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UNITED STATES SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
X QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
- -------- EXCHANGE ACT OF 1934
For the quarterly period ended: September 30, 1996
OR
TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the transition period from ___________ to ___________
Commission File Number: 001-11914
THORNBURG MORTGAGE ASSET CORPORATION
(Exact name of Registrant as specified in its Charter)
Maryland 85-0404134
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification Number)
119 E. Marcy Street
Santa Fe, New Mexico 87501
(Address of principal executive offices) (Zip Code)
Registrant's telephone number, including area code (505) 989-1900
(Former name,former address and former fiscal year,if changed since last report)
Indicate by check mark whether the Registrant (1) has filed all documents and
reports required to be filed by Section 13 or 15(d) of the Securities Exchange
Act of 1934 during the preceding 12 months (or for such shorter period that the
Registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days.
(1) Yes X No
--------- ----------
(2) Yes X No
--------- ----------
APPLICABLE ONLY TO CORPORATE ISSUERS:
Indicate the number of shares outstanding of each of the issuer's classes of
common stock, as of the last practicable date.
Common Stock ($.01 par value) 16,219,241 as of October 30, 1996
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<PAGE>
THORNBURG MORTGAGE ASSET CORPORATION
FORM 10-Q
INDEX
Page
---------
PART I. FINANCIAL INFORMATION
Item 1. Financial Statements
Balance Sheets at September 30, 1996 and December 31, 1995... 3
Statements of Operations for the three months and nine
months ended September 30, 1996 and September 30, 1995....... 4
Statement of Stockholders' Equity for the three months
and nine months ended September 30, 1996..................... 5
Statements of Cash Flows for the three months and nine
months ended September 30, 1996 and September 30, 1995....... 6
Notes to Financial Statements................................ 7
Item 2. Management's Discussion and Analysis of
Financial Condition and Results of Operations................ 13
PART II. OTHER INFORMATION
Item 1. Legal Proceedings............................................ 21
Item 2. Changes in Securities ....................................... 21
Item 3. Defaults Upon Senior Securities ............................. 21
Item 4. Submission of Matters to a Vote of Security Holders.......... 21
Item 5. Other Information............................................ 21
Item 6. Exhibits and Reports on Form 8-K............................. 21
SIGNATURES..............................................................22
Exhibit Index...........................................................23
<PAGE>
PART I. FINANCIAL INFORMATION
Item 1. Financial Statements
THORNBURG MORTGAGE ASSET CORPORATION
BALANCE SHEETS
(In thousands, except share data)
September 30, 1996 December 31, 1995
ASSETS ------------------ -----------------
Adjustable-rate mortgage
securities (Notes 2, 3 and 4) $ 2,557,903 $ 1,995,287
Cash and cash equivalents 1,928 3,660
Accrued interest receivable 21,561 18,778
Prepaid expenses and other 1,124 260
-------------- ---------------
$ 2,582,516 $ 2,017,985
============== ===============
LIABILITIES
Reverse repurchase agreements
(Note 3 and 4) $ 2,327,773 $ 1,780,854
Other borrowings (Note 3 and 4) 15,390 18,446
Payable for securities purchased - 42,990
Accrued interest payable 12,681 9,907
Dividends payable (Note 7) 6,439 4,632
Accrued expenses and other 1,953 679
------------- --------------
2,364,236 1,857,508
------------- --------------
STOCKHOLDERS' EQUITY
Common stock: par value $.01 per
share; 50,000,000 shares
authorized, 16,098,671 and
12,190,712 shares issued and
outstanding (Note 6) 161 122
Additional paid-in-capital 231,228 175,708
Available-for-sale securities:
Unrealized gain (loss) (Note 2) (18,091) (21,835)
Realized deferred hedging gain 4,967 7,009
Retained earnings (deficit) 15 (527)
------------- --------------
218,280 160,477
------------- --------------
$ 2,582,516 $ 2,017,985
============= ===============
See Notes to Financial Statements.
<PAGE>
THORNBURG MORTGAGE ASSET CORPORATION
STATEMENTS OF OPERATIONS
(In thousands, except share data)
Three Months Ended Nine Months Ended
September 30, September 30,
1996 1995 1996 1995
----------- ----------- ----------- ----------
Interest income $ 40,173 $ 30,178 $ 108,556 $ 84,057
Interest expense 32,221 25,757 87,188 76,020
----------- ---------- --------- ---------
Net interest income 7,952 4,421 21,368 8,037
----------- ---------- --------- ---------
Gain (loss) on sale of
ARM securities 320 42 333 (617)
General and administrative expenses:
Management fee (Note 5) 430 348 1,194 1,037
Performance fee (Note 5) 631 151 1,727 151
Other 183 131 452 363
----------- ---------- --------- ---------
1,244 630 3,373 1,551
----------- ---------- --------- ----------
Net income $ 7,028 $ 3,833 $ 18,328 $ 5,869
=========== ========== ========= ==========
Net income per share $ 0.44 $ 0.32 $ 1.27 $ 0.50
=========== ========== ========= ==========
Average number of shares
outstanding 16,080,363 11,946,970 14,425,873 11,867,693
=========== =========== =========== ===========
See Notes to Financial Statements.
<PAGE>
THORNBURG MORTGAGE ASSET CORPORATION
STATEMENTS OF STOCKHOLDERS' EQUITY
Three Months and Nine Months Ended September 30, 1996
(In thousands, except share data)
Available-for-Sale Sec
----------------------
Common Realized
Stock Additional Unrealized Deferred Retained
Par Paid-in Gain Gain From Earnings
Value Capital (Loss) Hedging (Deficit) Total
Balance, ------ ---------- ---------- --------- --------- --------
December 31, 1995 $ 122 $ 175,708 $ (21,835) $ 7,009 $ (527) $160,477
Issuance of common
stock (Note 5) 37 53,066 - - - 53,103
Available-for-Sale Sec:
Fair value adjustment,
net of amortization - - 2,339 - - 2,339
Deferred gain on sale
of hedges, net of
amortization - - - (1,563) - (1,563)
Net income - - - - 11,300 11,300
Dividends declared -
$0.80 per share - - - - (11,347) (11,347)
Balance, ------ ---------- ------------ -------- ------- --------
June 30, 1996 159 228,774 (19,496) 5,446 (574) 214,309
Issuance of common
stock (Note 5) 2 2,454 - - - 2,456
Available-for-Sale Sec:
Fair value adjustment,
net of amortization - - 1,405 - - 1,405
Deferred gain on sale
of hedges, net of
amortization - - - (479) - (479)
Net income - - - - 7,028 7,028
Dividends declared -
$0.40 per share - - - - (6,439) (6,439)
Balance, ------- ---------- ----------- --------- ------- --------
September 30, 1996 $ 161 $ 231,228 $ (18,091) $ 4,967 $ 15 $218,280
======= ========== =========== ========= ======= ========
See Notes to Financial Statements.
