UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

FORM 10-Q

(mark one)

x QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the quarterly period ended: June 30, 2007

OR

¨ 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: 001-11914

THORNBURG MORTGAGE, INC.

(Exact name of Registrant as specified in its Charter)

Maryland	85-0404134
(State or other jurisdiction of incorporation or organization)	(IRS Employer Identification Number)

150 Washington Avenue Santa Fe, New Mexico	87501
(Address of principal executive offices)	(Zip Code)

Registrant’s telephone number, including area code: (505) 989-1900

(Former name, former address and former fiscal year, if changed since last report)

Not applicable

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  ¨

Indicate by check mark whether the Registrant is a large accelerated filer, an accelerated filer, or a non-accelerated filer. See definition of “accelerated filer and large accelerated filer” in Rule 12b-2 of the Securities Exchange Act of 1934.

Large accelerated filer  x    Accelerated filer  ¨    Non-accelerated filer  ¨

Indicate by check mark whether the Registrant is a shell company (as defined in Rule 12b-2 of the Securities Exchange Act of 1934).    Yes  ¨    No  x

APPLICABLE ONLY TO CORPORATE ISSUERS:

Indicate the number of shares outstanding of each of the issuer’s classes of common stock, as of the latest practicable date.

Common Stock ($.01 par value) 122,858,409 as of August 8, 2007

INDEX

In this quarterly report, we refer to Thornburg Mortgage, Inc. and its subsidiaries as “we,” “us,” or “the Company,” unless we specifically state otherwise or the context indicates otherwise. Capitalized terms not otherwise defined in this quarterly report and financial statements below shall have the definitive meanings assigned to them in the Glossary at the end of this report.

		Page
PART I.	FINANCIAL INFORMATION
Item 1.	Financial Statements
	Consolidated Balance Sheets at June 30, 2007 and December 31, 2006	3
	Consolidated Income Statements for the three and six months ended June 30, 2007 and June 30, 2006	4
	Consolidated Statements of Comprehensive Income for the three and six months ended June 30, 2007 and June 30, 2006	5
	Consolidated Statements of Shareholders’ Equity for the six months ended June 30, 2007 and June 30, 2006	6
	Consolidated Statements of Cash Flows for the three and six months ended June 30, 2007 and June 30, 2006	7
	Notes to Consolidated Financial Statements	8
Item 2.	Management’s Discussion and Analysis of Financial Condition and Results of Operations	25
Item 3.	Quantitative and Qualitative Disclosures About Market Risk	61
Item 4.	Controls and Procedures	61
PART II.	OTHER INFORMATION
Item 1.	Legal Proceedings	61
Item 1A.	Risk Factors	61
Item 2.	Unregistered Sales of Equity Securities and Use of Proceeds	61
Item 3.	Defaults Upon Senior Securities	61
Item 4.	Submission of Matters to a Vote of Security Holders	61
Item 5.	Other Information	61
Item 6.	Exhibits	61
SIGNATURES		62
EXHIBIT INDEX		63
GLOSSARY		64

2

PART I. FINANCIAL INFORMATION

Item 1. FINANCIAL STATEMENTS

THORNBURG MORTGAGE, INC. AND SUBSIDIARIES

CONSOLIDATED BALANCE SHEETS (Unaudited) (Dollar amounts in thousands, except share data)

	June 30, 2007			December 31, 2006
ASSETS
ARM Assets:
Purchased ARM Assets:
ARM securities, net	$	25,611,774		$	21,504,372
Purchased Securitized Loans, net		6,149,817			6,806,944
Purchased ARM Assets		31,761,591			28,311,316
ARM Loans:
Securitized ARM Loans, net		2,579,646			2,765,749
ARM Loans Collateralizing Debt, net		19,676,428			19,072,563
ARM loans held for securitization, net		2,417,295			1,383,327
ARM Loans		24,673,369			23,221,639
ARM Assets		56,434,960			51,532,955
Cash and cash equivalents		14,533			55,159
Restricted cash and cash equivalents		43,308			206,875
Hedging Instruments		463,993			370,512
Accrued interest receivable		361,595			328,206
Other assets		188,981			211,345
	$	57,507,370		$	52,705,052
LIABILITIES
Reverse Repurchase Agreements	$	24,728,685		$	20,706,587
Asset-backed CP		8,201,965			8,906,300
Collateralized Mortgage Debt		19,255,819			18,704,460
Whole loan financing facilities		1,700,567			947,905
Senior Notes		305,000			305,000
Subordinated Notes		240,000			240,000
Hedging Instruments		91,301			161,615
Payable for securities purchased		—			5,502
Accrued interest payable		186,291			171,852
Dividends payable		4,544			80,442
Accrued expenses and other liabilities		87,461			98,317
		54,801,633			50,327,980
COMMITMENTS AND CONTINGENCIES
SHAREHOLDERS’ EQUITY
Preferred Stock: par value $0.01 per share;
8% Series C Cumulative Redeemable shares, aggregate preference in liquidation $163,125 and $133,340, respectively; 7,230,000 shares authorized, 6,525,000 and 5,334,000 shares issued and outstanding, respectively		157,958			128,768
Series D Adjusting Rate Cumulative Redeemable shares, aggregate preference in liquidation $100,000; 5,000,000 shares authorized, 4,000,000 shares issued and outstanding		96,303			96,200
7.50% Series E Cumulative Convertible Redeemable shares, aggregate preference in liquidation $73,906 and $0, respectively; 6,163,000 and 0 shares authorized, respectively; 2,956,000 and 0 shares issued and outstanding, respectively		71,178			—
Common Stock: par value $0.01 per share;
481,586,000 and 487,748,000 shares authorized, respectively; 122,814,000 and 113,775,000 shares issued and outstanding, respectively		1,228			1,138
Additional paid-in-capital		2,712,419			2,477,171
Accumulated other comprehensive loss		(388,328	)		(312,048	)
Retained earnings (accumulated deficit)		54,979			(14,157	)
		2,705,737			2,377,072
	$	57,507,370		$	52,705,052

See Notes to Consolidated Financial Statements.

3

THORNBURG MORTGAGE, INC. AND SUBSIDIARIES

CONSOLIDATED INCOME STATEMENTS (Unaudited)

(In thousands, except per share data)

	Three Months Ended						Six Months Ended
	June 30,						June 30,
	2007			2006			2007			2006
Interest income from ARM Assets and cash equivalents	$	757,516		$	579,542		$	1,481,574		$	1,103,298
Interest expense on borrowed funds		(655,253	)		(499,302	)		(1,288,631	)		(934,437	)
Net interest income		102,263			80,240			192,943			168,861
Servicing income, net		4,264			3,522			8,164			7,640
Mortgage services income, net		625			—			719			—
Gain (loss) on ARM Assets, net		308			(65	)		2,156			(279	)
Gain on Derivatives, net		1,586			9,135			8,276			15,617
Net non-interest income		6,783			12,592			19,315			22,978
Provision for credit losses		(1,376	)		(505	)		(2,232	)		(1,005	)
Management fee		(6,963	)		(6,037	)		(13,587	)		(11,840	)
Performance fee		(9,470	)		(7,165	)		(17,742	)		(16,228	)
Long-term incentive awards		(2,744	)		(3,203	)		(6,187	)		(6,523	)
Other operating expenses		(5,094	)		(6,272	)		(14,114	)		(14,172	)
NET INCOME	$	83,399		$	69,650		$	158,396		$	142,071
Net income	$	83,399		$	69,650		$	158,396		$	142,071
Dividends on Preferred Stock		(5,318	)		(2,422	)		(10,154	)		(4,772	)
Net income available to common shareholders	$	78,081		$	67,228		$	148,242		$	137,299
Basic earnings per common share:
Net income	$	0.66		$	0.61		$	1.27		$	1.26
Average number of common shares outstanding		119,007			110,992			116,556			108,618
Diluted earnings per common share:
Net income	$	0.66		$	0.61		$	1.27		$	1.26
Average number of common shares outstanding		119,292			110,992			116,699			108,618
Dividends declared per common share	$	0.68		$	0.68		$	1.36		$	1.36

See Notes to Consolidated Financial Statements.

