10-K 1 mfa-123113x10k.htm 10-K MFA-12.31.13-10K


 
UNITED STATES SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
 
FORM 10-K

x  ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
  
 For the fiscal year ended December 31, 2013
  
OR
o  TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

 For the transition period from                              to                             
Commission File Number: 1-13991
MFA FINANCIAL, INC.
(Exact name of registrant as specified in its charter) 
 
Maryland
(State or other jurisdiction of
incorporation or organization)
 
13-3974868
(I.R.S. Employer
Identification No.)
 
 
 
350 Park Avenue, 20th Floor, New York, New York
(Address of principal executive offices)
 
10022
(Zip Code)
(212) 207-6400
(Registrant’s telephone number, including area code)
 
Securities registered pursuant to Section 12(b) of the Act:
Title of Each Class
 
Name of Each Exchange on Which Registered
Common Stock, par value $0.01 per share
 
New York Stock Exchange
 
 
 
7.50% Series B Cumulative Redeemable
Preferred Stock, par value $0.01 per share
 
New York Stock Exchange
 
 
 
8.00% Senior Notes due 2042
 
New York Stock Exchange
 
Securities registered pursuant to Section 12(g) of the Act:  None
 
Indicate by check mark if the registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act.  Yes  x  No  o
 
Indicate by check mark if the registrant is not required to file reports pursuant to Section 13 or Section 15(d) of the Exchange Act.  Yes  o  No  x
 
Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.  Yes  x  No  o
 
Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).  Yes  x  No  o
 
Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K is not contained herein, and will not be contained, to the best of the registrant’s knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K.  o

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer or a smaller reporting company.  See the definitions of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act.
Large accelerated filer  x
 
Accelerated filer  o
Non-accelerated filer  o
 
Smaller reporting company  o
 
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).  Yes  o  No  x
 
On June 28, 2013, the aggregate market value of the registrant’s common stock held by non-affiliates of the registrant was $3.05 billion based on the closing sales price of our common stock on such date as reported on the New York Stock Exchange.
 
On February 7, 2014, the registrant had a total of 366,638,568 shares of Common Stock outstanding.
 
DOCUMENTS INCORPORATED BY REFERENCE

Portions of the registrant’s proxy statement to be filed with the Securities and Exchange Commission in connection with the Annual Meeting of Stockholders scheduled to be held on or about May 21, 2014, are incorporated by reference into Part III of this Annual Report on Form 10-K.
 



TABLE OF CONTENTS
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
CAUTIONARY STATEMENT — This Annual Report on Form 10-K includes “forward-looking” statements within the Private Securities Litigation Reform Act of 1995.  These forward-looking statements include information about possible or assumed future results with respect to the Company’s business, financial condition, liquidity, results of operations, plans and objectives.  You can identify forward-looking statements by such words as “will,” “believe,” expect,” “anticipate,” “estimate,” “plan,” “continue,” “intend,” “should,” “could,” “would,” “may” or similar expressions.  We caution that any such forward-looking statements made by us are not guarantees of future performance and that actual results may differ materially from these forward-looking statements.  We discuss certain factors that affect our business and that may cause our actual results to differ materially from these forward-looking statements under “Item 1A. Risk Factors” of this Annual Report on Form 10-K.  You are cautioned not to place undue reliance on these forward-looking statements, which speak only as of the date on which they are made.  We undertake no obligation to update or revise any forward-looking statements.




In this Annual Report on Form 10-K, references to “we,” “us,” “our” or “the Company” refer to MFA Financial, Inc. and its subsidiaries unless specifically stated otherwise or the context otherwise indicates.  The following defines certain of the commonly used terms in this Annual Report on Form 10-K:  MBS refers to mortgage-backed securities secured by pools of residential mortgage loans; Agency MBS refers to MBS that are issued or guaranteed by a federally chartered corporation, such as Fannie Mae or Freddie Mac, or an agency of the U.S. Government, such as Ginnie Mae; Non-Agency MBS are residential MBS that are not guaranteed by any agency of the U.S. Government or any federally chartered corporation; Hybrids refer to hybrid mortgage loans that have interest rates that are fixed for a specified period of time and, thereafter, generally adjust annually to an increment over a specified interest rate index; ARMs refer to Hybrids and adjustable-rate mortgage loans which typically have interest rates that adjust annually to an increment over a specified interest rate index; ARM-MBS refers to residential MBS that are secured by ARMs; and Linked Transactions refer to Non-Agency MBS purchases which were financed with the same counterparty and are therefore considered linked for financial statement reporting purposes and are reported at fair value on a combined basis.

PART I

Item 1.  Business.
 
GENERAL
 
We are primarily engaged in the business of investing, on a leveraged basis, in residential Agency MBS and Non-Agency MBS.  Our principal business objective is to generate net income for distribution to our stockholders resulting from the difference between the interest and other income we earn on our investments and the interest expense we pay on the borrowings that we use to finance our leveraged investments and our operating costs.
 
We were incorporated in Maryland on July 24, 1997, and began operations on April 10, 1998.  We have elected to be taxed as a real estate investment trust (or REIT) for U.S. federal income tax purposes.  In order to maintain our qualification as a REIT, we must comply with a number of requirements under federal tax law, including that we must distribute at least 90% of our annual REIT taxable income to our stockholders.
 
INVESTMENT STRATEGY
 
Our operating policies require that at least 50% of our investment portfolio consist of Agency and Non-Agency MBS.  The remainder of our assets may consist of direct or indirect investments in: (i) other types of MBS and residential mortgage loans; (ii) other mortgage and real estate-related debt and equity; and (iii) other yield instruments (corporate or government), subject at all times to compliance with various asset and income tests to maintain our qualification as a REIT as well as our exemption from the Investment Company Act of 1940, as amended (or the Investment Company Act).
 
The mortgages collateralizing our MBS portfolio are predominantly Hybrids, ARMs and 15-year fixed-rate mortgages.  The Hybrids collateralizing our MBS typically have initial fixed-rate periods generally ranging from three to ten years.  After entering their adjustable rate period, interest rates for most of our ARM-MBS reset based on London Interbank Offered Rate (or LIBOR) and the one-year constant maturity treasury (or CMT) rate.  The mortgages collateralizing our ARM-MBS typically have interim and lifetime caps on interest rate adjustments.
 
The coupons earned on ARM-MBS adjust over time as interest rates change, typically after an initial fixed-rate period. Because the interest rates on ARM-MBS adjust, the market values of these assets are generally less sensitive to changes in interest rates than are fixed-rate MBS.  Furthermore, 15-year fixed-rate mortgages amortize according to a 15-year amortization schedule and have a 15-year final maturity. Due to their accelerated amortization and shorter final maturity, these assets are generally less sensitive to changes in long-term interest rates as compared to mortgages with a longer final maturity, such as 30-year mortgages.  In order to mitigate our interest rate risks, our strategy is to maintain a majority of our portfolio in ARM-MBS and 15-year fixed rate MBS.
 
While the majority of our portfolio holdings remain in Agency MBS, as part of our investment strategy a significant portion of our portfolio is invested in Non-Agency MBS.  By blending Non-Agency MBS with Agency MBS, we seek to generate attractive returns with less sensitivity to changes in the yield curve, interest rate cycles and prepayments.


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Non-Agency MBS Portfolio
 
Our Non-Agency MBS have been acquired primarily at discounts to face/par value.  A portion of the purchase discount on substantially all of our Non-Agency MBS is designated as a non-accretable purchase discount (or Credit Reserve), which effectively mitigates our risk of loss on the mortgages collateralizing such MBS and is not expected to be accreted into interest income.  The portion of the purchase discount that is not designated as credit reserve is accreted into interest income over the life of the security.  Yields on Non-Agency MBS, unlike Agency MBS, will exhibit sensitivity to changes in credit performance.  The extent to which our yield on Non-Agency MBS is impacted by the accretion of purchase discounts will vary over time by security, based upon the amount of purchase discount, the actual credit performance, and conditional prepayment rate (or CPR) experienced on each MBS.
 
FINANCING STRATEGY
 
Our financing strategy is designed to increase the size of our MBS portfolio by borrowing against a substantial portion of the market value of the MBS in our portfolio.  We primarily use repurchase agreements to finance the acquisition of our Agency MBS and repurchase agreements and securitized debt to finance the acquisition of our Non-Agency MBS.  We enter into interest rate derivatives to hedge the interest rate risk associated with a portion of our repurchase agreement borrowings and securitized debt. 
 
Repurchase agreements, although legally structured as a sale and repurchase obligation, are financing contracts (i.e., borrowings) under which we pledge our MBS as collateral to secure loans with repurchase agreement counterparties (i.e., lenders).  The amount borrowed under a repurchase agreement is limited to a specified percentage of the fair value of the MBS pledged as collateral.  The portion of the pledged collateral held by the lender in excess of the amount borrowed under the repurchase agreement is the margin requirement for that borrowing.  Repurchase agreements involve the transfer of the pledged collateral to a lender at an agreed upon price in exchange for such lender’s simultaneous agreement to return the same security back to the borrower at a future date (i.e., the maturity of the borrowing) at a higher price.  The difference between the original transfer price and return price is the cost, or interest expense, of borrowing under a repurchase agreement.  Our cost of borrowings under repurchase agreements is generally LIBOR based.  Under our repurchase agreements, we retain beneficial ownership of the pledged collateral and continue to receive principal and interest payments, while the lender maintains custody of such collateral.  At the maturity of a repurchase financing, unless the repurchase financing is renewed with the same counterparty, we are required to repay the loan including any accrued interest and concurrently reacquire custody of the pledged collateral or, with the consent of the lender, we may renew the repurchase financing at the then prevailing market interest rate and terms.  Margin calls pursuant to which a lender may require that we pledge additional securities and/or cash as collateral to secure our borrowings under repurchase financing with such lender, are routinely experienced by us, when the fair value of our existing pledged collateral declines as a result of principal amortization and prepayments or due to changes in market interest rates, spreads or other market conditions.  We also may make margin calls on counterparties when collateral values increase.  To date, we have satisfied all of our margin calls and have never sold assets in response to any margin calls.
 
In order to reduce our exposure to counterparty-related risk, we generally seek to enter into repurchase agreements and other financing arrangements, including but not limited to, resecuritizations, collateralized financing arrangements and other structured financings and derivatives, with a diversified group of financial institutions.  At December 31, 2013, we had outstanding balances under repurchase agreements with 26 separate lenders.
 
We have engaged in and may engage in future resecuritization transactions.  The objective of such a transaction may include obtaining permanent non-recourse financing, obtaining liquidity or financing the underlying securitized financial assets on improved terms.  For financial statement reporting purposes, we will generally account for such transactions as a financing of the underlying MBS.  (See Note 15 to the consolidated financial statements included under Item 8 of this Annual Report on Form 10-K.)
 
In addition to repurchase agreements, securitized debt and 8% Senior Notes due 2042 (or Senior Notes), we may also use other sources of funding in the future to finance our MBS portfolio, including, but not limited to, other types of collateralized borrowings, loan agreements, lines of credit, commercial paper or the issuance of debt securities.


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COMPETITION

We operate in the mortgage-REIT industry.  We believe that our principal competitors in the business of acquiring and holding MBS of the types in which we invest are financial institutions, such as banks, savings and loan institutions, life insurance companies, institutional investors, including mutual funds and pension funds, hedge funds, other mortgage-REITs as well as the U.S. Federal Reserve as part of its monetary policy activities.  Some of these entities may not be subject to the same regulatory constraints (i.e., REIT compliance or maintaining an exemption under the Investment Company Act) as us.  In addition, many of these entities have greater financial resources and access to capital than us.  The existence of these entities, as well as the possibility of additional entities forming in the future, may increase the competition for the acquisition of MBS, resulting in higher prices and lower yields on such assets.
 
EMPLOYEES
 
At December 31, 2013, we had 40 employees, all of whom were full-time.  We believe that our relationship with our employees is good.  None of our employees is unionized or represented under a collective bargaining agreement.
 
AVAILABLE INFORMATION
 
We maintain a Web site at www.mfafinancial.com.  We make available, free of charge, on our Web site our (a) Annual Report on Form 10-K, Quarterly Reports on Form 10-Q and Current Reports on Form 8-K (including any amendments thereto), proxy statements and other information (or, collectively, the Company Documents) filed with, or furnished to, the Securities and Exchange Commission (or SEC), as soon as reasonably practicable after such documents are so filed or furnished, (b) Corporate Governance Guidelines, (c) Code of Business Conduct and Ethics and (d) written charters of the Audit Committee, Compensation Committee and Nominating and Corporate Governance Committee of our Board of Directors (or our Board).  Our Company Documents filed with, or furnished to, the SEC are also available at the SEC’s Web site at www.sec.gov.  We also provide copies of the foregoing materials, free of charge, to stockholders who request them.  Requests should be directed to the attention of our General Counsel at MFA Financial, Inc., 350 Park Avenue, 20th Floor, New York, New York 10022.


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Item 1A.  Risk Factors.
 
This section highlights specific risks that could affect our Company and its businesses. Readers should carefully consider each of the following risks and all of the other information set forth in this Annual Report on Form 10-K.  Based on the information currently known to us, we believe the following information identifies the most significant risk factors affecting our Company.  However, the risks and uncertainties our Company faces are not limited to those described below.  Additional risks and uncertainties not presently known to us or that we currently believe to be immaterial may also adversely affect our business.
 
If any of the following risks and uncertainties develops into actual events or if the circumstances described in the risks and uncertainties occur or continue to occur, these events or circumstances could have a material adverse effect on our business, financial condition, results of operations, cash flows or liquidity.  These events could also have a negative effect on the trading price of our securities.
 
General.
 
Our business and operations are affected by a number of factors, many of which are beyond our control, and primarily depend on, among other things, the level of our net interest income, the market value of our assets, the supply and demand for MBS, the availability of adequate financing, general economic and real estate conditions (both on national and local level), the impact of government actions in the real estate and mortgage sector, and the credit performance of our Non-Agency MBS.  Our net interest income varies primarily as a result of changes in interest rates, the slope of the yield curve (i.e., the differential between long-term and short-term interest rates), borrowing costs (i.e., our interest expense) and prepayment speeds on our MBS, the behavior of which involves various risks and uncertainties.  Interest rates and CPRs (which measure the amount of unscheduled principal payment on a bond as a percentage of the bond balance), vary according to the type of investment, conditions in the financial markets, competition and other factors, none of which can be predicted with any certainty.  Our operating results also depend upon our ability to effectively manage the risks associated with our business operations, including interest rate, prepayment, financing and credit risks, while maintaining our qualification as a REIT.
 
Risks Related to our Business, Assets and Use of Leverage
 
Prepayment rates on the mortgage loans underlying our MBS may materially adversely affect our profitability or result in liquidity shortfalls that could require us to sell assets in unfavorable market conditions.
 
The MBS that we acquire are secured by pools of mortgages on residential properties.  In general, the mortgages collateralizing our MBS may be prepaid at any time without penalty.  Prepayments on our MBS result when homeowners/mortgagees satisfy (i.e., pay off) the mortgage upon selling or refinancing their mortgaged property.  When we acquire a particular MBS, we anticipate that the underlying mortgage loans will prepay at a projected rate which, together with expected coupon income, provides us with an expected yield on such MBS.  If we purchase assets at a premium to par value, and borrowers prepay their mortgage loans faster than expected, the corresponding prepayments on the MBS may reduce the expected yield on such securities because we will have to amortize the related premium on an accelerated basis.  Conversely, if we purchase assets at a discount to par value, when borrowers prepay their mortgage loans slower than expected, the decrease in corresponding prepayments on the MBS may reduce the expected yield on such securities because we will not be able to accrete the related discount as quickly as originally anticipated.  Prepayment rates on loans are influenced by changes in mortgage and market interest rates and a variety of economic, geographic, governmental and other factors (including, without limitation, the various quantitative easing and “Operation Twist” actions undertaken by the U.S. Federal Reserve over the past few years with respect to its purchases and sales of U.S. Government and agency securities, as well as the refinancing programs described above) all of which are beyond our control.  Consequently, such prepayment rates cannot be predicted with certainty and no strategy can completely insulate us from prepayment or other such risks.  In periods of declining interest rates, prepayment rates on mortgage loans generally increase.  If general interest rates decline at the same time, the proceeds of such prepayments received during such periods are likely to be reinvested by us in assets yielding less than the yields on the assets that were prepaid (to the extent such assets are available for us to reinvest in).  In addition, the market value of our MBS may, because of the risk of prepayment, benefit less than other fixed-income securities from declining interest rates.
 
With respect to Agency MBS, we often purchase securities that have a higher coupon rate than the prevailing market interest rates.  In exchange for a higher coupon rate, we typically pay a premium over par value to acquire these securities.  In accordance with U.S. generally accepted accounting principles (or GAAP), we amortize the premiums on our MBS over the life of the related MBS.  If the mortgage loans securing these securities prepay at a more rapid rate than anticipated, we will have to amortize our premiums on an accelerated basis which may adversely affect our profitability.  Defaults on Agency MBS typically have the same effect as prepayments because of the underlying Agency guarantee.  As of December 31, 2013, we had net purchase premiums of

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$226.8 million, or 3.6% of current par value, on our Agency MBS and net purchase discounts of $1.502 billion, or 26.8% of current par value, on our Non-Agency MBS.
 