<PAGE>
THORNBURG MORTGAGE ASSET CORPORATION
STATEMENTS OF CASH FLOWS
(In thousands)
Three Months Ended Nine Months Ended
September 30, September 30,
1996 1995 1996 1995
---------- ---------- ---------- ---------
Operating Activities:
Net Income $ 7,028 $ 3,833 $ 18,328 $ 5,869
Adjs to reconcile net income
to net cash provided by
operating activities:
Amortization 3,432 1,538 10,210 2,563
Net (gain) loss from
investing activities (320) (42) (333) 617
Change in assets and liab:
Accrued interest receivable (2,026) (649) (2,783) (3,457)
Prepaid expenses and other (791) (34) (864) (165)
Accrued interest payable 1,529 (936) 2,774 579
Accrued expenses and other 1,231 (235) 1,274 87
Net cash provided by ---------- ---------- ---------- ---------
operating activities 10,083 3,475 28,606 6,093
---------- ---------- ---------- ---------
Investing Activities:
Available-for-sale assets:
Purchase of adj-rate
mortgage assets (310,220) (220,600) (1,068,522) (408,096)
Proceeds on sales of adj-rate
mortgage assets 26,047 16,235 32,586 65,218
Principal payments on adj-rate
mortgage assets 107,298 61,258 327,880 118,735
Held-to-maturity assets:
Principal payments on adj-rate
mortgage assets 27,191 20,867 94,697 46,930
Purchase of int rate cap agreements - (185) (423) (403)
Net cash provided by (used in)--------- ----------- ----------- --------
investing activities (149,684) (122,425) (613,782) (177,616)
---------- ---------- ----------- ---------
Financing Activities:
Net borrowings from reverse
repurchase agreements 137,677 118,606 546,919 170,598
Repayments of other borrowings (762) (705) (3,056) (2,501)
Proceeds from common stock issued 2,456 925 55,560 1,866
Dividends paid (6,375) (1,783) (15,979) (5,316)
Net cash provided by (used in)---------- ---------- ---------- --------
financing activities 132,996 117,043 583,444 164,647
---------- ---------- ---------- --------
Net increase (decrease) in cash
and cash equivalents (6,605) (1,907) (1,732) (6,876)
Cash and cash equivalents at
beginning of period 8,533 5,879 3,660 10,848
Cash and cash equivalents at ---------- ---------- ---------- ---------
end of period $ 1,928 $ 3,972 $ 1,928 $ 3,972
========== ========== ========== =========
Supplemental disclosure of cash flow information and non-cash activities are
included in Note 3.
See Notes to Financial Statements
<PAGE>
NOTES TO FINANCIAL STATEMENTS
Note 1. Significant Accounting Policies
Cash and cash equivalents
Cash and cash equivalents includes cash on hand and highly
liquid investments with original maturities of three months or
less. The carrying amount of cash equivalents approximates
their value.
Adjustable-rate mortgage securities
The Company's policy is to classify each of its assets as
available-for-sale as they are purchased and then monitor each
asset for a period of time, generally six to twelve months,
prior to making a determination whether the asset will be
classified as held-to-maturity. Management has made the
determination that certain securities are available-for-sale
in order to be prepared to respond to potential future
opportunities in the market, to sell securities in order to
optimize the portfolio's total return and to retain its
ability to respond to economic conditions that require the
Company to sell assets in order to maintain an appropriate
level of liquidity. Management re-evaluates the classification
of the securities on a quarterly basis. All securities
classified as held-to-maturity are carried at the fair value
of the security at the time the designation is made and any
fair value adjustment to the cost basis as of the date of the
classification is amortized into interest income as a yield
adjustment. All securities designated available-for-sale are
reported at fair value, with unrealized gains and losses
excluded from earnings and reported as a separate component of
shareholders' equity.
Premiums and discounts associated with the purchase of the
securities are amortized into interest income over the lives
of the securities using the effective yield method adjusted
for the effects of estimated prepayments.
Securities transactions are recorded on the date the
securities are purchased or sold. Purchases of new issue
securities are recorded when all significant uncertainties
regarding the characteristics of the securities are removed,
generally shortly before settlement date. Realized gains and
losses on securities transactions are determined on the
specific identification basis.
Credit risk
The Company has limited its exposure to credit losses on its
portfolio of adjustable-rate mortgage ("ARM") securities by
only purchasing securities that have some form of credit
enhancement and are either guaranteed by an agency of the
federal government or have an investment grade rating at the
time of purchase, or the equivalent, by at least one of two
nationally recognized rating agencies, Moody's or Standard &
Poor's. The Company also limits its exposure to credit losses
by limiting its investment in investment grade securities that
are rated A, or equivalent, or BBB, or equivalent, ("Other
Investments") to no more than 30% of the portfolio and
currently has less than 5% of its portfolio invested in Other
Investments. Other Investments generate a higher yield,
believed to be commensurate to the additional credit risk of
such investments. The Company monitors the delinquencies and
losses on the underlying mortgages of its ARM securities and,
if the credit performance of the underlying mortgage loans is
not as good as expected, makes a provision for possible credit
losses at a level deemed appropriate by management to provide
for known losses as well as unidentified potential future
losses in its ARM securities portfolio. The provision is based
on management's assessment of numerous factors affecting its
portfolio of ARM securities including, but not limited to,
current and projected economic conditions, delinquency status,
credit losses to date on underlying mortgages and remaining
credit protection. The provision is made by reducing the cost
basis of the individual security and the amount of such
write-down is recorded as a realized loss, thereby reducing
earnings. Provisions for credit losses do not reduce taxable
income and therefore do not effect the dividends paid by the
Company to shareholders in the period the provisions are
taken. Actual losses realized by the Company do reduce taxable
income in the period the actual loss is realized and would
effect the dividends paid to shareholders for that tax year.
Interest rate cap agreements
The Company purchases interest rate cap agreements (the "Cap
Agreements") to limit the Company's risks associated with the
lifetime or maximum interest rate caps of its ARM securities
should interest rates rise above specified levels. The Cap
Agreements reduce the effect of the lifetime cap feature so
that the yield on the ARM securities will continue to rise in
high interest rate environments as the Company's cost of
borrowings also continue to rise. The Company's borrowings do
not have a similar interest rate cap limitation.
The Cap Agreements classified as a hedge against
held-to-maturity securities are initially carried at their
fair value as of the time the Cap Agreements and the related
securities are designated as held-to-maturity with an
adjustment to equity for any unrealized gains or losses at the
time of the designation. Any adjustment to equity is
thereafter amortized into interest income as a yield
adjustment in a manner consistent with the amortization of any
premium or discount. The Cap Agreements that are classified as
a hedge against available-for-sale securities are carried at
fair value with unrealized gains and losses reported as a
separate component of equity, consistent with the reporting of
such securities. The carrying value of the Cap Agreements are
included in ARM securities on the balance sheet. The
amortization of the carrying value of the Cap Agreements is
included in interest income as a contra item (i.e. expense)
and, as such, reduces interest income over the lives of the
Cap Agreements.
Realized gains and losses resulting from the termination of
the Cap Agreements that are hedging assets classified as
held-to-maturity are deferred as an adjustment to the carrying
value of the related assets and are amortized into interest
income over the terms of the related assets. Realized gains
and losses resulting from the termination of such agreements
that are hedging assets classified as available-for-sale are
initially reported in a separate component of equity,
consistent with the reporting of those assets, and are
thereafter amortized as a yield adjustment.
Interest rate swap agreements
The Company enters into interest rate swap agreements in order
to manage its interest rate exposure when financing its ARM
securities. Revenues and expenses from the interest rate swap
agreements are accounted for on an accrual basis and
recognized as a net adjustment to interest expense.
Income taxes
The Company has elected to be taxed as a Real Estate
Investment Trust ("REIT") and intends to comply with the
provisions of the Internal Revenue Code of 1986, as amended
(the "Code"), with respect thereto. Accordingly, the Company
will not be subject to Federal or state income tax to the
extent of its distributions to shareholders and as long as
certain asset, income and stock ownership tests are met.
Net income per share
Net income per share is computed by dividing net income by the
weighted average number of common shares and common share
equivalents (e.g., stock options), if dilutive, outstanding
during the period.
Use of estimates
The preparation of financial statements in conformity with
generally accepted accounting principles requires management
to make estimates and assumptions that effect the reported
amounts of assets and liabilities and disclosure of contingent
assets and liabilities at the date of the financial statements
and the reported amounts of revenues and expenses during the
reporting period. Actual results could differ from those
estimates.
<PAGE>
Note 2. Adjustable-Rate Mortgage Securities and Interest Rate Cap Agreements
Investments in ARM securities consist of mortgage certificates
secured by ARM loans, primarily on single-family residential
housing.
