PNMAC Mortgage Opportunity Fund, LP (the “Master Fund”) is a limited liability partnership organized under the laws of the state of Delaware. The Master Fund is registered under the Investment Company Act of 1940, as amended. Interests in the Master Fund were issued solely in private placement transactions that do not involve any “public offering” within the meaning of Section 4(2) of the Securities Act of 1933, as amended. The investment objective of the Master Fund is to achieve attractive total returns by capitalizing on dislocations in the mortgage market through opportunistic investments primarily in U.S. residential mortgages and related assets, instruments, and entities.
The Master Fund is managed by PNMAC Capital Management, LLC (the “Investment Manager”). The Investment Manager is a registered investment adviser with the Securities and Exchange Commission (“SEC”). The general partner of the Master Fund is PNMAC Opportunity Fund Associates, LLC (the “General Partner”), a Delaware limited liability company. Both the Investment Manager and General Partner are wholly-owned subsidiaries of Private National Mortgage Acceptance Company, LLC.
The Master Fund operates as a master fund in a master-feeder fund structure. The Master Fund acts as a central investment mechanism for (i) PNMAC Mortgage Opportunity Fund, LLC (the “Fund” or “Limited Partner”) and (ii) the General Partner. The Fund owned 93.5% of the Master Fund at June 30, 2012 and is the sole limited partner. The General Partner has the exclusive right to conduct the operations of the Master Fund.
The Master Fund conducts its operations through investments in mortgage-backed securities, as well as investments in PNMAC Mortgage Co., LLC, PNMAC Mortgage Co. Funding, LLC, PNMAC Mortgage Co. Funding II, LLC and PNMAC Mortgage Co (FI), LLC (the companies are referred to collectively as the “Mortgage Investments”).
Through their mortgage servicing agreements with PennyMac Loan Services, LLC, the Mortgage Investments proactively work with borrowers to perform loan servicing and loss mitigation activities to maximize returns and minimize credit losses. The Mortgage Investments seek to maximize the value of the mortgage loans that they acquire based on whether the acquired loans are performing or nonperforming:
As market conditions permit, PNMAC Mortgage Co., LLC may transfer the mortgage loans it owns to the Master Fund to be securitized for financing purposes or sale. The Master Fund may hold interests in pools of such securitized mortgages and invests directly in other mortgage-related investment securities.
The Master Fund began operations on August 11, 2008 and will continue in existence through December 31, 2016, subject to three one-year extensions by the Investment Manager at its discretion, in accordance with the terms of the Limited Partnership Agreement governing the Master Fund.
The preparation of financial statements in conformity with U.S. GAAP requires the Investment Manager to make estimates and assumptions that affect the reported amount of assets and liabilities, recognition of distribution income and disclosure of contingent assets and liabilities at the date of the financial statements. Actual results will likely differ from those estimates.
The Fund carries its investments at their estimated fair values with changes in fair value recognized in current period results of operations. The Fund groups its assets and liabilities at fair value in three levels, based on the markets in which the assets and liabilities are traded and the reliability of the assumptions used to determine fair value. The three levels are described below:
Level 1 – Quoted prices in active market for identical securities.
Level 2 – Prices determined using other significant observable inputs. Observable inputs are inputs that other market participants would use in pricing an asset or liability and are developed based on market data obtained from sources independent of the Master Fund. These may include quoted prices for similar assets and liabilities, interest rates, prepayment speeds, credit risk and others.
Level 3 – Prices determined using significant unobservable inputs. In situations where quoted prices or observable inputs are unavailable (for example, when there is little or no market activity for an investment at the end of the period), unobservable inputs may be used. Unobservable inputs reflect the Investment Manager’s own assumptions about the factors that market participants use in pricing an asset or liability, and are based on the best information available in the circumstances.
While the Investment Manager believes its valuation methods are appropriate and consistent with those used by other market participants, the use of different methods or assumptions to estimate the fair value of certain financial instruments would likely result in a different estimate of fair value at the reporting date. Those estimated values may differ significantly from the values that would have been used had a readily available market for such loans or investments existed, or had such loans or investments been liquidated, and those differences could be material to the financial statements.
Changes in valuation techniques may also result in transfer in or out of an investment’s assigned level within the hierarchy.
The short-term investment is carried at fair value with changes in fair value recognized in current period income. Short-term investment, which represents an investment in an institutional liquidity (or money market) fund, is valued based on the value per share published by the manager of the money market fund on the valuation date. The Master Fund’s short-term investment is classified as a “Level 1” fair value financial statement item.
The Fund records MBS on the trade date basis of accounting. The Fund’s investments in MBS are carried at their estimated fair values with changes in the estimated fair value of MBS are recognized in current period results of operations. Changes in cost arising from amortization of purchase premiums and accrual of unearned discounts are recognized as a component of interest income. Realized gains and losses from security transactions are determined based on the specific identified cost of the securities.
Interest income on MBS is recognized over the life of the security using the interest method. The Investment Manager estimates, at the time of purchase, the future expected cash flows and determines the effective interest rate based on the estimated cash flows and the Master Fund’s purchase price. The Investment Manager updates its cash flow estimates monthly.
Estimating cash flows is subject to a number of assumptions that are subject to uncertainties, including the amount and timing of principal payments (including prepayments, repurchases, defaults and liquidations), the pass-through or coupon rate, interest rate fluctuations, interest payment shortfalls due to delinquencies on the underlying mortgage loans, the likelihood of modification and the timing of the magnitude of credit losses on the mortgage loans underlying the securities. The Investment Manager applies its judgment in developing its estimates. However, these uncertainties are difficult to predict and are subject to future events whose outcomes will affect the Fund’s estimates and interest income.
The Mortgage Investments are valued based on the proportionate share of the discounted cash-flow projections of the underlying assets and liabilities of companies comprising the Mortgage
Investments given that the loans or loan participation interest and real estate acquired in settlement of loans held by the Mortgage Investments represent substantially all of the net asset value held by these entities. Because the values of the Mortgage Investments have been estimated by the Investment Manager in the absence of readily determinable fair values, the Master Fund categorizes these investments as “Level 3” fair value financial statement items. Changes in the estimated fair value of the Mortgage Investments are recognized in current period results of operations.
