AGNC Investment Corp. (AGNC) Q4 2022 Earnings Call Transcript

AGNC Investment Corp. (AGNC 1.32%)
Q4 2022 Earnings Call
Jan 31, 2023, 8:30 a.m. ET

Contents:

• Prepared Remarks
• Questions and Answers
• Call Participants

Prepared Remarks:

Operator

Good morning, and welcome to the AGNC Investment Corp. fourth-quarter 2022 shareholder call. [Operator instructions] Please note this event is being recorded. I would now like to turn the conference over to Katie Wisecarver in Investor Relations.

Please go ahead. 

Katie Wisecarver -- Investor Relations

Thank you all for joining AGNC Investment Corp.'s fourth-quarter 2022 earnings call. Before we begin, I'd like to review the safe harbor statement. This conference call and corresponding slide presentation contains statements that, to the extent they are not recitations of historical fact, constitute forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995. All such forward-looking statements are intended to be subject to the safe harbor protection provided by the Reform Act.

Actual outcomes and results could differ materially from those forecast due to the impact of many factors beyond the control of AGNC. All forward-looking statements included in this presentation are made only as of the date of this presentation and are subject to change without notice. Certain factors that could cause actual results to differ materially from those contained in the forward-looking statements are included in AGNC's periodic reports filed with the Securities and Exchange Commission. Copies are available on the SEC's website at sec.gov.

We disclaim any obligation to update our forward-looking statements unless required by law. Participants on the call include Peter Federico, director, president, and chief executive officer; Bernie Bell, executive vice president, and chief financial officer; Chris Kuehl, executive vice president, and chief investment officer; Aaron Pas, senior vice president, non-agency portfolio management; and Sean Reid, executive vice president, strategy and corporate development. With that, I'll turn the call over to Peter Federico.

Peter Federico -- Director, President, and Chief Executive Officer

Thank you, Katie. Throughout our 15-year history, we have noted that rapid and sizable interest rate changes are the most challenging environments for levered fixed-income investors. Importantly, however, these transitions have generally preceded our most favorable investment environment. As I'll discuss in greater detail, the investment opportunity ahead could be one of the most favorable and durable in AGNC's history. For the fixed-income markets, 2022 was among the worst years ever experienced.

Interest rates across the yield curve moved materially higher as the Fed increased the federal funds rate 425 basis points in just 9 months. The yield on the 10-year treasury increased by close to 250 basis points. To put that move in historical context, the total return on the 10-year treasury in 2022 was the worst annual performance in over 100 years. The sharp increase in treasury rates pushed mortgage rates to their highest level in more than two decades.

Agency MBS often underperformed other fixed-income asset classes during significant market downturns. This was indeed the case last year as spreads across the mortgage coupon stack widened to levels rarely seen before. Similar to the 10-year treasury, the total return on the Agency MBS index in 2022 at negative 12% was the worst year on record dating back to 1980. These challenging conditions peaked in September and October when monetary policy and macroeconomic uncertainty was at its highest point.

On our third-quarter earnings call, we highlighted the tension between extraordinarily attractive investment returns and highly uncertain financial market conditions. We also noted our expectation that a uniquely favorable investment environment would eventually emerge. Since that time, bond market sentiment has improved materially. This positive shift coincided with investors recognizing the unique investment opportunity available in Agency MBS on both a levered and unlevered basis.

At the same time, weaker inflation data allowed the Fed to slow the pace of monetary policy tightening, which in turn led to a decline in interest rate volatility. These positive developments attracted investors back to the fixed-income markets. The key question for investors today, of course, is not what happened, but rather where do we go from here. Will the Agency MBS market revert back to the challenging conditions that characterized 2022? Or is the outlook for 2023 more favorable? We strongly believe it is the latter.

We believe the positive shift in bond market sentiment that occurred in November likely marks the beginning of the recovery for Agency MBS. Market shifts like this evolve over time and are not linear. But that said, we do believe the recovery is underway. This favorable outlook for Agency MBS is supported by several positive dynamics.

First, even though Agency MBS spreads tightened in the fourth quarter, they remain wide by historical standards and continue to represent a compelling investment opportunity. This is especially true for levered investors such as AGNC, given the significant improvement in funding that has occurred over the last several years. Moreover, while bias tighter, we believe spreads will remain wider than previous historical averages. This would be a welcome development for AGNC and supportive of our ability to generate attractive returns for shareholders over time. Second, the demand for Agency MBS will likely outpace the supply even without Fed purchases.

