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Section 1: 8-K (8-K)

Document


UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
  
 
FORM 8-K
CURRENT REPORT
Pursuant to Section 13 OR 15(d) of The Securities Exchange Act of 1934
Date of Report (Date of earliest event reported): August 1, 2019
  
 
REDWOOD TRUST, INC.
(Exact name of registrant as specified in its charter)
 
 
 
 
 
 
Maryland
 
001-13759
 
68-0329422
(State or other jurisdiction
of incorporation)
 
(Commission
File Number)
 
(I.R.S. Employer
Identification No.)
One Belvedere Place
Suite 300
Mill Valley, California 94941
(Address of principal executive offices and Zip Code)
(415) 389-7373
(Registrant’s telephone number, including area code)
Not Applicable
(Former name or former address, if changed since last report)
  
 
Check the appropriate box below if the Form 8-K filing is intended to simultaneously satisfy the filing obligation of the registrant under any of the following provisions (see General Instruction A.2. below):
o
Written communications pursuant to Rule 425 under the Securities Act (17 CFR 230.425)
o
Soliciting material pursuant to Rule 14a-12 under the Exchange Act (17 CFR 240.14a-12)
o
Pre-commencement communications pursuant to Rule 14d-2(b) under the Exchange Act (17 CFR 240.14d-2(b))
o
Pre-commencement communications pursuant to Rule 13e-4(c) under the Exchange Act (17 CFR 240.13e-4(c))
Indicate by check mark whether the registrant is an emerging growth company as defined in Rule 405 of the Securities Act of 1933 or Rule 12b-2 of the Securities Exchange Act of 1934.
Emerging growth company o
If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act. o
Securities registered pursuant to Section 12(b) of the Act:
Title of each class
Trading symbol(s)
Name of each exchange on which registered
Common stock, par value $0.01 per share
RWT
New York Stock Exchange






Item 2.02.
Results of Operations and Financial Condition;
 
Item 7.01.
Regulation FD Disclosure.
On August 1, 2019, Redwood Trust, Inc. issued a press release announcing its financial results for the quarter ended June 30, 2019 and The Redwood Review - 2nd Quarter 2019, copies of which are attached as Exhibit 99.1 and Exhibit 99.2, respectively, to this current report on Form 8-K.
The information contained in this Item 2.02 and Item 7.01 and the attached Exhibits 99.1 and 99.2 is furnished to and not filed with the Securities and Exchange Commission, and shall not be incorporated by reference into any registration statement or other document filed under the Securities Act of 1933, as amended, or the Securities Exchange Act of 1934, as amended, except as shall be expressly set forth by specific reference in such filing.
 
Item 9.01.
Financial Statements and Exhibits.
(d)
 
Exhibits
 
 
Exhibit 99.1
 
Press Release dated August 1, 2019
Exhibit 99.2
 
The Redwood Review – 2nd Quarter 2019




SIGNATURES

Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized.
 
 
 
 
 
 
 
Date: August 1, 2019
 
 
REDWOOD TRUST, INC.
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
By:
 
 /s/ Collin L. Cochrane
 
 
 
 
 
 
 
 
 
 
 
Collin L. Cochrane
 
 
 
 
 
Chief Financial Officer






Exhibit Index
 
 
 
 
 
Exhibit No.
 
Exhibit Title
 
 
 
 
 
Exhibit 99.1
 
 
Exhibit 99.2
 
 
 
 
 
 


(Back To Top)

Section 2: EX-99.1 (EXHIBIT 99.1)

Exhibit

Exhibit 99.1

399013551_q119prlogoa02.jpg
    

REDWOOD TRUST REPORTS SECOND QUARTER 2019 FINANCIAL RESULTS

MILL VALLEY, CA Thursday, August 1, 2019 – Redwood Trust, Inc. (NYSE:RWT), a leading innovator in housing credit investing, today reported its financial results for the quarter ended June 30, 2019.
Key Financial Results
GAAP net income was $31 million, or $0.30 per diluted common share
Non-GAAP core earnings(1) were $43 million, or $0.39 per diluted common share
Book value per common share was $16.01 at June 30, 2019
Economic return on book value(2) of 1.9% for the second quarter of 2019
Recourse debt-to-equity leverage ratio(3) of 3.1x at June 30, 2019
Paid a regular quarterly cash dividend of $0.30 per common share
Business Highlights
Purchased $1.6 billion of jumbo loans, up 59% from the first quarter of 2019
Closed one Sequoia securitization totaling $0.4 billion and sold $0.8 billion of whole loans
5 Arches business originated $175 million of business purpose mortgage loans, our first full quarter of integrated results
Deployed $136 million of capital into new investments in Q2, and deployed over $100 million in July
Generated $243 million of capital through portfolio optimization activities
“During the second quarter we demonstrated the strength and agility of our business model by delivering solid earnings on strong mortgage banking results and continuing our portfolio optimization activities. While the rate environment had varying impacts on our business, we continued to make good progress on our strategic initiatives to scale our platform and implement operational efficiencies,” said Chris Abate, Chief Executive Officer of Redwood Trust.
Abate continued, “We also dedicated a considerable amount of time with key policymakers in Washington advocating for reforms that will promote a leveling of the playing field between the public and private housing finance sectors, particularly through non-qualified mortgage (non-QM) loans. We received positive feedback and were further encouraged by last week’s coinciding announcements by the CFPB and FHFA confirming their intention for the QM Patch to expire. The elimination of the QM Patch has been our largest near-term policy initiative and would remove a massive competitive advantage afforded to the GSEs over the private sector for non-QM mortgages - mortgages that should be subject to well-reasoned ability-to-repay regulations and risk retention requirements regardless of who acquires them. This proposed change represents a major opportunity for policymakers to enable real competition from the private sector that should result in a big win for consumers and taxpayers, alike.”
Abate concluded, “We are entering the second half of the year with a healthy balance sheet, disciplined cost management and a portfolio built on strong credit performance aimed at driving higher returns. While we will continue to be responsive to near-term market conditions, we are focused on the long game and are optimistic about the transformational opportunities we see for our firm.”
_____________________
(1)
A reconciliation of GAAP net income to non-GAAP core earnings and a reconciliation of GAAP earnings per diluted share to non-GAAP core earnings per diluted share, along with additional information about Redwood’s core earnings measure, is included in the tables that follow.
(2)
Economic return on book value is based on the periodic change in GAAP book value per common share plus dividends declared per common share during the period.
(3)
Recourse debt excludes $7.2 billion of consolidated securitization debt (ABS issued and servicer advance financing) that is non-recourse to Redwood.

1


Second Quarter 2019 Redwood Review Available Online
A further discussion of Redwood's business, financial results, core earnings and taxable income, as well as a discussion of management's 2019 outlook, is included in the second quarter 2019 Redwood Review, which is available on the Company’s website at www.redwoodtrust.com.











































2



REDWOOD TRUST, INC.
 
 
 
 
 
 
 
 
 
 
 
 
 
Financial Performance
 
Three Months Ended
($ in millions, except per share data)
 
6/30/2019
 
3/31/2019
 
6/30/2018
 
 
 
 
 
 
 
GAAP net income
 
$
31

 
$
54

 
$
33

GAAP net income per diluted common share
 
$
0.30

 
$
0.49

 
$
0.38

 
 
 
 
 
 
 
Non-GAAP core earnings
 
$
43

 
$
38

 
$
37

Non-GAAP core earnings per diluted common share
 
$
0.39

 
$
0.36

 
$
0.42

 
 
 
 
 
 
 
REIT taxable income (estimated)
 
$
25

 
$
29

 
$
27

REIT taxable income per share (estimated)
 
$
0.25

 
$
0.30

 
$
0.35

 
 
 
 
 
 
 
GAAP book value per share
 
$
16.01

 
$
16.00

 
$
16.23

Dividends per common share
 
$
0.30

 
$
0.30

 
$
0.30

Economic return on book value
 
1.9
%
 
2.6
%
 
2.5
%
Recourse debt-to-equity leverage ratio (1)
 
3.1x

 
2.9x

 
3.4x

 
 
 
 
 
 