PNMAC Mortgage Co (FI), LLC’s operating agreement with the FDIC governing its investment in FNBN limits PNMAC Mortgage Co (FI), LLC’s ability to transfer any of its rights or interests in FNBN. PNMAC Mortgage Co (FI), LLC may only transfer all or any part of its interest or rights if (i) the transferee is a qualified transferee and (ii) it first obtains prior written consent of the FDIC. The contract specifies that the consent shall not be unreasonably withheld, delayed or conditioned, if the transferee is a qualified transferee.
Dividend income is recorded on the ex-dividend date or, using reasonable diligence, when known to the Master Fund.
Securities sold under agreements to repurchase represent the discounted value of the borrowings using the rate required to finance such borrowings as of period end. Due to the lack of available market information, the Fund’s Manager has classified securities sold under agreements to repurchase as “Level 3” financial instruments. The Master Fund carries securities sold under agreements to repurchase at the accrued cost of the agreements, which approximates the agreements’ fair values.
The Master Fund is charged for those expenses that are directly attributable to it, such as, but not limited to advisory fees, custody fees, and interest expense. Expenses that are not directly attributable to the Master Fund are generally allocated among the entities in proportion to their respective capital commitments. All general and administrative expenses are recognized on the accrual basis of accounting.
The Master Fund has elected to be treated as a partnership for federal income tax purposes. Each partner is responsible for the tax liability or benefit relating to such partner’s distributive share of taxable income or loss. Accordingly, no provision for federal income taxes is reflected in the accompanying financial statements.
The Investment Manager’s assessment of the requirement to provide for income taxes also includes an assessment of the liability arising from uncertain income tax positions. The Investment Manager has concluded that there is no tax liability resulting from unrecognized tax benefits relating to uncertain income tax positions taken on the tax return for the fiscal year ended December 31, 2011 or expected to be taken on the tax returns for the fiscal year ended December 31, 2012. The Investment Manager is not aware of any tax positions for which it is reasonably possible that the total amounts of unrecognized tax benefits will significantly change in the next twelve months. In developing its conclusion, the Investment Manager of the Master Fund has analyzed all tax years that are open for examination by the relevant income taxing authority. As of June 30, 2012, open Federal and state income tax years include the tax years ended December 31, 2011 through 2008. The Master Fund has no examination in progress.
If applicable, the Master Fund will recognize interest accrued related to unrecognized tax benefits in “interest expense” and penalties in “other expenses” on the statement of operations.
No distributions will be made by the Master Fund to cover any taxes due on Limited Partners’ investments in the Master Fund. Investors may not redeem capital from the Master Fund, and they must have other sources of capital available to them to pay such taxes.
Net profits or net losses of the Master Fund for each month are allocated to the capital accounts of partners as of the last day of each month in accordance with the partners’ respective investment ownership percentages of the Master Fund. Net profits or net losses are measured as the net change in the value of the partners’ capital of the Master Fund during the fiscal period, before giving effect to any repurchases of interest in the Master Fund, and excluding the amount of any items to be allocated to the capital accounts of the partners of the Master Fund, other than in accordance with the partners’ respective investment ownership percentages.
Distributions are made in accordance with the following distribution priorities but were recallable by the Master Fund for purposes of making new investments through December 31, 2011. Following is a summary of capital distribution priorities:
The Carried Interest is allocated (and subsequently distributed) by the Master Fund to the General Partner as allocable shares of the Master Fund’s gains.
Under the Master Fund’s organizational documents, its officers and directors are indemnified against certain liabilities arising out of the performance of their duties to the Master Fund. In addition, in the normal course of business, the Master Fund may enter into contracts that provide general indemnification to other parties. The Master Fund’s maximum exposure under these arrangements is unknown, as this would involve future claims that may be made against the Master Fund that have not yet occurred, and may not occur. However, the Master Fund has not had prior claims or losses pursuant to these contracts and expects the risk of loss to be remote.
Note 3—Fair Value
Following is a summary of financial statement items that are measured at estimated fair value on a recurring basis for the period ended June 30, 2012:
| | | | | | | | | | | | | |
| | | | |
| Assets: | | | | | | | | | | | | |
Short-term investment | | $ | 22,749,247 | | | $ | — | | | $ | — | | | $ | 22,749,247 | |
Mortgage-backed securities | | | — | | | | — | | | | 205,610,665 | | | | 205,610,665 | |
PNMAC Mortgage Co. Funding, LLC | | | — | | | | — | | | | 107,443,222 | | | | 107,443,222 | |
PNMAC Mortgage Co., LLC | | | — | | | | — | | | | 102,854,916 | | | | 102,854,916 | |
| PNMAC Mortgage Co. Funding II, LLC | | | — | | | | — | | | | 87,480,994 | | | | 87,480,994 | |
PNMAC Mortgage Co (FI), LLC | | | — | | | | — | | | | 32,691,388 | | | | 32,691,388 | |
| | | $ | 22,749,247 | | | $ | — | | | $ | 536,081,185 | | | $ | 558,830,432 | |
| Liabilities: | | | | | | | | | | | | | | | | |
Securities sold under agreements to repurchase | | $ | — | | | $ | — | | | $ | 157,135,800 | | | $ | 157,135,800 | |
| | | $ | — | | | $ | — | | | $ | 157,135,800 | | | $ | 157,135,800 | |
| * The collateral type of all mortgage-backed securities is non-agency/subprime. | | | | | | | | | | | | | | | | |
| | |
The following table presents a roll forward of the assets for which Level 3 inputs were used to determine value for the period ended June 30, 2012:
| | | Mortgage- backed securities | | | PNMAC Mortgage Co. Funding, LLC | | | | | | PNMAC Mortgage Co. Funding II, LLC | | | PNMAC Mortgage Co (FI), LLC | | | | |
| Assets | | | | | | | | | | | | | | | | | | |
| Balance at January 1, 2012 | | $ | 217,994,223 | | | $ | 197,887,627 | | | $ | 84,496,702 | | | $ | - | | | $ | 35,335,154 | | | $ | 535,713,706 | |
Purchases | | | 33,302,785 | | | | - | | | | 15,000,000 | | | | 1,620,000 | | | | 87,612 | | | | 50,010,397 | |
| Transfers between Mortgage Investments: | | | | | | | | | | | | | | | | | | | | | | | | |
Mortgage loans | | | - | | | | (163,568,722 | ) | | | - | | | | 163,568,722 | | | | - | | | | - | |
Reserve account | | | - | | | | (1,408,073 | ) | | | - | | | | 1,408,073 | | | | - | | | | - | |
MBS payable | | | - | | | | 80,256,529 | | | | - | | | | (80,256,529 | ) | | | - | | | | - | |
Repayments | | | (46,672,140 | ) | | | - | | | | - | | | | - | | | | - | | | | (46,672,140 | ) |
Sales | | | - | | | | (5,620,000 | ) | | | (3,700,000 | ) | | | - | | | | - | | | | (9,320,000 | ) |
Accrual of unearned discount | | | 3,062,628 | | | | - | | | | - | | | | - | | | | - | | | | 3,062,628 | |
Changes in fair value** | | | (2,076,831 | ) | | | (104,139 | ) | | | 7,058,214 | | | | 1,140,728 | | | | (2,731,378 | ) | | | 3,286,594 | |
| Balance at June 30, 2012 | | $ | 205,610,665 | | | $ | 107,443,222 | | | $ | 102,854,916 | | | $ | 87,480,994 | | | $ | 32,691,388 | | | $ | 536,081,185 | |
Changes in fair value recognized during the period relating to assets still held at June 30, 2012 | | $ | (2,076,831 | ) | | $ | 7,058,214 | | | $ | (104,139 | ) | | $ | 1,140,728 | | | $ | (2,731,378 | ) | | $ | 3,286,594 | |
Valuation Techniques and Assumptions
The accompanying notes are an integral part of these financial statements.