4

THORNBURG MORTGAGE, INC. AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME (Unaudited)

(In thousands)

	Three Months Ended						Six Months Ended
	June 30,						June 30,
	2007			2006			2007			2006
Net income	$	83,399		$	69,650		$	158,396		$	142,071
Other comprehensive income (loss):
Unrealized losses on securities:
Net unrealized losses arising during the period		(284,742	)		(121,017	)		(237,167	)		(276,236	)
Reclassification adjustment for net gains included in income		(308	)		—			(2,156	)		—
Net change in unrealized losses on securities		(285,050	)		(121,017	)		(239,323	)		(276,236	)
Unrealized gains on Hedging Instruments:
Net unrealized gains arising during the period		371,520			199,345			299,524			429,183
Reclassification adjustment for net gains included in income		(63,222	)		(75,126	)		(136,481	)		(128,890	)
Net change in unrealized gains on Hedging Instruments		308,298			124,219			163,043			300,293
Other comprehensive income (loss)		23,248			3,202			(76,280	)		24,057
Total comprehensive income	$	106,647		$	72,852		$	82,116		$	166,128

See Notes to Consolidated Financial Statements.

5

THORNBURG MORTGAGE, INC. AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF SHAREHOLDERS’ EQUITY (Unaudited)

Six months ended June 30, 2007 and 2006

(In thousands, except per share data)

	Preferred Stock		Common Stock		Additional Paid-in Capital		Accumulated Other Comprehensive Income (Loss)			Retained Earnings (Accumulated Deficit)			Total
Balance, December 31, 2005	$	111,535	$	1,048	$	2,235,435	$	(147,517	)	$	6,585		$	2,207,086
Comprehensive income:
Net income											142,071			142,071
Other comprehensive income:
Available-for-sale assets:
Fair value adjustment								(276,236	)					(276,236	)
Hedging Instruments:
Fair value adjustment								300,293						300,293
Issuance of Common Stock				82		223,540								223,622
Issuance of Series C Preferred Stock		6,381												6,381
Dividends declared on Series C Preferred Stock - $1.00 per share											(4,813	)		(4,813	)
Dividends declared on Common Stock - $0.68 per share											(76,082	)		(76,082	)
Balance, June 30, 2006	$	117,916	$	1,130	$	2,458,975	$	(123,460	)	$	67,761		$	2,522,322
Balance, December 31, 2006	$	224,968	$	1,138	$	2,477,171	$	(312,048	)	$	(14,157	)	$	2,377,072
Comprehensive income:
Net income											158,396			158,396
Other comprehensive income:
Available-for-sale assets:
Fair value adjustment								(239,323	)					(239,323	)
Hedging Instruments:
Fair value adjustment								163,043						163,043
Issuance of Common Stock				90		235,248								235,338
Issuance of Preferred Stock		100,471												100,471
Dividends declared on Preferred Stock:
Series C - $1.00 per share											(6,020	)		(6,020	)
Series D - $0.98 per share											(3,959	)		(3,959	)
Series E - $0.06 per share											(175	)		(175	)
Dividends declared on Common Stock - $0.68 per share											(79,106	)		(79,106	)
Balance, June 30, 2007	$	325,439	$	1,228	$	2,712,419	$	(388,328	)	$	54,979		$	2,705,737

See Notes to Consolidated Financial Statements.

6

THORNBURG MORTGAGE, INC. AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF CASH FLOWS (Unaudited)

(In thousands)

	Three Months Ended						Six Months Ended
	June 30,						June 30,
	2007			2006			2007			2006
Operating activities:
Net income	$	83,399		$	69,650		$	158,396		$	142,071
Adjustments to reconcile net income to net cash provided by operating activities:
Amortization (accretion)		(5,330	)		25,751			5,691			50,258
(Gain) loss on ARM Assets, net		(308	)		65			(2,156	)		279
Gain on Derivatives, net		(1,586	)		(9,135	)		(8,276	)		(15,617	)
Provision for credit losses		1,376			505			2,232			1,005
Non-cash interest income		(17,603	)		—			(36,308	)		—
Change in assets and liabilities:
Accrued interest receivable		(14,153	)		(33,272	)		(33,389	)		(70,793	)
Other assets		(3,323	)		10,506			21,915			(28,907	)
Accrued interest payable		8,721			13,395			14,439			39,873
Accrued expenses and other liabilities		(4,223	)		16,970			(10,856	)		19,693
Net cash provided by operating activities		46,970			94,435			111,688			137,862
Investing activities:
ARM securities:
Purchases		(4,414,414	)		(3,130,162	)		(8,238,653	)		(5,026,409	)
Proceeds on sales		804,439			—			1,653,243			—
Principal payments		1,274,881			1,095,640			2,321,980			2,005,288
Purchased Securitized Loans:
Purchases		—			—			—			(933,043	)
Principal payments		295,668			257,119			600,172			502,288
Securitized ARM loans:
Principal payments		41,343			40,166			122,464			102,193
ARM Loans Collateralizing Debt:
Principal payments		1,087,153			568,990			1,934,684			1,051,635
ARM loans held for securitization:
Purchases and originations		(1,739,727	)		(2,682,256	)		(3,572,043	)		(5,485,505	)
Principal payments		27,078			23,220			67,690			26,363
Net cash used in investing activities		(2,623,579	)		(3,827,283	)		(5,110,463	)		(7,757,190	)
Financing activities:
Net borrowings from Reverse Repurchase Agreements		2,824,271			114,667			4,022,098			269,340
Net (paydowns) borrowings from Asset-backed CP		(1,019,335	)		1,290,000			(704,335	)		2,607,000
Collaterized Mortgage Debt borrowings		1,266,617			2,822,500			2,667,329			5,596,701
Collaterized Mortgage Debt paydowns		(1,179,908	)		(651,439	)		(2,115,970	)		(1,126,627	)
Net borrowings (paydowns) on whole loan financing facilities		283,967			(99,483	)		752,662			11,030
Net proceeds from issuance of Subordinated Notes		—			—			—			50,000
Receipts on Eurodollar contracts		3,564			7,340			1,741			9,172
Proceeds from Common Stock issued, net		189,261			151,857			235,338			223,622
Proceeds from Preferred Stock issued, net		82,382			2,344			100,660			6,431
Dividends paid		(84,110	)		(78,482	)		(165,347	)		(152,040	)
Payment to purchase or terminate Hedging Instruments, net		(119	)		(1,087	)		406			(3,306	)
Net increase (decrease) in restricted cash		147,396			(2,395	)		163,567			12,811
Net cash provided by financing activities		2,513,986			3,555,822			4,958,149			7,504,134
Net decrease in cash and cash equivalents		(62,623	)		(177,026	)		(40,626	)		(115,194	)
Cash and cash equivalents at beginning of period		77,156			209,060			55,159			147,228
Cash and cash equivalents at end of period	$	14,533		$	32,034		$	14,533		$	32,034

See additional cash flow information in Note 2 and Note 4.

See Notes to Consolidated Financial Statements.

7

THORNBURG MORTGAGE, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

In these financial statements, Thornburg Mortgage, Inc. and its subsidiaries are referred to as “the Company,” unless specifically stated otherwise or the context indicates otherwise. Capitalized terms not otherwise defined in the financial statements below shall have the definitive meanings assigned to them in the Glossary at the end of this report.

Note 1. Significant Accounting Policies

The accompanying unaudited consolidated financial statements have been prepared in accordance with GAAP for interim financial information.

In the opinion of management, all material adjustments, consisting of normal recurring adjustments, considered necessary for a fair statement have been included. The operating results for the quarter ended June 30, 2007 are not necessarily indicative of the results that may be expected for the calendar year ending December 31, 2007. The interim financial information should be read in conjunction with Thornburg Mortgage, Inc.’s 2006 Annual Report on Form 10-K.