 
Capital deployment
 
$
136

 
$
163

 
$
186

Jumbo loans purchased
 
$
1,562

 
$
1,022

 
$
1,952

Jumbo loans securitized or sold
 
$
1,252

 
$
833

 
$
1,408

(1)
Recourse debt excludes $7.2 billion, $5.9 billion, and $1.9 billion of consolidated securitization debt (ABS issued and servicer advance financing) that is non-recourse to Redwood at June 30, 2019, March 31, 2019, and June 30, 2018, respectively.
Conference Call and Webcast
Redwood will host an earnings call today, August 1, 2019, at 2:00 p.m. Pacific Time / 5:00 p.m. Eastern Time to discuss its second quarter 2019 financial results. The number to dial in order to listen to the conference call is 1-877-423-9813 in the U.S. and Canada. International callers must dial 1-201-689-8573. Callers should reference call ID #13692155. A replay of the call will be available through midnight on August 15, 2019, and can be accessed by dialing 1-844-512-2921 in the U.S. and Canada or 1-412-317-6671 internationally and entering access code #13692155.
The live conference call will also be webcast in listen-only mode in the Newsroom section of Redwood’s website under "Events." To listen to the webcast, please go to Redwood's website at least 15 minutes prior to the call to register and download and install any needed audio software. An audio replay of the call will also be available on Redwood's website following the call. Redwood plans to file its Quarterly Report on Form 10-Q with the Securities and Exchange Commission by Friday, August 9, 2019, and also make it available on Redwood’s website.
About Redwood Trust
Redwood Trust, Inc. (NYSE: RWT) is a specialty finance company focused on making credit-sensitive investments in residential mortgages and related assets and engaging in mortgage banking activities. Our goal is to provide attractive returns to shareholders through a stable and growing stream of earnings and dividends, as well as through capital appreciation. Redwood Trust was established in 1994, is internally managed, and structured as a real estate investment trust (“REIT”) for tax purposes. For more information about Redwood, please visit our website at www.redwoodtrust.com.

Forward-Looking Statements:  This press release and the related conference call contain forward-looking statements within the meaning of the safe harbor provisions of the Private Securities Litigation Reform Act of 1995, including statements related to estimates of 2019 REIT taxable income and the expected timing for the filing of Redwood's Quarterly Report on Form 10-Q. Forward-looking statements involve numerous risks and uncertainties. Redwood's actual results may differ from Redwood's beliefs, expectations, estimates, and projections and, consequently, you should not rely on these forward-looking statements as predictions of future events. Forward-looking statements are not historical in nature and can be identified by words such as “anticipate,” “estimate,” “will,” “should,” “expect,” “believe,” “intend,” “seek,” “plan” and similar expressions or their negative forms, or by references to strategy, plans, or intentions. These forward-looking statements are subject to risks and uncertainties, including, among other things, those described in our Annual Report on Form 10-K under the caption “Risk Factors.” Other risks, uncertainties, and factors that could cause actual results to differ materially from those projected may be described from time to time in reports we file with the Securities and Exchange Commission, including reports on Forms 10-Q and 8-K. We undertake no obligation to update or revise any forward-looking statements, whether as a result of new information, future events, or otherwise.

3



REDWOOD TRUST, INC.
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Consolidated Income Statements (1)
 
Three Months Ended
($ in millions, except share and per share data)
 
6/30/19
 
3/31/19
 
12/31/18
 
9/30/18
 
6/30/18
 
 
 
 
 
 
 
 
 
 
 
Interest income
 
$
149

 
$
131

 
$
120

 
$
99

 
$
83

Interest expense
 
(116
)
 
(99
)
 
(85
)
 
(64
)
 
(48
)
Net interest income
 
32

 
32

 
35

 
35

 
35

Non-interest income
 
 
 
 
 
 
 
 
 
 
Mortgage banking activities, net
 
19

 
12

 
11

 
11

 
11

Investment fair value changes, net
 
3

 
20

 
(39
)
 
10

 
1

Other income, net
 
2

 
4

 
4

 
3

 
3

Realized gains, net
 
3

 
11

 
6

 
7

 
5

Total non-interest income (loss), net
 
28

 
47

 
(18
)
 
32

 
20

Operating expenses
 
(26
)
 
(23
)
 
(19
)
 
(21
)
 
(19
)
(Provision for) benefit from income taxes
 
(2
)
 
(1
)
 
1

 
(5
)
 
(3
)
Net income (loss)
 
$
31

 
$
54

 
$
(1
)
 
$
41

 
$
33

 
 
 
 
 
 
 
 
 
 
 
Weighted average diluted shares (thousands) (2)
 
130,697

 
126,278

 
83,217

 
114,683

 
100,432

Diluted earnings (loss) per common share
 
$
0.30

 
$
0.49

 
$
(0.02
)
 
$
0.42

 
$
0.38

Regular dividends declared per common share
 
$
0.30

 
$
0.30

 
$
0.30

 
$
0.30

 
$
0.30

 
 
 
 
 
 
 
 
 
 
 
(1)
Certain totals may not foot due to rounding.
(2)
In the periods presented above, excluding the fourth quarter of 2018, weighted average diluted shares included shares from the assumed conversion of our convertible and/or exchangeable debt in accordance with GAAP diluted EPS provisions. Actual shares outstanding at June 30, 2019, March 31, 2019, December 31, 2018, September 30, 2018, and June 30, 2018 were 97,715, 96,866, 84,884, 82,930, and 75,743, respectively.











4



 
 
 
 
 
REDWOOD TRUST, INC.
 
 
 
 
 
 
 
 
 
Consolidated Income Statements (1)
 
Six Months Ended June 30,
($ in millions, except share and per share data)
 
2019
 
2018
 
 
 
 
 
Interest income
 
$
280

 
$
160

Interest expense
 
(215
)
 
(90
)
Net interest income
 
64

 
70

Non-interest income
 
 
 
 
Mortgage banking activities, net
 
31

 
37

Investment fair value changes, net
 
23

 
2

Other income, net
 
6

 
5

Realized gains, net
 
14

 
14

Total non-interest income
 
74

 
59

Operating expenses
 
(49
)
 
(42
)
Provision for income taxes
 
(3
)
 
(7
)
Net income
 
$
86

 
$
80

 
 
 
 
 
Weighted average diluted shares (thousands)
 
128,499

 
104,291

Diluted earnings per common share
 
$
0.78

 
$
0.88

Regular dividends declared per common share
 
$
0.60

 
$
0.58

 
 
 
 
 
(1)
Certain totals may not foot due to rounding.


















5



REDWOOD TRUST, INC.
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Reconciliation of GAAP Net Income to
Non-GAAP Core Earnings
 (1) (2)
Three Months Ended
($ in millions, except per share data)
6/30/19
 
3/31/19
 
6/30/18
 
 
 
 
 
 
GAAP net income
$
31

 
$
54

 
$
33

Adjustments:
 
 
 
 
 
Eliminate mark-to-market changes on long-term investments and associated derivatives (3)
(2
)
 
(16
)
 
(3
)
Include cumulative gain on long-term investments sold, net (4)
13

 
1

 
7

Eliminate purchase accounting adjustments (5)
2

 
(2
)
 

Income taxes associated with core earnings adjustments (6)
(2
)
 
(1
)
 

Total adjustments
12

 
(16
)
 
5

Non-GAAP core earnings
$
43

 
$
38

 
$
37

 
 
 
 
 
 
GAAP net income per diluted common share
$
0.30

 
$
0.49

 
$
0.38

Non-GAAP core earnings per diluted common share (7)
$
0.39

 
$
0.36

 
$
0.42

 
 
 
 
 
 
(1)
Certain totals may not foot due to rounding.
(2)
Core earnings is a non-GAAP measure of Redwood’s earnings and results of operations. Specifically, management has defined core earnings as: GAAP net income adjusted to (i) eliminate the impact of quarterly mark-to-market changes on the fair value of long-term investments (and associated derivatives) related to changes in benchmark interest rates and credit spreads, (ii) include the cumulative net gains or losses on long-term investments accounted for as trading securities under GAAP that were sold during the period presented, net of any gains or losses from derivatives associated with the investments sold, (iii) exclude certain items related to Redwood's acquisition of 5 Arches (as described in footnote 5 below) and (iv) include the hypothetical income taxes associated with core earnings adjustments.
Management utilizes this core earnings measure internally as one way of analyzing Redwood’s performance over multiple periods, as it believes it provides useful comparative results absent the impact of certain quarterly mark-to-market changes and other items that management believes are not reflective of core results. Core earnings should not be utilized in isolation, nor should it be considered as an alternative to GAAP net income or other measurements of results of operations computed in accordance with GAAP. A further discussion of core earnings is included in the second quarter 2019 Redwood Review.
(3)
Adjustments eliminate the mark-to-market changes on the fair value of loans held-for-investment, trading securities, other investments, and associated derivatives that are primarily related to changes in benchmark interest rates and credit spreads.
(4)
Adjustment includes the cumulative net gains or losses on long-term investments accounted for as trading securities under GAAP that were sold during the period presented, net of any realized gains or losses from derivatives associated with the investments sold. Cumulative gains and losses are calculated by multiplying the difference between the sales price and original purchase price by the face value of the securities sold.
(5)
Beginning with the first quarter of 2019, core earnings excludes several items related to the acquisition of 5 Arches. These items include the exclusion of a one-time gain associated with the re-measurement of our initial minority investment and purchase option in 5 Arches, as well as ongoing adjustments to exclude amortization of intangible assets and, beginning in the second quarter of 2019, changes in fair value of the contingent consideration liability related to the remaining purchase consideration for the platform. Additional information regarding this adjustment is included in the Appendix to the second quarter 2019 Redwood Review.
(6)
We apply estimated effective tax rates to core earnings adjustments occurring within Redwood's taxable REIT subsidiaries to estimate the hypothetical income tax expense or benefit associated with those adjustments.
(7)
Additional information on the calculation of non-GAAP core diluted EPS can be found in Table 2 in the Financial Tables section of the Redwood Reviews for the respective quarters presented.



