiently. As a result of these efforts, we have proven to be a key player in the market ending the year as the fifth largest bulk buyer of MSR.

And with over $200 million of MSR commitments already through the end of January, we're continuing to see progress toward fully scaling the platform and we expect to see increased market activity given diminished originator profitability. Our residential credit platform, which grew nearly 90% last year, remains diversified with the ability to deploy capital efficiently in either whole loans or securitized markets. The generation of assets for Annaly's balance sheet, while controlling strategy, diligence and servicing outcomes remains paramount to our investment approach. Business activity was enhanced by the launch of our whole loan correspondent channel which expanded our sourcing capabilities through the addition of new strategic partners and product offerings.

We've also benefited from new bulk partnerships established outside of our correspondent channel and altogether, these efforts helped drive the group's record $4.5 billion in whole loan purchases last year, which exceeded the amount of originations in both the prior two years combined. Further, Onslow Bay remains a programmatic issuer of securitizations, pricing 13 whole loan transactions totaling $5.3 billion since the beginning of 2021 with OBX being the fourth largest nonbank issuer of prime jumbo and expanded prime MBS over the past two years. And with housing fundamentals expected to stay strong, residential credit should remain a key driver of our overall portfolio growth in the year ahead as we build on our origination and securitization momentum. Now, shifting to our 2022 outlook.

Our portfolio is well prepared for volatility, which we anticipated would materialize as the Fed normalizes monetary policy. First, we have thoughtfully reduced our economic leverage to one and a half turns since the onset of COVID to 5.7 times, the lowest it's been since 2014. Our defensive leverage profile is further supported by our low capital structure leverage with 88% of our equity in common stock and minimal asset level structural leverage as highly liquid agency MBS make up the vast majority of our portfolio. Second, we have substantial liquidity with $9.3 billion of unencumbered assets up $500 million year over year.

And this liquidity is complemented by a wide array of financing options, including our own broker-dealer. And finally, we are conservatively hedged to mitigate interest rate risk with a year-end hedge ratio of 95%, and we expect to remain close to fully hedged over the near term. Now, with ample liquidity and historically low leverage, we are well positioned to take a more offensive posture if and when the opportunity presents itself. While agency returns are increasingly attractive as Ilker will elaborate on, we believe there will be better tactical opportunities out the horizon, and we'll be patient given uncertainty around the market and the Fed.

But should assets continue to widen past current levels, which we deem close to fair value, we stand ready to add fundamentally desirable assets. Now, Finally, before handing it off to Ilker to discuss our portfolio in greater detail, I wanted to congratulate him on recently being named our Chief Investment Officer. I've worked with Ilker at three different institutions for the better part of the past 20 years, and I cannot think of an individual more knowledgeable about mortgages and prepayments or better suited to help us drive success for Annaly into the future.

Ilker Ertas -- Chief Investment Officer

Thank you for the kind words, David. As you discussed, the fourth quarter was challenging for Agency MBS due to a combination of factors. The Fed initiated and then accelerated the taper, which in conjunction with risk of sentiment caused by the virus variant and geopolitical risks led to significant curve flattening and an uptick in interest rate volatility. Mortgage investors, notably banks turned their attention to 2022 without Fed support and decreased the pace of their purchases.

MBS underperformance was broad-based across the coupons stack with supply weighing on to upside threes, while higher coupons struggled into the curve flattening. Although our portfolio was not immune to these sectors, we had been proactively reducing our MBS based exposure throughout 2021. In fourth quarter, we reduced our agency holdings by roughly $5 billion, primarily through TBA sales, bringing the total 2021 portfolio reduction to $10 billion. Through this resizing, our portfolio construct remains well positioned across the coupon stack.

In lower coupons, we continue to favor TBAs, which maximize our liquidity profile and despite the initiation of the taper, dollar roll financing remains special in the context of 30 to 40 basis points. Meanwhile, our specified portfolio is based up in coupon, up in quality and is roughly four years season, which should provide resilient cash flows as we shift out of the financing environment and into on debt favors for extension protection. In terms of our interest rate exposure, we adjusted hedges toward the front end of the yield curve by selling additional short-term treasury futures, which increased our hedge ratio to 95% of our liabilities. We have also added short-term software swaps, which are an efficient hedge to our repo-funding levels.

