PennyMac Financial Services Q1 2025 Earnings Report

PennyMac Financial Services EPS Results

• Actual EPS: $1.42
• Consensus EPS: $2.99
• Beat/Miss: Missed by -$1.57
• One Year Ago EPS: $0.74

PennyMac Financial Services Revenue Results

• Actual Revenue: $430.90 million
• Expected Revenue: $520.42 million
• Beat/Miss: Missed by -$89.52 million
• YoY Revenue Growth: N/A

PennyMac Financial Services Announcement Details

• Quarter: Q1 2025
• Date: 4/22/2025
• Time: After Market Closes
• Conference Call Date: Tuesday, April 22, 2025
• Conference Call Time: 5:00PM ET

PennyMac Financial Services (NYSE:PFSI), through its subsidiaries, engages in the mortgage banking and investment management activities in the United States. The company operates through three segments: Production, Servicing, and Investment Management. The Production segment is involved in the origination, acquisition, and sale of loans. This segment sources residential conventional and government-insured or guaranteed mortgage loans through correspondent production, consumer direct lending, and broker direct lending. The Servicing segment performs loan servicing for both newly originated loans that are under holding for sale and loans services for others. The segment performs loan administration, collection, and default management activities, including the collection and remittance of loan payments; responds to customer inquiries; provides accounting for principal and interest; holds custodial funds for the payment of property taxes and insurance premiums; counsels delinquent borrowers; and supervising foreclosures and property dispositions, as well as administers loss mitigation activities, such as modification and forbearance programs. The Investment Management segment is involved in sourcing, performing diligence, bidding, and closing investment asset acquisitions; managing correspondent production activities for PennyMac Mortgage Investment Trust; and managing acquired assets. The company was founded in 2008 and is headquartered in Westlake Village, California.

PennyMac Financial Services Q1 2025 Earnings Call Transcript

Key Takeaways

• PFSI reported first-quarter net income of $76 million and diluted EPS of $1.42, delivering an annualized ROE of 8% (15% operating ROE ex-fair value changes) driven by its strong servicing business and solid production volumes.
• The servicing portfolio reached $680 billion in UPB across 2.7 million households—up 2% QoQ and 10% YoY—providing stable fee revenue and positioning the firm for future refinance growth when rates decline.
• PennyMac launched a four-year partnership with Team USA for the LA 2028 Games to elevate its brand, boost portfolio recapture and non-portfolio customer acquisition, and expand its broker direct market share with phased marketing investments.
• The company’s balanced origination and servicing model, supported by PMT’s tax-advantaged shelf and private-label securitizations, has generated mid-teens operating ROEs in a higher-rate environment and delivers capital-light recurring revenue streams.
• Ongoing investments in technology and AI are driving production and servicing cost efficiencies, while an emerging subservicing business—with three signed clients, 20 prospects (~$65 billion UPB) and a $4 trillion addressable market—diversifies revenue.

Presentation

[Operator]

Good afternoon, and welcome to PennyMac's Financial Services Inc. First Quarter twenty twenty five Earnings Call. Additional earnings materials, including presentation slides that will be referred to in this call, are available on PennyMac's financial website at pfsi.pennymac.com. Before we begin, let me remind you that this call may contain forward looking statements that are subject to certain risks identified on Slide two of the earnings presentation that could cause the company's actual results to differ materially as well as non GAAP measures that have been reconciled to their GAAP equivalent in the earnings materials. I'd now like to introduce David Spector, PennyMac Financial's Chairman and Chief Executive Officer and Dan Parrotti, PennyMac Financial's Chief Financial Officer.

[David Spector, CEO & Chairman at PennyMac Financial Services]

Thank you, operator. Good afternoon and thank you to everyone for participating in our first quarter earnings call. For the first quarter, PFSI reported net income of $76,000,000 or diluted earnings per share of $1.42 for an annualized return on equity of 8%. Excluding the impact of fair value changes, PFSI produced an annualized operating ROE of 15%, driven by continued strength in our servicing business and a solid contribution from our production segment despite elevated mortgage rates. In total, loan originations and acquisitions were $29,000,000,000 in unpaid principal balance, driving the continued growth of our servicing portfolio to $680,000,000,000 in unpaid principal balance with 2,700,000 households.

[David Spector, CEO & Chairman at PennyMac Financial Services]

Before reviewing our quarterly results in greater detail, I would like to highlight our newly announced partnership with Team USA and the LA twenty eight Olympic and Paralympic Games. In recent periods, we have made significant investments in technology and capacity. And given our market position as the second largest producer of mortgage loans and the sixth largest servicer in the country, we are well positioned for sustained investment in our brand. This strategic four year partnership is a powerful catalyst for our business. It will elevate our brand with our customers, business partners and employees while connecting PennyMac with the shared values of respect and excellence embodied by The U.

[David Spector, CEO & Chairman at PennyMac Financial Services]

S. Olympic And Paralympic movement. Team USA has a massive fan base offering unparalleled reach, and brand association with the Olympic and Paralympic games drives increased engagement, memorability and ultimately greater customer consideration. This marks the first significant investment in our brand, building upon our established success in performance marketing. We expect the partnership to boost both portfolio recapture and non portfolio customer acquisition with integrated campaigns and athlete partnerships that deliver the message of the importance of home and homeownership.