Ongoing affordability challenges and a slower housing market will limit the organic supply of Agency MBS this year. In addition, runoff on the Fed's portfolio will be extremely slow, given minimal refinance activity. Third, interest rate volatility is poised to decline. The Fed has already slowed the pace of rate increases and is nearing the inflection point in monetary policy. If inflation data continues to moderate and the Fed pauses, interest rate volatility should fall materially.

Greater interest rate stability and a more stable economic outlook could reignite bank demand for Agency MBS and increase the demand for fixed-income securities more broadly from a wider range of investors. So to summarize, we believe strong investor demand, manageable supply, and improving interest rate stability together strengthen the outlook for Agency MBS. Importantly, with the Fed expected to gradually unwind its mortgage portfolio over the next several years, this environment could also prove to be more durable than previous episodes. With spreads above historical norms and funding conditions favorable, AGNC is well-positioned to generate attractive returns for shareholders without compromising our long-standing risk management discipline.

With that, I'll now turn the call over to Bernie Bell to discuss our financial results. 

Bernie Bell -- Executive Vice President, Chief Financial Officer

Thank you, Peter. For the fourth quarter, AGNC had total comprehensive income of $1.17 per share. Economic return on tangible common equity was 12.3% for the quarter, comprised of $0.36 of dividends declared per common share and an increase in our tangible net book value of $0.76 per share. The strong increase in our tangible net book value of 8.4% for the quarter was driven by a tightening of spreads between our mortgage assets in swap and treasury-based hedges.

As of last Friday, tangible net book value was up approximately 10% for January. Leverage at year-end was 7.4 times tangible equity, down from 8.7 times as of the third quarter, primarily due to the improvement in our tangible net book value and a lower asset balance. Average leverage for the quarter was 7.8 times tangible equity compared to 8.1 times for the third quarter. During the fourth quarter, we also opportunistically issued approximately $187 million of common equity through our at-the-market offering program. As of quarter end, we had cash and unencumbered Agency MBS, totaling $4.3 billion or 59% of our tangible equity and $100 million of unencumbered credit securities.

Net spread and dollar roll income, excluding catch-up amortization, was $0.74 per share for the quarter. The decline from $0.84 per share for the third quarter was primarily a function of our smaller asset base; higher repo funding cost; and lower dollar roll income, which offset higher asset yields and higher interest rate swap income for the quarter. Lastly, our average projected life CPRs as of the end of the quarter increased modestly to 7.4%, while actual CPRs continue to slow meaningfully averaging 6.8% for the quarter. I'll now turn the call over to Chris Kuehl to discuss the agency mortgage market.

Chris Kuehl -- Executive Vice President, Chief Investment Officer

Thanks, Bernie. As Peter discussed, Q4 marked a decisive turn for fixed-income markets. Interest rates peaked in October with five-year treasury yields reaching nearly 4.5% before retracing the move as the outlook for Fed policy solidified on evidence that inflation is beginning to slow. The par coupon agency spread to a blend of five- and 10-year treasury hedges, widened to 180 basis points in October before gapping titer as sentiment turned and investors took advantage of the highest yield levels and wider spreads on production coupon Agency MBS in more than 10 years.

Early in the quarter, lower coupon MBS materially underperformed higher coupons. However, as index-based fixed-income bond fund flows improved, lower coupons made up for much of the early underperformance to end the quarter only marginally behind production coupons, with the entire coupon stack outperforming treasury and swap-based hedges. During the fourth quarter, we continued to optimize our holdings with a bias toward 30-year production coupon MBS. As of December 30, our asset portfolio totaled $59.5 billion. Our hedging activity during the quarter was relatively minimal, although we did opportunistically move a portion of our hedges to points further out the curve.

At quarter end, the hedge portfolio totaled $67.6 billion, and our duration gap was 0.4 years. Over time, as the Fed reaches its desired short-term rate level, our hedge ratio will gradually decline and our hedge composition will likely shift toward a greater share of longer-term hedges. As Peter mentioned, the outlook for returns this year is favorable. Despite the outperformance in the fourth quarter, spreads on production coupon MBS are still materially wider than the average levels during 2018 and 2019 when the Fed was last reducing its balance sheet.