6



REDWOOD TRUST, INC.
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Consolidated Balance Sheets (1)
 
 
 
 
 
 
 
 
 
 
 
($ in millions, except share and per share data)
 
6/30/19
 
3/31/19
 
12/31/18
 
9/30/18
 
6/30/18
 
 
 
 
 
 
 
 
 
 
 
 
 
Residential loans
 
$
7,283

 
$
7,274

 
$
7,255

 
$
5,922

 
$
5,491

 
Business purpose loans
 
251

 
161

 
141

 
116

 

 
Multifamily loans
 
3,750

 
2,176

 
2,145

 
942

 

 
Real estate securities
 
1,477

 
1,543

 
1,452

 
1,470

 
1,454

 
Other investments
 
372

 
414

 
439

 
114

 
117

 
Cash and cash equivalents
 
218

 
201

 
176

 
174

 
185

 
Other assets
 
500

 
424

 
330

 
402

 
266

 
Total assets
 
$
13,852

 
$
12,193

 
$
11,937

 
$
9,140

 
$
7,513

 
 
 
 
 
 
 
 
 
 
 
 
 
Short-term debt
 
$
2,463

 
$
2,163

 
$
2,400

 
$
1,424

 
$
1,426

 
Other liabilities
 
338

 
270

 
206

 
176

 
157

 
Asset-backed securities issued
 
6,913

 
5,638

 
5,410

 
3,407

 
1,930

 
Long-term debt, net
 
2,573

 
2,573

 
2,572

 
2,771

 
2,770

 
Total liabilities
 
12,288

 
10,643

 
10,589

 
7,778

 
6,284

 
 
 
 
 
 
 
 
 
 
 
 
 
Stockholders' equity
 
1,564

 
1,550

 
1,349

 
1,361

 
1,229

 
 
 
 
 
 
 
 
 
 
 
 
 
Total liabilities and equity
 
$
13,852

 
$
12,193

 
$
11,937

 
$
9,140

 
$
7,513

 
 
 
 
 
 
 
 
 
 
 
 
 
Shares outstanding at period end (thousands)
 
97,715

 
96,866

 
84,884

 
82,930

 
75,743

 
GAAP book value per share
 
$
16.01

 
$
16.00

 
$
15.89

 
$
16.42

 
$
16.23

 
 
 
 
 
 
 
 
 
 
 
 
 
(1)
Certain totals may not foot due to rounding.




CONTACTS
Lisa M. Hartman
SVP, Head of Investor Relations
Phone: 866-269-4976
Email: investorrelations@redwoodtrust.com

7
(Back To Top)

Section 3: EX-99.2 (EXHIBIT 99.2)

Exhibit


Exhibit 99.2

399013551_q22019outsidefrontcover001.jpg


 
  T A B L E O F C O N T E N T S


Introduction
 
 
Shareholder Letter
 
 
Quarterly Overview
 
 
Ñ Second Quarter Highlights
 
 
Ñ Quarterly Earnings and Analysis
 
 
Ñ Segment Results
 
 
Ñ Book Value
 
 
Ñ Capital Allocations
 
 
Ñ 2019 Updated Financial Outlook
 
 
Ñ Balance Sheet Analysis
 
 
Financial Tables
 
 
Appendix
 
 
Ñ Dividends
 
 
Ñ Non-GAAP Measurements
 
 
Ñ Forward-Looking Statements


 
THE REDWOOD REVIEW I 2ND QUARTER 2019
1

 
F O R W A R D - L O O K I N G S T A T E M E N T S

This Redwood Review contains forward-looking statements within the meaning of the safe harbor provisions of the Private Securities Litigation Reform Act of 1995. Forward-looking statements involve numerous risks and uncertainties. Our actual results may differ from our expectations, estimates, and projections and, consequently, you should not rely on these forward-looking statements as predictions of future events. Forward-looking statements are not historical in nature and can be identified by words such as “anticipate,” “estimate,” “will,” “should,” “expect,” “believe,” “intend,” “seek,” “plan,” and similar expressions or their negative forms, or by references to strategy, plans, goals, or intentions. These forward-looking statements are subject to risks and uncertainties, including, among other things, those described in our Annual Report on Form 10-K under the caption “Risk Factors.” Other risks, uncertainties, and factors that could cause actual results to differ materially from those projected are described below and may be described from time to time in reports we file with the Securities and Exchange Commission, including reports on Forms 10-K, 10-Q, and 8-K. We undertake no obligation to update or revise forward-looking statements, whether as a result of new information, future events, or otherwise.
Statements regarding the following subjects, among others, are forward-looking by their nature: statements we make regarding Redwood’s business strategy and strategic focus, statements related to our financial outlook and expectations for 2019, statements regarding our available capital and sourcing additional capital both internally and from the capital markets, and other statements regarding pending business activities and expectations and estimates relating to our business and financial results. Additional detail regarding the forward-looking statements in this Redwood Review and the important factors that may affect our actual results in 2019 are described in the Appendix of this Redwood Review under the heading “Forward-Looking Statements.”



 
THE REDWOOD REVIEW I 2ND QUARTER 2019
2

 
I N T R O D U C T I O N

Note to Readers:

We file annual reports (on Form 10-K) and quarterly reports (on Form 10-Q) with the Securities and Exchange Commission. These filings and our earnings press releases provide information about Redwood and our financial results in accordance with generally accepted accounting principles (GAAP). These documents, as well as information about our business and a glossary of terms we use in this and other publications, are available through our website, www.redwoodtrust.com. We encourage you to review these documents.
References herein to “Redwood,” the “company,” “we,” “us,” and “our” include Redwood Trust, Inc. and its consolidated subsidiaries. Note that because we round numbers in the tables to millions, except per share amounts, some numbers may not foot due to rounding. References to the “second quarter” refer to the quarter ended June 30, 2019, and references to the “first quarter” refer to the quarter ended March 31, 2019, unless otherwise specified.
We hope you find this Review helpful to your understanding of our business. We thank you for your input and suggestions, which have resulted in our changing the form and content of The Redwood Review over time.
 
Selected Financial Highlights
 
 
Quarter:Year
 
GAAP Income
(Loss) per Share
 
Non-GAAP Core Earnings per Share (1)
 
REIT Taxable
Income per
Share
(2)
 
Annualized
GAAP Return
on Equity
 
GAAP Book
Value per
Share
 
Dividends
per Share
 
Economic Return on Book Value (3)
 
Q219
 
$0.30
 
$0.39
 
$0.25
 
8%
 
$16.01
 
$0.30
 
1.9%
 
Q119
 
$0.49
 
$0.36
 
$0.30
 
15%
 
$16.00
 
$0.30
 
2.6%
 
Q418
 
$(0.02)
 
$0.41
 
$0.32
 
—%
 
$15.89
 
$0.30
 
(1.4)%
 
Q318
 
$0.42
 
$0.39
 
$0.27
 
12%
 
$16.42
 
$0.30
 
3.0%
 
Q218
 
$0.38
 
$0.42
 
$0.35
 
11%
 
$16.23
 
$0.30
 
2.5%
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
(1)
Additional information on non-GAAP core earnings per share, including a definition and reconciliation to GAAP earnings per share, is included in the Non-GAAP Measurements section of the Appendix and Table 2 in the Financial Tables section.
(2)
REIT taxable income per share for 2018 and 2019 are estimates until we file our tax returns.
(3)
Economic return on book value is based on the periodic change in GAAP book value per common share plus dividends declared per common share during the period.