The following table pertains to the Company's ARM securities
classified as available-for-sale as of September 30, 1996 and
December 31, 1995, which are carried at their fair value:
Available-for-Sale
--------------------------------------
(In thousands) September 30, 1996 December 31, 1995
------------------ -----------------
Amortized cost basis $ 2,096,873 $ 1,440,345
Allowance for losses (200) -
------------------ -----------------
Amortized cost, net 2,096,673 1,440,345
------------------ -----------------
Gross unrealized gains 6,282 4,468
Gross unrealized losses (23,214) (24,800)
------------------ -----------------
Fair Value $ 2,079,741 $ 1,420,013
================== =================
During the quarter ended September 30, 1996, the Company sold
$25.5 million ARM securities for a gain of $520,000. For the
nine-month period ended September 30, 1996, the Company realized
$581,000 in gains and $48,000 in losses on the sale of $32.1
million of ARM securities, which were classified as
available-for-sale.
As of September 30, 1996, the Company has reduced the cost basis
of its ARM securities due to potential future credit losses in the
amount of $200,000. Although no losses have been realized on any
of the Company's ARM securities, the Company's analysis of losses
on loans underlying certain ARM securities owned by the Company
relative to the remaining credit support protecting the Company
from credit losses indicates that there is the possibility of
future losses.
The following table pertains to the Company's ARM securities
classified as held-to-maturity as of September 30, 1996 and
December 31, 1995, which are carried at their amortized cost
basis:
Held-To-Maturity
--------------------------------------
(In thousands) September 30, 1996 December 31, 1995
------------------ -----------------
Amortized cost basis $ 478,163 $ 575,274
Gross unrealized gains 3,790 3,746
Gross unrealized losses (4,546) (5,437)
------------------ -----------------
Fair Value $ 477,407 $ 573,583
================== =================
As of September 30, 1996, the Company had commitments to purchase
$14.1 million of ARM securities.
The average effective yield on the ARM securities owned, including
the amortization of the net premium paid for the ARM securities
and the Cap Agreements, was 6.51% as of September 30, 1996 and
6.73% as of December 31, 1995.
As of September 30, 1996 and December 31, 1995, the Company had
purchased Cap Agreements with a remaining notional amount of
$1,887,788,000 and $1,461,814,000, respectively. The notional
amount of the Cap Agreements purchased decline at a rate that is
expected to approximate the amortization of the ARM securities.
Under these Cap Agreements, the Company will receive cash payments
should either the three-month or six-month London InterBank Offer
Rate ("LIBOR") increase above the contract rates of the Cap
Agreements which range from 7.50% to 12.50%. The initial aggregate
notional amount of the Cap Agreements declines to approximately
$1,207,457,000 over the period of the agreements, which expire
between 1999 and 2001. The Company purchased these Cap Agreements
by incurring a one-time fee, or premium. The premium is amortized,
or expensed, over the lives of the Cap Agreements and decreases
interest income on the Company's ARM securities during the period
of amortization. The Company has credit risk to the extent that
the counterparties to the Cap Agreements do not perform their
obligations under the Cap Agreements. If one of the counterparties
does not perform, the Company would not receive the cash to which
it would otherwise be entitled under the conditions of the Cap
Agreement. In order to mitigate this risk and achieve competitive
pricing, the Company has a policy of entering into these
agreements with several different counterparties, each of whom
must be rated AA or better. The Company has entered into Cap
Agreements with six different counterparties, three of which are
rated AAA and three of which are rated AA.
Note 3. Reverse Repurchase Agreements and Other Borrowings
The Company has entered into reverse repurchase agreements to
finance most of its mortgage securities. The reverse repurchase
agreements are collateralized borrowings secured by the market
value of the Company's mortgage securities and bear interest rates
that have historically moved in close relationship to LIBOR.
As of September 30, 1996, the Company had outstanding
$2,327,773,000 of reverse repurchase agreements with a weighted
average borrowing cost of 5.65%, a weighted average remaining
maturity of 5.3 months and a weighted average remaining term to
the next repricing of 49 days. As of September 30, 1996,
$1,147,186,000 of the Company's borrowings were variable-rate term
reverse repurchase agreements with original maturities that range
from three months to two years. The interest rates of these term
reverse repurchase agreements are indexed to either the one, three
or six month LIBOR rate and reprice accordingly. The reverse
repurchase agreements at September 30, 1996 were collateralized by
mortgage securities with a carrying value of $2,434,318,000,
including accrued interest.
The Company has a line of credit agreement which provides for
short-term borrowings of up to $25,000,000 collateralized by the
Company's principal and interest receivables. At September 30,
1996, there was no balance outstanding under this agreement.
As of September 30, 1996, the Company had financed most of its
portfolio of Cap Agreements with $15,390,000 of other borrowings
which require quarterly or semi-annual payments until the year
2000. These borrowings have a weighted average fixed rate of
interest of 7.91% and have a weighted average remaining maturity
of 3.3 years. The Cap Agreements at September 30, 1996 were
collateralized by mortgage securities with a carrying value of
$16,208,000, including accrued interest.
As of September 30, 1996, the Company has entered into two
interest rate swap agreements having an aggregate notional balance
of $300 million and a weighted average remaining term of 7.0
months. In accordance with these agreements, the Company will pay
a fixed rate of interest during the term of these agreements and
receive a payment that varies monthly with the one-month LIBOR
rate. As a result of entering into these agreements, the Company
has reduced the interest rate variability of its cost to finance
its adjustable-rate mortgage assets by increasing the average
period until the next repricing of its borrowings from 57 days to
81 days.
During the three-month and nine-month periods ended September 30,
1996, the total cash paid for interest was $31,228,000 and
$84,247,000, respectively.
<PAGE>
Note 4. Fair Value of Financial Instruments
The following table presents the carrying amounts and estimated
fair values of the Company's financial instruments at September
30, 1996 and December 31, 1995. FASB Statement No. 107,
Disclosures About Fair Value of Financial Instruments, defines the
fair value of a financial instrument as the amount at which the
instrument could be exchanged in a current transaction between
willing parties, other than in a forced or liquidation sale.
September 30, 1996 December 31, 1995
-------------------- ---------------------
Carrying Fair Carrying Fair
(In thousands) Amount Value Amount Value
Assets: ---------- ---------- ---------- ----------
Adj-rate mortgage
securities $2,550,899 $2,553,002 $1,988,127 $1,990,217
Cap agreements 7,004 4,145 7,160 3,379
Liabilities:
Other borrowings 15,390 16,023 18,446 19,131
Swap agreements 53 339 (33) 580
The above carrying amounts for assets are combined in the balance
sheet under the caption "adjustable-rate mortgage securities". The
carrying amount for assets categorized as available-for-sale is
their fair value whereas the carrying amount for assets
held-to-maturity is their amortized cost.
The fair values of the Company's ARM securities and Cap Agreements
are based on market prices provided by nationally recognized
third-party pricing services and certain dealers who make markets
in these financial instruments. The fair value of the Company's
long-term debt and interest rate swap agreements, which are
off-balance sheet financial instruments, are based on market
values provided by dealers who are familiar with the terms of the
long-term debt and swap agreements. The fair values reported
reflect estimates and may not necessarily be indicative of the
amounts the Company could realize in a current market exchange.
Cash and cash equivalents, interest receivable, reverse repurchase
agreements and other liabilities are reflected in the financial
statements at their amortized cost, which approximates their fair
value because of the short-term nature of these instruments.
Note 5. Common Stock and Stock Option Plan
On October 9, 1995, the Company entered into a Sales Agency
Agreement with PaineWebber Incorporated. In accordance with the
Sales Agency Agreement, PaineWebber agreed to sell, at the
direction and discretion of the Company, up to 1,174,969
additional shares of the Company's common stock, representing 10%
of aggregate market value of the Company's common stock held by
non-affiliates. During the quarter ended September 30, 1996, the
Company did not sell any shares under this Sales Agency Agreement.