Our conservative hedge portfolio is integral to managing high volatility market environments like the one we experienced recently. At the current rate levels, to converge the profile of the Agency MBS market has improved meaningfully, but we continue to pursue a conservative approach to managing interest rate risk. Since the year-end, we have seen a higher in rates and repricing in MBS as the market digests technical impact of Fed monetary policy tightening. Following the move, wider MBS spreads are within a few basis points of their average 2018 levels, which was the last time the Fed was reducing balance sheet.

When drawing historical comparisons, we believe mortgage cash flows are currently more attractive compared to 2018 for multiple reasons. Other fixed income alternatives are relatively tight from a historical perspective. More of the mortgage universe is locked away in Fed and bank held-to-maturity portfolios and the prepayment outlook is much better for the mortgage universe. In higher coupons, remaining borrowers did not refinance after months with historically low mortgage rates.

So we anticipate they would be less reactive to changes in rates going forward. Meanwhile, due to very high realized home price appreciation, cash-out refinancings should alleviate extension risk in lower coupon mortgages. All these factors should materially improve the profile and predictability of mortgage cash flows. Consistent with these trends, our portfolio paid 21.4 CPR in Q4, 7% slower than in Q3, and we expect a further deterioration of approximately 15% in Q1 of 2022.

With respect to our MSR platform, our fourth quarter purchases brought the portfolio to nearly $650 million in market value net of runoff. Additionally, as David mentioned, with over $200 million in bulk MSR commitments in January and the recent price appreciation due to the sell-off in rates, our current MSR portfolio has reached nearly $1 billion in market value. The sector remains very active due to consistent disposition of MSR by the originator community. Coupled with wider spreads, we see this as an attractive growth opportunity for our MSR business which is complementary to our core agency strategy.

Turning to residential credit. We continue to execute our primary strategy of acquiring expanded residential whole loans through Onslow Bay. The economic value of residential credit portfolio grew by approximately $330 million quarter over quarter, primarily through the addition of $1.7 billion of whole loans, the retention of assets manufactured through our OBX securitization platform and the deployment of capital into short spread duration securities. Return on our securitization strategy remains in the low double digits with minimal recourse leverage.

The residential credit portfolio ended Q4 with $4.6 billion of assets representing $3.1 billion of the firm's capital. Our view on housing fundamental strength remains intact despite mortgage rates increasing as the shortage of one to four units single-family housing in the United States continues to be a long-term structural issue that has no near-term resolution. The supply demand imbalance of housing stock, combined with the strength of the consumer's balance sheet has continued to play out in outsize on price appreciation, positive resolution out of forbearance agreements and stable delinquency roll rates, all benefiting our existing portfolio. Lastly, our middle market lending portfolio had an active quarter closing nine deals totaling over $325 million in commitments, while five borrowers repaid.

Middle market lending ended the fourth quarter with nearly $2 billion in assets, up 4% from the prior quarter. The portfolio's strong credit profile is demonstrated through a 10% increase in underlying borrowers' average EBITDA since closing and a nearly 30% reduction in system reserves throughout the year with no loans on non-accruals. And as discussed last quarter, the close of our private closed-end fund allows for increased capital allocation flexibility and provides recurring fee revenue to the REIT. As David discussed, the current environment is marked by challenging conditions as the Fed begins to remove with accumulative policy that has supported asset prices and financial conditions since the onset of the pandemic nearly two years ago.

We remain focused on protecting the portfolio through defensive positioning and proactive hedging. In addition, a key focus will be to opportunistically grow our MSR and residential credit businesses which should provide strong returns and diversification benefit to our broader portfolio. Although we remain patient in light of recent spread widening in Agency MBS, the improving cash flow fundamentals and increased prospective returns on the sector should provide attractive reinvestment opportunities and even potentially bring leverage back to levels more consistent with our historical leverage considerate of our overall capital allocation framework. With this, I will hand it over to Serena to discuss our financials.