PNMAC Mortgage Opportunity Fund, LP
Notes to Financial Statements
As of and for the Period from January 1, 2012 to June 30, 2012
| | | Securities sold under agreements | | |
| Liabilities | | | | |
| Balance at January 1, 2012 | | $ | 174,532,300 | | |
Sales | | | 24,400,500 | | |
Repurchases | | | (41,797,000 | ) | |
| Balance at June 30, 2012 | | $ | 157,135,800 | | |
| | | | | | |
*See Note 10- Transactions with Affiliates **Changes in fair value as a result of changes in instrument-specific credit risk relating to mortgage loans held by the Mortgage Investments totaled $8,332,565 for the period ended June 30, 2012. |
The following describes the methods used in estimating the fair values of Level 2 and Level 3 financial statement items:
Mortgage Investments
The Master Fund’s primary investments are the Mortgage Investments. Summarized financial information for these investments are presented in Note 4—Mortgage Investments below. Most of the Mortgage Investments’ assets are mortgage loans and real estate acquired in settlement of loans which are carried at fair value. Following are the valuation methods and assumptions applied in the measurement of these assets.
Mortgage Loans
The mortgage loans carried by Mortgage Investments are generally not saleable into active mortgage loans markets. Therefore the Master Fund classifies these assets as “Level 3” financial statement items, and their fair values are estimated using a discounted cash flow valuation model. Inputs to the model include current interest rates, loan amount, payment status and property type, and forecasts of future interest rates, home prices, prepayment speeds, default and loss severities.
The valuation process includes the computation by stratum of loan population and a review for reasonableness of various measures such as weighted average life, projected prepayment and default speeds, and projected default and loss percentages. The valuation staff computes the effect on the valuation of changes in input variables such as interest rates, home prices, and delinquency status in order to assess the reasonableness of changes in the loan valuation. The results of the estimates of fair value of the Mortgage Investments’ loans are reported to the Investment Manager’s Valuation Committee as part of its review and approval of monthly valuation results.
Changes in fair value attributable to investment-specific credit risk are measured by the changes in respective loan’s delinquency status at period-end from the later of the beginning of the period or acquisition date.
The significant unobservable inputs used in the fair value measurement of the Master Fund’s mortgage loans are discount rate, home price projections, voluntary prepayment speeds and default speeds. Significant changes in any of those inputs in isolation could result in a significant change to the loans’ fair value measurement. Increases in home price projections are generally accompanied by an increase in voluntary prepayment speeds.
The accompanying notes are an integral part of these financial statements.
PNMAC Mortgage Opportunity Fund, LP
Notes to Financial Statements
As of and for the Period from January 1, 2012 to June 30, 2012
(Unaudited)
Following is a quantitative summary of key assumptions used in the valuation of mortgage loans at fair value:
| | | | |
| Discounted cash flow | | Discount rate | | 7.0% - 24.7% |
| | | | | (15.2)% |
| | | Twelve-month housing price index change | | -0.9% - 2.3% |
| | | | | (-0.5)% |
| | | Voluntary Prepayment speed (Life voluntary CRR) (1) | | 0.4% - 9.4% (3.1)% |
| | | Total Prepayment speed (Life total CPR) (2) | | 2.7% - 31.9% |
| | | | | (22.5)% |
(1) Prepayment speed is measured using Constant Repayment Rate (“CRR”). (2) Prepayment speed is measured using 1 year Voluntary Conditional Prepayment Rate (“CPR”). |
Real Estate Acquired in Settlement of Loans
The Mortgage Investments measure their investments in real estate acquired in settlement of loans at the respective properties’ estimated fair values. Fair value of real estate acquired in settlement of loans is based on a broker’s price opinion, full appraisal, or the price given in a current contract for sale of the property.
Mortgage-Backed Securities
The Funds’ investments in MBS are non-Agency MBS. Agency MBS refers to securities issued by the Federal Home Loan Mortgage Corporation, the Federal National Mortgage Association, and the Government National Mortgage Association. The Master Fund categorizes its investments in non-Agency MBS as “Level 3” fair value financial statement items due to the present lack of an active market for such securities.
Fair value of non-Agency MBS is estimated using broker indications of value. For indications of value received, the Investment Manager’s Capital Markets and Valuation staff review the price indications provided by non-affiliate brokers for completeness, accuracy and consistency across all similar bonds managed by the Investment Manager. Bond-level analytics such as yield, weighted average life and projected prepayment and default speeds of the underlying collateral are computed. The reasonableness of the brokers’ indications of value and of changes in value from period to period is evaluated in light of the analytical review performed and considering market conditions.
The review of the Capital Markets and Valuation staff is reported to the Investment Manager’s Valuation Committee as part of its review and approval of monthly valuation results. The Investment Manager has not and does not intend to adjust its fair value estimates to amounts different than the brokers’ indications of value.
The accompanying notes are an integral part of these financial statements.