Basis of presentation and principles of consolidation

The consolidated financial statements include the accounts of TMA, TMD, TMCR, TMFI, TMHS, TMHL and Adfitech. TMD, TMCR and TMFI are qualified REIT subsidiaries and are consolidated with TMA for financial statement and tax reporting purposes. TMHL, Adfitech and TMHS are taxable REIT subsidiaries and are consolidated with TMA for financial statement purposes but are not consolidated with TMA for tax reporting purposes. All material intercompany accounts and transactions are eliminated in consolidation. Certain prior period amounts have been reclassified to conform to current period classifications.

Accounting changes and other accounting developments

In September 2006, the FASB issued SFAS 157, “Fair Value Measurements.” This statement defines fair value, establishes a framework for measuring fair value in GAAP, and expands disclosures about fair value measurements. This statement applies under other accounting pronouncements that require or permit fair value measurements. SFAS 157 will become effective for the Company beginning January 1, 2008 and is not expected to have a material impact on the Company’s consolidated financial statements.

In February 2007, the FASB issued SFAS 159, “The Fair Value Option for Financial Assets and Financial Liabilities.” This statement permits companies to choose to measure many financial instruments and certain other items at fair value. Once a company chooses to report an item at fair value, changes in fair value would be reported in earnings at each reporting date. SFAS 159 will become effective for the Company beginning January 1, 2008. The Company is evaluating this Statement and has not yet decided whether it will or will not adopt the fair value option.

Cash and cash equivalents

Cash and cash equivalents include cash on hand and highly liquid investments with original maturities of three months or less. The carrying amount of cash equivalents approximates fair value.

Restricted cash

Restricted cash and cash equivalents include cash and highly liquid investments with original maturities of three months or less that are held by counter-parties as collateral for Reverse Repurchase Agreements, Asset-backed CP and Hedging Instruments. The carrying amount of restricted cash and cash equivalents approximates fair value.

8

ARM Assets

The Company’s ARM Assets are comprised of Purchased ARM Assets and ARM Loans. All of the Company’s ARM Assets are either Traditional ARMs or Hybrid ARMs.

Purchased ARM Assets are composed mainly of ARM securities and Purchased Securitized Loans obtained from third parties. The Company has designated all of its Purchased ARM Assets as available-for-sale. Therefore, they are reported at fair value, with unrealized gains and losses reported in OCI as a separate component of shareholders’ equity. Any unrealized loss deemed to be other-than-temporary is recorded as a realized loss. Realized gains or losses on the sale of Purchased ARM Assets are recorded in earnings at the time of sale and are determined by the difference between net sale proceeds and the amortized cost of the securities.

Purchased Securitized Loans are third-party loan securitizations in which the Company has purchased all principal classes of the securitizations, including the subordinated classes.

ARM Loans are designated as held-for-investment as the Company has the intent and ability to hold them for the foreseeable future, and until maturity or payoff. ARM Loans are carried at their unpaid principal balances, including unamortized premium or discount, unamortized loan origination costs, unamortized deferred loan origination fees, net unrealized gain (loss) on purchase loan commitments and allowance for loan losses. In accordance with SFAS 140, Securitized ARM Loans and ARM Loans Collateralizing Debt are accounted for as loans and are not considered investments subject to classification under SFAS 115, “Accounting for Certain Investments in Debt and Equity Securities.”

Securitized ARM Loans are loans originated or acquired by the Company and securitized by the Company with the Company retaining 100% of the beneficial ownership interests.

ARM Loans Collateralizing Debt are loans originated or acquired by the Company and financed in their entirety on its balance sheet through securitization by the Company into sequentially rated classes. In general, the Company retains the classes that are not AAA-rated which provide credit support for the higher rated classes issued to third-party investors in structured financing arrangements.

In accordance with SFAS 140, loan securitizations resulting in Securitized ARM Loans and ARM Loans Collateralizing Debt are accounted for as secured borrowings under paragraphs 9(a)-9(c) of SFAS 140 because (1) the Company has the unilateral ability to cause the return of transferred assets and, therefore, has maintained effective control over the transferred assets and (2) the transactions are completed through SPEs that do not meet the requirements of SFAS 140 to be considered QSPEs.

ARM loans held for securitization are loans the Company has acquired or originated and are intended to be securitized and retained by the Company.

Interest income on ARM Assets is accrued based on the outstanding principal amount and contractual terms of the assets. Premiums and discounts associated with the purchase of the ARM Assets are amortized through interest income over the estimated lives of the assets considering the actual and future estimated prepayments and interest rates of the assets using the interest method in determining an effective yield. Estimating future lifetime prepayments and estimating the remaining lives of the Company’s ARM Assets requires management judgment, which involves consideration of possible future interest rate environments and an estimate of how borrowers will behave in those environments. The actual lives of the ARM Assets could be longer or shorter than the lives estimated by management. Loan origination fees, net of certain direct loan origination costs and the cost of securitizing ARM Loans, are deferred and amortized as an interest income yield adjustment over the life of the related loans using the effective yield method.

9

MSRs

Effective January 1, 2006 with the adoption of SFAS 156, “Accounting for Servicing of Financial Assets,” the Company does not capitalize any MSRs in connection with securitizations accounted for as secured borrowings under SFAS 140. The Company did not elect to measure its previously existing servicing assets at fair value and continues to measure them at the lower of cost or market value. Prior to January 1, 2006, MSRs were capitalized upon the securitization of ARM Loans as required by GAAP by allocating a portion of the cost basis of the securitized loans to the estimated value of the servicing asset related to the loans retained by the Company as collateral in securitizations. MSRs are included in Other assets on the Consolidated Balance Sheets. The servicing revenue, net of servicing costs, MSR amortization and impairment charges, is recorded as Servicing income, net in the Consolidated Income Statements.

MSRs are amortized in proportion to, and over the expected period of, the estimated future net servicing income. MSRs are carried at the lower of cost or market value at the risk strata level and are periodically evaluated for impairment based on fair value, which is determined using a discounted future cash flow model that considers portfolio characteristics and assumptions regarding prepayment speeds, delinquency rates and other economic factors. Estimating prepayments and estimating the remaining lives of the Company’s ARM Assets requires management judgment, which involves consideration of possible future interest rate environments and an estimate of how borrowers will behave in those environments. The actual lives could be longer or shorter than the amount estimated by management. For purposes of evaluating and measuring impairment of MSRs, the Company stratifies its portfolio on the basis of predominant risk characteristics, including loan type (Traditional ARM or Hybrid ARM).

Credit risk and reserve for loan losses

The Company maintains an allowance for loan losses based on management’s estimate of credit losses inherent in the Company’s portfolio of ARM Loans. The estimate of the allowance is based on a variety of factors including, but not limited to, current economic conditions, the potential for natural disasters, loan portfolio composition, delinquency trends, credit losses to date on underlying loans and remaining credit protection. If the credit performance of its ARM Loans is different than expected, the Company adjusts the allowance for loan losses to a level deemed appropriate by management to provide for estimated losses inherent in its ARM Loan portfolio. Additionally, once a loan is 90 days or more delinquent, or a borrower declares bankruptcy, the Company adjusts the value of its accrued interest receivable to what it believes to be collectible and stops accruing interest on that loan. The Company provides specific allowances for loan losses on loans that are considered to be impaired when a significant permanent decline in value is identified.

The Company’s Purchased Securitized Loans comprise all classes of third-party ARM loan securitizations (including the classes rated less than Investment Grade). Like the Company’s own loan originations and acquisitions, these assets are Qualifying Interests for purposes of maintaining the Company’s exemption from the Investment Company Act because the Company retains a 100% ownership interest in the underlying loans. When the Company acquires all classes of third-party ARM loan securitizations, some of the classes are below Investment Grade and the purchase price of those securities generally includes a discount for probable credit losses. This discount is recorded as part of the purchase price of that security. Based upon management’s analysis and judgment, a portion of the purchase discount is subsequently accreted as interest income under the effective yield method while the remaining portion of the purchase discount is treated as a non-accretable discount which reflects the estimated unrealized loss on the securities due to credit risk. If management ultimately concludes that the non-accretable discount will not represent realized losses, the balance is accreted into earnings over the remaining life of the security through the effective yield method. In the event that management concludes that losses may exceed the non-accretable discount, the Company revises its estimate of probable losses and the change in the estimate of losses is recorded as a reduction in earnings.