From current levels, we're not expecting significant tightening, but we do expect to extract the economic value from wider spreads through strong earnings over time. The combination of wide spreads, low prepayment risk, and robust funding markets for Agency MBS has created an attractive and what we believe will be a durable investment environment. I'll now turn the call over to Aaron to discuss the non-agency markets. 

Aaron Pas -- Senior Vice President, Non-Agency Portfolio Management

Thanks, Chris. Credit spreads in the fourth quarter tightened for most sectors and across the capital structure as inflation data eased and the economic outlook improved. In response to the strong performance, we opportunistically sold about $300 million in non-agency securities over the quarter, ending the year with a total portfolio of $1.4 billion. While we did reduce our portfolio allocation of credit, we remain very comfortable from a credit perspective with our current composition of our non-agency portfolio and our specific holdings.

The majority of our residential credit holdings are backed by or reference seasoned loans and, as such, now benefit from a significant amount of house price appreciation. On the commercial side, the vast majority of our securities are supported by significant levels of credit enhancement. Looking forward, issuance in both residential and commercial mortgage factors is expected to remain relatively low. The supply dynamic has contributed to spread tightening year-to-date, particularly against the backdrop of inflows into fixed income.

As a result, we expect most spread product to trade directionally with rates, barring a material repricing associated with a more severe recession than currently anticipated. Should bond fund inflows accelerate, we expect this would be favorable for spreads against the lower supply backdrop. With that, I'll turn the call back over to Peter. 

Peter Federico -- Director, President, and Chief Executive Officer

Thank you, Aaron. With that, we'll now open the call up to your questions.

Questions & Answers:

Operator

Excuse me. I apologize for the inconvenience. [Operator instructions] The first question comes from Vilas Abraham with UBS. Please go ahead.

Vilas Abraham -- UBS -- Analyst

Hi, everybody. Thanks for the question. Can you guys talk a little bit more about the hedge book at this stage and the tightening cycle? And what are the different scenarios you're thinking about there? And then just also, I noticed the net duration did drop a bit quarter-over-quarter. So if you could touch on that, too.

Thanks. 

Peter Federico -- Director, President, and Chief Executive Officer

Sure. Good morning, Vilas. And again, we apologize for the technical difficulties this morning. But with respect to the hedge portfolio, Vilas, I think you're sort of alluding to it correctly at a high level.

What you've seen us do with our hedge portfolio is shift our hedge portfolio to the sort of monetary policy and economic environment that we're in. In an environment, for example, where the Fed is tightening aggressively like it has been, the yield curve tends to invert. And so what you saw us do is operate with a very high hedge ratio to give us a lot of protection against our short-term debt repricing and then also front-end load our hedges more to the one to sort of five-year part of the curve because that's the part of the curve that tends to underperform, and that has certainly been the case as the Fed has aggressively tightened voluntary policy time. And in fact, Chris alluded a little bit to this. As the monetary policy position from the Fed evolves, and ultimately, they're getting close to the point where they're going to pause, and then looking further down the road, there will eventually be a point where the market will be pricing and even more aggressive easing than the market is currently pricing in.

You could expect us to evolve our hedge position again to that environment. And in that scenario, if you look back in history, what we will tend to do is operate with a less than 100% hedge ratio over time and fewer shorter-term hedges because, obviously, the front-end of the curve is gonna be the part of the curve that will ultimately outperform. And ultimately, with the yield curve being as inverted as it's now, I think it's unsustainably, obviously, inverted, there'll be a time when the yield curve will be more positively. So we would benefit from having a hedge position that has a greater share of longer-term hedges and a smaller portion of shorter-term hedges.

On the duration gap, Chris can talk a little bit about that. But you're right, we are operating with a slightly smaller duration gap in this environment. 

Chris Kuehl -- Executive Vice President, Chief Investment Officer

I'll just add. I mean our duration gap shortened about eight-tenths of a year during the quarter, and the majority of that was driven by repositioning into higher coupons within the 30-year MBS portfolio. The par coupon mortgage rate also declined about 30 basis points during the quarter. And so that, too, had the effect of shortening the duration of our asset portfolio.

