Onity Group Inc.: Form 10-Q for the period ended Sep 30, 2024

(Dollars in millions, except per share amounts and unless otherwise indicated. Amounts may not add in certain tables due to rounding.)

OVERVIEW

General

We are a leading non-bank mortgage servicer and originator providing solutions through our primary brands, PHH Mortgage and Liberty Reverse Mortgage. PHH is one of the largest non-bank servicers in the country based on UPB, focused on delivering a variety of servicing and lending programs, and is also one of the largest correspondent lenders in the U.S. based on origination UPB. Liberty is one of the nation’s largest reverse mortgage lenders and servicer based on origination and securitization UPB, dedicated to education and providing loans that help customers meet their personal and financial needs by drawing upon their home equity. We serviced or subserviced 1.4 million loans with a total UPB of $298.9 billion on behalf of more than 4,000 investors and 120 subservicing clients as of September 30, 2024. We service all mortgage loan classes, including conventional, government-insured, non-Agency, small-balance commercial and multi-family loans. Our Originations business is part of our balanced business model to generate gains on loan sales and profitable returns, and to support the replenishment and the growth of our servicing portfolio. Through our retail, correspondent and wholesale channels, we originate and purchase conventional and government-insured forward and reverse mortgage loans that we sell or securitize on a servicing retained basis. In addition, we grow our mortgage servicing volume through MSR flow purchase agreements, Agency Cash Window and co-issue programs, bulk MSR purchase transactions, and subservicing agreements. On June 10, 2024, Ocwen Financial Corporation changed its name to Onity Group Inc.

The table below summarizes the volume of Originations by channel on a current and comparative basis. The volume of Originations is a key driver of the profitability of our Originations segment, along with margins, and also a key driver of the replenishment and growth of our Servicing segment. In the third quarter of 2024, we added $18.5 billion of new volume, mainly $8.4 billion of new subservicing and $8.5 billion of new Originations production, as further detailed in the below table.

$ In billions

(1) Represents the UPB of loans that have been originated or purchased (funded) during the respective periods and for which we recognize a new MSR on our consolidated balance sheets upon sale or securitization.

(2) Represents the UPB of reverse mortgage loans that have been securitized on a servicing retained basis. The loans are recognized on our consolidated balance sheets under GAAP without any separate recognition of MSRs.

(3) Bulk MSR purchases include $0.9 billion UPB for which PHH was previously performing the subservicing that were purchased from third parties during the third quarter of 2024.

(4) Includes interim subservicing, including the volume of UPB associated with short-term interim subservicing for certain clients as a support to their originate-to-sell business.

Volume Overview

The following table summarizes the average volume of our Servicing segment, a key driver of the profitability of our Servicing segment, on a current and comparative basis. The relative weight of performing and delinquent loans or servicing and subservicing also drive the amount and timing of gross revenue and expenses. Our average total servicing and subservicing UPB remained flat during the third quarter of 2024 compared to prior quarter.

$ In billions

As of September 30, 2024 and June 30, 2024, the total servicing and subservicing UPB amounted to $298.9 billion and $304.5 billion, respectively, a net decrease of $5.6 billion or 2%.

The following table presents key market interest rates which are important drivers of our businesses. As further discussed, the 30-year fixed rate mortgage is a key driver of Originations volume, the 10-year Treasury rate is a key benchmark for MSR valuation and hedging activities, and the 1-month SOFR is a key benchmark for the profitability of our Servicing segment (including float earnings and asset-backed financing cost).

(1) Source: Freddie Mac PMMS - Primary Mortgage Market Survey

Quarter over quarter, the average 30-year fixed rate mortgage rate declined 45 basis points, the 10-year Treasury rate declined by 55 basis points, and the average 1-month term SOFR declined by 11 basis points. When comparing the nine months ended September 30, 2024 to the nine months ended September 30, 2023, the average 30-year fixed rate mortgage rate increased 11 basis points, the 10-year Treasury rate declined by 78 basis points, and the average 1-month term SOFR increased by 30 basis points.

The following graph compares market interest rates over the current and comparative periods:

Financial Highlights

Results of operations for the third quarter of 2024

• Net income of $21.4 million, or $2.72 per share basic and $2.65 per share diluted
• Servicing and subservicing fee revenue of $211.1 million
• Originations gain on sale of $16.4 million
• $8.7 million MSR valuation gain attributable to rate and assumption changes, net of hedging

Financial condition at September 30, 2024

• Stockholders’ equity of $468.2 million, or $59.50 book value per common share
• MSR investment of $2.2 billion, and $298.9 billion total servicing and subservicing UPB
• Cash position of $201.6 million
• Total assets of $13.2 billion

Business Strategy

We established the following strategy to return to sustainable profitability and create long-term value for shareholders:

• Balance and diversification: Maintain a scale position in origination and servicing to address market-cycle opportunities;
• Prudent capital-light growth: Emphasize on capital-light subservicing to drive servicing portfolio UPB growth and emphasize higher margin origination channels and products to drive accretive MSR investments;
• Industry-leading cost structure: Optimize cost structure across the organization to achieve industry cost leadership through continuous cost and process improvement, optimizing technology, global operations, and scale;
• Top-tier operating performance and capabilities: Delivering industry top-tier servicing operational performance and driving increased borrower and client satisfaction;
• Dynamic asset management: Optimize investment returns and liquidity through opportunistic asset purchases and sales, leveraging third party capital sources, including our multi-investor partnership model to fund new MSR origination to deliver value for shareholders, including deleveraging.

Our growth and asset management strategy includes purchasing assets and/or operations of complementary businesses, by means of acquisition, merger or other transaction forms. Our strategy may also include pursuing large transactions, including bulk purchases or sales of MSRs. We have engaged in such transactions in the past, and we continue to explore opportunities that may be accretive to our business and stockholders’ value.

Results of Operations and Financial Condition

The following discussion and analysis of our results of operations and financial condition should be read in conjunction with our unaudited consolidated financial statements and the related notes appearing elsewhere in this Quarterly Report on Form 10-Q and with our audited consolidated financial statements and related notes and management’s discussion and analysis of financial condition and results of operations appearing in our Annual Report filed on Form 10-K for the fiscal year ended December 31, 2023. In our discussion of results of operations, we compare our current quarterly results to the immediately preceding quarter, and current year-to-date results to the corresponding year-to-date results of the preceding year.

Onity reported $21.4 million net income in the third quarter of 2024, an increase of $10.9 million compared to the second quarter of 2024, mostly driven by the following:

• A $19.3 million increase in revenue, mostly attributed to our Servicing segment due to a $9.6 million favorable change in fair value of loans held for sale attributed to market interest rate declines and favorable assumption updates on reverse buyouts and $9.1 million additional gains on our reverse mortgage portfolio of loans held for investment and HMBS-related borrowings. The reverse portfolio gains in the third quarter are driven by a decline in market interest rates (vs. an increase in the second quarter) and are part of our MSR hedge strategy.
• Mostly flat MSR valuation adjustments, net with the net loss in both quarters driven by the MSR realization of expected cash flows or runoff. In both the second and third quarters of 2024, the fair value changes of the MSR exposure due to interest rates were largely offset with hedging derivatives.
• An $8.5 million increase in Operating expenses, primarily due to reimbursements received in the second quarter of 2024 from mortgage loan investors related to prior year legal expenses and payments following resolution of legacy litigation matters, and a higher estimated annual cash awards expense based on our year-to-date financial performance.
• A $3.3 million increase in Income tax expense, mostly due to the increase in pre-tax earnings.

When comparing to the nine months ended September 30, 2024, the statement of operations for the nine months ended September 30, 2023 reflects $95.3 million servicing fees collected on behalf of and remitted to Rithm and reported gross, both as Revenue (Servicing and subservicing fees) and as Other income (expense), net (Pledged MSR liability expense) associated with the MSR that achieved sale accounting treatment on December 31, 2023, with no impact on Net income (loss). On December 31, 2023, we derecognized from our balance sheet $421.7 million non-Agency MSRs and Pledged MSR liability associated with Rithm servicing agreements with a UPB of $33.4 billion for which MSR sale accounting criteria was met. As PHH continues to subservice the portfolio, our statement of operations in 2024 reflects subservicing fee revenue as opposed to the gross presentation of servicing fee revenue and offsetting servicing fee remittances within Pledged MSR liability expense, a component of Other income (expense), net, prior to December 31, 2023. These required presentation changes do not affect the amount of net fee retained by Onity in connection with the Rithm servicing agreements.

Total Revenue

The below table presents total revenue by type and segment:

Total segment revenue for the three months ended September 30, 2024 increased $19.3 million, or 8% compared to the three months ended June 30, 2024 due to an $18.9 million increase in Servicing revenue and a $0.4 million increase in Originations revenue. The increase in Servicing revenue is driven by a $9.6 million increase in Gain on loans held for sale, net mostly attributed to reverse mortgage loan buyouts in the third quarter of 2024, and a $9.1 million increase in Gain on reverse loans held for investment and HMBS-related borrowings, net driven by a favorable decline in market rates (vs. an increase in the second quarter), partially offset by unfavorable yield spread widening (vs. favorable tightening in the second quarter). In addition, servicing and subservicing fees increased by $0.1 million with offsetting factors as float earnings increased with seasonally higher average float balances, offset by a decrease in servicing fees mostly due to MAV’s sale of MSRs (previously sold by Onity to MAV in a transaction which did not qualify for sale accounting treatment) during the three months ended June 30, 2024.

Compared to the nine months ended September 30, 2023, total segment revenue for the nine months ended September 30, 2024 was $38.2 million or 5% lower, due to a $62.0 million decline in Servicing revenue offset by a $23.7 million increase in Originations revenue.

• The decline in Servicing revenue is mostly due to an $81.4 million decrease in servicing and subservicing fees largely due to the effects of our accounting derecognition of MSRs previously sold to Rithm for which the sale accounting criteria were met effective December 31, 2023, as discussed above ($95.3 million fees collected and remitted to Rithm recognized in the nine months ended September 30, 2023). Partially offsetting this decrease, Gain on reverse loans held for investment and HMBS-related borrowings, net increased $19.4 million due to a decrease in market rates vs. an increase in the prior year period and yield spread tightening vs. widening in the prior year period.
• The increase in Originations revenue is primarily driven by an $18.9 million increase in Gain on loans held for sale, net (forward loans) due to an increase in volume and margin for both our Correspondent and Consumer Direct channel. The increase in Correspondent volume is mostly attributed to our owned MSR replenishment strategy after the opportunistic MSR bulk sales in 2024. The increase in Consumer Direct volume is driven by the recent decline in interest rates generating additional recapture opportunities.

MSR Valuation Adjustments, Net

The table below presents the key components of MSR valuation adjustments, net which include MSRs, MSR pledged liabilities and ESS financing liabilities at fair value, together with MSR hedging derivatives:

(1) Excludes fair value changes of reverse mortgage loans held-for-investment and HMBS related borrowing due to rates and assumptions that are part of the MSR hedging strategy. Refer to MSR Hedging Strategy section of Item 3. Quantitative and Qualitative Disclosures about Market Risks for further detail and the discussion below within Servicing.

The $31.5 million loss on MSR valuation adjustments, net for the three months ended September 30, 2024 is comprised of $40.2 million runoff, $45.6 million fair value loss attributed to rate and assumption changes and $54.3 million gain on MSR hedging derivatives. As we maintained a high hedge coverage ratio in both quarters, the $1.2 million lower loss in MSR valuation adjustments, net in the three months ended September 30, 2024 compared to the three months ended June 30, 2024 is largely driven by lower hedge costs in the third quarter of 2024 and certain favorable assumption updates to reflect actual market trade pricing levels.

• MSRs are subject to runoff, a fair value decline due to the realization of expected cash flows and yield based on projected borrower behavior, including scheduled amortization of the loan UPB together with projected voluntary and involuntary prepayments. The unfavorable $2.2 million higher runoff quarter-over-quarter is mostly due to the impact of lower market rates on expected cash flows.
• The $45.6 million fair value loss due to rate and assumption changes is attributed to a decline in interest rates in the quarter, partially offset by favorable assumption updates to reflect market participant perspectives on MSRs and actual market trade pricing levels. The change from a $56.0 million fair value gain in the three months ended June 30, 2024 to a $45.6 million fair value loss in the three months ended September 30, 2024 is mostly driven by changes in market interest rates as the 10-year Treasury rate declined 55 basis points in the three months ended September 30, 2024 and increased 16 basis points in the three months ended June 30, 2024.
• MSR hedging derivative fair value gains or losses are designed to partially offset the expected fair value losses or gains, respectively, of the net MSR, MSR pledged liabilities and ESS exposure, commensurate with our target hedge coverage ratio. The $54.3 million derivative gain recognized in the three months ended September 30, 2024 is primarily driven by the rate decrease discussed above. Also refer to Item 3. Quantitative and Qualitative Disclosures about Market Risk for further detail on our hedging strategy and its effectiveness.

