PennyMac Financial Services, Inc.: Form 10-Q for the period ended Sep 30, 2023

Overview

The following discussion and analysis provides information that we believe is relevant to an assessment and understanding of our consolidated results of operations and financial condition. Unless the context indicates otherwise, references in this Quarterly Report on Form 10-Q to the words “we,” “us,” “our” and the “Company” refer to PFSI and its subsidiaries.

Our Company

We are a specialty financial services firm primarily focused on the production and servicing of U.S. residential mortgage loans (activities which we refer to as mortgage banking) and the management of investments related to the U.S. mortgage market. We believe that our operating capabilities, specialized expertise, access to long-term investment capital, and the experience of our management team across all aspects of the mortgage business will allow us to profitably engage in these activities and capitalize on other related opportunities as they arise in the future.

Our primary assets are equity interests in Private National Mortgage Acceptance Company, LLC (“PNMAC”). We are the managing member of PNMAC, and we operate and control all of the businesses and affairs of PNMAC, and consolidate the financial results of PNMAC and its subsidiaries. We conduct our business in three segments: production, servicing (together, production and servicing comprise our mortgage banking activities) and investment management:

• The production segment performs loan origination, acquisition and sale activities.
• The servicing segment performs loan servicing for both newly originated loans we are holding for sale and loans we service for others, including for PennyMac Mortgage Investment Trust, a mortgage real estate investment trust separately listed on the New York Stock Exchange under the ticker symbol “PMT”.
• The investment management segment represents our investment management activities relating to PMT, which include the activities associated with investment asset acquisitions and dispositions such as sourcing, due diligence, negotiation and settlement.

Our principal mortgage banking subsidiary, PennyMac Loan Services, LLC (“PLS”), is a non-bank producer and servicer of mortgage loans in the United States. PLS is a seller/servicer for the Federal National Mortgage Association (“Fannie Mae”) and the Federal Home Loan Mortgage Corporation (“Freddie Mac”), each of which is a government-sponsored entity. PLS is also an approved issuer of securities guaranteed by the Government National Mortgage Association (“Ginnie Mae”), a lender of the Federal Housing Administration (“FHA”), and a lender/servicer of the U.S. Department of Veterans Affairs (“VA”) and the U.S. Department of Agriculture (“USDA”). We refer to each of Fannie Mae, Freddie Mac, Ginnie Mae, FHA, VA and USDA as an “Agency” and collectively as the “Agencies.” PLS is able to service loans in all 50 states, the District of Columbia, Puerto Rico, Guam and the U.S. Virgin Islands, and originate loans in all 50 states and the District of Columbia, either because PLS is properly licensed in a particular jurisdiction or exempt or otherwise not required to be licensed in that jurisdiction.

Our investment management subsidiary is PNMAC Capital Management, LLC (“PCM”), a Delaware limited liability company registered with the SEC as an investment adviser under the Investment Advisers Act of 1940, as amended. PCM has an investment management contract with PMT.

Business Trends

Due to ongoing inflationary pressures, the U.S. Federal Reserve continued to raise the federal funds rate during the nine months ended September 30, 2023 and continued to reduce the federal government’s overall holdings of Treasury and mortgage-backed securities. Higher interest rates and a slowing economy and housing market are expected to continue to reduce the size of the mortgage origination market from an estimated $2.3 trillion in 2022 to a projected range of $1.6 trillion to $1.8 trillion for 2023 according to mortgage lending industry economists.

Lower mortgage transaction volumes and higher interest rates have decreased our mortgage production activities, reduced gains from the redelivery of loans bought out from Ginnie Mae securities, increased competition and lowered profit margins as compared to the same time period in the prior year. Higher interest rates have also increased the costs of floating rate borrowings, increased interest income from placement fees we receive relating to custodial funds that we manage on deposits and loans held for sale and reduced prepayment speeds in our mortgage servicing portfolio as compared to the same time period in the prior year. We have also increased our acquisition of conventional loans from PMT during the nine months ended September 30, 2023 and expect the current level of these purchases to continue in the fourth quarter of 2023.

Results of Operations

Our results of operations are summarized below:

(dollars in thousands, except per share amounts)

56

(1) To provide investors with information in addition to our results as determined by accounting principles generally accepted in the United States (“GAAP”), we disclose Adjusted EBITDA as a non-GAAP measure. Adjusted EBITDA is a measure that is frequently used in our industry to measure performance and we believe that this measure provides supplemental information that is useful to investors. Adjusted EBITDA is not a financial measure calculated in accordance with GAAP and should not be considered as a substitute for net income, or any other performance measure calculated in accordance with GAAP.

We define “Adjusted EBITDA” as net income plus provision for income taxes, depreciation and amortization, excluding decrease (increase) in fair value of mortgage servicing rights (“MSRs”) net of mortgage servicing liabilities (“MSLs”), due to changes in the valuation inputs we use in our valuation models, hedging losses (gains) associated with MSRs, stock-based compensation and interest expense on corporate debt or corporate revolving credit facilities and capital lease.