Provisions for credit losses do not reduce taxable income and thus do not affect the dividends paid by the Company to shareholders in the period the provisions are taken. Actual losses realized by the Company do reduce taxable income in the period the actual loss is realized, thereby affecting taxable income available for distribution and the amount of dividends that may be paid to shareholders for that tax year.

10

Valuation methods

The fair values of the Company’s Purchased ARM Assets and Securitized ARM Loans are generally based on market prices provided by third-party pricing services or by broker/dealers who make markets in these financial instruments. If the fair value of a Purchased ARM Asset or a Securitized ARM Loan is not reasonably available from a dealer or a third-party pricing service, management estimates the fair value. For securities valued by management, the Company first looks to identify a security in its portfolio for which a third-party market price is available that has similar characteristics including interest coupon, product type, credit rating, seasoning and duration. The third-party market price of the similar security is then used to value the security for which there was no third-party quote. The objective is to use the third-party quote as the primary valuation indicator; however, if the Company is unable to identify a similar security in its portfolio, management looks to recent market transactions of similar securities or makes inquiries of broker-dealers that trade similar securities and uses the data obtained to calculate a market price based on a yield or spread target. At June 30, 2007, $6.2 billion, or 10.9% of ARM Assets were valued based on management’s estimates.

The fair values of ARM Loans Collateralizing Debt and ARM loans held for securitization are estimated by the Company using the same pricing models employed by the Company to determine prices to purchase loans in the open market, taking into consideration the aggregated characteristics of groups of loans such as, but not limited to, collateral type, index, interest rate, margin, length of fixed interest rate period, life cap, periodic cap, underwriting standards, age and credit.

Purchase commitments related to correspondent and bulk loans that will be held for investment purposes generally qualify as derivatives under SFAS 133 and SFAS 149, “Amendment of Statement 133 on Derivative Instruments and Hedging Activities,” and are recorded at fair value. The fair value of the net unrealized gain or loss on purchase commitments is calculated using the same methodologies that are used to price the Company’s originated ARM Loans, adjusted for anticipated fallout for purchase commitments that will likely not be funded. The Company’s net unrealized gain (loss) on purchase commitments is recorded as a component of ARM loans held for securitization, net on the Consolidated Balance Sheets with the respective changes in fair value recorded in Gain on Derivatives, net in the Consolidated Income Statements. Commitments to originate direct retail and wholesale loans are not considered derivatives under GAAP.

The fair values of the Company’s Collateralized Mortgage Debt, Senior Notes, Subordinated Notes, Swap Agreements and Cap Agreements are based on market values provided by dealers who are familiar with the terms of these instruments.

The fair value of Eurodollar Transactions is determined on a daily basis by the closing prices on the Chicago Mercantile Exchange.

The fair values reported reflect estimates and may not necessarily be indicative of the amounts the Company could realize if these instruments were sold. Cash and cash equivalents, restricted cash and cash equivalents and interest receivable are reflected in the consolidated financial statements at cost. Other assets, Reverse Repurchase Agreements, Asset-backed CP, whole loan financing facilities, accrued expenses and other liabilities are reflected in the consolidated financial statements at their amortized cost, which approximates their fair value because of the short-term nature of these instruments.

Hedging Instruments

All of the Company’s Hedging Instruments are carried on the Consolidated Balance Sheets at their fair value as an asset, if their fair value is positive, or as a liability, if their fair value is negative. In general, most of the Company’s Hedging Instruments are designated as cash flow hedges, and the effective amount of change in the fair value of the Derivative is recorded in OCI and transferred to earnings as the hedged item affects earnings. The ineffective amount of all Hedging Instruments is recognized in earnings each quarter. Generally, a hedging strategy is effective under SFAS 133 if it achieves offsetting cash flows attributable to the risk being hedged and meets certain predetermined statistical thresholds pursuant to SFAS 133. If the hedging strategy is not successful in achieving offsetting cash flows or meeting the statistical thresholds, it is ineffective and will not qualify for hedge accounting.

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As the Company enters into hedging transactions, it formally documents the desired relationship between the Hedging Instruments and the hedged items. The Company has also documented its risk management policies, including objectives and strategies, as they relate to its hedging activities. The Company assesses, both at the inception of a hedging activity and on an on-going basis, whether or not the hedging activity is highly effective. If it is determined that a hedge has been highly effective, but will not be prospectively, the Company discontinues hedge accounting prospectively.

Hybrid ARM Hedging Instruments

The Company enters into Hybrid ARM Hedging Instruments in order to manage its interest rate exposure when financing its Hybrid ARM Assets. Although the Company generally borrows money based on short-term interest rates, its Hybrid ARM Assets have an initial fixed interest rate period of three to ten years. As a result, the Company’s existing and forecasted borrowings reprice to a new rate on a more frequent basis than do the Hybrid ARM Assets. Consequently, the Company uses Hybrid ARM Hedging Instruments to fix the interest rate on its borrowings during the expected fixed interest rate period of the Hybrid ARM Assets such that the combined Effective Duration of its borrowings and Hybrid ARM Hedging Instruments closely matches the Effective Duration of the Hybrid ARM Assets, the difference being Net Effective Duration. The notional amounts of the Hybrid ARM Hedging Instruments generally decline over the life of these instruments and the notional amounts of a portion of the Company’s Swap Agreements and all of the Company’s Cap Agreements decline such that they are expected to approximately equal the balance of the Hybrid ARM Loans Collateralizing Debt hedged with these Hybrid ARM Hedging Instruments.

Swap Agreements have the effect of converting the Company’s variable-rate debt into fixed-rate debt over the life of the Swap Agreements. When the Company enters into a Swap Agreement, it generally agrees to pay a fixed rate of interest and to receive a variable interest rate, generally based on LIBOR. The Company has two-way collateral agreements protecting its credit exposure to Swap Agreement counterparties.

The Company enters into Cap Agreements in connection with some of its Collateralized Mortgage Debt securitizations by incurring a one-time fee or premium. Pursuant to the terms of the respective Cap Agreements, the Company will receive cash payments if the interest rate index specified in any such Cap Agreement increases above contractually specified levels. Therefore, such Cap Agreements have the effect of capping the interest rate on a portion of the Company’s borrowings so as not to exceed the level specified by the Cap Agreement. The purchase price of these Cap Agreements is expensed over the life of the Cap Agreements and the expense increases as the Cap Agreements approach maturity.

The Company designates its Hybrid ARM Hedging Instruments as cash flow hedges. All changes in the unrealized gains and losses on Hybrid ARM Hedging Instruments have been recorded in OCI and are reclassified to earnings as interest expense when each of the forecasted financing transactions occurs. If it becomes probable that the forecasted transaction, which in this case refers to interest payments to be made under the Company’s short-term borrowing agreements or its debt obligations, will not occur by the end of the originally specified time period as documented at the inception of the hedging relationship, or within an additional two-month time period thereafter, then the related gain or loss in OCI would be reclassified to income. The carrying value of these Hybrid ARM Hedging Instruments is included in Hedging Instruments on the Consolidated Balance Sheets.

The fair value of Swap Agreements is based on the discounted value of the remaining future net interest payments expected to be made over the remaining life of the Swap Agreements. Therefore, over time, as the actual payments are made, the unrealized gain (loss) in OCI and the carrying value of the Swap Agreements adjust to zero and the Company therefore realizes a fixed financing cost over the life of the Hedging Instrument.

Pipeline Hedging Instruments

The Company enters into Pipeline Hedging Instruments to manage interest rate risk associated with commitments to purchase correspondent and bulk loans. The Company does not currently apply hedge accounting to its Pipeline Hedging Instruments and, therefore, the change in fair value and the realized gains (losses) on these Pipeline Hedging Instruments are recorded in current earnings. The net gain (loss) related to Pipeline Hedging Instruments is reflected in Gain on Derivatives, net, on the Consolidated Income Statements as an offset to the net gain (loss) recorded for the change in fair value of the loan commitments.