PNMAC Mortgage Opportunity Fund, LP
Notes to Financial Statements
As of and for the Period from January 1, 2012 to June 30, 2012
(Unaudited)
The significant unobservable inputs used in the fair value measurement of the Master Fund’s MBS are discount rates, prepayment speeds, default speeds and loss severities in the event of default (or “collateral remaining loss percentage”). Significant changes in any of those inputs in isolation could result in a significant change in fair value measurement. Changes in these assumptions are not directly correlated, as they may be separately affected by changes in collateral characteristics and performance, servicer behavior, legal and regulatory actions, economic and housing market data and market sentiment.
Following is a quantitative summary of key assumptions used by the Investment Manager’s valuation staff to evaluate the reasonableness of the fair value of MBS:
| | | | | | |
| Subprime MBS | | Broker quote | | Discount rate | | 2.8% - 18.5% |
| | | | | | | (5.9)% |
| | | | | Prepayment speed (Life CPR) | | 0.1% - 4.2% |
| | | | | | | (1.6)% |
| | | | | Default speed (Life CDR) (2) | | 8.4% - 42.1% |
| | | | | | | (17.1)% |
| | | | | Collateral remaining loss percentage (3) | | 29.1% - 66.0% |
| | | | | | | (51.2)% |
| Jumbo MBS | | Broker quote | | Discount rate | | 1.6% - 1.6% |
| | | | | | | (1.6)% |
| | | | | Prepayment speed (Life CPR) | | 43.0% - 43.0% |
| | | | | | | (43.0)% |
| | | | | Default speed (Life CDR) (2) | | 0.2% - 0.2% |
| | | | | | | (0.2)% |
| | | | | Collateral remaining loss percentage (3) | | 0.1% - 0.1% |
| | | | | | | (0.1)% |
| (1) | Key inputs are those used to evaluate broker indications of value. |
| (2) | Default speed is measured using 1 year Constant Default Rate (“CDR”). |
| (3) | The projected future losses on the loans in the collateral groups paying to each bond as a percentage of the current balance of the loans. |
Securities Sold Under Agreements to Repurchase
Securities sold under agreements to repurchase are carried at the accrued cost of the agreements, which approximates fair value, due to the relatively short term nature of such contracts.
The Investment Manager incorporates lack of liquidity into its fair value estimates based on the type of asset or liability measured and the valuation method used. For example, for mortgage loans where the significant inputs have become unobservable due to illiquidity in the markets for distressed mortgage loans or non-Agency, non-conforming mortgage loans, a discounted cash flow technique is used to estimate fair value. This technique incorporates forecasting of expected cash flows discounted at an appropriate market discount rate that is intended to reflect the lack of liquidity in the market.
The accompanying notes are an integral part of these financial statements.
PNMAC Mortgage Opportunity Fund, LP
Notes to Financial Statements
As of and for the Period from January 1, 2012 to June 30, 2012
(Unaudited)
Note 4—Mortgage Investments
Following is a summary of the condensed balance sheet of the Master Fund’s investments in the Mortgage Investments as of June 30, 2012:
| | | PNMAC Mortgage Co. Funding, LLC | | | | | | PNMAC Mortgage Co. Funding II, LLC | | | PNMAC Mortgage Co (FI), LLC | |
| Assets: | | | | | | | | | | | | |
Cash and short-term investments | | $ | 346,937 | | | $ | 10,484,137 | | | $ | 1,672,317 | | | $ | - | |
Mortgage loans at fair value | | | 125,312,025 | | | | 78,649,160 | | | | 136,163,223 | | | | 27,662,165 | |
| Real estate acquired in settlement of loans at fair value | | | 10,792,967 | | | | 8,479,419 | | | | 17,157,057 | | | | 2,444,629 | |
Other assets | | | 6,945,119 | | | | 21,995,846 | | | | 6,649,952 | | | | 18,760,746 | |
| | | | 143,397,048 | | | | 119,608,562 | | | | 161,642,549 | | | | 48,867,540 | |
| Liabilities: | | | | | | | | | | | | | | | | |
Collateralized borrowings | | | 35,301,895 | | | | 15,474,764 | | | | 70,126,450 | | | | - | |
Other liabilities | | | 651,931 | | | | 1,278,882 | | | | 4,035,105 | | | | 38,967 | |
| | | | 35,953,826 | | | | 16,753,646 | | | | 74,161,555 | | | | 38,967 | |
| | | | | | | | | | | | | | | | | |
Members’ equity | | $ | 107,443,222 | | | $ | 102,854,916 | | | $ | 87,480,994 | | | $ | 48,828,572 | |
| | | | | | | | | | | | | | | | | |
| Master Fund's investment in Mortgage Investments at June 30, 2012 | | $ | 107,443,222 | | | $ | 102,854,916 | | | $ | 87,480,994 | | | $ | 32,691,388 | |
Following is a summary of distributions from the Mortgage Investments for the period ended June 30, 2012:
| | | Dividends | | | Return of capital | | | Distributions in-kind* | | | Total distributions | |
PNMAC Mortgage Co Funding, LLC | | $ | - | | | $ | 5,620,000 | | | $ | 84,720,266 | | | $ | 90,340,266 | |
PNMAC Mortgage Co., LLC | | | - | | | | 3,700,000 | | | | - | | | | 3,700,000 | |
PNMAC Mortgage Co Funding II, LLC | | | - | | | | - | | | | - | | | | - | |
PNMAC Mortgage Co (FI), LLC | | | 3,889,193 | | | | - | | | | - | | | | 3,889,193 | |
| | | $ | 3,889,193 | | | $ | 9,320,000 | | | $ | 84,720,266 | | | $ | 97,929,459 | |
*See “Note 10- Transactions with Affiliates” for further information on Distributions-In-Kind
The accompanying notes are an integral part of these financial statements.