We believe that the presentation of Adjusted EBITDA provides useful information to investors regarding our results of operations because each measure assists both investors and management in analyzing and benchmarking the performance and value of our business. However, other companies may define Adjusted EBITDA differently, and as a result, our measures of Adjusted EBITDA may not be directly comparable to those of other companies.

Adjusted EBITDA measures have limitations as analytical tools, and should not be considered in isolation or as a substitute for analysis of our results as reported under GAAP. Some of these limitations are:

a) they do not reflect every cash expenditure, future requirements for capital expenditures or contractual commitments;

b) they do not reflect the significant interest expense or the cash requirements necessary to service interest or principal payment on our debt; and

c) they are not adjusted for all non-cash income or expense items that are reflected in our consolidated statements of cash flows.

Because of these limitations, Adjusted EBITDA measures are not intended as alternatives to net income as an indicator of our operating performance and should not be considered as measures of discretionary cash available to us to invest in the growth of our business or as measures of cash that will be available to us to meet our obligations.

The following table presents a reconciliation of Adjusted EBITDA to our net income, the most directly comparable financial measure calculated and presented in accordance with GAAP, for each of the periods indicated:

(in thousands)

Income Before Provisions for Income Taxes

For the quarter ended September 30, 2023, income before provision for income taxes decreased $58.7 million compared to the same period in 2022. The decrease was primarily due to a $58.4 million decrease in Net loan servicing fees resulting from increases in net MSR valuation losses in excess of growth in servicing fees and a $17.3 million decrease in Net gains on loans held for sale at fair value due to reduced consumer direct lending volumes, partially offset by a $17.3 million decrease in total expenses primarily due to reductions in servicing and marketing and advertising expenses.

For the nine months ended September 30, 2023, income before provision for income taxes decreased $359.7 million compared to the same period in 2022.The decrease was primarily due to a $292.5 million decrease in Net gains on loans held for sale at fair value due to lower consumer direct lending and early buyout (“EBO”) volumes, a $33.8 million decrease in Loan origination fees due to lower volumes in our consumer direct lending channel, a $32.9 million decrease in Fulfillment fees from PennyMac Mortgage Investment Trust and a $288.2 million decrease in Net loan servicing fees resulting from increases in net MSR valuation losses in excess of growth in servicing fees, partially offset by a $245.9 million decrease in total expenses primarily due to reductions in compensation and origination expenses and a $45.4 million increase in net interest income.

Net Gains on Loans Held for Sale at Fair Value

In our production segment, revenues reflect the effects of higher interest rates on the overall demand for mortgage loans and the change in the proportion of loans sourced from our different production channels during the quarter and nine months ended September 30, 2023 compared to the same periods in 2022.

During the quarter and nine months ended September 30, 2023, we recognized Net gains on loans held for sale at fair value totaling $151.4 million and $397.2 million, respectively, a decrease of $17.3 million and $292.5 million, respectively, compared to the same periods in 2022. The decreases were primarily due to reduced consumer direct lending volume as well as a decrease in EBO loan redelivery gains as a result of lower volumes and modifications during the quarter and nine months ended September 30, 2023 compared to the same periods in 2022.

Our net gains on loans held for sale are summarized below:

(in thousands)

Non-Cash Elements of Gain on Sale of Loans Held for Sale

Our gains on loans held for sale include both cash and non-cash elements. We recognize a significant portion of our gains on loans held for sale when we make commitments to purchase or fund mortgage loans. We recognize this gain in the form of interest rate lock commitment (“IRLC”) derivatives. We adjust our initial gain amount as the loan purchase or origination process progresses until the loan is either funded or cancelled.

We also receive non-cash proceeds on sale that include our estimate of the fair value of MSRs and we incur mortgage servicing liabilities (which represent the fair value of the costs we expect to incur in excess of the fees we receive for EBO loans we have resold to third party investors) and for the fair value of our estimate of the losses we expect to incur relating to the representations and warranties we provide in our loan sale transactions.

The MSRs, MSLs, and liabilities for representations and warranties we recognize represent our estimate of the fair value of future benefits and costs we will realize for years in the future. These estimates represented approximately 297% and 327% of our gains on sales of loans held for sale at fair value for the quarter and nine months ended September 30, 2023, respectively, as compared to 205% and 197% for the same periods in 2022. These estimates change as circumstances change and changes in these estimates are recognized in income in subsequent periods. Subsequent changes in the fair value of our MSRs significantly affect our results of operations.

Interest Rate Lock Commitments, Mortgage Servicing Rights and Mortgage Servicing Liabilities

The methods and key inputs we use to measure and update our measurements of IRLCs, MSRs and MSLs are detailed in Note 6 – Fair Value – Valuation Techniques and Inputs to the consolidated financial statements included in this Quarterly Report.

Representations and Warranties

Our agreements with the purchasers and insurers of our loans include representations and warranties related to the loans. The representations and warranties require adherence to purchaser and insurer origination and underwriting guidelines, including but not limited to the validity of the lien securing the loan, property eligibility, borrower credit, income and asset requirements, and compliance with applicable federal, state and local law.