 
THE REDWOOD REVIEW I 2ND QUARTER 2019
3

 
S H A R E H O L D E R L E T T E R

Dear Fellow Shareholders:
We hope that your summer is off to a great start and you found time for a break to spend with family and friends. The markets have meanwhile reminded us that volatility has an unpredictable vacation schedule, keeping us keenly focused on managing our interest rate exposure while executing against our broader initiatives. The steep decline in rates, coupled with a continuing demand for yield, had varying impacts on our second quarter results. Most notably, lower rates benefited our mortgage banking operations, but resulted in higher hedging costs for certain segments of our investment portfolio. These dynamics are a good reminder of the strength of our balanced business model and earnings power. Our second quarter GAAP book value remained stable at $16.01 per share as of June 30, 2019, with GAAP net income covering our dividend. Our non-GAAP core earnings of $0.39 per share was up 8% compared to the first quarter.
Strong mortgage banking results were a key driver of earnings for the second quarter. Our residential mortgage banking business benefited from the decline in interest rates resulting in close to a 60% increase in loan purchase volume over the first quarter. Gross margins in the second quarter exceeded our long-term target range for both securitization and whole loan sale executions, and overall returns for this business benefited from operational and capital efficiencies we have achieved thus far in 2019. The mix of Select and Choice loan lock volumes was consistent with the first quarter, and second quarter Choice loan lock volumes were the second highest since the program's inception in 2016.
While strong demand for yield and tighter spreads benefited our mortgage banking margins, they made portfolio capital deployment particularly challenging for yield-oriented investors like us. While our long-term goal is to deploy capital and build our investment portfolio, the second quarter represented one of the best quarters in recent memory to take profits and recycle capital. We deployed $136 million of capital into new investments during the second quarter, while generating $243 million of capital through financing structures that optimize our balance sheet, and sales of lower-yielding assets. Playing the long game allowed us to lock in $16 million of core realized gains, and we’ve already seen better opportunities to deploy capital in the third quarter, with over $100 million deployed in July alone. At June 30, 2019, we estimate that our available capital was approximately $200 million. We believe this capital, along with additional capital from continued portfolio optimization, should be sufficient to meet our near-term needs, and provide us with flexibility as we approach the November maturity of our $201 million of exchangeable debt.
From an underwriting and credit perspective, we remain highly pleased with the performance of our portfolio. Though housing price appreciation is slowing from the unsustainable levels of recent years, the labor market is at full employment, homebuilding continues to lag demand, and the excesses of the last cycle - including poorly underwritten mortgage credit - are not driving today’s market. Not coincidentally, the areas of recent underperformance in our portfolio have been investments most exposed to interest rates and prepayments rather than credit risk. This included jumbo residential loans that we finance at the FHLB, and the residential mortgage servicing rights (MSR) that we hold outright or in securitized form.

 
THE REDWOOD REVIEW I 2ND QUARTER 2019
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S H A R E H O L D E R L E T T E R

Another key area of focus during the second quarter was the ongoing integration of the 5 Arches business. The second quarter marked our first full quarter of 5 Arches operating results, and we are pleased with our progress as we deepened our market footprint in the business purpose lending space and produced attractive loans for our portfolio. We are focused on originations that deliver superior risk-adjusted returns, including single-family rental loans and further development of small-balance multifamily and other bridge loans keyed around rental demand. This production mix reflects a market opportunity we continue to see as plentiful, driven by the overall fundamental supply/demand imbalance in housing, most notably at affordable price points for both renters and prospective owners. Importantly, we expect to continue ramping this valuable platform throughout 2019.
Turning to housing finance reform, over the last several months we have dedicated a considerable amount of time working with leadership in Washington to demonstrate the private sector's ability to partner with Fannie Mae and Freddie Mac (the “GSEs”) in providing solutions for a broad array of borrowers, including through non-qualified mortgage (non-QM) loans. In support of this work, in May we published an extensive presentation on our perspectives on private capital and the “QM Patch," the regulatory exemption currently enjoyed by the GSEs. In the presentation we advanced a robust, data-based argument that, if the rule were allowed to expire at a proper cadence, additional “crowding in” of private capital could occur in a safe and sound manner for all stakeholders, including borrowers and taxpayers alike.
Our presentation focused on potential solutions pertaining to the QM Patch, highlighting our view that Redwood is ideally positioned and uniquely qualified to participate with the public sector in establishing a framework for non-QM lending on a level playing field. Redwood has led the private sector resurgence in housing finance since issuing the first post-crisis securitization in 2010. The private sector has been financing an increasing share of certain market segments that have been long dominated by the GSEs and we believe the private sector can speak for more without a meaningful impact on rates available to borrowers. We presented this analysis to key policymakers in Washington and were encouraged by the feedback.
We were further encouraged just last week, when the CFPB released a notice of proposed rulemaking seeking information relating to the expiration of the QM Patch. In related remarks, the CFPB stated that it “currently plans to allow the GSE Patch to expire in January 2021 or after a short extension, if necessary, to facilitate a smooth and orderly transition away from the GSE Patch.” The CFPB Director’s reference to “a more transparent, level playing field that ultimately benefits consumers” speaks directly to the core of our May publication. Our presentation can be viewed on the Newsroom section of our website at: http://www.redwoodtrust.com/Presentations

 
THE REDWOOD REVIEW I 2ND QUARTER 2019
5

 
S H A R E H O L D E R L E T T E R

More broadly, the Director of the Federal Housing Finance Agency (“FHFA”) has been regularly stating his determination to shift GSE market share to the private sector, a dramatic departure from the policies of his predecessor. The Director, as regulator and conservator of the GSEs, has a number of tools at his disposal to make that happen without Congressional action. These include altering GSE underwriting guidelines, discontinuing GSE eligibility for certain loan products (such as high balance loans and/or second home financings), requiring the GSEs to sell more first-loss risk as part of their risk-transfer programs, or even raising GSE guaranty fees to create a more level playing field with the private sector. In addition, the Director has suggested changes to the GSEs’ capital and regulatory regimes that would make holding risk more expensive, an incentive for additional credit risk transfer and a catalyst to further level the playing field with the private sector.
Taken together, these themes represent a clear direction of Federal housing finance policy that is fully aligned with Redwood’s business model and core strengths. As such, we maintain an active presence in Washington, meeting frequently with key policymakers to provide input and demonstrate that private capital is ready and able to take on a larger share of the mortgage market. We have noted many times that the range of potential housing reform outcomes for the market - and Redwood - is broad, but there remains opportunity for revolutionary change for our firm. This is still the case, but the quality of discourse over the past several months leaves room for more optimism than we have had in quite some time.
In closing, we continue to make good progress executing on our strategic initiatives and the current environment has provided us with an opportunity to demonstrate the strength and agility of our diversified business model. We are entering the second half of the year with a healthy balance sheet, disciplined cost management and a portfolio built on strong credit performance. We will continue to be responsive to market conditions while pursuing investments aimed at driving higher returns that can position us to support higher sustainable dividends and overall returns for our shareholders.
We appreciate your support.