PNMAC Mortgage Opportunity Fund, LP
Notes to Financial Statements
As of and for the Period from January 1, 2012 to June 30, 2012
(Unaudited)
Concentrations of Credit Risk
The Mortgage Investments have assumed a concentration of credit risk in connection with their investments in mortgage loans and real estate acquired in settlement of loans. The following is a summary of the distribution of loans included in the Mortgage Investments’ portfolios as measured by fair value at June 30, 2012 and represents the Master Fund’s proportionate interest in such assets:
| Loan Type | | Fair Value | | | % Partners’ Capital | | | Weighted Average Note Rate | |
| ARM/Hybrid | | $ | 180,169,471 | | | | 45.05 | % | | | 5.79 | % |
Fixed | | | 151,541,968 | | | | 37.89 | % | | | 6.14 | % |
Balloon | | | 3,247,152 | | | | 0.81 | % | | | 9.9 | % |
Step Rate | | | 32,771,174 | | | | 8.19 | % | | | 2.37 | % |
Other | | | 56,807 | | | | 0.01 | % | | | 7.00 | % |
Total Portfolio | | $ | 367,786,573 | | | | 91.96 | % | | | 5.64 | % |
Loan Age1 | | Fair Value | | | % Partners’ Capital | | | Weighted Average Note Rate | |
Less than 24 months | | $ | 503,615 | | | | 0.13 | % | | | 3.55 | % |
24 – 36 months | | | 1,623,214 | | | | 0.41 | % | | | 4.44 | % |
36 – 48 months | | | 5,384,535 | | | | 1.35 | % | | | 5.71 | % |
48 – 60 months | | | 105,610,873 | | | | 26.41 | % | | | 6.14 | % |
60 months or more | | | 254,664,335 | | | | 63.68 | % | | | 5.45 | % |
Total Portfolio | | $ | 367,786,573 | | | | 91.96 | % | | | 5.64 | % |
| Lien Position | | Fair Value | | | % Partners’ Capital | | | Weighted Average Note Rate | |
1st lien | | $ | 366,363,968 | | | | 91.61 | % | | | 5.55 | % |
2nd lien | | | 1,422,604 | | | | 0.36 | % | | | 7.77 | % |
Total Portfolio | | $ | 367,786,573 | | | | 91.96 | % | | | 5.64 | % |
Current Loan-to-Value2 | | Fair Value | | | % Partners’ Capital | | | Weighted Average Note Rate | |
| Less than 80 | | $ | 31,721,165 | | | | 7.93 | % | | | 6.16 | % |
| 80% - 99.99% | | | 48,149,507 | | | | 12.04 | % | | | 6.16 | % |
| 100% - 119.99% | | | 75,387,237 | | | | 18.85 | % | | | 5.85 | % |
| 120% or Greater | | | 212,528,664 | | | | 53.14 | % | | | 5.49 | % |
| Total Portfolio | | $ | 367,786,573 | | | | 91.96 | % | | | 5.64 | % |
The accompanying notes are an integral part of these financial statements.
PNMAC Mortgage Opportunity Fund, LP
Notes to Financial Statements
As of and for the Period from January 1, 2012 to June 30, 2012
(Unaudited)
| Payment Status | | Fair Value | | | % Partners’ Capital | | | Weighted Average Note Rate | |
Current3 | | $ | 120,834,878 | | | | 30.21 | % | | | 4.43 | % |
30 days delinquent | | | 21,178,541 | | | | 5.30 | % | | | 4.88 | % |
60 days delinquent | | | 14,179,697 | | | | 3.55 | % | | | 4.80 | % |
90 days or more delinquent | | | 57,280,960 | | | | 14.32 | % | | | 6.20 | % |
In Foreclosure4 | | | 154,312,497 | | | | 38.59 | % | | | 6.51 | % |
Total Portfolio | | $ | 367,786,573 | | | | 91.96 | % | | | 5.64 | % |
| | | | | | | | | | | | | |
1 Loan Age reflects the age of the loan as of June 30, 2012. |
2 Current Loan-to-Value measures the ratio of the current balance of the loan and all superior liens (“Loan”) to the estimate of the value of the property securing the liens (“Value”) as of June 30, 2012. |
3 Current loans include loans in and adhering to a forbearance plan as of June 30, 2012. |
4 Loans “In Foreclosure” include loans for which foreclosure proceedings had begun, but for which ownership had not yet been transferred as of June 30, 2012. This category does not include real estate acquired in settlement of loans. |
Following is a summary of the distribution of real estate acquired in settlement of loans:
| Geographic Distribution | | Fair value | | | % Partners’ capital | | |
| California | | $ | 13,838,689 | | | | 3.46 | % | |
| Florida | | | 3,484,469 | | | | 0.87 | % | |
| Maryland | | | 2,174,248 | | | | 0.54 | % | |
| Texas | | | 1,663,604 | | | | 0.42 | % | |
| Virginia | | | 1,424,375 | | | | 0.36 | % | |
| Other | | | 16,288,686 | | | | 4.07 | % | |
| Total Portfolio | | $ | 38,874,072 | | | | 9.72 | % | |
Note 5 – Mortgage-Backed Securities
Following is a summary of mortgage-backed securities held by the Master Fund as of June 30, 2012:
| | | | | Credit rating |
| | | | | | | | | | A | | | | | | | B | | | | | | | | | | | |
| Security collateral type: | | | | | | | | | | | | | | | | | | | | | | | | | | | |
Non-Agency subprime | | | 203,221,374 | | | | - | | | | 3,470,436 | | | | 65,571,727 | | | | 9,803,507 | | | | 33,030,886 | | | | 17,647,140 | | | | 73,697,678 | | |
Jumbo | | | 2,389,291 | | | | 2,389,291 | | | | - | | | | - | | | | - | | | | - | | | | - | | | | - | | |
Total | | $ | 205,610,665 | | | $ | 2,389,291 | | | $ | 3,470,436 | | | $ | 65,571,727 | | | $ | 9,803,507 | | | $ | 33,030,886 | | | $ | 17,647,140 | | | $ | 73,697,678 | | |
Mortgage-backed securities with an estimated fair value of $188,243,860 are pledged to secure securities sold under agreements to repurchase as of June 30, 2012.
The accompanying notes are an integral part of these financial statements.
PNMAC Mortgage Opportunity Fund, LP
Notes to Financial Statements
As of and for the Period from January 1, 2012 to June 30, 2012
(Unaudited)
Note 6 – Securities Sold Under Agreements to Repurchase
During the period ended June 30, 2012, the Master Fund entered into short-term financing arrangements to sell certain of its investment securities under agreements to repurchase (“repurchase agreements”). The repurchase agreements are collateralized by certain of the Master Fund’s mortgage-backed securities. All securities underlying repurchase agreements are delivered to the counterparty during the period they are outstanding. All agreements are to repurchase the same or substantially identical securities.