Serena Wolfe -- Chief Financial Officer

Thank you, Ilker, and good morning, everyone. Today, I'll provide brief financial highlights for the quarter and as of December 31, 2021 and discuss select year-to-date metrics. Consistent with prior quarters, while our earnings release disclosures GAAP and non-GAAP earnings metrics, my comments will focus on our non-GAAP EAD and related key performance metrics, which exclude PAA. As discussed earlier, the last quarter of the year exhibited challenging market conditions resulting from a risk off sentiment over the Omicron variant and anticipation around the initiation of the Fed tapering.

Notwithstanding this more difficult economic return environment, we have again delivered solid earnings and ample coverage, approximately 125% of our dividend. To set the stage with some summary information. Our book value per share was $7.97 for Q4, and we generated earnings available for distribution per share of $0.28. Book value decreased $0.42 for the quarter primarily due to lower other comprehensive income of $680 million or $0.47 per share on higher rates and spread widening and the related declining valuations on our agency positions, as well as the common and preferred dividend declarations of $349 million or $0.24 per share, partially offset by GAAP net income of $418 million or $0.29 per share.

Our multifaceted hedging strategy continued to support the book value, albeit in a more muted fashion this quarter due to the aforementioned spread widening with swaps, futures and MSR valuations contributing $0.16 per share to the book value during the quarter. Combining our book value performance with our fourth quarter dividend of $0.22, our quarterly and tangible economic returns were negative 2.4%. Subsequent to quarter end, as Ilker and David both mentioned earlier, we continue to see significant spread widening impacting the valuation of our assets, which is partially offset by the benefit of our MSR investments and rate hedging strategy through January with our book value ending the month down 3% compared to December 31, 2021. Diving deeper into the GAAP results, we generated GAAP net income for Q4 of $418 million or $0.27 per common share, net of preferred dividends, down from GAAP net income of $522 million or $0.34 per common share in the prior quarter.

The most significant drivers of lower GAAP income for the quarter is the unrealized losses on investments measured at fair value through earnings of $15 million in comparison to unrealized gains of $91 million in Q3 and realized losses on disposal of investments in the quarter of $25 million as compared to gains of $12 million in Q3 along with the previously referenced lower net gains on the swaps portfolio by $42 million. As I mentioned earlier, the portfolio continued to generate strong income with EAD per share of $0.28, consistent with Q3 earnings, and we continue to generate strong earnings while prudently managing lower leverage resulting in an EAD ROE per unit of leverage of 2.3%. We have previously communicated that we anticipate earnings to moderate. Notwithstanding this, we expect earnings to sufficiently cover the dividend for the near term, all things equal.

Average yields remained flat at 2.63% compared to the prior quarter. However, dollar roll income contributed to EAD in Q4 reaching another record level at $118.5 million. EAD also benefited from higher MSR net servicing income associated with the growth of the MSR portfolio and lower G&A expenses, which I will cover further later. The portfolio generated 203 basis points of NIM ex PAA, down one basis point from Q3 driven by the improved TBA dollar roll income, offset by higher swap expense on a lower average receive rate.

Now, turning to our financing. As I noted in the prior quarter, we have benefited from our ample liquidity position and the robust financing market during 2021 with the previous quarter marking nine consecutive quarters of reduced economic cost of funds for the company and our year-to-date economic cost of funds being 79 basis points, down 55 basis points in comparison to the prior year. During Q4, the market pricing a more aggressive Fed tightening cycle, resulting in repo rates increasing across the curve. This upward trend along with higher swap rates impacted our overall cost of funds for the quarter rising by nine basis points to 75 basis points in Q4, and our average REPO rate for the quarter was 16 basis points compared to 15 basis points in the prior quarter.