[David Spector, CEO & Chairman at PennyMac Financial Services]

Additionally, this partnership is a key driver in our strategy to expand our market share in broker direct. Our association with Team USA will also foster a stronger sense of pride and purpose among our employees. And as we look to grow our employee base, this partnership increases PennyMac's value proposition as an employer of choice. It is important to note that this partnership is a strategic four year investment that we've structured to align with our financial discipline. The related expenses will be lower in the early years of the partnership, gradually building into the culmination of the LA twenty eight games.

[David Spector, CEO & Chairman at PennyMac Financial Services]

This phased approach allows us to strategically build brand relevance, awareness and engagement without significant upfront costs. We are incredibly enthusiastic about the opportunities this partnership presents and its potential to drive significant value across all facets of our business. Now turning to the origination market. Current third party estimates forecast total originations of $2,000,000,000,000 in 2025, reflecting projections for growth in overall volumes with moderate contributions from both refinance and purchase. Despite broader economic volatility, industry consolidation and regulatory change, we remain intensely focused on the organic growth of our servicing portfolio and the continued development of our balanced business model, and we are committed to successfully navigating this economic landscape without distraction.

[David Spector, CEO & Chairman at PennyMac Financial Services]

As we've highlighted on Slide seven, our synergistic relationship with PennyMac Mortgage Investment Trust, or PMT, continues to provide us with a unique competitive advantage. Our deep and experienced management team has built a best in class operating platform that includes a large and agile multichannel origination business and the scaled servicing operations, both supported by industry leading technology and processes we've thoughtfully developed over our long history. As we have demonstrated, this strategically built platform provides us the ability to generate strong returns for our stockholders across different market environments. As a mortgage REIT, PMT provides a tax advantaged balance sheet to hold and invest in long term mortgage assets. This model enables PFSI to generate capital light recurring revenue streams in the form of servicing fees, fulfillment fees and management fees.

[David Spector, CEO & Chairman at PennyMac Financial Services]

PFSI's deep access to the origination market, combined with PMT's ability to execute private label securitizations and retain the related investments, provide both entities the opportunity to capitalize on the evolving landscape for secondary market execution should the GSEs reduce their overall footprint. We have repeatedly demonstrated that our balanced and diversified business model with leadership in both production and servicing and our dynamic hedging program enables strong financial performance and a foundation for continued growth as an industry leading mortgage company regardless of the direction of interest rates. As you can see on Slide eight of our presentation, we have produced operating returns on equity in the mid teens during periods of higher rates, with the potential for increased returns when mortgage rates decline as evidenced by our performance in the third quarter of last year. Our large servicing business provides ongoing revenue and cash flow contributions in this higher rate environment and continues to provide the foundation for strong financial performance in the future. The unpaid principal balance of our servicing portfolio increased 2% from the prior quarter and 10% from 03/31/2024, as production volumes more than offset runoff from prepayments.

[David Spector, CEO & Chairman at PennyMac Financial Services]

Because we retain the servicing rights on nearly all mortgage loan production and have been one of the largest producers of mortgage loans in recent periods, we are uniquely positioned in the industry. Our large and growing portfolio of borrowers who recently entered into mortgages at higher rates stand to benefit from a refinance in the future when interest rates decline, positioning our consumer direct lending division for strong future growth. On Slide nine of our earnings presentation, you can see that as of March 31, dollars '2 '40 billion in unpaid principal balance or 35% of the loans in our portfolio at a note rate above 5%. Approximately $107,000,000,000 were government loans and approximately $133,000,000,000 were conventional and other loans. The opportunity for earnings growth is highlighted on this slide, along with our historic refinance recapture rates, which have improved significantly from five years ago as a result of our ongoing technology enhancements and process improvements.

[David Spector, CEO & Chairman at PennyMac Financial Services]

We expect these recapture rates to continue improving given our multiyear investments, combined with the increased investment in our brand, as mentioned earlier, and use of targeted marketing strategies. Slide 10 illustrates the advantages of growing our servicing portfolio organically via our own production, a key differentiator for PennyMac Financial. We can consistently source loans through different channels depending on the market environment, and our servicing portfolio growth has been more consistent than others that grow primarily through bulk acquisitions. Loan by loan processing gives us the ability to perform diligence and compliance reviews for all of the loans we produce and ultimately service, leading to increased fraud detection and minimal defect rates versus bulk MSR purchases. This is evidenced by the strong historical performance of our MSR assets with lower delinquencies, especially in recently originated loan vintages relative to the broader industry, which validates the efficacy of our prudent credit strategy.

[David Spector, CEO & Chairman at PennyMac Financial Services]

As I briefly discussed, our large and growing servicing portfolio is a key asset, anchoring our core operational results in this higher interest rate environment and driving low cost leads to our Consumer Direct division. On Slide 11, you can see the strong revenue contributions from our servicing portfolio in recent periods, with growth driven by our portfolio expansion and the higher proportion of owned servicing in recent periods as well as increased placement fees due to elevated short term interest rates. Throughout our history, we've been focused on deploying new and emerging technologies to drive efficiencies and lower costs, as evidenced by the chart on the right, which highlights the continued decline in our per loan servicing expenses in 2019. We continue to demonstrate the ability of our servicing workflows and technology to scale efficiently with our growth, while also providing our servicing associates with the tools they need to best serve our customers. Given our best in class proprietary technologies with advanced capabilities and our unmatched excellence in servicing, we are committed to expanding our subservicing business beyond PMT, and we deliver a compelling value proposition to MSR owners.