Financial data pertaining to securities sold under agreements to repurchase were as follows for the period ended June 30, 2012:
| Weighted-average interest rate at end of period | | | 1.34 | % |
| Weighted-average interest rate during the period | | | 1.12 | % |
| Average balance of securities sold under agreements to repurchase | | $ | 153,306,100 | |
| Maximum daily amount outstanding | | $ | 162,213,300 | |
| Total interest expense | | $ | 1,054,132 | |
| Fair value of MBS securing agreements to repurchase at period-end | | $ | 188,243,860 | |
Scheduled maturities of securities sold under agreements to repurchase were as follows for the period ended June 30, 2012:
| | | | | | | |
Due within 30 days | | $ | 149,569,700 | | | | 1.0%- 2.0 | % |
After 30 days but within 90 days | | | 7,566,100 | | | | 1.75 | % |
After 90 days but within 180 days | | | - | | | | - | |
After 180 days but within one year | | | - | | | | - | |
Total securities sold under agreements to repurchase | | $ | 157,135,800 | | | | 1.0%- 2.0 | % |
The amount at risk (the fair value of the securities pledged plus the related margin deposit, less the amount advanced by the counterparty and accrued interest) relating to the Master Fund’s securities sold under agreements to repurchase is summarized by counterparty below as of June 30, 2012:
| | | | Weighted-average maturity |
Credit Suisse, LLC | | $ | 14,853,032 | | July 30, 2012 |
Wells Fargo Securities, LLC | | $ | 21,088,292 | | Aug 1, 2012 |
The Fund is subject to margin calls during the period the agreements are outstanding and therefore may be required to repay a portion of the borrowings before the respective agreements mature if the value of the MBS or mortgage loans securing those agreements decreases.
Margin deposits held by repurchase agreement counterparties in connection to these repurchase agreements amounted to $4,950,000 and are included on the statement of assets and liabilities of the Master Fund.
The accompanying notes are an integral part of these financial statements.
PNMAC Mortgage Opportunity Fund, LP
Notes to Financial Statements
As of and for the Period from January 1, 2012 to June 30, 2012
(Unaudited)
Note 7—Investment Transactions
For the period ended June 30, 2012, the Master Fund purchased investments for $134,730,664, comprised of $33,302,785 of MBS, $87,613 of additional contributions to PNMAC Mortgage Co (FI), LLC, $15,000,000 of contributions to PNMAC Mortgage Co., LLC, and $86,340,266 in contributions to PNMAC Mortgage Co, Funding II, LLC (of which $84,720,266 were non-cash). the Master Fund received distributions form its investments of $97,929,459, comprised of $3,889,193 from PNMAC Mortgage Co (FI), LLC, $3,700,000 from PNMAC Mortgage Co., LLC, and $90,340,266 from PNMAC Mortgage Co, Funding, LLC (of which $84,720,266 were non-cash).
Note 8—Investment Advisory, Administration and Custodian Fees
The Master Fund entered into an Investment Management Agreement with PNMAC Capital Management, LLC. Under the terms of the agreement, the Master Fund will pay the Investment Manager a fee equal to an annual rate of 1.5% on capital commitments until December 31, 2011, and thereafter a fee equal to an annual rate of 1.5% of the Master Fund’s net asset value so long as the fee does not exceed 1.5% of the aggregate capital contributions to the Master Fund. The General Partner is not charged a management fee. The only expenses charged to the General Partner are those specifically relating to it.
Investment advisory fees for the period ended June 30, 2012 were $2,808,897. Of this amount, $1,404,604 was payable to the Investment Manager at period-end.
The Master Fund has engaged U.S. Bancorp Fund Services, LLC to serve as the Master Fund's administrator, fund accountant, transfer agent, and dividend paying agent. The Master Fund pays the administrator a monthly fee computed at an annual rate of 0.04% of the first $1,000,000,000 of the Master Fund's total monthly net assets, 0.03% on the next $1,000,000,000 of the Master Fund's total monthly net assets, and 0.02% on the balance of the Master Fund's total monthly net assets subject to an annual minimum fee of $180,000. The administration expense for the period ended June 30, 2012 was $95,839.
The Master Fund and an affiliated fund have engaged U.S. Bank, N.A. to provide mortgage loan accounting for the mortgage loans held in the mortgage subsidiaries. The Master Fund and an affiliated fund pay U.S. Bank, N.A. a monthly fee computed at an annual rate of 0.9% of assets subject to an annual minimum fee of $20,000. The loan accounting fee charged to the Master Fund for the period ended June 30, 2012 was $30,295.
U.S. Bank, N.A. serves as the Master Fund's custodian. The Master Fund pays the custodian a monthly fee computed at an annual rate of 0.01% on the Master Fund's average daily market value subject to an annual minimum fee of $4,800. Custody fees charged to the Master Fund for the period ended June 30, 2012 were $10,806.
Note 9—Directors and Officers
The Master Fund’s board of directors has overall responsibility for monitoring and overseeing the investment program of the Master Fund and its management and operations. The Fund and Master Fund share the same board of directors. All directors’ fees and expenses are paid by the Master Fund. On May 30, 2012, the fees payable to the independent directors were modified effective January 1, 2012, to provide the independent directors an annual retainer of $64,800 and a fee per meeting of the board of directors or committees of $2,000, subject to a cap of $15,000 per year for all non-regularly-scheduled meetings, along with a one-time lump sum payment of $12,000 as compensation for additional meetings during the last quarter of 2011 and first quarter of 2012. The audit committee chair receives an annual retainer of $10,000 in addition to the amounts above. Directors are reimbursed by the Master Fund for their travel expenses related to board meetings. The total director fees and expenses incurred for the period ended June 30, 2012 were $153,369. Of this amount, none was payable at period-end.
The accompanying notes are an integral part of these financial statements.
PNMAC Mortgage Opportunity Fund, LP
Notes to Financial Statements
As of and for the Period from January 1, 2012 to June 30, 2012
(Unaudited)
One of the directors is an officer of the advisor and the Master Fund and receives no compensation from the Master Fund for serving as a Director.
Certain officers of the Master Fund are affiliated with the Investment Manager. Such officers receive no compensation from the Master Fund for serving in their respective roles.
Note 10—Transactions with Affiliates
As of June 30, 2012, the receivable from affiliate of $443,535 represents servicing advances due from a sub-servicer. The Investment Manager is a wholly owned subsidiary of Private National Mortgage Acceptance Company, LLC.