399013551_q119ceosignaturea01.jpg
 
399013551_q119presidentsignaturea01.jpg
Christopher J. Abate
 
Dashiell I. Robinson
Chief Executive Officer
 
President

 
THE REDWOOD REVIEW I 2ND QUARTER 2019
6

 
Q U A R T E R L Y O V E R V I E W

Second Quarter Highlights
 
Key Financial Results and Metrics
($ in millions, except per share data)
 
 
Three Months Ended
 
 
6/30/2019
 
3/31/2019
 
 
 
 
 
 
GAAP Earnings per Share
$
0.30

 
$
0.49

 
Non-GAAP Core Earnings per Share (1)
$
0.39

 
$
0.36

 
 
 
 
 
 
Book Value per Share
$
16.01

 
$
16.00

 
Economic Return on Book Value (2)
1.9
%
 
2.6
%
 
Recourse Leverage (3)
3.1x

 
2.9x

 
 
 
 
 
 
Portfolio Capital Deployment
$
136

 
$
163

 
Residential Loan Purchase Commitments
$
1,695

 
$
1,199

 
 
 
 
 
 
Ñ
GAAP earnings per share declined in the second quarter, as we experienced a reduced benefit to investment fair value changes from spread tightening and lower realized gains from sales of available-for-sale securities.
Ñ
Core earnings per share increased in the second quarter, driven primarily by higher residential mortgage banking results, which benefited from a nearly 60% increase in loan purchase volume, and gross margins that exceeded our long-term target range as both securitization and whole loan sales represented attractive execution. Increased portfolio optimization activity in the second quarter resulted in increased core realized gains, but dampened economic net interest income due to a higher average balance of undeployed capital during the quarter. Economic net interest income was also impacted by the sharp decline in rates during the second quarter, which negatively impacted certain of segments of our portfolio more sensitive to interest rates and prepayments.
Ñ
Book value per share increased during the quarter, as GAAP earnings covered the dividend, and tighter spreads improved asset prices on available-for-sale securities in our investment portfolio.
Ñ
Recourse leverage increased modestly in the second quarter, primarily resulting from incremental financing on our investment securities, which increased available capital and improved risk-adjusted returns in our investment portfolio.
Ñ
We continued to make progress on operating efficiencies at our residential mortgage banking business during the quarter, meaningfully increasing our loan purchase volume, while maintaining strong margins and a flat capital allocation to this business, resulting in higher returns on capital.
_____________________
(1) For details on GAAP earnings and non-GAAP core earnings, see the Quarterly Earnings and Analysis section that follows on page 8 and the Non-GAAP Measurements section of the Appendix.
(2) Economic return on book value is based on the periodic change in GAAP book value per common share plus dividends declared per common share during the period.
(3)
See Table 7 in the Financial Tables section of this Redwood Review for details of how our recourse debt to equity leverage ratio is calculated.

 
THE REDWOOD REVIEW I 2ND QUARTER 2019
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Q U A R T E R L Y O V E R V I E W

Quarterly Earnings and Analysis
Below we present GAAP net income and non-GAAP core earnings for the second and first quarters of 2019.
 
GAAP Net Income
($ in millions, except per share data)
 
Three Months Ended
 
 
6/30/2019
 
3/31/2019
 
 
 
 
 
 
Net interest income
$
32

 
$
32

 
 
 
 
 
 
Non-interest income
 
 
 
 
Mortgage banking activities, net
19

 
12

 
Investment fair value changes, net
3

 
20

 
Other income, net
2

 
4

 
Realized gains, net
3

 
11

 
Total non-interest income, net
28

 
47

 
Operating expenses
(26
)
 
(23
)
 
Provision for income taxes
(2
)
 
(1
)
 
 
 
 
 
 
GAAP net income
$
31

 
$
54

 
 
 
 
 
 
GAAP diluted earnings per common share
$
0.30

 
$
0.49

 
 
 
 
 
 
 
Non-GAAP Core Earnings (1)
($ in millions, except per share data)
 
Three Months Ended
 
 
6/30/2019
 
3/31/2019
 
 
 
 
 
 
GAAP net interest income
$
32

 
$
32

 
Change in basis and hedge interest
1

 
4

 
Non-GAAP economic net interest income (1)
34

 
36

 
 
 
 
 
 
Non-interest income
 
 
 
 
Mortgage banking activities, net
19

 
12

 
Core investment fair value changes, net (1)

 

 
Core other income, net (1)
4

 
2

 
Core realized gains, net (1)
16

 
12

 
Total non-interest income, net
40

 
26

 
Operating expenses
(26
)
 
(23
)
 
Core provision for income taxes (1)
(4
)
 
(1
)
 
 
 
 
 
 
Core earnings (1)
$
43

 
$
38

 
 
 
 
 
 
Core diluted earnings per common share (2)
$
0.39

 
$
0.36

 
(1)
Additional information on Redwood's non-GAAP measures, including: economic net interest income; core investment fair value changes, net; core other income, net; core realized gains, net; core provision for income taxes; and core earnings as well as reconciliations to associated GAAP measures, is included in the Non-GAAP Measurements section of the Appendix.
(2)
Additional information on the calculation of non-GAAP core diluted EPS can be found in Table 2 in the Financial Tables section of this Redwood Review.

 
THE REDWOOD REVIEW I 2ND QUARTER 2019
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Q U A R T E R L Y O V E R V I E W

Ñ
Net interest income was consistent quarter-over-quarter, as a benefit from continued capital deployment during the second quarter was offset by capital inflows that resulted from increased portfolio optimization activities, including opportunistic asset sales and the addition of incremental leverage within our investment portfolio.
Ñ
Non-GAAP economic net interest income declined from the first quarter of 2019, as faster prepayments during the second quarter increased the expense from the change in basis on fair value loans and securities held at a premium and interest rate volatility during the quarter resulted in higher hedging costs in certain segments of the portfolio.
Ñ
Mortgage banking activities increased primarily due to a combination of higher loan purchase volume from our residential mortgage banking operations, and a full quarter of activity from our business purpose mortgage banking operations.
Ñ
Investment fair value changes was positively impacted by tightening credit spreads in our securities portfolio during the second quarter, though to a lesser extent than experienced in the first quarter. Our non-GAAP core earnings excludes these market valuation adjustments.
Ñ
Other income declined in the second quarter, as the first quarter included income related to our purchase of 5 Arches, and the second quarter included a full period of amortization of intangible assets from the purchase. Non-GAAP core other income excludes these amounts.
Ñ
Realized gains in the second quarter resulted from the sale of $167 million of securities. After the repayment of associated debt, the security sales freed up $79 million of capital for reinvestment.
Ñ
Operating expenses increased primarily due to the second quarter including a full quarter of expenses from the 5 Arches platform.
Ñ
The increase in the tax provision was primarily due to higher mortgage banking income at our taxable subsidiary during the second quarter, as well as a tax benefit in the first quarter resulting from the purchase of 5 Arches. A reconciliation of GAAP and taxable income is set forth in Table 6 in the Financial Tables section of this Redwood Review.
Ñ
Additional details on our earnings are included in the Segment Results section that follows.

 
THE REDWOOD REVIEW I 2ND QUARTER 2019
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Q U A R T E R L Y O V E R V I E W

Segment Results
Investment Portfolio
The following table presents segment contribution from our investment portfolio for the second and first quarters of 2019.
 
Investment Portfolio Segment Contribution
($ in millions)
 
Three Months Ended
 
 
6/30/2019
 
3/31/2019
 
 
 
 
 
 
GAAP net interest income
$
38

 
$
38

 
Change in basis and hedge interest
1

 
4

 
Non-GAAP economic net interest income (1)
39

 
42

 
 
 
 
 
 
Non-GAAP other fair value changes, net (2)
2

 
16

 
Other income, net
3

 
1

 
Realized gains, net
3

 
11

 
Operating expenses
(2
)
 
(3
)
 
Provision for income taxes
(1
)
 

 
Segment contribution (3)
$
44

 
$
67

 
Core earnings adjustments (4)
 
 
 
 
Eliminate non-GAAP other fair value changes, net (2)
(2
)
 
(16
)
 
Include cumulative gain on long-term investments sold, net
13

 
1

 
Income taxes associated with core earnings adjustments
(1
)
 
1

 
Non-GAAP core segment contribution
$
54

 
$
54

 
(1)
Consistent with management's definition of non-GAAP economic net interest income set forth in the Non-GAAP Measurements section of the Appendix, this measure, as presented above, is calculated in the same manner, inclusive only of amounts allocable to this segment.
(2)
Non-GAAP other fair value changes, net, represents GAAP investment fair value changes adjusted to exclude the change in basis and hedge interest that is presented in the table above and included in non-GAAP economic net interest income.
(3)
Segment contribution totals above are presented in accordance with GAAP. Within the table, "Change in basis and hedge interest" has been reallocated between investment fair value changes and net interest income as described above.
(4)
Consistent with management's definition of core earnings set forth on page 38, non-GAAP core segment contribution reflects GAAP segment contribution adjusted to reflect the portion of core earnings adjustments allocable to this segment.
Ñ
Segment contribution from our investment portfolio declined during the second quarter, as we experienced a reduced benefit to investment fair value changes from spread tightening and lower realized gains from sales of available-for-sale securities.