[David Spector, CEO & Chairman at PennyMac Financial Services]

This includes superior capabilities for both performing and nonperforming loans powered by our proprietary technology and extensive customer self-service capabilities. And MSR owners that utilize PennyMac as a subservicer can leverage our robust marketing and recapture tools to generate leads and best support their origination efforts. On slide 12, you can see we've signed our first three clients with one already onboarded, and we are actively engaged with 20 additional prospects that represent approximately $65,000,000,000 in UPB. Beyond that, we estimate our correspondent sellers collectively own approximately $465,000,000,000 in unpaid principal balance of servicing and that the total addressable market for subservicing is approximately $4,000,000,000,000 Given consideration to changing market dynamics, we expect further market penetration aiming to capture a broader share of MSR owners who are seeking a best in class low cost subservicer. This strategic focus on subservicing is a testament to our commitment to diversifying our revenue streams while maximizing the value of our servicing platform.

[David Spector, CEO & Chairman at PennyMac Financial Services]

It is for all of these reasons that I am confident in our ability to continue driving strong financial performance in this volatile environment no matter the direction of interest rates. I will now turn it over to Dan who will review the drivers of PFSI's first quarter financial performance.

[Daniel Perotti, Senior MD & CFO at PennyMac Financial Services]

Thank you, David. PFSI reported net income of $76,000,000 in the first quarter or $1.42 in earnings per share for an annualized ROE of 8%. These results included $99,000,000 of fair value declines on MSRs net of hedges and costs, and the impact of these items on diluted earnings per share was negative $1.35 PFSI's Board of Directors declared a first quarter common share dividend of $0.30 per share. Beginning with our Production segment. Pretax income was $62,000,000 down from $78,000,000 in the prior quarter.

[Daniel Perotti, Senior MD & CFO at PennyMac Financial Services]

Total acquisition and origination volumes were $29,000,000,000 in unpaid principal balance, down 19 from the prior quarter and consistent with the decline in the overall market. Of total acquisitions and origination volumes, dollars 26,000,000,000 was for PFSI's own account and $3,000,000,000 was fee based fulfillment activity for PMT. Total lock volumes were $34,000,000,000 in UPB, down just 6% from the prior quarter. PennyMac maintained its dominant position in correspondent lending in the first quarter, with total acquisitions of $23,000,000,000 down from $28,000,000,000 in the prior quarter. Correspondent channel margins in the first quarter were 27 basis points, unchanged from the prior quarter.

[Daniel Perotti, Senior MD & CFO at PennyMac Financial Services]

Fallout adjusted locks for PFSI's own account were down from the prior quarter, which drove a lower revenue contribution. PMT retained 21% of total conventional conforming correspondent production, up slightly from 19% in the prior quarter. In the second quarter, we expect PMT to retain approximately 15% to 25% of total conventional conforming correspondent production, consistent with first quarter levels. Of note, pursuant to our renewed mortgage banking agreement with PMT, beginning in the third quarter of twenty twenty five, all correspondent loans will initially be acquired by PFSI. However, PMT will retain the right to purchase up to 100% of non government correspondent loan production.

[Daniel Perotti, Senior MD & CFO at PennyMac Financial Services]

In broker direct, we continue to see strong trends and continued growth in market share as we position PennyMac as a strong alternative to channel leaders. Originations in the channel were down 21% from the prior quarter as many of the loans locked when rates declined in the third quarter of twenty twenty four funded in the prior quarter. Locked volumes in the first quarter were up 23% from the prior quarter as we continue growing our market position and as we enter the spring and summer home buying season. The number of brokers approved to do business with us at year end was up with over 4,850, up 19% from the end of last year, and we expect this number to continue growing as top brokers increasingly look for strength and diversification in their business partners. Broker channel margins were down slightly from the prior quarter as lower industry volumes resulted in more competitive pricing.

[Daniel Perotti, Senior MD & CFO at PennyMac Financial Services]

We saw similar volume trends in Consumer Direct with origination volumes down 24% from the prior quarter, but locked volumes up 6%. Margins in the channel were up due to a larger mix of higher margin closed end second liens during the quarter. Activity across our channels in April has been up, reflecting lower mortgage rates in the beginning of the month and typical seasonality. Production expenses, net of loan origination expense, increased 5% from the prior quarter, partially due to seasonal compensation impacts. It is our preference to hold a level of excess origination capacity in the current market environment, given our belief that volatility in interest and mortgage rates will provide pockets of opportunity from time to time and that we will need to be quick to react.

[Daniel Perotti, Senior MD & CFO at PennyMac Financial Services]

Turning to servicing. The servicing segment recorded pretax income of $76,000,000 Excluding valuation related changes, pretax income was $172,000,000 or 10.2 basis points of average servicing portfolio UPD, down slightly from 10.3 basis points in the prior quarter. Loan servicing fees were up from the prior quarter primarily due to growth in PFSI's owned portfolio. Custodial funds managed for PFSI's owned portfolio averaged $6,200,000,000 in the first quarter, down from $7,300,000,000 in the fourth quarter due to seasonal impacts and lower prepayments. As a result, earnings on custodial balances deposits and other income decreased.