Prepayments, which are the primary feature of MBS that distinguish them from other types of bonds, are difficult to predict and can vary significantly over time.  As the holder of MBS, on a monthly basis, we receive a payment equal to a portion of our investment principal in a particular MBS as the underlying mortgages are prepaid.  With respect to our Agency MBS, we typically receive notice of monthly principal prepayments on the fifth business day of each month (such day is commonly referred to as factor day) and receive the related scheduled payment on a specified later date, which for (a) our Agency ARM-MBS and fixed-rate Agency MBS guaranteed by Fannie Mae is the 25th day of that month (or next business day thereafter), (b) our Agency ARM-MBS guaranteed by Freddie Mac is the 15th day of the following month (or next business day thereafter), (c) our fixed-rate Agency MBS guaranteed by Freddie Mac is the 15th day of the month (or next business day thereafter), and (d) our Agency ARM-MBS guaranteed by Ginnie Mae is the 20th day of that month (or next business day thereafter).  With respect to our Non-Agency MBS, we typically receive notice of monthly principal prepayments and the related scheduled payment on the 25th day of each month (or next business day thereafter).  In general, on the date each month that principal prepayments are announced (i.e., factor day for Agency MBS), the value of our MBS pledged as collateral under our repurchase agreements is reduced by the amount of the prepaid principal and, as a result, our lenders will typically initiate a margin call requiring the pledge of additional collateral or cash, in an amount equal to such prepaid principal, in order to re-establish the required ratio of borrowing to collateral value under such repurchase agreements.  Accordingly, with respect to our Agency MBS, the announcement on factor day of principal prepayments is in advance of our receipt of the related scheduled payment, thereby creating a short-term receivable for us in the amount of any such principal prepayments; however, under our repurchase agreements, we may receive a margin call relating to the related reduction in value of our Agency MBS and, prior to receipt of this short-term receivable, be required to post additional collateral or cash in the amount of the principal prepayment on or about factor day, which would reduce our liquidity during the period in which the short-term receivable is outstanding.  As a result, in order to meet any such margin calls, we could be forced to sell assets in order to maintain liquidity.  Forced sales under adverse market conditions may result in lower sales prices than ordinary market sales made in the normal course of business.  If our MBS were liquidated at prices below our amortized cost (i.e., the cost basis) of such assets, we would incur losses, which could materially adversely affect our earnings.  In addition, in order to continue to earn a return on this prepaid principal, we must reinvest it in additional MBS or other assets; however, if interest rates decline, we may earn a lower return on our new investments as compared to the MBS that prepay.
 
Prepayments may have a materially negative impact on our financial results, the effects of which depend on, among other things, the timing and amount of the prepayment delay on our Agency MBS, the amount of unamortized premium on our prepaid MBS, the rate at which prepayments are made on our Non-Agency MBS, the reinvestment lag and the availability of suitable reinvestment opportunities.
 
Our business strategy involves the use of leverage, and we may not achieve what we believe to be optimal levels of leverage or we may become overleveraged, which may materially adversely affect liquidity, results of operations or financial condition.
 
Our business strategy involves the use of borrowing or “leverage.”  Pursuant to our leverage strategy, we borrow against a substantial portion of the market value of our MBS and use the borrowed funds to finance the acquisition of additional investment assets.  We are not required to maintain any particular debt-to-equity ratio.  Future increases in the amount by which the collateral value is required to contractually exceed the repurchase transaction loan amount, decreases in the market value of our MBS, increases in interest rate volatility and changes in the availability of acceptable financing could cause us to be unable to achieve the amount of leverage we believe to be optimal.  The return on our assets and cash available for distribution to our stockholders may be reduced to the extent that changes in market conditions prevent us from achieving the desired amount of leverage on our investments or cause the cost of our financing to increase relative to the income earned on our leveraged assets.  If the interest income on our MBS purchased with borrowed funds fails to cover the interest expense of the related borrowings, we will experience net interest losses and may experience net losses from operations.  Such losses could be significant as a result of our leveraged structure.  The use of leverage to finance our MBS and other assets involves a number of other risks, including, among other things, the following:
 
Adverse developments involving major financial institutions or involving one of our lenders could result in a rapid reduction in our ability to borrow and materially adversely affect our business, profitability and liquidity.  As of December 31, 2013, we had amounts outstanding under repurchase agreements with 26 separate lenders.  A material adverse development involving one or more major financial institutions or the financial markets in general could result in our lenders reducing our access to funds available under our repurchase agreements or terminating such repurchase agreements altogether.  Because all of our repurchase agreements are uncommitted and renewable at the discretion of our lenders, our lenders could determine to reduce or terminate our access to future borrowings at virtually any time, which could materially adversely affect our business and profitability.  Furthermore, if a number of our lenders became

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unwilling or unable to continue to provide us with financing, we could be forced to sell assets, including MBS in an unrealized loss position, in order to maintain liquidity.  Forced sales under adverse market conditions may result in lower sales prices than ordinary market sales made in the normal course of business.  If our MBS were liquidated at prices below our amortized cost (i.e., the cost basis) of such assets, we would incur losses, which could adversely affect our earnings.
 
Our profitability may be materially adversely affected by a reduction in our leverage.  As long as we earn a positive spread between interest and other income we earn on our leveraged assets and our borrowing costs, we believe that we can generally increase our profitability by using greater amounts of leverage.  There can be no assurance, however, that repurchase financing will remain an efficient source of long-term financing for our assets.  The amount of leverage that we use may be limited because our lenders might not make funding available to us at acceptable rates or they may require that we provide additional collateral to secure our borrowings.  If our financing strategy is not viable, we will have to find alternative forms of financing for our assets which may not be available to us on acceptable terms or at acceptable rates.  In addition, in response to certain interest rate and investment environments or to changes in market liquidity, we could adopt a strategy of reducing our leverage by selling assets or not reinvesting principal payments as MBS amortize and/or prepay, thereby decreasing the outstanding amount of our related borrowings.  Such an action could reduce interest income, interest expense and net income, the extent of which would be dependent on the level of reduction in assets and liabilities as well as the sale prices for which the assets were sold.
 
If we are unable to renew our borrowings at acceptable interest rates, it may force us to sell assets under adverse market conditions, which may materially adversely affect our liquidity and profitability.  Since we rely primarily on borrowings under repurchase agreements to finance our MBS, our ability to achieve our investment objectives depends on our ability to borrow funds in sufficient amounts and on acceptable terms, and on our ability to renew or replace maturing borrowings on a continuous basis.  Our repurchase agreement credit lines are renewable at the discretion of our lenders and, as such, do not contain guaranteed roll-over terms.  Our ability to enter into repurchase transactions in the future will depend on the market value of our MBS pledged to secure the specific borrowings, the availability of acceptable financing and market liquidity and other conditions existing in the lending market at that time.  If we are not able to renew or replace maturing borrowings, we could be forced to sell assets, including MBS in an unrealized loss position, in order to maintain liquidity.  Forced sales under adverse market conditions could result in lower sales prices than ordinary market sales made in the normal course of business.  If our MBS were liquidated at prices below our amortized cost (i.e., the cost basis) of such assets, we would incur losses, which could materially adversely affect our earnings.
 
A decline in the market value of our assets may result in margin calls that may force us to sell assets under adverse market conditions, which may materially adversely affect our liquidity and profitability.  In general, the market value of our MBS is impacted by changes in interest rates, prevailing market yields and other market conditions.  A decline in the market value of our MBS may limit our ability to borrow against such assets or result in lenders initiating margin calls, which require a pledge of additional collateral or cash to re-establish the required ratio of borrowing to collateral value, under our repurchase agreements.  Posting additional collateral or cash to support our credit will reduce our liquidity and limit our ability to leverage our assets, which could materially adversely affect our business.  As a result, we could be forced to sell a portion of our assets, including MBS in an unrealized loss position, in order to maintain liquidity.
 
If a counterparty to our repurchase transactions defaults on its obligation to resell the underlying security back to us at the end of the transaction term or if we default on our obligations under the repurchase agreement, we could incur losses.  When we engage in repurchase transactions, we generally transfer securities to lenders (i.e., repurchase agreement counterparties) and receive cash from such lenders.  Because the cash we receive from the lender when we initially transfer the securities to the lender is less than the value of those securities (this difference is referred to as the “haircut”), if the lender defaults on its obligation to transfer the same securities back to us, we would incur a loss on the transaction equal to the amount of the haircut (assuming there was no change in the value of the securities).  See Item 7, “Management’s Discussion and Analysis of Financial Condition and Results of Operations” of this Annual Report on Form 10-K, for further discussion regarding risks related to exposure to financial institution counterparties in light of recent market conditions.  Our exposure to defaults by counterparties may be more pronounced during periods of significant volatility in the market conditions for mortgages and mortgage-related assets as well as the broader financial markets.  At December 31, 2013, we had greater than 5% stockholders’ equity at risk to the following repurchase agreement counterparties: Alpine Securitization Corporation/Credit Suisse (approximately 23.9%), Wells Fargo (approximately 12.2%), RBS (approximately 8.0%) and UBS (approximately 7.7%).
 
In addition, generally, if we default on one of our obligations under a repurchase transaction with a particular lender, that lender can elect to terminate the transaction and cease entering into additional repurchase transactions with us.  In addition, some of our repurchase agreements contain cross-default provisions, so that if a default occurs under

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any one agreement, the lenders under our other repurchase agreements could also declare a default.  Any losses we incur on our repurchase transactions could materially adversely affect our earnings and thus our cash available for distribution to our stockholders.

Our use of repurchase agreements to borrow money may give our lenders greater rights in the event of bankruptcy.  Borrowings made under repurchase agreements may qualify for special treatment under the U.S. Bankruptcy Code.  If a lender under one of our repurchase agreements defaults on its obligations, it may be difficult for us to recover our assets pledged as collateral to such lender.  In the event of the insolvency or bankruptcy of a lender during the term of a repurchase agreement, the lender may be permitted, under applicable insolvency laws, to repudiate the contract, and our claim against the lender for damages may be treated simply as an unsecured creditor.  In addition, if the lender is a broker or dealer subject to the Securities Investor Protection Act of 1970, or an insured depository institution subject to the Federal Deposit Insurance Act, our ability to exercise our rights to recover our securities under a repurchase agreement or to be compensated for any damages resulting from the lender’s insolvency may be further limited by those statutes.  These claims would be subject to significant delay and, if and when received, may be substantially less than the damages we actually incur.  In addition, in the event of our insolvency or bankruptcy, certain repurchase agreements may qualify for special treatment under the Bankruptcy Code, the effect of which, among other things, would be to allow the creditor under the agreement to avoid the automatic stay provisions of the Bankruptcy Code and take possession of, and liquidate, our collateral under our repurchase agreements without delay.  Our risks associated with the insolvency or bankruptcy of a lender maybe more pronounced during periods of significant volatility in the market conditions for mortgages and mortgage-related assets as well as the broader financial markets.
 
We have experienced declines in the market value of certain of our assets resulting in us recording impairments, which have had an adverse effect on our results of operations and financial condition.
 
A decline in the market value of our MBS or other assets may require us to recognize an “other-than-temporary” impairment (or OTTI) against such assets under GAAP.  When the fair value of our MBS is less than its amortized cost at the balance sheet date, the security is considered impaired.  We assess our impaired securities on at least a quarterly basis and designate such impairments as either “temporary” or “other-than-temporary.”  If we intend to sell an impaired security, or it is more likely than not that we will be required to sell the impaired security before its anticipated recovery, then we must recognize an OTTI through charges to earnings equal to the entire difference between the MBS amortized cost and its fair value at the balance sheet date.  If we do not expect to sell an other-than-temporarily impaired security, only the portion of the OTTI related to credit losses is recognized through charges to earnings with the remainder recognized through other accumulated comprehensive income/(loss) (or AOCI) on our consolidated balance sheets.  Impairments are recognized through other comprehensive income/(loss) (or OCI) and do not impact earnings.  Following the recognition of an OTTI through earnings, a new cost basis is established for the MBS and may not be adjusted for subsequent recoveries in fair value through earnings.  However, OTTIs recognized through charges to earnings may be accreted back to the amortized cost basis of the security on a prospective basis through interest income.  The determination as to whether an OTTI exists and, if so, the amount of credit impairment recognized in earnings is subjective, as such determinations are based on factual information available at the time of assessment as well as the Company’s estimates of the future performance and cash flow projections.  As a result, the timing and amount of OTTIs constitute material estimates that are susceptible to significant change. 
 
Any downgrade, or perceived potential of a downgrade, of U.S. sovereign credit ratings or the credit ratings of the U.S. Government-sponsored entities (or GSEs) by the various credit rating agencies may materially adversely affect our business.

During the summer of 2011, Standard & Poor’s Corporation (or S&P), one of the major credit rating agencies, downgraded the U.S. sovereign credit rating in response to the protracted debate over the “U.S. debt ceiling limit” and S&P’s perception of the U.S. Government’s ability to address its long-term budget deficit.  In addition, the credit rating of the GSEs was also downgraded by S&P in response to the downgrade in the U.S. sovereign credit rating, as the value of the Agency MBS issued by such GSEs and their ability to meet their obligations under such Agency MBS is impacted by the support provided to them by the U.S. Government and market perceptions of the strength of such support and the likelihood of its continuity.  On October 15, 2013, Fitch Ratings Service (or Fitch) placed the U.S. Government credit rating on negative watch, warning that a failure by the U.S. Government to honor interest or principal payments on U.S. Department of the Treasury (or U.S. Treasury) securities would impact its decision whether to downgrade the U.S. Government credit rating. Fitch also stated that the manner and duration of an agreement to raise the debt ceiling and resolve the budget impasse, as well as the perceived risk of such events occurring in the future, would weigh on its ratings. We could be negatively affected in a number of ways in the event of a default by the U.S. Government, a downgrade of the U.S. sovereign credit rating by Fitch or other credit rating agencies or a further downgrade by S&P.  Such negative impacts could include changes in the financing terms of our repurchase agreements collateralized by Agency MBS, which could include higher financing costs and/or a reduction in the amount of financing provided based on the market value of collateral

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posted under these agreements.  In addition, to the extent that the credit rating of any or all of the GSEs were to be downgraded by other credit rating agencies or further downgraded by S&P, the value of our Agency MBS could be adversely affected. These outcomes could in turn materially adversely affect our operations and financial condition in a number of ways, including a reduction in the net interest spread between our assets and associated repurchase agreement borrowings or by decreasing our ability to obtain repurchase agreement financing on acceptable terms, or at all.
 
Because assets we acquire may experience periods of illiquidity, we may lose profits, incur losses or be prevented from earning capital gains if we cannot sell mortgage-related assets at an opportune time.
 
We bear the risk of being unable to dispose of our investments at advantageous times or in a timely manner because mortgage-related assets may experience periods of illiquidity.  A lack of liquidity may result from the absence of a willing buyer or an established market for these assets, as well as legal or contractual restrictions on resale or the unavailability of financing for these assets.  As a result, our ability to vary our portfolio in response to changes in economic and other conditions may be relatively limited, which may cause us to incur losses or prevent us from realizing capital gains.
 
A lack of liquidity in our investments may materially adversely affect our business.
 
The assets that comprise our investment portfolio and that we acquire are not traded on an exchange.  A portion of these securities may be subject to legal and other restrictions on resale and are otherwise generally less liquid than exchange-traded securities.  Any illiquidity of our investments may make it difficult for us to sell such investments if the need or desire arises.  In addition, if we are required to liquidate all or a portion of our portfolio quickly, we may realize significantly less than the value at which we have previously recorded our investments.  Further, we may face other restrictions on our ability to liquidate an investment in a business entity to the extent that we have or could be attributed with material, non-public information regarding such business entity.  As a result, our ability to vary our portfolio in response to changes in economic and other conditions may be relatively limited, which could adversely affect our results of operations and financial condition.
 
Our investments in Non-Agency MBS or other investment assets of lower credit quality involve credit risk, which could materially adversely affect our results of operations.
 
The holder of a mortgage or MBS assumes a risk that the borrowers may default on their obligations to make full and timely payments of principal and interest.  Pursuant to our investment policy, we have the ability to acquire Non-Agency MBS and other investment assets of lower credit quality.  In general, Non-Agency MBS carry greater investment risk than Agency MBS because they are not guaranteed as to principal and/or interest by the U.S. Government, any federal agency or any federally chartered corporation.  Unexpectedly high rates of default (e.g., in excess of the default rates forecasted) and/or higher than expected loss severities on the mortgages collateralizing our Non-Agency MBS may adversely affect the value of such assets.  Accordingly, Non-Agency MBS and other investment assets of less-than-high credit quality could cause us to incur losses of income from, and/or losses in market value relating to, these assets if there are defaults of principal and/or interest on these assets.
 