During the nine-month period ended September 30, 1996, the Company
sold 207,500 shares under this Sales Agency Agreement and received
net proceeds of $3,118,000.
During the quarter ended September 30, 1996, the Company issued
151,013 shares of common stock under its Dividend Reinvestment and
Stock Purchase Plan and received net proceeds of $2,303,000.
During the nine-month period ended September 30, 1996, the Company
issued 226,864 shares under this plan and received net proceeds of
$3,408,000.
On April 23, 1996, the Company completed a public offering of
3,000,000 shares of its common stock. The Company received net
proceeds of $42,348,000. The offering was managed by PaineWebber
Incorporated, EVEREN Securities, Inc., Principal Financial
Securities, Inc., Stifel Nicolaus & Company, Incorporated and
Thornburg Securities Corporation (the "Underwriters"). On April
29, 1996, the Underwriters notified the Company of their intent to
exercise their option to purchase an additional 450,000 shares to
cover over-allotments which provided the Company with additional
net proceeds of $6,321,000.
The Company has adopted a Stock Option Plan which authorizes the
granting of options to purchase an aggregate of up to 1,000,000
shares, but not more than 5% of the outstanding shares of the
Company's common stock. The exercise price for any options granted
under the Stock Option Plan may not be less than 100% of the fair
market value of the shares of the common stock at the time the
option is granted. As of September 30, 1996, the Company had
613,413 options outstanding at exercise prices of $9.375 to
$16.125 per share, 467,113 of which were exercisable. The weighted
average exercise price of the options outstanding is $15.434 per
share. The options become exercisable six months after the date
granted and will expire ten years after the date granted. On
August 2, 1996, Mr. Richard H. Keyes, a former director of the
Company, exercised 10,164 options at an average exercise price of
$16.00 for which the Company received proceeds of $163,000.
In the quarter ended March 31, 1996, the Company was required to
adopt Statement of Financial Accounting Standards No. 123,
"Accounting for Stock-Based Compensation". This statement applies
to transactions in which an entity grants shares of its common
stock, stock options or other equity instruments to its officers
or employees and requires the entity to compute a compensation
cost based on the fair value of the award on the date of the
grant. The entity can either recognize this compensation expense
or continue to account for such awards using the intrinsic value
method of accounting while providing a pro forma disclosure of net
income and earnings per share based on the fair value method. The
Company has elected to continue to account for its stock option
plan using the intrinsic value method and in the quarter and
nine-month period ended September 30, 1996, the compensation
expense that would have been recognized under the fair value
method was immaterial.
Note 6. Transactions with Affiliates
The Company has a Management Agreement (the "Agreement") with
Thornburg Mortgage Advisory Corporation ("the Manager"). Under the
terms of this Agreement, the Manager, subject to the supervision
of the Company's Board of Directors, is responsible for the
management of the day-to-day operations of the Company and
provides all personnel and office space. The Agreement provides
for an annual review by the unaffiliated directors of the Board of
Directors of the Manager's performance under the Agreement.
The Company pays the Manager an annual base management fee based
on average shareholders' equity, adjusted for liabilities that are
not incurred to finance assets ("Average Shareholders' Equity" or
"Average Net Invested Assets" as defined in the Agreement) payable
monthly in arrears as follows:
1% of the first $50 million of Average Shareholders' Equity, plus
3/4 of 1% of the portion between $50 million and $100 million, plus
5/8 of 1% of the portion between $100 million and $200 million,plus
1/2 of 1% of the portion between $200 million and $300 million,plus
3/8 of 1% of the portion above $300 million.
For the quarters ended September 30, 1996 and 1995, the Company
paid the Manager $430,000 and $348,000, respectively, in base
management fees in accordance with the terms of the Agreement. For
the nine-month periods ended September 30, 1996 and 1995, the
Company paid the Manager $1,194,000 and $1,037,000, respectively,
in base management fees.
The Manager is also entitled to earn performance based
compensation in an amount equal to 25% of the Company's annualized
net income, before performance based compensation, above an
annualized Return on Equity equal to the ten year U.S. Treasury
Rate plus 1%. For purposes of the performance fee calculation,
equity is generally defined as the proceeds from issuance of
common stock, before underwriter's discount and other costs of
issuance, plus retained earnings. For the quarter and nine-month
period ended September 30, 1996, the Manager earned a performance
fee in the amount of $631,000 and $1,727,000, respectively. For
the quarter and nine-month period ended September 30, 1995, the
Manager earned a performance fee in the amount of $151,000.
On September 18, 1996, the Board of Directors of the Company
completed a study of the management fees and expenses of
comparable companies. The study indicated that the total
management fees and other operating expenses of the Company are
below the level of other comparable companies, whether the other
companies were self-managed or externally managed. The study also
indicated that the Company's base management fee was significantly
less than any other externally managed company and that the
performance fee was higher. As a result of the study, the
unaffiliated directors decreased the formula for the performance
based compensation from 25% to 20% of the Company's annualized net
income, before performance based compensation, above an annualized
Return on Equity as described above. Additionally, the
unaffiliated directors simplified the formula for the base
management fee to 1.10% on the first $300 million of Average
Shareholders' Equity and 0.80% on Average Shareholders' Equity
above $300 million. These changes take effect October 1, 1996 and
are not expected to result in a significant change in the total
fee paid to the manager under the present circumstances.
Management believes these changes will result in a lower total fee
to be paid to the Manager under circumstances when the Company has
a higher return on equity and a higher total fee to be paid to the
manager when return on equity is lower, but still in line with,
and probably lower than other comparable companies.
Note 7. Dividends
On September 18, 1996, the Company declared a third quarter
dividend of $6,439,468 or $0.40 per share which was paid on
October 10, 1996 to shareholders of record as of September 30,
1996. For federal income tax purposes such dividends are ordinary
income to the Company's shareholders.
Item 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS
General
Thornburg Mortgage Asset Corporation (the "Company") is a special purpose
financial institution that primarily invests in adjustable-rate mortgage (ARM)
securities, thereby indirectly providing capital to the single-family
residential housing market. ARM securities represent interests in pools of
adjustable-rate mortgage loans, which often include guarantees or other credit
enhancements against losses from loan defaults. While the Company is not a bank
or savings and loan, its business purpose, strategy, method of operation and
risk profile are best understood in comparison to such institutions. The Company
leverages its equity capital using borrowed funds, invests in ARM securities and
seeks to generate income based on the difference between the yield on its ARM
securities portfolio and cost of its borrowings. The corporate structure of the
Company differs from most lending institutions in that the Company is organized
for tax purposes as a real estate investment trust ("REIT") and, therefore,
generally passes through substantially all of its earnings to shareholders
without paying federal income tax at the corporate level.
The Company's mortgage securities portfolio may consist of either agency or
privately issued (generally publicly registered) mortgage pass-through
securities, multiclass pass-through securities, Collateralized Mortgage
Obligations ("CMOs") or short-term investments that either mature within one
year or have an interest rate that reprices within one year.
The Company's investment policy is to invest at least 70% of total assets in
High Quality ARM securities and short-term investments. High Quality means:
(1) securities which are rated within one of the two highest rating
categories by at least one of either Standard & Poor's Corporation or
Moody's Investors Service, Inc. (the "Rating Agencies");
(2) securities that are unrated but are guaranteed by the U.S. Government or
issued or guaranteed by an agency of the U.S. Government; or
(3) securities that are unrated or whose ratings have not been updated but
are determined to be of comparable quality (by the rating standards of
at least one of the Rating Agencies) to a High Quality rated mortgage
security.
The remainder of the Company's investment portfolio, comprising not more than
30% of total assets, may consist of Other Investment assets, which may include:
(1) loans secured by first liens on single-family residential properties
acquired for the purpose of securitization into investment grade
securities; or
(2) pass-through securities or CMOs backed by loans on single-family
residential properties or on multi-family, commercial or other real
estate-related properties if they are rated at least Investment Grade
at the time of purchase. "Investment Grade" generally means a security
rating of BBB or Baa or better by at least one of the Rating Agencies.