[Daniel Perotti, Senior MD & CFO at PennyMac Financial Services]

Realization of MSR cash flows increased from the prior quarter due to continued growth in the owned portfolio and expectations for higher prepayment activity in the future. Operating expenses were essentially unchanged from the prior quarter at $81,000,000 or 4.8 basis points of average servicing portfolio UPB, down from five basis points in the prior quarter and representing an all time quarterly low level. We seek to moderate the impact of interest rate changes on the fair value of our MSR asset through a comprehensive hedging strategy that also considers production related income. For example, when refinance volumes and production related income are highly responsive to changes in interest rates, our targeted hedge ratio can decline to as low as 60%. And when refinance volumes and production related income are less responsive to changes in interest rates, our targeted hedge ratio can increase to as high as 100%.

[Daniel Perotti, Senior MD & CFO at PennyMac Financial Services]

The fair value of PFSI's MSR decreased by two zero five million dollars in the first quarter. Of that, dollars 183,000,000 was due to lower market interest rates, which drove expectations for higher prepayment activity in the future, and $23,000,000 was due primarily to prepayments that were faster than modeled and other factors. Excluding costs, hedging gains were $131,000,000 Hedge costs were $24,000,000 Our targeted hedge ratio moved lower during the quarter as interest rates declined and other factors such as the change in the shape of the yield curve had a slightly negative impact. Each of these two factors decreased our hedge effectiveness during the quarter by about 10% versus the 90% to 100% range previously communicated. At current rate levels, our targeted hedge ratio is in the 80% to 90% range.

[Daniel Perotti, Senior MD & CFO at PennyMac Financial Services]

Thus far in the second quarter, interest rates have been extremely volatile. As a result, our hedge target ratio has varied and it may change throughout the quarter if this level of volatility continues. Additionally, hedge costs thus far in the second quarter have been elevated. Corporate and other items contributed a pretax loss of $34,000,000 compared to $36,000,000 in the prior quarter. PFSI recorded a provision for tax expense of $28,000,000 resulting in an effective tax rate of 26.8%.

[Daniel Perotti, Senior MD & CFO at PennyMac Financial Services]

In February, we successfully issued $850,000,000 unsecured senior notes due in 02/1933 and used proceeds to reduce the outstanding balance of our secured revolving bank financing lines. Regarding the upcoming maturity of $650,000,000 in unsecured senior notes due in October of twenty twenty five, we have ample liquidity to retire the notes with additional flexibility to draw on our available revolving bank financing lines. We ended the quarter with $4,000,000,000 of total liquidity, which includes cash and amounts available to draw on facilities where we had collateral pledged. We'll now open it up for questions. Operator?

[Operator]

I would like to remind everyone, we will only take questions related to PennyMac Financial Services, Inc. Or PFFI. We also ask that you please keep your questions limited to one preliminary question and one follow-up question as we'd like to ensure we can answer as many questions as possible. Your first question comes from the line of Michael Kaye with Wells Fargo.

[Michael Kaye, Equity Research Analyst at Wells Fargo Securities]

There's been an uptick in M and A in the sector, particularly the Rocket's acquisition of Mr. Cooper. I wanted to see if you felt this was a greater competitive threat perhaps in a correspondent channel and maybe perhaps, on the contrary, it could create some more subservicing business. Maybe just some thoughts on that.

[David Spector, CEO & Chairman at PennyMac Financial Services]

Yeah. Hi, Michael. How are you how are you doing today?

[Michael Kaye, Equity Research Analyst at Wells Fargo Securities]

Great. Thank you.

[David Spector, CEO & Chairman at PennyMac Financial Services]

Good. Good. So look, there there have been, you know, with this with this transaction, there's been a lot of a lot of discussions that have been taking place in the industry. I have tremendous respect for both management teams and the businesses they built. I think I take great comfort in our earnings stability over the years and, you know, demonstrating the power of the balanced business model.

[David Spector, CEO & Chairman at PennyMac Financial Services]

And and while that this transaction may try to duplicate that, I I think what we've created is so is so powerful that I don't know if it can be duplicated. We are gonna continue to focus on organic growth of our servicing portfolio and continue development of the balanced business model. I you know, we don't have any distractions here at the company, and I don't know if others in the industry can say the same thing. But, you know, we're gonna we're gonna continue to be the number one correspondent aggregator, and we're gonna continue to you know, we're gonna continue our our our dominance there. And our dominance there comes from the fact that, you know, our ability to process at at a cost structure that I've not seen anywhere else in the industry is not something that can be easily duplicated.

[David Spector, CEO & Chairman at PennyMac Financial Services]

I think that we have tremendous opportunity in our broker direct channels. You can see we you know, year over year, we've grown our market share from three and a half percent to almost 5%, and we're well on our way to achieving our 10% market share goal by the end of twenty twenty six. And I think on the subservicing front, suffice it to say, we're in great position to deal with any concerns about what's happened in the subservicing business over the past three years. There's been players leaving and players not growing and players changing their business models. And we believe that we offer a great value proposition on the subservicing channel.

[David Spector, CEO & Chairman at PennyMac Financial Services]

And look, subservicing is a capital light business that we wanna continue to emphasize throughout the organization. And and it's through our relationship with our correspondent aggregators as well as our reputations as a management team that I believe is going to continue to allow us to be one of the leading subservicers in the industry.