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Long-term incentive awards

The Company has a long-term incentive plan which is more fully described in Note 8. Since inception of the Plan in 2002, the Company has accounted for all awards at fair value on the grant date and recorded subsequent changes in the fair value of the awards in current period earnings. The PSRs issued under the Plan are variable in nature and are settled in cash. The liability for PSRs is measured each period based on the fair value of the Common Stock. The effects of changes in the stock price during the vesting period, generally three years, are recognized as expense over the vesting period. Dividend-equivalent payments on DERs and vested PSRs are recognized as compensation expense in the period in which they are declared. PSRs generally do not earn a dividend-equivalent until they are vested.

Accumulated other comprehensive income (loss)

SFAS 130, “Reporting Comprehensive Income,” divides comprehensive income into net income and other comprehensive income (loss), which includes unrealized gains and losses on marketable securities defined as available-for-sale and unrealized gains and losses on derivative financial instruments that qualify for cash flow hedge accounting under SFAS 133.

Income taxes

The Company, excluding TMHL, Adfitech and TMHS, elected to be taxed as a REIT and believes it complies with the provisions of the Code with respect thereto. Accordingly, the Company will not be subject to federal income tax on that portion of its income that is distributed to shareholders as long as certain asset, income and stock ownership tests are met. TMHL, TMHL’s wholly owned subsidiary Adfitech, and TMHS are taxable REIT subsidiaries and, as such, are subject to both federal and state corporate income taxes.

Income taxes are provided for under the asset and liability method. Deferred tax assets and liabilities are recognized for the future tax consequences attributable to differences between the financial statement carrying amounts of existing assets and liabilities and their respective tax bases. Deferred tax assets and liabilities are measured using enacted rates expected to apply to taxable income in the years in which those temporary differences are expected to be recovered or settled. The effect on deferred taxes of a change in tax rates is recognized in income in the period the change occurs. Subject to management’s judgment, a valuation allowance is established if realization of deferred tax assets is not more likely than not.

Income taxes for the quarters and six months ended June 30, 2007 and 2006 were immaterial and no provision is reflected on the Consolidated Income Statements. The significant differences between the financial statement carrying amount of existing assets and liabilities and their respective tax bases relate to MSRs capitalized for financial statement purposes, REMIC transactions accounted for as financings for financial statement purposes and sales for tax purposes, and TMHL’s net operating loss carryforward from 2004, 2005 and 2006. Management has established a valuation allowance against the net deferred tax assets at June 30, 2007 and December 31, 2006.

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Earnings per share

Basic EPS amounts are computed by dividing net income (adjusted for dividends declared on Preferred Stock) by the weighted average number of common shares outstanding. Diluted EPS amounts assume the conversion, exercise or issuance of all potential Common Stock instruments, unless the effect is to reduce a loss or increase the earnings per common share. The Company had no outstanding Common Stock equivalents during 2006.

Following is information about the computation of the EPS data for the three- and six-month periods ended June 30, 2007 and 2006 (in thousands except per share data):

	Net Income			Shares	EPS
Three Months Ended June 30, 2007
Net Income	$	83,399
Less Preferred Stock dividends		(5,318	)
Basic EPS, income available to common shareholders		78,081		119,007	$	0.66
Effect of dilutive securities:
Convertible Series E Preferred Stock		175		285
Diluted EPS	$	78,256		119,292	$	0.66
Three Months Ended June 30, 2006
Basic EPS and Diluted EPS, income available to common shareholders	$	67,228		110,992	$	0.61
Six Months Ended June 30, 2007
Net Income		158,396
Less Preferred Stock dividends		(10,154	)
Basic EPS, income available to common shareholders		148,242		116,556	$	1.27
Effect of dilutive securities:
Convertible Series E Preferred Stock		175		143
Diluted EPS	$	148,417		116,699	$	1.27
Six Months Ended June 30, 2006
Basic EPS and Diluted EPS, income available to common shareholders	$	137,299		108,618	$	1.26

Use of estimates

The preparation of financial statements in conformity with GAAP requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities, the disclosure of contingent assets and liabilities at the date of the financial statements, and the reported amounts of revenues and expenses during the reporting period. Actual results could differ from those estimates.

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Note 2. ARM Assets

The following tables present the Company’s ARM Assets as of June 30, 2007 and December 31, 2006 (in thousands):

June 30, 2007	ARM securities			Purchased Securitized Loans			Securitized ARM Loans			ARM Loans Collateralizing Debt			ARM loans held for securitization			Total
Principal balance outstanding	$	25,863,659		$	6,306,954		$	2,574,307		$	19,558,510		$	2,394,491		$	56,697,921
Net unamortized premium		243,351			58,373			12,291			126,408			24,609			465,032
Allowance for loan losses		—			—			(6,952	)		(8,490	)		(250	)		(15,692	)
Non-accretable discounts		—			(15,078	)		—			—			—			(15,078	)
Net unrealized loss on purchase loan commitments		—			—			—			—			(1,555	)		(1,555	)
Principal payment receivable		7,521			243			—			—			—			7,764
Amortized cost, net		26,114,531			6,350,492			2,579,646			19,676,428			2,417,295			57,138,392
Gross unrealized gains		4,660			8,075			2,009			17,224			426			32,394
Gross unrealized losses		(507,417	)		(208,750	)		(127,812	)		(151,623	)		(14,562	)		(1,010,164	)
Fair value	$	25,611,774		$	6,149,817		$	2,453,843		$	19,542,029		$	2,403,159		$	56,160,622
Carrying value	$	25,611,774		$	6,149,817		$	2,579,646		$	19,676,428		$	2,417,295		$	56,434,960
December 31, 2006	ARM securities			Purchased Securitized Loans			Securitized ARM Loans			ARM Loans Collateralizing Debt			ARM loans held for securitization			Total
Principal balance outstanding	$	21,625,224		$	6,896,169		$	2,758,658		$	18,972,081		$	1,364,352		$	51,616,484
Net unamortized premium		202,518			59,426			14,734			106,310			20,369			403,357
Allowance for loan losses		—			—			(7,830	)		(5,828	)		(250	)		(13,908	)
Non-accretable discounts		—			(15,087	)		—			—			—			(15,087	)
Net unrealized loss on purchase loan commitments		—			—			—			—			(1,144	)		(1,144	)
Principal payment receivable		7,077			98			187			—			—			7,362
Amortized cost, net		21,834,819			6,940,606			2,765,749			19,072,563			1,383,327			51,997,064
Gross unrealized gains		20,258			4,980			79,653			14,007			1,392			120,290
Gross unrealized losses		(350,705	)		(138,642	)		(57,489	)		(121,395	)		(4,806	)		(673,037	)
Fair value	$	21,504,372		$	6,806,944		$	2,787,913		$	18,965,175		$	1,379,913		$	51,444,317
Carrying value	$	21,504,372		$	6,806,944		$	2,765,749		$	19,072,563		$	1,383,327		$	51,532,955

The Company realized a gain of $2.2 million on the sale of $1.7 billion of Purchased ARM Assets during the six months ended June 30, 2007. The Company did not sell any Purchased ARM Assets during the six months ended June 30, 2006. During the six months ended June 30, 2007, the Company did not record any impairment charges in its Purchased Securitized Loan portfolio. The Company recorded an impairment charge to recognize management’s estimate of additional future losses inherent in its Purchased Securitized Loan portfolio and realized a loss of $214,000 on ARM Assets during the six months ended June 30, 2006. During the six months ended June 30, 2007 and 2006, the Company realized losses of $0 and $65,000, respectively, on ARM securities.