The Company does not invest in REMIC residuals or other CMO residuals and,
therefore does not create excess inclusion income or unrelated business taxable
income for tax exempt investors. Therefore, the Company is a mortgage REIT
eligible for purchase by tax exempt investors, such as pension plans, profit
sharing plans, 401(k) plans, Keogh plans and Individual Retirement Accounts
("IRAs").
Financial Condition
At September 30, 1996, the Company held total assets of $2.583 billion, $2.558
billion of which consisted of ARM securities, as compared to $2.018 billion and
$1.995 billion, respectively, at December 31, 1995. This increase in assets, and
in particular ARM securities, is primarily related to the successful completion
of the Company's $48.7 million public offering of common shares which occurred
in April of 1996. At September 30, 1996, 95.5% of the assets held by the Company
were High Quality assets as compared with the Company's investment policy of
investing at least 70% of its total assets in High Quality mortgage securities
and cash and cash equivalents. All of the mortgage securities currently owned by
the Company are either in the form of pass-through certificates or a class of a
multi-class pass-through certificate backed by adjustable-rate mortgages.
The following table presents a schedule of ARM securities owned at September 30,
1996 and December 31, 1995 classified by High Quality and Other Investment
assets and further classified by those issued by an agency of the U.S.
Government and those privately issued, generally publicly registered mortgage
securities, and, lastly, classified according to the rating categories as
determined by at least one of the Rating Agencies.
MORTGAGE SECURITIES BY ISSUER AND CREDIT RATING
(Amounts in thousands)
Assets Held as of Assets Held as of
September 30, 1996 December 31, 1995
---------------------- ---------------------
Carrying Portfolio Carrying Portfolio
Value Mix Value Mix
High Quality: ------------ --------- ---------- --------
FHLMC/FNMA $ 1,352,091 52.8% $ 894,433 44.8%
Privately Issued:
AAA/Aaa Rating 205,180 8.0 165,196 8.3
AA/Aa Rating 886,715 34.7 784,633 39.3
------------ --------- ---------- --------
Total Priv. Issued 1,091,895 42.7 949,829 47.6
------------ --------- ---------- --------
Total High Quality 2,443,986 95.5 1,844,262 92.4
------------ --------- ---------- --------
Other Investment:
Privately Issued:
A Rating 89,580 3.5 134,970 6.8
BBB/Baa Rating 14,291 0.6 16,055 0.8
BB/Ba Rating 10,046 0.4 - -
------------ --------- ----------- --------
Total Other Inv. 113,917 4.5 151,025 7.6
------------ --------- ----------- --------
Total Mortgage Sec. $ 2,557,903 100.0% $ 1,995,287 100.0%
============ ========= =========== ========
The increased amount of High Quality securities as a percent of the total ARM
securities portfolio is in part due to upgrades to the credit rating of certain
securities. During the quarter ended September 30, 1996, two of the Company's
ARM securities, in the amount of $42.0 million, were upgraded from an A
equivalent rating to a AA equivalent rating. At the same time, one security in
the amount of $10.0 million was downgraded from an A rating to a Ba rating. The
security that was downgraded has been on the Company's watch list along with
certain other securities. Management has carefully reviewed certain securities
it has identified as having an increased level of credit risk and the potential
for downgrade and has discussed these particular investments with the Board of
Directors. At this time, the Company believes that the potential credit exposure
is minimal and is commensurate with the higher yield the Company receives on the
Other Investment segment of the Company's ARM securities portfolio. The Company
monitors the credit losses on the underlying loans of all of its privately
issued ARM securities and evaluates the adequacy of the remaining credit support
on an ongoing basis. Although the Company has not realized any credit losses on
any ARM security, the Company has provided $200,000 for possible losses during
1996 and will continue to evaluate potential credit exposure.
The following table classifies the Company's portfolio of ARM securities by type
of interest rate index.
MORTGAGE SECURITIES BY INDEX
(Amounts in thousands)
Assets Held as of Assets Held as of
September 30, 1996 December 31, 1995
-------------------- ------------------
Carrying Portfolio Carrying Portfolio
Value Mix Value Mix
Index: ----------- ------ ---------- -----
One-month LIBOR $ 10,550 0.4% $ 10,229 0.5%
Six-month LIBOR 1,250,180 48.9 1,494,102 74.9
Six-month Certificate of Deposit 28,339 1.1 32,349 1.6
Six-month Constant Maturity Treasury 8,930 0.4 - -
One-year Constant Maturity Treasury 1,109,092 43.3 385,066 19.3
11th District Cost of Funds 150,812 5.9 73,541 3.7
----------- ------ ---------- ------
$ 2,557,903 100.0% $1,995,287 100.0%
========= ======= ========== ======
The portfolio had a current weighted average coupon of 7.31% at September 30,
1996. If the portfolio were "fully indexed", the weighted average coupon would
be 7.80%, based upon the current composition of the portfolio and the applicable
indices at September 30, 1996.
For the month of September 1996, the current yield of the ARM securities
portfolio was 6.51%. The current yield includes the impact of the amortization
of applicable premiums and discounts, the cost of hedging and the amortization
of deferred gains from hedging activity.
During the quarter and nine-month period ended September 30, 1996, the Company
purchased $310.2 million and $1.069 billion, respectively, of ARM securities,
all but $27.0 million of which were High Quality assets or 97.5% of the
year-to-date purchases. As a result of purchasing a high percentage of High
Quality ARM securities thus far in 1996, the Company's High Quality assets as a
percent of total assets has reached 95.5%, the highest level reported by the
Company since the Company became fully invested after its initial public
offering in 1993. Although the Company continues to evaluate the merits of Other
Investments and will most likely purchase additional Other Investments in the
future, the Company has purchased mostly High Quality investments in 1996 based
on its evaluation of each available asset's expected total return, taking into
consideration price, credit risk, liquidity and other factors deemed appropriate
by the Company for asset selection.
During the quarter ended September 30, 1996, the Company sold $25.5 million of
adjustable-rate mortgage securities and realized a gain of $520,000. The sale of
adjustable-rate mortgage securities during the third quarter reflects the
Company's desire to constantly manage the portfolio with a view to enhance the
total return of the portfolio. The Company constantly monitors the performance
of individual securities and selectively sells an asset when there is an
opportunity to replace it with a security that has an expected higher long-term
yield or more attractive interest rate sensitivity characteristics. In the case
of the third quarter sales, the Company was able to sell ARM securities that had
either low lifetime maximum interest rate features or low current coupons and to
replace them with ARM securities with higher maximum interest rate features and
higher current coupons. The Company is presented with investment opportunities
in the ARM securities market on a daily basis and evaluates such opportunities
against the performance of its existing securities and at times is able to
identify opportunities that the Company believes will improve the total return
of its ARM securities portfolio by replacing selected securities. In the
management of the portfolio, the Company may at times realize either gains or
losses in the process of replacing selected assets when the Company believes it
has identified better investment opportunities in order to improve the long-term
total return.
Over the nine-month period ending September 30, 1996, the composition of the
Company's ARM securities by index has changed, reflecting an increased
percentage of investments in ARM securities indexed to the one-year constant
maturity treasury index and a decreased percentage of investments in six-month
LIBOR indexed ARM securities. This change is largely a reflection of the types
of ARM securities that have been either produced or available for sale during
this nine-month period, with new LIBOR ARM production down markedly from prior
years. This change is also a reflection of the Company's strategy of acquiring a
larger percentage of fully indexed ARM securities with lifetime maximum interest
rates above 11%. Most of the LIBOR based ARM securities production does not meet
the Company's current maximum lifetime interest rate requirement. As a result of
the Company's effort, the average maximum lifetime interest rate cap for the
Company's portfolio has increased to 11.36% at September 30, 1996, as compared
to 10.71% at December 31, 1995.