[Michael Kaye, Equity Research Analyst at Wells Fargo Securities]

You for that. Wondering if you could talk about the impact on your unit economics with some of the changes in the FHA loss mitigation programs, including two partial claims and payment supplements?

[David Spector, CEO & Chairman at PennyMac Financial Services]

Sure. So the look, I I I'll start off by saying I the new loss mitigation waterfall is largely in line with our expectations, and I think it's been carefully thought out. It's we've been having discussions with that with FHA in the prior administration about it. It's carried forward to this administration. The changes are manageable.

[David Spector, CEO & Chairman at PennyMac Financial Services]

You know, the limitation for mods is one in twenty four months versus 18. And I think this is more than workable for borrowers, servicers, and the FHA. And I believe it's gonna you know, it will improve redefault rates as well as ring out the bad actors, in the industry. There's a greater priority for mods versus partial claims. So what we lose in mod income will more than make up for an EBO activity.

[David Spector, CEO & Chairman at PennyMac Financial Services]

And that's where I believe we are best positioned in the industry. As you all know, during COVID, we had tremendous success with EBO activity, and it starts with having a strong rich risk management discipline, the ability to hedge EBO, ability to buy out the loans, get them reperforming. Our expertise in default servicing really shines through in those situations. And having the infrastructure in place to handle EVOs is important. That infrastructure is capital markets expertise, credit facilities in place, understanding when to buy out the loans, when to redeliver them.

[David Spector, CEO & Chairman at PennyMac Financial Services]

So I am I am viewing this as as really a positive of sorts from a p and l perspective. I don't say comfort in borrowers losing their properties. So I think from an accounting impact, I don't view it negatively. As I said, it's going to reduce loss mitigation, but it's going to mark a return to more orderly property disposition in the way the market has historically operated. Finally, I'll tell you, I think for borrowers who unfortunately can't get a mod, we're in a much different environment than we've been in in the last, call it, twenty years.

[David Spector, CEO & Chairman at PennyMac Financial Services]

There's borrowers have a lot of equity, and there's housing supply issues. And with the strong demand for housing, I think it's borrower, unfortunately, has to get a deal in lieu of foreclosure or a short sale or foreclosed upon, the disposition of the properties will be in a more orderly fashion.

[Michael Kaye, Equity Research Analyst at Wells Fargo Securities]

Okay. Thank you so much.

[Operator]

Your next question comes from the line of Doug Harter with UBS. Please go ahead.

[Doug Harter, Equity Research Analyst at UBS Group]

Thanks. Can you talk about your outlook for continued cost efficiencies on on both the servicing, and the origination side, you know, the ability to continue to scale those businesses, you know, and what role, you know, technology, including, AI might play in that?

[David Spector, CEO & Chairman at PennyMac Financial Services]

Yeah. Look. Doug, I'm really I'm really excited about the work that's being done in both servicing and our loan production divisions. Really, the with the sole goal to is to drive down the cost. Okay?

[David Spector, CEO & Chairman at PennyMac Financial Services]

And I think AI is is clearly clearly where the focus is. We're working with business with our business partners like Google and Amazon to realize efficiencies. We've set up an AI team in our technology group to really provide, bandwidth to our business leaders to help identify opportunities where AI can be deployed, as well as we can work with our third party vendors who are investing in AI. I'm seeing more and more deployment of chatbots across the organization that will increase productivity, and I have no doubt that we're gonna see benefits, and we're already I'll give you a few examples in a minute. But we're going to see a shortened time line for getting loans originated and sold in the capital markets.

[David Spector, CEO & Chairman at PennyMac Financial Services]

Right now, we're focused on LO efficiency and in our fulfillment area. And, you know, all this is gonna also going to find itself in grading in creating a better customer experience. On the servicing front, we are uniquely positioned. Having SSC gives us the ability to customize and integrate AI into our system. And, you know, we've automated 20 different processes in servicing.

[David Spector, CEO & Chairman at PennyMac Financial Services]

Just to give you an example, in servicing, we have a servicing customer interaction system called Mac Chat, that allows customers to engage with PennyMac on a twenty four seven basis. Its annualized savings for us has been over forty five thousand hours a year, roughly translating to $2,000,000 a year in savings. In servicing, we have a servicing document processing and process automation system that has saved us over $2,000,000 a year, or a hundred and thirty thousand hours. And then finally, in TPO, our broker direct channel, we've instituted a document processing system that allows us for full indexing and creation of loan closing document package that actually that it saves out of pocket expenses to the consumer of $7 alone. So we'll be, you know, on a go forward basis, be exposing more and more of this activity.

[David Spector, CEO & Chairman at PennyMac Financial Services]

But I I am really enthusiastic and and proud of the work that's getting done.

[Doug Harter, Equity Research Analyst at UBS Group]

Thanks, David.

[Operator]

Your

[Operator]

next question comes from the line of Christian Love with Piper Sandler. Please go ahead.

[Crispin Love, Director at Piper Sandler Companies]

Thank you and good afternoon everyone. In recent quarters, you've been pretty vocal on expecting episodic rate moves and we've seen that with rate volatility driven by the macro. And as you mentioned, April volumes started off strong, but have you seen a significant drop off in recent weeks relative to earlier in the month in volumes or loss just following the recent moves in rates?