We may have significant credit risk, especially on Non-Agency MBS, in certain geographic areas and may be disproportionately affected by economic or housing downturns, natural disasters, terrorist events, adverse climate changes or other adverse events specific to those markets.
 
A significant number of the mortgages collateralizing our MBS may be concentrated in certain geographic areas.  For example, with respect to our Non-Agency MBS portfolio, we have significantly higher exposure in California, Florida, New York, Virginia and Maryland.  (See “Market Value Risk” included under Part II, Item 7A.  “Quantitative and Qualitative Disclosures About Market Risk” of this Annual Report on Form 10-K)  Certain markets within these states (particularly California and Florida) experienced significant decreases in residential home value during the recent housing crisis.  Any event that adversely affects the economy or real estate market in these states could have a disproportionately adverse effect on our Non-Agency MBS portfolio.  In general, any material decline in the economy or significant difficulties in the real estate markets would be likely to cause a decline in the value of residential properties securing the mortgages in the relevant geographic area.  This, in turn, would increase the risk of delinquency, default and foreclosure on real estate collateralizing our Non-Agency MBS in this area.  This may then materially adversely affect our credit loss experience on our Non-Agency MBS in such area if unexpectedly high rates of default (e.g., in excess of the default rates forecasted) and/or higher than expected loss severities on the mortgages collateralizing such securities were to occur.
 

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The occurrence of a natural disaster (such as an earthquake, tornado, hurricane or a flood) or a significant adverse climate change may cause a sudden decrease in the value of real estate and would likely reduce the value of the properties securing the mortgages collateralizing our Non-Agency MBS.  Since certain natural disasters may not typically be covered by the standard hazard insurance policies maintained by borrowers, the borrowers may have to pay for repairs due to the disasters.  Borrowers may not repair their property or may stop paying their mortgages under those circumstances.  This would likely cause defaults and credit loss severities to increase on the pool of mortgages securing our Non-Agency MBS which, unlike Agency MBS, are not guaranteed as to principal and/or interest by the U.S. Government, any federal agency or federally chartered corporation.
 
We have investments in Non-Agency MBS collateralized by Alt A loans and may also have investments collateralized by subprime mortgage loans, which, due to lower underwriting standards, are subject to increased risk of losses.
 
We have certain investments in Non-Agency MBS backed by collateral pools containing mortgage loans that have been originated using underwriting standards that are less strict than those used in underwriting “prime mortgage loans”.  These lower standards permit mortgage loans made to borrowers having impaired credit histories, mortgage loans where the amount of the loan at origination is 80% or more of the value of the mortgage property, mortgage loans made to borrowers with low credit scores, mortgage loans made to borrowers who have other debt that represents a large portion of their income and mortgage loans made to borrowers whose income is not required to be disclosed or verified.  Due to economic conditions, including increased interest rates and lower home prices, as well as aggressive lending practices, Alt A and subprime mortgage loans have in recent periods experienced increased rates of delinquency, foreclosure, bankruptcy and loss, and they are likely to continue to experience delinquency, foreclosure, bankruptcy and loss rates that are higher, and that may be substantially higher, than those experienced by mortgage loans underwritten in a more traditional manner.  Thus, because of higher delinquency rates and losses associated with Alt A and subprime mortgage loans, the performance of Non-Agency MBS backed by these types of loans that we may acquire could be correspondingly adversely affected, which could materially adversely impact our results of operations, financial condition and business.
 
We may generate taxable income that differs from our GAAP income on Non-Agency MBS purchased at a discount to par value, which may result in significant timing variances in the recognition of income and losses.
 
We have acquired and intend to continue to acquire Non-Agency MBS at prices that reflect significant market discounts on their unpaid principal balances.  For financial statement reporting purposes, we generally establish a portion of this discount as a Credit Reserve.  This Credit Reserve is generally not accreted into income for financial statement reporting purposes.  For tax purposes, however, we are not permitted to anticipate, or establish a reserve for, credit losses prior to their occurrence.  As a result, discount on securities acquired in the primary or secondary market is included in the determination of taxable income and is not impacted by losses until such losses are incurred.  Such differences in accounting for tax and GAAP can lead to significant timing variances in the recognition of income and losses.  Taxable income on Non-Agency MBS purchased at a discount to their par value may be higher than GAAP earnings in early periods (before losses are actually incurred) and lower than GAAP earnings in periods during and subsequent to when realized credit losses are incurred.  Dividends will be declared and paid at the discretion of our Board and will depend on REIT taxable earnings, our financial results and overall financial condition, maintenance of our REIT qualification and such other factors as our Board may deem relevant from time to time.
 
An increase in our borrowing costs relative to the interest we receive on our MBS may materially adversely affect our profitability.
 
Our earnings are primarily generated from the difference between the interest income we earn on our investment portfolio, less net amortization of purchase premiums and discounts, and the interest expense we pay on our borrowings.  We rely primarily on borrowings under repurchase agreements to finance the acquisition of MBS which have longer-term contractual maturities.  Even though the majority of our MBS have interest rates that adjust over time based on changes in corresponding interest rate indexes, the interest we pay on our borrowings may increase at a faster pace than the interest we earn on our MBS.  In general, if the interest expense on our borrowings increases relative to the interest income we earn on our MBS, our profitability may be materially adversely affected, including due to the following reasons:
 
Changes in interest rates, cyclical or otherwise, may materially adversely affect our profitability.  Interest rates are highly sensitive to many factors, including fiscal and monetary policies and domestic and international economic and political conditions, as well as other factors beyond our control.  In general, we finance the acquisition of our MBS through borrowings in the form of repurchase transactions, which exposes us to interest rate risk on the financed assets.  The cost of our borrowings is based on prevailing market interest rates.  Because the terms of our repurchase transactions typically range from one to six months at inception, the interest rates on our borrowings generally adjust more frequently (as new repurchase transactions are entered into upon the maturity of existing repurchase transactions) than the interest rates on our MBS.  During a period of rising interest rates, our borrowing costs generally will increase at a faster pace

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than our interest earnings on the leveraged portion of our MBS portfolio, which could result in a decline in our net interest spread and net interest margin.  The severity of any such decline would depend on our asset/liability composition, including the impact of hedging transactions, at the time as well as the magnitude and period over which interest rates increase.  Further, an increase in short-term interest rates could also have a negative impact on the market value of our MBS portfolio.  If any of these events happen, we could experience a decrease in net income or incur a net loss during these periods, which may negatively impact our distributions to stockholders.
 
Interest rate caps on the mortgages collateralizing our MBS may materially adversely affect our profitability if short-term interest rates increase.  The coupons earned on ARM-MBS adjust over time as interest rates change (typically after an initial fixed-rate period for Hybrids).  The financial markets primarily determine the interest rates that we pay on the repurchase transactions used to finance the acquisition of our MBS; however, the level of adjustment to the interest rates earned on our ARM-MBS is typically limited by contract (or in certain cases by state or federal law).  The interim and lifetime interest rate caps on the mortgages collateralizing our MBS limit the amount by which the interest rates on such assets can adjust.  Interim interest rate caps limit the amount interest rates on a particular ARM can adjust during the next adjustment period.  Lifetime interest rate caps limit the amount interest rates can adjust upward from inception through maturity of a particular ARM.  Our repurchase transactions are not subject to similar restrictions.  Accordingly, in a sustained period of rising interest rates or a period in which interest rates rise rapidly, we could experience a decrease in net income or a net loss because the interest rates paid by us on our borrowings (excluding the impact of hedging transactions) could increase without limitation (as new repurchase transactions are entered into upon the maturity of existing repurchase transactions) while increases in the interest rates earned on the mortgages collateralizing our MBS could be limited due to interim or lifetime interest rate caps.
 
Adjustments of interest rates on our borrowings may not be matched to interest rate indexes on our MBS.  In general, the interest rates on our repurchase transactions are based on LIBOR, while the interest rates on our ARM-MBS may be indexed to LIBOR or CMT rate.  Accordingly, any increase in LIBOR relative to one-year CMT rates will generally result in an increase in our borrowing costs that is not matched by a corresponding increase in the interest earned on our ARM-MBS tied to these other index rates.  Any such interest rate index mismatch could adversely affect our profitability, which may negatively impact our distributions to stockholders.

A flat or inverted yield curve may adversely affect ARM-MBS prepayment rates and supply.  Our net interest income varies primarily as a result of changes in interest rates as well as changes in interest rates across the yield curve.  When the differential between short-term and long-term benchmark interest rates narrows, the yield curve is said to be “flattening.”  In addition, a flatter yield curve generally leads to fixed-rate mortgage rates that are closer to the interest rates available on ARMs, potentially decreasing the supply of ARM-MBS.  At times, short-term interest rates may increase and exceed long-term interest rates, causing an inverted yield curve.  When the yield curve is inverted, fixed-rate mortgage rates may approach or be lower than mortgage rates on ARMs, further increasing ARM-MBS prepayments and further negatively impacting ARM-MBS supply.  Increases in prepayments on our MBS portfolio cause our premium amortization to accelerate, lowering the yield on such assets.  If this happens, we could experience a decrease in net income or incur a net loss during these periods, which may negatively impact our distributions to stockholders.

We are dependent on our executive officers and key personnel for our success, the loss of any of which may materially adversely affect our business.
 
Our success is dependent upon the efforts, experience, diligence, skill and network of business contacts of our executive officers and key personnel.  The departure of any of our executive officers and/or key personnel could have a material adverse effect on our operations and performance.
 
We are dependent on information systems and systems’ failures could significantly disrupt our business.
 
Our business is highly dependent on our information and communications systems.  Any failure or interruption of our systems or cyber-attacks or security breaches of our networks or systems could cause delays or other problems in our securities trading activities, which could have a material adverse effect on operating results, the market price of our common stock and other securities and our ability to pay dividends to our stockholders. In addition, we also face the risk of operational failure, termination or capacity constraints of any of the third parties with which we do business or that facilitate our business activities, including clearing agents or other financial intermediaries we use to facilitate our securities transactions.
 
Computer malware, viruses, and computer hacking and phishing attacks have become more prevalent in our industry and may occur on our systems in the future. We rely heavily on financial, accounting and other data processing systems. It is difficult to determine what, if any, negative impact may directly result from any specific interruption or cyber-attacks or security breaches

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of our networks or systems or any failure to maintain performance, reliability and security of our technical infrastructure. As a result, any such computer malware, viruses, and computer hacking and phishing attacks may negatively affect our operations.

We operate in a highly competitive market for investment opportunities and competition may limit our ability to acquire desirable investments, which could materially adversely affect our results of operations.
 
We operate in a highly competitive market for investment opportunities.  Our profitability depends, in large part, on our ability to acquire MBS or other investments at favorable prices.  In acquiring our investments, we compete with a variety of institutional investors, including other REITs, public and private funds, commercial and investment banks, commercial finance and insurance companies and other financial institutions.  Many of our competitors are substantially larger and have considerably greater financial, technical, marketing and other resources than we do.  Some competitors may have a lower cost of funds and access to funding sources that are not available to us.  Many of our competitors are not subject to the operating constraints associated with REIT compliance or maintenance of an exemption from the Investment Company Act.  In addition, some of our competitors may have higher risk tolerances or different risk assessments, which could allow them to consider a wider variety of investments and establish additional business relationships than us.  Furthermore, government or regulatory action and competition for investment securities of the types and classes which we acquire may lead to the price of such assets increasing, which may further limit our ability to generate desired returns.  We cannot assure you that the competitive pressures we face will not have a material adverse effect on our business, financial condition and results of operations.  Also, as a result of this competition, desirable investments may be limited in the future and we may not be able to take advantage of attractive investment opportunities from time to time, as we can provide no assurance that we will be able to identify and make investments that are consistent with our investment objectives.
 
A deterioration in the condition of European banks and financial institutions could have a material adverse effect on our business.

In the years following the financial and credit crisis of 2007-2008, certain of our repurchase agreement counterparties in the United States and Europe experienced financial difficulty and were either rescued by government assistance or otherwise benefited from accommodative monetary policy of Central Banks.  Several European governments implemented measures to attempt to shore up their financial sectors through loans, credit guarantees, capital infusions, promises of continued liquidity funding and interest rate cuts.  Additionally, other governments of the world’s largest economic countries also implemented interest rate cuts.  Although economic and credit conditions have stabilized in the past few years, there is no assurance that these and other plans and programs will be successful in the longer term, and, in particular, when governments and central banks begin to significantly unwind or otherwise reverse these programs and policies.  If unsuccessful, this could materially adversely affect our financing and operations as well as those of the entire mortgage sector in general.
 
As Europe continues to experience credit-related concerns, particularly in countries such as Greece, Italy, Spain and Portugal, there is a risk to the financial condition and stability of major European banks.  Some of these banks have U.S. banking subsidiaries, which have provided financing to us, particularly repurchase agreement financing for the acquisition of various investments, including MBS investments.  During the past few years, the U.S. government placed many of the U.S. banking subsidiaries of these major European banks on credit watch.  If European credit concerns continue to impact these major European banks, there is the possibility that it will also impact the operations of their U.S. banking subsidiaries.  This could adversely affect our financing and operations as well as those of the entire mortgage sector in general.

Government use of eminent domain to seize underwater mortgages could materially adversely affect the value of, and the returns on, our MBS.
 
The mortgages securing our Non-Agency MBS are located in many geographic regions across the United States, with significantly higher exposure in California, Florida, New York, Virginia and Maryland.  Several county and municipal governments have discussed using eminent domain to seize from mortgage holders the mortgages of borrowers who are underwater, but not in default. In August 2013, the U.S. Federal Housing Finance Agency (or FHFA) released a statement expressing serious concerns on the use of eminent domain to restructure mortgages, based on a review it conducted since requesting public input on the proposal in August 2012, and indicated that it may take action in response to the use of eminent domain to restructure mortgage loans. However, if definitive action is taken by any local governments and such actions withstand Constitutional and other legal challenges, resulting in mortgages securing our Non-Agency MBS being seized using eminent domain, the consideration received from the seizing authorities for such mortgages may be substantially less than the outstanding principal balance, which would result in a realized loss and a corresponding write-down of the principal balance of those mortgages. The result of these seizures would be that the amounts we receive on our Non-Agency MBS would be less than we would otherwise have received if the mortgage loans had not been seized, which may result in a decline in the market value and/or OTTI of these securities. If governments ultimately

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adopt such plans and mortgages securing our Non-Agency MBS are seized on a widespread scale, it could have a material adverse effect on the value of and/or returns on our Non-Agency MBS and our results of operations more generally.

Risks Associated With Adverse Developments in the Mortgage Finance and Credit Markets
 
Market conditions for mortgages and mortgage-related assets as well as the broader financial markets may materially adversely affect the value of the assets in which we invest.
 
Our results of operations are materially affected by conditions in the markets for mortgages and mortgage-related assets, including MBS, as well as the broader financial markets and the economy generally.  Beginning in 2007, significant adverse changes in financial market conditions resulted in a deleveraging of the entire global financial system and the forced sale of large quantities of mortgage-related and other financial assets, which resulted in significant volatility in the market for mortgages and mortgage-related assets and significant losses by certain commercial banks, investment banks and insurance companies with exposure to the residential mortgage market. The 2007-2008 financial crisis and its aftermath impacted investor perception of the risk associated with residential MBS, real estate-related securities and various other asset classes in which we invest, which has continued, in varying degrees through the present.  More recently, concerns over economic growth rates, continuing relatively high levels of unemployment and uncertainty regarding future U.S. monetary policy have contributed to increased interest rate volatility.  As a result of these circumstances, values for residential MBS, real estate-related securities and various other asset classes in which we may invest have experienced volatility.  Any decline in the value of our investments, or perceived market uncertainty about their value, would likely make it difficult for us to obtain financing on favorable terms or at all, or maintain our compliance with terms of any financing arrangements already in place.  Although markets have stabilized more recently, renewed volatility and/or deterioration in the broader residential mortgage and MBS markets could materially adversely affect the performance and market value of our investments.
 
The federal conservatorship of Fannie Mae and Freddie Mac and related efforts, along with any changes in laws and regulations affecting the relationship between Fannie Mae and Freddie Mac and the U.S. Government, may materially adversely affect our business.
 
The payments of principal and interest we receive on our Agency MBS, which depend directly upon payments on the mortgages underlying such securities, are guaranteed by Fannie Mae, Freddie Mac and Ginnie Mae.  Fannie Mae and Freddie Mac are GSEs, but their guarantees are not backed by the full faith and credit of the United States.  Ginnie Mae is part of a U.S. Government agency and its guarantees are backed by the full faith and credit of the United States.

In response to general market instability and, more specifically, the financial conditions of Fannie Mae and Freddie Mac, in July 2008 Congress enacted the Housing and Economic Recovery Act of 2008 established a new regulator for Fannie Mae and Freddie Mac, the FHFA.  In September 2008, the U.S. Treasury, the FHFA, and the U.S. Federal Reserve announced a comprehensive action plan to help stabilize the financial markets, support the availability of mortgage finance and protect taxpayers.  Under this plan, among other things, the FHFA was appointed as conservator of both Fannie Mae and Freddie Mac, allowing the FHFA to control the actions of the two GSEs without forcing them to liquidate (which would have been the case under receivership).  The primary focus of the plan was to increase the availability of mortgage financing by allowing these GSEs to continue to grow their guarantee business without limit, while limiting the size of their retained mortgage and Agency MBS portfolios and requiring that these portfolios be reduced over time.
 