And as Peter mentioned, we shifted a portion of our treasury base hedges to longer key rate buckets, and our activity there shortened the duration of the aggregate hedge portfolio by about two-tenths of a year. I just -- there is no great obvious curve rate or duration trade. The best trade is owning mortgages without making a lot of bets on rates, which is why we don't have much of a duration gap. And just to echo Peter's comments, given the correlation between spreads, rates, and Fed policy, we've maintained a relatively high hedge ratio on the front end of the curve as that's the biggest risk to spreads as aggressive Fed policy.

Peter Federico -- Director, President, and Chief Executive Officer

Yeah. And just to add to that last point, I think Chris is right. With the 10-year now at around 350, we're obviously a little less worried about the interest rate rally risk in the market. I think the 10-year seems to be probably closer to the lower end of the range than the higher end of the range.

So we're more comfortable with a smaller duration gap for the time being anyhow. 

Vilas Abraham -- UBS -- Analyst

And can you also just briefly talk through demand dynamics, who the incremental buyers are that you're seeing, and just how you see that playing out this year?

Peter Federico -- Director, President, and Chief Executive Officer

Yeah. Well, it's really you have to look at the demand dynamic versus the supply dynamic. And as I mentioned, I think the supply dynamic is still really gonna be reasonably favorable, given the fact that organic supply will be positive, a couple of hundred billion. But obviously, there's lots of headwinds from an organic supply perspective.

But what we've seen, and this really was the shift in the momentum that I alluded to, that there came a point in the fourth quarter where fixed income became much more attractive, just broadly speaking, to a much wider group of investors. And so we saw significant bond fund inflows for the first time in 2022. In fact, if you look at bond fund flows for all of '22, I think the number is something like $250 billion of negative outflows in the year. But if you look at the flows in November and December, they were decidedly positive.

And in fact, I think year-to-date, they're already probably close to $50 billion of inflows. So that rotation out of other asset classes into fixed income and into Agency MBS, I think, is going to continue, particularly against the outlook from the equity markets as, obviously, from a portfolio perspective, I think investors are favoring a much greater share of fixed income securities. So I think that demand could continue. Obviously, as rates stabilize and the market gets more comfortable that we've seen the high-end rates, which at some point, that will become clearer to the market. There's -- and the economic outlook improves or at least stabilizes, I think there's a chance that banks reemerge as a source of demand.

So I think those 2 things together could lead to demand outpacing supply. And that's why over the short term, our view is that spreads are likely to a bias to be somewhat tighter, not dramatically. But I think the trend could stay in place for some period of time, particularly because the seasonals from a supply perspective are also really good over the next several months. 

Vilas Abraham -- UBS -- Analyst

Got it. Thank you.

Peter Federico -- Director, President, and Chief Executive Officer

Sure. Thanks for the question, Vilas.

Operator

The next question comes from Doug Harter with Credit Suisse. Please go ahead.

Doug Harter -- Credit Suisse -- Analyst

Thanks.

Peter Federico -- Director, President, and Chief Executive Officer

Good morning, Doug. 

Doug Harter -- Credit Suisse -- Analyst

Can you talk about your appetite to -- good morning. Can you talk about your appetite to raise capital? It looks like you were active with the ATM kind of early in the fourth quarter. But then less so, just kind of how you're thinking about that opportunity to put new money to work, given the return environment you highlighted?

Peter Federico -- Director, President, and Chief Executive Officer

Sure. I appreciate the question. We did raise a little bit of capital in the fourth quarter. Bernie alluded to it.

It was about 3% of our common capital base. But I think the key message from an issuance perspective is that we will continue to look at our capital markets activities and stock issuance activities from the perspective of our existing shareholders. I think we've always done that. We will continue to do that.

And what that means is that, for example, we're not going to issue capital for the sake of getting larger. Given AGNC size and scale today, I don't think that is a relevant benefit, if you will, of issuing capital. But we approach it from the perspective of our existing shareholders saying, is that capital transaction accretive to our existing shareholders? Obviously, one of the key inputs in that equation is where the book value is versus the stock price at the time that we do the issuance. I know it's difficult from the market's perspective to know what that is. We look at that on a sort of real-time contemporaneous basis.

We did that in the fourth quarter. And when we issue stock from that perspective, we're issuing it when we believe it is accretive from a book value perspective to our existing shareholders. But there are other considerations that also go into it, and we will continue to emphasize these. For example, leverage is an important consideration from an existing shareholder perspective.

