3rd Quarter Results
Prodesse Investment Limited
06 November 2006
Prodesse Investment Limited
Results for the Quarter Ended 30 September 2006
Core net income per average share of US$0.12 and net asset value per share
increase of 7%
Highlights for third quarter 2006:
• Core net income1 per average share of US$0.12
• Previously declared dividend per share of US$0.12 from net interest
income - equates to an annualised dividend yield of 5.88%2 (FTSE All Share
annualised dividend yield of 2.97%3)
• Net income per average share of US$0.25
• NAV per share of US$8.05 (30 June 2006: US$7.52)
• Increased frequency of NAV reporting to monthly
• Portfolio remains 100% implied 'AAA' mortgage-backed securities.
1 Core net income is defined as net income excluding realised and unrealised
gains and losses on securities.
2 Based on annualisation of Q3 dividend, an exchange rate of 1.9081 US$ per
Pound Sterling and a closing price of 427.5p on 31 October 2006
3 Based on closing share prices of the constituents of the FTSE All Share index
on 29 September 2006 (JCF Datastream).
Michael A.J. Farrell, Chairman and CEO of FIDAC, Investment Manager to Prodesse,
commented: 'Third quarter results for Prodesse reflect several important
developments. First, even as our cost of funds continued to roll into the higher
interest rate environment, the Company increased its dividend 20% from the prior
quarter. Second, net interest spread improved during the quarter as the yield on
assets rose relative to the cost of funds. Third, net asset value per share
increased 7% from the prior quarter as the US bond market rallied in
anticipation of the next move by the Federal Reserve. While we believe that the
decline in the housing market is leading to a general slowdown in economic
activity in the US, we continue to proactively manage the portfolio for a wide
range of interest rate outcomes through the use of our barbell strategy and our
commitment to owning US residential mortgage assets of the highest possible
credit quality.'
Financial Highlights
Q3 2006 Q2 2006 Q1 2006 Q4 2005 Q3 2005
US$
Dividend per share 0.12 0.10 0.12 0.10 0.18
Core net income per average share 0.12 0.10 0.12 0.10 0.18
Net income/(loss) per average share 0.25 (1.38) 0.12 (0.68) 0.18
Net income/(loss) 6.4m (37.6m) 3.2m (18.8m) 5.1m
Net asset value per share 8.05 7.52 8.03 8.36 9.03
GBP Sterling4
Dividend per share 6p 5p 7p 6p 10p
Core net income per average share 6p 5p 7p 6p 10p
Net income/(loss) per average share 13p (74p) 7p (40p) 10p
Net income/(loss) £3.4m (£20.4m) £1.8m (£10.9m) £2.9m
Net asset value per share 430.1p 407.2p 461.8p 486.4p 511.5p
4 Illustration is based upon an exchange rate of 1.8718, 1.8469, 1.7390, 1.7187
and 1.7653 US$ per Pound Sterling at 30 September 2006, 30 June 2006, 31 March
2006, 31 December 2005 and 30 September 2005 respectively. Translation to GBP
Sterling is given for illustration purposes only as Prodesse invests in US$
denominated assets only which produce US$ income. Should shareholders choose to
receive their dividends in GBP Sterling they may elect to do so.
Enquiries
Investor Relations
Rob Bailhache / Nick Henderson, Financial Dynamics
Tel: 020 7269 7200 / 020 7269 7114
Company Secretary and Administrator
Sara Radford / Paul Smith, RBSI Fund Services (Guernsey) Limited
Tel: 01481 740820
About Prodesse
Prodesse Investment Limited is a limited liability Guernsey-incorporated
closed-end investment company, the investments of which are managed by Fixed
Income Discount Advisory Company. The Company's investment policy is to provide
net income for distribution from the spread between the interest income earned
from a portfolio of residential mortgage-backed securities and the cost of
repurchase agreements entered into to finance the acquisition of such
residential mortgage-backed securities.
Conference Call
There will be an analyst presentation on the results at 10:00 am on 06 November
2006 at Financial Dynamics, Holborn Gate, 26 Southampton Buildings, London WC2A
1PB. Those analysts wishing to attend, or to register are asked to contact Nick
Henderson at Financial Dynamics on +44 (0) 207 269 7114 or at
nick.henderson@fd.com.
The presentation will also be accessible via a conference call for those unable
to attend in person. To listen in please call +44 (0) 1452 562 717.
A web cast of the presentation will be available following the meeting at
www.prodesse.co.uk.