In an effort to further stabilize the U.S. mortgage market, the U.S. Treasury pursued three additional initiatives beginning in 2008.  First, it entered into preferred stock purchase agreements, which have been subsequently amended, with each of the GSEs to ensure that they maintain a positive net worth.  Second, it established a new secured short-term credit facility, which was available to Fannie Mae and Freddie Mac (as well as Federal Home Loan Banks) when other funding sources were unavailable.  Third, it established an Agency MBS purchase program under which the U.S. Treasury purchased Agency MBS in the open market.  The U.S. Federal Reserve also established a program of purchasing Agency MBS.
 
Those efforts resulted in significant U.S. Government financial support and increased control of the GSEs.  In December 2013, the FHFA reported that, from the time of execution of the preferred stock purchase agreements, funding provided to Fannie Mae and Freddie Mac under the preferred stock purchase agreements totaled approximately $187.5 billion.  The U.S. Treasury committed to support the positive net worth of Fannie Mae and Freddie Mac through preferred stock purchases as necessary. Although neither GSE has needed additional funding from the Treasury since the second quarter of 2012, FHFA had previously made projections for stock purchases through 2015, predicting that cumulative U.S. Treasury draws (including dividends) at the end of 2015 could range from $191 billion to $209 billion.  Those preferred stock purchase agreements, as amended, also require the reduction of Fannie Mae’s and Freddie Mac’s mortgage and Agency MBS portfolios (such portfolios were limited to $900 billion as of December 31, 2009, and to $810 billion as of December 31, 2010, and must be reduced each year until their respective mortgage

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assets reach $250 billion).  In August 2012, the Treasury Department amended its stock purchase agreements to provide that the GSEs’ portfolios will be wound down at an annual rate of 15 percent (an increase of five percent over the previously agreed annual rate of ten percent), requiring the GSEs’ to reach the $250 billion target four years earlier than previously planned.
 
Although the U.S. Government has committed to support the positive net worth of Fannie Mae and Freddie Mac, there can be no assurance that these actions will be adequate for their needs, and there is no guarantee of continuing capital support (although some amount of such support is projected to be necessary).  These uncertainties lead to questions about the availability of, and trading market for, Agency MBS.  Despite the steps taken by the U.S. Government, Fannie Mae and Freddie Mac could default on their guarantee obligations which would materially and adversely affect the value of our Agency MBS.  Accordingly, if these government actions are inadequate and the GSEs return to suffering losses or cease to exist (as discussed below), our business, operations and financial condition could be materially and adversely affected.
 
In addition, the problems faced by Fannie Mae and Freddie Mac resulting in their being placed into federal conservatorship and receiving significant U.S. Government support have sparked serious debate among federal policy makers regarding the continued role of the U.S. Government in providing liquidity for mortgage loans.  In 2011, the Obama administration proposed a plan to wind down the GSEs, and both houses of Congress are considering legislation to reform the GSEs, their functions and their missions. The future roles of Fannie Mae and Freddie Mac are likely to be reduced (perhaps significantly) and the nature of their guarantee obligations could be considerably limited relative to historical measurements.  Alternatively, it is still possible that Fannie Mae and Freddie Mac could be dissolved entirely or privatized, and, as mentioned above, the U.S. Government could determine to stop providing liquidity support of any kind to the mortgage market.  Any changes to the nature of the GSEs or their guarantee obligations could redefine what constitutes an Agency MBS and could have broad adverse implications for the market and our business, operations and financial condition.  If Fannie Mae or Freddie Mac were to be eliminated, or their structures were to change radically (i.e., limitation or removal of the guarantee obligation), we may be unable to acquire additional Agency MBS and our existing Agency MBS could be materially and adversely impacted.
 
We could be negatively affected in a number of ways depending on the manner in which related events unfold for Fannie Mae and Freddie Mac.  We rely on our Agency MBS as collateral for our financings under our repurchase agreements.  Any decline in their value, or perceived market uncertainty about their value, would make it more difficult for us to obtain financing on our Agency MBS on acceptable terms or at all, or to maintain our compliance with the terms of any financing transactions.  Further, the current support provided by the U.S. Treasury to Fannie Mae and Freddie Mac, and any additional support it may provide in the future, could have the effect of lowering the interest rates we expect to receive from Agency MBS, thereby tightening the spread between the interest we earn on our Agency MBS and the cost of financing those assets.  A reduction in the supply of Agency MBS could also negatively affect the pricing of Agency MBS by reducing the spread between the interest we earn on our portfolio of Agency MBS and our cost of financing that portfolio.
 
As indicated above, as legislation enacted over the past few years has changed the relationship between Fannie Mae and Freddie Mac and the U.S. Government, future legislation could further change that relationship by, among other things, reforming the entities and their functions, or by nationalizing, privatizing, or eliminating such entities entirely.  Any law affecting the GSEs may create market uncertainty and have the effect of reducing the actual or perceived credit quality of securities issued or guaranteed by Fannie Mae or Freddie Mac.  As a result, such laws could increase the risk of loss on our investments in Agency MBS guaranteed by Fannie Mae and/or Freddie Mac.  It also is possible that such laws could adversely impact the market for such securities and spreads at which they trade.  All of the foregoing could materially and adversely affect our business, operations and financial condition.
 
Mortgage loan modification and refinancing programs and future legislative action may materially adversely affect the value of, and the returns on, our MBS.
 
The U.S. Government, through the Federal Reserve, the Treasury Department, the Federal Housing Administration (or the FHA) and other agencies has implemented a number of federal programs designed to assist homeowners, including the Home Affordable Modification Program (or HAMP), which provides homeowners with assistance in avoiding residential mortgage loan foreclosures, the Hope for Homeowners Program (or H4H Program), which allows certain distressed borrowers to refinance their mortgages into FHA-insured loans in order to avoid residential mortgage loan foreclosures, and the Home Affordable Refinance Program, which allows borrowers who are current on their mortgage payments to refinance and reduce their monthly mortgage payments without new mortgage insurance, up to an unlimited loan-to-value ratio for fixed-rate mortgages.  HAMP, the H4H Program and other loss mitigation programs may involve, among other things, the modification of mortgage loans to reduce the principal amount of the loans (through forbearance and/or forgiveness) and/or the rate of interest payable on the loans, or to extend the payment terms of the loans.  Especially with Non-Agency MBS, a significant number of loan modifications with respect to a given security, including, but not limited to, those related to principal forgiveness and coupon reduction, could negatively impact the realized yields and cash flows on such security.  These loan modification programs, future legislative or regulatory actions,

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including possible amendments to the bankruptcy laws, which result in the modification of outstanding residential mortgage loans, as well as changes in the requirements necessary to qualify for refinancing mortgage loans with Fannie Mae, Freddie Mac or Ginnie Mae, may materially adversely affect the value of, and the returns on, our MBS.
 
Actions by the U.S. Government designed to stabilize or reform the financial markets may not achieve their intended effect or otherwise benefit our business, and could materially adversely affect our business.
 
In July 2010, the U.S. Congress enacted the Dodd-Frank Wall Street Reform and Consumer Protection Act (or the Dodd-Frank Act), in part to impose significant investment restrictions and capital requirements on banking entities and other organizations that are significant to U.S. financial markets.  For instance, the Dodd-Frank Act imposes significant restrictions on the proprietary trading activities of certain banking entities and subjects other systemically significant organizations regulated by the U.S. Federal Reserve to increased capital requirements and quantitative limits for engaging in such activities.  The Dodd-Frank Act also seeks to reform the asset-backed securitization market (including the MBS market) by requiring the retention of a portion of the credit risk inherent in the pool of securitized assets and by imposing additional registration and disclosure requirements.  The Dodd-Frank Act also imposes significant regulatory restrictions on the origination of residential mortgage loans.  While the full impact of the Dodd-Frank Act cannot be assessed until the final regulations are fully operationalized, the Dodd-Frank Act’s extensive requirements may have a significant effect on the financial markets, and may affect the availability or terms of financing from our lender counterparties and the availability or terms of MBS, both of which could have a material adverse effect on our business.
 
In addition, U.S. Government, U.S. Federal Reserve, U.S. Treasury and other governmental and regulatory bodies have taken or are considering taking other actions to continue to address the fallout from the 2007-2008 financial and credit crisis.  We cannot predict whether or when such actions may occur or what affect, if any, such actions could have on our business, results of operations and financial condition.

Risks Related to Our Hedging and Investment Strategies
 
Our use of hedging strategies to mitigate our interest rate exposure may not be effective.
 
In accordance with our operating policies, we pursue various types of hedging strategies, including interest rate swap agreements (or Swaps), interest rate cap agreements and other derivative transactions, to seek to mitigate or reduce our exposure to losses from adverse changes in interest rates.  Our hedging activity will vary in scope based on the level and volatility of interest rates, the type of assets held and financing sources used and other changing market conditions.  No hedging strategy, however, can completely insulate us from the interest rate risks to which we are exposed and there is no guarantee that the implementation of any hedging strategy would have the desired impact on our results of operations or financial condition.  Certain of the U.S. federal income tax requirements that we must satisfy in order to qualify as a REIT may limit our ability to hedge against such risks.  We will not enter into derivative transactions if we believe that they will jeopardize our qualification as a REIT.
 
Interest rate hedging may fail to protect or could adversely affect us because, among other things:
 
interest rate hedging can be expensive, particularly during periods of rising and volatile interest rates;
 
available interest rate hedges may not correspond directly with the interest rate risk for which protection is sought;
 
the duration of the hedge may not match the duration of the related liability;
 
the credit quality of the party owing money on the hedge may be downgraded to such an extent that it impairs our ability to sell or assign our side of the hedging transaction; and
 
the party owing money in the hedging transaction may default on its obligation to pay.
 
We primarily use Swaps to hedge against future increases in interest rates on our repurchase agreements.  Should a Swap counterparty be unable to make required payments pursuant to such Swap, the hedged liability would cease to be hedged for the remaining term of the Swap.  In addition, we may be at risk for any collateral held by a hedging counterparty to a Swap, should such counterparty become insolvent or file for bankruptcy.  Our hedging transactions, which are intended to limit losses, may actually adversely affect our earnings, which could reduce our cash available for distribution to our stockholders.


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We may enter into hedging instruments that could expose us to contingent liabilities in the future, which could materially adversely affect our results of operations.
 
Subject to maintaining our qualification as a REIT, part of our financing strategy involves entering into hedging instruments that could require us to fund cash payments in certain circumstances (e.g., the early termination of a hedging instrument caused by an event of default or other voluntary or involuntary termination event or the decision by a hedging counterparty to request the posting of collateral that it is contractually owed under the terms of a hedging instrument).  With respect to the termination of an existing Swap, the amount due would generally be equal to the unrealized loss of the open Swap position with the hedging counterparty and could also include other fees and charges.  These economic losses will be reflected in our financial results of operations and our ability to fund these obligations will depend on the liquidity of our assets and access to capital at the time.  Any losses we incur on our hedging instruments could materially adversely affect our earnings and thus our cash available for distribution to our stockholders.

The characteristics of hedging instruments present various concerns, including illiquidity, enforceability, and counterparty risks, which could adversely affect our business and results of operations.

As indicated above, from time to time we enter into Swaps. Entities entering into Swaps are exposed to credit losses in the event of non-performance by counterparties to these transactions. The Commodities Futures Trading Commission (CFTC), issued new rules that became effective in October 2012 regarding Swaps under the authority granted to it pursuant to the Dodd-Frank Act. Although the new rules do not directly affect the negotiations and terms of individual Swap transactions between counterparties, they do require that the clearing of all Swap transactions through registered derivatives clearing organizations, or swap execution facilities, through standardized documents under which each Swap counterparty transfers its position to another entity whereby the centralized clearinghouse effectively becomes the counterparty to each side of the Swap. It is the intent of the Dodd-Frank Act that the clearing of Swaps in this manner is designed to avoid concentration of swap risk in any single entity by spreading and centralizing the risk in the clearinghouse and its members. In addition to greater initial and periodic margin (collateral) requirements and additional transaction fees both by the swap execution facility and the clearinghouse, the Swap transactions are now subjected to greater regulation by both the CFTC and the SEC. These additional fees, costs, margin requirements, documentation, and regulation could adversely affect our business and results of operations. Additionally, for all Swaps we entered into prior to June 2013, we are not required to clear them through the central clearinghouse and these Swaps are still subject to the risks of non-performance by any of the individual counterparties with whom we entered into these transactions. If the Swap counterparty cannot perform under the terms of a Swap, we would not receive payments due under that agreement, we may lose any unrealized gain associated with the Swap, and the hedged liability would cease to be hedged by the Swap. We may also be at risk for any collateral we have pledged to secure our obligation under the Swap if the counterparty becomes insolvent or files for bankruptcy. Default by a party with whom we enter into a hedging transaction may result in a loss and force us to cover our commitments, if any, at the then-current market price. Although generally we will seek to reserve the right to terminate our hedging positions, it may not always be possible to dispose of or close out a hedging position without the consent of the hedging counterparty and we may not be able to enter into an offsetting contract in order to cover our risk. We cannot assure you that there will always be a liquid secondary market that will exist for hedging instruments purchased or sold and we may be required to maintain a position until exercise or expiration, which could result in losses.

Clearing facilities or exchanges upon which some of our hedging instruments are traded may increase margin requirements on our hedging instruments in the event of adverse economic developments.
 
In response to events having or expected to have adverse economic consequences or which create market uncertainty, clearing facilities or exchanges upon which some of our hedging instruments (i.e., interest rate swaps) are traded may require us to post additional collateral against our hedging instruments. For example, in response to the U.S. approaching its debt ceiling without resolution and the federal government shutdown, in October 2013, the Chicago Mercantile Exchange announced that it would increase margin requirements by 12% for all over-the-counter interest rate swap portfolios that its clearinghouse guaranteed. This increase was subsequently rolled back shortly thereafter upon the news that Congress passed legislation to temporarily suspend the national debt ceiling and reopen the federal government, and provide a time period for broader negotiations concerning federal budgetary issues. In the event that future adverse economic developments or market uncertainty (including those due to governmental, regulatory, or legislative action or inaction) result in increased margin requirements for our hedging instruments, it could materially adversely affect our liquidity position, business, financial condition and results of operations.
 
We may fail to qualify for hedge accounting treatment, which could materially adversely affect our results of operations.
 
We record derivative and hedge transactions in accordance with GAAP, specifically according to the Financial Accounting Standards Board (or FASB) Accounting Standards Codification Topic on Derivatives.  Under these standards, we may fail to qualify for hedge accounting treatment for a number of reasons, including if we use instruments that do not meet the definition

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of a derivative, we fail to satisfy hedge documentation and hedge effectiveness assessment requirements or our instruments are not highly effective.  If we fail to qualify for hedge accounting treatment, our operating results for financial reporting purposes may be materially adversely affected because losses on the derivatives we enter into would be recorded in net income, rather than AOCI, a component of stockholders’ equity.
 
We may change our investment strategy, operating policies and/or asset allocations without stockholder consent, which could materially adversely affect our results of operations.
 
We may change our investment strategy, operating policies and/or asset allocation with respect to investments, acquisitions, leverage, growth, operations, indebtedness, capitalization and distributions at any time without the consent of our stockholders.  A change in our investment strategy may increase our exposure to interest rate risk, credit risk, default risk and/or real estate market fluctuations.  Furthermore, a change in our asset allocation could result in our making investments in asset categories different from our historical investments.  These changes could materially adversely affect our financial condition, results of operations, the market price of our common stock or our ability to pay dividends or make distributions.
 
We may enter into Resecuritization Transactions, the tax treatment of which could have a material adverse effect on our results of operations.
 
We have engaged in and may in the future, engage in resecuritization transactions in which we transfer Non-Agency MBS to a special purpose entity that has formed or will form a securitization vehicle that will issue multiple classes of securities secured by and payable from cash flows on the underlying Non-Agency MBS.  To date, we have structured two such transactions as a real estate mortgage investment conduit (or REMIC) securitizations, which, to the extent we have transferred securities in a resecuritization, is viewed as the sale of securities for tax purposes.  Although such transactions are treated as sales for tax purposes, they have historically not given rise to any taxable gain so that the prohibited transactions tax rules have not been implicated (i.e., the tax only applies to net taxable gain from sales that are prohibited transactions); however, no assurance can be offered that the Internal Revenue Service (or IRS) will agree with such treatment.  In addition, to these REMIC securitization transactions, we have also engaged in two resecuritization transactions that we believe should be treated as financing transactions for tax purposes.  If a securitization transaction were to be considered to be a sale of property to customers in the ordinary course of a trade or business, and we recognized a gain on such transaction for tax purposes, then we could risk exposure to the 100% tax on net taxable income from prohibited transactions.  Moreover, even if we retained MBS resulting from a resecuritization transaction and then subsequently sold such securities at a tax gain, the gain could, absent an available safe-harbor provision, be characterized as net income from a prohibited transaction.  Under these circumstances, our results of operations could be materially adversely affected.