Moving now to our operating expenses. Efficiency ratios improved by seven basis points in the fourth quarter with opex to equity of 1.21%. And for the entire year, the opex to equity ratio was 1.35% compared to full year 2020 of 1.55% as we realize the benefits we projected from the reduction in compensation and other expenses following the disposition of our acreage business and the internalization of our management. As a result of our continued build-out of our MSR and residential credit businesses, which are more labor-intensive and additional vesting of stock compensation issued in prior years, we anticipate that the range of opex to equity for 2022 and long range will be 1.4% to 1.55%.

And to wrap things up, Annaly maintained an abundant liquidity profile with $9.3 billion of unencumbered assets down modestly from the prior quarter at $9.8 billion, including cash and unencumbered Agency MBS of $5.2 billion. Much of the reduction in unencumbered agency securities was due to pressure on valuation, which is partially offset by increased unencumbered CRT, CMBS and non-agency securities. That concludes our prepared remarks. Operator, we can now open it up to Q&A.

Questions & Answers:

Operator

[Operator instructions] The first question is from Rick Shane of J.P. Morgan. Please go ahead.

Rick Shane -- J.P. Morgan -- Analyst

Hey, good morning, everybody. And Ilker congratulations. Look, I just have one sort of conceptual question. Historically, when we looked at the space, environments like we're in now, where there is a very clear expectation of rates moving higher, the actual risk to the industry where people really get carried out is when rates unexpectedly trend lower.

And again, I realize this is a tail risk in the current environment, but it's also an important consideration. And I'm just curious, as you're positioning the portfolio, how do you defend against that tail risk?

David Finkelstein -- President and Chief Executive Officer

Yeah. Hi, Rick. Great question. And you're absolutely correct that that would be a risk should rates move lower.

When we look at the forwards, we do see out the horizon, five year, five year, for example, in the range of around 210 or thereabouts, and we actually do a little on the low side. So our bias is a little bit toward higher rates. And we've certainly seen them, and you can see it in our hedge ratio and how we're hedged across the curve. But yes, you're right, there is that risk that rates for some reason or another whether it's geopolitical or something unexpected do end up rallying.

And as a consequence, even though our hedge ratio is 95%, there is some duration in the portfolio that we maintain for that eventuality, which is right now roughly around half a year. Again, it's not our base case that rates rally from here. We think the forwards are priced relatively well with the possibility of slightly higher rates should the market rally. I think we've managed through that just fine.

And it would probably also suggest that a lot of the expected actions on the part of the Fed may be delayed, which might create a little bit of a tailwind for us from the standpoint of earnings, as well as even balance sheet runoff out the horizon. So there's a silver lining in that eventuality as well. But we do keep a little bit of duration in the portfolio for that tail risk.

Rick Shane -- J.P. Morgan -- Analyst

Got it. And look, I realize it is sort of an out of the blue question, but it's literally almost 20 years to the day where we saw some mortgage REITs carried out in that scenario, there was a clear expectation of rates heading higher and you got the opposite and it caused immense destruction in the space.

David Finkelstein -- President and Chief Executive Officer

Yeah. Exactly. Exactly. Thank you for the question, Rick.

Rick Shane -- J.P. Morgan -- Analyst

Thanks, guys.

Operator

The next question is from Doug Harter of Credit Suisse. Please go ahead.

Doug Harter -- Credit Suisse -- Analyst

Thanks. Can you talk about how the agency MBS portfolio paired with MSRs has performed versus your kind of traditional swap hedges kind of in the fourth quarter in January, just kind of as that is growing as a percentage of your equity allocation?

Ilker Ertas -- Chief Investment Officer

Hi. Yeah, it's benefit, obviously, like agency -- like if the hedging is constructed carefully, definitely like MSR part hedges and current coupon exposure. But as I said, hedges need to be constructed carefully because when you are long agents -- when you are long MSR hedge with mortgages, your curve is -- you have a really big curve steepening. So that part needs to be hedged, but hedge carefully that benefited and will benefit.