During the six months ended June 30, 2007, the Company securitized $2.8 billion of ARM Loans into two Collateralized Mortgage Debt securitizations. While TMHL transferred all of the ARM loans to a separate bankruptcy-remote legal entity, on a consolidated basis the Company did not account for this securitization as a sale and, therefore, did not record any gain or loss in connection with the securitization. The Company retained $101.2 million of the resulting securities for its ARM Loan portfolio and financed $2.7 billion with third-party investors, thereby providing long-term collateralized financing for these assets. As of June 30, 2007 and December 31, 2006, the Company held $19.7 billion and $19.1 billion, respectively, of ARM Loans Collateralizing Debt. As of June 30, 2007 and December 31, 2006, the Company held $2.6 billion and $2.8 billion, respectively, of Securitized ARM Loans as a result of the Company’s securitization efforts. All discussions relating to securitizations in these financial statements and notes are on a consolidated basis and do not reflect the separate legal ownership of the loans by various bankruptcy-remote legal entities.

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During the six months ended June 30, 2007, the Company did not acquire any Purchased Securitized Loans. At June 30, 2007 and December 31, 2006, the Company’s Purchased Securitized Loans totaled $6.1 billion and $6.8 billion, respectively. These assets are Qualifying Interests for purposes of maintaining the Company’s exemption from the Investment Company Act because the Company retains 100% ownership interest in the underlying loans. Because the Company purchases all classes of these securitizations, the Company has credit exposure on the underlying loans. The purchase price of the classes that are less than Investment Grade generally includes a discount for probable credit losses and, based on management’s judgment, the portion of the purchase discount which reflects the estimated unrealized loss on the securities due to credit risk is treated as a non-accretable discount. As of June 30, 2007, 74 of the underlying loans of the Company’s Purchased Securitized Loans were 60 days or more delinquent and had an aggregate balance of $79.6 million. Activity in non-accretable discounts for the six months ended June 30, 2007 and 2006 is as follows (in thousands):

	2007			2006
Balance at beginning of period	$	15,087		$	11,551
Increase for securities purchased		—			3,975
Increase for expected future losses		—			214
Realized losses		(9	)		(389	)
Reclassifications to accretable discount		—			(100	)
Balance at end of period	$	15,078		$	15,251

At June 30, 2007, substantially all of our available-for-sale securities had contractual maturities in excess of ten years.

As the Company has the ability and intent to hold its Purchased ARM Assets until recovery, losses are not considered to be other than temporary impairments. As presented in Note 7, the net unrealized loss of $464.1 million on Purchased ARM Assets at December 31, 2006, increased by $239.3 million to a net unrealized loss of $703.4 million during the six-month period ended June 30, 2007. The net unrealized gain of $152.1 million on Hedging Instruments at December 31, 2006, increased by $163.0 million to a net unrealized gain of $315.1 million during the six-month period ended June 30, 2007. While the Company’s Purchased ARM Assets are designated as available-for-sale, the Company does not typically sell its Purchased ARM Assets and therefore does not expect to realize these gross unrealized losses.

The Company has credit exposure on its ARM Loans. The following tables summarize ARM Loan delinquency information as of June 30, 2007 and December 31, 2006 (dollar amounts in thousands):

June 30, 2007

Delinquency Status	Loan Count	Loan Balance		Percent of ARM Loans		Percent of Total Assets
TMHL Originations
60 to 89 days	7	$	5,073	0.03	%	0.01	%
90 days or more	5		1,927	0.01		0.00
In bankruptcy and foreclosure	19		6,456	0.04		0.01
	31		13,456	0.08	(1)	0.02
Bulk Acquisitions
60 to 89 days	6		6,452	0.09		0.01
90 days or more	2		3,273	0.04		0.01
In bankruptcy and foreclosure	19		23,452	0.32		0.04
	27		33,177	0.45	(2)	0.06
	58	$	46,633	0.19	%	0.08	%

(1) Calculated as a percent of total TMHL originations.

(2) Calculated as a percent of total bulk acquisitions.

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December 31, 2006

Delinquency Status	Loan Count	Loan Balance		Percent of ARM Loans		Percent of Total Assets
TMHL Originations
60 to 89 days	4	$	4,591	0.03	%	0.01	%
90 days or more	0		—	0.00		0.00
In bankruptcy and foreclosure	12		6,843	0.04		0.01
	16		11,434	0.07	(1)	0.02
Bulk Acquisitions
60 to 89 days	1		318	0.00		0.00
90 days or more	1		386	0.00		0.00
In bankruptcy and foreclosure	9		8,723	0.11		0.02
	11		9,427	0.11	(2)	0.02
	27	$	20,861	0.09	%	0.04	%

(1) Calculated as a percent of total TMHL originations.

(2) Calculated as a percent of total bulk acquisitions.

As of June 30, 2007, the Company owned thirteen real estate properties as a result of foreclosing on delinquent loans in the amount of $4.3 million (not included in the table above.) The Company recorded $449,000 in charge-offs to reduce the carrying value of the real estate properties to their estimated net realizable value. During the six months ended June 30, 2006, the Company did not record any charge-offs. During the six months ended June 30, 2007 and 2006, the Company recorded loan loss provisions totaling $2.2 million and $1.0 million, respectively, to reserve for estimated credit losses on ARM Loans, bringing its total loan loss reserve to $15.7 million and $11.8 million, respectively. Further, the Company believes that its current level of allowance for loan losses is adequate to cover probable losses inherent in the ARM Loan portfolio at June 30, 2007.

The Company originates fully amortizing loans with interest only payment terms for a period not to exceed ten years. Interest only loans represented 86.3% and 84.8% of ARM Loans at June 30, 2007 and December 31, 2006, respectively. At June 30, 2007, the Company’s investment in Fixed Option ARMs and Traditional Pay Option ARMs comprised 3.1% of ARM Assets and accumulated deferred interest totaled $78.3 million. Loans with interest only features, Fixed Option ARMs and Traditional Pay Option ARMs have been identified as potentially having a concentration of credit risk as defined in SFAS 107, “Disclosures about Fair Value of Financial Instruments.” The Company believes that its pricing, underwriting, appraisal, and other processes are sufficient to manage potential credit risks.

In accordance with SFAS 156, no MSRs were capitalized in connection with the securitization of $2.8 billion and $5.7 billion of ARM loans during the six months ended June 30, 2007 and 2006 because the securitizations were accounted for as secured borrowings under SFAS 140. MSRs of $29.0 million, net of amortization of $3.0 million during the six months ended June 30, 2007, are included in other assets on the Consolidated Balance Sheets at June 30, 2007. MSRs of $33.1 million are included in other assets on the Consolidated Balance Sheets at December 31, 2006. During the six months ended June 30, 2007, the Company recorded an impairment charge of $1.1 million against the amortized cost of the MSRs in the Traditional ARM risk stratum. At June 30, 2007, the fair value of the MSRs of $41.8 million equaled or exceeded their cost basis in each risk stratum.

As of June 30, 2007, the Company had commitments to purchase or originate the following amounts of ARM Assets, net of an estimated fallout of 29.2% (in thousands):

ARM loans – correspondent originations	$	654,337
ARM loans – wholesale originations		134,496
ARM loans – direct originations		42,641
	$	831,474

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Note 3. Hedging Instruments

Hybrid ARM Hedging Instruments

As of June 30, 2007 and December 31, 2006, the Company was counterparty to Hybrid ARM Hedging Instruments that consist of Swap Agreements having aggregate notional balances of $44.3 billion and $34.8 billion, respectively. As of June 30, 2007, these Swap Agreements had a weighted average maturity of 3.9 years. In accordance with the Swap Agreements, the Company will pay a fixed rate of interest during the term of these Swap Agreements and receive a payment that varies monthly with the one-month LIBOR rate. The combined weighted average fixed rate payable of the Swap Agreements was 4.84% and 4.51% at June 30, 2007 and December 31, 2006, respectively. In addition, as of June 30, 2007, the Company had entered into delayed Swap Agreements with notional balances totaling $4.7 billion that become effective between July 2007 and June 2009 and are also accounted for as cash flow hedges as of June 30, 2007. These delayed Swap Agreements have been entered into to hedge the financing of the Company’s existing ARM Assets and the forecasted financing of the Company’s ARM Assets purchase commitments at June 30, 2007 and to replace Swap Agreements as they mature. The combined weighted average fixed rate payable of the delayed Swap Agreements was 5.28% at June 30, 2007.

