CYS Investments, Inc. (CYS)

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CYS Investments, Inc. CYS)

Q2 2013 Earnings Conference Call

July 18, 2013 09:00 AM ET


Kevin E. Grant - President and CEO

Frances Spark - Treasurer and CFO

Richard E. Cleary - COO and Assistant Secretary

William Shean - MD, Investments


Steve DeLaney - JMP Securities LLC

Dan Altscher - FBR Capital Markets

Michael Widner - Keefe, Bruyette & Woods

Mark DeVries - Barclays Capital Inc.

Joel Houck - Wells Fargo Securities

Jason Stewart - Compass Point Research & Trading, LLC

Kenneth Bruce - Bank of America Merrill Lynch

Eugene Fox - Cardinal Capital Management

Kevin Casey – Casey Capital

Adam Waldo – Lismore Partners



Good morning and welcome to the CYS Investments, Inc. 2013 Second Quarter Earnings Conference Call. During management’s presentation, your line will be in a listen-only mode. At the conclusion of management’s remarks, there will be a question-and-answer session. I’ll provide you with instructions to enter the question queue after management’s comments.

Management has requested that I remind you that certain information presented and certain statements made during management’s presentation with respect to future financial or business performance, strategies or expectations may constitute forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995.

Forward-looking statements indicate or are based on management’s beliefs, assumptions, and expectations of CYS’ future performance, taking into account information currently in the Company’s possession. Beliefs, assumptions, and expectations are subject to change, risk and uncertainty as a result of possible events or factors, not all of which are known to management or within its control. If management’s underlying beliefs, assumptions, and expectations prove incorrect or change, then the Company’s performance and its business, financial condition, liquidity, and results of operations may vary materially from those expressed, anticipated, or contemplated in any of their forward-looking statements.

In any event, actual results may differ. Management invites you to refer to the forward-looking statement disclaimer contained in the Company’s Annual Report on Form 10-K filed with the SEC, which provides a description of some of the factors that could have a material impact on the Company’s performance and could cause actual results to differ from those that may be expressed in forward-looking statements.

The Company has asked me to note that the content of this conference call contains time-sensitive information that is accurate only as of today, Thursday, July 18, 2013. The Company does not intend to and undertakes no duty to update the information to reflect future events or circumstances.

For opening remarks and introductions, I’ll now turn the call over to Rick Cleary, CYS’ Chief Operating Officer. Please go ahead, Mr. Cleary.

Richard E. Cleary

Thanks, Cliff. Good morning and welcome to CYS’ 2013 second quarter earnings conference call. Today’s call is being recorded and access to the recording of the call will be available on the Company’s website at beginning at 3 pm Eastern Time this afternoon.

To better understand our results, it would be helpful to have the press release that we issued last night. As in past releases, the earnings release includes information regarding non-GAAP financial measures, including reconciliation of those measures to GAAP measures, which will be discussed on this call.

I’d now like to turn the call over to our CEO, Kevin Grant.

Kevin E. Grant

Thank you, Rick, and good morning. Welcome everybody to our second quarter 2013 earnings conference call. As usual joining Rick and me this morning is our CFO, Frances Spark and Bill Shean from our investment team. We look forward to your questions, a few comments.

Well the volatility in Q2, 2013 was the highest. It’s been a very long time in the bond market. This was a repricing event that many had been predicting for the past three or four years and as usual these are unpredictable and they happen fast. The long end of the treasury curve abruptly rose by a 100 basis points over a five or six week period of time. This was nearly a four standard deviation event, which is something that we model in our stress test, we don’t like these events, but we do prepare for them.

This was a shock to the system and a challenge for the MBS market to keep up with. In my view the MBS market really has never provided enough yield premium to compensate investors for a volatility of event of this magnitude and of course the Feds buying activity has squeezed down yields. So, not surprisingly mortgage securities repriced by even more than treasuries and other fixed-income assets.

Of course we mark everything in the market, so our book value is a direct look at the MBS market. At this point, I’d say that the mortgage securities market is looking through the micro details of the timing of taper and is trying to reprice in the Feds return to more normal traditional policy tools.

Throughout the storm during the quarter, we were very disciplined and we shrunk the portfolio generally ahead of the market moves, maintaining discipline around leverage and liquidity is the key to running a levered fixed-income strategy. So we’re very focused. At quarter end our leverage was down and our excess liquidity was about 65% of the net asset to the Company. This liquidity is the life blood that helps the Company get through storms and be in a position to take advantage of better investing environments on the other side.

During the quarter, the mark-to-market on hedges did not correlate well with mortgages. So, here in the short run, the basis risk aggravated the book value impact. They did work however just not as well as we’d have liked. Like everything in bonds, there is an important other side to this. Mortgages are now quite a bit more attractive relative to the costs of hedging and borrowing costs. If history is any guide, one would expect for these relationships to normalize, but it is very difficult to forecast how long this might take.

In my view, the bond market has now changed its pricing regime back to the traditional way. Bond investors no longer see the Fed as the backstop bid for long dated bonds, regardless of the timing of taper. Rather the bond market has to find its own market clearing equilibrium for long dated assets 10 and 30-year bonds, absent the hope that the Fed will be their exit.

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