For the nine months ended September 30, 2024, the $75.8 million loss on MSR valuation adjustments, net is comprised of $118.2 million runoff, $92.4 million fair value gain attributed to rate and assumption changes and $50.0 million loss on MSR hedging derivatives.

• The unfavorable $11.2 million increase in runoff is mostly due to the impact of lower market rates on expected cash flows and our replenishment of lower note rate MSRs sold in 2023 with new higher note rate originations.
• Fair value changes attributed to rates and assumptions remained flat. The market interest rate impact as the 10-year Treasury rate declined 7 basis points during the nine months ended September 30, 2024 compared to an increase of 71 basis points during the same period of 2023 was offset by certain favorable assumption updates in the nine months ended September 30, 2024 to reflect actual market trade pricing levels.
• The $69.7 million lower loss from derivatives is mainly due to the market interest rate changes noted above, and the impact of our hedge coverage ratio. During the first nine months of 2023, we gradually increased our minimum hedge coverage ratio from 25% to 60%, with the minimum increasing to 95% in December 2023, adjusted to 90% in April 2024.

Operating Expenses

The table below presents the key components of operating expenses:

Compensation and benefits expense for the three months ended September 30, 2024 increased $4.6 million, or 8% compared to the three months ended June 30, 2024, largely due to higher estimated annual cash awards expense based on our year-to-date financial performance.

Compared to the nine months ended September 30, 2023, Compensation and benefits expense for the nine months ended September 30, 2024 decreased $3.3 million, or 2% largely due to a decrease in salaries and benefits, offset in part by an increase in estimated annual cash awards expense discussed above. Our total average headcount declined 7%, mostly due to efficiencies in Servicing and runoff of our reverse subservicing portfolio.

Servicing and origination expense for the three months ended September 30, 2024 decreased $2.9 million compared to the three months ended June 30, 2024, mostly driven by the reversal of a liability for representation and warranty indemnification obligations due to a favorable settlement in the third quarter of 2024 .

Compared to the nine months ended September 30, 2023, Servicing and origination expenses for the nine months ended September 30, 2024 decreased $8.7 million mostly due to an $11.5 million decrease in Servicing, partially offset by $2.4 million incremental expenses in Originations. The decline in Servicing expense is primarily attributed to the release of indemnification obligations driven by recoveries and favorable resolutions in the nine months ended September 30, 2024, partially offset by higher provision expense on reverse servicing portfolio related advances and higher loss adjustment expense in line with higher reinsurance premiums assumed. The increase in Originations expense is mostly driven by higher production volume and a provision release for representation and warranty indemnification obligations recorded in the first nine months of 2023 due to favorable resolution of demands.

Professional services expense for the three months ended September 30, 2024 increased $6.6 million compared to the three months ended June 30, 2024 primarily due to reimbursements received in the second quarter of 2024 from mortgage loan investors related to prior year legal expenses and payments following favorable resolution of legacy litigation matters.

Compared to the nine months ended September 30, 2023, Professional services expense for the nine months ended September 30, 2024 increased $30.2 million primarily due to the reversal of our loss contingency accrual related to the CFPB matter resolved in our favor in the second quarter of 2023 and an increase in other litigation-related expenses recognized in the nine months ended September 30, 2024, largely offset by the reimbursements received in the second quarter of 2024 related to legacy litigation matters.

Other Income (Expense)

Net interest expense for the three months ended September 30, 2024 remained mostly flat compared to the three months ended June 30, 2024. Compared to the nine months ended September 30, 2023, Net interest expense for the nine months ended September 30, 2024 increased $5.5 million, mostly driven by the additional financing cost incurred in connection with our acquisition and securitization of reverse mortgage buyouts and the second lien PLS MSR financing facility entered into in March 2024. The increase in average short-term market interest rates in the first nine months of 2024 compared to the first nine months of 2023, on our variable rate borrowings was mostly offset by the decline in our average debt balances for servicing advances due to our collection efforts and lower Corporate debt interest expense attributed to our partial debt repayment.

During March 2024 and September 2024, we repurchased a total of $47.4 million and $23.5 million, respectively, of the PMC Senior Secured Notes for a price of $45.5 million and $23.0 million, and recognized a gain of $1.4 million and $0.3 million on debt extinguishment, net of the associated write-off of unamortized discount and debt issuance costs. During September 2023, we repurchased a total of $13.9 million of the PMC Senior Secured Notes for a price of $12.5 million and recognized a $1.2 million gain on debt extinguishment, net of the associated write-off of unamortized discount and debt issuance costs.

Refer to Servicing segment for discussion of Pledged MSR liability expense (primarily impacted by the accounting presentation change of the derecognized Rithm MSR on December 31, 2023) and Earnings of equity method investee (predominantly impacted by the fair value changes of MAV’s MSR portfolio).

Income Tax Expense (Benefit)

Our annual effective tax rate is generally lower than the 21% federal statutory income tax rate primarily due to the full valuation allowance recorded on our net U.S. federal and state deferred tax assets. We evaluated all positive and negative evidence to determine whether it is more likely than not that the deferred tax asset can be realized in future periods and determined that a full valuation allowance at September 30, 2024 remains appropriate.

Our income tax expense is primarily driven by the jurisdictional mix of our earnings. The increase in the effective tax rate for the nine months ended September 30, 2024 compared to the same period of 2023 is primarily due to recognizing income tax expense in the U.S. driven by the increase in pre-tax earnings.

Under our transfer pricing agreements, our operations in India and Philippines are compensated on a cost-plus basis for the services they provide, such that even when we have a consolidated pre-tax loss from operations these foreign operations have taxable income, which is subject to statutory tax rates in these jurisdictions that are higher than the U.S. statutory rate of 21%.

Financial Condition

Total assets increased $713.0 million, or 6%, between December 31, 2023 and September 30, 2024 with a $520.4 million increase in our Loans held for sale portfolio driven by the growth our Originations pipeline and our acquisition of reverse mortgage buyouts and a $356.0 million fair value increase in reverse Loans held for investment mostly driven by capitalization of interest. These increases were offset in part by a $156.1 million decline in servicing advances that was largely driven by seasonal reduction of balances and a $48.7 million decrease in our MSR portfolio due to MSR sales and derecognition of MSRs previously sold to MAV, offset in part by fair value gains attributed to rates and assumptions and new additions in excess of runoff.

Total liabilities increased by $646.6 million, or 5%, compared to December 31, 2023, due largely to factors described above. Our borrowings under Mortgage loan financing facilities increased $645.3 million due to the higher loans held for sale balance at September 30, 2024, including the issuance of OLIT Notes in 2024 in connection with the securitization of reverse mortgage loan buyouts. Our HMBS-related borrowings increased by $335.1 million mostly due to fair value changes attributable to interest. Partially offsetting these increases, Advance match funded liabilities decreased $122.5 million consistent with the decline in servicing advances driven by our collection efforts, and Senior notes, net decreased $60.7 million mostly due to our repurchases of PMC Senior Secured Notes during the first and third quarters of 2024. MSR financing facilities declined $111.4 million with a decrease in our MSR portfolio and lower utilization of available borrowing capacity at September 30, 2024. Other financing liabilities declined by $73.8 million primarily due to the derecognition of MSRs previously sold to MAV.

Total equity increased $66.4 million during the nine months ended September 30, 2024, mainly due to $62.0 million net income for the period and $2.9 million compensation related to equity-classified awards.

Also refer to Key Trends and Outlook below and Note 22 – Subsequent Events for discussion of recent asset acquisitions and financing transactions.

Key Trends and Outlook

The following discussion provides information regarding certain key drivers of our financial performance and includes certain forward-looking statements that are based on the current beliefs and expectations of Onity’s management and are subject to significant risks and uncertainties. Refer to Forward-Looking Statements beginning on page 2 of this Form 10-Q and Part I, Item 1.A. of our Annual Report on Form 10-K for the year ended December 31, 2023, for discussion of certain of those risks and uncertainties and other factors that could cause Onity’s actual results to differ materially because of those risks and uncertainties. There is no assurance that actual results will be in line with the outlook information set forth below, and Onity does not undertake to update any forward-looking statements. Refer to the Segment results of operations section for further detail, the description of our business environment, initiatives and risks.

Servicing and subservicing fee revenue - Our servicing fee revenue is a function of the volume being serviced - UPB for servicing fees and loan count for subservicing fees. We expect we will continue to grow our servicing and subservicing portfolio through our multi-channel Originations platform and through MSR capital partners, with an emphasis on subservicing. We expect ancillary float income to trend with short-term interest rates considering seasonal changes in average float balances.

Gain on sale of loans held for sale - Our gain on sale is driven by both volume and margin and is channel-sensitive. The updated industry forecasts suggest an increase in loan origination in 2025 driven by lower interest rates. We anticipate growth in our Consumer Direct channel considering the updated industry forecast and our increased recapture capabilities. We expect to continue to prudently grow our Correspondent volume at margins that are accretive to the business as part of our MSR replenishment and growth strategy after the opportunistic MSR bulk sales in 2024. We expect continued competitive pressure on margins across all channels.

Gain on reverse loans held for investment and HMBS-related borrowings, net - The reverse mortgage origination gain is driven by the same factors as gain on sale of loans held for sale, with smaller volumes in the reverse mortgage market and generally larger margins. With our experience and brand in the marketplace, we expect to continue to maintain or prudently grow our portfolio albeit with some channel mix changes. We expect continued uncertain market interest rate and spread conditions. The fair value of the net reverse servicing asset is expected to continue to follow market conditions, with fair value gains or losses generally associated with declining or increasing interest rates and spread, respectively, and is part of our forward MSR hedging strategy. On November 1, 2024, we completed the acquisition of $3.0 billion UPB of HECM loans along with HMBS-related borrowings and other assets from MAM that we subserviced. We expect higher net interest income (reported as fair value changes) due to higher UPB and increased volatility in fair value changes that we expect would largely be offset with our MSR hedging strategy, refer to Note 22 – Subsequent Events and Item 3. Quantitative and Qualitative Disclosures About Market Risk for further detail on our hedge strategy.

MSR valuation adjustments, net - Our net MSR fair value changes include multiple components. First, amortization of our investment is a function of the UPB, capitalized value of the MSR relative to the UPB, and prepayments. We expect the MSR realization of expected cash flows to generally follow the growth or size of our MSR portfolio net of ESS financing liabilities and pledged MSR liabilities with our MSR capital partners. Second, MSR fair value changes are driven by changes in interest rates and assumptions, such as forecasted prepayments. Third, the MSR fair value changes due to changes in interest rates are partially offset by derivative fair value changes that economically hedge the MSR portfolio to the extent of our hedge coverage ratio and hedge performance. Refer to the sensitivity analysis in Item 3. Quantitative and Qualitative Disclosures About Market Risk for further detail.

Operating expenses - Compensation and benefits are a significant component of our cost-to-service and cost-to-originate and is directly correlated to headcount levels. Headcount in Servicing is primarily driven by the number of loans or UPB being serviced and subserviced, and by the relative mix of performing, delinquent and defaulted loans. As servicing volume is expected to modestly increase (see above), we expect a stable workforce with productivity gains. We expect our Originations headcount and operating expenses to align with the expected growth in volume. Our operating expenses are expected to correlate with volumes, with some productivity and efficiencies expected through our technology and continuous improvement initiatives.

Net interest expense - Interest expense varies based on changes in average debt balance and changes in interest rate on our variable rate debt. The average balance of collateralized financing facilities trends with the balance of the underlying assets discussed above (including MSR, advances and loans). We expect interest expense on our collateralized financing facilities to trend with short-term interest rate changes. Interest expense on our warehouse loan facilities is expected to be largely offset by interest income on our Originations pipeline loans. We also expect interest expense on our corporate debt to decline upon the consummation of our refinancing transactions, refer to Note 22 – Subsequent Events.