The net unrealized gain on Swap Agreements at June 30, 2007 of $360.1 million included Swap Agreements with gross unrealized gains of $381.0 million and gross unrealized losses of $20.9 million and is included in Hedging Instruments on the Consolidated Balance Sheets. As of December 31, 2006, the net unrealized gain on Swap Agreements of $197.5 million included Swap Agreements with gross unrealized gains of $284.9 million and gross unrealized losses of $87.4 million. As of June 30, 2007, the net unrealized gain on Swap Agreements recorded in OCI totaled a net gain of $360.1 million. In the twelve month period following June 30, 2007 based on the current level of interest rates, $162.9 million of these net unrealized gains are expected to be realized through interest margin.

As of June 30, 2007 and December 31, 2006, the Company’s Cap Agreements used to manage the interest rate risk exposure on the financing of Hybrid ARM Loans Collateralizing Debt had remaining net notional amounts of $708.7 million and $934.2 million, respectively. The Company has also entered into Cap Agreements that have start dates ranging from 2008 to 2010. The notional balance at the start date will be the lesser of the scheduled amount of $197.5 million or the balance of Hybrid ARM loans associated with these Cap Agreements. The fair value of all of these Cap Agreements at June 30, 2007 and December 31, 2006 was $8.2 million and $12.3 million, respectively, and is included in Hedging Instruments on the Consolidated Balance Sheets. The unrealized losses on these Cap Agreements of $4.9 million and $6.5 million as of June 30, 2007 and December 31, 2006, respectively, are included in OCI. In the twelve month period following June 30, 2007, $1.7 million of net unrealized losses are expected to be realized. Pursuant to the terms of these Cap Agreements and subject to future prepayment behavior, the notional amount of the Cap Agreements declines such that it is expected to equal the balance of the Hybrid ARM Loans Collateralizing Debt hedged with these Cap Agreements. Under these Cap Agreements, the Company will receive cash payments should the one-month LIBOR increase above the contract rates of these Hedging Instruments, which range from 3.61% to 9.67% and average 5.91%. The Cap Agreements had an average maturity of 3.6 years as of June 30, 2007 and will expire between 2008 and 2013.

In January 2007, the Company terminated a Swap Agreement with a notional balance of $2.0 billion. At June 30, 2007, the net unrealized loss recorded in OCI relating to all terminated Swap Agreements totaled $39.3 million. The reclassification of OCI to earnings will be recognized as the original hedged transactions impact earnings. During the six months ended June 30, 2007, the Company reclassified $1.8 million into income.

Interest expense for the three- and six-month periods ended June 30, 2007 includes net receipts on Hybrid ARM Hedging Instruments of $65.7 million and $142.0 million, respectively. Interest expense for the same periods in 2006 includes net receipts on Hybrid ARM Hedging Instruments of $78.2 million and $135.3 million, respectively.

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Pipeline Hedging Instruments

Purchase commitments related to correspondent and bulk loans that will be held for investment purposes generally qualify as Derivatives under SFAS 133 and SFAS 149 and are recorded at fair value. The Company hedges these purchase commitments with Pipeline Hedging Instruments. The change in fair value of the Pipeline Hedging Instruments is included in Gain on Derivatives, net in the Consolidated Income Statements. The fair value of the Pipeline Hedging Instruments at June 30, 2007 and December 31, 2006 was a net unrealized loss of $4.4 million and $849,000, respectively, and is included in Hedging Instruments on the Consolidated Balance Sheets. Pipeline Hedging Instruments had remaining notional balances of $401.0 million and $349.0 million at June 30, 2007 and December 31, 2006, respectively.

The Company recorded a net gain of $8.3 million on Derivatives during the six months ended June 30, 2007. This gain consisted of a net gain of $7.0 million on Pipeline Hedging Instruments, a net gain of $959,000 on other Derivative transactions and a net gain of $329,000 on commitments to purchase loans from correspondent lenders and bulk sellers. The Company recorded a net gain of $15.6 million on Derivatives during the same period in 2006. This gain consisted of a net gain of $16.0 million on Pipeline Hedging Instruments and a net gain of $1.2 million on other Derivative transactions partially offset by a net loss of $1.6 million on commitments to purchase loans from correspondent lenders and bulk sellers.

Note 4. Borrowings

Reverse Repurchase Agreements

The Company has arrangements to enter into Reverse Repurchase Agreements, a form of collateralized short-term borrowing, with 21 different financial institutions and had borrowed funds from all of these firms as of June 30, 2007.

As of June 30, 2007, the Company had $24.7 billion of Reverse Repurchase Agreements outstanding with a weighted average borrowing rate of 5.26% and a weighted average remaining maturity of 15.5 months. As of December 31, 2006, the Company had $20.7 billion of Reverse Repurchase Agreements outstanding with a weighted average borrowing rate of 5.39% and a weighted average remaining maturity of 4.7 months. As of June 30, 2007, $17.5 billion of the Company’s borrowings were variable-rate term Reverse Repurchase Agreements with original maturities that range from two to twelve months and $5.6 billion were structured Reverse Repurchase Agreements with original maturities that range from three to seven years. Generally, the counterparty has the right to call the structured Reverse Repurchase Agreements monthly after the first year beginning September 2007. The interest rates of these term and structured Reverse Repurchase Agreements are generally indexed to the one-month LIBOR rate and reprice accordingly. ARM Assets with a carrying value of $25.8 billion, including accrued interest, collateralized the Reverse Repurchase Agreements at June 30, 2007.

At June 30, 2007, the Reverse Repurchase Agreements had the following remaining maturities (in thousands):

Within 30 days	$	5,402,984
31 to 89 days		2,838,696
90 to 365 days		10,858,371
Greater than 365 days		5,628,634
	$	24,728,685

Asset-backed CP

The Company issues Asset-backed CP to investors in the form of secured liquidity notes that are recorded as borrowings on the Company’s Consolidated Balance Sheets and are rated P-1 by Moody’s Investors Service, F1+ by Fitch Ratings and A-1+ by Standard and Poor’s. As of June 30, 2007 and December 31, 2006, the Company had $8.2 billion and $8.9 billion, respectively, of Asset-backed CP outstanding with a weighted average interest rate of 5.33% and 5.34%, respectively, and a weighted average remaining maturity of 36 days and 54 days, respectively.

As of June 30, 2007 and December 31, 2006, these notes were collateralized by AAA-rated MBS from the Company’s ARM Asset portfolio with a carrying value of $8.7 billion and $9.5 billion, respectively, including accrued interest.

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Whole loan-collateralized CP

In the second quarter of 2007, the Company established a $3.5 billion Whole loan-collateralized CP facility which provides an additional way to finance ARM loans held for securitization and is expected to have a lower cost of funds than the Company’s current whole loan financing facilities. The Company may issue commercial paper collateralized by ARM loans held for securitization to investors in the form of secured liquidity notes that are recorded as borrowings on its Consolidated Balance Sheets. At June 30, 2007, no such notes had been issued, but the Company expects to utilize the facility prior to December 31, 2007.

Collateralized Mortgage Debt

All of the Company’s Collateralized Mortgage Debt is secured by ARM loans. For financial reporting purposes, the ARM loans held as collateral are recorded as assets of the Company and the Collateralized Mortgage Debt is recorded as the Company’s debt. In some transactions, Hedging Instruments are held by the trusts and recorded as assets or liabilities of the Company. The Hedging Instruments either fix the interest rates of the pass-through certificates or cap the interest rate exposure on these transactions.

The following tables present the Collateralized Mortgage Debt that was outstanding as of June 30, 2007 and December 31, 2006 (dollar amounts in thousands):

June 30, 2007

Description	Principal Balance		Effective Interest Rate (1)
Floating-rate financing	$	534,285	5.66	%
Capped floating-rate financing (2)		12,282,758	5.66	%
Fixed-rate financing (3)		6,438,776	5.31	%
Total	$	19,255,819	5.54	%

(1) Effective interest rate includes the impact of issuance costs and Hedging Instruments.