For the quarter ended September 30, 1996, the Company's mortgage securities paid
down at an approximate average annualized constant prepayment rate of 23%,
significantly below the average rate of 31% during the second quarter of 1996,
and close to long-term expectations. In the event that actual prepayment
experience exceeds long-term expectations, due to sustained increased prepayment
activity, the Company would have to amortize its premiums over a shorter time
period, resulting in a reduced yield to maturity on the Company's ARM
securities. Conversely, if actual prepayment experience is less than the assumed
constant prepayment rate, the premium would be amortized over a longer time
period, resulting in a higher yield to maturity. The Company monitors its
prepayment experience on a monthly basis in order to adjust the amortization of
the net premium as appropriate.
The fair value of the Company's portfolio of ARM securities rose during the
quarter ended September 30, 1996. As of September 30, 1996, the Company's
portfolio of ARM securities available-for-sale, including the applicable Cap
Agreements, had a net unrealized loss of $16,932,000 as compared to $18,255,000
as of June 30, 1996. At December 31, 1995, the Company's portfolio of ARM
securities available-for-sale had an unrealized loss of $20,332,000.
The Company has purchased Cap Agreements in order to limit its exposure to risks
associated with the lifetime interest rate caps of its ARM securities if
interest rates rise above specified levels. The Cap Agreements act to reduce the
effect of the lifetime or maximum interest rate cap limitation. The Cap
Agreements purchased by the Company will, in effect, allow the yield on the ARM
securities to continue to rise in a high interest rate environment just as the
Company's cost of borrowings would continue to rise, since the borrowings do not
have any interest rate cap limitation. At September 30, 1996, the Cap Agreements
owned by the Company had a remaining notional balance of $1.888 billion with an
average final maturity of 3.3 years, as compared to a remaining notional balance
of $1.461 billion with an average final maturity of 4.3 years at December 31,
1995. Pursuant to the terms of the Cap Agreements, the Company will receive cash
payments if the three month or six month LIBOR index increases above certain
specified levels which range from 7.50% to 12.50% and average approximately
9.66%. The fair market value of these Cap Agreements also tends to increase when
general market interest rates increase and decrease when market interest rates
decrease, helping to partially offset changes in the market value of the
Company's ARM securities.
During the quarter ended September 30, 1996, the Company lengthened the average
re-pricing period of its borrowings to 81 days. The Company was able to do this
by both entering into reverse repurchase agreements with longer re-pricing terms
and by entering into interest rate swap agreements. As of September 30, 1996,
the Company has entered into two interest rate swap agreements having an
aggregate notional balance of $300 million and a weighted average remaining term
of 7 months. In accordance with these agreements, the Company will pay a fixed
rate of interest during the term of these agreements and receive a payment that
varies monthly with the one-month LIBOR Index. As of September 30, 1996, the
average cost of the Company's borrowings was 5.71%, which includes the impact of
the interest rate swap agreements and reflects both the cost of extending the
re-pricing term of the Company's borrowings and a slightly higher interest rate
environment in the third quarter of 1996 as compared to the second quarter.
Results of Operations For the Three Months Ended September 30, 1996
For the quarter ended September 30, 1996, the Company's net income was
$7,028,000 or $0.44 per share based on a weighted average of 16,080,363 shares
outstanding as compared to $3,833,000 or $0.32 per share based on a weighted
average of 11,946,970 shares outstanding for the quarter ended September 30,
1995. Net interest income is comprised of the interest income earned on mortgage
investments less interest expense from borrowings. Net interest income for the
quarter totaled $7,952,000 as compared to $4,421,000 for the same period in
1995. The Company recorded a net gain on adjustable-rate mortgage securities for
the quarter of $320,000 as compared to a gain of $42,000 for the third quarter
of 1995. The Company incurred operating expenses of $1,244,000 for the quarter,
consisting principally of the base management fee of $430,000, a performance fee
of $631,000 and other miscellaneous expenses of $183,000 as compared to
operating expenses of $630,000 for the same period in 1995, consisting
principally of the base management fees of $348,000, a performance fee of
$151,000 and other miscellaneous expenses of $131,000.
The primary reasons for the rise in the Company's net interest income in the
third quarter of 1996 as compared to the same quarter in 1995 was the combined
effect of the increased size of the Company's portfolio of ARM securities and a
decrease in the interest rate on the Company's borrowed funds. Net interest
income increased by $3,531,000 in the third quarter of 1996 as compared to the
same period of 1995. Of this increase, the increased average size of the
Company's portfolio in the third quarter of 1996 as compared to the same period
in 1995 contributed to higher net interest income in the amount of $2,014,000.
In addition, $1,809,000 is the result of the lower rate on the Company's cost of
funds, offset slightly by a lower yield on the Company's ARM securities
portfolio and other interest earning assets for a combined favorable rate
variance of $1,518,000.
As presented in the table below, the Company's ARM securities portfolio
generated a yield of 6.42% during the third quarter of 1996 as compared to 6.48%
for the third quarter of 1995. This decrease of 0.06% is primarily attributable
to the increase in premium amortization, a result of prepayment activity, which
offset an increase in the weighted average coupon on the portfolio that rose to
7.31% as of September 30, 1996 from 7.24% as of September 30, 1995.
The Company's cost of funds during the quarter ended September 30, 1996
decreased to 5.66% from 6.09% for the same quarter of 1995, primarily as a
result of lower short-term interest rates available to the Company for financing
purposes. The net effect of the slightly lower yield on the Company's ARM
securities portfolio and the lower cost of funds increased the Company's net
spread to 0.75% for the third quarter of 1996 from 0.38% for the third quarter
of 1995. The Company's yield on net interest earning assets, which includes the
impact of shareholders' equity, rose to 1.27% for the third quarter of 1996 from
0.95% for the third quarter of 1995.
The increase in the Company's operating expenses is primarily the result of
achieving sufficient earnings for the Company's shareholders such that a higher
performance based fee was earned by the Manager. In order for the Manager to
earn a performance fee, the rate of return on the shareholders' investment, as
defined in the Management Agreement, must exceed the average ten-year US
Treasury rate during the quarter plus 1%. During the third quarter of 1996, the
Manager earned a performance fee of $631,000. During the three month period
ended September 30, 1996, after paying this performance fee, the Company's
return on equity was 11.86%.
<PAGE>
The following table reflects the average balances for each category of the
Company's interest earning assets as well as the Company's interest bearing
liabilities, with the corresponding effective rate of interest annualized for
the quarter ended September 30, 1996 and September 30, 1995:
AVERAGE BALANCE AND RATE TABLE
(Amounts in thousands)
For the Quarter Ended For the Quarter Ended
September 30, 1996 September 30, 1995
--------------------- ----------------------
Average Effective Average Effective
Balance Rate Balance Rate
Interest Earning Assets: ----------- ------- ----------- --------
Adj-rate mortgage sec. $ 2,489,894 6.42% $ 1,852,503 6.48%
Cash and cash equivalents 16,106 5.42 11,833 5.91
---------- ------- --------- -------
2,506,000 6.41 1,864,336 6.47
---------- ------- --------- -------
Interest Bearing Liabilities:
Borrowings 2,276,228 5.66 1,691,829 6.09
Net Interest Earning Assets ---------- ------- --------- -------
and Spread $ 229,772 0.75% $ 172,507 0.38%
========== ======= ========= =======
Yield on Net Interest
Earning Assets (1) 1.27% 0.95%
======= =======
(1) Yield on Net Interest Earning Assets is computed by dividing annualized
net interest income by the average daily balance of interest earning
assets.