Stockholders’ equity - With the above considerations, we expect our businesses to continue to generate net income and increase our equity in 2025, absent any significant adverse change in interest rates, hedge performance or other factors. We also expect our profitability in the fourth quarter of 2024 to be negatively affected by our refinancing transactions, partly offset by the expected gain on MAV sale. Conversely, we expect our profitability in 2025 to be favorably impacted by our refinancing transactions, with an overall lower interest expense on our corporate debt after consideration of preferred stock dividend. Refer to Note 22 – Subsequent Events.

SEGMENT RESULTS OF OPERATIONS

Our activities are organized into two reportable business segments that reflect our primary lines of business - Servicing and Originations - as well as a Corporate Items and Other segment.

SERVICING

We earn contractual monthly servicing fees pursuant to servicing agreements pertaining to MSRs we own, which are typically payable as a fixed percentage of UPB, as well as ancillary fees that include float earnings, late fees, and other fees, where permitted. We also earn fees under subservicing arrangements with other institutions that own MSRs, which are typically on a per-loan basis and vary based on loan delinquency status.

As of September 30, 2024, we serviced 1.4 million mortgage loans with an aggregate UPB of $298.9 billion.

Concentration

Rithm is one of our largest subservicing clients accounting for $42.2 billion, or 14% of the UPB and 25% of the loan count of our total servicing and subservicing portfolio as of September 30, 2024, and approximately 64% of all delinquent loans that Onity services. The servicing agreements automatically renew annually unless notice of termination is provided. Refer to Note 8 — Other Financing Liabilities, at Fair Value and Note 22 – Subsequent Events.

MAV represented $41.9 billion, or 14% of the UPB and 11% of the loan count of our total servicing and subservicing portfolio as of September 30, 2024. In May 2021, PHH entered into a subservicing agreement with MAV for exclusive rights to service the mortgage loans underlying MSRs owned by MAV. MAV provides us with a source of additional subservicing volume, either with the MSRs that MAV purchases outright from third parties or with the MSRs that MAV purchases from PHH. Refer to Note 11 - Investment in Equity Method Investee and Related Party Transactions and Note 22 – Subsequent Events.

Loan Resolutions

We have a strong track record of success as a leader in the servicing industry in foreclosure prevention and loss mitigation that helps homeowners stay in their homes and improves financial outcomes for mortgage loan investors. Reducing delinquencies also enables us to recover advances and recognize additional ancillary income such as late fees, which we do not recognize on delinquent loans until they are brought current. Loan resolution activities address the pipeline of delinquent loans and generally lead to (i) modification of the loan terms, (ii) repayment plan alternatives, (iii) a discounted payoff of the loan (e.g., a “short sale”), or (iv) foreclosure or deed-in-lieu-of-foreclosure and sale of the resulting REO. Loan modifications must be made in accordance with the applicable servicing agreement as such agreements may require approvals or impose restrictions upon, or even forbid, loan modifications. To select an appropriate loan modification option for a borrower, we perform a structured analysis, using a proprietary model, of all options using information provided by the borrower as well as external data, including recent broker price opinions to value the mortgaged property. Our proprietary model includes, among other things, an assessment of re-default risk.

Advance Obligation

As a servicer, we are generally obligated to advance funds in the event borrowers are delinquent on their monthly mortgage related payments. We advance principal and interest (P&I Advances), taxes and insurance (T&I Advances) and legal fees, property valuation fees, property inspection fees, maintenance costs and preservation costs on properties that have been foreclosed (Corporate Advances). For certain loans in non-Agency securitization trusts, we have the ability to cease making P&I advances and immediately recover advances previously made from the general collections of the respective trust if we determine that our P&I advances cannot be recovered from the projected future cash flows. With T&I and Corporate advances, we continue to advance if net future cash flows exceed projected future advances without regard to advances already made.

Most of our advances have the highest reimbursement priority (i.e., they are “top of the waterfall”), so we are entitled to repayment from respective loan or REO liquidation proceeds before any interest or principal is paid on the bonds that were issued by the trust. In the majority of cases, advances in excess of respective loan or REO liquidation proceeds may be recovered from pool-level proceeds. The costs incurred in meeting these obligations consist principally of the interest expense incurred in financing the servicing advances. Most subservicing agreements, including our agreements with Rithm and MAV, provide for prompt reimbursement of any advances from the owner of the servicing rights.

MSR Valuation Adjustments

The financial performance of our Servicing segment is impacted by the changes in fair value of the MSR portfolio due to changes in market interest rates, among other factors. Our MSR hedging policy is designed to reduce the expected volatility of the MSR portfolio fair value due to market interest rates commensurate with the target hedge coverage ratio determined by our Market Risk Committee. Refer to Item 3. Quantitative and Qualitative Disclosures about Market Risk for further detail on our hedging strategy.

We report all fair value changes of our MSR portfolio and MSR hedges within MSR valuation adjustments, net. MSR valuation adjustments, net includes the loss on the MSR portfolio associated with the realization of its expected cash flows, or runoff, due to the passage of time, and any fair value gains or losses due to inputs, market interest rates or assumptions, net of hedging gains and losses. Included in MSR valuation adjustments, net are fair value gains and losses of the MSR pledged liability associated with the MSR transfers that do not meet sale accounting and the ESS financing liabilities for which we elected the fair value option and that is collateralized by MSRs.

Reverse Mortgages

We originate and purchase reverse mortgage loans through our Originations business, under the guidelines of the HECM reverse mortgage insurance program of the FHA. Loans are generally insured by the FHA, which provides protection against risk of borrower default, and are securitized through the Ginnie Mae program. As the securitization of reverse mortgage loans does not achieve sale accounting treatment, the loans remain on our balance sheet as Loans held for investment, at fair value together with the securitization HMBS-related borrowings, at fair value.

Our servicing activities of reverse loans are generally consistent with forward mortgage loan servicing as described above, with the following additional functions: the funding of borrower advances or draws under their approved borrowing capacity and the repurchase of loans upon reaching a limit:

a. Borrower draw funding obligation - Under the terms of ARM-based HECM loan agreements, the borrowers have additional borrowing capacity. Any borrower draws or tails are funded by the servicer and are securitized. We do not incur any substantive underwriting, marketing or compensation costs in connection with any future draws, although we must maintain sufficient capital resources and available borrowing capacity to ensure that we are able to fund these future draws prior to securitization with Ginnie Mae (generally less than 30 days). Also refer to Liquidity and Capital Resources, Use of Funds.

b. Loan repurchase obligation - As an HMBS issuer, we are required to purchase loans out of the Ginnie Mae securitization pools once they reach 98% of the maximum claim amount (MCA buyouts). Active buyouts are assigned to HUD and payment is received from HUD through a claims process, generally within 30 days. HUD reimburses us for the outstanding principal balance on the loan up to the maximum claim amount; we bear the risk of exposure if the outstanding balance on a loan exceeds the maximum claim amount. Inactive buyouts (loans that are in default for one of the following reasons - title conveyances or the borrower is deceased, no longer occupies the property or is delinquent on tax and insurance payments) are generally liquidated through foreclosure and subsequent sale of REO. State specific foreclosure and REO liquidation timelines have a significant impact on the timing and amount of our recovery. If we are unable to sell the property securing the inactive reverse loan for an acceptable price within the timeframe established by HUD (six months), we are required to make an appraisal-based claim to HUD. In such cases, HUD reimburses us for the loan balance, eligible expenses and interest, less the appraised value of the underlying property. Thereafter, all the risks and costs associated with maintaining and liquidating the property remains with us; we may incur additional losses on REO properties as they progress through the liquidation processes related to delayed timelines due to market conditions, sales commissions, property preservation costs or property tax and insurance advances. The significance of future losses associated with appraisal-based claims is dependent upon the volume of inactive loans, condition of foreclosed properties and the general real estate market.

The Gain on reverse loans held for investment and HMBS-related borrowings, net reported within the Servicing segment includes the net fair value changes of securitized reverse mortgage loans held for investment and HMBS-related borrowings, that comprise the following:

• contractual interest income earned on securitized reverse mortgage loans, or HECM loans, net of interest expense on HMBS-related borrowings, that is, on a net basis, the servicing fee we are contractually entitled to and collect on a monthly basis under the Ginnie Mae MBS Guide regarding servicing HMBS; and
• other fair value changes of the net balance of securitized loans held for investment and HMBS-related borrowings, that effectively represents servicing and tails. Tails are participations in previously securitized HECMs and are created by additions to principal for borrower draws on lines-of-credit (scheduled and unscheduled), interest, servicing fees, and mortgage insurance premiums.

The fair value of our Ginnie Mae securitized HECM loan portfolio net of HMBS-related Borrowings generally decreases as market interest rates rise and increases as market rates fall. The exposure is managed as part of our MSR hedging strategy (see Item 3 - Quantitative and qualitative disclosures about market risk, Loans Held for Investment and HMBS-related Borrowings and the associated interest rate sensitivity disclosure).

Gain (loss) on reverse loans held for investment and HMBS-related borrowings, net strictly reflects the financial performance of owned loans/servicing and excludes any subservicing activity. The financial performance associated with the subservicing of reverse mortgage loans on behalf of investors is primarily reflected within Servicing and subservicing fees, net.

Since 2023, we have opportunistically acquired reverse mortgage assets from financial institutions, including active and inactive reverse mortgage loan buyouts, advances, claim receivables from HUD and real estate properties. We finance our asset acquisitions together with the buyouts of our own portfolio through on-balance sheet private placement securitizations (referred to as OLIT). The financial performance of our reverse asset management is reported within the Servicing segment, primarily as Gains (losses) on loans held for sale, and is affected by multiple factors, including liquidation timeline and changes in market interest rates.

Third-Party Servicer Ratings

Like other servicers, we are the subject of mortgage servicer ratings or rankings (collectively, ratings) issued and revised from time to time by rating agencies including Moody’s Investors Service, Inc. (Moody’s), S&P Global Ratings, Inc. (S&P) and Fitch Ratings, Inc.(Fitch). Favorable ratings from these agencies are important to the conduct of our loan servicing and lending businesses.

The following table summarizes our latest key servicer ratings:

In addition to servicer ratings, the agencies may from time to time assign an outlook to the rating status. A negative outlook is generally used to indicate that a rating “may be lowered,” while a positive outlook is generally used to indicate a rating “may be raised”.

On February 13, 2024, Fitch affirmed PHH’s residential servicer ratings and revised its outlook from Positive to Stable for Prime and Subprime products. The rating outlook remains Stable for the other products. The rating actions reflect PHH’s comprehensive enterprise-wide internal control environment, extensive industry experience and highly-developed global loan servicing platform, competitive loan servicing performance metrics, and effective technology platform. The ratings also consider the financial condition of PHH’s parent, Onity Group Inc. The affirmed ratings and Stable outlook on PHH’s residential servicer ratings are reflective of the company’s continued business growth, diversified sourcing strategies and overall loan servicing performance.

On February 15, 2024, Fitch affirmed PHH's Master Servicer rating and Stable outlook, reflecting the company's effective enterprise-wide risk environment and compliance management framework, satisfactory loan servicing performance metrics and efficient servicing technology. The ratings also consider the financial condition of PHH's parent, Onity Group Inc.

On October 11, 2024, S&P affirmed the Above Average ratings and Stable outlook citing the company’s experienced management and team, effective systems and technology, sound control framework and good servicing performance metrics, among other factors.

Operating Metrics

The following table provides selected operating statistics for our Servicing segment:

(1) Performing loans include those loans that are less than 90 days past due and those loans for which borrowers are making scheduled payments under loan modification, forbearance or bankruptcy plans. We consider all other loans to be non-performing.

(2) Conventional loans include prime loans with a UPB of $10.2 billion and $10.5 billion at September 30, 2024 and June 30, 2024, respectively, that we service or subservice. This compares to prime loans with a UPB of $13.3 billion at September 30, 2023. Prime loans are generally good credit quality loans that meet GSE underwriting standards.

(3) Includes HECM reverse mortgage loans held for investment with a UPB of $7.9 billion that are recognized in our unaudited consolidated balance sheet at September 30, 2024.

(4) Includes $20.1 billion UPB subserviced and $21.9 billion UPB of MSRs sold to MAV that did not achieve sale accounting treatment at September 30, 2024.