In the event of a breach of our representations and warranties, we may be required to either repurchase the loans with the identified defects or indemnify the purchaser or insurer. In such cases, we bear any subsequent credit losses on the loans. Our credit losses may be reduced by any recourse we have to correspondent originators that sold such loans to us and breached similar or other representations and warranties. In such event, we have the right to seek a recovery of related repurchase losses from that correspondent seller.

Our representations and warranties are generally not subject to stated limits of exposure. However, we believe that the current unpaid principal balance (“UPB”) of loans sold by us and subject to representation and warranty liability to date represents our maximum representations and warranties exposure.

The level of the liability for losses under representations and warranties is difficult to estimate and requires considerable judgment. The level of loan repurchase losses is dependent on economic factors, purchaser or insurer loss mitigation strategies, and other external conditions that may change over the lives of the underlying loans. Our estimate of the liability for representations and warranties is developed by our credit administration staff and approved by our senior management credit committee which includes senior management in our loan production, loan servicing and credit risk management areas.

The method we use to estimate our losses on representations and warranties is a function of our estimate of future defaults, loan repurchase rates, the severity of loss in the event of default, if applicable, and the probability of reimbursement by the correspondent loan seller. We establish a liability at our estimate of its fair value at the time loans are sold and review our liability estimate on a periodic basis.

We recorded provisions for losses under representations and warranties relating to current loan sales as a component of Net gains on loans held for sale at fair value totaling $4.0 million and $8.9 million for the quarter and nine months ended September 30, 2023, respectively, compared to $1.7 million and $7.9 million for the same periods in 2022. The increases in the provision relating to current loan sales were primarily attributable to a change in the mix between government guaranteed and conventional loans sold for the quarter and nine months ended September 30, 2023 compared to the same periods in 2022.

We also recorded reductions in the liability of $2.6 million and $6.0 million for the quarter and nine months ended September 30, 2023, respectively, compared to $1.8 million and $7.2 million for the same periods in 2022. The reductions in the liability resulted from previously sold loans meeting performance criteria established by the Agencies which significantly limit the likelihood of certain repurchase or indemnification claims.

Following is a summary of loan repurchase activity and the UPB of loans subject to representations and warranties:

(in thousands)

During the quarter and nine months ended September 30, 2023, we repurchased loans totaling $14.6 million and $39.7 million, respectively. We charged losses of $1.1 million and $4.8 million to the liability during the quarter and nine months ended September 30, 2023, respectively. Our losses arising from representations and warranties have historically been minimized by our ability to either recover most of the losses from our correspondent sellers or from our ability to profitably refinance and resell repurchased loans.

The recent increases in interest rates may affect certain of our correspondent sellers’ ability to honor their obligations to repurchase defective loans, may increase the level of borrower defaults and may increase the level of repurchases we are required to make, thereby making it more difficult to minimize losses on repurchased loans. We expect these developments may increase the losses we incur in relation to our recorded liability for representations and warranties compared to our historical experience. However, we believe our recorded liability is presently adequate to absorb such losses.

Loan Origination Fees

Loan origination fees increased $3.7 million during the quarter ended September 30, 2023 compared to the same period in 2022 primarily due to an increase in production volume in our correspondent channel. Loan origination fees decreased $33.8 million during the nine months ended September 30, 2023 compared to the same period in 2022 due to a decrease in the volume of consumer direct loans we produced.

Fulfillment Fees from PennyMac Mortgage Investment Trust

Fulfillment fees from PMT represent fees we collect for services we perform on behalf of PMT in connection with the acquisition, packaging and sale of loans. The fulfillment fees are calculated based on the number of loans we fulfill for PMT.

Fulfillment fees decreased $12.9 million and $32.9 million during the quarter and nine months ended September 30, 2023, respectively, compared to the same periods in 2022. The decreases were primarily due to decreases in loans produced on PMT’s behalf.

Net Loan Servicing Fees

Our net loan servicing fee income has two primary components: fees earned for servicing the loans and the effects of MSR and MSL valuation changes, net of hedging results as summarized below:

(in thousands)

Loan Servicing Fees

Following is a summary of our loan servicing fees:

(in thousands)

Loan servicing fees from non-affiliates generally relate to our MSRs which are primarily related to servicing we provide for loans included in Agency securitizations. These fees are contractually established at an annualized percentage of the UPB of the loan serviced and we collect these fees from borrower payments. Loan servicing fees from PMT are primarily related to PMT’s MSRs and are established at monthly per-loan amounts based on whether the loan is a fixed-rate or adjustable-rate loan and the loan’s delinquency or foreclosure status as detailed in Note 4 – Transactions with Related Parties to the consolidated financial statements included in this Report. Other loan servicing fees are comprised primarily of borrower-contracted fees such as late charges and reconveyance fees.

Loan servicing fees from non-affiliates and other fees increased during the quarter and nine months ended September 30, 2023 compared to the same periods in 2022. The increases were primarily due to growth of our loan servicing portfolio.

Effects of Mortgage Servicing Rights and Mortgage Servicing Liabilities

We have elected to carry our servicing assets and liabilities at fair value. Changes in fair value have two components: changes due to realization of the contractual servicing fees and changes due to changes in market inputs used to estimate the fair value of MSRs and MSLs. We endeavor to moderate the effects of changes in fair value by entering into derivatives transactions.