 
THE REDWOOD REVIEW I 2ND QUARTER 2019
10

 
Q U A R T E R L Y O V E R V I E W

Ñ
Core segment contribution declined during the second quarter, as economic net interest income was negatively impacted by interest rate volatility and accelerated prepayments, which increased hedging costs and change in basis expense from loans and securities with premiums.
Ñ
We deployed $136 million of capital in the second quarter, including $28 million into proprietary investments and $108 million into third-party investments. Proprietary investments included $25 million of business purpose loans originated by 5 Arches and $3 million into Sequoia RMBS. Third-party investments included $75 million of Agency multifamily securities, $17 million of Agency CRT securities, and $18 million of re-performing loan securities.
Ñ
During the second quarter, we sold $167 million of lower yielding securities, which freed up approximately $79 million of capital for redeployment. Additionally, we added new leverage to our portfolio of multifamily credit investments and incremental leverage to our business purpose loan investments, resulting from improved financing terms. On a combined basis, these incremental borrowings generated approximately $164 million of capital for redeployment and meaningfully improved return profiles on these investments.
Ñ
As of June 30, 2019, we had funded approximately $29 million of the $78 million commitment we previously made to a light-renovation multifamily loan fund, and we expect the remainder of the commitment to be funded over the next few quarters.
Ñ
Credit fundamentals in our investment portfolio remain strong, benefiting from continued stability in the general economy and in housing.




 
THE REDWOOD REVIEW I 2ND QUARTER 2019
11

 
Q U A R T E R L Y O V E R V I E W

Mortgage Banking
 
Mortgage Banking Segment Contribution
($ in millions)
 
Three Months Ended
 
 
6/30/2019
 
3/31/2019
 
 
Residential
 
Business Purpose
 
Total Mortgage Banking
 
Total Mortgage Banking
 
 
 
 
 
 
 
 
 
 
Net interest income
$
4

 
$

 
$
5

 
$
5

 
Mortgage banking activities, net
15

 
4

 
19

 
12

 
Mortgage banking income
20


4

 
24

 
17

 
 
 
 
 
 
 
 
 
 
Other income, net

 

 

 

 
Operating expenses
(6
)
 
(6
)
 
(12
)
 
(8
)
 
Provision for income taxes
(1
)
 

 
(1
)
 
(1
)
 
Segment contribution
$
13

 
$
(2
)
 
$
11

 
$
8

 
 
 
 
 
 
 
 
 
 
Core earnings adjustments (1)

 
2

 
2

 

 
Non-GAAP core segment contribution (2)
$
13

 
$

 
$
12


$
8

 
Jumbo loan purchase commitments
$
1,695

 
N/A

 
$
1,695

 
$
1,199

 
(1)
Includes amounts to eliminate purchase accounting adjustments and income tax adjustments of $0.4 million and $1 million for the second and first quarters of 2019, respectively.
(2)
Consistent with management's definition of core earnings set forth on page 38, non-GAAP core segment contribution reflects GAAP segment contribution adjusted to reflect the portion of core earnings adjustments allocable to this segment.

 
THE REDWOOD REVIEW I 2ND QUARTER 2019
12

 
Q U A R T E R L Y O V E R V I E W

Residential Mortgage Banking
Ñ
Segment contribution from our residential mortgage banking operations increased to $13 million in the second quarter from $9 million in the first quarter, as higher loan purchase commitments and strong gross margins, supported by improved securitization and whole loan execution, benefited second quarter results. We define gross margins for this segment as mortgage banking income divided by loan purchase commitments.
Quarterly Jumbo Loan Purchase Volume
($ in billions)
399013551_q2purchvol.jpg
Ñ
The decline in mortgage rates helped drive an increase in loan purchase volumes and lock volumes during the second quarter. While Choice purchase volume increased modestly quarter-over-quarter, Choice lock volume increased close to 30%. At June 30, 2019, our pipeline of jumbo residential loans identified for purchase was $1.0 billion.
Ñ
During the second quarter, we completed one Select securitization of $0.4 billion and sold $0.8 billion of whole loans to third parties.

Business Purpose Mortgage Banking
Ñ
Segment contribution from our business purpose mortgage banking operations for the second quarter was a loss for GAAP purposes, as results included $2 million of expense related to the amortization of purchase intangibles. Non-GAAP core segment contribution excludes these amounts, and was just above break-even for the second quarter. Net interest income from bridge loans originated by this business and sold to our REIT is included in our portfolio segment results. We expect results for this business to improve in future quarters, as we complete our integration of 5 Arches and continue to ramp up business purpose loan origination volume.
Ñ
During the second quarter of 2019, we originated $175 million of loans and associated funding commitments, including $141 million of residential bridge loans and $34 million of single-family rental loans. Loan fundings during this period totaled $134 million, including $101 million of residential bridge loans and $33 million of single-family rental loans.

 
THE REDWOOD REVIEW I 2ND QUARTER 2019
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Q U A R T E R L Y O V E R V I E W

Book Value
Quarter-End Book Value Per Share (1) 
399013551_q2bvps.jpg

Ñ
Our GAAP book value increased $0.01 per share to $16.01 per share during the second quarter of 2019. This increase was primarily driven by GAAP net income covering our dividend and the net positive impact to valuations from spread tightening on certain available-for-sale securities in our investment portfolio, which increased comprehensive income (a component of equity). These increases were partially offset by a decrease in the value of derivatives hedging our long-term debt.
Ñ
The increase in book value per share in the second quarter of 2019, in combination with our $0.30 per share quarterly dividend, contributed to an economic return on book value(2) of 1.9% for the quarter.





_____________________
(1) A detailed rollforward of book value per share is included in Table 5 in the Financial Tables section of this Redwood Review.
(2)
Economic return on book value is based on the periodic change in GAAP book value per common share plus dividends declared per common share during the period.

 
THE REDWOOD REVIEW I 2ND QUARTER 2019
14

 
Q U A R T E R L Y O V E R V I E W

Capital Allocations
We use a combination of equity and unsecured corporate debt (which we collectively refer to as “capital”) to fund our business.
Capital Allocation: By Source and By Business Use
(as of June 30, 2019)
399013551_q2capalloc2.jpg
Ñ
Our total capital of $2.3 billion at June 30, 2019 was comprised of $1.6 billion of equity capital and $0.8 billion of convertible notes and other long-term debt, including $201 million of exchangeable debt due in 2019, $245 million of convertible debt due in 2023, $200 million of convertible debt due in 2024, and $140 million of trust-preferred securities due in 2037, and has a weighted average cost of approximately 6.1%.
Ñ
We also utilize various forms of collateralized debt to finance certain investments and to warehouse our inventory of certain loans held-for-sale. We do not consider this collateralized debt as "capital" and, therefore, exclude it from our capital allocation analysis.
Ñ
The Balance Sheet Analysis portion of the Financial Insights section that follows describes our long-term and short-term borrowings in further detail.

 
THE REDWOOD REVIEW I 2ND QUARTER 2019
15

 
Q U A R T E R L Y O V E R V I E W

 
Capital Allocation Detail
By Investment Type
June 30, 2019
($ in millions)
 
GAAP Fair Value
 
Collateralized Debt
 
Allocated Capital
 
% of Total Capital
 
 
 
 
 
 
 
 
 
 
Residential loans (1)
$
2,486

 
$
(2,000
)
 
$
486

 
21%
 
 
 
 
 
 
 
 
 
 
Securities portfolio
 
 
 
 
 
 
 
 
Sequoia residential securities
476

 
(193
)
 
283

 
12%
 
Agency CRT securities
209

 
(26
)
 
182

 
8%
 
Multifamily securities
735

 
(575
)
 
160

 
7%
 
Re-performing residential loan securities (2)
407

 
(202
)
 
205

 
9%
 
Other third-party residential securities
319

 
(218
)
 
101

 
4%
 
Total securities portfolio (3)
2,145

 
(1,214
)
 
931

 
40%
 
 
 
 
 
 
 
 
 
 
Business purpose residential loans
159

 
(121
)
 
38

 
2%
 
Other investments
190

 

 
190

 
8%
 
Other assets/(liabilities)
(20
)
 

 
(20
)
 
(1)%
 
Cash and liquidity capital
 
 
 
 
517

 
N/A
 
 
 
 
 
 
 
 
 
 
Total Investments
$
4,961

 
$
(3,335
)
 
$
2,143

 
92%
 
 
 
 
 
 
 
 
 
 
Residential mortgage banking
 
 
 
 
130

 
6%
 
Business purpose mortgage banking
 
 
 
 
65

 
3%
 
 
 
 
 
 
 
 
 
 
Total Mortgage banking
 
 
 
 
$
195

 
8%
 
 
 
 
 
 
 
 
 
 
Total
 
 
 
 
$
2,337

 
100%
 
(1)
Includes $43 million of FHLB stock, $49 million of cash and cash equivalents, and $7 million of restricted cash.
(2)
Re-performing residential loan securities represent third-party securities collateralized by seasoned re-performing residential loans.
(3)
In addition to our $1.5 billion of securities on our GAAP balance sheet, securities presented above also include $218 million, $243 million, and $207 million of securities retained from Sequoia Choice, Freddie Mac SLST, and Freddie Mac K-Series securitizations, respectively. For GAAP purposes, we consolidate these securitizations.
Ñ
During the second quarter, our portfolio optimization activities resulted in a decrease in capital allocated to Agency CRT securities and other third-party residential securities from sales, as well as to multifamily securities resulting from incremental financing on these assets. Additionally, we increased capital allocations to re-performing residential loan securities.
Ñ
In the near-term, we expect to further increase capital allocated to multifamily securities, re-performing loan securities, and business purpose residential loans.
Ñ
As of June 30, 2019, our cash and liquidity capital included $200 million of available capital.