David Finkelstein -- President and Chief Executive Officer

Yeah, Doug, I'll just say that the component of the portfolio of MSR paired with TBAs outperformed the equivalent component of the portfolio of swaps hedging TBAs -- TBAs since then. And to your point about capital allocation, we were 5% of capital at the end of the quarter with acquisitions thus far or commitments thus far, in Q1, it brings us up to about 7%. We set a steady state. We'd like to see it around 10%.

And we could overweight that or underweight that depending on what the environment looks like. But thus far, 2022 is shaping up to be a vibrant environment in terms of MSR transactions. I think there's been thus far, we've seen about $1.5 billion in market value transacted or priced thus far this year, and we've acquired about 20% of that.

Doug Harter -- Credit Suisse -- Analyst

I guess on that, can you just talk a little bit about who the sellers are and who makes kind of an attractive partner to you for kind of the continued sub-servicing and good risk characteristics to those MSRs?

Ilker Ertas -- Chief Investment Officer

Most of the sellers are nonbank originators as we predicted earlier on, and that's materializing, and we are seeing some residual like portfolios who bought them for negative duration purposes are selling but a bigger chunk of the sale. And going forward, we expect a good chunk of the sales will come from nonbank originators.

David Finkelstein -- President and Chief Executive Officer

Yeah, Doug, that was the thesis as we built the operations in-house is that we would ultimately be a liquidity need from folks like us with deep reservoir capital to finance MSR on the part of our forward nonbank originators and what we expect, it is playing out or has played out, and we expect it to continue to.

Doug Harter -- Credit Suisse -- Analyst

Great, thank you, both.

David Finkelstein -- President and Chief Executive Officer

You bet, Doug.

Operator

The next question is from Kenneth Lee of RBC Capital Markets. Please go ahead.

Kenneth Lee -- RBC Capital Markets -- Analyst

Hi, good morning. Thanks for taking my question. Just wondering, at a higher level, could you talk about in terms of adopting a more offensive approach toward investment opportunities. Are there any specific market conditions or macro backdrop factors that you're looking for before you start getting a little bit more offensive there? Thanks.

David Finkelstein -- President and Chief Executive Officer

Yeah, sure. Thanks, Ken. So look, what we've talked about in the past, and Ilker talks about every day, is when we look for to add agency to the portfolio is the quality of earnings. Now, obviously, we're at the lowest leverage point we've been since 2014.

And so, we certainly have the capacity to add mortgages and what's necessary is to make sure that the quality of earnings associated with Agency MBS is deemed to be high. And that's -- there's two components to that. First, with respect to the agency market, is the spread on the agency asset, as well as the predictability of the cash flows. Now, when we look at the widening that's occurred over the last number of months, spreads are ample in our view and look reasonably attractive.

In terms of the cash flow and predictability of the cash flow, the convexity profile of the agency market and our portfolio certainly has improved meaningfully since the beginning of the year. In fact, the negative convexity of the portfolio is down about 30% to 35% with the rate move and at current dollar prices. So from both a spread and a cash flow perspective, mortgages look pretty good. The other element that we have to consider when it comes to quality of earnings is expected volatility, and that has to do with the macro environment and how much it will cost to hedge agency MBS and that is still yet a little bit uncertain.

We got to get more clarity from the Fed with respect to the pace of rate hikes, as well as at what point we're going to see balance sheet runoff and what's that really going to look like. And so, from a quality of earnings standpoint, the criteria is nearly met or met from an agency spread and cash flow standpoint, we're still waiting for the macro environment to get a little bit more clear. Does that help?

Kenneth Lee -- RBC Capital Markets -- Analyst

Yeah. Very helpful. Very helpful. And then, one follow-up, if I may.

Wondering if you could just talk about thoughts around how potential flattening of the yield curve could impact Annaly? Thanks.

David Finkelstein -- President and Chief Executive Officer

Yeah. So always a good question. And I think it's -- our concern over a flattening of the yield curve is, I think, exemplified in the hedging that was done in the fourth quarter and even early into the first quarter. We do have a bias now toward a flattening with respect to our hedges.