(5) Loans serviced pursuant to our sale or transfer agreements with MAV, Rithm or others for which sale accounting is not achieved, and loans subserviced.

(6) Includes $32.9 billion UPB of subserviced loans on behalf of Rithm at September 30, 2024.

(7) Total 3-month % CPR includes voluntary and involuntary prepayments, as shown in the table, plus scheduled principal amortization.

The following table provides the rollforward of activity of our portfolio of mortgage loans serviced that includes MSRs, whole loans and subserviced loans, both forward and reverse:

(1) Includes the volume UPB associated with short-term interim subservicing for some clients as a support to their originate-to-sell business, where loans may be boarded and deboarded within the same quarter.

(2) Additions include purchased MSRs on portfolios with a UPB of $472.9 million and $113.0 million that have not yet transferred to the PHH servicing system as of September 30, 2024 and September 30, 2023, respectively, but for which we have legal title. The seller continues to subservice the loans on an interim basis until servicing transfer.

(3) Includes MSRs sold to an unrelated third party with a UPB of $8.5 billion for which PHH is performing interim subservicing.

(4) Excludes MSRs and whole loans acquired from unrelated third parties in the third quarter of 2024 with a UPB of $0.9 billion for which PHH was previously performing the subservicing.

The following table provides a breakdown of our servicer advances, net of allowance for losses:

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The following table provides selected operating statistics related to our reverse mortgage loans reported within our Servicing segment:

(1) Securitized loans only; excludes unsecuritized loans reported within the Originations segment.

(2) Buyouts are reported as Loans held for sale, Accounts Receivable or REO depending on the loan and foreclosure status.

Financial Performance

The following table presents selected results of operations of our Servicing segment. The amounts presented are before the elimination of balances and transactions with our other segments:

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Servicing and Subservicing Fees

The following table and discussion present the drivers of servicing and subservicing fees.

(1) In $ billions, (2) In % of UPB, annualized, (3) In $ millions, (4) In thousands, (5) In dollars.

(6) Includes $35.3 billion average UPB of MSRs in the nine months ended September 30, 2023, previously sold to Rithm for which the sale accounting criteria were met effective December 31, 2023.

(7) Includes an average 255 thousand, 260 thousand and 260 thousand loans subserviced under Rithm agreements in the three months ended September 30, 2024, three months ended June 30, 2024 and nine months ended September 30, 2024, respectively, of MSRs previously sold to Rithm for which the sale accounting criteria were met effective December 31, 2023.

Servicing and subservicing fees (excluding Ancillary income) for the three months ended September 30, 2024 declined $3.2 million compared to the three months ended June 30, 2024, due to a 3% decrease in average servicing UPB, driven by MAV’s sale of MSRs (previously sold by Onity to MAV in a transaction which did not qualify for sale accounting treatment). Subservicing fees remained unchanged compared to the three months ended June 30, 2024.

Compared to the nine months ended September 30, 2023, our servicing and subservicing fees (excluding Ancillary income) for the nine months ended September 30, 2024 decreased $84.7 million, or 15% with a $110.6 million decrease in servicing fees partially offset by a $25.9 million increase in subservicing fees. These variances are largely due to the effects of our accounting derecognition of MSRs previously sold to Rithm for which the sale accounting criteria were met effective December 31, 2023 ($95.3 million servicing fees remitted to Rithm recognized in the nine months ended September 30, 2023). Effective January 1, 2024, as PHH continues to subservice the portfolio, the statement of operations reflects subservicing fee revenue as opposed to the previous gross presentation of servicing fee revenue (collections) and separate offsetting presentation of servicing fee remittances within Pledged MSR liability expense (see further discussion below). These required accounting presentation changes do not affect the amount of net fee retained by Onity in connection with the Rithm servicing agreements (Loan servicing and subservicing fees less Pledged MSR liability expense).

The $110.6 million decrease in servicing fees compared to the nine months ended September 30, 2023 is primarily attributed to $133.6 million servicing fees collected on behalf of Rithm recorded in the first nine months of 2023 related to the previously sold MSRs derecognized on December 31, 2023, offset in part by higher fees in the first nine months of 2024 attributed to other MSR capital partners and MAV, growth in Ginnie Mae servicing UPB and $8.2 million increased collection of previously deferred non-Agency servicing fees. The $25.9 million increase in subservicing fees is mostly due to the effects of our derecognition of MSRs previously sold to Rithm as discussed above, with $38.9 million higher forward subservicing fees, partially offset by a $13.0 million reduction in reverse mortgage subservicing fees due to portfolio runoff.

The following table presents the detail of our ancillary income:

Ancillary income for the three months ended September 30, 2024 increased by $3.2 million, or 6% compared to the three months ended June 30, 2024 primarily due to a $3.6 million increase in float earnings mostly attributable to seasonally higher average float balances, offset in part by $1.0 million decrease in reverse subservicing related ancillary fees driven by portfolio runoff.

Compared to the nine months ended September 30, 2023, ancillary income for the nine months ended September 30, 2024 increased by $3.2 million, or 2% largely driven by a $16.6 million increase in float earnings mostly due to higher short-term market interest rates, partially offset by an $8.0 million decline in reverse subservicing ancillary fees driven by portfolio runoff, a $3.3 million reduction in late charges and a $1.8 million decline in loan collection fees primarily driven by the Rithm portfolio derecognition.

Gain (Loss) on Loans Held for Sale, Net

We recognized a $9.4 million gain on loans held for sale, net for the three months ended September 30, 2024, compared to a $0.2 million loss recognized in the three months ended June 30, 2024, mostly due to reverse mortgage buyouts in the third quarter of 2024, partly driven by market interest rate decline and favorable assumption updates.

Compared to the nine months ended September 30, 2023, Gain on loans held for sale, net for the nine months ended September 30, 2024 decreased by $2.0 million, mostly due to reverse mortgage buyouts in connection with our opportunistic acquisitions and securitization strategy.

Gain (Loss) on Reverse Loans Held for Investment and HMBS-Related Borrowings, Net

The following table presents the components of the fair value change of reverse loans held for investment and HMBS-related borrowings, net.

Gain on reverse loans held for investment and HMBS-related borrowings, net increased $9.1 million for the three months ended September 30, 2024 compared to the three months ended June 30, 2024 largely driven by a favorable decline in market interest rates. While not the only benchmark for the reverse mortgage exposure, the 10-year Treasury rate declined 55 basis points during the three months ended September 30, 2024 and increased 16 basis points during the three months ended June 30, 2024. Net interest income remained mostly flat (+2%), consistent with the portfolio growth.

Compared to the nine months ended September 30, 2023, Gain on reverse loans held for investment and HMBS-related borrowings, net for the nine months ended September 30, 2024 increased $19.4 million largely due to a decrease in market rates vs. an increase in the prior year period and yield spread tightening vs. widening in the prior year period. The 10-year Treasury rate declined 7 basis points during the nine months ended September 30, 2024 compared to an increase of 71 basis points during the nine months ended September 30, 2023. Net interest income remained mostly flat (+ 3%), consistent with the portfolio growth.

MSR Valuation Adjustments, Net

Refer to the discussion above within Overview-Results of Operations and Financial Condition-MSR Valuation Adjustments, Net.

The following table summarizes the impact of our MSR interest rate hedging strategy on Servicing segment results. Refer to MSR Hedging Strategy section of Item 3. Quantitative and Qualitative Disclosures about Market Risks for further detail. Net MSR portfolio exposure gains (losses) comprise the fair value changes of the MSR portfolio attributable to rates and assumption changes, the MSR hedging derivative gains and losses, and other fair value changes of the HECM loans and HMBS-related borrowings used as a hedge for risk management purposes.

(1) See MSR valuation adjustments, net within the Overview section of Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations.

(2) Excludes MSR valuations adjustments, net reported within the Originations Segment.

(3) See “Other change in fair value of securitized loans held for investment and HMBS-related borrowings, net” in above table.

The Net MSR portfolio exposure gains of $10.3 million for the three months ended September 30, 2024 are largely driven by favorable assumption updates to reflect actual market trade pricing levels as our MSR hedge strategy was effective at reducing net fair value changes due to interest rate changes. With a 90-110% targeted hedge coverage ratio, the fair value losses of the MSR portfolio due to the decline in market interest rates in the third quarter of 2024 were largely offset by gains on MSR hedging derivatives and loans held for investment net of HMBS-related borrowings. The favorable change from the prior quarter is driven by favorable assumption updates, higher hedge performance and lower hedge costs despite volatile market conditions.

The favorable change of Net MSR portfolio exposure gains for the nine months ended September 30, 2024 compared to losses for the nine months ended September 30, 2023 is mainly driven by changes in interest rates, our adoption of a 95-105% hedge coverage ratio in December 2023 (revised to 90-110% in April 2024) and assumption updates that reflect market trade pricing levels in the respective periods.

Compensation and Benefits

Compensation and benefits expense for the three months ended September 30, 2024 increased $1.4 million or 6% compared to the three months ended June 30, 2024 primarily due to an increase in estimated annual cash awards based on our year-to-date financial performance.

Compared to the nine months ended September 30, 2023, Compensation and benefits expense for the nine months ended September 30, 2024 decreased $5.5 million or 7%, mostly driven by the headcount reduction. The average headcount decreased 8% driven by the integration of reverse servicing and the runoff of our reverse subservicing portfolio. The increase in the estimated annual cash awards in the third quarter of 2024 discussed above was offset by severance expense recorded in the nine months ended September 30, 2023.

Servicing Expense

Servicing expense primarily includes claim losses and interest curtailments on government-insured loans, provision expense for advances and servicing representation and warranties, and certain loan-volume related expenses.

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Servicing expense declined $2.3 million in the three months ended September 30, 2024 compared to the three months ended June 30, 2024, primarily as a result of a release of representation and warranty indemnification obligations due to a favorable settlement in the third quarter of 2024.

Compared to the nine months ended September 30, 2023, Servicing expense for the nine months ended September 30, 2024 declined $11.5 million. The decline in servicing expenses is primarily attributed to a $7.2 million favorable change in provision for indemnification obligations driven by recoveries and favorable resolutions in the nine months ended September 30, 2024 and new demands in the nine months ended September 30, 2023. In addition, the decline in servicing expense is due to lower claim loss on Ginnie Mae loan repurchases, driven by lower severity, partially offset by a higher insurance loss expense in line with higher quota share on reinsurance premiums assumed.

Other Operating Expenses

Professional services for the three months ended September 30, 2024 increased $6.7 million, compared to the three months ended June 30, 2024, mostly due to reimbursements received in the second quarter of 2024 from mortgage loan investors related to prior year legal expenses and payments following resolution of legacy litigation matters.

Compared to the nine months ended September 30, 2023, Professional services expense for the nine months ended September 30, 2024 declined $7.9 million mostly due to the reimbursements received in the second quarter of 2024 from mortgage loan investors discussed above and a reduction in outsourcing costs in our reverse subservicing business.

Other Income (Expense)

Other income (expense) primarily includes net interest expense and pledged MSR liability expense.

The following table presents details related to interest expense and its drivers.

Interest expense for the three months ended September 30, 2024 remained mostly flat (decreased 1%), compared to the three months ended June 30, 2024.

Compared to the nine months ended September 30, 2023, interest expense for the nine months ended September 30, 2024 increased $11.3 million, or 9%, mostly driven by a $12.5 million increase in interest expense on the OLIT mortgage loan financing relating to our reverse buyouts. In addition, interest expense on MSR financing facilities increased $4.2 million, largely driven by a higher average funding cost, largely attributed to the second lien PLS MSR financing facility entered into in March 2024 and renegotiation of a GSE financing facility. In addition, average short-term market interest rates increased by 30 basis points in the first nine months of 2024 compared to the same period of 2023. These increases were partially offset by a $2.2 million decrease in interest on Advance funding liabilities, mostly driven by the decline in average debt balances for servicing advances due to our advance collection efforts, and $2.6 million lower corporate debt interest allocation due to our repurchase of $47.4 million and $23.5 million of the PMC Senior Secured Notes during March 2024 and September 2024, respectively.

Interest income for the three months ended September 30, 2024 increased $1.2 million compared to the three months ended June 30, 2024 primarily due to reverse mortgage buyouts acquired in the third quarter of 2024. Compared to the nine months ended September 30, 2023, interest income increased $6.3 million for the nine months ended September 30, 2024, primarily due to the reverse mortgage buyouts acquired in the first and third quarters of 2024 and the second quarter of 2023.