[David Spector, CEO & Chairman at PennyMac Financial Services]

So look, we've seen declines in activity, but not as much as one would expect. I'll tell you, first of all, in correspondent, there's a there's a lag in terms of the correspondent activity of about, I would call it, forty five to sixty days. So the increased activity we saw earlier in the month will avail itself later in the month or the beginning or in May, in terms of correspondent activity. In terms of our consumer direct and broker direct channels, we a lot of of ourselves for consumer direct. We have a lot of loans that are in the high sixes, low sevens.

[David Spector, CEO & Chairman at PennyMac Financial Services]

And in the marketplace, as you can see in our earnings materials, there's a there's a large number of these loans. And I think with the volatility in rates, when borrowers see that they have a loan that they can refinance and it meets a goal, the idea of waiting for rates to go lower is not really playing into their thinking. And so there is is just greater clarity of the market and what the kind of the breakeven is for borrowers, and they're taking my I believe that they're taking the position that they're gonna refinance the loan. If rates come down further, then they'll refinance again.

[Crispin Love, Director at Piper Sandler Companies]

Great. Thank you, David, for that. And then, just also related to rate volatility that we've seen in April to date and the last few quarters, can you just discuss the MSR hedge in a little more detail? On Slide 19, you do call out that the hedge ratio can decline to around 60% when refi volumes are highly responsive to rates, but you are targeting 80% to 90%. So can you dig a little bit deeper into near term expectations and the key sensitivities you'd expect to impact hedge effectiveness?

[Daniel Perotti, Senior MD & CFO at PennyMac Financial Services]

Sure. So through the quarter thus far, we've obviously had a pretty significant amount of interest rate volatility. I think in one of the weeks earlier in the quarter, we were up and down, covered 70 basis points within a week. And so, obviously, that has some some impacts in terms of a, what our our targeted hedge ratio is, you know, that that accompanies our expected production income, as well as, as well as the hedge costs that, you know, that we experienced. And so the increasing volatility with the increasing volatility, that did increase our hedge costs here earlier in the quarter from what we experienced in the first quarter, given the significant increase in overall move as well as the impact on option costs.

[Daniel Perotti, Senior MD & CFO at PennyMac Financial Services]

And so that has run a bit higher than we saw in the first quarter. But overall, in terms of the rate moves and the pretty significant whippiness that we've seen, we've really the team has really, I think, done a good job in terms of insulating us from that and minimizing the overall rate impacts that we've experienced quarter to date apart from, as I mentioned, the increased hedge costs that we've had through the first part of the quarter.

[Crispin Love, Director at Piper Sandler Companies]

Great. Thank you. I appreciate all the color.

[Operator]

Your next question comes from the line of Moshe George with KBW. Please go ahead.

[Bose George, Managing Director at Keefe, Bruyette & Woods (KBW)]

Hey, guys. Good afternoon. Just wanted to follow-up on the MSR hedging question. I mean, I can understand why certain backdrops create a lower hedge ratio. But it seems like in the past, there was some times where hedge ratio would be lower, sometimes it would be over 100% and it would kind of net out over time.

[Bose George, Managing Director at Keefe, Bruyette & Woods (KBW)]

But based on the commentary on that slide, it seems like now the hedge ratio is probably ranging between 60100%, which suggests that the GAAP ROE is

[Bose George, Managing Director at Keefe, Bruyette & Woods (KBW)]

going

[Bose George, Managing Director at Keefe, Bruyette & Woods (KBW)]

to be somewhat lower than the operating over time. So can

[Bose George, Managing Director at Keefe, Bruyette & Woods (KBW)]

you just talk about that?

[Bose George, Managing Director at Keefe, Bruyette & Woods (KBW)]

Has something changed in terms of how you view the hedging or how you do it? Or yes, just any commentary on that would be great.

[Daniel Perotti, Senior MD & CFO at PennyMac Financial Services]

So no, I mean, think we're just really trying to lay out since we go since we discuss this on a regular basis, lay out how what our hedging philosophy is. And so in periods where rates are, I'd say, generally lower, the mortgage market is bigger and there's more variability There's more overall refinance volume and more variability with respect to rates, on production income. You know, typically, we would allow our hedge ratio with respect to rates to be lower. And so what that really means is that we would see, you know, increases in overall value when interest rates go up as we saw in 2022, where we had a positive contribution from the increase in MSRs versus, versus our hedges. And commensurately, if interest rates decrease, we'd see more of an overall decline.

[Daniel Perotti, Senior MD & CFO at PennyMac Financial Services]

What we've really sought to do here on page 19, and we'll give a bit more clarity to this going forward, we've talked about it, is identify apart from those rate impacts and sort of the effectiveness versus what our target has you know, the hedge costs that are impacting us during the quarter, and then if there's any other assumptions that, you know, that have impacts. And so, you know, that's that's really what what we've laid out. In the current environment where, the yield curve, at least from the short rates to the compared to the longer rates have been flat to inverted and overall volatility has been high, that would lead to some negative hedge costs as we had in the first and as I alluded to in the second quarter. As the yield curve normalizes somewhat or becomes steeper with respect to, again, short rates versus longer rates. And as overall vol declines, we would expect those hedge costs can get lower.