Change in fair value of MSRs and MSLs and the related hedging results are summarized below:

(in thousands)

Changes in fair value of MSRs attributable to changes in fair value inputs increased during the quarter ended September 30, 2023 compared to the same period in 2022 and decreased during the nine months ended September 30, 2023 compared to the same period in 2022. The increase was due to the effect of a more significant increase in interest rates on a larger MSR asset during the quarter ended September 30, 2023 compared to 2022, and the decrease was due to a less significant increase in interest rates during the nine months ended September 30, 2023 compared to the same period in 2022. Increasing interest rates reduce the rate of prepayments of the underlying loans, which increases the cash flows expected from the servicing rights, while decreasing interest rates have the opposite effect.

Changes in realization of cash flows are influenced by changes in the level of servicing assets and liabilities and changes in estimates of the remaining cash flows to be realized. During the quarter and nine months ended September 30, 2023, realization of cash flows increased compared to the same periods in 2022, primarily due to the growth in our investment in MSRs.

Hedging results reflect valuation losses attributable to the effects of interest rate increases on the fair value of the hedging instruments during the quarter and nine months ended September 30, 2023 and in the same periods in 2022 as well as the cost of the hedges utilized in each period.

Following is a summary of our loan servicing portfolio:

(in thousands)

Following is a summary of characteristics of our MSR and MSL servicing portfolio as of September 30, 2023:

64

(1) Loan-to-Value

(2) MSRs and MSLs on government loans include loans securitized in Ginnie Mae pools as well as loans sold to private investors.

(3) Represents on MSRs on conventional loans sold to private investors.

Net Interest Income (Expense)

Following is a summary of net interest income (expense):

(in thousands)

Net interest income increased $9.7 million and $45.4 million during the quarter and nine months ended September 30, 2023, respectively, compared to the same periods in 2022. The increases were primarily due to:

• an increase in placement fees we receive relating to custodial funds that we manage due to increased earning rates;
• an increase in interest income from cash balances and interest income from loans held for sale reflecting higher interest rates; partially offset by
• an increase in interest expense on borrowings due to the higher interest rate environment and to growth in our balance sheet.

Management Fees from PennyMac Mortgage Investment Trust

Management fees from PMT summarized below:

(in thousands)

Management fees decreased $556,000 and $2.2 million during the quarter and nine months ended September 30, 2023, respectively, compared to the same periods in 2022. The decrease was due to a decrease in PMT’s shareholders’ equity which is the basis for the base management fees.

Expenses

Compensation

Compensation expenses are summarized below:

(in thousands)

Compensation expense decreased $884,000 and $159.7 million during the quarter and nine months ended September 30, 2023, respectively, compared to the same periods in 2022. The decreases were primarily due to work force reductions necessitated by reductions in loan production and decreased incentive compensation accruals due to reduced staffing levels and lower achievement of profitability targets for the nine month period.

Loan Origination

Loan origination expense increased $533,000 for the quarter ended September 30, 2023 compared to the same period in 2022 and decreased $61.0 million during the nine months ended September 30, 2023 compared to the same period in 2022. The decrease was primarily due to lower consumer direct origination volume.

Servicing

Servicing expenses decreased $7.2 million during the quarter ended September 30, 2023 compared to the same period in 2022. The decrease was primarily due to a decrease in provision for losses on servicing advances resulting from lower outstanding servicing advance balances during the quarter ended September 30, 2023 compared to the same period in 2022. Servicing expenses increased $18.3 million during the nine months ended September 30, 2023 compared to the same period in 2022. The increase was primarily due to the non-recurrence in 2023 of the reversal of the provision for estimated servicing advance losses that was recognized during 2022 as COVID-19 related delinquencies decreased significantly.

Marketing and Advertising

Marketing and advertising expense decreased $3.0 million and $29.6 million during the quarter and nine months ended September 30, 2023, respectively, compared to the same periods in 2022. The decreases were primarily due to decreased marketing expenses for consumer direct lending and brand marketing during the quarter and nine months ended September 30, 2023 compared to the same periods in 2022.

Provision for Income Taxes

Our effective income tax rates were 26.8% and 23.7% during the quarter and nine months ended September 30, 2023, respectively, compared to 27.1% and 26.7% during the same periods in 2022. The decrease in the effective income tax rates for the quarter and nine months ended September 30, 2023 when compared to the same periods for 2022 results from an increase in favorable permanent tax adjustments and a decrease in income before income taxes in 2023. We have favorable permanent tax adjustments of $0.1 million and $7.5 million with corresponding income before income taxes of $126.8 million and $237.9 million in the quarter and nine months ended September 30, 2023, respectively. For the quarter and nine months ended September 30, 2022, we reported unfavorable permanent tax adjustments of $1.2 million and $1.3 million with corresponding income before income taxes of $185.5 million and $597.5 million, respectively.