Company performance
For the quarter ended 30 September 2006, Prodesse reported net income of US$6.4
million (quarter ended 30 June 2006: net loss of US$37.6million) or US$0.25 per
average share (quarter ended 30 June 2006: (US$1.38) per average share).
Prodesse reported core net income, defined as net income excluding realised and
unrealised gains and losses on securities, of US$3.0 million for the quarter
ended 30 September 2006 (quarter ended 30 June 2006: US$2.7 million) or US$0.12
per average share (quarter ended 30 June 2006: US$0.10 per average share).
During the quarter the Company sold US$569.4 million face amount of securities
and US$166.5 million notional amount of interest rate swaps, resulting in a
realised gain of approximately US$3.4 million or US$0.13 per average share.
The Company delivered an annualised core return on average equity for the
quarter ended 30 September 2006 of 6.07% (quarter ended 30 June 2006: 5.10%).
For the quarter ended 30 September 2006, the annualised total return on average
equity (RoAE) was 12.77% (quarter ended 30 June 2006: (71.8%)).
01 July 2006 to 01 April 2006 to 01 January 2006 01 October 2005 01 July 2005 to
30 September 30 June 2006 to 31 March 2006 to 31 30 September
2006 December 2005 2005
Core net income US$3.0 million US$2.7 million US$3.2 million US$2.9 million US$5.1 million
Core net income per
average share US$0.12 US$0.10 US$0.12 US$0.10 US$0.18
Annualised core RoAE 6.07% 5.10% 5.64% 4.69% 7.72%
Reported net income/(loss) US$6.4 million (US$37.6 million) US$3.2 million (US$18.8 million) US$5.1 million
Net income/(loss) per
average share US$0.25 (US$1.38) US$0.12 (US$0.68) US$0.18
Annualised RoAE 12.77% (71.80%) 5.64% (30.65)% 7.72%
Portfolio Performance
For the quarter ended 30 September 2006, the annualised yield on average assets,
which is calculated based on the annualised interest income for the period
divided by the average interest earning assets for the period, was 5.66%
(quarter ended 30 June 2006: 5.24%) and the annualised cost of funds on the
average repurchase balance was 5.31% (quarter ended 30 June 2006: 4.99%) which
equates to an interest rate spread of 0.35% (quarter ended 30 June 2006: 0.25%).
At 30 September 2006, the annualised yield on assets was 5.92% and the
annualised cost of funds on the repurchase balances was 5.28%, which equates to
an interest rate spread of 0.64%.
The Constant Prepayment Rate, or CPR, on the Company's mortgage-backed
securities portfolio averaged 13% for the quarter ended 30 September 2006
(quarter ended 30 June 2006: 15%). Prepayment speeds on mortgage-backed
securities, as reflected by the CPR, vary according to the type of investment,
changes in interest rates, conditions in the financial markets, competition and
other factors, none of which can be predicted with any certainty. In general,
as prepayment speeds on the Company's mortgage-backed securities portfolio
increase, related purchase premium amortization increases, thereby reducing the
net yield on such assets.
01 July 2006 to 01 April 2006 01 January 2006 01 October 2005 01 July 2005 to
30 September to 30 June to 31 March 2006 to 30 September 2005
2006 2006 31 December 2005
Annualised yield on
average assets 5.66% 5.24% 4.89% 4.49% 4.23%
Annualised cost of funds
on average repurchase
balance 5.31% 4.99% 4.58% 4.12% 3.57%
Interest rate spread 0.35% 0.25% 0.31% 0.37% 0.66%
CPR 13% 15% 18% 20% 23%
As at 30 September 2006, all of the assets in the Company's portfolio were
Fannie Mae and Freddie Mac mortgage-backed securities, which carry an implied
'AAA' rating.
30 September 30 June 31 March 31 December 30 September 30 June
2006 2006 2006 2005 2005 2005
Fixed-rate mortgage-backed
securities 63% 67% 61% 38% 32% 33%
Adjustable-rate mortgage-backed
securities 8% 9% 25% 43% 61% 59%
Floating-rate mortgage-backed
securities 29% 24% 14% 19% 7% 8%
Borrowings
The ratio of average daily repurchase agreements to equity resulted in leverage
of the Company of 8.9:1 during quarter ended 30 September 2006 (quarter ended 30
June 2006: 9.7:1). The leverage at 30 September 2006 was 8.5:1 (30 June 2006:
8.7:1).