Pledged MSR liability expense includes the servicing fee remittance related to the MSR sales or transfers that do not meet sale accounting criteria and are presented on a gross basis in our consolidated financial statements, together with the servicing spread remittance associated with our ESS financing liability at fair value. See Note 8 — Other Financing Liabilities, at Fair Value to the Unaudited Consolidated Financial Statements.

The following table provides the components of Pledged MSR liability expense:

(1) For MSR transfers that do not meet sale accounting criteria. See Note 8 — Other Financing Liabilities, at Fair Value.

Pledged MSR liability expense for the three months ended September 30, 2024 decreased $3.7 million, or 8%, compared to the three months ended June 30, 2024, mostly driven by MAV’s sale of MSRs (previously sold by Onity to MAV in a transaction which did not qualify for sale accounting treatment) and resultant derecognition of the Pledged MSR liability during the three months ended September 30, 2024.

Compared to the nine months ended September 30, 2023, Pledged MSR liability expense for the nine months ended September 30, 2024 decreased $86.5 million largely due to the accounting derecognition of MSRs previously sold to Rithm for which sale accounting criteria were met effective December 31, 2023 ($33.4 billion UPB), partially offset by the increase in the portfolio of MSRs sold to MSR capital partners. Effective January 1, 2024, as PHH continues to subservice the portfolio, the statement of operations reflects subservicing fee revenue as opposed to the previous gross presentation of servicing fee revenue (collections) and separate offsetting presentation of servicing fee remittances within Pledged MSR liability expense.

Servicing fee and Pledged MSR liability expense continues to be presented on a gross basis for those MSRs sold to Rithm for which title has not transferred, also referred to as Right to MSR ($9.3 billion UPB at September 30, 2024). The following table presents a subset of the above table related to Rithm, specifically the subservicing fees retained by Onity together with the associated serviced UPB on behalf of Rithm:

(1) Reported within Pledged MSR liability expense.

(2) Excludes ancillary income.

(3) Net subservicing compensation of Onity retained and contractually agreed upon with Rithm.

Earnings of equity method investee represents our 15% share of MAV Canopy. Earnings for the three months ended September 30, 2024 decreased $2.3 million compared to the three months ended June 30, 2024. Compared to the nine months ended September 30, 2023, earnings increased $0.8 million for the nine months ended September 30, 2024. The changes are largely attributed to the impact of changes in market interest rates on the underlying MSR portfolio held by MAV in the respective periods and actual trade prices.

ORIGINATIONS

We originate and purchase loans and MSRs through multiple channels. Loans conform to the underwriting standards of Fannie Mae or Freddie Mac (GSEs) or are government-insured (FHA, VA or USDA). We generally sell immediately the loans in the secondary mortgage market through GSE and Ginnie Mae securitizations on a servicing retained basis.

The Originations business generates a gain on sale of loans, which represents the difference between the origination or purchase value and the sale or securitization value of the loans, and fee revenue.

We conduct our Originations business through the following five channels:

1- Consumer Direct

Within retail, our Consumer Direct channel for forward mortgage loans focuses on targeting existing servicing customers by offering them competitive mortgage refinance opportunities, where permitted by the governing servicing and pooling agreement. A portion of our servicing portfolio is susceptible to refinance activity during periods of declining interest rates. Origination recapture volume and related gains are a natural economic hedge, to a certain degree, to the impact of declining MSR values as interest rates decline. In addition to rate and term refinance activities, our Consumer Direct channel targets purchase mortgage loans, cash-out, debt consolidation, mortgage insurance premium reduction, and new customer acquisition.

2- Correspondent Lending

Our correspondent lending channel drives the replenishment and growth of our MSR portfolio. We purchase closed loans that have been underwritten to investor guidelines from our network of correspondent sellers and sell and securitize them, on a servicing retained basis. We offer correspondent sellers the choice to take out mandatory or “best-efforts” contracts, under which the seller's obligation to deliver the mortgage loan becomes mandatory only when and if the mortgage is closed and funded. Additionally, we offer correspondent sellers the opportunity to leverage a non-delegated underwriting option for best-efforts deliveries. We provide customary origination representations and warranties to investors in connection with our loan sales and securitization activities. We receive customary origination representations and warranties from our network of approved correspondent lenders. As of September 30, 2024, we have relationships with 711 approved correspondent sellers.

3- Reverse Originations

We originate and purchase reverse mortgage loans through our retail, wholesale and correspondent lending channels, under the guidelines of the HECM reverse mortgage insurance program of the FHA. Loans originated under this program are generally insured by the FHA, which provides protection against risk of borrower default. As the securitizations of reverse mortgage loans do not achieve sale accounting treatment and the loans remain reported as Loans held for investment, at fair value together with the securitization HMBS-related borrowings, revenue mostly include the fair value changes of the loan from lock date to securitization date that are reported in Gain on reverse loans held for investment and HMBS-related borrowings, net.

4- Co-Issue Programs

We purchase MSRs through flow purchase agreements, the Agency Cash Window co-issue programs and bulk MSR purchases. The Agency Cash Window programs we participate in, and purchase MSR from, allow mortgage companies and financial institutions to sell whole loans servicing released to the respective agency and sell the MSR to the winning bidder. In addition, we partner with other originators to replenish our MSRs through flow purchase agreements. As of September 30, 2024, we have relationships with 496 approved sellers through the Agency Cash Window co-issue programs.

5- Subservicing Growth

We source additional servicing volume through our subservicing and interim servicing agreements, with our existing relationships and our enterprise sales initiatives. We do not report any revenue or gain associated with subservicing within the Originations segment as the impact is captured in the Servicing segment. However, sales efforts and certain costs - marginal compensation and benefits - are managed and reported within the Originations segment.

Operating Metrics

The following table provides selected operating statistics for our Originations segment:

(1) Loan production excludes reverse mortgage loan draws by borrowers disbursed subsequent to origination that are reported within the Servicing segment.

(2) Also refer to interest rate lock commitments in Note 15 – Derivative Financial Instruments and Hedging Activities. The amounts are presented before application of any pull-through adjustment.

Financial Performance

The following table presents the results of operations of our Originations segment. The amounts presented are before the elimination of balances and transactions with our other segments:

(1) Includes ancillary fee income related to MSR acquisitions reported as Servicing and subservicing fees at the consolidated level of $1.0 million and $2.0 million for the three and nine months ended September 30, 2024, respectively, $0.7 million for the three months ended June 30, 2024 and $1.6 million for the nine months ended September 30, 2023.

Gain on Loans Held for Sale, Net

The following table provides information regarding Gain on loans held for sale by channel and the related forward loan origination volumes and margins (excluding fees that are presented in Other revenue, net):

(1) Defined as the UPB of loans funded in the period.

(2) Ratio of gain on Loans held for sale to funded UPB. Note that the ratio differs from the day-one gain on sale margin upon lock.

Gain on loans held for sale, net for the three months ended September 30, 2024 was flat compared to the three months ended June 30, 2024, with a $4.5 million decrease in our Correspondent channel offset by a $4.3 million increase in Consumer Direct. The decrease in our Correspondent channel is due to a 43% decrease in margin, driven by execution gains recognized in the second quarter and a more volatile pricing environment in the third quarter, including as a result of pricing changes by the GSEs. The increase in our Consumer Direct channel is primarily driven by the 52% increase in loan funded volume attributed to the interest rate decline in the third quarter, with a 78 basis point decline in the 30-year fixed rate mortgage. We recognize gains on loans held for sale at the time of the interest rate lock commitment in accordance with GAAP and the margin increase is mostly due to the increase in interest rate lock commitment at September 30, 2024.

Compared to the nine months ended September 30, 2023, Gain on loans held for sale, net for the nine months ended September 30, 2024 increased $18.9 million, with a $10.6 million increase in Consumer Direct and an $8.3 million increase in our Correspondent channel. The increase in Consumer Direct gain is primarily driven by a 94% increase in loan funded volume, attributed to the interest rate decline in the third quarter of 2024 discussed above and our increased recapture operational capability. 2023 was the lowest production year for refinance over the past 20 years. In our Correspondent channel, the $8.3 million increase is driven by the increased loan production volume, attributed to our MSR replenishment strategy following our opportunistic MSR bulk sales.

Gain on Reverse Loans Held for Investment and HMBS-Related Borrowings, Net

The following table provides information regarding Gain on reverse loans held for investment and HMBS-related borrowings, net, of the Originations segment that comprises fair value changes of the pipeline and unsecuritized reverse mortgage loans held for investment, at fair value, together with volume and margin (including loan fees):

(1) Defined as the UPB of loans funded in the period.

(2) Ratio of origination gain to funded UPB. Note that the ratio includes loan fees.

Gain on reverse loans held for investment and HMBS-related borrowings, net remained mostly flat when comparing current periods with the prior quarter and the prior nine-month period, with both margins and volume relatively stable. The Reverse Originations production volume remains at a historical low level due to elevated interest rates.

Other Revenue, net

Other revenue, net consists primarily of correspondent and broker fees, and also includes setup fees earned for loans boarded on our servicing platform. Changes in Other revenue, net for the periods presented are primarily attributed to production volume changes.

MSR Valuation Adjustments, Net

MSR valuation adjustments, net includes revaluation gains on certain MSRs opportunistically purchased through the Agency Cash Window programs, and flow purchases. As an aggregator of MSRs, we may purchase MSRs from smaller originators with a purchase price at a discount to fair value and we recognize valuation adjustments for differences in exit markets in accordance with the accounting fair value guidance. We record such valuation adjustments as MSR valuation adjustments, net within the Originations segment since the segment’s business objective is the sourcing of new MSRs at targeted returns. Changes in MSR valuation adjustments, net period over period are mostly due to volume changes.

Operating Expenses

Operating expenses for the three months ended September 30, 2024 remained mostly flat, compared to the three months ended June 30, 2024.

Compared to the nine months ended September 30, 2023, Operating expenses for the nine months ended September 30, 2024 increased $1.1 million. Originations expense increased $2.4 million and Compensation and benefits increased $1.2 million driven by higher production volume. The increase in Compensation and benefits was driven by higher commissions with higher production volume, partially offset by a decline in salaries and benefits, with a decrease in average U.S. based headcount as part of our cost-reduction efforts. Overhead allocations declined $2.0 million due to lower total corporate overhead expenses and a lower allocation percentage to Originations as a result of lower average headcount.

Other Income (Expense)

Interest income consists primarily of interest earned on newly-originated and purchased loans during the pipeline period prior to securitization or sale to investors. Interest expense is incurred to finance the mortgage loans during the same pipeline period, which is generally less than 30 days. Our net interest margin is driven by the difference between the average mortgage note rate and the average warehouse line cost of funds, and by the average number of days loans remain in the pipeline. There were no significant changes in our net interest margin, period-over-period.

CORPORATE ITEMS AND OTHER

Corporate Items and Other includes expenses of corporate support services and activities that are not directly related to other reportable segments.

• Certain expenses incurred by corporate support services, such as technology, risk and compliance are allocated to the Servicing and Originations segments using various methodologies intended to approximate the utilization of such services.
• Interest expense on corporate debt is allocated to the Servicing and the Originations segments based on relative financing uses, with the exception of the Onity Senior Secured Notes issued by the holding company Onity Group Inc. Accordingly, the financing cost of the Servicing and Originations segments reflects and is consistent with the financing structure of the licensed entity PHH that carries out these businesses and does not depend on the financing structure strategy of its parent, as a holding company.
• Effective in the fourth quarter of 2023, CRL, our wholly-owned captive reinsurance subsidiary, is reported in the Servicing segment. Segment results for the nine months ended September 30, 2023 have been recast to conform to the current segment presentation.

The following table presents selected results of operations of Corporate Items and Other. The amounts presented are before the allocation and elimination of balances and transactions with our other segments:

Operating Expenses

Operating expenses before corporate overhead allocations increased by $2.4 million, or 7%, for the three months ended September 30, 2024 compared to the three months ended June 30, 2024, primarily driven by Compensation and benefits, specifically incentive compensation. The increase in incentive compensation is mostly due to an increase in estimated annual cash awards based on our year-to-date financial performance.