Balance Sheet Analysis

Following is a summary of key balance sheet items as of the dates presented:

(in thousands)

(1) Tangible stockholders’ equity represents total stockholders’ equity reduced by intangible assets, comprised of capitalized software, for the dates presented.

Total assets increased $2.1 billion from $16.8 billion at December 31, 2022 to $18.9 billion at September 30, 2023. The increase was driven by an increase of $1.7 billion in loans held for sale at fair value, primarily due to higher production volume during the quarter ended September 30, 2023, and an increase of $1.1 billion in MSRs, partially offset by a decrease in servicing advances of $297.5 million, a decrease in loans eligible for repurchase of $256.3 million and a decrease of cash and short-term investment of $157.9 million.

Total liabilities increased $2.0 billion from $13.4 billion at December 31, 2022 to $15.4 billion at September 30, 2023. The increase was primarily due to an increase of $2.4 billion in borrowings to fund our inventory of loans held for sale, partially offset by a decrease of $256.3 million in liability for loans eligible for repurchase. As a result of our increased inventory financing requirements, our leverage ratios increased during the nine months ended September 30, 2023.

Cash Flows

Our cash flows are summarized below:

(in thousands)

The net decrease in cash and restricted cash of $151.2 million during the nine months ended September 30, 2023 is discussed below.

Operating activities

Net cash used in operating activities totaled $2.0 billion during the nine months ended September 30, 2023 compared with net cash provided by operating activities of $5.5 billion during the same period in 2022. Our cash flows from operating activities are primarily influenced by changes in the levels of our inventory of mortgage loans held for sale as shown below:

(in thousands)

Investing activities

Net cash used in investing activities during the nine months ended September 30, 2023 totaled $378.0 million, primarily due to $450.2 million in net settlement of derivative financial instruments used to hedge our investment in MSRs and $27.7 million used in acquisition of capitalized software, partially offset by $98.1 million received from the sale of interest-only stripped securities. Net cash used in investing activities during the nine months ended September 30, 2022, totaled $483.6 million, primarily due to $810.7 million in net settlement of derivative financial instruments used to hedge our investment in MSRs and $59.6 million used in acquisition of capitalized software, partially offset by a $425.6 million decrease in margin deposits.

Financing activities

Net cash provided by financing activities totaled $2.2 billion during the nine months ended September 30, 2023, primarily due to an increase of $2.4 billion in borrowings. The increase in borrowings primarily reflects the increase in inventory of loans held for sale and our investment in MSRs. Net cash used in financing activities totaled $3.8 billion during the nine months ended September 30, 2022, primarily due to a decrease of $3.9 billion in short-term borrowings and $354.8 million of common stock repurchases, partially offset by the issuance of a $500 million term note.

Liquidity and Capital Resources

Our liquidity reflects our ability to meet our current obligations (including our operating expenses and, when applicable, the retirement of, and margin calls relating to, our debt, and margin calls relating to hedges on our commitments to purchase or originate mortgage loans and on our MSR investments), fund new originations and purchases, and make investments as we identify them. We expect our primary sources of liquidity to be through cash flows from business activities, proceeds from bank borrowings and proceeds from and issuance of equity or debt offerings. We believe that our liquidity is sufficient to meet our current liquidity needs.

Our current borrowing strategy is to finance our assets where we believe such borrowing is prudent, appropriate and available. Our primary borrowing activities are in the form of sales of assets under agreements to repurchase, sales of mortgage loan participation purchase and sale certificates, notes payable secured by mortgage servicing rights and unsecured senior notes. A significant amount of our borrowings have short-term maturities and provide for advances with terms ranging from 30 days to 364 days. Because a significant portion of our current debt facilities consist of short-term debt, we expect to renew these facilities in advance of maturity in order to ensure our ongoing liquidity and access to capital or otherwise allow ourselves sufficient time to replace any necessary financing.

Secured debt facilities for MSRs and servicing advances take various forms. Fannie Mae MSRs, Ginnie Mae MSRs and servicing advances are pledged to special purpose entities, each of which issues variable funding notes (“VFNs”) and may issue term notes and term loans that are secured by such Ginnie Mae or Fannie Mae assets. Term notes are issued to qualified institutional buyers under Rule 144A of Securities Act and term loans are syndicated to banking entities, while the VFNs are sold to bank partners under agreements to repurchase. Freddie Mac MSR’s are pledged to a single lender under a bi-lateral loan and security agreement.

On February 7, 2023, the Company, the Issuer Trust, PLS and PNMAC entered into two VFN repurchase agreements as part of the structured finance transaction that PLS uses to finance Ginnie Mae mortgage servicing rights and related excess servicing spread and servicing advance receivables: a Series 2023-MSRVF1 Master Repurchase Agreement by and among PLS, as seller, Goldman Sachs Bank USA, as administrative agent and as a buyer, and PNMAC, as a guarantor, related to the excess servicing spread, and a Series 2020-SPIADVF1 Master Repurchase Agreement by and among PLS, as seller, and Goldman Sachs Bank USA, as administrative agent and buyer, related to the servicing advance receivables. The maximum purchase under each repurchase agreement is $300 million and each agreement is set to expire on February 7, 2025.