From my perspective, we always try to prioritize our leverage decision in the context of our existing shareholders, meaning we wanna be operating from an existing shareholder perspective at our desired leverage level. Once we are at that desired leverage level, we can then think about adding more capital if it's accretive from a book value. And then that leads us to the sort of second question is, can that capital be deployed quickly at the same desired leverage level such that it begins to generate earnings and accrue the same benefits as our existing shareholders' capital? So that's important from that perspective. And then the last consideration that I think is really important is the cost of the capital transaction.

Obviously, you've seen us over the course of 2022 used the ATM program as a source of capital about, I think, about $500 million, $475 million in total over the course of the year. That's a very cost-effective way. So when we're looking at that transaction from a price-to-book ratio and from a book value accretion, that is very low-cost capital versus some of the other transactions that are possible. So those are the considerations that we look at.

We believe the capital transaction that we did in the fourth quarter was accretive from that perspective. We were able to put those proceeds to work during the fourth quarter. And you can tell from the price of the stock that we raised and if you went back and look at AGM stock price, you can essentially tell that that capital was raised around a three- or four-week period in October, also coincides with where I gave the book value update at the time late in October. So I think when you look at it from a contemporaneous perspective, I think you can conclude that that was accretive from a book value perspective.

But we're always putting the existing shareholders first. We're not trying to raise capital for the sake of raising capital or the sake of getting larger. When we raise capital because we think it's accretive to our existing shareholders, and we think we can put those proceeds to work quickly at the same desired leverage level as our existing shareholders. So I hope that helps you. 

Doug Harter -- Credit Suisse -- Analyst

Absolutely. And just on -- to clarify or to drill down on one of the points, I guess how would you characterize your leverage today kind of in that versus what is kind of your target?

Peter Federico -- Director, President, and Chief Executive Officer

Yeah. Well, it's a moving target right now, and I guess that's a good problem to have. Because our book value, as, for example, as Bernie mentioned, up almost 10% or up 10% as of the end of last week. Obviously, as our book value is changing, our leverage level is going down, consistent with the increase in our book value.

But sort of broadly speaking, if you look back in our portfolio, and this is hard to do because we don't give you the interperiod numbers, but sort of the low point for our portfolio was right around the end of October in terms of our asset balance. And that's consistent with the environment that we're in because that was when the risk was at its highest point from a market perspective. But since that time, we have systematically added to our asset portfolio. From the end of October to now, we've added about $8 billion worth of securities.

We added about $4 billion in the fourth quarter. And quarter-to-date, we've added about another $4 billion. So what that's telling you is that we're sort of systematically increasing our leverage from the 7.4% where we were that we reported at the end of last year, but it's also consistent with our much more constructive outlook for agency MBS. 

Doug Harter -- Credit Suisse -- Analyst

Got it. Thank you.

Peter Federico -- Director, President, and Chief Executive Officer

Sure. Thank you, Doug.

Operator

[Operator instructions] The next question comes from Rick Shane with J.P. Morgan.

Rick Shane -- JPMorgan Chase and Company -- Analyst

Good morning, guys. Thanks for taking my question.

Peter Federico -- Director, President, and Chief Executive Officer

Good morning.

Rick Shane -- JPMorgan Chase and Company -- Analyst

You know, it's an interesting observation. If we look at the Q4 '19 presentation and the market update there versus the Q4 '22 market update. In Q4 '19, you showed four coupons spreading 150 basis points today. In the agency market, you're showing nine coupons and a four-point spread.

You are now -- you now have the opportunity, but the challenge of working off a much, much broader palette than you have probably at any point in your history. And sort of getting back to Vilas' question to start the conversation, how much of where you're playing within that spectrum is dictated by what is available and what is attractive in the hedging market? Are you choosing assets? Or are you finding financing that you think is attractive and then solving for what the right asset is based upon duration?

Peter Federico -- Director, President, and Chief Executive Officer

Sure. Let me make a couple of high-level statements and then -- and Chris can talk about it, and he'll talk specifically about the difference in the coupon stack. But the answer, generally speaking, is no with respect to the funding. Now obviously, the exception to that is when TBA specialists is really high, then obviously, we're going to shift a greater share of our assets to TBA.

So in a sense, the funding advantage outweighs the difference in the convexity profile or the delivery option. And so in an environment where issuance is really high and the Fed is really active, that specialness tends to be very, very beneficial. We're obviously shifting out of that environment. And so as that specialness goes away, it's been really just a question of where is the best value across the coupon stack.