Risks Related to Our Taxation as a REIT and the Taxation of Our Assets
 
Our qualification as a REIT
 
We have elected to qualify as a REIT and intend to comply with the provisions of the Internal Revenue Code of 1986, as amended (or the Code) related to REIT qualification.  Accordingly, we will not be subjected to federal income tax to the extent we distribute 100% of our REIT taxable income (which is generally our taxable income, computed without regard to the dividends paid deduction, any net income from prohibited transactions, and any net income from foreclosure property) to stockholders within the timeframe permitted under the Code and provided that we comply with certain income, asset and ownership tests applicable to REITs.  We believe that we currently meet all of the REIT requirements and continue to qualify as a REIT under the provisions of the Code.  Many of the REIT requirements however are highly technical and complex.  The determination that we are a REIT requires an analysis of various factual matters and circumstances, some of which may not be totally within our control and some of which involve interpretation.  For example, if we are to qualify as a REIT, annually at least 75% of our gross income must come from, among other sources, interest on obligations secured by mortgages on real property or interests in real property, gain from the disposition of real property, including mortgages or interest in real property (other than sales or dispositions of real property, including mortgages on real property, or securities that are treated as mortgages on real property, that we hold primarily for sale to customers in the ordinary course of a trade or business (i.e., prohibited transactions)), dividends, other distributions and gains from the disposition of shares in other REITs, commitment fees received for agreements to make real estate loans and certain temporary investment income.  In addition, the composition of our assets must meet qualified requirements at the close of each quarter.  There can be no assurance that the IRS or a court would agree with any conclusions or positions we have taken in interpreting the REIT requirements. 
 

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Also, to maintain our qualification as a REIT, we must distribute at least 90% of our REIT taxable income (determined without regard to the dividends paid deduction and excluding any net capital gain) to our stockholders within the timeframe permitted under the Code.  We generally must make these distributions in the taxable year to which they relate, or in the following taxable year if declared before we timely (including extensions) file our tax return for the year and if paid with or before the first regular dividend payment after such declaration.  To the extent that we satisfy this distribution requirement, but distribute less than 100% of our taxable income, we will be subject to federal income tax on our undistributed taxable income. In addition, if we should fail to distribute during each calendar year at least the sum of (a) 85% of our REIT ordinary income for such year, (b) 95% of our REIT capital gain net income for such year, and (c) any undistributed taxable income from prior periods, we would be subject to a non-deductible 4% excise tax on the excess of such required distribution over the sum of (x) the amounts actually distributed, plus (y) the amounts of income we retained and on which we have paid corporate income tax.
 
The dividend distribution requirement limits the amount of cash we have available for other business purposes, including amounts to fund our growth.  Also, it is possible that because of differences in timing between the recognition of taxable income and the actual receipt of cash, we may have to borrow funds on a short-term basis to meet the 90% dividend distribution requirement. 
 
Even a technical or inadvertent mistake could jeopardize our REIT qualification unless we meet certain statutory relief provisions.  Furthermore, Congress and the IRS might make changes to the tax laws and regulations, and the courts might issue new rulings, that make it more difficult or impossible for us to remain qualified as a REIT.
 
Furthermore, even if we qualify as a REIT for U.S. federal income tax purposes, we may be required to pay certain federal, state and local taxes on our income.  Any of these taxes would reduce our operating cash flow.
 
The “taxable mortgage pool” rules may increase the taxes that we or our stockholders may incur and may limit the manner in which we effect future securitizations.
 
Securitizations by us or our subsidiaries could result in the creation of taxable mortgage pools for U.S. federal income tax purposes.  The REMIC provisions of the Code generally provide that REMICs are the only form of pass-through entity permitted to issue debt obligations with two or more maturities if the payments on those obligations bear a relationship to the mortgage obligations held by such entity.  If we engage in a non-REMIC securitization transaction, directly or indirectly through a qualified REIT subsidiary (or QRS), in which the assets held by the securitization vehicle consist largely of mortgage loans or MBS, in which the securitization vehicle issues to investors two or more classes of debt instruments that have different maturities, and in which the timing and amount of payments on the debt instruments is determined in large part by the amounts received on the mortgage loans or MBS held by the securitization vehicle, the securitization vehicle will be a taxable mortgage pool.  As long as we or another REIT hold a 100% interest in the equity interests in a taxable mortgage pool, either directly, or through a QRS, it will not be subject to tax.  A portion of the income that we realize with respect to the equity interest we hold in a taxable mortgage pool will, however, be considered to be excess inclusion income and, as a result, a portion of the dividends that we pay to our stockholders will be considered to consist of excess inclusion income.  Such excess inclusion income is treated as unrelated business taxable income (or UBTI) for tax-exempt stockholders, is subject to withholding for foreign stockholders (without the benefit of any treaty reduction), and is not subject to reduction by net operating loss carryovers.  Historically, we have not generated excess inclusion income; however, despite our efforts, we may not be able to avoid creating or distributing excess inclusion income to our stockholders in the future.  In addition, we could face limitations in selling equity interests to outside investors in securitization transactions that are taxable mortgage pools or selling any debt securities issued in connection with these securitizations that might be considered to be equity interests for tax purposes.  These limitations may prevent us from using certain techniques to maximize our returns from securitization transactions.

We have not established a minimum dividend payment level, and there is no guarantee that we will maintain current dividend payment levels or pay dividends in the future.
 
In order to maintain our qualification as a REIT, we must comply with a number of requirements under federal tax law, including that we distribute at least 90% of our REIT taxable income within the timeframe permitted under the Code, which is calculated generally before the dividends paid deduction and excluding net capital gain.  Dividends will be declared and paid at the discretion of our Board and will depend on our REIT taxable earnings, our financial results and overall condition, maintenance of our REIT qualification and such other factors as our Board may deem relevant from time to time.  We have not established a minimum dividend payment level for our common stock and our ability to pay dividends may be negatively impacted by adverse changes in our operating results.  Therefore, our dividend payment level may fluctuate significantly, and, under some circumstances, we may not pay dividends at all.
 

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Our reported GAAP financial results differ from the taxable income results that impact our dividend distribution requirements and, therefore, our GAAP results may not be an accurate indicator of future taxable income and dividend distributions.
 
Generally, the cumulative net income we report over the life of an asset will be the same for GAAP and tax purposes, although the timing of this income recognition over the life of the asset could be materially different.  Differences exist in the accounting for GAAP net income and REIT taxable income which can lead to significant variances in the amount and timing of when income and losses are recognized under these two measures.  Due to these differences, our reported GAAP financial results could materially differ from our determination of taxable income results, which impacts our dividend distribution requirements, and, therefore, our GAAP results may not be an accurate indicator of future taxable income and dividend distributions.
 
Over time, accounting principles, conventions, rules, and interpretations may change, which could affect our reported GAAP and taxable earnings, and stockholders’ equity.
 
Accounting rules for the various aspects of our business change from time to time.  Changes in GAAP, or the accepted interpretation of these accounting principles, can affect our reported income, earnings, and stockholders’ equity.  In addition, changes in tax accounting rules or the interpretations thereof could affect our taxable income and our dividend distribution requirements.  These changes may materially adversely affect our results of operations.
 
Dividends payable by REITs do not qualify for the reduced tax rates
 
Legislation enacted in 2003 generally reduces the maximum tax rate for dividends payable to domestic stockholders that are individuals, trusts and estates from 38.6% to 15% (through 2012).  Beginning in 2013, the rate increased to 20% for taxpayers with incomes exceeding $400,000 ($450,000 for married taxpayers).  Dividends payable by REITs, however, are generally not eligible for the reduced rates.  Although this legislation does not adversely affect the taxation of REITs or dividends paid by REITs, the more favorable rates applicable to regular corporate dividends could cause investors who are individuals, trusts and estates to perceive investments in REITs to be relatively less attractive than investments in stock of non-REIT corporations that pay dividends, which could adversely affect the value of the stock of REITs, including our common stock.
 
Future legal changes could require us to significantly restructure our operations in order to maintain our investment company exemption, which would materially and adversely affect us.
 
Our objective has been to conduct our business so as not to become regulated as an investment company under the Investment Company Act.  Section 3(c)(5)(C) of the Investment Company Act exempts from the definition of “investment company” entities that are “primarily engaged in the business of purchasing or otherwise acquiring mortgages and other liens on and interests in real estate.”  Under current interpretations of the SEC staff, this exemption generally means that at least 55% of our assets must be comprised of “qualifying real estate assets” and at least 80% of our portfolio must be comprised of qualifying real estate assets and real estate-related assets under the Investment Company Act.  We primarily rely on an existing interpretation of the SEC staff that generally provides that “whole pool certificates” that are issued or guaranteed by Fannie Mae, Freddie Mac or Ginnie Mae (or Agency Whole Pool Certificates) are considered qualifying real estate assets under Section 3(c)(5)(C).  We treat as real estate-related assets MBS that do not represent all of the certificates issued with respect to the entire pool of mortgages.  Compliance with this exemption inherently limits the types of assets we may acquire from time to time.
 
On August 31, 2011, the SEC issued a concept release under which it announced that it is reviewing interpretive issues related to the Section 3(c)(5)(C) exemption, including requesting comments on whether it should reconsider whether Agency Whole Pool Certificates may be treated as interests in real estate (and presumably Qualifying Real Estate Assets) and whether companies, such as us, whose primary business consists of investing in Agency Whole Pool Certificates, are the type of entities that Congress intended to be covered by the exclusion provided by Section 3(c)(5)(C).
 
The potential timetable and outcome of the SEC’s review are unclear.  However, if the SEC determines that Agency Whole Pool Certificates are not interests in real estate (and therefore not Qualifying Real Estate Assets), adopts an otherwise adverse interpretation with respect to Agency Whole Pool Certificates, issues different guidance regarding any of the matters bearing upon the exemption under Section 3(c)(5)(C) or otherwise believes we do not satisfy an Investment Company Act exemption, we would be required to significantly restructure our operations in order to maintain our investment company exemption.  Under these circumstances, our ability to use leverage and our access to more favorable methods of financing would be substantially reduced, and we would be unable to conduct our business as we currently conduct it.  We may also be required to sell certain of our assets and/or limit the types of assets we acquire.  Under the circumstances described above, it is likely that our net interest income would be significantly reduced, which would materially and adversely affect our business.
 

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Risks Related to Our Corporate Structure
 
Our ownership limitations may restrict business combination opportunities.
 
To qualify as a REIT under the Code, no more than 50% of the value of our outstanding shares of capital stock may be owned, directly or under applicable attribution rules, by five or fewer individuals (as defined by the Code to include certain entities) during the last half of each taxable year.  To preserve our REIT qualification, among other things, our charter generally prohibits direct or indirect ownership by any person of more than 9.8% of the number or value of the outstanding shares of our capital stock.  Generally, shares owned by affiliated owners will be aggregated for purposes of the ownership limit.  Any transfer of shares of our capital stock or other event that, if effective, would violate the ownership limit will be void as to that number of shares of capital stock in excess of the ownership limit and the intended transferee will acquire no rights in such shares.  Shares issued or transferred that would cause any stockholder to own more than the ownership limit or cause us to become “closely held” under Section 856(h) of the Code will automatically be converted into an equal number of shares of excess stock.  All excess stock will be automatically transferred, without action by the prohibited owner, to a trust for the exclusive benefit of one or more charitable beneficiaries that we select, and the prohibited owner will not acquire any rights in the shares of excess stock.  The restrictions on ownership and transfer contained in our charter could have the effect of delaying, deferring or preventing a change in control or other transaction in which holders of shares of common stock might receive a premium for their shares of common stock over the then current market price or that such holders might believe to be otherwise in their best interests.  The ownership limit provisions also may make our shares of common stock an unsuitable investment vehicle for any person seeking to obtain, either alone or with others as a group, ownership of more than 9.8% of the number or value of our outstanding shares of capital stock.
 
Provisions of Maryland law and other provisions of our organizational documents may limit the ability of a third party to acquire control of our company.
 
Certain provisions of the Maryland General Corporation Law (or MGCL) may have the effect of delaying, deferring or preventing a transaction or a change in control of our company that might involve a premium price for holders of our common stock or otherwise be in their best interests, including:
 
“business combination” provisions that, subject to limitations, prohibit certain business combinations between us and an “interested stockholder” (defined generally as any person who beneficially owns 10% or more of the voting power of our outstanding voting stock or an affiliate or associate of ours who, at any time within the two-year period immediately prior to the date in question, was the beneficial owner of 10% or more of the voting power of our then outstanding stock) or an affiliate of an interested stockholder for five years after the most recent date on which the stockholder becomes an interested stockholder, and thereafter impose two supermajority stockholder voting requirements to approve these combinations (unless our common stockholders receive a minimum price, as defined under Maryland law, for their shares in the form of cash or other consideration in the same form as previously paid by the interested stockholder for its shares); and
 
“control share” provisions that provide that holders of “control shares” of our company (defined as voting shares of stock which, when aggregated with all other shares controlled by the acquiring stockholder, entitle the stockholder to exercise one of three increasing ranges of voting power in electing directors) acquired in a “control share acquisition” (defined as the direct or indirect acquisition of ownership or control of “control shares”) have no voting rights except to the extent approved by our stockholders by the affirmative vote of at least two-thirds of all the votes entitled to be cast on the matter, excluding all interested shares.

Our bylaws provide that we are not subject to the “control share” provisions of the MGCL.  However, our Board may elect to make the “control share” statute applicable to us at any time, and may do so without stockholder approval.
 
Title 3, Subtitle 8 of the MGCL permits our Board, without stockholder approval and regardless of what is currently provided in our charter or bylaws, to elect on behalf of our company to be subject to statutory provisions that may have the effect of delaying, deferring or preventing a transaction or a change in control of our company that might involve a premium price for holders of our common stock or otherwise be in their best interest.  Our Board may elect to opt in to any or all of the provisions of Title 3, Subtitle 8 of the MGCL without stockholder approval at any time.  In addition, without our having elected to be subject to Subtitle 8, our charter and bylaws already (1) provide for a classified board, (2) require the affirmative vote of the holders of at least 80% of the votes entitled to be cast in the election of directors for the removal of any director from our Board, which removal will be allowed only for cause, (3) vest in our Board the exclusive power to fix the number of directorships and (4) require, unless called by our Chairman of the Board, Chief Executive Officer or President or our Board, the written request of stockholders entitled to cast not less than a majority of all votes entitled to be cast at such a meeting to call a special meeting.  These provisions may delay or prevent a change of control of our company.

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Future offerings of debt securities, which would rank senior to our common stock upon liquidation, and future offerings of equity securities, which would dilute our existing stockholders and may be senior to our common stock for the purposes of dividend and liquidating distributions, may adversely affect the market price of our common stock.
 
In the future, we may attempt to increase our capital resources by making offerings of debt or additional offerings of equity securities, including commercial paper, senior or subordinated notes and series or classes of preferred stock or common stock.  Upon liquidation, holders of our debt securities and shares of preferred stock, if any, and lenders with respect to other borrowings will receive a distribution of our available assets prior to the holders of our common stock. Additional equity offerings may dilute the holdings of our existing stockholders or reduce the market price of our common stock, or both.  Preferred stock could have a preference on liquidating distributions or a preference on dividend payments or both that could limit our ability to make a dividend distribution to the holders of our common stock.  Because our decision to issue securities in any future offering will depend on market conditions and other factors beyond our control, we cannot predict or estimate the amount, timing or nature of our future offerings.  Thus, holders of our common stock bear the risk of our future offerings reducing the market price of our common stock and diluting their stock holdings in us.
 
Our Board may approve the issuance of capital stock with terms that may discourage a third party from acquiring us.
 
Our charter permits our Board to issue shares of preferred stock, issuable in one or more classes or series.  We may issue a class of preferred stock to individual investors in order to comply with the various REIT requirements or to finance our operations.  Our charter further permits our Board to classify or reclassify any unissued shares of preferred or common stock and establish the preferences and rights (including, among others, voting, dividend and conversion rights) of any such shares of stock, which rights may be superior to those of shares of our common stock.  Thus, our Board could authorize the issuance of shares of preferred or common stock with terms and conditions that could have the effect of discouraging a takeover or other transaction in which holders of the outstanding shares of our common stock might receive a premium for their shares over the then current market price of our common stock.
 
Future issuances or sales of shares could cause our share price to decline.
 
Sales of substantial numbers of shares of our common stock in the public market, or the perception that such sales might occur, could adversely affect the market price of our common stock.  In addition, the sale of these shares could impair our ability to raise capital through a sale of additional equity securities.  Other issuances of our common stock could have an adverse effect on the market price of our common stock.  In addition, future issuances of our common stock may be dilutive to existing stockholders.