A distribution of mortgage loans at a cost of $157,273,233 and fair value of $163,568,722 was received from PNMAC Mortgage Co. Funding, LLC, and subsequently contributed to PNMAC Mortgage Co. Funding II, LLC. A distribution of mortgage backed securities payable at a cost of $78,808,472 and fair value of $80,256,529 were also received from PNMAC Mortgage Co. Funding, LLC, and subsequently contributed to PNMAC Mortgage Co. Funding II, LLC. In addition, the reserve account relating to the securities was also transferred from PNMAC Mortgage Co. Funding, LLC to the Master Fund, and then subsequently contributed to PNMAC Mortgage Co. Funding II, LLC at a cost and fair value of $1,408,073.
During the period ended June 30, 2012, the Master Fund received dividends from PNMAC Mortgage Co. F(I), LLC of $3,889,193, and return of capital distributions from PNMAC Mortgage Co., LLC and PNMAC Mortgage Co. Funding, LLC of $3,700,000 and $5,620,000, respectively.
As of June 30, 2012, $25,920,850 in carried interest has been accrued and reallocated from the limited partners’ capital account to the general partner’s capital account of which $1,448,230 was allocated in the period ended June 30, 2012 (as described in Note 2).
The Master Fund incurred management fees of $2,808,897 during the period from January 1 through June 30, 2012, of which $1,404,604 was payable to PNMAC Capital Management, LLC at period end.
PennyMac Loan Services, LLC acts as the principal mortgage servicer for all mortgages owned by the Mortgage Investments. PennyMac Loan Services, LLC is a wholly owned subsidiary of Private National Mortgage Acceptance Company, LLC. The servicing agreement with the Mortgage Investments generally provides for servicing fees of 50 to 100 basis points of unpaid principal balance per year, depending on the type and quality of the loans being serviced, plus other specified fees and charges. The servicing arrangement also requires that PennyMac Loan Services, LLC will rebate to the Mortgage Investments an amount equal to the cumulative profit, if any, of the servicing operations attributable to the Mortgage Investments, and conversely, charge the Mortgage Investments if a loss has been incurred in order to effect overall “at cost” pricing with respect to loan servicing activities for such assets. Total servicing expense charged by PennyMac Loan Services to the Mortgage Investments before such waiver amounted to $2,054,704 for the period ended June 30, 2012. Total servicing expense after the rebate was reduced to $1,601,698 for the period ended June 30, 2012.
The accompanying notes are an integral part of these financial statements.
PNMAC Mortgage Opportunity Fund, LP
Notes to Financial Statements
As of and for the Period from January 1, 2012 to June 30, 2012
The Master Fund’s short-term investment, the BlackRock Liquidity Funds: TempFund Institutional Shares, is managed by BlackRock Institutional Management Corporation which is a wholly owned subsidiary of BlackRock, Inc. BlackRock Inc. is an affiliate of the Master Fund. For the period ended June 30, 2012, the Master Fund received $17,562 of dividend income from this short-term investment.
Note 11—Risk Factors
The Master Fund’s investment activities expose it to various types and degrees of risk associated with the financial instruments and markets in which it invests.
Investments in mortgage-backed securities and mortgage loans have exposure to risk that includes interest rate risk, market risk, and default risk (the potential non-payment of principal and interest, including default or bankruptcy of the issuer or the intermediary in the case of a mortgage loan participation). Mortgage loans are also subject to prepayment risk, which will affect the maturity of, and yield on, such investments and any mortgage-backed securities into which such mortgage loans have been securitized.
Investments in real estate acquired in settlement of loans are also subject to various risk factors. Generally, real estate investments could be adversely affected by a recession, natural disaster or general economic downturn in the area where the properties are located as well as the availability of similar properties in such area. Real estate investment performance is also subject to the effectiveness of a particular property manager in managing the property.
The Master Fund is indirectly subject to interest rate risk. Interest rate risk is the risk that investments in loans held by the Mortgage Investments will decline in value because of changes in market interest rates. Investments in mortgage loans with long-term maturities may experience significant decreases in value if long-term interest rates increase.
Market risk represents the potential loss in value of financial instruments caused by movements in market factors including, but not limited to, market liquidity, investor sentiment, interest rates and foreign exchange rates. The Master Fund’s portfolio includes certain investments that are generally illiquid and have a greater amount of market risk than more liquid investments. These investments may trade in limited markets or have restrictions on resale or transfer and may not be able to be liquidated on demand if needed. The value assigned to these investments may differ significantly from the values that could be realized upon liquidation or that would have been used had a ready market existed. Such differences could be material to the financial statements.
Adverse changes in economic conditions are more likely to lead to a weakened capacity of borrowers to make principal payments and interest payments. An economic downturn could severely affect the ability of highly leveraged borrowers to service their debt obligations or to repay their obligations. Under adverse market or economic conditions, the secondary market could contract further as well, increasing the illiquid nature of the loans. As a result, the Mortgage Investments could find it more difficult to sell loans or may be able to sell only at prices lower than if such investments were widely traded.
An investment in the Master Fund is subject to investment risk, including the possible loss of the entire principal invested. An investment in the Master Fund represents an indirect investment in the loans held by the Mortgage Investments. The value, like other market investments, may move up or down, sometimes rapidly and unpredictably. An investment in the Master Fund at any point in time may be worth less than the original investment. Investment values can fluctuate for several reasons including the general condition of the mortgage market or when political or economic events affecting the issuers occur.
The accompanying notes are an integral part of these financial statements.
PNMAC Mortgage Opportunity Fund, LP
Notes to Financial Statements
As of and for the Period from January 1, 2012 to June 30, 2012
(Unaudited)
As part of its investment strategy, the Master Fund may utilize borrowings. Master Fund investments may also use borrowings in the ordinary course of their operations. The use of borrowings, and the Master Fund’s ability to service the debt and comply with all of the covenants relating to such borrowings, may materially affect the operations of the Master Fund or its investments, and thus its ultimate value. Financing may not always be available on acceptable terms, in the necessary amounts, or for the period needed. This could have a material negative impact on the performance of the Master Fund.
The Master Fund clears substantially all of its investment purchases and sales and maintains substantially all of its investments and cash positions at U.S. Bank, N.A. Credit risk is measured by the loss the Master Fund would record if U.S. Bank, N.A. failed to perform pursuant to the terms of its obligations.
Due to the nature of the master fund/feeder fund structure, the Master Fund could be materially affected by subscription or redemption activity.
In light of financial market events that occurred from 2007-2009 and the United States government’s involvement in supporting the financial markets, it is reasonably possible that the investment management industry will be subject to future regulation. The effect of potential regulation may have a negative impact on the ability to unwind the investments of the Master Fund and Mortgage Investments, but such effect is not quantifiable.