At 95% hedge ratio, we feel like that's very strong, and we've actually increased it to over 100% since the beginning of the quarter. Part of that is attributable to the fact that we have some swaps rolling off in the second quarter that we wanted to get ahead in, but it's also a little bit defensive. And so, from the standpoint of the yield curve and protecting that, we feel like we're in good shape from a hedging standpoint. Now, in terms of earnings, those front-end swaps and those front-end hedges will offset higher repo expenses, and that's the design of those hedges.

So a flat yield curve is never a great environment for mortgages, but we've hedged it, as well as you can, I think.

Kenneth Lee -- RBC Capital Markets -- Analyst

Great. Very helpful. Thanks again.

David Finkelstein -- President and Chief Executive Officer

Thanks, Ken.

Operator

The next question is from Bose George of KBW. Please go ahead.

Bose George -- KBW -- Analyst

Hey, everyone. Good morning. Can you just discuss current returns both on TBAs and pools. And then, just talk about what you're expecting for specialness into the back half of the year.

Ilker Ertas -- Chief Investment Officer

Sure. So current returns improved quite a bit. In pools, you are talking about like a very low doubles at this point, conservatively hedged. On TBAs with still the special roles, you are expecting like 12 percentage-type returns, again, conservatively.

In terms of specialness of the roles, it will be highly coupon dependent. For example, like with this recent sell-off, market just skipped the 3% origination. So it moved from 2.5% to 3.5%. So we think that growth, depending on the coupon, will continue to be special, not as special as last year, but there will be pockets of specialness, and we have intention to take advantage of those.

Bose George -- KBW -- Analyst

OK. Great. Thanks. And then, the return on the MSR hedged with Agency MBS.

How does that differ from the return just on your -- the rest of the portfolio?

Ilker Ertas -- Chief Investment Officer

In terms of the return, absolute return, it's not that much different, marginally higher. But again, it's more stable. Like as David was mentioning, quality of the cash flows, if you are pairing mortgages with MSR, quality of the cash flows will be better. But in terms of overall return, especially if we are not levering MSR too much, it will not be that different.

And we are again applying too much leverage to the MSR portfolio.

Bose George -- KBW -- Analyst

OK, great. Thanks.

David Finkelstein -- President and Chief Executive Officer

Yeah, Bose.

Operator

The next question is from Eric Hagen of BTIG. Please go ahead.

Eric Hagen -- BTIG -- Analyst

Hey, thanks, good morning. I think a couple for me. Going back to the hedge portfolio and the short duration swaps. I think I can appreciate wanting to manage to a core earnings figure, but with five or six Fed hikes already priced into the yield curve, I think the fair value of those swaps should already reflect that.

So just going forward, I mean, are there any rebalancing efforts that you take toward that short-duration swap portfolio? And then it's really nice to see you guys so active as issuers of securitization. I would love to hear your view on how you think liquidity conditions develop for securitized assets as the Fed withdraws liquidity. Thanks.

David Finkelstein -- President and Chief Executive Officer

Yeah. So I'll start off and then Ilker and Mike can jump in on the securitization. So look, yes, the market has well priced Fed expectations. We have -- as of this morning, there's six hikes priced in for 2022, and we get to two more out the horizon.

And when you look at what the market's pricing versus what the Fed is priced. The market saying, we get to -- we peak at 2% when you look at OIS this morning at the end of next year. The Fed is saying they're going to get to 2.5% in the long run. So there's still remains somewhat of a debate, even though the market over the very recent past has moved closer to the Fed.

At some point, we would -- if we think the front end is too cheap, we will absolutely lift it, and I'll bring you back to a point at a similar time, the last time the Fed was entering into a policy normalization period, which was 2014, we had a considerable amount of front-end swaps, and we listed $27 billion in front-end hedges. We're not there yet, but we will be proactive if we do think the front-end is too cheap. And to the extent the market gets too far. So yes, we'll manage that actively.

And on the securitization question, Fani, you can jump in.