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Item 1B.  Unresolved Staff Comments.
 
None.
 
Item 2.         Properties.
 
Office Leases
 
We pay monthly rent pursuant to two operating leases.  Our lease for our corporate headquarters in New York, New York extends through May 31, 2020.  The lease provides for aggregate cash payments ranging over time from approximately $2.4 million to $2.5 million per year, paid on a monthly basis, exclusive of escalation charges.  In addition, as part of this lease agreement, we have provided the landlord a $785,000 irrevocable standby letter of credit fully collateralized by cash.  The letter of credit may be drawn upon by the landlord in the event that we default under certain terms of the lease.  In addition, we have a lease through December 31, 2016, for our off-site back-up facility located in Rockville Centre, New York, which provides for, among other things, cash payments ranging over time from $28,000 to $30,000 per year, paid on a monthly basis.

Item 3.         Legal Proceedings.
 
There are no material legal proceedings to which we are a party or any of our assets are subject.
 
To date, we have not been required to make any payments to the IRS as a penalty for failing to make disclosures required with respect to certain transactions that have been identified by the IRS as abusive or that have a significant tax avoidance purpose.
 
Item 4.         Mine Safety Disclosures.
 
Not applicable.


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PART II

Item 5.         Market for Registrant’s Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities.
 
Market Information
 
Our common stock is listed on the New York Stock Exchange, under the symbol “MFA.”  On February 7, 2014, the last sales price for our common stock on the New York Stock Exchange was $7.45 per share.  The following table sets forth the high and low sales prices per share of our common stock during each calendar quarter for the years ended December 31, 2013 and 2012:
 
 
 
2013
 
2012
Quarter Ended
 
High
 
Low
 
High
 
Low
March 31
 
$
9.59

 
$
8.21

 
$
7.60

 
$
6.65

June 30
 
9.55

 
7.90

 
7.93

 
7.01

September 30
 
8.60

 
6.98

 
8.63

 
7.61

December 31
 
7.77

 
7.01

 
8.77

 
7.50

 
Holders
 
As of February 7, 2014, we had 667 registered holders of our common stock.  Such information was obtained through our registrar and transfer agent, based on the results of a broker search.
 
Dividends
 
No dividends may be paid on our common stock unless full cumulative dividends have been paid on our preferred stock.  We have paid full cumulative dividends on our preferred stock on a quarterly basis through December 31, 2013.  We have historically declared cash dividends on our common stock on a quarterly basis.  During 2013 and 2012, we declared total cash dividends to holders of our common stock of $594.3 million ($1.64 per share) and $314.6 million ($0.88 per share), respectively.  In general, our common stock dividends have been characterized as ordinary income to our stockholders for income tax purposes.  However, a portion of our common stock dividends may, from time to time, be characterized as capital gains or return of capital.  For 2013 and 2012, our common stock dividends were characterized as ordinary income to stockholders.  (For additional dividend information, see Notes 11(a) and 11(b) to the consolidated financial statements, included under Item 8 of this Annual Report on Form 10-K.)
 
We elected to be taxed as a REIT for U.S. federal income tax purposes commencing with our taxable year ended December 31, 1998 and, as such, anticipate distributing at least 90% of our REIT taxable income within the timeframe permitted by the Code.  Although we may borrow funds to make distributions, cash for such distributions has generally been, and is expected to continue to be, largely generated from our results of our operations.
 

22


We declared and paid the following dividends on our common stock during the years 2013 and 2012:
 
Year
 
Declaration Date
 
Record Date
 
Payment Date
 
Dividend per
Share
2013
 
March 4, 2013
 
March 18, 2013
 
April 10, 2013
 
$
0.50

(1)
 
 
March 28, 2013
 
April 12, 2013
 
April 30, 2013
 
0.22

 
 
 
June 28, 2013
 
July 12, 2013
 
July 31, 2013
 
0.22

 
 
 
August 1, 2013
 
August 12, 2013
 
August 30, 2013
 
0.28

(2)
 
 
September 26, 2013
 
October 11, 2013
 
October 31, 2013
 
0.22

 
 
 
December 11, 2013
 
December 31, 2013
 
January 31, 2014
 
0.20

(3)
 
 
 
 
 
 
 
 
 
 
2012
 
March 23, 2012
 
April 4, 2012
 
April 30, 2012
 
$
0.24

 
 
 
June 27, 2012
 
July 13, 2012
 
July 31, 2012
 
0.23

 
 
 
September 28, 2012
 
October 12, 2012
 
October 31, 2012
 
0.21

 
 
 
December 12, 2012
 
December 28, 2012
 
January 31, 2013
 
0.20

 

(1)  Reflects the special cash dividend on common stock declared on March 4, 2013.
(2)  Reflects the special cash dividend on common stock declared on August 1, 2013.
(3)  At December 31, 2013, the Company had accrued dividends and dividend equivalent rights (or DERs) payable of $73.6 million related to the common stock dividend declared on December 11, 2013.


Dividends are declared and paid at the discretion of our Board and depend on our cash available for distribution, financial condition, ability to maintain our qualification as a REIT, and such other factors that our Board may deem relevant.  We have not established a minimum payout level for our common stock.  (See Part I, Item 1A., “Risk Factors”, and Item 7, “Management’s Discussion and Analysis of Financial Condition and Results of Operations”, of this Annual Report on Form 10-K, for information regarding the sources of funds used for dividends and for a discussion of factors, if any, which may adversely affect our ability to pay dividends.)
 
Purchases of Equity Securities
 
As previously disclosed, in August 2005, our Board authorized a stock repurchase program (or Repurchase Program), to repurchase up to 4.0 million shares of its outstanding common stock under the Repurchase Program.  The Board reaffirmed such authorization in May 2010.  In December 2013, our Board increased the number of shares authorized for repurchase to 10.0 million shares. Such authorization does not have an expiration date and, at present, there is no intention to modify or otherwise rescind such authorization.  Subject to applicable securities laws, repurchases of common stock under the Repurchase Program are made at times and in amounts as we deem appropriate (including, in our discretion, through the use of one or more plans adopted under Rule 10b-5-1 promulgated under the Securities Exchange Act of 1934, as amended (or 1934 Act)), using available cash resources.  Shares of common stock repurchased by us under the Repurchase Program are cancelled and, until reissued by us, are deemed to be authorized but unissued shares of our common stock.  The Repurchase Program may be suspended or discontinued by us at any time and without prior notice.

During the year ended December 31, 2013, we repurchased 2,143,354 shares of our common stock under the Repurchase Program at a total cost of approximately $15.4 million and an average cost of $7.20 per share.  During the year ended December 31, 2012, we repurchased 1,240,291 shares of our common stock under the Repurchase Program at a total cost of approximately $9.7 million and an average cost of $7.83 per share.



23


The following table presents information with respect to (i) shares of common stock repurchased by us under the Repurchase Program and (ii) restricted shares withheld (under the terms of grants under our Amended and Restated 2010 Equity Compensation Plan (or 2010 Plan)) to offset tax withholding obligations that occur upon the vesting and release of restricted stock awards and restricted stock units and (iii) eligible shares remaining for repurchase under the Repurchase Program in each case during the fourth quarter of 2013:
 
Month 
 
Total
Number of
Shares
Purchased
 
Weighted
Average Price
Paid Per
Share (1)
 
Total Number of
Shares Repurchased as
Part of Publicly
Announced
Repurchase Program
or Employee Plan
 
Maximum Number of
Shares that May Yet be
Purchased Under the
Repurchase Program or
Employee Plan
October 1-31, 2013:
 
 

 
 

 
 

 
 

Repurchase Program (2)
 

 
$

 

 
2,755,909

Employee Transactions (3)
 

 

 
N/A

 
N/A

November 1-30, 2013:
 
 

 
 

 
 

 
 

Repurchase Program (2)
 
728,244

 
7.22

 

 
2,027,665

Employee Transactions (3)
 

 

 
N/A

 
N/A

December 1-31, 2013:
 
 

 
 

 
 

 
 

Repurchase Program (2)
 
1,411,310

 
7.19

 

 
6,616,355

Employee Transactions (3)
 
49,896

 
7.09

 
N/A

 
N/A

Total Repurchase Program (2)
 
2,139,554

 
$
7.20

 

 
6,616,355

Total Employee Transactions (3)
 
49,896

 
$
7.09

 
N/A

 
N/A


(1)  Includes brokerage commissions.
(2)  In December 2013, our Board increased the number of shares authorized for repurchase to 10.0 million shares. As of December 31, 2013, we had repurchased an aggregate of 3,383,645 shares under the Repurchase Program.
(3)  Our 2010 Plan provides that the value of the shares delivered or withheld be based on the price of our common stock on the date the relevant transaction occurs.

Discount Waiver, Direct Stock Purchase and Dividend Reinvestment Plan
 
In September 2003, we initiated a Discount Waiver, Direct Stock Purchase and Dividend Reinvestment Plan (or the DRSPP) to provide existing stockholders and new investors with a convenient and economical way to purchase shares of our common stock.  Under the DRSPP, existing stockholders may elect to automatically reinvest all or a portion of their cash dividends in additional shares of our common stock and existing stockholders and new investors may make optional cash purchases of shares of our common stock in amounts ranging from $50 (or $1,000 for new investors) to $10,000 on a monthly basis and, with our prior approval, in excess of $10,000.  At our discretion, we may issue shares of our common stock under the DRSPP at discounts of up to 5% from the prevailing market price at the time of purchase.  Computershare Shareowner Services LLC is the administrator of the DRSPP (or the Plan Agent).  Stockholders who own common stock that is registered in their own name and want to participate in the DRSPP must deliver a completed enrollment form to the Plan Agent.  Stockholders who own common stock that is registered in a name other than their own (e.g., broker, bank or other nominee) and want to participate in the DRSPP must either request such nominee holder to participate on their behalf or request that such nominee holder re-register our common stock in the stockholder’s name and deliver a completed enrollment form to the Plan Agent. During the years ended 2013 and 2012, we issued 9,511,739 and 1,977,165 shares of common stock through the DRSPP generating net proceeds of approximately $77.6 million and $15.5 million, respectively.
 
Controlled Equity Offering Program
 
On August 20, 2004, we initiated a controlled equity offering program (or the CEO Program) through which we may, from time to time, publicly offer and sell shares of our common stock through Cantor Fitzgerald & Co. in privately negotiated and/or at-the-market transactions.  During 2013 and 2012, we did not issue any shares of common stock through our CEO Program.
 

24


Securities Authorized For Issuance Under Equity Compensation Plans
 
During 2010, we adopted the 2010 Plan, as approved by our stockholders.  (For a description of the 2010 Plan, see Note 13(a) to the consolidated financial statements included under Item 8 of this Annual Report on Form 10-K.)
 
The following table presents certain information with respect to our equity compensation plans as of December 31, 2013:
 
Award (1)
 
Number of securities
to be issued upon
exercise of
outstanding options,
warrants and rights
 
Weighted-average
exercise price of
outstanding options,
warrants and rights
 
Number of securities
remaining available for
future issuance under
equity compensation
plans (excluding
securities reflected in the
first column of this table)
Stock Options
 
5,000

 
$
8.40

 
 

 
Restricted Stock Units (or RSUs)
 
777,818

 
 

 
 

 
Total
 
782,818

 
 

(2)
9,705,913

(3)

(1)  All equity based compensation is granted pursuant to plans that have been approved by our stockholders.
(2)  A weighted average exercise price is not applicable for our RSUs, as such equity awards result in the issuance of shares of our common stock provided that such awards vest and, as such, do not have an exercise price.  At December 31, 2013, 98,824 RSUs were vested, 405,900 RSUs were subject to time based vesting and 273,094 RSUs had vesting subject to achieving a market condition.
(3) Number of securities remaining available for future issuance under equity compensation plans excludes stock options and RSUs presented in the table and 443,967 shares of restricted stock, which were issued and outstanding at December 31, 2013, which are not presented in the table.


25


Item 6.  Selected Financial Data.
 
Our selected financial data set forth below is derived from our audited financial statements and should be read in conjunction with our consolidated financial statements and the accompanying notes, included under Item 8 of this Annual Report on Form 10-K.
 
 
 
At or/For the Year Ended December 31,
(Dollars in Thousands, Except per Share Amounts)
 
2013
 
2012
 
2011
 
2010
 
2009
 
 
 
 
 
 
 
 
 
 
 
Operating Data:
 
 

 
 

 
 

 
 

 
 

Interest and dividend income on mortgage-backed securities
 
$
482,816

 
$
499,030

 
$
496,611

 
$
390,953

 
$
504,464

Interest income on cash and cash equivalent investments
 
124

 
127

 
136

 
385

 
1,097

Interest expense
 
(164,013
)
 
(171,670
)
 
(149,411
)
 
(145,125
)
 
(229,406
)
Net impairment losses recognized in earnings (1)
 

 
(1,200
)
 
(10,570
)
 
(12,277
)
 
(17,928
)
Unrealized net gains and net interest income from Linked Transactions
 
3,225

 
12,610

 
3,015

 
53,762

 
8,829

Gain on sales of MBS and U.S. Treasury securities, net (2)
 
25,825

 
9,001

 
6,730

 
33,739

 
22,617

Loss on termination of repurchase agreements (3)
 

 

 

 
(26,815
)
 

Other (loss)/income, net
 
(7,298
)
 
10

 
1,082

 
1,464

 
1,563

Operating and other expense
 
(37,970
)
 
(41,069
)
 
(31,179
)
 
(26,324
)
 
(23,047
)
Net income
 
$
302,709

 
$
306,839

 
$
316,414

 
$
269,762

 
$
268,189

Preferred stock dividends
 
13,750

 
8,160

 
8,160

 
8,160

 
8,160

Issuance costs of redeemed preferred stock (4)
 
3,947

 

 

 

 

Net income available to common stock and participating securities
 
$
285,012

 
$
298,679

 
$
308,254

 
$
261,602

 
$
260,029

Earnings per share — basic and diluted
 
$
0.78

 
$
0.83

 
$
0.90

 
$
0.93

 
$
1.06

Dividends declared per share of common stock (5)(6)
 
$
1.640

 
$
0.880

 
$
1.005

 
$
0.890

 
$
0.990

Dividends declared per share of preferred stock (7)
 
$
2.136

 
$
2.125

 
$
2.125

 
$
2.125

 
$
2.125

 
 
 
 
 
 
 
 
 
 
 
Balance Sheet Data:
 
 

 
 

 
 

 
 

 
 

Mortgage-backed securities
 
$
11,371,358

 
$
12,607,625

 
$
10,912,977

 
$
8,058,710

 
$
8,757,954

Cash and cash equivalents
 
565,370

 
401,293

 
394,022

 
345,243

 
653,460

Linked Transactions
 
28,181

 
12,704

 
55,801

 
179,915

 
86,014

Total assets
 
12,471,908

 
13,517,550

 
11,750,634

 
8,687,407

 
9,627,209

Repurchase agreements
 
8,339,297

 
8,752,472

 
7,813,159

 
5,992,269

 
7,195,827

Securitized debt
 
366,205

 
646,816

 
875,520

 
220,933

 

Swaps (in a liability position)
 
28,217

 
63,034

 
114,220

 
139,142

 
152,463

Total liabilities
 
9,329,657

 
10,206,544

 
9,252,874

 
6,436,960

 
7,458,947

Preferred stock, liquidation preference
 
200,000

 
96,000

 
96,000

 
96,000

 
96,000

Total stockholders’ equity
 
3,142,251

 
3,311,006

 
2,497,760

 
2,250,447

 
2,168,262

 
 
 
 
 
 
 
 
 
 
 
Other Data:
 
 

 
 

 
 

 
 

 
 

Average total assets
 
$
13,192,285

 
$
12,942,171

 
$
11,185,224

 
$
8,242,541

 
$
10,105,128

Average total stockholders’ equity
 
$
3,262,458

 
$
2,945,687

 
$
2,701,204

 
$
2,226,546

 
$
1,777,311

Return on average total assets (8)
 
2.16
%
 
2.31
%
 
2.76
%
 
3.17
%
 
2.57
%
Return on average total stockholders’ equity (9)
 
8.74
%
 
10.14
%
 
11.41
%
 
11.75
%
 
14.63
%
Total average stockholders’ equity to total average assets (10)
 
24.73
%
 
22.76
%
 
24.18
%
 
26.91
%
 
17.59
%
Dividend payout ratio (11)
 
1.10
%
 
1.06
%
 
1.12
%
 
0.96
%
 
0.93
%
Book value per share of common stock (12)
 
$
8.06

 
$
8.99

 
$
6.74

 
$
7.68

 
$
7.40


26



(1) Reflects OTTI through earnings related to Non-Agency MBS. 
(2) 2013: We sold Non-Agency MBS for $152.6 million, realizing gross gains of $25.8 million and sold U.S. Treasury securities for $422.2 million, realizing net losses of approximately $24,000. 2012:  We sold Agency MBS for $168.9 million, realizing gross gains of $9.0 million.  2011:  We sold Agency MBS for $150.6 million, realizing gross gains of $6.7 million.  2010:  During the first quarter of 2010, we sold 52 of our longer term-to-reset Agency MBS for $931.9 million, realizing gross gains of $33.1 million.  (See Note (3) below.)  2009:  We sold 36 of our longer-term Agency MBS with an amortized cost of $628.3 million for $650.9 million, realizing gross gains of $22.6 million.
(3)  In connection with sales of our Agency MBS in the first quarter of 2010, we terminated $657.3 million of repurchase agreement borrowings, incurring losses of $26.8 million.
(4)
Issuance costs of redeemed preferred stock represent the original offering costs related to the 8.50% Series A Cumulative Redeemable Preferred Stock (“Series A Preferred Stock”), which was redeemed on May 16, 2013.
(5)  During 2013, 2012 and 2011, we declared our common stock dividend in the third month of each calendar quarter.  For the periods presented prior to 2011, we declared dividends on our common stock in the month subsequent to the end of each calendar quarter, with the exception of the fourth quarter dividend, which was typically declared during the fourth calendar quarter for tax reasons.
(6) 2013: Includes special cash dividends paid totaling $0.78 per share. 2011: Includes special cash dividend of $0.02 per share.
(7) 2013: Reflects dividends declared per share on Series A Preferred Stock and 7.50% Series B Cumulative Redeemable Preferred Stock (“Series B Preferred Stock”) of $0.80 and $1.33, respectively.
(8) Reflects net income available to common stock and participating securities divided by average total assets.
(9)  Reflects net income available to common stock and participating securities divided by average total stockholders’ equity.
(10)  Reflects total average stockholders’ equity divided by total average assets.
(11)  Reflects dividends declared per share of common stock divided by earnings per share.
(12)  Reflects total stockholders’ equity less the preferred stock liquidation preference divided by total shares of common stock outstanding.