[Daniel Perotti, Senior MD & CFO at PennyMac Financial Services]

Potentially, we've seen periods of time where they're positive. And the overall impact of just the the rate impacts, quarter over quarter, would would comprise more of the, you know, the total that you would see on a on a quarter to quarter basis. But and like I said, could really be balanced whether we see a positive impact or negative impact in any given quarter.

[Bose George, Managing Director at Keefe, Bruyette & Woods (KBW)]

Okay. Great. But and but when I think over an extended period, is it fair to say you expect your GAAP ROE to equal your operating ROE over, I mean, not over quarter to quarter, but over a multiyear period. Is that fair?

[Daniel Perotti, Senior MD & CFO at PennyMac Financial Services]

It would depend a bit on the shape of the yield curve and volatility. So I think if we look back just historically over at least recent periods, we've seen that there's been a negative hedge cost impact. But certainly, if we look over longer periods of time and the way that we've positioned ourselves, there's opportunities for both positive impacts and negative impacts, as you said.

[Bose George, Managing Director at Keefe, Bruyette & Woods (KBW)]

Okay. Great. And let me just actually one more on mortgage volumes. Mean to the extent that interest rates stay where they are with mortgage rates closer to 7%, do you think there's any risk to estimates? Or do you feel like there's probably enough volatility where you'll get those periodic refi waves and maybe that's kind of the way to get to the 2,000,000,000,000 ish that the MBA is forecasting.

[Daniel Perotti, Senior MD & CFO at PennyMac Financial Services]

Yeah. The the 2,000,000,000,000 that the MBA is forecasting, I think, is really you know, most likely requires some amount of interest rate volatility as, you know, as we've seen in periods we saw earlier this month, that drives, you know, that drives some episodic refinance volume. You know, the I'd say the other piece that should drive higher over time is also related to housing turnover where, as David noted, there's a, you know, pretty significant, you know, pretty significant demand. I think that there's continued pent up demand for housing as well as to for folks to move out of whatever house they may have outgrown. And so there's some upward lift from that even at current rate levels versus the prior year.

[Daniel Perotti, Senior MD & CFO at PennyMac Financial Services]

But I think there does there will need to be some contribution from refinances related to dips in rates during the year to reach that $2,000,000,000,000 mark.

[Bose George, Managing Director at Keefe, Bruyette & Woods (KBW)]

Okay. Makes sense. Thanks.

[Operator]

Your next question comes from the line of Eric Hagen with BTIG. Please go ahead.

[Eric Hagen, Managing Director at BTIG]

Hey, thanks. It looks like a really healthy recapture rate, but a couple of questions there. Are most of the loans that you're currently recapturing because of rate and term refinances? Or are they purchase recapture because borrowers are moving from one home to another? And on the loans that you're not recapturing, like what is the explanation maybe for that?

[David Spector, CEO & Chairman at PennyMac Financial Services]

Look, Eric, as you pointed out, recap rates have improved meaningfully. I will tell you most of the loans are coming from rate and term. And it's just it speaks to the lead gen technology and processes that we put into place to give us better capability to categorize and mark to market the end of money customers to be able to recapture the loans. We're working harder and harder on the on the purchase recapture front, and that's one of the that's one of the drivers to to investing in the brand. I think it's important that we continue to impress upon our customers and and and noncustomers to be able to have our name associated with the mortgage loan origination process to be able to get purchase recapture as well as purchase money transaction.

[David Spector, CEO & Chairman at PennyMac Financial Services]

And so, you know, look, we're gonna be keeping an eye on increasing percentage of nonport originations and and as well as increase in recapture. But it's it is rate and term, and I think this is something that given the volatility in the market, you're going to see more and more of this improvement in recapture.

[Eric Hagen, Managing Director at BTIG]

Yes. Okay. That's helpful. Can you also say how you deployed the proceeds from the unsecured debt that you raised in February? And how much flexibility or even like the appetite that you have to pay down the bilateral MSR financing lines from this point?

[Eric Hagen, Managing Director at BTIG]

And then can you maybe also remind us, are all of these secured MSR lines subject to margin calls? Or does the margin call only apply to some of the funding there?

[Daniel Perotti, Senior MD & CFO at PennyMac Financial Services]

Sure. So the proceeds for the from the $850,000,000 unsecured debt raise were used to pay down the bilateral the bilateral MSR financing lines. And that really gives us great flexibility. Obviously, we can redraw on those lines once we've repaid them because the collateral is still outstanding. All of those lines are subject to mark to market.

[Daniel Perotti, Senior MD & CFO at PennyMac Financial Services]

But as we've noted, based on the collateral that we have today, we have over $3,000,000,000 of capacity to be able to draw against those lines. So from a practical perspective, even if we had significant interest rate volatility today, we wouldn't face, you know, a margin call at this at this point in time, because we have so much, excess collateral. And so, we're in a very good position with respect to our overall financing capacity. As we approach our maturity that's coming up later in the year, we will be looking for opportunities in the market to potentially issue additional unsecured debt. But to the extent that the market is not conducive, we have significant capacity We have significant capacity on our financing lines to be able to pay down that maturity.