 
THE REDWOOD REVIEW I 2ND QUARTER 2019
16

 
Q U A R T E R L Y O V E R V I E W

2019 Updated Financial Outlook(1) 
Our overall financial performance in the first half of 2019 has exceeded the expectations we laid out in our fourth quarter 2018 Redwood Review and, incorporating our expectations for the second half of 2019, we currently anticipate our full year results will be towards the higher end, overall, of the original range we provided.
For the second half of 2019, we will continue to focus on key strategic initiatives to increase sustainable earnings - namely improving investment returns through portfolio optimization, implementing operational efficiencies to maintain strong returns on equity for our residential mortgage banking platform, and disciplined cost management to unlock operating leverage as we scale our business. The following are additional details on our expected activity in 2019:
For our investment portfolio
Ñ
Our investment portfolio returns through the end of the second quarter were near the high end of the 11-13% return on equity range previously provided, benefiting from higher gains associated with increased portfolio optimization activity. For the remainder of 2019, we expect gains to moderate, bringing expected returns for this portfolio for the full year within our original range of 11-13%. We expect to continue to allocate over 90% of our capital to portfolio investments through the remainder of 2019.
Ñ
Investment returns include an estimate of portfolio economic net interest income, interest expense on corporate debt capital, realized gains, direct operating expenses, and taxes.
For our residential mortgage banking platform
Ñ
Our residential mortgage banking platform had strong performance in the first half of 2019, generating a return on equity in excess of our previously disclosed range of mid to high teens. The outperformance was driven by gross margins above our long-term expectations of 75-100 basis points and strong volume growth in the second quarter. For the remainder of 2019, we expect gross margins to normalize and volume growth to stabilize, supporting full year results that we expect to be at the high-end or slightly above our previously disclosed return range. We are currently allocating 6% of our capital to this platform and continue to expect to allocate 5-6% of our capital to support this platform for the remainder of 2019.
Ñ
Mortgage banking returns include an estimate of loan purchase volume, gross margins, direct operating expenses, and taxes.
_____________________
(1)
As with all forward-looking statements, our forward-looking statements relating to our 2019 financial outlook are subject to risks and uncertainties, including, among other things, those described in our Annual Report on Form 10-K under the caption “Risk Factors” and other risks, uncertainties, and factors that could cause actual results to differ materially from those described above and under the heading "Forward-Looking Statements" in the Appendix to this Redwood Review, including those described in the “Forward-Looking Statements” at the beginning of this Redwood Review. Although we may update our 2019 financial outlook subsequently in 2019, as a general matter we undertake no obligation to update or revise forward-looking statements, whether as a result of new information, future events, or otherwise.

 
THE REDWOOD REVIEW I 2ND QUARTER 2019
17

 
Q U A R T E R L Y O V E R V I E W

For our business purpose mortgage banking platform
Ñ
During the first half of 2019 we focused our efforts on integrating 5 Arches into our business purpose lending platform and positioning it for future growth. For the remainder of 2019, we expect returns from this platform to improve, keeping our full-year returns in line with our original expectations. We expect to allocate around 3% of our capital to support this platform through the remainder of 2019. Additionally, we expect the platform to continue to provide new accretive investments for our investment portfolio, the anticipated returns on which are included in our investment portfolio outlook.
Ñ
Expected returns include an estimate of mortgage banking income (including origination points and fees), other income, direct operating expenses, and taxes. Return expectations exclude the same amounts excluded for core earnings related to the 5 Arches acquisition.
For our corporate overhead
Ñ
We continue to expect our baseline corporate operating expenses to be between $48 million and $50 million, with variable compensation commensurate with company performance.















 
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Q U A R T E R L Y O V E R V I E W

Balance Sheet Analysis
The following table presents our consolidated balance sheets at June 30, 2019 and March 31, 2019.
 
Consolidated Balance Sheets (1)
($ in millions)
 
6/30/2019
 
3/31/2019
 
 
 
 
 
 
Residential loans
$
7,283

 
$
7,274

 
Business purpose residential loans
251

 
161

 
Multifamily loans
3,750

 
2,176

 
Real estate securities
1,477

 
1,543

 
Other investments
372

 
414

 
Cash and cash equivalents
218

 
201

 
Other assets
500

 
424

 
 
 
 
 
 
Total assets
$
13,852

 
$
12,193

 
 
 
 
 
 
Short-term debt
 
 
 
 
Mortgage loan warehouse facilities
$
638

 
$
526

 
Business purpose mortgage loan warehouse facilities
174

 
106

 
Security repurchase facilities
1,214

 
1,081

 
Servicer advance financing
236

 
250

 
Convertible notes, net
200

 
200

 
Other liabilities
340

 
270

 
Asset-backed securities issued
 
 
 
 
Residential
3,370

 
3,590

 
Multifamily
3,543

 
2,047

 
Long-term debt, net
2,573

 
2,573

 
Total liabilities
12,288

 
10,643

 
 
 
 
 
 
Stockholders’ equity
1,564

 
1,550

 
 
 
 
 
 
Total liabilities and equity
$
13,852

 
$
12,193

 
(1)
Our consolidated balance sheets include assets of consolidated variable interest entities (“VIEs”) that can only be used to settle obligations of these VIEs and liabilities of consolidated VIEs for which creditors do not have recourse to the primary beneficiary (Redwood Trust, Inc.). At June 30, 2019 and March 31, 2019, assets of consolidated VIEs totaled $7.9 billion and $6.6 billion, respectively, and liabilities of consolidated VIEs totaled $7.2 billion and $5.9 billion, respectively. See Table 10 in the Financial Tables section of this Redwood Review for additional detail on consolidated VIEs.
Ñ
Over the past several quarters, we have invested in several securitizations that we were required to consolidate under GAAP. See Table 9 in the Financial Tables section of this Redwood Review for additional information on these securitizations and other entities that we consolidate.

 
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Recourse Financing
We finance our business with a diversified mix of long-term and short-term recourse debt. The following charts present the composition of our recourse debt and its characteristics at the end of the second quarter:
399013551_q2recoursefina01.jpg
 
Borrowing Type
Average Cost of Funds
Average Remaining Term (yrs.)
 
 
 
FHLBC Borrowings
2.6%
6
Unsecured Corporate Debt
6.1%
6
Mortgage Warehouse
4.2%
<1
Securities Repurchase
3.6%
<1
 
 
 
Weighted Average Cost of Funds
3.7%
 
 
 
 

Ñ
Our unsecured corporate debt is comprised of $200 million of 5.625% convertible notes due in 2024, $245 million of 4.75% convertible notes due in 2023, $201 million of 5.625% exchangeable notes due in 2019, and $140 million of trust-preferred securities due in 2037 (that we hedge to yield approximately 6.9%).
Ñ
Our FHLBC borrowings and securities repurchase debt are used to finance our whole loan and securities investments, respectively, and we utilize mortgage warehouse facilities to finance our mortgage banking activities and investments in business purpose residential loans. These are discussed in further detail in the following sections.
Ñ
Our recourse debt to equity leverage ratio increased to 3.1x at the end of the second quarter from 2.9x at the end of the first quarter, primarily resulting from an increase in security repurchase debt, as we added financing on certain multifamily securities, and were also able to improve financing terms on our business purpose loan investments.
Ñ
In addition to our recourse financing, we have non-recourse ABS debt issued by securitization entities and other non-recourse short-term securitization debt that we consolidate.

_____________________
(1)
See Table 7 in the Financial Tables section of this Redwood Review for details of how our recourse debt to equity leverage ratio is calculated.