01 July 2006 to 01 April 2006 to 01 January 2006 to 01 October 2005 01 July 2005 to
30 September 30 June 2006 31 March 2006 to 30 September 2005
2006 31 December 2005
Average leverage for
period 8.9:1 9.7:1 8.5:1 9.3:1 8.9:1
Leverage at period end 8.5:1 8.7:1 8.9:1 4.4:1 9.4:1
As of 30 September 2006, the Company had entered into interest rate swap
agreements totalling US$603 million in notional amount in which the Company will
pay an average rate of 5.23% and receive 1 month LIBOR on a monthly basis. As
of 30 June 2006, the Company had entered into interest rate swap agreements
totalling US$714 million in notional amount in which the Company will pay an
average rate of 5.16% and receive 1 month LIBOR on a monthly basis.
30 September 2006 30 June 2006 31 March 2006 31 December 2005
Notional amount US$603 million US$714 million US$554 million US$65 million
Average pay rate 5.23% 5.16% 4.82% 4.79%
Average receive rate 5.33% 5.22% 4.75% 4.45%
Capital
At 30 September 2006, the Company had a net asset value per share of US$8.05 (30
June 2006: US$7.52), after deducting the current dividends declared for the
quarter of 30 September 2006 of US$3,075,066 (for the quarter 30 June 2006:
US$2,602,555), reported net asset value per share is US$7.93 (30 June 2006:
US$7.42).
01 July 2006 to 01 April 2006 to 01 January 2006 01 October 2005 01 July 2005 to
30 September 30 June 2006 to 31 March 2006 to 30 September 2005
2006 31 December 2005
NAV per share US$8.05 US$7.52 US$8.03 US$8.36 US$9.03
Dividends declared for
the period US$3,075,066 US$2,602,555 US$3,330,066 US$2,775,055 US$5,146,209
NAV per share after
deducting dividends
declared US$7.93 US$7.42 US$7.91 US$8.26 US$8.85
For the quarter ended 30 September 2006, the Company acquired and cancelled
400,000 shares at an average price of US$6.83 per share.
Dividend
The Company has declared a dividend for the quarter ended 30 September 2006 of
US$0.12 per share payable on 31 October 2006 to holders on the register on 20
October 2006. Dividends are calculated and paid in US dollars. Shareholders
resident in the UK wishing for the conversion of dividend payments into Sterling
should contact the Company's administrator. The exchange rate for payment to
those who have elected to receive their dividends in Sterling was set on 24
October 2006 at 1.8774 US$ per Pound Sterling.
01 July 2006 to 01 April 2006 01 January 2006 01 October 2006 to 01 July 2006 to 30
30 September 2006 to 30 June to 31 March 2006 31 December 2006 September 2006
2006
Core net income per
average share US$0.12 US$0.10 US$0.12 US$0.10 US$0.18
Net income/(loss) per
average share US$0.25 (US$1.38) US$0.12 (US$0.68) US$0.18
Dividends per share US$0.12 US$0.10 US$0.12 US$0.10 US$0.18
Outlook
'Recent economic data has supported the view that the US economy is slowing down
from the pace of the second quarter,' said Wellington Denahan-Norris, Chief
Investment Officer for Prodesse's Investment Manager, FIDAC. 'Nevertheless, the
Federal Reserve has kept all options on the table for its next move in monetary
policy as it tries to balance the risk of potential inflationary pressure
against the risk of slowing growth. Using our barbell strategy, we have
positioned Prodesse's portfolio for performance in a wide range of possible
outcomes. After taking into account the effect of our interest rate swap
position, our portfolio is comprised of 33% fixed-rate assets, 8%
adjustable-rate assets and 59% floating-rate assets. This composition is
consistent with our desire to always have a part of the portfolio performing
whether rates are rising, falling or moving sideways.'