And Chris can talk about the fact that we now have essentially 10 active coupons. You might have to make sort of a judgment as to where the return is gonna come from total return versus earnings. Chris can talk about how we think about that. 

Chris Kuehl -- Executive Vice President, Chief Investment Officer

Yeah. So I mean just to reiterate Peter's point, roles are not a driving factor at this point. They're currently trading around flat to 10 basis points or so through repo depending on the coupon. But relative value across the coupon stack is still very much upward sloping with higher coupons trading at the wider spreads.

But we'll likely continue to maintain some exposure to the lowest coupons for diversification, and liquidity, and total return potential. To the extent that bond fund flows continue to accelerate, lower coupons, which are at tighter spreads can certainly gap much tighter from current levels as passive index-based funds need to add them. And most of the float is held by the Fed and tied up in bank HTM portfolios. And moving up the stack, the belly coupons or the middle of the stack is also interesting.

I mean it trades at marginally tighter spreads than production coupons, but it has a great convexity profile and very solid technical since they're out of the production window. And so we'll likely continue to have exposure across the coupon stack, but with a distinct bias toward higher coupons.

Rick Shane -- JPMorgan Chase and Company -- Analyst

Got it. And with that in mind, when you look at the distribution of the coupon stack, if we move from a hawkish environment to either neutral or, at some point, a more dovish environment, you're going to see significant divergence in terms of prepayment speeds. And again, this might -- this isn't tomorrow, this isn't next month, but you're building a portfolio that's got substantial duration. But how much are you thinking about the potential divergence and speeds as you look at some securities trading at significant discounts versus paying a premium up in the stack?

Chris Kuehl -- Executive Vice President, Chief Investment Officer

Yeah. It's -- as of -- just for a perspective, as of year-end, the weighted average coupon on our 30-year holdings was 4.2%. So if you assume a note rate spread of, let's just say, 80 basis points for round numbers, that's a 5% note rate in a 6% primary rate market. And so from a prepay risk perspective, it would take on our portfolio, on average, 10-basis-point rally in primary rates from here for the portfolio to even have a 50-basis-point incentive to refinance on average.

Now, we do have holdings in 5.5, and 6s, and a few 6.5s as well. And those positions, obviously, are more exposed in cuspy certainly to a 50-basis-point rally from here, but they're priced for it. Higher coupons are trading at historically wide nominal spreads, and we like that risk return trade-off. In terms of prepayments, I think it is gonna be interesting to see how some of these higher coupons perform over the next few months if we stay at these rate levels.

I do think that it's likely that we'll see somewhat shifted refinancing response, flatter S-curve than what we experienced in 2020, in 2021. If house prices are down even modestly, call it 3% to 5% over the next 12 months, that will have the effect of shifting the required incentive further out the curve for loans that were originated with high 70s LTVs but now find themselves in the low 80s and in need of mortgage insurance and also fall into higher costing buckets on the GSE LLPA grids. And property inspection waivers are another factor that I think will be very different going forward into a more -- a weaker housing outlook. And then, of course, the media effect is very different today than it was in 2020 and 2021. So I think there are a number of factors that will likely mute the prepayment response to some degree or at least shifted a little bit further out going forward.

But then on the other hand, there's a lot of capacity in the system and a desperate need to feed the origination machine. And so I do think that lenders will be aggressive and willing to work for thinner margins just to capture what little volume there is. So it's something that's gonna be very interesting to see how it evolves over the next few months. 

Peter Federico -- Director, President, and Chief Executive Officer

And Rick, if I could just add to that to build on Chris' point because I think it informs our outlook a lot when we think about the supply of mortgages this year and 2023 to the private sector, which is obviously a key in the Fed's portfolio as part of that. But when you think about -- Chris mentioned the refinanceability of our portfolio for a 50-basis-point move. Assuming a 6% mortgage rate today, only 15% of the universe would have a 50-basis-point incentive for a 200-basis-point rally in mortgage rates, only 15%. It would take a 300-basis-point rally in mortgage rates to have 45% of the mortgage universe refinanceable.

So I think that that informs us a lot about the amount of refinance activity that we're going to see over the near term, which is one of the reasons why we're more optimistic about the supply of mortgages. 