Results of Operations For the Nine Months Ended September 30, 1996
For the nine month period ended September 30, 1996, the Company's net income was
$18,328,000 or $1.27 per share based on a weighted average of 14,425,873 shares
outstanding as compared to $5,869,000 or $0.50 per share based on a weighted
average of 11,867,693 shares outstanding for the nine month period ended
September 30, 1995. Net interest income for the first nine months of 1996
totaled $21,368,000 as compared to $8,037,000 for the same period in 1995. The
Company recorded a net gain on adjustable-rate mortgage securities for the nine
month period of $333,000 as compared to a loss of $617,000 for the same period
in 1995. The Company incurred operating expenses of $3,373,000 for the period,
consisting principally of the base management fee of $1,194,000, a performance
fee of $1,727,000 and other miscellaneous expenses of $452,000 as compared to
operating expenses of $1,551,000 for the same period in 1995, consisting
principally of the base management fees of $1,037,000, a performance fee of
$151,000 and other miscellaneous expenses of $363,000.
The primary reasons for the rise in the Company's net interest income for the
nine month period ended September 30, 1996 as compared to the same period in
1995 was the combined effect of an increase in the yield on the Company's
portfolio of ARM securities and a decrease in the Company's cost of funds as
well as the increased size of the Company's portfolio. Net interest income
increased by $13,331,000. Of this increase, $6,594,000 is the result of the
lower interest rate on the Company's cost of funds and $2,750,000 is the result
of the higher yield on the Company's ARM securities portfolio and other interest
earning assets for a combined favorable rate variance of $9,344,000. The
increased average size of the Company's portfolio over the nine month period as
compared to the same period in 1995 also contributed to higher net interest
income in the amount of $3,987,000.
As presented in the table below, the Company's ARM securities portfolio
generated a yield of 6.41% during the nine month period of 1996 as compared to
6.20% for the same period of 1995. The Company's cost of funds during the nine
month period ended September 30, 1996 decreased to 5.66% from 6.20% for the same
period of 1995, primarily as a result of lower short-term interest rates
available to the Company for financing purposes. The combined effect of the
higher yield on the Company's ARM securities portfolio and the lower cost of
funds increased the Company's net spread to 0.74% for the first nine months of
1996 from no spread for the first nine months of 1995. During the comparable
nine month period of 1995, the Company generated net interest income from the
excess interest earning assets over interest costing liabilities. The Company's
yield on net interest earning assets, which includes the impact of shareholders'
equity, rose to 1.26% for the first nine months of 1996 from 0.59% for the same
period of 1995.
The increase in the Company's operating expenses is primarily the result of
achieving sufficient earnings for the Company's shareholders such that a higher
performance based fee was earned by the Manager. In order for the Manager to
earn a performance fee, the rate of return on the shareholders' investment, as
defined in the Management Agreement, must exceed the average ten-year US
Treasury rate during the quarter plus 1%. During the first nine months of 1996,
the Manager earned a performance fee of $1,727,000. During this nine month
period ended September 30, 1996, after paying this performance fee, the
Company's return on equity was 11.42%.
The following table reflects the average balances for each category of the
Company's interest earning assets as well as the Company's interest bearing
liabilities, with the corresponding effective rate of interest annualized for
the nine month periods ended September 30, 1996 and 1995:
AVERAGE BALANCE AND RATE TABLE
(Amounts in thousands)
For the Nine Month For the Nine Month
Period Ended Period Ended
September 30, 1996 September 30, 1995
---------------------- ----------------------
Average Effective Average Effective
Balance Rate Balance Rate
Interest Earning Assets: ----------- --------- ----------- ---------
Adj-rate mortgage sec. $ 2,245,058 6.41% $ 1,793,951 6.20%
Cash and cash equivalents 14,935 5.27 13,540 5.86
----------- --------- ----------- --------
2,259,993 6.40 1,807,491 6.20
----------- --------- ----------- --------
Interest Bearing Liabilities:
Borrowings 2,053,632 5.66 1,635,266 6.20
Net Interest Earning Assets ----------- -------- ---------- --------
and Spread $ 206,361 0.74% $ 172,225 0.00%
=========== ======== ========== ========
Yield on Net Interest
Earning Assets (1) 1.26% 0.59%
======== ========
(1) Yield on Net Interest Earning Assets is computed by dividing annualized
net interest income by the average daily balance of interest earning
assets.
<PAGE>
Liquidity and Capital Resources
The Company's primary source of funds for the quarters ended September 30, 1996
and 1995 consisted of reverse repurchase agreements, which totaled $2.328
billion and $1.773 billion at the respective quarter ends. The Company's other
significant sources of funds for the quarters ended September 30, 1996 and 1995
consisted of payments of principal and interest from the ARM securities in the
amounts of $176.4 million and $113.0 million, respectively. In the future, the
Company expects its primary sources of funds will continue to consist of monthly
payments of principal and interest on its ARM securities portfolio and of
borrowed funds under reverse repurchase agreement transactions with one to
twelve month maturities and possibly from asset sales as needed. The Company's
liquid assets generally consist of unpledged ARM securities, cash and cash
equivalents.
The borrowings incurred at September 30, 1996 had a weighted average interest
cost of 5.71%, a weighted average original term to maturity of 8.3 months and a
weighted average remaining term to maturity of 5.5 months. As of September 30,
1996, $1.147 billion of the Company's borrowings were variable-rate term reverse
repurchase agreements with original maturities that range from three months to
two years. The interest rates of these term reverse repurchase agreements are
indexed to either the one, three or six-month LIBOR rate and reprice
accordingly.
The Company has borrowing arrangements with twenty-six different investment
banking firms and commercial banks and at September 30, 1996 had borrowed funds
under reverse repurchase agreements with fourteen of these firms. Because the
Company borrows funds based on the fair value of its ARM securities, the
Company's borrowing ability could be adversely affected as a result of either a
significant increase in short-term interest rates or a credit downgrade of a
mortgage pool or a mortgage pool insurer, either of which would reduce the fair
value of the Company's ARM securities. If such a decrease in fair value was
significant enough, it could require the Company to sell assets in order to
maintain liquidity. For the quarter ended September 30, 1996, the Company had
adequate cash flow, liquid assets and unpledged collateral with which to meet
its margin requirements. Further, the Company has always maintained sufficient
liquidity to meet its cash requirements from its primary sources of funds and
believes it will be able to do so in the future.
The Company has a Dividend Reinvestment and Stock Purchase Plan (the "Plan")
designed to provide a convenient and economical way for existing shareholders to
automatically reinvest their dividends in additional shares of common stock and
to purchase additional shares at a 3% discount to the current market price of
the common stock, as defined in the Plan. As a result of participation in the
Plan, the Company issued 151,013 new shares of common stock and received
proceeds of $2,303,000 of new equity capital during the third quarter of 1996.
During the nine-month period ended September 30, 1996, the Company issued
226,864 shares under this plan and received net proceeds of $3,408,000.
On October 9, 1995, the Company entered into a Sales Agency Agreement with
PaineWebber Incorporated. In accordance with the Sales Agency Agreement,
PaineWebber agreed to sell, at the direction and discretion of the Company, up
to 1,174,969 additional shares of the Company's common stock, representing 10%
of aggregate market value of the Company's common stock held by non-affiliates.
During the quarter ended September 30, 1996, the Company did not sell any shares
under this Sales Agency Agreement. During the nine-month period ended September
30, 1996, the Company sold 207,500 shares under this Sales Agency Agreement and
received net proceeds of $3,118,000.
Effects of Interest Rate Changes
Changes in interest rates impact the Company's earnings in various ways. While
the Company only invests in ARM securities, rising short-term interest rates may
temporarily negatively affect the Company's earnings and conversely falling
short-term interest rates may temporarily increase the Company's earnings. This
impact can occur for several reasons and may be mitigated by portfolio
prepayment activity as discussed below. First, the Company's borrowings will
react to changes in interest rates sooner than the Company's ARM securities
because the weighted average next re-pricing date of the borrowings is usually a
shorter time period. Second, interest rates on ARM loans are generally limited
to an increase of either 1% or 2% per adjustment period (commonly referred to as
the periodic cap) and the Company's borrowings do not have similar limitations.