Mike Fania -- Head of Residential Credit

Sure. Thanks, Eric. This is Mike. I think in terms of securitization, you've seen some of the numbers that we put out in terms of how active that we've been.

And a lot of that is that the capital markets have been conducive to securitizing. So since the beginning of 2021, we've done 13 deals, $5.3 billion in issuance. We've created about $450 million of OBX securities through that. But I think most importantly for us, if you look at year-end, about 82% of our whole loan portfolio was financed through securitization.

If you fast forward to today, about 87% was financed. So we've locked in and about 90% of that is fixed rate. So we've locked in a very low 2% cost of funds on our whole loan portfolio. So I think we've been able to be very opportunistic in terms of accessing the capital markets.

I think on a go forward, we just went through a year in which there was $210 billion of issuance in the non-agency market. You had to go back to 2019 to have anywhere near that level, and that was about $140 billion. So the market, I think, has done a fairly good job of digesting the technicals of increased supply over the past year and a half, two years. I think on a go forward, we've built up the investor base for AAA non-agency investors.

But in a market like this, there will be a lot of volatility. AAA spreads on non-QM are probably out 50 basis points since the end of Q3. But I think for us, we remain committed to term financing our portfolio, and we will be opportunistic in doing so. But I think we've done a fairly good job of locking in financing on close to 90% of that portfolio.

Eric Hagen -- BTIG -- Analyst

That's it. Thanks so much.

David Finkelstein -- President and Chief Executive Officer

You bet. Thanks, Eric.

Operator

The next question is from Brock Vandervliet of UBS. Please go ahead.

Brock Vandervliet -- UBS -- Analyst

Oh, good morning. Thanks for the question. Just following up on that one regarding non-agency. And clearly, housing -- anything housing related has been a great place to be with the freight train of home price appreciation and up until now, very low rates.

There is a school of thought that once mortgages tap around 4%, you're finally going to see some real housing pressure in terms of potentially lowering, reducing the purchase market activity. Do you subscribe to that? How are you feeling about the housing market and especially non-QM in the context of higher rates?

Mike Fania -- Head of Residential Credit

Sure. So thanks, Brock. I appreciate your question. I think in terms of higher rates, we've seen the mortgage rate go from a 320-mortgage rate at the end of Q3 to about 4% walking in here today.

If you look at just an aggregate 350K loan size, that mortgage payment is up about $150 given that 75, 80 basis point increase in mortgage rates. So that's about a 10% increase in terms of the payment. Coupled with home price appreciation being up 18%, 19%, one of the tailwinds that we see within the resi market is potential affordability concerns. I think you have to go back to 2010 to kind of where we're at.

However, the non-QM market, the expanded prime market, about 65% of that market and of our purchases has come from the purchase market. So I think into its sell-off into mortgage rates, what we've seen, we've seen significant interest from nonbank originators that normally would not have interest in terms of moving toward non-QM and expanded prime given their desire to clean some of that purchase business. So that market is not -- it's not immune to higher rates. However, given that it is a high percentage of cash out and purchase business, we do feel that it will have strength going forward in terms of originations.

Brock Vandervliet -- UBS -- Analyst

OK. Got it. And just flipping over to the MSR business also here clearly seeing plenty of pressure among the non-bank originators, the ramp-up in this business was -- looks very well timed. Can you give us a sense, you mentioned the $1.5 billion, I believe, in flow? Where do you think that could go the remainder of the year? And kind of part two, what sort of price dislocation are you seeing in these transactions?

David Finkelstein -- President and Chief Executive Officer

Yeah, Brock. So it's difficult to predict how much volume there could be this year, but we think it will be elevated relative to years past. And the nonbank origination community has taken up an increasingly greater share of overall origination and these are operating companies, not portfolio companies. And when you look at the profitability of origination right now to get to a cash flow positive point, you do -- it does require selling the MSR.

So a lot of it will be determined by origination. Origination will be much lower this year than it was last year, probably half on a gross basis but there's also a lot of stock in the hands of nonbank originators. And a lot of it isn't hedged, and they've done quite well with the sell-off. And so, there's some monetization.

