PennyMac Financial Services, Inc. (PFSI) Earnings

Management highlights

### Overall Financial Results - GAAP net income of $22 million ($0.41 diluted EPS) for Q2 2026, representing a 2% annualized return on equity. Adjusted EPS was $1.39, for a 7% annualized adjusted ROE, which missed management expectations due to higher interest rates, lower origination demand, and non-cash MSR valuation headwinds. - The company declared a Q2 2026 common share dividend of $0.30 per share. ### Technology Transformation Initiatives - Completed transition to a new consumer direct loan origination system, enabling rapid deployment of AI-powered process automation agents. - Launched a proprietary natural language virtual agent (NLVA) that handles 24/7 conversational voice interactions for inbound and outbound customer calls, improving customer engagement and retention. - Expanded strategic partnership with Amazon Web Services to accelerate the company's transformation into an AI-driven mortgage technology leader. - 150 discrete origination tasks have been standardized and mapped; 25% of these tasks are currently completed by automated/AI systems, with a target of 80% automation by the end of 2027. Current automation has already reduced processing costs, with an additional 20%+ cost reduction targeted by the end of Q3 2026, and 50%+ total origination cost reduction targeted long-term. - Automation has cut loan processing cycle times by 40-80% for programs with deployed AI agents, reducing fallout, enabling more profitable pricing through shorter lock windows, and improving borrower experience. The company is beginning to roll out automation to the BrokerDirect channel. ### Operational Momentum - Conventional first lien refinance recapture rates increased 7 percentage points QoQ to 29%, and government first lien refinance recapture rates increased 9 percentage points QoQ to 59%. Conventional refinance volumes are up nearly 3x YoY, and government refinance volumes have more than doubled YoY, driven by higher recapture rates. As of Q2 end, the company serviced $343 billion in UPB of loans with note rates above 5%, over half of which have note rates above 6%, creating large upside recapture potential if rates decline. - The acquisition/onboarding of the Cenlar subservicing portfolio remains on track to close in Q4 2026. PennyMac's 2025 direct servicing expense per loan was $89, 8% lower than 2024, and far below the large IMB average of $133 and industry average of $185, even with a higher concentration of higher-cost complex government loans. - PennyMac maintained its leading market position in correspondent lending. BrokerDirect continues to gain market share, with the number of active approved brokers growing, and non-QM product adoption increasing rapidly. ### Cost Structure Alignment - Management executed targeted cost reductions in July 2026 to align capacity and expense with current smaller origination market size driven by high interest rates. These reductions are expected to generate $60 million in annualized cost savings, beginning in Q3 2026. The company's technology investments allow it to cut costs while preserving operational capacity to scale back up when mortgage demand increases.

Guidance

- Adjusted return on equity is expected to remain in the high single digits through the end of 2026, as the company reduces its expense base to align with current market conditions. - The company maintains a long-term target of mid-teens adjusted ROEs, with the timeline for reaching this target pushed back to the end of 2027 from the prior target of end of 2026. ROE is expected to grind higher from high single-digit/low double-digit levels at the end of 2026 to mid-teens by the end of 2027, even if interest rates remain at current high levels; a decline in rates would accelerate this timeline. - The long-term normalized ROE target of high teens to low 20s remains in place, supported by structural cost reductions from AI and automation. - The 10% BrokerDirect market share target previously set for end of 2026 is no longer attainable; the company will pursue profitable, disciplined share growth and expects to reach the target after full AI deployment in the channel in mid-2027. - Technology investment expenses have started declining and are expected to continue trending lower as AI tools reduce development costs. - Leverage ratios are expected to remain near current levels (3.6x total debt to equity, 1.8x non-funding debt to equity) while interest rates remain elevated.

