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Item 1. BUSINESS
In this Annual Report on Form 10-K we refer to New York Mortgage Trust, Inc., together with its consolidated subsidiaries, as “we,” “us,” “Company,” or “our,” unless we specifically state otherwise or the context indicates otherwise. We refer to our wholly-owned taxable REIT subsidiaries as “TRSs” and our wholly-owned qualified REIT subsidiaries as “QRSs.” In addition, the following defines certain of the commonly used terms in this report: “RMBS” refers to residential adjustable-rate, hybrid adjustable-rate, fixed-rate, interest only and inverse interest only (collectively “IOs”), and principal only (“POs”) mortgage-backed securities; “Agency RMBS” refers to RMBS representing interests in or obligations backed by pools of mortgage loans issued or guaranteed by a federally chartered corporation (“GSE”), such as the Federal National Mortgage Association (“Fannie Mae”) or the Federal Home Loan Mortgage Corporation (“Freddie Mac”), or an agency of the U.S. government, such as the Government National Mortgage Association (“Ginnie Mae”); “non-Agency RMBS” refers to RMBS backed by prime jumbo and Alternative A-paper (“Alt-A”) mortgage loans; “ARMs” refers to adjustable-rate residential mortgage loans; “prime ARM loans” refers to prime credit quality residential ARM loans (“prime ARM loans”) held in securitization trusts; and “CMBS” refers to commercial mortgage-backed securities comprised of commercial mortgage pass-through securities, as well as IO or PO securities that represent the right to a specific component of the cash flow from a pool of commercial mortgage loans.
General
We are a real estate investment trust, or REIT, in the business of acquiring, investing in, financing and managing primarily mortgage-related and, to a lesser extent, financial assets. Our objective is to manage a portfolio of investments that will deliver stable distributions to our stockholders over diverse economic conditions. We intend to achieve this objective through a combination of net interest margin and net realized capital gains from our investment portfolio. Our portfolio includes investments sourced from distressed markets over the previous two years that create the potential for capital gains as well as more traditional types of mortgage-related investments, such as Agency ARMs and Agency IOs, that generate interest income.
We were formed in 2003 and commenced operations as a vertically integrated mortgage origination and portfolio investment manager in 2004 upon the completion of our initial public offering. Facing increasingly difficult operating conditions, we elected to exit the mortgage origination business in 2007 to preserve our capital and focus on our existing mortgage securities portfolio. In January 2008, we engaged an affiliate of JMP Group, Inc., Harvest Capital Strategies LLC (“HCS”), to serve as our investment advisor for the purpose of helping us increase our capital base and source certain types of alternative investments or nontraditional mortgage related investments that could provide significant net realized capital gains. Concurrent with our entry into this advisory relationship, we sold $20 million of preferred stock to JMP Group Inc. and certain affiliates, thereby providing a significant boost to our capital base. Shortly thereafter, we completed a $60 million private placement of our common stock.
Beginning in 2009 and continuing into 2010, we invested in several alternative assets, including a collateralized loan obligation (“CLO”), non-agency RMBS, individual loans and distressed residential single family loans. The CLO investment, which was purchased for approximately $0.20 on the dollar for a total investment of $9.0 million, has, from inception of our investment in these securities to December 31, 2011, contributed over $4.7 million in realized gains to us, $12.5 million in unrealized book value appreciation and has made a significant contribution to our net interest margin. The non-agency RMBS investment was sourced in mid 2009 and mostly sold in 2010 resulting in net realized capital gains of $4.8 million and returning approximately 29.8% on invested capital. In 2010, we invested $19.4 million in a limited partnership that acquired and managed a pool of distressed residential single family loans having an aggregate principal balance of $28.4 million, of which we have disposed of $17.8 million (as of December 31, 2011) for a cumulative net realized capital gain of $1.3 million as of December 31, 2011. We expect to dispose of the remaining portion of this investment in 2012. These investments have contributed significantly to the improvement in our book value, which has increased from $4.21 at December 31, 2008 to $6.12 at December 31, 2011, as well as an increased annual cash dividend paid to our stockholders.
Since 2009, we have endeavored to build a diversified investment portfolio that includes elements of interest rate and credit risk, as we believe a portfolio diversified among interest rate and credit risks is best suited to delivering stable cash flows over various economic cycles. In 2011, we refined our investment strategy from one focused on a broad range of alternative assets sponsored by HCS to an investment strategy focused on residential and multi-family loans and securities. In connection with this focus, we entered into separate investment management agreements with The Midway Group, L.P. (“Midway”) and RiverBanc, LLC (“RiverBanc”) to provide investment management services with respect to certain of our investment strategies, including our investments in Agency RMBS comprised of IOs, which we sometimes refer to as Agency IOs, and CMBS backed by commercial mortgage loans on multi-family properties, which we refer to as multi-family CMBS with our investment focus having moved away from the alternative assets sourced by HCS and an improved capital structure, our Board of Directors determined in December 2011 to terminate the advisory agreement with HCS resulting in a one-time charge of approximately $2.2 million.
We believe we are well positioned heading into 2012 with seasoned investment managers, a focused residential strategy and an investment pipeline that we expect will produce long-term stable returns over diverse economic conditions. Our targeted assets currently include:
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Agency RMBS consisting of adjustable-rate and hybrid adjustable-rate RMBS, which we sometimes refer to as Agency ARMs, and Agency IOs; and
multi-family CMBS.