Prodesse Investment Limited
Balance Sheet
(unaudited) at 30 September 2006, 30 June 2006, 31 March 2006, 31, 30 September 2005
31-Dec-05
30-Sep-06 30-Jun-06 31-Mar-06 (Audited) 30-Sep-05
US$ US$ US$ US$ US$
ASSETS
Current assets
Available for sale investments 2,016,901,365 1,946,995,591 2,190,680,570 1,405,412,720 2,688,176,717
Accrued income receivable 8,001,243 9,055,816 9,853,640 6,228,846 11,644,460
Receivable for principal paydowns 4,158,154 5,028,662 7,947,156 10,195,316 13,448,335
Receivable for securities sold 68,692,786 70,277,068 - - -
Hedging instrument - 10,245,969 8,971,875 - -
Cash and cash equivalents 749,962 4,409 16,039 5,059 12,122
Prepaid expenses 173,565 122,099 28,011 34,904 66,798
Total assets 2,098,677,075 2,041,729,614 2,217,497,291 1,421,876,845 2,713,348,432
EQUITY AND LIABILITIES
Capital and reserves
Share capital:
25,625,550 at 30 September 2006,
26,025,550 at 30 June 2006, 27,750,550
at 31 March 2006 and 31 December 2005,
and 28,610,000 at 30 September 2005 at
US$ 0.01 256,255 260,255 277,506 277,506 286,100
Capital redemption reserve 29,845 25,845 8,594 8,594 -
Share premium 50,000,000 50,000,000 50,000,000 50,000,000 50,000,000
Distributable reserve 198,680,545 201,412,622 214,300,104 214,300,104 220,173,663
Accumulated profits 3,228,548 2,741,945 3,404,481 2,972,952 5,246,367
Capital Reserve-Realised (loss)/gain and
impairment on available for sale
investments (58,519,908) (61,890,519) (21,651,450) (21,651,450) 5,313
Revaluation reserve 15,713,694 (7,017,861) (32,478,359) (13,940,391) (17,384,448)
Cash flow hedge reserve (3,124,375) 10,245,970 8,971,875 (19,500) -
Total shareholders' equity 206,264,604 195,778,257 222,832,751 231,947,815 258,326,995
Current liabilities
Securities purchased payable 124,033,750 134,680,584 - 163,391,316 11,560,141
Repurchase agreements 1,759,089,000 1,706,674,000 1,983,618,000 1,022,067,000 2,436,369,000
Accrued interest expense 4,809,009 3,220,249 9,633,997 3,509,041 5,551,769
Accrued expenses payable 1,356,337 1,376,524 1,412,543 942,173 1,540,527
Hedging instrument 3,124,375 - - 19,500 -
Total liabilities 1,892,412,471 1,845,951,357 1,994,664,540 1,189,929,030 2,455,021,437
Total equity and liabilities 2,098,677,075 2,041,729,614 2,217,497,291 1,421,876,845 2,713,348,432
Net Assets 206,264,604 195,778,257 222,832,751 231,947,815 258,326,995
Net Asset Value per share 8.05 7.52 8.03 8.36 9.03
Prodesse Investment Limited
(unaudited) Income Statement
01 July 2006 to 01 April 2006 01 January 2006 01 October 2005 01 July 2005 to
30 September to 30 June to 31 March to 31 December 30 September
2006 2006 2006 2005 2005
US$ US$ US$ US$ US$
Income
Interest income 28,199,546 29,233,473 26,589,796 27,307,521 28,394,099
Interest expense (23,701,645) (25,152,907) (21,906,790) (23,306,345) (21,084,466)
Net interest income 4,497,901 4,080,566 4,683,006 4,001,176 7,309,633
Realised gain/(loss) on sale of
available for sale investments and
interest rate swaps 3,370,611 (14,547,469) - (21,656,763) 5,313
Loss from impairment - (25,691,600) - - -
Total income/(loss) 7,868,512 (36,158,503) 4,683,006 (17,655,587) 7,314,946
Expenses
Management, custodian and
administration fees 1,246,004 1,210,709 1,279,335 942,468 2,018,214
Other operating expenses 202,739 202,393 197,087 185,913 166,079
Total expenses 1,448,743 1,413,102 1,476,422 1,128,381 2,184,293
Net income/(loss) for the period 6,419,769 (37,571,605) 3,206,584 (18,783,968) 5,130,653
Net income/(loss) per average share
for the period 0.25 (1.38) 0.12 (0.68) 0.18
Dividend declared per share for the
period 0.12 0.10 0.12 0.10 0.18
Average shares outstanding 25,799,463 27,281,594 27,750,550 28,180,275 28,610,000
Prodesse Investment Limited
Unaudited Cash Flow Statement
01 July 2006 to 01 April 2006 to 01 January 2006 01 October 2005 01 July 2005 to
30 September 30 June 2006 to 31 March to 31 December 30 September
2006 2006 2005 2005
US$ US$ US$ US$ US$
Net cash inflows from operating
activities (Note 1) 6,040,184 16,205,851 2,786,035 11,012,705 5,853,758
Financing
Offering Cost - - - - (125,635)
Own shares acquired (2,732,076) (12,887,481) - (5,873,559) -
Dividends paid (2,562,555) (3,330,000) (2,775,055) (5,146,209) (5,722,000)
Net cash (outflow) from financing (5,294,631) (16,217,481) (2,775,055) (11,019,768) (5,847,635)
Increase/(decrease) in cash and cash
equivalents 745,553 (11,630) 10,980 (7,063) 6,123