Third, the Company's ARM securities lag changes in the indices due to the notice
period provided to ARM borrowers when the interest rate on their loan is
scheduled to change. The periodic cap only effects the Company's earnings when
interest rates move by more than 1% per six-month period or 2% per year.
The rate of prepayment on the Company's mortgage securities may decrease if
interest rates rise, or if the difference between long-term and short-term
interest rates increases. Decreased prepayments would cause the Company to
amortize the premiums paid for its mortgage securities slower than otherwise,
resulting in an increased yield on its mortgage securities. Therefore, in rising
interest rate environments where prepayments are declining, not only would the
interest rate on the ARM securities portfolio increase to re-establish a spread
over the higher interest rates, but the yield would also rise due to slower
prepayments. The combined effect could significantly mitigate other negative
effects that rising short-term interest rates might have on earnings.
Conversely, the rate of prepayment on the Company's mortgage securities may
increase if interest rates decline, or if the difference between long-term and
short-term interest rates diminishes. Increased prepayments would cause the
Company to amortize the premiums paid for its mortgage securities faster than
otherwise, resulting in a reduced yield on its mortgage securities.
Additionally, to the extent proceeds of prepayments cannot be reinvested at a
rate of interest at least equal to the rate previously earned on such mortgage
securities, the Company's earnings may be adversely affected.
Lastly, because the Company only invests in adjustable-rate mortgage assets and
approximately 9% of such mortgage assets are purchased with shareholders'
equity, the Company's earnings over time will tend to increase following periods
when short-term interest rates have risen and decrease following periods when
short-term interest rates have declined. This is because the financed portion of
the Company's portfolio of ARM securities will, over time, reprice to a spread
over the Company's cost of money while the portion of the Company's portfolio of
ARM securities that are purchased with shareholder's equity will generally have
a higher yield in a higher interest rate environment and a lower yield in a
lower interest rate environment.
Other Matters
The Company calculates its Qualified REIT Assets, as defined in the Code, to be
99.8% of its total assets, as compared to the federal tax requirement that at
least 75% of its total assets must be Qualified REIT Assets. The Company also
calculates that 99.5% of its 1996 revenue qualifies for the 75% source of income
test and 100% of its 1996 revenue qualifies for the 95% source of income test
under the REIT rules. Furthermore, the Company's revenues in 1996, subject to
the 30% income limitation under the REIT rules amounted to 0.51% of total
revenue. The Company also met all REIT requirements regarding the ownership of
its common stock and the distributions of its net income. Therefore, as of
September 30, 1996, the Company believed that it was in full compliance with the
REIT tax rules and that it would continue to qualify as a REIT under the
provisions of the Code.
The Company at all times intends to conduct its business so as not to
become regulated as an investment company under the Investment Company Act. If
the Company were to become regulated as an investment company, then the
Company's use of leverage would be substantially reduced. The Investment Company
Act exempts entities that are "primarily engaged in the business of purchasing
or otherwise acquiring mortgages and other liens on and interests in real
estate" ("Qualifying Interests"). Under current interpretation of the staff of
the SEC, in order to qualify for this exemption, the Company must maintain at
least 55% of its assets directly in Qualifying Interests. In addition, unless
certain Mortgage Securities represent all the certificates issued with respect
to an underlying pool of mortgages, such Mortgage Securities may be treated as
securities separate from the underlying Mortgage Loans and, thus, may not be
considered Qualifying Interests for purposes of the 55% requirement. As of
September 30, 1996, the Company calculates that it is in compliance with this
requirement.
PART II. OTHER INFORMATION
Item 1. Legal Proceedings
At September 30, 1996, there were no pending legal proceedings to
which the Company was a party or of which any of its property was
subject.
Item 2. Changes in Securities
Not applicable
Item 3. Defaults Upon Senior Securities
Not applicable
Item 4. Submission of Matters to a Vote of Security Holders
Not applicable
Item 5. Other Information
None
Item 6. Exhibits and Reports on Form 8-K:
(a) Exhibits
See "Exhibit Index."
(b) Reports on Form 8-K
None
<PAGE>
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,
THORNBURG MORTGAGE ASSET CORPORATION
Dated: October 30, 1996 By: /s/ Larry A. Goldstone
-----------------------
Larry A. Goldstone,
President and Chief Operating Officer
(authorized officer of registrant)
Dated: October 30, 1996 By: /s/ Richard P. Story
--------------------
Richard P. Story,
Chief Financial Officer and Treasurer
(principal accounting officer)
<PAGE>
Exhibit Index
Sequentially
Numbered
Exhibit Number Exhibit Description Page
- ---------------- ----------------------------------------------------- ------
10 Form of Management Agreement as amended Sep. 18, 1996 24
THORNBURG MORTGAGE ASSET CORPORATION
AMENDMENT TO MANAGEMENT AGREEMENT
October 1, 1996
The Management Agreement between Thornburg Mortgage Asset Corporation, a
Maryland corporation (the "Company") and Thornburg Mortgage Advisory
Corporation, a Delaware corporation (the "Manager") is amended, effective
October 1, 1996, as follows:
RECITALS
This amendment to the Management Agreement is being effected for the
purpose of amending the management fees payable to the Manager pursuant to
Section 7(a) and (b) of the Agreement, as approved by the Board of Directors of
the Company, including all of the independent directors, on September 18, 1996.
IT IS THEREFORE AGREED AS FOLLOWS:
1. Section 7(a) of the Agreement is amended by deleting the existing
paragraph setting forth the compensation formula in its entirety and
inserting in its place the following paragraph:
1.10% of the first $300 million of Average Net Invested
Assets, plus .80% of the portion of Average Invested Net
Assets above $300 million
2. Section 7(b) of the Agreement is amended by deleting from the
second line the number "25%" and substituting in its place the number "20%"
3. The effective date of this amendment is October 1, 1996.
IN WITNESS WHEREOF, the parties hereto have executed this Agreement as
of the date written above.
THORNBURG MORTGAGE ASSET CORPORATION:
a Maryland corporation (the "Company")
By: _____________________________
Its: President___________________
THORNBURG MORTGAGE ADVISORY CORPORATION,
a Delaware corporation (the "Manager")
By: _____________________________
Its:_____________________________
<TABLE> <S> <C>
<ARTICLE> 5
<LEGEND>
This schedule contains summary financial information extracted from September
30, 1996 Quarterly Report on Form 10-Q and is qualified in its entirety by
reference to such financial statements.
</LEGEND>
<MULTIPLIER> 1,000
<S> <C>
<PERIOD-TYPE> 9-MOS
<FISCAL-YEAR-END> DEC-31-1996
<PERIOD-END> SEP-30-1996
<CASH> 1,928
<SECURITIES> 2,557,903
<RECEIVABLES> 21,561
<ALLOWANCES> 0
<INVENTORY> 0
<CURRENT-ASSETS> 1,124
<PP&E> 0
<DEPRECIATION> 0
<TOTAL-ASSETS> 2,582,516
<CURRENT-LIABILITIES> 2,364,236
<BONDS> 0
0
0
<COMMON> 161
<OTHER-SE> 218,119
<TOTAL-LIABILITY-AND-EQUITY> 2,582,516
<SALES> 0
<TOTAL-REVENUES> 109,089
<CGS> 0
<TOTAL-COSTS> 0
<OTHER-EXPENSES> 3,373
<LOSS-PROVISION> 200
<INTEREST-EXPENSE> 87,188
<INCOME-PRETAX> 18,328
<INCOME-TAX> 0
<INCOME-CONTINUING> 18,328
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> 18,328
<EPS-PRIMARY> 1.27
<EPS-DILUTED> 1.27
</TABLE>