Operating expenses before corporate overhead allocations increased by $39.5 million for the nine months ended September 30, 2024 compared to the nine months ended September 30, 2023, primarily driven by Professional services. Professional services for the nine months ended September 30, 2023 reflected the reversal of our loss contingency accrual related to the CFPB matter resolved in our favor in the second quarter of 2023 and recoveries of prior years’ legal expenses from private mortgage insurers. In addition, legal fees and litigation-related expenses increased by $2.1 million in the nine months ended September 30, 2024.

LIQUIDITY AND CAPITAL RESOURCES

Overview

In the normal course of business, we are actively engaged with existing and potential lenders and as a result add, terminate, replace or extend our debt agreements to the extent necessary to finance our operations and growth and optimize our financing costs.

In addition, we completed the following transactions during the nine months ended September 30, 2024:

• Repurchased $70.9 million of our PMC Senior Secured Notes for a price of $68.5 million, and recognized a $1.8 million net gain on debt extinguishment;
• Completed two private placement securitizations of HECM loans, and related receivables and REO properties, also referred to as reverse mortgage buyouts. In February and September 2024, different classes of asset-backed notes with an initial principal amount of $268.6 million and $330.6 million were issued at a discount, with a stated interest rate of 3% and 5% respectively, and a three-year mandatory call date;
• Entered into a $34.0 million second-lien repurchase financing arrangement for the membership interest in our PLS MSR, pursuant to which PHH sold the membership interest certificate representing 100% of the limited liability company interests in PMC PLS ESR Issuer LLC (PLS Issuer) and agreed to repurchase such membership interest certificate at a specified future date at the price set forth in the repurchase agreement. The termination date of the facility is February 25, 2025.
• Entered into a repurchase agreement in June 2024 which provides borrowing at our discretion up to a certain maximum amount of capacity on a rolling 30-day uncommitted basis, with the retained notes of the OLIT 2023 transaction pledged as collateral.

In addition, on November 1, 2024, Onity acquired certain reverse mortgage assets of MAM that are currently subserviced by PHH. The acquired assets include HECM reverse mortgage loans and mortgage servicing rights with a projected UPB of approximately $3 billion (which assets will be reflected on Onity’s balance sheet as Loans held for investment, at fair value along with the related borrowings, at fair value), $20.0 million cash, and other related reverse mortgage assets. In consideration of the MAM asset acquisition, Onity issued to Waterfall shares of a new series of non-convertible, perpetual preferred stock ("Series B Preferred Stock”) with an aggregate liquidation preference amount of $52.8 million, subject to certain post-closing adjustments. Concurrently, Onity entered into a two-year revolving line of credit with Waterfall, collateralized by certain acquired assets. The maximum committed amount decreases from an initial $45 million to $15 million after the first securitization of HECM tails. Refer to Note 22 – Subsequent Events.

Further, on November 6, 2024, we issued $500 million aggregate principal amount of 9.875% Senior Notes due 2029 at a price of 99.556%. The net proceeds from the sale of the notes, together with additional cash from Onity, are placed into escrow pending the satisfaction of certain conditions, including, but not limited to, the consummation of the sale by Onity of its 15% ownership interest in MAV Canopy to Oaktree. Upon satisfaction of the escrow conditions, the escrowed proceeds will be released and will be used, together with the net proceeds from the sale of the investment in MAV Canopy and available liquidity, to redeem all of the outstanding PMC Senior Secured Notes and Onity Senior Secured Notes. Refer to Note 22 – Subsequent Events.

A summary of borrowing capacity under our advance facilities, mortgage warehouse facilities and MSR financing facilities is as follows (see Note 13 – Borrowings to the Unaudited Consolidated Financial Statements for additional information):

(1) Total Borrowing Capacity represents the maximum amount which can be borrowed, subject to eligible collateral. Available Borrowing Capacity represents Total Borrowing Capacity less outstanding borrowings.

At September 30, 2024, none of the available borrowing capacity under our advance financing facilities could be funded based on the amount of eligible collateral that had been pledged to such facilities. We may utilize committed borrowing capacity under our mortgage loan financing facilities and MSR financing facilities to the extent we have sufficient eligible collateral to borrow against and otherwise satisfy the applicable conditions to funding. At September 30, 2024, we had no committed borrowing capacity and $3.5 million uncommitted borrowing capacity under our mortgage loan financing facilities, and $27.1 million committed borrowing capacity and $67.0 million uncommitted borrowing capacity under our MSR financing facilities, based on the amount of eligible collateral. Uncommitted amounts can be advanced at the discretion of the lender, and there can be no assurance that any uncommitted amounts will be available to us at any particular time.

At September 30, 2024, our $299.2 million total liquidity included $201.6 million unrestricted cash position and $97.6 million total available committed and uncommitted borrowing capacity based on the amount of eligible collateral as discussed above. With total liquidity of $241.6 million at December 31, 2023, the increase is primarily driven by bulk MSR sales, reverse buyout OLIT securitizations, second lien PLS financing, partly offset by $70.9 million corporate debt repurchases (PMC Senior Secured Notes).

Effective September 30, 2023, we implemented the revised minimum tangible net worth and liquidity requirements for GSE and Ginnie Mae seller/servicers. We believe that we are in compliance with these requirements as of September 30, 2024.

Ginnie Mae announced a new risk-based capital ratio effective on December 31, 2024 for Ginnie Mae issuers. PHH would not be in compliance with the upcoming risk-based capital requirements if they were in effect as of September 30, 2024. On September 26, 2024, Ginnie Mae issued a waiver extending the deadline by which PHH must meet the risk-based capital ratio requirements to May 1, 2025. We are currently implementing certain actions intended to achieve compliance with the requirements. Also refer to Note 19 – Regulatory Requirements.

We optimize our daily cash position to reduce financing costs while closely monitoring our liquidity needs and ongoing funding requirements. We regularly monitor and project cash flows over various time horizons to anticipate and mitigate liquidity risk. We maintain liquidity buffers to be responsive to the level of risks, including stressed market interest rate conditions and operational risk.

Use of Funds

Our primary near-term uses of funds in the normal course include:

• Payment of operating costs and corporate expenses;
• Payments for servicing advances in excess of collections;
• Investment in MSRs (purchased and originated), other asset acquisitions and MAV Canopy equity contributions;
• Originated, purchased and repurchased loans, including reverse mortgage buyouts;
• Payment of margin calls under our MSR financing facilities and derivative instruments;
• Debt service and repayments of borrowings, including under our MSR financing, advance financing and warehouse facilities, and payment of interest expense; and
• Net negative working capital and other general corporate cash outflows.

We have short-term commitments to lend $1.7 billion in connection with our forward and reverse mortgage loan IRLCs outstanding at September 30, 2024. In addition, we have originated floating-rate reverse mortgage loans under which the borrowers have additional borrowing capacity of $1.8 billion at September 30, 2024. During the nine months ended September 30, 2024, we funded $179.1 million out of the $1.8 billion borrowing capacity available at December 31, 2023. We are able to immediately securitize these borrower draws or advances under the Ginnie Mae program. As an HMBS issuer, we are required to repurchase loans out of the Ginnie Mae securitization pools once the outstanding principal balance of the loan is equal to or greater than 98% of the maximum claim amount (MCA repurchases). We carry these repurchases until reimbursement by HUD and/or property liquidation if inactive. Our reverse subservicing clients bear the financial obligation and risks associated with purchasing loans out of securitization pools within the portfolio we subservice.

Regarding the current maturities of our borrowings, as of September 30, 2024, we have approximately $1.6 billion of debt outstanding that would either come due, begin amortizing or require partial repayment in the next 12 months. This amount is comprised of $837.2 million of borrowings under forward and reverse mortgage loan financing facilities, $376.6 million of notes under advance financing facilities based on expected repayment, $342.8 million outstanding under GSE and Ginnie Mae MSR financing facilities maturing in the next 12 months, $28.8 million of scheduled principal amortization on the PLS Notes secured by PLS MSRs and $34.0 million outstanding under a PHH repurchase agreement.

With respect to liquidity management, we consider our servicing advance requirements during each investor remittance period and the uncertainties of daily margin calls on our collateralized debt facilities and derivative instruments due to interest rate fluctuations.

As servicer, we are required to advance to investors the loan P&I installments not collected from borrowers for those delinquent loans, including those on forbearance plans. Loan payoffs and prepayments are a source of additional liquidity and are dependent on the interest rate environment. We also advance T&I and Corporate advances primarily on properties that are in default or have been foreclosed. Our obligations to make these advances are governed by servicing agreements or guides, depending on investors or guarantor. As subservicer, we are also required to make P&I, T&I and Corporate advances on behalf of servicers following the servicing agreements or guides. However, servicers are generally required to reimburse us within 30 days of our advancing under the terms of the subservicing agreements, and we are generally reimbursed by Rithm the same day we fund P&I advances, or within no more than three days for certain servicing advances.

We are generally subject to daily margining requirements under the terms of our MSR financing facilities and daily cash calls for our TBAs, interest rate swap futures or other derivatives. Declines in fair value of our MSRs due to declines in market interest rates, assumption updates or other factors require that we provide additional collateral to our lenders under MSR financing facilities. Similarly, declines in fair value of our derivative instruments require that we provide additional collateral to the clearing counterparties. While the objective of our hedging strategy is to reduce volatility due to interest rates, it is also designed to address cash and liquidity considerations. Refer to the sensitivity analysis in Item 3. Quantitative and Qualitative Disclosures About Market Risk.

Our medium- and long-term requirements for cash include:

• Payment of interest and principal repayment of our PLS Notes that mature in 2025, our PMC Senior Secured Notes that mature in 2026 and our Onity Senior Secured notes owed to Oaktree that mature in 2027;
• Payment of interest and principal repayment of our OLIT securitization note issuances that have a three-year mandatory call date;
• Any payments associated with the confirmation of loss contingencies; and
• Any other payments required under contractual obligations discussed above that extend beyond one year.

We continuously evaluate alternative financings to diversify our sources of funds, optimize maturities and reduce our funding cost. In addition, we evaluate investment and capital allocation opportunities for any excess liquidity.

Sources of Funds

Our primary sources of funds for near-term liquidity in normal course include:

• Collections of servicing and subservicing fees and ancillary revenues;
• Collections of advances in excess of new advances;
• Proceeds from match funded advance financing facilities;
• Proceeds from other borrowings, including warehouse facilities, MSR financing facilities, MSR transfers and ESS financing;
• Proceeds from sales and securitizations of originated loans and purchased loans; and
• Net positive working capital from changes in other assets and liabilities.

Servicing advances are an important component of our business and represent amounts that we, as servicer, are required to advance to, or on behalf of, our servicing clients if we do not receive such amounts from borrowers. Our use of advance financing facilities is integral to our cash and liquidity management strategy. Additionally, certain of our financing and subservicing agreements permit us to retain advance collections for a period ranging from one to two business days before remittance, thus providing a source of short-term liquidity.

We use mortgage loan repurchase and participation facilities (commonly called warehouse lines) to fund newly-originated or purchased loans on a short-term basis until they are sold or securitized to secondary market investors, including GSEs or other third-party investors, and to fund repurchases of certain Ginnie Mae forward loans, HECM loans, second-lien loans and other types of loans. These facilities contain eligibility criteria that include aging and concentration limits by loan type among other provisions. Currently, our financing agreements generally have maximum terms of 364 days. The funds are typically repaid using the proceeds from the sale of the loans to the secondary market investors, usually within 30 days.

We also rely on the secondary mortgage market as a source of liquidity to support our lending operations. Substantially all of the mortgage loans that we originate or purchase are sold or securitized in the secondary mortgage market in the form of residential mortgage-backed securities guaranteed by Fannie Mae or Freddie Mac and, in the case of mortgage-backed securities guaranteed by Ginnie Mae, are mortgage loans insured or guaranteed by the FHA, VA or USDA. In June 2023, we issued a private placement securitization of reverse mortgage buyouts with an initial principal amount of $264.9 million and a three-year mandatory call date, expanding our access to capital markets and reducing our reliance on warehouse financing facilities. In February 2024 and September 2024, we issued a second and third private placement securitization of reverse mortgage buyouts with an initial principal amount of $268.6 million and $330.6 million, respectively, both with a three-year mandatory call date.