27


Item 7.         Management’s Discussion and Analysis of Financial Condition and Results of Operations.
 
The following discussion should be read in conjunction with our financial statements and accompanying notes included in Item 8 of this Annual Report on Form 10-K.
 
GENERAL
 
We are a REIT primarily engaged in the business of investing, on a leveraged basis, in residential Agency MBS and Non-Agency MBS.  Our principal business objective is to generate net income for distribution to our stockholders resulting from the difference between the interest and other income we earn on our investments and the interest expense we pay on the borrowings that we use to finance our leveraged investments and our operating costs.
 
At December 31, 2013, we had total assets of approximately $12.472 billion, of which $11.371 billion, or 91.2%, represented our MBS portfolio.  At such date, our MBS portfolio was comprised of $6.519 billion of Agency MBS and $4.852 billion of Non-Agency MBS.  Our remaining investment-related assets were primarily comprised of cash and cash equivalents, restricted cash, collateral obtained in connection with reverse repurchase agreements, derivative instruments and MBS-related receivables.
 
The results of our business operations are affected by a number of factors, many of which are beyond our control, and primarily depend on, among other things, the level of our net interest income, the market value of our assets, the supply and demand for MBS in the marketplace, the terms and availability of adequate financing, general economic and real estate conditions (both on a national and local level), the impact of government actions in the real estate and mortgage sector, and the credit performance of our Non-Agency MBS.  Our net interest income varies primarily as a result of changes in interest rates, the slope of the yield curve (i.e., the differential between long-term and short-term interest rates), borrowing costs (i.e., our interest expense) and prepayment speeds on our MBS, the behavior of which involves various risks and uncertainties.  Interest rates and conditional prepayment rates (or CPRs) (which measure the amount of unscheduled principal prepayment on a bond as a percentage of the bond balance), vary according to the type of investment, conditions in the financial markets, competition and other factors, none of which can be predicted with any certainty.
 
With respect to our business operations, increases in interest rates, in general, may over time cause:  (i) the interest expense associated with our borrowings to increase; (ii) the value of our MBS portfolio and, correspondingly, our stockholders’ equity to decline; (iii) coupons on our ARM-MBS to reset, on a delayed basis, to higher interest rates; (iv) prepayments on our MBS to decline, thereby slowing the amortization of our MBS purchase premiums and the accretion of our purchase discounts; and (v) the value of our derivative instruments and, correspondingly, our stockholders’ equity to increase.  Conversely, decreases in interest rates, in general, may over time cause:  (i) the interest expense associated with our borrowings to decrease; (ii) the value of our MBS portfolio and, correspondingly, our stockholders’ equity to increase; (iii) coupons on our ARM-MBS to reset, on a delayed basis, to lower interest rates; (iv) prepayments on our MBS to increase, thereby accelerating the amortization of our MBS purchase premiums and the accretion of our purchase discounts; and (v) the value of our derivative instruments and, correspondingly, our stockholders’ equity to decrease.  In addition, our borrowing costs and credit lines are further affected by the type of collateral we pledge and general conditions in the credit market.
 
We are exposed to credit risk in our Non-Agency MBS portfolio, generally meaning that we are subject to credit losses in our Non-Agency MBS portfolio that correspond to the risk of delinquency, default and foreclosure on the real estate collateralizing our Non-Agency MBS.  In particular, we have significantly higher exposure in our Non-Agency MBS portfolio in California, Florida, New York, Virginia and Maryland.  We believe the discounted purchase prices paid on certain of our Non-Agency MBS effectively mitigates our risk of loss in the event, as we expect on most, that we receive less than 100% of the par value of these securities.  Our Non-Agency MBS investment process involves analysis focused primarily on quantifying and pricing credit risk.  Interest income on Non-Agency MBS purchased at a significant discount is recorded at an effective yield, based on management’s estimate of expected cash flows from each security, which estimate is based on our observation of current information and events and includes assumptions related to fluctuations in interest rates, prepayment speeds and the timing and amount of credit losses.

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The table below presents the composition of our MBS portfolios with respect to repricing characteristics as of December 31, 2013:
 
 
 
December 31, 2013
Underlying Mortgages
 
Agency MBS
Fair Value (1)
 
Non-Agency MBS
Fair Value (2) (3)
 
Total
MBS (1)
 
Percent
of Total
(In Thousands)
 
 
 
 
 
 
 
 
Hybrids in contractual fixed-rate period
 
$
2,918,806

 
$
1,008,794

 
$
3,927,600

 
34.5
%
Hybrids in adjustable period
 
1,039,768

 
2,310,169

 
3,349,937

 
29.5

15-year fixed rate
 
2,460,066

 
12,906

 
2,472,972

 
21.8

Greater than 15-year fixed rate
 

 
1,432,639

 
1,432,639

 
12.6

Floaters
 
99,461

 
83,740

 
183,201

 
1.6

Total
 
$
6,518,101

 
$
4,848,248

 
$
11,366,349

 
100.0
%

(1)  Does not include principal receivable in the amount of $1.1 million.
(2)  Does not reflect $130.8 million of Non-Agency MBS underlying our Linked Transactions.
(3) Does not reflect $3.9 million of Non-Agency MBS, which is a re-performing deal with both fixed rate and hybrid re-performing loans.
 
As of December 31, 2013, approximately $7.833 billion, or 68.9%, of our MBS portfolio was in its contractual fixed-rate period or were fixed-rate MBS and approximately $3.533 billion, or 31.1%, was in its contractual adjustable-rate period, or were floating rate MBS.  Our ARM-MBS in their contractual adjustable-rate period primarily include MBS collateralized by Hybrids for which the initial fixed-rate period has elapsed, such that the interest rate will typically adjust on an annual or semiannual basis.  In addition, at December 31, 2013, we had $183.2 million, or 1.6%, of MBS with interest rates that reset monthly.
 
Premiums arise when we acquire MBS at a price in excess of the principal balance of the mortgages securing such MBS (i.e., par value).  Conversely, discounts arise when we acquire MBS at a price below the principal balance of the mortgages securing such MBS.  Premiums paid on our MBS are amortized against interest income and accretable purchase discounts on our MBS are accreted to interest income.  Purchase premiums on our MBS, which are primarily carried on our Agency MBS, are amortized against interest income over the life of each security using the effective yield method, adjusted for actual prepayment activity.  An increase in the prepayment rate, as measured by the CPR, will typically accelerate the amortization of purchase premiums, thereby reducing the yield/interest income earned on such assets.  Generally, if prepayments on our Non-Agency MBS are less than anticipated, we expect that the income recognized on such assets would be reduced and impairments could result.
 
CPR levels are impacted by, among other things, conditions in the housing market, new regulations, government and private sector initiatives, interest rates, availability of credit to home borrowers, underwriting standards and the economy in general.  In particular, CPR reflects the conditional repayment rate (or CRR), which measures voluntary prepayments of mortgages collateralizing a particular MBS, and the conditional default rate (or CDR), which measures involuntary prepayments resulting from defaults.  CPRs on Agency MBS and Non-Agency MBS may differ significantly.  For the year ended December 31, 2013, our Agency MBS portfolio experienced a weighted average CPR of 17.9%, and our Non-Agency MBS portfolio (including Non-Agency MBS underlying our Linked Transactions) experienced a CPR of 15.9%. For the year ended December 31, 2012, our Agency MBS portfolio experienced a weighted average CPR of 19.8%, and our Non-Agency MBS portfolio (including Non-Agency MBS underlying our Linked Transactions) experienced a CPR of 15.0%. Over the last consecutive eight quarters, ending with December 31, 2013, the monthly fair value weighted average CPR on our MBS portfolio ranged from a high of 19.7% experienced during the quarter ended September 30, 2013 to a low of 12.1% experienced during the quarter ended December 31, 2013, with an average CPR over such quarters of 17.4%.  

When we purchase Non-Agency MBS at significant discounts to par value, we make certain assumptions with respect to each security.  These assumptions include, but are not limited to, future interest rates, voluntary prepayment rates, default rates, mortgage modifications and loss severities.  As part of our Non-Agency MBS surveillance process, we track and compare each security’s actual performance over time to the performance expected at the time of purchase or, if we have modified our original purchase assumptions, to our revised performance expectations.  To the extent that actual performance or our expectation of future performance of our Non-Agency MBS deviates materially from our expected performance parameters, we may revise our performance expectations, such that the amount of purchase discount designated as credit discount may be increased or decreased over time.  Nevertheless, credit losses greater than those anticipated or in excess of the recorded purchase discount could occur, which could materially adversely impact our operating results.


29


It is our business strategy to hold our MBS as long-term investments.  On at least a quarterly basis, we assess our ability and intent to continue to hold each security and, as part of this process, we monitor our securities for other-than-temporary impairment.  A change in our ability and/or intent to continue to hold any of our securities that are in an unrealized loss position, or a deterioration in the underlying characteristics of these securities, could result in our recognizing future impairment charges or a loss upon the sale of any such security.  At December 31, 2013, we had net unrealized gains of $14.4 million on our Agency MBS, comprised of gross unrealized gains of $106.7 million and gross unrealized losses of $92.3 million, and had net unrealized gains on our Non-Agency MBS of $738.5 million, comprised of gross unrealized gains of $742.3 million and gross unrealized losses of $3.7 million.  At December 31, 2013, we did not intend to sell any of our MBS that were in an unrealized loss position, and we believe it is more likely than not that we will not be required to sell those MBS before recovery of their amortized cost basis, which may be at their maturity.
 
We rely primarily on borrowings under repurchase agreements to finance our Agency MBS and Non-Agency MBS.  Our MBS have longer term contractual maturities than our borrowings under repurchase agreements.  We have also engaged in resecuritization transactions with respect to our Non-Agency MBS, which provide access to non-recourse financing.  Even though the majority of our MBS have interest rates that adjust over time based on short-term changes in corresponding interest rate indices (typically following an initial fixed-rate period for our Hybrids), the interest rates we pay on our borrowings and securitized debt will typically change at a faster pace than the interest rates we earn on our MBS.  In order to reduce this interest rate risk exposure, we may enter into derivative instruments, which at December 31, 2013 were comprised of Swaps.
 
Our Swap derivative hedging instruments are designated as cash-flow hedges against a portion of our current and forecasted LIBOR-based repurchase agreements and securitized debt.  Our Swaps do not extend the maturities of our repurchase agreements and/or securitized debt; they do, however, lock in a fixed rate of interest over their term for the notional amount of the Swap corresponding to the hedged item.  During 2013, we entered into 23 new Swaps with an aggregate notional amount of $2.501 billion, a weighted average fixed-pay rate of 1.85% and initial maturities ranging from two months to ten years and had Swaps with an aggregate notional amount of $975.4 million and a weighted average fixed-pay rate of 2.78% amortize and/or expire.  At December 31, 2013, we had Swaps with an aggregate notional amount of $4.045 billion with a weighted average fixed-pay rate of 1.91% and a weighted average variable interest rate of 0.17%.

Recent Market Conditions and Our Strategy
 
During 2013, we continued to invest in both Agency and Non-Agency MBS.  During the year ended December 31, 2013, we acquired approximately (i) $1.384 billion of Agency MBS at a weighted average purchase price of 104.3% of par value and (ii) $430.4 million of Non-Agency MBS (including $97.1 million of MBS, which are reported as a component of Linked Transactions), at a weighted average purchase price of 90.0% of par value.  At December 31, 2013, our combined MBS portfolio was approximately $11.371 billion compared to $12.608 billion at December 31, 2012. During 2013, we experienced a decrease in our MBS portfolio primarily due to principal repayments exceeding the addition of newly acquired assets.
 
At December 31, 2013, $6.519 billion, or 57.3% of our MBS portfolio, was invested in Agency MBS.  During the year ended 2013, the fair value of our Agency MBS holdings declined by $706.2 million. This was due to $1.846 billion of principal repayments, $57.9 million of premium amortization, and a $186.6 million decrease in net unrealized gains, which was partially offset by the addition of $1.384 billion of newly acquired assets.

At December 31, 2013, $4.852 billion, or 42.7% of our MBS portfolio, was invested in Non-Agency MBS.  In addition, we had $130.8 million of Non-Agency MBS that were reported as a component of our Linked Transactions.  During the year ended December 31, 2013, the fair value of our Non-Agency MBS holdings declined by $530.0 million. This was due to $924.4 million of principal repayments and the sale of Non-Agency MBS with an amortized cost of $126.8 million, which was partially offset by $73.2 million of discount accretion and a $114.7 million increase in net unrealized gains. In addition, we purchased $430.4 million of Non-Agency MBS, of which $97.1 million are reported as a component of Linked Transactions.

Our book value per common share was $8.06 as of December 31, 2013. Book value declined from $8.99 as of December 31, 2012 due primarily to previously disclosed special dividends of $0.78 per common share, a decline in the value of our Agency MBS portfolio partially offset by appreciation within the Non-Agency MBS portfolio.

Due to the interest rate environment in 2013, yields on acquired assets were lower than in prior periods.  At the end of 2013, the average coupon on mortgages underlying our Agency MBS was lower compared to the end of 2012, due to acquisition of assets in the marketplace at generally lower coupons reflecting current market conditions and as a result of prepayments on higher yielding assets and downward resets on Hybrid and ARM-MBS within the portfolio.  As a result, the coupon yield on our Agency MBS portfolio declined 45 basis points to 3.13% for 2013 from 3.58% for 2012.  In addition, the net Agency MBS yield decreased to 2.28% for 2013, from 2.83% for 2012.  Our Non-Agency MBS portfolio yielded 7.25% for 2013 compared to 6.76% for 2012

30


The increase in the yield on our Non-Agency MBS portfolio is primarily due to increases in accretable discount and changes in the forward yield curve.
 
We continue to believe that loss-adjusted returns on Non-Agency MBS represent attractive investment opportunities.  We believe that our $1.043 billion Credit Reserve and OTTI appropriately factors in remaining uncertainties regarding underlying mortgage performance and the potential impact on future cash flows.  Home price appreciation and underlying mortgage loan amortization continue to decrease the loan-to-value (or LTV) for many of the mortgages underlying our Non-Agency MBS portfolio. Home price appreciation is generally due to a combination of limited housing supply, low mortgage rates, capital flows into own-to-rent foreclosure purchases and demographic-driven U.S. household formation. We estimate that the LTV of mortgage loans underlying our Non-Agency MBS has declined from approximately 105% as of January 2012 to less than 85% as of December 31, 2013.  Lower LTVs lessen the likelihood of defaults and simultaneously decrease loss severities. Additionally, current to 60-days delinquent transition rates continue to decline from their 2009 peak. Further, during 2013, we have also observed faster voluntary prepayment (i.e. prepayment of loans in full with no loss) speeds than originally projected. The yields on our Non-Agency MBS that were purchased at a discount are generally positively impacted if prepayment rates on these securities exceed our prepayment assumptions. Based on these current conditions, we have reduced estimated future losses within our Non-Agency portfolio. As a result, during the year ended 2013, we transferred $207.9 million from Credit Reserve to accretable discount.  This increase in accretable discount is expected to increase the interest income realized over the remaining life of our Non-Agency MBS. The remaining average contractual life of such assets is approximately 22 years, but based on scheduled loan amortization and prepayments (both voluntary and involuntary), loan balances will decline substantially over time. Consequently, we believe that the majority of the impact on interest income from the reduction in Credit Reserve will occur over the next ten years.