On February 28, 2023, the Company, the Issuer Trust and PLS entered into a syndicated series of term loans (the “Series 2023-GTL1 Loan”) as part of the structured finance transaction that PLS uses to finance Ginnie Mae mortgage servicing rights and related excess servicing spread and servicing advance receivables. The initial 5-year term of the Series 2023-GTL1 Loan is set to expire on February 28, 2028, unless the Company exercises a one-year optional extension. The initial loan balance of the Series 2023-GTL1 Loan was $680 million.

On August 4, 2023, the Company, the Issuer Trust and PLS entered into two VFN repurchase agreements, as part of the structured finance transaction that PLS uses to finance Ginnie Mae mortgage servicing rights and related excess servicing spread and servicing advance receivables. The Series 2023-MSRVF2 Master Repurchase Agreement by and between PLS, as seller, and Nomura Corporate Funding Americas, LLC (“Nomura”), as administrative agent and as a buyer, is related to the servicing spread. The Series 2020-SPIADVF1 Master Repurchase Agreement by and between PLS, as seller, and Nomura, as administrative agent and buyer, is related to the servicing advance receivables. The maximum amount outstanding under both repurchase agreements is $350 million and each agreement is set to expire on August 5, 2024.

Our repurchase agreements represent the sales of assets together with agreements for us to buy back the respective assets at a later date. The table below presents the average, maximum daily and ending balances:

(in thousands)

The differences between the average and maximum daily balances on our repurchase agreements reflect both the effect of increasing loan inventory levels during the nine months ended September 30, 2023 and the fluctuations throughout the periods of our inventory as we fund and pool mortgage loans for sale in guaranteed mortgage securitizations.

Our repurchase agreements also contain margin call provisions that, upon notice from the applicable lender at its option, require us to transfer cash or, in some instances, additional assets in an amount sufficient to eliminate any margin deficit. A margin deficit will generally result from any decrease in the market value (as determined by the applicable lender) of the assets subject to the related financing agreement. Upon notice from the applicable lender, we will generally be required to satisfy the margin call on the day of such notice or within one business day thereafter, depending on the timing of the notice.

Our secured financing agreements at PLS require us to comply with various financial and other restrictive covenants. The most significant financial covenants currently include the following:

• a minimum in unrestricted cash and cash equivalents of $100 million;
• a minimum tangible net worth of $1.25 billion;
• a maximum ratio of total indebtedness to tangible net worth of 10:1; and
• at least one other warehouse or repurchase facility that finances amounts and assets that are similar to those being financed under certain of our existing secured financing agreements.

With respect to servicing performed for PMT, PLS is also subject to certain covenants under PMT’s debt agreements. Covenants in PMT’s debt agreements are equally, or sometimes less, restrictive than the covenants described above.

PFSI issued unsecured senior notes (the “Unsecured Notes”) to qualified institutional buyers under Rule 144A of the Securities Act of 1933, as amended. The Unsecured Notes are fully and unconditionally guaranteed, jointly and severally, on a senior unsecured basis by the Company’s existing and future wholly-owned domestic subsidiaries (other than certain excluded subsidiaries defined in the indentures under which the Unsecured Notes were issued).

Our Unsecured Notes’ indentures contain financial and other restrictive covenants that limit the Company and our restricted subsidiaries’ ability to engage in specified types of transactions, including, but not limited to the following:

• pay dividends or distributions, redeem or repurchase equity, prepay subordinated debt and make certain loans or investments;
• incur, assume or guarantee additional debt or issue preferred stock;
• incur liens on assets;
• merge or consolidate with another person or sell all or substantially all of our assets to another person;
• transfer, sell or otherwise dispose of certain assets including capital stock of subsidiaries;
• enter into transactions with affiliates; and
• allow to exist certain restrictions on the ability of our non-guarantor restricted subsidiaries to pay dividends or make other payments to us.

Although financial and other covenants limit the amount of indebtedness that we may incur and affect our liquidity through minimum cash reserve requirements, we believe that these covenants currently provide us with sufficient flexibility to successfully operate our business and obtain the financing necessary to achieve that purpose.

We are also subject to liquidity and net worth requirements established by the Federal Housing Finance Agency (“FHFA”) for Agency seller/servicers and Ginnie Mae for single-family issuers. FHFA and Ginnie Mae have established minimum liquidity and net worth requirements for their approved non-depository single-family sellers/servicers in the case of Fannie Mae, Freddie Mac, and Ginnie Mae for its approved single-family issuers.

In August 2022, the Agencies issued revised capital and liquidity requirements. Most of the requirements became effective on September 30, 2023, for issuers of securities guaranteed by Ginnie Mae and seller/servicers of mortgage loans to Fannie Mae and Freddie Mac. We believe that we are in compliance with Agencies’ revised requirements. The origination liquidity requirements issued by the Agencies will be effective on December 31, 2023 and risk-based capital requirements issued by Ginnie Mae will be effective on December 31, 2024. We believe that we are in compliance with those pending requirements as of September 30, 2023.