Cash and cash equivalents, at
beginning of period 4,409 16,039 5,059 12,122 5,999
Cash and cash equivalents, at end of
period 749,962 4,409 16,039 5,059 12,122
Note 1
Net income/(loss) for the period 6,419,769 (37,571,605) 3,206,584 (18,783,968) 5,130,653
Net amortisation of premiums on
available for sale investments 143,076 1,005,200 1,210,901 3,123,879 2,655,987
Realised (gain)/loss on sale of
available for sale investments (2,017,445) 14,547,469 - 21,656,763 (5,313)
Realised gain in interest rate hedge (135,022) - - - -
Loss from impairment - 25,691,600 - - -
Purchases of investments (708,062,580) (349,722,450) (1,082,468,323) (55,678,354) (453,612,318)
Proceeds from sale of investments 563,718,426 530,854,272 - 1,253,691,106 5,666,667
Proceeds from sale of interest rate swaps 135,022 - - - -
Principal paydowns 91,071,528 113,805,308 116,471,761 218,359,667 214,429,874
Borrowings under reverse repurchase
agreements 5,770,442,800 6,685,967,000 5,763,648,000 6,231,988,000 7,229,892,000
Repayments under reverse repurchase
agreements (5,718,027,800) (6,962,911,000) (4,802,097,000) (7,646,290,000) (7,000,275,000)
Receivables
Decrease/(Increase) in accrued income
receivable 835,303 1,083,913 (3,788,108) 5,554,800 (1,364,146)
(Increase)/decrease in prepaid expenses (51,465) (94,089) 6,894 31,894 31,459
Liabilities
Increase/(Decrease) in accrued
interest expense 1,588,759 (6,413,748) 6,124,956 (2,042,728) 2,792,308
(Decrease)/Increase in accrued
expenses payable (20,187) (36,019) 470,370 (598,354) 511,587
Net cash inflow from operating
activities 6,040,184 16,205,851 2,786,035 11,012,705 5,853,758
Prodesse Investment Limited
Statement of Changes in Shareholders' Equity
(unaudited) 01 January 2006 to 30 September 2006
Share Capital Share Distributable Capital Revaluation Accumulated Cash Total
capital redemp- premium reserve Reserve - reserve profits flow
tion realised hedge
re- gain/(loss) reserve
serve on sales
and
impairment
of
available
for sale
investments
Balance at 277,506 8,594 50,000,000 214,300,104 (21,651,450) (13,940,391) 2,972,952 (19,500) 231,947,815
31 December
2005
Net income - - - - - - 3,206,584 - 3,206,584
for the
quarter
Available
for sale
investments:
Movement in - - - - - (18,537,968) - - (18,537,968)
unrealised
gain/(loss)
on
revaluation
taken to
equity
Cash flow 8,991,375 8,991,375
hedge
reserve
Dividends - - - - - - (2,775,055) - (2,775,055)
paid
Balance at 277,506 8,594 50,000,000 214,300,104 (21,651,450) (32,478,359) 3,404,481 8,971,875 222,832,751
31 March
2006
Net loss for - - - - - - (37,571,605) - (37,571,605)
the quarter
Available
for sale
investments:
Transfer of - - - - (25,691,600) - 25,691,600 - -
impairment
loss to
capital
reserve
Transfer of - - - - (14,547,469) - 14,547,469 - -
realised
loss to
capital
reserve
Movement in - - - - - 25,460,498 - - 25,460,498
unrealised
loss on
revaluation
taken to
equity
Cash flow - - - - - - - 1,274,095 1,274,095
hedge
reserve
Buyback of (17,251) 17,251 - (12,887,482) - - - - (12,887,482)
shares
Dividends - - - - - - (3,330,000) - (3,330,000)
paid
Balance at 260,255 25,845 50,000,000 201,412,622 (61,890,519) (7,017,861) 2,741,945 10,245,970 195,778,257
30 June 2006
Net income - - - - - - 6,419,769 - 6,419,769
for the
quarter
Available
for sale
investments:
Transfer of - - - - 3,370,611 - (3,370,611) - -
realised
gain to
capital
reserve
Movement in - - - - - 22,731,555 - 22,731,555
unrealised
loss on
revaluation
taken to
equity
Cash flow - - - - - - - (13,370,345) (13,370,345)
hedge
reserve
Buyback of (4,000) 4,000 - (2,732,077) - - - - (2,732,077)
shares
Dividends - - - - - - (2,562,555) - (2,562,555)
paid
Balance at 256,255 29,845 50,000,000 198,680,545 (58,519,908) 15,713,694 3,228,548 (3,124,375) 206,264,604
30 September
2006
Notes to the financial statements
1. General Information
Prodesse Investment Limited is a limited liability Guernsey-incorporated
closed-end investment company, the investments of which are managed by Fixed
Income Discount Advisory Company ('the Investment Manager'). The Company's
share capital structure consists solely of Ordinary Shares. The Company has a
listing on the London Stock Exchange and a listing on the Channel Islands Stock
Exchange. The Company will have an indefinite life but Shareholders will have
the opportunity to vote on its continuation at the Annual General Meeting to be
held in 2010.