Segment performance

Production Segment: Pre-tax income was $38 million, down from $134 million in Q1 2026 and $58 million in Q2 2025. Total origination volume was $35 billion UPB, down 6% quarter-over-quarter and 8% year-over-year. Of this volume, $32 billion was for PennyMac's own account, and $3 billion was fee-based fulfillment. Correspondent lending contributed the largest share of production revenue, with margins of 29 basis points (up 1 basis point from Q1 2026) due to a mix shift toward higher-margin government loans; revenue contribution was down $9 million QoQ. BrokerDirect revenue contribution was down $3 million QoQ, with lock volumes down 8% QoQ but up 21% YoY on market share gains, and margins up to 104 basis points from 99 basis points QoQ. Non-QM lock volume in BrokerDirect tripled QoQ to $515 million UPB. Consumer Direct revenue contribution declined $36 million QoQ due to lower refinance demand from higher rates, with lock volumes down 32% QoQ, and margins up to 317 basis points from 267 basis points QoQ due to increased closed-end second lien production. Post-lock cross-channel impacts resulted in a $23 million pre-tax loss, compared to a $13 million pre-tax gain in Q1 2026. Servicing Segment: Total servicing portfolio UPB ended the quarter at $731 billion, up 1% QoQ and 4% YoY, as new originations offset prepayment runoff. Pre-tax income (including valuation changes) was $22 million; excluding valuation impacts, pre-tax income was $99 million (5.5 basis points of average servicing UPB), up from $57 million (3.1 basis points) in Q1 2026. Average custodial deposit balances increased 7% QoQ, driving a $14 million increase in custodial earnings. Operating expenses came in at 4.2 basis points of average servicing UPB ($76 million), lower than prior quarters. EBO activity income increased on higher buyout and redelivery volumes. Corporate and Other: Recorded a pre-tax loss of $29 million, an improvement from a $42 million pre-tax loss in Q1 2026, as Q1 2026 included elevated marketing expenses for the Olympic and Paralympic Winter Games.

Risks & headwinds

- Elevated interest rate volatility increases hedge costs for MSR hedging programs, as seen in Q2 2026 when hedge costs totaled $52 million (up from $14 million in Q1 2026) driven by higher implied option volatility and required portfolio rebalancing. A divergence between implied and realized volatility, combined with widening agency MBS spreads as rates rose, magnified negative convexity and pushed hedge costs higher in Q2. As of Q3 2026 to date, hedge costs have moderated to the mid-single-digit millions of dollars per quarter, but future volatility could increase costs again. - High current interest rates have suppressed origination and refinance demand, reducing near-term revenue and profitability. While the company has aligned costs to current conditions, extended high rates would delay ROE growth targets. - Intense competition in the correspondent lending channel, including aggressive pricing from GSE cash windows and irrational pricing from some other market participants, has led to volume declines. Continued aggressive competition could pressure future margins and volumes. - FHA policy changes requiring trial payments for loan modifications have reduced modification and EBO volume, which will dampen EBO-related earnings in the second half of 2026. All future growth in EBO earnings is dependent on market rate changes.

Analyst Q&A

• Q: How is PennyMac balancing near-term cost cuts with preserving enough capacity to handle a future drop in rates that would boost origination demand, after being caught short on capacity last year?

  A: The company's large technology investments have created built-in excess capacity that allows it to cut labor costs now without sacrificing future scalability. The $60 million in annualized cost cuts are possible because AI automation has reduced the labor required for existing volumes, making the excess capacity added at the end of 2025 unnecessary. The ongoing improvements in recapture rates are expected to hold even as the market expands when rates decline, supporting strong upside.

• Q: The previous target of returning to low-mid teens ROE by end of 2026 has been pushed out. What is the expected ROE trajectory for 2027, and what is driving the step-up?

  A: ROE is expected to exit 2026 at high single digits to low double digits, and step up to mid-teens by the end of 2027 even if rates do not decline. Key drivers of the step-up include full deployment of AI automation to the BrokerDirect channel by mid-2027, onboarding of the Cenlar subservicing portfolio and realization of its associated cost efficiencies, and continued structural cost reductions in the Consumer Direct channel. A rate decline would only accelerate this growth.

• Q: How is the MSR hedging program performing in Q3 2026 to date, after the elevated hedge costs in Q2, amid continued rate volatility?

  A: Hedging performance has been much more stable in Q3, with hedge costs running at a significantly lower level than in Q2. The company adjusted its hedging rebalancing practices to reduce costs after the elevated volatility-driven expenses in Q2, and these adjustments have been successful in lowering the cost run rate even amid recent upticks in volatility. The hedge program remains near 100% coverage to preserve book value and manage prepayment risk.

• Q: What is the upside potential for recapture rates after all technology improvements are fully deployed, and what is your long-term target?

  A: The company's goal is to recapture every eligible refinanceable loan from its servicing portfolio. AI tools are allowing for meaningful continuous improvement in recapture rates by enabling faster, cheaper loan closing, which creates a major competitive advantage. For example, the company is targeting 14-day closing for VA IRRRL loans, compared to the 34-day industry average, which will further boost recapture rates as this capability scales.