There's new origination, which will be lower than it was last year, obviously. And there'll, in our view, be enough flow to satiate demand. And the buyers have been reasonably competitive. Multiples are -- they're elevated, but the OASs are certainly attractive.

The barriers to entry in the sector are quite high, which gives us comfort that we're going to be able to acquire as much MSR as we need to acquire, and we feel like it's advisable for relative value. So we feel like it will be a healthy environment for us for this year.

Brock Vandervliet -- UBS -- Analyst

Got it. OK, thank you.

David Finkelstein -- President and Chief Executive Officer

Good talking to you, Brock.

Operator

The next question is from Kevin Barker of Piper Sandler. Please go ahead.

Kevin Barker -- Piper Sandler -- Analyst

Good morning. Thanks for taking my questions, I appreciate it. So most of my questions have been answered, but I wanted to check in just given the MSR market, I appreciate all the comments you've already given. But are you -- what are the gross yields you're seeing on new MSRs today just given the amount of liquidity that's being allocated to MSRs with rates moving higher? Are you seeing an increasing amount of competition for that asset class, even though nonbanks are increasingly putting more MSR in the market?

Ilker Ertas -- Chief Investment Officer

In terms of yields, let's say, unhedged, unlevered yields are high single, so which is pretty attractive. In terms of our competition for buying the assets, yes, we are seeing like -- still a residual of the money that has been raised and they have been like bidding into that. But there was also big buyer base of buying for the recapture for it so to feed their origination business. So we expect that part of the buyer base will be gone.

But so far, it's a very healthy environment. Out of flow is coming, and buyers are taking a little bit wider spread, so which will be more than welcome. But so far, everything is healthy.

Kevin Barker -- Piper Sandler -- Analyst

OK. The rest my questions have been answered. Thank you.

David Finkelstein -- President and Chief Executive Officer

Thanks, Kevin.

Operator

Next question is from Kevin Heal of Argus Research. Please go ahead.

Kevin Heal -- Argus Research -- Analyst

Good morning. With regards to the MSR portfolio, can you give indication of the WACC at year-end and also what you estimate the WACC, given the additional purchases of $210 million in early Jan. Thanks.

Ilker Ertas -- Chief Investment Officer

Sure. Obviously, like we have been buying very low gross WACC MSR. So our overall growth rate on this entire thing is like below 3%. So as you know, the current mortgage rate is 4% right now, it's well out of the money.

The new MSR purchases, so obviously, it's coming from the flow side, it will be around 4% growth rate. But there is plenty of old MSR sitting in the originators books that David mentioned around like low threes growth rate that we will be competitive in. But our current growth rate on the overall book is like less than 3%, which is like very attractive cash flows right now.

Kevin Heal -- Argus Research -- Analyst

Thanks.

David Finkelstein -- President and Chief Executive Officer

Thank you, Kevin.

Operator

This concludes our question-and-answer session. I would like to turn the conference back over to David Finkelstein for closing remarks.

David Finkelstein -- President and Chief Executive Officer

Thank you. Thank you, everybody, for joining us, and let's talk next quarter after we wind down this pandemic and everybody stays safe in the mean time.

Operator

[Operator signoff]

Duration: 50 minutes

Call participants:

Sean Kensil -- Director of Investor Relations

David Finkelstein -- President and Chief Executive Officer

Ilker Ertas -- Chief Investment Officer

Serena Wolfe -- Chief Financial Officer

Rick Shane -- J.P. Morgan -- Analyst

Doug Harter -- Credit Suisse -- Analyst

Kenneth Lee -- RBC Capital Markets -- Analyst

Bose George -- KBW -- Analyst

Eric Hagen -- BTIG -- Analyst

Mike Fania -- Head of Residential Credit

Brock Vandervliet -- UBS -- Analyst

Kevin Barker -- Piper Sandler -- Analyst

Kevin Heal -- Argus Research -- Analyst

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