[Daniel Perotti, Senior MD & CFO at PennyMac Financial Services]

One other item too is that as if interest rates rally, another important component of this is that as interest rates rally, if we do see a decrease in the value of our MSR asset, we have we are hedging the MSR, and so we do have offsetting hedge gains against that. That would be inflows from a cash perspective. So even if we were more fully advanced, that is a component of our hedge program that would allow us to pay down that debt with those hedge proceeds.

[Eric Hagen, Managing Director at BTIG]

Yes. Okay. That's helpful. Thanks.

[Eric Hagen, Managing Director at BTIG]

Really helpful detail on the volume in April, but how have margins trended this month? It sounds like maybe there's been some hedging noise, but if you strip out that pipeline hedging, like on a gross basis, if you will, can you say how margins have stacked up?

[Daniel Perotti, Senior MD & CFO at PennyMac Financial Services]

Overall overall margins in thus far in the quarter have been, let's say, a little bit tighter than what we saw in in the first quarter. So, obviously, there's been a pretty significant amount of volatility, but, has been a little bit, more competitive than we saw through the full first quarter on the correspondent side, have been and really in the and really in the direct channels, I would say, haven't even been better. It's been pretty pretty similar. In consumer direct, given the refinances that, the refinance locks that we saw given the interest rate rally, those on a basis point basis tend to be a bit, you know, a bit lower than, than what we see on, on some of our second lien. So to the extent that we've had more refinance locks, than we proportionally did in the first quarter.

[Daniel Perotti, Senior MD & CFO at PennyMac Financial Services]

Our overall basis point margin is lower, but our dollar per loan margin is higher. But those

[Daniel Perotti, Senior MD & CFO at PennyMac Financial Services]

have been the those have

[Daniel Perotti, Senior MD & CFO at PennyMac Financial Services]

been the dynamics that we've seen quarter to date thus far.

[Eric Hagen, Managing Director at BTIG]

Got you. Helpful. Thank you guys so much.

[Operator]

Your next question comes from the line of Shana Q with Barclays. Please go ahead.

[Shanna Qiu, High Yield Credit Research Senior Analyst - Financials & Media at Barclays]

Hey, guys. Thanks for taking my question. Guys mentioned the mid to high teens ROE guidance, but it contemplates stable delinquencies. Can you quantify where you would need to see delinquencies rise to make an impact on the ROE guidance?

[Daniel Perotti, Senior MD & CFO at PennyMac Financial Services]

Yeah. We we overall, we need to see a pretty significant or concentrated, increase in delinquencies to have a meaningful impact on the on the ROE guidance, and that would really have to be in the absence of any accompanying decrease in interest rates. So a decrease in interest rates would drive up, you know, additional production income and EBO income, which would be offsetting to, you know, to potential increases in costs from delinquencies. But overall, you know, we would need to see delinquency, you know, delinquency increases pretty meaningfully outside the ranges that we've seen for the last few, you know, the last few years or quarters, you know, which have ranged up if you look over the, past year, have been within a, you know, call it a 1% range. And so we need to see really, you know, multiples of that to get to impacting in a meaningful way the the ROE guidance.

[Shanna Qiu, High Yield Credit Research Senior Analyst - Financials & Media at Barclays]

Thanks. And, I guess, you know, the e EBO, you guys obviously did pretty well in that, you know, during COVID, but

[Shanna Qiu, High Yield Credit Research Senior Analyst - Financials & Media at Barclays]

we

[Shanna Qiu, High Yield Credit Research Senior Analyst - Financials & Media at Barclays]

saw massive rate declines. I guess, in this environment where you have changes in the loss mitigation program and rates potentially staying higher for longer, how should we think about, you know, EBO income or your ability to modify, you know, potential increases in the delinquencies in that environment?

[David Spector, CEO & Chairman at PennyMac Financial Services]

Look. I think in a higher rate environment, you're obviously you know, you're you you don't have as much firepower in terms of the rates that are being offered to the borrowers. But I think there's still, you know, between, the forty year mod and other programs in place. I do think that there will be opportunity to drive incremental EBO volume. Obviously, to Dan's point, if you see delinquencies increasing, typically, you see a rate decline that comes with that, which leads to more EBO opportunity.

[David Spector, CEO & Chairman at PennyMac Financial Services]

But I think there is you know, we're seeing we're seeing some data that shows that, you know, rates rates decline and you see borrowers with higher note rates that do default, that do need modification programs, there will be more EBO opportunity.

[Shanna Qiu, High Yield Credit Research Senior Analyst - Financials & Media at Barclays]

Thank you, guys.

[Operator]

We have no further questions at this time. I'll now turn it back to David Spector for closing remarks.

[David Spector, CEO & Chairman at PennyMac Financial Services]

I just want to thank everyone for joining us today. If you have any questions, please don't hesitate to reach out to our IR team. And again, thank you for your time.

Participants

Executives

• Daniel Perotti, Senior MD & CFO

Analysts

• David Spector, CEO & Chairman at PennyMac Financial Services
• Michael Kaye, Equity Research Analyst at Wells Fargo Securities
• Doug Harter, Equity Research Analyst at UBS Group
• Crispin Love, Director at Piper Sandler Companies
• Bose George, Managing Director at Keefe, Bruyette & Woods (KBW)
• Eric Hagen, Managing Director at BTIG
• Shanna Qiu, High Yield Credit Research Senior Analyst - Financials & Media at Barclays