Rick Shane -- JPMorgan Chase and Company -- Analyst

Look, it's totally fair. And to circle back to actually where I started. If you compare the bottom of the stack in '19 and the top of the stack in 2022, as of December 31, the premium at the top and the bottom is exactly the same. So I mean the market is behaving in a very different way.

So the risks are even, at the high end of the stack, a lot different than they were a few years ago. 

Peter Federico -- Director, President, and Chief Executive Officer

Yeah. And the point that Chris made about the lower coupons, obviously, because they are such a huge part of the universe and to the extent that we see bond fund inflows, they are going to be potentially a really good total return trade, not great carry, but could have some total return potential. 

Rick Shane -- JPMorgan Chase and Company -- Analyst

Got it. Terrific, guys. Thank you so much.

Peter Federico -- Director, President, and Chief Executive Officer

Sure. Thank you.

Operator

The next question comes from Bose George with KBW. Please go ahead.

Bose George -- Keefe, Bruyette and Woods -- Analyst

Everyone, good morning.

Peter Federico -- Director, President, and Chief Executive Officer

Good morning.

Bose George -- Keefe, Bruyette and Woods -- Analyst

Given the spread tightening quarter-to-date, can you just talk about current hedge spreads and levered ROEs?

Peter Federico -- Director, President, and Chief Executive Officer

Sure. You can look at them in a bunch of different ways from a spread perspective, I think one of the sort of simplest ones that I keep coming back to. I always like to look at the 10-year just more for long-term guidance. But when you think about, for example, current coupon spreads, it's really probably better to look at it on a blended basis.

It's easy to look at them. And I think very informative to look at like current coupon spreads to a blend of five- and 10-year hedges, which is more consistent with the way we would hedge our portfolio. And further, you wanna look at that as a blend between treasury-based hedges and, for us, SOFR-based swap hedges. But if you look at current coupon to five- and 10-year treasury spreads, that's probably around 130 basis points.

If you look at to SOFR, it's probably around 150-ish basis points. A 50-50 blend, maybe something in the neighborhood of 140 basis points today, which is why those returns are still really compelling. 140 basis points with sort of average leverage position as a starting point for this analysis of around 8 times, plus you add back the current coupon yield of close to 5%. And for us, we're only subtracting a 1%, given our cost structure.

I think you can reasonably get expected returns around 15% in the current environment, which we believe is very attractive. So that's sort of what we're seeing now on a mark-to-market basis for our portfolio and for marginal return opportunities. Again, that's on higher coupons, and the conversation we just had sort of informs you about different coupons, but that's a good starting point. 

Bose George -- Keefe, Bruyette and Woods -- Analyst

OK. Great. Thanks. And then actually just a broader macro question, just the whole debt ceiling debate.

Just curious what your thoughts are and how that kind of informs your positioning.

Peter Federico -- Director, President, and Chief Executive Officer

Well, it's a really good question. And obviously, it's a big unknown that we're gonna have to contend with as the year goes on. Unfortunately, it's probably coming at a time when we thought we would actually have a lot more rate stability in our outlook, given the fact that I think the Fed is gonna be pretty much done with what it needs to do in the next couple two or three meetings. So as we go later in the year, in the middle of the year, we'll obviously have to deal with a lot of uncertainty.

The challenge with the debt ceiling is it's not clear at all which direction that may drive interest rates, if at all. You can make a case that it could lead to higher treasury rates because of the credit outlook or the potential of a default. You could look at it from the other perspective, and I think the last episode led to a rally in rates. So generally, what that means for us is when there's more interest rate uncertainty, or just financial market uncertainty more broadly, you'll see us tend to reduce our risk profile, particularly as it relates to our interest rate exposure.

And as we get closer to that, we might likely operate with very close to a zero duration gap, just to give us a little bit more protection against the uncertainty of the environment. Ultimately, I think the issue will be resolved. But it's unclear as to how long that's gonna take to get resolved and what conditions may occur first before it gets resolved, but we'll have to deal with that as we go through the year. 

Bose George -- Keefe, Bruyette and Woods -- Analyst

OK, great. Thanks.

Peter Federico -- Director, President, and Chief Executive Officer

Sure.

Operator

The last question comes from the line of Eric Hagen with BTIG. Please go ahead.