Subject to maintaining our qualification as a REIT, we also may opportunistically acquire and manage various other types of mortgage-related and financial assets that we believe will compensate us appropriately for the risks associated with them, including, without limitation, non-Agency RMBS (which may include IOs and POs), collateralized mortgage obligations (“CMOs”), residential mortgage loans and certain commercial real estate-related debt investments.
We have elected to be taxed as a REIT and have complied, and intend to continue to comply, with the provisions of the Internal Revenue Code of 1986, as amended (the “Internal Revenue Code”), with respect thereto. Accordingly, we do not expect to be subject to federal income tax on our REIT taxable income that we currently distribute to our stockholders if certain asset, income and ownership tests and recordkeeping requirements are fulfilled. Even if we maintain our qualification as a REIT, we expect to be subject to some federal, state and local taxes on our income generated in our TRSs.
The financial information requirements required under this Item 1 may be found in our consolidated financial statements beginning on page F-1 of this Annual Report.
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Recent Developments
Investments in Multi-Family Loan Securitization Assets
We purchased the majority of the privately placed first loss security from the Freddie Mac Multifamily Loan Securitization Series 2011-K015 (the “K-015 Series”) in November 2011. In addition, we invested in an IO strip off of the K-015 Series. At December 31, 2011, our total investment in these K-015 Series’ assets was approximately $15.1 million. We used a portion of the net proceeds from our underwritten public offering in December 2011 to repay the short-term financing used by us to initially fund a portion of the investment in the K-015 Series. We funded the balance of the purchase price from working capital. The K-015 Series is backed by approximately 91 multi-family properties with mortgages totaling $1.2 billion.
On December 30, 2011, we acquired 100% of the privately placed first loss security from the Freddie Mac Multifamily Loan Securitization Series 2011-K03 (the “K-03 Series”) in the secondary market. We funded 50% of these multi-family CMBS assets on January 4, 2012 and the balance on February 1, 2012. Our total investment to date in the K-03 Series’ assets is approximately $21.7 million, which was funded through a combination of working capital and short-term financing. The K-03 Series is backed by approximately 62 multi-family properties with mortgages totaling $1.1 billion. As of March 5, 2012, our total investment in the multi-family CMBS sector equals approximately $41.2 million, all of which was sourced for us by RiverBanc.
Termination of Advisory Agreement
On December 30, 2011, we entered into a Notice of Termination and Letter Agreement, or Termination Agreement, with HCS pursuant to which we terminated the Amended and Restated Advisory Agreement (the “HCS Advisory Agreement”) between HCS and us effective as of December 31, 2011. Pursuant to the Termination Agreement, we agreed to pay HCS a termination fee equal to approximately $2.2 million, which we recorded as an expense in our statement of operations for the year ended December 31, 2011. We expect that the termination of the HCS Advisory Agreement will eliminate approximately $1.0 million of general and administrative expenses in our 2012 fiscal year and thereafter. Pursuant to the terms of the HCS Advisory Agreement, we will continue to pay incentive compensation to HCS with respect to all assets of our company that were managed by HCS at December 31, 2011 (the “Incentive Tail Assets”) until such time as the Incentive Tail Assets are disposed of by us or mature. Prior to termination, at December 31, 2011, HCS managed approximately $34.0 million of assets under the terms of the HCS Advisory Agreement.
Amendment to Midway Management Agreement
On March 9, 2012, we entered into a First Amendment (the “Midway Amendment”) to Investment Management Agreement (as amended, the “Midway Management Agreement”) with Midway pursuant to which we amended the manner in which the incentive fee payable to Midway under the Midway Management Agreement shall be calculated and provide for the payment of equity compensation to Midway. Specifically, the Midway Amendment (i) raises the “high water mark” to 11%, (ii) reduces the incentive fee to 35% of the dollar amount by which adjusted net income (as defined in the Midway Management Agreement) exceeds the hurdle rate, (iii) reduces the hurdle rate to an annual 12.5% rate of return on invested capital, (iv) provides that the incentive fee will be calculated on a rolling 12-month basis, (v) amends the definition of adjusted net income (to the definition set forth under “―Our External Managers―The Midway Management Agreement”), (vi) provides that, upon mutual agreement of the parties, a portion of each incentive fee payable to Midway under the Midway Management Agreement may be paid in shares of our common stock, and (vii) provides for the grant, on or about the date of the Midway Amendment, of 213,980 shares of restricted stock to Midway that will vest annually in one-third increments beginning on December 31, 2012. Pursuant to the Midway Amendment, which is retroactively effective as of January 1, 2012, the initial term of the Midway Management Agreement will now expire on December 31, 2013.
For a description of the material terms of the Midway Management Agreement (as amended), see “―Our External Managers―The Midway Management Agreement” below.
Our Investment Strategy
We intend to continue our strategy of building a residential portfolio that includes elements of both interest rate and credit risk by focusing our investments on leveraged Agency RMBS, which we expect will include both Agency ARMs and Agency IOs, while also expanding our investments in “credit residential” assets, which we define as multi-family CMBS and other commercial real estate-related debt investments. At the same time we pursue these targeted assets, we will continue to actively manage our existing assets. Prior to deploying capital to any of our targeted asset classes, our management team will consider, among other things, the amount and nature of anticipated cash flows from the asset, our ability to finance or borrow against the asset, the related capital requirements, liquidity, the costs of financing, hedging, and managing the asset, relative value, expected future interest rate volatility and future expected changes to credit spreads.