 
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Residential Loan Investments
Ñ
At June 30, 2019, we had $2.4 billion of residential loans held-for-investment. These loans are prime-quality, first lien jumbo loans, most of which were originated between 2013 and 2019. At June 30, 2019, 88% of these loans were fixed rate and the remainder were hybrid, and in aggregate, had a weighted average coupon of 4.16%.
Ñ
At June 30, 2019, the weighted average FICO score of borrowers backing these loans was 768 (at origination) and the weighted average loan-to-value ("LTV") ratio of these loans was 66% (at origination). At June 30, 2019, 0.05% of these loans (by unpaid principal balance) were more than 90 days delinquent.
Ñ
We finance our residential loan investments with $2.0 billion of variable-rate FHLB debt through our FHLB-member subsidiary. In connection with these borrowings, our FHLB-member subsidiary is required to hold $43 million of FHLB stock.
Ñ
We seek to minimize the interest rate risk in this portfolio by using a combination of swaps, TBAs, and other derivative instruments.

 
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Securities Portfolio
The following table presents the fair value of our real estate securities at June 30, 2019.
 
Securities Portfolio - By Source and Security Type
June 30, 2019
($ in millions)
 
Interest-Only Securities
 
Senior
 
Mezzanine
 
Subordinate
 
Total
 
% of Total Securities
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Sequoia (1)
$
62

 
$

 
$
232

 
$
182

 
$
476

 
22
%
 
Re-performing (2)
29

 
28

 
245

 
105

 
407

 
19
%
 
Agency CRT

 

 

 
209

 
209

 
10
%
 
Other third-party

 
121

 
111

 
86

 
318

 
15
%
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Total residential securities
$
91

 
$
149

 
$
588

 
$
582

 
$
1,410

 
66
%
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Multifamily securities (3)

 

 
552

 
183

 
735

 
34
%
 
Total securities portfolio
$
91

 
$
149

 
$
1,140

 
$
765

 
$
2,145

 
100
%
 
(1)
Presents securities retained from our Sequoia securitizations that were issued from 2012 through 2019. These securities included $13 million of interest-only securities, $155 million of mezzanine securities, and $50 million of subordinate securities retained from our Sequoia Choice securitizations, which were consolidated for GAAP purposes.
(2)
Re-performing securities included $243 million of mezzanine and subordinate securities issued from an Agency residential securitization that is consolidated for GAAP purposes.
(3)
Multifamily securities included $24 million of mezzanine securities and $183 million of subordinate securities issued from Agency multifamily securitizations that are consolidated for GAAP purposes.
At June 30, 2019, our securities consisted of fixed-rate assets (87%), adjustable-rate assets (10%), hybrid assets that reset within the next year (2%), and hybrid assets that reset between 12 and 36 months (1%). For the portions of our securities portfolio that are sensitive to changes in interest rates, we seek to minimize this interest rate risk by using various derivative instruments.
We finance our holdings of real estate securities with a combination of capital and collateralized debt in the form of repurchase (or “repo”) financing. At June 30, 2019, we had short-term debt incurred through repurchase facilities totaling $1.2 billion with 10 separate counterparties, which was secured by $1.5 billion of real estate securities. The remaining $643 million of securities were financed with capital.

 
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Q U A R T E R L Y O V E R V I E W

The following table presents the fair value of our real estate securities that are financed with repurchase debt, at June 30, 2019.
 
Real Estate Securities Financed with Repurchase Debt
June 30, 2019
($ in millions, except weighted average price)
 
Real Estate Securities (3)
 
Repurchase Debt
 
Allocated Capital
 
Weighted Average Price (1)
 
Financing Haircut (2)
 
 
 
 
 
 
 
 
 
 
 
 
Residential securities
 
 
 
 
 
 
 
 
 
 
Senior
$
149

 
$
(136
)
 
$
13

 
$
102

 
9
%
 
Mezzanine
569

 
(463
)
 
106

 
97

 
19
%
 
Subordinate
50

 
(41
)
 
9

 
97

 
18
%
 
Total residential securities
767

 
(640
)
 
128

 
 
 
 
 
Multifamily securities
735

 
(575
)
 
160

 
88

 
22
%
 
 
 
 
 
 
 
 
 
 
 
 
Total
$
1,502

 
$
(1,214
)
 
$
288

 
$
93

 
19
%
 
(1)
GAAP fair value per $100 of principal.
(2)
Allocated capital divided by GAAP fair value.
(3)
Includes $148 million, $203 million, and $207 million of securities we owned that were issued by consolidated Sequoia Choice, Freddie Mac SLST, and Freddie Mac K-Series securitizations, respectively.     
Ñ
In addition to the allocated capital listed in the table above that directly supports our repurchase facilities (i.e., “the haircut”), we continue to hold a designated amount of supplemental risk capital available for potential margin calls or future obligations relating to these facilities.
Ñ
Additional information on the residential securities we own is set forth in Table 9 in the Financial Tables section of this Redwood Review.
Business Purpose Residential Loan Investments
Ñ
At June 30, 2019, our $159 million of business purpose residential loans held-for-investment were comprised of short-term, residential bridge loans, which were originated in 2018 and 2019.
Ñ
At June 30, 2019, the portfolio contained 274 loans with a weighted average coupon of 9.08% and a weighted average LTV ratio of 74% (at origination). At June 30, 2019, 11 of these loans with a cumulative unpaid principal balance and fair value of $12 million were more than 90 days delinquent. These delinquent loans had a weighted average LTV ratio of 85% (at origination), and we currently expect to recover the full carrying amount of these loans. Since June 30, 2019, two of these loans with a cumulative unpaid principal balance and fair value of $6 million were resolved with full repayment of principal, regular interest and expenses.

 
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Q U A R T E R L Y O V E R V I E W

Ñ
We finance our business purpose residential loan investments with warehouse debt that had a balance of $120 million at June 30, 2019.
Ñ
At June 30, 2019, our business purpose residential warehouse capacity for financing residential bridge loans totaled $330 million across four separate counterparties.
Other Investments
Ñ
At June 30, 2019, our other investments were primarily comprised of $259 million of servicer advance investments ($67 million of capital invested, net of non-recourse securitization debt collateralized by servicing-related assets), $47 million of MSRs retained from our Sequoia securitizations, $34 million of excess servicing investments, and a $29 million investment in a light-renovation multifamily loan fund.
Residential Loans Held-for-Sale
Ñ
At June 30, 2019, we had $1.1 billion of residential mortgages held-for-sale financed with $638 million of warehouse debt. These loans included $515 million of Select loans and $542 million of expanded-prime Choice loans.
Ñ
Our residential warehouse capacity at June 30, 2019 totaled $1.4 billion across four separate counterparties.
Ñ
At June 30, 2019, our pipeline of jumbo residential loans identified for purchase was $1.0 billion.
Ñ
We seek to minimize the exposure we have to interest rates on our loan pipeline (for loans both on balance sheet and identified for purchase) by using a combination of TBAs, interest rate swaps, and other derivative instruments.
Ñ
At June 30, 2019, we had 481 loan sellers, which included 186 jumbo sellers and 295 MPF Direct sellers from various FHLB districts.
Business Purpose Residential Loans Held-for-Sale
Ñ
At June 30, 2019, we had $92 million of business purpose residential loans held-for-sale that were financed with $54 million of short-term warehouse debt. All of these loans were collateralized by single-family rental properties.
Ñ
At June 30, 2019, the weighted average coupon on these loans was 5.54% and the LTV ratio was 66% (at origination).
Ñ
At June 30, 2019, our business purpose residential warehouse capacity for financing single-family rental loans totaled $400 million across two separate counterparties.
Ñ
We seek to minimize the exposure we have to interest rates on our business purpose loan pipeline by using interest rate swaps and other derivative instruments.

 
THE REDWOOD REVIEW I 2ND QUARTER 2019
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  G L O S S A R Y

399013551_a2019financialtablesdivi2.jpg

 
THE REDWOOD REVIEW I 2ND QUARTER 2019
25



399013551_rwtq12019appendixlogoa02.jpg
Table 1: GAAP Earnings (in thousands, except per share data)
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
2019
Q2
 
2019
Q1
 
2018
Q4
 
2018
Q3
 
2018
Q2
 
2018
Q1
 
2017
Q4
 
2017
Q3
 
2017
Q2
 
 
Six Months 2019
 
Six Months 2018
 
Interest income
$
146,483

 
$
129,111