 With $565.4 million of cash and cash equivalents and $369.1 million of unpledged Agency MBS at December 31, 2013, we believe that we are positioned to continue to take advantage of investment opportunities within the residential MBS marketplace.  In 2014 we intend to continue to selectively acquire Agency MBS and Non-Agency MBS.  We believe that our Non-Agency assets will benefit going forward as the existing private label MBS universe continues to decline in size due to prepayments, defaults and limited issuance.  In addition, while most Non-Agency MBS in our portfolio will not return their full face value due to loan defaults, we believe that they will deliver attractive loss adjusted yields due to our average amortized cost of 73% of face value as of December 31, 2013.
 
We believe the financial environment continues to be favorably impacted by accommodative U.S. monetary policy.  Repurchase agreement funding for both Agency MBS and Non-Agency MBS continues to be available to us from multiple counterparties.  Typically, repurchase agreement funding involving Non-Agency MBS is available from fewer counterparties, at terms requiring higher collateralization and higher interest rates, than for repurchase agreement funding involving Agency MBS.  At December 31, 2013, our debt consisted of borrowings under repurchase agreements with 26 counterparties, securitized debt, payable for unsettled purchases and Senior Notes outstanding and obligation to return securities obtained as collateral, resulting in a debt-to-equity multiple of 2.9 times.  (See table on page 47 under Results of Operations that presents our quarterly leverage multiples since March 31, 2012.)
 
 

31


Information About Our Assets
 
The tables below present certain information about our asset allocation at December 31, 2013.
 
ASSET ALLOCATION
GAAP Basis
 
Agency MBS
 
Non-Agency
MBS
 
MBS
Portfolio
 
Cash (1)
 
Other, net (2)
 
Total
(Dollars in Thousands)
 
 
 
 
 
 
 
 
 
 
 
 
Amortized Cost
 
$
6,504,846

 
$
4,113,600

 
$
10,618,446

 
$
602,890

 
$
(4,541
)
 
$
11,216,795

Market Value
 
$
6,519,221

 
$
4,852,137

 
$
11,371,358

 
$
602,890

 
$
(4,541
)
 
$
11,969,707

Less Payable for Unsettled
   Purchases
 
(6,737
)
 

 
(6,737
)
 

 

 
(6,737
)
Less Repurchase Agreements
 
(5,750,053
)
 
(2,589,244
)
 
(8,339,297
)
 

 

 
(8,339,297
)
Less Securitized Debt
 

 
(366,205
)
 
(366,205
)
 

 

 
(366,205
)
Less Senior Notes
 

 

 

 

 
(100,000
)
 
(100,000
)
Equity Allocated
 
$
762,431

 
$
1,896,688

 
$
2,659,119

 
$
602,890

 
$
(104,541
)
 
$
3,157,468

Less Swaps at Market Value
 

 

 

 

 
(15,217
)
 
(15,217
)
Net Equity Allocated
 
$
762,431

 
$
1,896,688

 
$
2,659,119

 
$
602,890

 
$
(119,758
)
 
$
3,142,251

Debt/Net Equity Ratio (3)
 
7.55
x
 
1.56
x
 
 

 
 

 
 

 
2.93
x
Non-GAAP Adjustments
 
Agency MBS
 
Non-Agency
MBS 
(4)
 
MBS
Portfolio
 
Cash (1)
 
Other, net (4)
 
Total
(Dollars in Thousands)
 
 
 
 
 
 
 
 
 
 
 
 
Amortized Cost
 
$

 
$
126,497

 
$
126,497

 
$

 
$
(26,968
)
 
$
99,529

Market Value
 
$

 
$
130,790

 
$
130,790

 
$

 
$
(26,968
)
 
$
103,822

Repurchase Agreements
 

 
279,921

 
279,921

 

 

 
279,921

Multi-year Collateralized
   Financing Arrangements
 

 
(383,743
)
 
(383,743
)
 

 

 
(383,743
)
Equity Allocated
 
$

 
$
26,968

 
$
26,968

 
$

 
$
(26,968
)
 
$

Less Swaps at Market Value
 

 

 

 

 

 

Net Equity Allocated
 
$

 
$
26,968

 
$
26,968

 
$

 
$
(26,968
)
 
$

Non-GAAP Basis
 
Agency MBS
 
Non-Agency
MBS 
(4)
 
MBS
Portfolio
 
Cash (1)
 
Other, net (5)
 
Total
(Dollars in Thousands)
 
 
 
 
 
 
 
 
 
 
 
 
Amortized Cost
 
$
6,504,846

 
$
4,240,097

 
$
10,744,943

 
$
602,890

 
$
(31,509
)
 
$
11,316,324

Market Value
 
$
6,519,221

 
$
4,982,927

 
$
11,502,148

 
$
602,890

 
$
(31,509
)
 
$
12,073,529

Less Payable for Unsettled Purchases
 
(6,737
)
 

 
(6,737
)
 

 

 
(6,737
)
Less Repurchase Agreements
 
(5,750,053
)
 
(2,309,323
)
 
(8,059,376
)
 

 

 
(8,059,376
)
Less Multi-year Collateralized Financing Arrangements
 

 
(383,743
)
 
(383,743
)
 

 

 
(383,743
)
Less Securitized Debt
 

 
(366,205
)
 
(366,205
)
 

 

 
(366,205
)
Less Senior Notes
 

 

 

 

 
(100,000
)
 
(100,000
)
Equity Allocated
 
$
762,431

 
$
1,923,656

 
$
2,686,087

 
$
602,890

 
$
(131,509
)
 
$
3,157,468

Less Swaps at Market Value
 

 

 

 

 
(15,217
)
 
(15,217
)
Net Equity Allocated
 
$
762,431

 
$
1,923,656

 
$
2,686,087

 
$
602,890

 
$
(146,726
)
 
$
3,142,251

Debt/Net Equity Ratio (6)
 
7.55
x
 
1.59
x
 
 

 
 

 
 

 
2.96
x

(1)  Includes cash, cash equivalents and restricted cash.
(2)  Includes securities obtained and pledged as collateral, Linked Transactions, interest receivable, goodwill, prepaid and other assets, obligation to return securities obtained as collateral, interest payable, dividends payable, excise tax and interest payable, and accrued expenses and other liabilities.
(3)  For the Agency and Non-Agency MBS portfolio, represents the sum of borrowings under repurchase agreements, payable for unsettled purchases and securitized debt as a multiple of net equity allocated.  The numerator of our Total Debt/Net Equity ratio also includes the obligation to return securities obtained as collateral of $383.7 million and Senior Notes.

32


(4)  Includes Non-Agency MBS and repurchase agreements underlying Linked Transactions.  The purchase of a Non-Agency MBS and contemporaneous repurchase borrowing of this MBS with the same counterparty are accounted for under GAAP as a “linked transaction.”  The two components of a linked transaction (MBS and associated borrowings under a repurchase agreement) are evaluated on a combined basis and are presented net as “Linked Transactions” on our consolidated balance sheet. Also includes the adjustment to reflect Non-Agency financing under multi-year collateralized financing arrangements of $383.7 million, while borrowings under repurchase agreements of $382.7 million for which U.S. Treasury securities are pledged as collateral is reclassified to other, net.
(5)  Includes securities obtained and pledged as collateral, interest receivable, goodwill, prepaid and other assets, borrowings under repurchase agreements of $382.7 million for which U.S. Treasury securities are pledged as collateral, interest payable, dividends payable, excise tax and interest payable, and accrued expenses and other liabilities.
(6)  For the Agency and Non-Agency MBS portfolio, represents the sum of borrowings under repurchase agreements, payable for unsettled purchases, multi-year collateralized financing arrangements of $383.7 million and securitized debt as a multiple of net equity allocated.  The numerator of our Total Debt/Net Equity ratio also includes borrowings under repurchase agreements of $382.7 million for which U.S. Treasury securities are pledged as collateral and Senior Notes.

Agency MBS
 
The following table presents certain information regarding the composition of our Agency MBS portfolio as of December 31, 2013 and 2012:

December 31, 2013
(Dollars in Thousands)
 
Current
Face
 
Weighted
Average
Purchase
Price
 
Weighted
Average
Market
Price
 
Fair
Value (1)
 
Weighted
Average
Loan Age
(Months) (2)
 
Weighted
Average
Coupon (2)
 
Weighted
Average
3 Month
CPR
15-Year Fixed Rate:
 
 

 
 

 
 

 
 

 
 

 
 

 
 

Low Loan Balance (3)
 
$
1,977,798

 
104.3
%
 
101.8
%
 
$
2,012,876

 
20

 
3.04
%
 
7.2
%
HARP (4)
 
205,895

 
104.7

 
101.8

 
209,597

 
19

 
3.01

 
6.3

Other (Post June 2009) (5)
 
222,691

 
103.7

 
106.1

 
236,253

 
40

 
4.16

 
17.0

Other (Pre June 2009) (6)
 
1,256

 
104.9

 
106.7

 
1,340

 
55

 
4.50

 
0.5

Total 15-Year Fixed Rate
 
$
2,407,640

 
104.3
%
 
102.2
%
 
$
2,460,066

 
22

 
3.14
%
 
8.0
%
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Hybrid:
 
 

 
 

 
 

 
 

 
 

 
 

 
 

Other (Post June 2009) (5)
 
$
2,502,413

 
104.1
%
 
104.4
%
 
$
2,612,108

 
32

 
3.22
%
 
17.7
%
Other (Pre June 2009) (6)
 
1,202,227

 
101.4

 
106.0

 
1,274,745

 
84

 
3.28

 
13.2

Total Hybrid
 
$
3,704,640

 
103.2
%
 
104.9
%
 
$
3,886,853

 
49

 
3.24
%
 
16.2
%
CMO/Other
 
$
164,639

 
102.5
%
 
104.0
%
 
$
171,182

 
154

 
2.44
%
 
8.7
%
Total Portfolio
 
$
6,276,919

 
103.6
%
 
103.8
%
 
$
6,518,101

 
41

 
3.18
%
 
12.9
%

December 31, 2012
(Dollars in Thousands)
 
Current
Face
 
Weighted
Average
Purchase
Price
 
Weighted
Average
Market
Price
 
Fair
Value (1)
 
Weighted
Average
Loan Age
(Months) (2)
 
Weighted
Average
Coupon (2)
 
Weighted
Average
3 Month
CPR
15-Year Fixed Rate:
 
 

 
 

 
 

 
 

 
 

 
 

 
 

Low Loan Balance (3)
 
$
1,674,980

 
104.4
%
 
107.0
%
 
$
1,792,740

 
14

 
3.32
%
 
10.2
%
HARP (4)
 
203,929

 
104.8

 
106.7

 
217,506

 
10

 
3.16

 
7.4

Other (Post June 2009) (5)
 
296,277

 
103.4

 
106.9

 
316,864

 
30

 
4.19

 
29.1

Other (Pre June 2009) (6)
 
2,347

 
104.9

 
107.5

 
2,524

 
43

 
4.50

 
20.9

Total 15-Year Fixed Rate
 
$
2,177,533

 
104.3
%
 
107.0
%
 
$
2,329,634

 
16

 
3.43
%
 
13.0
%
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Hybrid:
 
 

 
 

 
 

 
 

 
 

 
 

 
 

Other (Post June 2009) (5)
 
$
2,697,573

 
103.9
%
 
105.5
%
 
$
2,846,944

 
22

 
3.26
%
 
21.9
%
Other (Pre June 2009) (6)
 
1,722,463

 
101.4

 
106.9

 
1,841,275

 
70

 
4.10

 
23.0

Total Hybrid
 
$
4,420,036

 
102.9
%
 
106.1
%
 
$
4,688,219

 
41

 
3.59
%
 
22.3
%
CMO/Other
 
$
195,199

 
102.4
%
 
104.1
%
 
$
203,184

 
145

 
2.75
%
 
10.7
%
Total Portfolio
 
$
6,792,768

 
103.3
%
 
106.3
%
 
$
7,221,037

 
36

 
3.51
%
 
19.2
%

(1)  Does not include principal payments receivable of $1.1 million and $4.4 million at December 31, 2013 and 2012, respectively.
(2)  Weighted average is based on MBS current face at December 31, 2013 and 2012, respectively.
(3)  Low loan balance represents MBS collateralized by mortgages with original loan balance of less than or equal to $175,000.
(4)  Home Affordable Refinance Program (or HARP) MBS are backed by refinanced loans with LTVs greater than or equal to 80% at origination.
(5)  MBS issued in June 2009 or later. Majority of underlying loans are ineligible to refinance through the HARP program.
(6)  MBS issued before June 2009.

33


 
The following table presents certain information regarding our 15-year fixed-rate Agency MBS as of December 31, 2013 and 2012:

 December 31, 2013
Coupon
 
Current
Face
 
Weighted
Average
Purchase
Price
 
Weighted
Average
Market
Price
 
Fair
Value (1)
 
Weighted
Average
Loan Age
(Months) (2)
 
Weighted
Average
Loan Rate
 
Low Loan
Balance
and/or
HARP (3)
 
Weighted
Average
3 Month
CPR
(Dollars in Thousands)
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
15-Year Fixed Rate:
 
 

 
 

 
 

 
 

 
 

 
 

 
 

 
 

2.5%
 
$
1,096,097

 
104.0
%
 
99.2
%
 
$
1,086,853

 
12

 
3.04
%
 
100
%
 
4.0
%
3.0%
 
481,174

 
105.9

 
102.1

 
491,212

 
18

 
3.49

 
100

 
5.5

3.5%
 
15,429

 
103.5

 
104.8

 
16,162

 
38

 
4.16

 
100

 
24.1

4.0%
 
688,213

 
103.4

 
106.2

 
730,542

 
37

 
4.40

 
80

 
13.8

4.5%
 
126,727

 
105.2

 
106.8

 
135,297

 
41

 
4.87

 
32

 
15.8

Total 15-Year Fixed Rate
 
$
2,407,640

 
104.3
%
 
102.2
%
 
$
2,460,066

 
22

 
3.62
%
 
91
%
 
8.0
%

December 31, 2012
Coupon
 
Current
Face
 
Weighted
Average
Purchase
Price
 
Weighted
Average
Market
Price
 
Fair
Value (1)
 
Weighted
Average
Loan Age
(Months) (2)
 
Weighted
Average
Loan Rate
 
Low Loan
Balance
and/or
HARP (3)
 
Weighted
Average
3 Month
CPR
(Dollars in Thousands)
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
15-Year Fixed Rate:
 
 

 
 

 
 

 
 

 
 

 
 

 
 

 
 

2.5%
 
$
520,202

 
104.2
%
 
104.9
%
 
$
545,528

 
3

 
3.04
%
 
99
%
 
2.6
%
3.0%
 
546,780

 
105.9

 
106.6

 
582,904

 
6

 
3.49

 
100

 
4.2

3.5%
 
21,756

 
103.5

 
106.8

 
23,243

 
26

 
4.16

 
100

 
25.7

4.0%
 
907,891

 
103.3

 
108.3

 
982,796

 
26

 
4.40

 
81

 
18.8

4.5%
 
180,904

 
105.2

 
107.9

 
195,163

 
29

 
4.87

 
31

 
24.5

Total 15-Year Fixed Rate
 
$
2,177,533

 
104.3
%
 
107.0
%
 
$
2,329,634

 
16

 
3.88
%
 
86
%
 
13.0
%

(1)  Does not include principal payments receivable of $1.1 million and $4.4 million at December 31, 2013 and 2012, respectively.
(2)  Weighted average is based on MBS current face at December 31, 2013 and 2012, respectively.
(3)  Low Loan Balance represents MBS collateralized by mortgages with original loan balance less than or equal to $175,000.  HARP MBS are backed by refinanced loans with LTVs greater than or equal to 80% at origination.


34


The following table presents certain information regarding our Hybrid Agency MBS as of December 31, 2013 and 2012:

December 31, 2013
(Dollars in Thousands)
 
Current
Face
 
Weighted
Average
Purchase
Price
 
Weighted
Average
Market
Price
 
Fair
Value (1)
 
Weighted
Average
Coupon (2)
 
Weighted
Average
Loan Age
(Months) (2)
 
Weighted
Average
Months to
Reset (3)
 
Interest
Only (4)
 
Weighted
Average
3 Month
CPR
Hybrid Post June 2009:
 
 

 
 

 
 

 
 

 
 

 
 

 
 

 
 

 
 

Agency 5/1
 
$
921,849

 
103.5
%
 
105.5
%
 
$
972,201

 
3.37
%
 
39

 
20

 
24
%
 
23.8
%
Agency 7/1
 
1,233,187

 
104.4

 
104.2

 
1,284,739

 
3.09

 
28

 
55

 
21

 
15.1

Agency 10/1
 
347,377

 
104.8

 
102.2

 
355,168

 
3.27

 
24

 
95

 
57

 
10.9

Total Hybrids Post June 2009
 
$
2,502,413

 
104.1
%
 
104.4
%
 
$
2,612,108

 
3.22
%