Eric Hagen -- BTIG -- Analyst

Hey, thanks. Good morning. Just a couple of follow-ups on how you're managing the portfolio and the structure there. Just what kind of value do you think you're getting? And do you see at this point in the higher coupon specified pools, are there any scenarios away from just the level of mortgage rates, which could maybe support premiums strengthening in that portfolio? And then on the hedging side, what kind of value do you think you're getting for the short-duration hedges at this point? I mean are there any scenarios where you could add short-duration hedges on top of what you're already carrying? Thanks.

Chris Kuehl -- Executive Vice President, Chief Investment Officer

Yeah. Sure. With respect to specified pools, I'd say it's likely that over time, our weighting versus TBA will gradually increase. As Peter mentioned, we added about $4 billion so far this quarter, and the majority of that was in specified pools, given some good opportunities.

That's after on a net basis, our spec pool position shrinking a bit during the fourth quarter. I'd say, generally speaking, sourcing convexity through pools is cheaper than purchasing optional protection in the rates markets. But our convexity position is quite low across a pretty wide range of rate scenarios, and so we'll continue to be opportunistic and patient with adding pools. We've done a lot of repositioning over the last few quarters, and we think the portfolio is very well-positioned today.

It provides a great combination of carry, total return potential, and liquidity. 

Peter Federico -- Director, President, and Chief Executive Officer

And with respect to your question on the short-term hedges, I guess I would say that our expectation is that we would likely not need to increase those hedges, although there's certainly a scenario where we may change that view. And I say initially, my gut is that we wouldn't need to is because I think the Fed is really close to being done. If it's not this meeting, my expectation is it's the next. But we could obviously prove to be wrong on that.

Inflation could prove to be much more stubborn, and the moderation that we've seen reverse. And in that scenario, there is a scenario that the Fed goes much more than we currently anticipate. And if that environment starts to evolve, then we would think about adding more short-term rate protection. But for right now, I think our position is fairly well-placed. 

Chris Kuehl -- Executive Vice President, Chief Investment Officer

Eric, I think you had also asked a question about what could expand coupon swaps and higher coupons or drive valuations tighter there. I think the short answer is lower rate volatility, lower implied volatility. Option cost on production coupon mortgages is still at record levels. And so a decline in implied volatility certainly has the potential to bring option costs materially lower, which would likely result in nominal spreads coming in. 

Peter Federico -- Director, President, and Chief Executive Officer

Yeah. And just to add to that last point because this, I think, is a key part of, again, why our outlook is improving and the decline in volatility. If you look at sort of implied volatility back in September, at the end of September, lease is -- if you look at where the options market was pricing volatility, it was pricing at around 9.5 basis points per day on the 10-year. To put that in perspective, the 10-year average is more around 4.5 or 5 basis points a day.

And it's been gradually coming down. Today, we're at probably an implied level of around 7.5 basis points a day. So to Chris' point, eventually, the market implied volatility is gonna come back to the historical norm. And that's meaningfully lower, 25%, at least lower, and that could be easily 25 more basis points of tightening on production coupons. 

Eric Hagen -- BTIG -- Analyst

That's a great perspective. Thank you, guys, very much.

Peter Federico -- Director, President, and Chief Executive Officer

Sure. Thank you. Appreciate your call -- question.

Operator

My apologies to everyone for the inconvenience. We have now completed the question-and-answer session. I would like to turn the call back over to Peter Federico for concluding remarks.

Peter Federico -- Director, President, and Chief Executive Officer

Well, again, we appreciate everybody's time today and interest in AGNC. And again, just to sort of reiterate, we believe the outlook for Agency MBS is improving. The recovery is underway. And ultimately, I think we're entering a period that could be a very durable and attractive environment for AGNC.

So we look forward to speaking to you again next quarter, and thank you for participating today.

Operator

[Operator signoff]

Duration: 0 minutes

Call participants:

Katie Wisecarver -- Investor Relations

Peter Federico -- Director, President, and Chief Executive Officer

Bernie Bell -- Executive Vice President, Chief Financial Officer

Chris Kuehl -- Executive Vice President, Chief Investment Officer

Aaron Pas -- Senior Vice President, Non-Agency Portfolio Management

Vilas Abraham -- UBS -- Analyst

Doug Harter -- Credit Suisse -- Analyst

Rick Shane -- JPMorgan Chase and Company -- Analyst

Bose George -- Keefe, Bruyette and Woods -- Analyst

Eric Hagen -- BTIG -- Analyst

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