The Company invests in a portfolio consisting primarily of implied 'AAA' rated
mortgage-backed securities on a leveraged basis. The Company's investment
strategy is to generate net income for distribution from the spread between the
interest income from the portfolio and the cost of borrowing pursuant to reverse
repurchase agreements used to finance the portfolio. The Investment Manager
will seek to enhance returns through what it considers an appropriate amount of
leverage.
At the date of authorisation of these financial statements, the following
Standard, which has not been applied in these financial statements, was in issue
but not yet effective:
IFRS 7 Financial Instruments: Disclosures; and the related
amendment to IAS 1 on capital disclosures
The directors anticipate that the adoption of the above Standard in future
periods will not have a material impact on the financial statements of the
Company except for additional disclosures on capital and financial instruments
when the Standard comes into force for period commencing on or after 1 January
2007.
2. Significant Accounting Policies
Basis of Accounting
The financial statements of the Company have been prepared in accordance with
International Financial Reporting Standards ('IFRS'), which comprise standards
and interpretations approved by the International Accounting Standards Board ('
the IASB'), and International Accounting Standards and Standing Interpretations
Committee interpretations approved by the International Accounting Standards
Committee ('IASC') that remain in effect, together with applicable legal and
regulatory requirements of Guernsey Law and the Listing Rules of the UK Listing
Authority and Channel Islands Stock Exchange.
The financial statements have been prepared on the historical cost basis except
for the revaluation of certain financial instruments. The principal accounting
policies are set out below. The preparation of financial statements in
conformity with International Financial Reporting Standards requires the Company
to make estimates and assumptions that affect the reported amounts of 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.
These financial statements are presented in US Dollars because that is the
currency of the primary economic environment in which the Company operates. The
functional currency of the Company is also considered to be US Dollars.
Investments
The Company invests in securities issued by the United States Government
Sponsored Enterprises such as the Federal Home Loan Mortgage Corporation ('
Freddie Mac'), Federal National Mortgage Association ('Fannie Mae') and the
Federal Home Loan Banks ('FHLB') as well as Ginnie Mae, a US Government
Corporation. Freddie Mac, Fannie Mae, and FHLB, although chartered and sponsored
by Congress, are not Companies funded by congressional appropriations and the
debt and mortgage-backed securities issued by Freddie Mac, Fannie Mae and FHLB
are neither guaranteed nor insured by the United States Government.
The payment of principal and interest on the Freddie Mac and Fannie Mae
mortgage-backed securities are backed by those respective agencies, the payment
of principal and interest on the Ginnie Mae mortgage backed securities are
backed by the full-faith-and-credit of the US Government. Although the Company
generally intends to hold most of its securities until maturity, it may, from
time to time, sell any of its mortgage-backed securities as part of its overall
management strategy. Accordingly the Company classifies all its mortgage-backed
securities as available for sale and these are reported at fair value. Expenses
incidental to the acquisition of available for sale investments are included
within the cost of that investment.
Realised and Unrealised Gains and Losses on Investments
Unrealised gains or losses arising on the revaluation of investments are
included in equity. Unrealised losses on investment securities that are
considered other than temporary, as measured by the amount of decline in fair
value attributable to factors other than temporary, are recognised as an
impairment loss in the income statement and the cost basis of the
mortgage-backed securities is adjusted. The impairment loss is then transferred
to a non-distributable capital reserve in accordance with the Memorandum and
Articles of Association of the Company.