On August 4, 2021, our Board of Directors increased our common stock repurchase program from $1 billion to $2 billion. Share repurchases may be effected through open market purchases or privately negotiated transactions in accordance with applicable rules and regulations. The stock repurchase program does not have an expiration date and the authorization does not obligate us to acquire any particular amount of common stock. From inception through September 30, 2023, we have repurchased approximately $1.8 billion of common shares under our stock repurchase program.

We continue to explore a variety of means of financing our business, including debt financing through bank warehouse lines of credit, bank loans, repurchase agreements, securitization transactions and corporate debt. However, there can be no assurance as to how much additional financing capacity such efforts will produce, what form the financing will take or whether such efforts will be successful.

Debt Obligations

As described further above in “Liquidity and Capital Resources,” we currently finance certain of our assets through short-term borrowings with major financial institutions in the form of sales of assets under agreements to repurchase and mortgage loan participation purchase and sale agreements. We access the capital market for long-term debt through the issuance of secured term notes, term loans and unsecured senior notes. The issuer under our secured term note facilities is PLS or a wholly-owned issuer trust guaranteed by PNMAC. In addition, PFSI has issued unsecured senior notes guaranteed by certain of its restricted wholly-owned domestic subsidiaries.

PLS is required to comply with financial and other restrictive covenants in certain financing agreements, as described further above in “Liquidity and Capital Resources”. As of September 30, 2023, we believe PLS was in compliance in all material respects with these covenants.

Many of our debt financing agreements contain a condition precedent to obtaining additional funding that requires PLS to maintain positive net income for at least one of the previous two consecutive quarters, or other similar measures. PLS is compliant with all such conditions.

The financing agreements also contain margin call provisions that, upon notice from the applicable lender, require us to transfer cash or, in some instances, additional assets in an amount sufficient to eliminate any margin deficit. Upon notice from the applicable lender, we will generally be required to satisfy the margin call on the day of such notice or within one business day thereafter, depending on the timing of the notice.

In addition, the financing agreements contain events of default (subject to certain materiality thresholds and grace periods), including payment defaults, breaches of covenants and/or certain representations and warranties, cross-defaults, guarantor defaults, servicer termination events and defaults, material adverse changes, bankruptcy or insolvency proceedings and other events of default customary for these types of transactions. The remedies for such events of default are also customary for these types of transactions and include the acceleration of the principal amount outstanding under the agreements and the liquidation by our lenders of the mortgage loans or other collateral then subject to the agreements.

Our debt obligations have the following sizes and maturities:

(dollar amounts in thousands)

(1) Outstanding indebtedness as of September 30, 2023.

(2) Total facility size, committed facility and maturity date include contractual changes through the date of this Report.

The amount at risk (the fair value of the assets pledged plus the related margin deposit, less the amount advanced by the counterparty and accrued interest) relating to our assets sold under agreements to repurchase is summarized by counterparty below as of September 30, 2023:

(in thousands)

(1) The borrowing facilities with Atlas, Citibank, N.A., Goldman Sachs Bank USA and Nomura Corporate Funding Americas are in the form of a sale of a variable funding note under an agreement to repurchase.

On March 16, 2023, the Company, PNMAC, the Issuer Trust, and PLS, consented to assignments of all of the credit facilities provided to the Company by Credit Suisse First Boston Mortgage Capital LLC, as administrative agent and Credit Suisse AG, Cayman Islands Branch, as a buyer or purchaser, and Alpine Securitization LTD, as a buyer or purchaser. All of the credit facilities were assigned to Atlas Securitized Products, L.P. (“Atlas SP”), Atlas Securitized Products Investments 3, L.P., Atlas Securitized Products Funding 2, L.P., and Nexera Holding LLC.

All debt financing arrangements that matured between September 30, 2023 and the date of this Report have been renewed or extended and are described in Note 12—Short-Term Debt to the accompanying consolidated financial statements.

Critical Accounting Estimates

Preparation of financial statements in compliance with GAAP requires us to make estimates that affect the reported amounts of assets and liabilities and the disclosure of contingent assets and liabilities at the date of the financial statements, and revenues and expenses during the reporting period. Certain of these estimates significantly influence the portrayal of our financial condition and results, and they require us to make difficult, subjective or complex judgments. Our critical accounting policies primarily relate to our fair value estimates.

Our Annual Report on Form 10-K for the year ended December 31, 2022 contains a discussion of our critical accounting policies, which utilize relevant critical accounting estimates. There have been no significant changes in our critical accounting policies and estimates during the three months ended September 30, 2023 as compared to the critical accounting policies and estimates disclosed in our Annual Report on Form 10-K for the year ended December 31, 2022.

Market risk is the exposure to loss resulting from changes in interest rates, foreign currency exchange rates, commodity prices, equity prices, real estate values and other market-based risks. The primary market risks that we are exposed to are fair value risk, interest rate risk and prepayment risk.

Fair Value Risk

Our IRLCs, mortgage loans held for sale, MSRs and MSLs are reported at their fair values. The fair value of these assets fluctuates primarily due to changes in interest rates. The fair value risk we face is primarily attributable to interest rate risk and prepayment risk.