We regularly evaluate financing structure options to support our investment plans, address upcoming debt maturities and accommodate our business needs. We strive to diversify our sources of funds and optimize asset-backed financing. We continuously evaluate the allocation of our capital to MSR and other investments, the related returns, funding and liquidity requirements. Accordingly, we may opportunistically acquire or sell MSRs or other investments. The relationships with MAV and other MSR capital partners continue to provide PHH with additional means to grow servicing volume and finance MSRs while maintaining capital and liquidity.

Covenants

Our debt agreements contain various qualitative and quantitative covenants including financial covenants, covenants to operate in material compliance with applicable laws and regulations, monitoring and reporting obligations and restrictions on our ability to engage in various activities, including but not limited to incurring or guarantying additional debt, paying dividends or making distributions on or purchasing equity interests of Onity and its subsidiaries, repurchasing or redeeming capital stock or junior capital, repurchasing or redeeming subordinated debt prior to maturity, issuing preferred stock, selling or transferring assets or making loans or investments or other restricted payments, entering into mergers or consolidations or sales of all or substantially all of the assets of Onity and its subsidiaries, creating liens on assets to secure debt, and entering into transactions with affiliates. These covenants may limit the manner in which we conduct our business and may limit our ability to engage in favorable business activities or raise additional capital to finance future operations or satisfy future liquidity needs. In addition, breaches or events that may result in a default under our debt agreements include, among other things, nonpayment of principal or interest, noncompliance with our covenants, breach of representations, the occurrence of a material adverse change, insolvency, bankruptcy, certain material judgments and litigation and changes of control. See Note 13 – Borrowings to the Unaudited Consolidated Financial Statements for additional information regarding our covenants. The most restrictive liquidity requirement under our debt agreements, excluding additional Agency minimum liquidity requirements, is for a minimum of $75.0 million in consolidated liquidity, as defined, under certain of our mortgage loan financing and MSR financing facilities agreements. At September 30, 2024, we held unrestricted cash in excess of this minimum amount. The minimum liquidity requirements for PHH contained in some debt agreements are also subject to the minimum requirement set forth by the Agencies. Refer to Note 19 – Regulatory Requirements.

In addition, our debt agreements generally include cross default provisions such that a default under one agreement could trigger defaults under other agreements. If we fail to comply with our debt agreements and are unable to avoid, remedy or secure a waiver of any resulting default, we may be subject to adverse action by our lenders, including termination of further funding, acceleration of outstanding obligations, enforcement of liens against the assets securing or otherwise supporting our obligations, and other legal remedies, any of which could have a material adverse effect on our business, financial condition, liquidity and results of operations. We believe that we are in compliance with the covenants in our debt agreements as of September 30, 2024.

Credit Ratings

The following table summarizes our current ratings and outlook by the respective nationally recognized rating agencies.

On October 21, 2024, Moody’s assigned a Caa1 rating to the new PHH Corporation Senior Notes due in 2029 (See Note 22 – Subsequent Events). Moody’s also assigned a B3 corporate family rating to Onity and withdrew the B3 corporate family rating of PHH Mortgage Corporation. The entities’ outlooks are stable. Moody’s recognizes Onity's improving performance and return to profitability and adequate capitalization. At the same time, Moody’s explained the rating is constrained by Onity's modest scale compared to mortgage peers and history of uneven financial performance.

On October 21, 2024, S&P assigned a B- rating to the new PHH Corporation Senior Notes due in 2029 (See Note 22 – Subsequent Events). S&P also affirmed the B- rating to Onity with a Stable Outlook. The Stable Outlook reflects S&P’s expectations that Onity will maintain certain levels of debt ratio and debt-interest coverage while continuing to grow and diversify its servicing portfolio.

Cash Flows

Our operating cash flow is primarily impacted by operating results, changes in our servicing advance balances, the level of mortgage loan production, the timing of sales and securitizations of mortgage loans, and the margin calls required under our MSR financing facilities or derivative instruments. As one of the main differences between proceeds from sale and origination or purchase of loans held for sale, newly originated MSRs are effectively classified as operating cash flows. Purchases of MSRs through flow purchase agreements, Agency Cash Window and bulk acquisitions are classified as investing activity. MSR investments, whether originated or purchased, represent a key indicator of our ability to generate future income in our Servicing business.

We classify changes in HECM loans held for investment as investing activity and changes in the related HMBS borrowings as financing activity. Our MSR transfer agreements with MAV, Rithm and others have a significant impact on our consolidated statements of cash flows. Because the payments we received in connection with the HECM loan securitizations and MSR transfer agreements are recorded as secured financings, additions to, and reductions in, the balance of those secured financings are presented as financing activity in our consolidated statements of cash flows, excluding the changes in fair value attributable to inputs and assumptions.

Our cash flows are summarized as follows:

$ in millions

Cash flows for the nine months ended September 30, 2024

Our operating activities used $355.8 million of cash primarily due to $620.1 million net cash paid on loans held for sale as loan production volume exceeded sales, including $245.9 million for the purchase of reverse mortgage buyouts, and $163.9 million originated MSRs. Offsetting operating cash inflows include net collections of servicing advances of $140.9 million driven by seasonal activity and our increased collection efforts on legacy advances, and earnings distributions of $6.7 million received from our equity method investee MAV Canopy.

Our investing activities provided $214.2 million of cash. Cash inflows primarily include $193.9 million proceeds from sales of MSRs, $133.2 million net cash received in connection with our HECM reverse mortgages, $18.0 million proceeds from sales of real estate as part of our asset recovery strategy, $10.2 million received from the sale of advances in connection with sales of MSRs, and $7.1 million of capital distributions received, net of contributions, from our equity method investee MAV Canopy. Offsetting cash outflows include $114.8 million to purchase MSRs and $32.9 million to purchase real estate primarily in connection with our reverse mortgage buyout transaction.

Our financing activities provided $166.6 million of cash. Financing cash inflows are primarily comprised of $636.1 million net from borrowings under our mortgage loan financing facilities due to the increase in loans held for sale, including $569.9 million with the issuances of the OLIT securitization of reverse mortgage buyouts and $22.8 million of proceeds from the sale of MSRs accounted for as a financing in connection with sales of MSRs. Offsetting cash outflows include $122.5 million of net repayments on advance match funded liabilities due to the decline in servicing advances, $110.0 million of net repayment on MSR financing facilities, and $54.3 million of net payments on the financing liabilities related to MSRs transferred and ESS financings due to runoff. We also paid $68.5 million to repurchase $70.9 million of our 7.875% PMC Senior Secured Notes. Cash inflows of $792.3 million received in connection with our reverse mortgage securitizations, which are accounted for as secured financings, were more than offset by repayments on the related financing liability of $922.8 million.

Cash flows for the nine months ended September 30, 2023

Our operating activities used $271.4 million of cash primarily due to net cash paid on loans held for sale of $488.7 million as loan production volume exceeded sales. Offsetting operating cash inflows include net collections of servicing advances of $147.7 million.

Our investing activities used $43.6 million of cash. The primary use of cash in our investing activities was $89.6 million to purchase MSRs. Offsetting cash inflows include $36.3 million net cash inflows in connection with our HECM reverse mortgages, $2.7 million of capital distributions, net of contributions, from our equity method investee MAV Canopy and $6.1 million proceeds from the sale of advances.

Our financing activities provided $306.7 million of cash. Financing cash inflows are primarily comprised of $332.9 million net from borrowings under our mortgage loan financing facilities, including the OLIT securitization, due to the increase in loans held for sale, $173.1 million of proceeds from the sale of MSRs accounted for as a financing in connection with sales of MSRs, and $68.7 million of proceeds from ESS financing. Offsetting cash outflows include $110.6 million of net repayments on advance match funded liabilities due to the decline in servicing advances, $51.0 million of net repayments on MSR financing facilities, and $70.3 million of net payments on the financing liabilities related to MSRs transferred and ESS financings due to runoff. We also paid $12.5 million to repurchase $13.9 million of our 7.875% PMC Senior Secured Notes. Cash inflows of $783.7 million received in connection with our reverse mortgage securitizations, which are accounted for as secured financings, were more than offset by repayments on the related financing liability of $802.4 million.

CRITICAL ACCOUNTING POLICIES AND ESTIMATES

Our ability to measure and report our financial position and operating results is influenced by the need to estimate the impact or outcome of future events based on information available at the date of the financial statements. An accounting estimate is considered critical if it requires that management make assumptions about matters that were highly uncertain at the time the accounting estimate was made. If actual results differ from our judgments and assumptions, then it may have an adverse impact on the results of operations and cash flows. We have processes in place to monitor these judgments and assumptions, and management is required to review critical accounting policies and estimates with the Audit Committee of the Board of Directors.

Our accounting policies and estimates involving significant judgments primarily relate to fair value measurements, income taxes, allowance for losses, and loss contingencies, including indemnification obligations and litigation proceedings. We use fair value measurements to record fair value adjustments to certain instruments in our statement of operations and to determine fair value disclosures, including but not limited to MSRs, Other financing liabilities, Loans held for sale, Loans held for investment-Reverse mortgages, and HMBS-related borrowings. As of September 30, 2024, 89% of our assets and 70% of our liabilities were reported at fair value, with fair value changes reported in our statement of operations. Substantially all our assets and liabilities at fair value were classified as Level 3 instruments due to unobservable inputs.

Our significant accounting policies and critical accounting estimates are disclosed in our Annual Report on Form 10-K for the year ended December 31, 2023 in Note 1 to the Consolidated Financial Statements and in Management’s Discussion and Analysis of Financial Condition and Results of Operations under “Critical Accounting Policies and Estimates.”

RECENT ACCOUNTING DEVELOPMENTS

See Note 1 - Organization and Basis of Presentation to the Unaudited Consolidated Financial Statements for information related to recent accounting standards updates.

Interest Rates

Our principal market risk exposure is the impact of interest rate changes on our mortgage-related assets and commitments, including MSRs, loans held for sale, loans held for investment, IRLCs and other derivative instruments. In addition, changes in interest rates could materially and adversely affect the amount of escrow and float income, the volume of mortgage loan originations or result in MSR fair value changes. We also have exposure to the effects of changes in interest rates on our floating-rate borrowings, including MSR and advance financing facilities.

Our management-level Market Risk Committee establishes and maintains policies that govern our risk appetite and associated hedging programs, including such factors as duration and interest rate sensitivity measures, limits, targeted hedge coverage ratios, the hedge instruments that we are permitted to use in our hedging activities, and the counterparties with whom we are permitted to enter into hedging transactions and our liquidity risk profile. See Note 15 – Derivative Financial Instruments and Hedging Activities to the Unaudited Consolidated Financial Statements for additional information regarding our use of derivatives.

MSR Hedging Strategy

MSRs are carried at fair value with changes in fair value being recorded in earnings in the period in which the changes occur. The fair value of MSRs is subject to changes in market interest rates, among other inputs and assumptions.

The objective of our MSR interest rate risk management and hedging policy is to protect shareholders’ equity and earnings against the fair value volatility of interest-rate sensitive MSR portfolio exposure, considering market, liquidity, cost and other conditions. The interest-rate sensitive MSR portfolio exposure is defined as follows:

• Agency MSR portfolio,
• expected Agency MSR bulk transactions subject to letters of intent (LOI),
• less the Agency MSRs subject to our sale agreements with MAV, Rithm and others, also referred to as Pledged MSR liabilities (See Note 8 — Other Financing Liabilities, at Fair Value),
• less the asset value for securitized HECM loans, net of the corresponding HMBS-related borrowings (also referred to as HECM or reverse MSR for risk management purposes),
• other interest-rate sensitive exposures, including our ESS financing liabilities, as deemed appropriate by the Market Risk Committee.

The hedge coverage ratio, defined as the ratio of hedge (including reverse MSR) to asset rate sensitivity (referred to as DV01) is subject to lower and upper target thresholds under our policy. We regularly evaluate the hedge coverage ratio at the intended shock interval to determine if it is relevant or warrants adjustment based on market conditions, symmetry of interest rate risk exposure, liquidity impacts under shock scenarios, and other factors. As the market dictates, management may choose to maintain the hedge coverage ratio at different thresholds, with approval of the Market Risk Committee, in order to preserve liquidity and/or optimize asset returns.