Realised gains or losses arising on the sale of investments are recognised in
the income statement but will be transferred to a non-distributable capital
reserve in accordance with the Memorandum and Articles of Association of the
Company.
When-Issued/Delayed Securities
The Company may purchase or sell securities on a when-issued or delayed delivery
basis, including 'TBA' securities. TBA Securities are mortgaged-backed
securities for which details about the underlying mortgages have not yet been
announced. Securities traded on a when-issued basis are traded for delivery
beyond the normal settlement date at a stated price and yield, and no income
accrues to the purchaser prior to delivery.
Security Transactions and Investment Income Recognition
Security transactions are recorded on the trade date. Realised and unrealised
gains and losses are calculated based on specific identified cost. Interest
income is recorded as earned. Interest income and expense includes amortisation
of market discount and premium as calculated using a hybrid methodology
utilising the principles of effective interest method.
Other Receivables
Other receivables do not carry any interest and are short-term in nature and are
accordingly stated at their nominal value as reduced by appropriate allowances
for estimated irrecoverable amounts.
Cash and Cash Equivalents
Cash includes amounts held in interest bearing overnight accounts.
Financial Liabilities and Equity
Financial liabilities and equity are classified according to the substance of
the contractual arrangements entered into. An equity instrument is any contract
that evidences a residual interest in the assets of the Company after deducting
all of its liabilities. Financial liabilities and equity are recorded at the
proceeds received, net of issue costs.
Other Accruals and Payables
Other accruals and payables are not interest-bearing and are stated at their
nominal value.
Reverse Repurchase Agreements
The Company enters into reverse repurchase agreements with qualified third party
financial institutions to finance its investment in mortgage-backed securities.
The agreements are secured by the value of the Company's mortgage-backed
securities. A repurchase agreement involves the sale by the Company of
securities that it holds with an agreement by the Company to repurchase the same
securities at an agreed price and date. Such an agreement involves the risk
that the value of the securities sold by the Company may decline in value below
the price of the securities.
Interest on the principal value of reverse repurchase agreements issued and
outstanding is based upon competitive market rates at the time of issuance.
When the Company enters into a reverse repurchase agreement, it establishes and
maintains a segregated account with the lender containing securities having a
value not less than the repurchase price, including accrued interest, of the
reverse repurchase agreement.
Repurchase agreements are treated as collateralised financing transactions and
are carried at their contractual amounts, including accrued interest, as
specified in the repurchase agreements. Accrued interest is recorded as a
separate line item.
Securities sold subject to repurchase agreements are retained in the financial
statements as available for sale securities and the counterparty liability is
included in liabilities under repurchase agreements.
Derivative Financial Instruments and Hedge Accounting
The Company's activities expose it primarily to the financial risks of changes
in interest rates. The Company uses interest rate swap contracts to hedge these
exposures. The Company does not use derivative financial instruments for
speculative purposes.
The use of financial derivatives is governed by the Company's policies approved
by the board of directors, which provide written principles on the use of
financial derivatives.
Changes in the fair value of derivative financial instruments that are designed
and effective as hedges of future cash flows are recognised directly in equity
and any ineffective portion is recognised immediately in the income statement.
The amount in equity is released to income when the forecast transaction impacts
profit or loss.
Hedge accounting is discontinued when the hedging instrument expires or is sold,
terminated, or exercised, or no longer qualified for hedge accounting. At that
time, any cumulative gain or loss on the hedging instrument recognised in equity
for cash flow hedges is retained in equity until the forecasted transaction
occurs. If a hedged transaction is no longer expected to occur, the net
cumulative gain or loss recognised in equity is transferred to net profit or
loss in the period.
Taxes
The Company is exempt from Guernsey taxation under the Income Tax (Exempt
Bodies) (Guernsey) Ordinance 1989 for which it pays an annual fee of £600.
Set-up Costs
The preliminary expenses of the Company directly attributable to the equity
transaction and costs associated with the establishment of the Company that
would otherwise have been avoided are taken to the share premium account.