Interest Rate Risk

Interest rate risk is highly sensitive to many factors, including governmental monetary and tax policies, domestic and international economic and political considerations, and other factors beyond our control. Changes in interest rates affect both the fair value of, and interest income we earn from, our mortgage-related investments and our derivative financial instruments. This effect is most pronounced with fixed-rate mortgage assets.

In general, rising interest rates negatively affect the fair value of our IRLCs and inventory of mortgage loans held for sale and positively affect the fair value of our MSRs. Changes in interest rates significantly influence the prepayment speeds of the loans underlying our investments in MSRs, which can have a significant effect on their fair values. Changes in interest rate are most prominently reflected in the prepayment speeds of the loans underlying our investments in MSRs and the discount rate used in their valuation.

Our operating results will depend, in part, on differences between the income from our investments and our financing costs. Presently much of our debt financing is based on a floating rate of interest calculated on a fixed spread over the relevant index, as determined by the particular financing arrangement.

Prepayment Risk

To the extent that the actual prepayment rate on the mortgage loans underlying our MSRs differs from what we projected when we initially recognized these assets and liabilities when we measure fair value as of the end of each reporting period, the carrying value of these assets and liabilities will be affected. In general, a decrease in the principal balances of the mortgage loans underlying our MSRs or an increase in prepayment expectations will decrease our estimates of the fair value of the MSRs, thereby reducing net servicing income, partially offset by the beneficial effect on net servicing income of a corresponding reduction in the fair value of our MSLs.

Risk Management Activities

We engage in risk management activities primarily in an effort to mitigate the effect of changes in interest rates on the fair value of our assets. To manage this price risk, we use derivative financial instruments acquired with the intention of moderating the risk that changes in market interest rates will result in unfavorable changes in the fair value of our assets, primarily prepayment exposure on our MSR investments as well as IRLCs and our inventory of loans held for sale. Our objective is to minimize our hedging expense and maximize our loss coverage based on a given hedge expense target. We do not use derivative financial instruments other than IRLCs for purposes other than in support of our risk management activities.

Our strategies are reviewed daily within a disciplined risk management framework. We use a variety of interest rate and spread shifts and scenarios and define target limits for market value and liquidity loss in those scenarios. With respect to our IRLCs and inventory of loans held for sale, we use MBS forward sale contracts to lock in the price at which we will sell the mortgage loans or resulting MBS, and further use MBS put options to mitigate the risk of our IRLCs not closing at the rate we expect. With respect to our MSRs, we seek to mitigate mortgage-based loss exposure utilizing MBS forward purchase and sale contracts, address exposures to smaller interest rate shifts with Treasury and interest rate swap futures, and use options and swaptions to achieve target coverage levels for larger interest rate shocks.

Fair Value Sensitivities

The following sensitivity analyses are limited in that they were performed at a particular point in time; only contemplate the movements in the indicated variables; do not incorporate changes to other variables; are subject to the accuracy of various models and inputs used; and do not incorporate other factors that would affect our overall financial performance in such scenarios, including operational adjustments made by management to account for changing circumstances. For these reasons, the following estimates should not be viewed as earnings forecasts.

Mortgage Servicing Rights

The following tables summarize the estimated change in fair value of MSRs as of September 30, 2023, given several shifts in pricing spreads, prepayment speed and annual per loan cost of servicing:

Disclosure Controls and Procedures

We maintain disclosure controls and procedures that are designed to ensure that information required to be disclosed in our reports filed under the Securities Exchange Act of 1934, as amended (the “Exchange Act”) is recorded, processed, summarized and reported within the time periods specified in the SEC’s rules and forms, and that such information is accumulated and communicated to our management, including our Chief Executive Officer and Chief Financial Officer, as appropriate, to allow timely decisions regarding required disclosures. However, no matter how well a control system is designed and operated, it can provide only reasonable, not absolute, assurance that it will detect or uncover failures within the Company to disclose material information otherwise required to be set forth in our periodic reports.

Our management has conducted an evaluation, with the participation of our Chief Executive Officer and Chief Financial Officer, of the effectiveness of our disclosure controls and procedures as of the end of the period covered by this Report as required by paragraph (b) of Rule 13a-15 under the Exchange Act. Based on our evaluation, our Chief Executive Officer and Chief Financial Officer have concluded that our disclosure controls and procedures were effective, as of the end of the period covered by this Report, to provide reasonable assurance that information required to be disclosed by us in the reports that we file or submit under the Exchange Act is recorded, processed, summarized and reported within the time periods specified in the applicable rules and forms, and that it is accumulated and communicated to our management, including our Chief Executive Officer and Chief Financial Officer, as appropriate, to allow timely decisions regarding required disclosure.

Changes in Internal Control over Financial Reporting

There have been no changes in our internal control over financial reporting during the quarter ended September 30, 2023 that have materially affected, or are reasonably likely to materially affect, our internal control over financial reporting.

There have been no material changes from the risk factors set forth under Item 1A. “Risk Factors” in our Annual Report on Form 10-K for the year ended December 31, 2022, filed with the SEC on February 22, 2023.