Effective September 2022, a minimum 25% and 30% hedge coverage ratios were required for interest rate declines less than, and more than 50 basis points, respectively. During the second quarter of 2023, management raised its minimum hedge coverage ratio to 60%. Effective December 2023, we established a targeted hedge coverage ratio range between 95% and 105%. In April 2024, we changed the risk measure to a dollar DV01 that resulted in an equivalent range of approximately 90% to 110%.

Our Chief Investment Office, and Risk Management function, as the second line of defense, monitor fair value changes due to interest rates against the target hedge coverage ratio range on a daily basis. Exceptions are generally pre-approved by Risk Management. The following graph compares the daily hedge coverage ratio (based on interest rate modeled values) with target range and demonstrates the discipline of a highly effective MSR interest rate hedging strategy in the nine months ended September 2024 despite market volatility. The graph also shows the change in the targeted risk metric range starting in April 2024 discussed above.

With a less-than 100% hedge coverage ratio, the changes in fair value of our hedging instruments may not fully offset the changes in fair value of our net MSR portfolio exposure attributable to interest rate changes. In addition, while interest rate sensitivity measures (DV01) may remain within the range of our hedging strategy’s objective, actual changes in fair value of the derivatives and MSR portfolio may not offset to the same extent, due to many factors. These factors include non-parallel changes in the interest rate curve, the convexity of the MSR, the basis risk inherent in the MSR profile and hedging instruments, model risk observed between actual vs. expected fair value changes, and hedge costs.

We continuously evaluate the use of hedging instruments with the objective of enhancing the effectiveness of our interest rate hedging strategy.

Our derivative instruments include forward trades of MBS or Agency TBAs with different banking counterparties, exchange-traded interest rate swap futures and interest rate options. These derivative instruments are not designated as accounting hedges. TBAs, or To-Be-Announced securities are actively traded, forward contracts to purchase or sell Agency MBS on a specific future date. From time to time, we enter into exchange-traded options contracts with purchased put options financed by written call options. We report changes in fair value of these derivative instruments in MSR valuation adjustments, net in our consolidated statements of operations, within the Servicing segment.

The derivative instruments are subject to margin requirements, posted as either initial or variation margin. Onity may be required to post or may be entitled to receive cash collateral with its counterparties through margin calls, based on daily value changes of the instruments. Changes in market factors, including interest rates, and our credit rating may require us to post additional cash collateral and could have a material adverse impact on our financial condition and liquidity.

Loans Held for Investment and HMBS-related Borrowings

The fair value of our securitized HECM loan portfolio generally decreases as market interest rates rise and increases as market rates fall. As our HECM loan portfolio is predominantly comprised of ARMs, higher interest rates cause the loan balance to accrue and reach a 98% maximum claim amount liquidation event more quickly, while lower interest rates extend the timeline to reach maximum claim amount liquidation. Additionally, portfolio value is heavily influenced by market spreads for fixed and discount margin for ARMs.

The fair value of our securitized HECM loan portfolio net of the fair value of the HMBS-related borrowings represent a reverse mortgage economic MSR (HMSR) for risk management purposes. The fair value of our HMSR generally decreases as market interest rates rise and increases as market rates fall. As our HECM loan portfolio is predominantly comprised of ARMs, higher interest rates cause the loan balance to accrue and reach a 98% maximum claim amount liquidation event more quickly, with lower interest rates extending the timeline to liquidation. HECM loans have a longer duration than HMBS-related borrowings as a result of the future draw commitments, and our obligations as issuer of HMBS to purchase loans out of the Ginnie Mae securitization pools once the outstanding principal balance of the related HECM loan is equal to 98% of the maximum claim amount. This HMSR exposure is used as a partial offset to our forward MSR exposure and managed as part of our MSR hedging strategy described above.

Pipeline Hedging Strategy - Loans Held for Sale and IRLCs

In our Originations business, we are exposed to interest rate risk and related price risk during the period from the date of the interest rate lock commitment through (i) the lock commitment cancellation or expiration date or (ii) through the date of sale or securitization of the resulting loan into the secondary mortgage market. Loan commitments for forward loans generally range from 5 to 75 days, with the majority of our commitments to borrowers for 40 to 60 days and our commitments to correspondent sellers for 5 to 30 days. Loans held for sale are generally funded and sold within 5 to 30 days. This interest rate exposure of loans and IRLCs is economically hedged with derivative instruments, including forward sales of Agency TBAs. The objective of our pipeline hedging strategy is to reduce the volatility of the fair value of IRLCs and loans due to market interest rates, thus preserving the initial gain on sale margin at lock date. The net daily market risk position of net pull-though adjusted locks and loans held for sale, less the offsetting hedges of the pipeline, is monitored daily and its daily limit is +/- 5%. We report changes in fair value of these derivative instruments as gain or loss on economic hedge instruments within either Gain on loans held for sale, net or Gain on reverse loans held for investment and HMBS-related borrowings, net in our consolidated statements of operations.

EBO and Loan Modification Hedging – Loans Held for Sale, at fair value

In our Servicing business, effective February 2022, management started hedging certain Ginnie Mae EBO loans repurchased out of securitization pools for modification and reperformance with TBAs to manage the interest rate risk while these loans await redelivery.

Advance Match Funded Liabilities

We monitor the effect of changes in interest rates on the interest paid on our variable-rate advance financing debt. Earnings on cash and float balances are a partial offset to our exposure to changes in interest expense.

Sensitivity Analysis

Fair Value MSRs, Loans Held for Sale, Loans Held for Investment and Related Derivatives

We assess and manage our interest rate risk on a daily basis primarily using sensitivity analyses. We develop sensitivity analyses to determine the impact on our earnings and financial condition across various interest rate scenarios that could be expected over different time horizons. Our interest rate exposure spans from overnight rates to 30-year rates, with increased sensitivity related to the 5-, 10-, and 30-year rates. Sensitivity analyses are based on hypothetical change in values of different interest-rate sensitive assets and liabilities together with our hedges and are presented under a set instantaneous +/- 25 basis point parallel move in rates. Changes in fair value cannot be extrapolated because the relationship to the change in fair value may not be linear and other factors may apply, such as change in yield, spreads or other assumptions.

The following table summarizes the estimated change in the fair value of our MSRs, HECM loans held for investment and loans held for sale that we have elected to carry at fair value as well as any related derivatives at September 30, 2024, given hypothetical instantaneous parallel shifts in the yield curve. These sensitivities are hypothetical and presented for illustrative purposes only. Changes in fair value based on variations in assumptions generally cannot be extrapolated because the relationship to the change in fair value may not be linear, among other factors.

(1) Primarily reflects the impact of market interest rate changes on projected prepayments on the Agency MSR portfolio, Rithm and MAV pledged MSR financing liabilities and ESS financing liabilities.

Borrowings

The majority of the collateralized debt used to finance our operations is based on variable rates, but remains exposed to interest rate fluctuations between repricing dates. Our corporate debt is based on fixed interest rates. As servicer, we are also exposed to the impact of interest rate fluctuations on the float income we earn on balances held in trust from the date a loan payment is received from borrowers to the date funds are forwarded to investors.

Based on September 30, 2024 balances, if interest rates were to decrease by 100 bps, we estimate a net negative impact on our profitability of approximately $6.7 million resulting from a decrease of $26.3 million in annual interest income and other credits on cash deposits and float balances, and a decrease of $19.6 million in annual interest expense on our variable-rate debt.

Foreign Currency Exchange Rate Risk

Our operations in India and the Philippines expose us to foreign currency exchange rate risk to the extent that our foreign exchange positions remain unhedged. Depending on the magnitude and risk of our positions we may enter into forward exchange contracts to hedge against the effect of changes in the value of the India Rupee or Philippine Peso. We did not enter into any foreign currency hedging derivative instruments during the nine months ended September 30, 2024.

Home Prices

Inactive reverse mortgage loans for which the maximum claim amount has not been met are generally foreclosed upon on behalf of Ginnie Mae with the REO remaining in the related HMBS until liquidation. Inactive MCA repurchased loans are generally foreclosed upon and liquidated by the HMBS issuer. Although active and inactive reverse mortgage loans are insured by FHA, we may incur expenses and losses in the process of repurchasing and liquidating these loans that are not reimbursable by FHA in accordance with program guidelines. In addition, in certain circumstances, we may be subject to real estate price risk to the extent we are unable to liquidate REO within the FHA program guidelines. As our reverse mortgage portfolio seasons, and the volume of MCA repurchases increases, our exposure to this risk will increase.

Our management, under the supervision of and with the participation of our principal executive officer and principal financial officer, has evaluated the effectiveness of our disclosure controls and procedures, as such term is defined in Rules 13a-15(e) and 15d-15(e) under the Securities Exchange Act of 1934, as amended (Exchange Act), as of September 30, 2024.

Based on such evaluation, management concluded that our disclosure controls and procedures as of September 30, 2024 were (1) designed and functioning effectively to ensure that material information relating to Onity, including its consolidated subsidiaries, is made known to our principal executive officer and principal financial officer by others within those entities, particularly during the period in which this report was being prepared and (2) operating effectively in that they provided reasonable assurance that information required to be disclosed by Onity in the reports that it files or submits under the Exchange Act (i) is recorded, processed, summarized and reported within the time periods specified in the SEC’s rules and forms and (ii) accumulated and communicated to management, including our principal executive officer or principal financial officer, as appropriate, to allow timely decisions regarding required disclosure.

There have not been any changes in our internal control over financial reporting that occurred during the fiscal quarter ended September 30, 2024 that have materially affected, or are reasonably likely to materially affect, our internal control over financial reporting.

An investment in our common stock involves significant risk. We describe the most significant risks that management believes affect or could affect us under Part I, Item 1.A. of our Annual Report on Form 10-K for the year ended December 31, 2023. Understanding these risks is important to understanding any statement in such reports and in our subsequent SEC filings (including this Form 10-Q) and to evaluating an investment in our common stock. You should carefully read and consider the risks and uncertainties described therein together with all the other information included or incorporated by reference in such Annual Report and in our subsequent SEC filings before you make any decision regarding an investment in our common stock. You should also consider the information set forth under “Forward-Looking Statements.” If any of the risks actually occur, our business, financial condition, liquidity and results of operations could be materially and adversely affected. If this were to happen, the value of our common stock could significantly decline, and you could lose some or all of your investment.

There have been no material changes to the risks described in our Annual Report on Form 10-K for the year ended December 31, 2023, other than the following:

Our ability to conclude our refinancing transaction and redeem all of our PMC Senior Secured Notes and our Onity Senior Secured Notes depends on the closing of the MAV sale, the timing of which is uncertain due to the various required regulatory approvals. If we are not able to close the MAV sale by March 3, 2025, we will be required to repay the escrowed proceeds of the new PHH Senior Notes due 2029, including accrued interest, and our PMC Senior Secured Notes and Onity Senior Secured Notes will not be redeemed and will remain outstanding. If this were to happen, we cannot guarantee that we would be able to refinance the PMC Senior Secured Notes and Onity Senior Secured Notes on equally favorable terms prior to their maturity dates of March 2026 and March 2027, respectively, which could have a material adverse impact on our liquidity and financial condition and could raise concerns among investors, regulators, and current or potential contractual counterparties.

The net proceeds of our PHH Senior Notes that closed on November 6, 2024 were placed into escrow, together with approximately $23 million additional cash from Onity. It is a condition to the release of funds from the escrow account that the MAV sale has been closed. Closing of the MAV sale requires the approval of various state regulators as well as the approval of the GSEs. Pursuant to the terms of our refinancing agreement, if the MAV sale does not occur on or prior to March 3, 2025, we will be required to redeem all of the new PHH Senior Notes at a redemption price equal to 100% of the initial issue price of the notes, plus accrued and unpaid interest. In addition, we will be unable to redeem our outstanding PMC Senior Secured Notes due March 2026 with a UPB of $289.1 million and our Onity Senior Secured Notes due March 2027 with a UPB of $285.0 million. As a result, we will need to seek an alternative refinancing solution for these notes and we cannot guarantee that we will be able to obtain such refinancing on favorable terms, or at all, prior to the notes’ respective maturity dates. In addition, we will be unable to capture the expected benefits of the refinancing and the MAV sale, and third parties such as future debt investors and other potential lending sources may be disincentivized to extend credit to us, potential clients and contractual counterparties may be less inclined to enter business arrangements with us, and regulators may raise concerns during licensing renewal, examinations and other discussions. If any of these events occur, our access to liquidity and financial condition could be materially adversely impacted.