Note 12—Subsequent Events
Management has evaluated all events or transactions through August 29, 2012, the date the Master Fund issued these financial statements. During this period, the Master Fund received dividends from a related party in the amount of $1,001,459, returns of capital from its investments in the mortgage companies totaling $3,000,000, and made distributions to its limited partners of $469,470. After June 30, 2012 through the date of this report, all securities sold under agreements to repurchase have been repurchased and refinanced through the resale under subsequent agreements to repurchase. Three additional securities have also been sold under agreements to repurchase
***
The accompanying notes are an integral part of these financial statements.
PNMAC Mortgage Opportunity Fund, LP
Additional Information
Form N-Q
The Master Fund files its complete schedule of portfolio holdings for the first, second and third quarters of each fiscal year with the SEC on Form N-Q. The Master Fund’s Form N-Q is available without charge by visiting the SEC’s Website at www.sec.gov and may be reviewed and copied at the SEC’s Public Reference Room in Washington D.C. You may obtain information on the operation of the Public Reference Room by calling (800) SEC-0330.
Proxy Voting
A description of the policies and procedures that the Master Fund uses to determine how to vote proxies relating to portfolio securities owned by the Master Fund and information regarding how the Master Fund voted proxies relating to the portfolio of securities are available to stockholders (i) without charge, upon request by calling the Master Fund collect at (818) 224-7442; and (ii) on the SEC’s Website at www.sec.gov.
Board of Directors
The Master Fund’s Form N-2 includes additional information about the Master Fund’s directors and is available upon request without charge by calling the Master Fund collect at (818) 224-7442 or by visiting the SEC’s Website at www.sec.gov.
Forward-Looking Statements
This report contains “forward-looking statements,'' which are based on current management expectations. Actual future results, however, may prove to be different from expectations. You can identify forward-looking statements by words such as “may,'' “will,'' “believe,'' “attempt,'' “seem,'' “think,'' “ought,'' “try,'' and other similar terms. The Master Fund cannot promise future returns. Management’s opinions are a reflection of its best judgment at the time this report is compiled, and it disclaims any obligation to update or alter forward-looking statements as a result of new information, future events, or otherwise.
Approval of Investment Management Agreement
On May 30, 2012, the Board of Directors of the Master Fund and the Fund (collectively, the “Funds”), including the “non-interested” Directors (the “Independent Directors”), met in person and voted to approve the continuance of the Investment Management Agreements (including the portions of the Master Fund’s partnership agreement referred to therein) with the Investment Manager for an additional year.
In considering whether to recommend approval of the Investment Management Agreements, the Independent Directors reviewed materials provided by the Investment Manager and counsel to the Independent Directors. The Independent Directors also met with senior personnel of the Investment Manager and discussed a number of topics affecting their determination, including the following:
(i) The nature, extent, and quality of services expected to be provided by the Investment Manager. The Independent Directors reviewed the services that the Investment Manager provided to the Funds since inception in August 2008 and are expected to continue to provide to the Funds. In addition, the Independent Directors considered the size, education, background, and experience of the Investment Manager’s staff, including the mortgage finance and capital markets experience of the Investment Manager’s senior management team. Lastly, the Independent Directors reviewed the Investment Manager’s ability to attract and retain quality and experienced personnel. The Independent Directors concluded that the scope of services provided since inception and expected to be provided by the Investment Manager to the Funds, and the experience and expertise of the personnel performing such services, was consistent with the nature, extent, and quality expected of an investment adviser of investment vehicles such as the Funds.
The accompanying notes are an integral part of these financial statements.
PNMAC Mortgage Opportunity Fund, LP
Additional Information
(ii) The investment performance of the Funds and the Investment Manager. The Independent Directors received information about the performance of the Funds and the Investment Manager in managing the Fund. The Directors also received performance information regarding the Funds compared to certain indexes, benchmarks, and/or registered and non-registered funds managed by other investment advisers that had somewhat comparable investment programs.
(iii) Cost of the services to be provided and profits to be realized by the Investment Manager and its affiliates from the relationship with the Funds. The Independent Directors considered the estimated cost of the services provided by the Investment Manager. As part of their analysis, the Independent Directors gave substantial consideration to the compensation payable to the Investment Manager. The Independent Directors noted that the compensation terms would remain the same. In reviewing the management compensation, the Independent Directors considered the management fees and operating expense ratios of other registered and non-registered funds managed by other investment advisers that had somewhat comparable investment programs. The Independent Directors also reviewed and took into account other relationships between the Funds and the Investment Manager and its related persons, including the shareholder servicing agreement between the Investment Manager and the Fund, the mortgage servicing agreements between the Master Fund and an affiliate of the Investment Manager, and a portfolio valuation agreement between the Fund and BlackRock, which has an investment in the Investment Manager’s parent company. The Independent Directors also considered the compensation charged by the Investment Manager to its other clients, and found such compensation arrangements were comparable. Finally, the Independent Directors took those other service agreements into account in the context of evaluating the profitability of the Investment Manager in respect of the overall relationship of the Investment Manager and its related persons to the Funds.
(iv) Economies of Scale. The Independent Directors also considered that possible economies of scale from future growth of the Funds were not relevant inasmuch as the Funds were closed to any new investment and had limited terms.
The Independent Directors had an opportunity to have Executive Session with counsel to the Independent Directors. During the course of their deliberations at the meeting on May 30, the Independent Directors thoroughly reviewed and evaluated the factors to be considered for approval of the Investment Management Agreements including, but not limited to: the expenses incurred in performance of services by the Investment Manager; the compensation to be received by the Investment Manager under the Investment Management Agreements; the fees charged by the Investment Manager’s peers; the past performance of the Investment Manager; and the range and quality of services provided by the Investment Manager.
The Independent Directors expressed satisfaction with the information provided at the meeting on May 30 and prior meetings, and acknowledged that they had received sufficient information to consider and approve the continuance of the Investment Management Agreements. No single factor was determinative to the decision of the Independent Directors. Rather, after weighing all of the reasons discussed above, the Independent Directors unanimously approved the continuance of the Investment Management Agreements.
The Independent Directors concluded that the compensation that the Investment Manager would receive under the Investment Management Agreements was reasonable.
The accompanying notes are an integral part of these financial statements.