3. Available for Sale Investments
Gross Unrealised Gross Estimated
At 30 September 2006 Amortised Cost Gain Unrealised Loss Fair Value
US$ US$ US$ US$
Adjustable rate 755,427,962 1,874,464 (188,366) 757,114,060
Fixed rate 1,245,759,709 15,516,503 (1,488,907) 1,259,787,305
Total 2,001,187,671 17,390,967 (1,677,273) 2,016,901,365
As at 30 September 2006, all of the assets in the Company's portfolio were
Fannie Mae and Freddie Mac mortgage-backed securities, which carry an implied
'AAA' rating. During the quarter ended September 30, 2006, the Company did not
have any securities that it deemed to be other-than-temporarily impaired.
Mortgage-backed securities are created when mortgages and their attendant
streams of interest and principal payments are pooled to serve as collateral for
the issuance of securities to investors. Interests in mortgage-backed securities
differ from other forms of traditional debt securities, which normally provide
for periodic payment of interest in fixed amounts with principal payments at
maturity or specified call dates. Instead, mortgage-backed securities typically
provide irregular cash flows consisting of both interest and principal.
An investment consideration of any mortgage-backed security is the structure of
the payment of the cash flow streams from the underlying mortgages to the
holders of the mortgage-backed securities. The cash flows can be simply passed
from the mortgage holder to the investor or they can be structured in a number
of different ways. The market values of the various structures will vary in
different interest rate or prepayment environments, with the more derivative or
complex structures (e.g., interest-only or principal-only securities) being more
sensitive to movements in interest rates or rates of prepayment.
Beyond the basic security of the mortgages and properties that underlie
mortgage-backed securities, a critical attribute of mortgage-backed securities
issued by the US Agencies is the credit enhancement that the US Agencies
provide. The holder of mortgage-backed securities issued or guaranteed by the US
Agencies is guaranteed the timely payment of principal and interest. Ginnie Mae
is the principal governmental (i.e., backed by the full credit of the US
Government) guarantor of mortgage-backed securities. Fannie Mae and Freddie Mac
are the principal US Government-related (i.e. not backed by the full credit of
the US Government) guarantors.
Adjustable-rate and floating-rate mortgage-backed securities in which the
Company may invest include pass-through mortgage-backed securities issued by the
US Agencies backed by adjustable-rate mortgages and Floaters. The interest rates
on adjustable-rate mortgage-backed securities are reset at periodic intervals to
an increment over some predetermined reference interest rate. There are two main
categories of reference rates: (i) those based on US Treasury securities and
(ii) those derived from a calculated measure such as a cost of funds index or a
moving average of mortgage rates. Commonly utilised reference rates include the
one-year Treasury Bill rate or one-month US dollar LIBOR. Some reference rates,
such as the one-year Treasury Bill rate or LIBOR, closely mirror changes in
market interest rate levels. Others tend to lag changes in market rate levels
and tend to be somewhat less volatile.
Adjustable-rate mortgages frequently have upper and lower limits on the interest
rates to which a residential borrower may be subject (i) in any reset or
adjustment interval and (ii) over the life of the loan. These upper and lower
limits are commonly known as ''caps'' and ''floors'' respectively.
4. Hedging Instrument
The Company uses interest rate swaps to manage its exposure to interest rate
movements. When the Company enters into an interest rate swap, it agrees to pay
a fixed rate of interest and to receive a variable interest rate, generally
based on the London Interbank Offered Rate ('LIBOR'). The Company's swaps are
designated as cash flow hedges against the benchmark interest rate risk
associated with the Company's borrowings.
At September 30, 2006, the company had interest rate swap agreements of US$603
million notional amount in which the Company will pay a weighted average rate of
5.23% and have a weighted average receive rate of 5.33%.
5. Reverse Repurchase Agreements
At 30 September 2006 the aggregate value of securities pledged by the Company
under reverse repurchase agreements exceeds the liability under such agreements
by approximately US$52.8 million (approximately 3% of such liability). The
interest rates on the reverse repurchase agreements at 30 September 2006 range
from 5.28% to 5.46% and have maturity dates ranging from one day to 40 days.
6. Net Asset Value
The net asset value per Ordinary Share is based on net assets at 30 September
2006 and on 25,625,550 Ordinary Shares, being the number of Ordinary Shares in
issue at the period end.
At 30 September 2006, the reported net asset value per Ordinary Share (before
excluding the dividend declared for the quarter ended 30 September 2006) is
US$8.05.
At 30 September 2006, the Company had a net asset value per Ordinary Share of
US$7.93, after including the effect of the dividend declared for the quarter of
30 September 2006 of US$3,075,066.
This information is provided by RNS
The company news service from the London Stock Exchange