(2) Includes financing hedged with Cap Agreements with strike prices in excess of one-month LIBOR with a notional balance of $12.3 billion as of June 30, 2007.

(3) Includes floating-rate financing hedged with Swap Agreements with a notional balance of $1.1 billion and Cap Agreements with strike prices less than one-month LIBOR with a notional balance of $4.5 billion and fixed-rate financing of $830.3 million as of June 30, 2007.

December 31, 2006

Description	Principal Balance		Effective Interest Rate (1)
Floating-rate financing	$	916,156	5.68	%
Capped floating-rate financing (2)		10,460,711	5.68	%
Fixed-rate financing (3)		7,327,593	5.22	%
Total	$	18,704,460	5.50	%

(1) Effective interest rate includes the impact of issuance costs and Hedging Instruments.

(2) Includes financing hedged with Cap Agreements with strike prices in excess of one-month LIBOR with a notional balance of $10.5 billion as of December 31, 2006.

(3) Includes floating-rate financing hedged with Swap Agreements with a notional balance of $1.2 billion and Cap Agreements with strike prices less than one-month LIBOR with a notional balance of $5.1 billion and fixed-rate financing of $960.0 million as of December 31, 2006.

As of June 30, 2007 and December 31, 2006, the Collateralized Mortgage Debt was collateralized by ARM Loans with a principal balance of $19.6 billion and $19.0 billion, respectively. The debt matures between 2033 and 2047 and is callable by the Company at par once the total balance of the loans collateralizing the debt is reduced to 20% of their original balance. The balance of this debt is reduced as the underlying loan collateral is paid down and is expected to have an average life at June 30, 2007 and December 31, 2006 of approximately 3.5 years.

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Whole Loan Financing Facilities

As of June 30, 2007, the Company had entered into three committed whole loan financing facilities with a total borrowing capacity of $900.0 million that expire between August 2007 and April 2008. In addition to this committed borrowing capacity, the Company has an uncommitted borrowing capacity of $1.4 billion. The interest rates on these facilities are indexed to one-month LIBOR and reprice accordingly. The Company expects to renew these facilities on equal or more favorable terms or replace them with new facilities with similar terms. As of June 30, 2007, the Company had $1.7 billion borrowed against these whole loan financing facilities at an effective rate of 5.88%. As of December 31, 2006, the Company had $947.9 million borrowed against these whole loan financing facilities at an effective rate of 5.91%. The amount borrowed on the whole loan financing facilities at June 30, 2007 was collateralized by ARM Loans with a carrying value of $1.7 billion, including accrued interest. These facilities have covenants that are standard for industry practice and the Company was in compliance with all such covenants at June 30, 2007.

Senior Notes

The Company had $305.0 million in Senior Notes outstanding at June 30, 2007 and December 31, 2006. The Senior Notes bear interest at 8.0%, payable each May 15 and November 15, and mature on May 15, 2013. The Senior Notes are redeemable at a declining premium, in whole or in part, beginning on May 15, 2008, and at par beginning on May 15, 2011. In connection with the issuance of the Senior Notes, the Company incurred costs of $5.4 million, which are being amortized to interest expense over the expected life of the Senior Notes. The Company received premiums totaling $3.6 million in connection with the issuance of Senior Notes, which are being amortized over the remaining expected life of the Senior Notes. At June 30, 2007 and December 31, 2006, the balance of the Senior Notes outstanding, net of unamortized issuance costs and premium, was $304.3 million and $304.4 million, respectively, and had an effective cost of 8.06%, which reflects the effect of issuance costs and premiums received at issuance.

The Company’s Senior Note obligations contain both financial and non-financial covenants. Significant financial covenants include limitations on the Company’s ability to incur indebtedness beyond specified levels, restrictions on the Company’s ability to incur liens on assets and limitations on the amount and type of restricted payments, such as repurchases of its own equity securities, that the Company makes. As of June 30, 2007, the Company was in compliance with all financial and non-financial covenants on its Senior Note obligations.

Subordinated Notes

The Company had $240.0 million in Subordinated Notes outstanding at June 30, 2007 and December 31, 2006. TMA is a guarantor of the Subordinated Notes, which were issued by TMHL. The Subordinated Notes bear interest at a weighted average fixed rate of 7.47% per annum for the first ten years and thereafter at a variable rate equal to three-month LIBOR plus a weighted average rate of 2.56% per annum, payable each January 30, April 30, July 30 and October 30, and mature between October 30, 2035 and April 30, 2036. TMHL has the option to redeem the Subordinated Notes at par, in whole or in part, on or after October 30, 2010. The Subordinated Notes may also be redeemed at a premium under limited circumstances on or before October 30, 2010. In connection with the issuance of the Subordinated Notes, the Company incurred costs of $7.2 million, which are being amortized over the remaining expected life of the Subordinated Notes.

At June 30, 2007 and December 31, 2006, the balance of all Subordinated Notes outstanding, net of unamortized issuance costs was $233.2 million and $233.1 million, and had an effective cost of 7.70%, which reflects the effect of issuance costs. TMHL’s Subordinated Note obligations contain non-financial covenants. As of June 30, 2007, TMHL was in compliance with all non-financial covenants on its Subordinated Note obligations.

Other

The total cash paid for interest was $639.0 million and $474.2 million for the quarters ended June 30, 2007 and 2006, respectively, and $1.3 billion and $876.4 million for the six months ended June 30, 2007 and 2006, respectively.

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Note 5. Fair Value of Financial Instruments and Off-Balance Sheet Credit Risk

The following table presents the carrying amounts and estimated fair values of the Company’s financial instruments at June 30, 2007 and December 31, 2006 (in thousands):

	June 30, 2007				December 31, 2006
	Carrying Amount		Fair Value		Carrying Amount		Fair Value
Assets:
ARM securities	$	25,611,774	$	25,611,774	$	21,504,372	$	21,504,372
Purchased Securitized Loans		6,149,817		6,149,817		6,806,944		6,806,944
Securitized ARM Loans		2,579,646		2,453,843		2,765,749		2,787,913
ARM Loans Collateralizing Debt		19,676,428		19,542,029		19,072,563		18,965,175
ARM loans held for securitization		2,417,295		2,403,159		1,383,327		1,379,913
Hedging Instruments		463,993		463,993		370,512		370,512
Liabilities:
Reverse Repurchase Agreements	$	24,728,685	$	24,728,685	$	20,706,587	$	20,706,587
Asset-backed CP		8,201,965		8,201,965		8,906,300		8,906,300
Collaterized Mortgage Debt		19,255,819		19,304,211		18,704,460		18,757,845
Whole loan financing facilities		1,700,567		1,700,567		947,905		947,905
Senior Notes		305,000		305,000		305,000		305,000
Subordinated Notes		240,000		232,800		240,000		237,300
Hedging Instruments		91,301		91,301		161,615		161,516

As of June 30, 2007 and December 31, 2006, the Company had no off-balance sheet credit risk.

Note 6. Common and Preferred Stock

In May 2007, the Company completed a public offering of 4,500,000 shares of Common Stock and received net proceeds of $116.4 million.

In June 2007, the Company completed a public offering of 2,956,250 shares of Series E Preferred Stock at $25.00 per share and received net proceeds of $71.2 million. The quarterly dividend is equal to the sum of $0.46875 (which is equal to an annual base dividend rate of 7.50%), plus the product of the excess, if any, over $0.68 of the quarterly cash dividend paid on each share of Common Stock and the conversion rate then in effect. Shares of the Series E Preferred Stock are convertible at the option of the holder at any time into a number of shares of Common Stock determined by multiplying the number of shares of Series E Preferred Stock by the conversion rate then in effect. The initial conversion price is $32.37 per Common Share. On or after June 19, 2012, the Company may require holders to convert the Series E Preferred Stock into Common Stock at the conversion rate then in effect, but only if the Common Stock price equals or exceeds 130% of the then prevailing conversion price of the Series E Preferred Stock for a certain period of time. The Series E Preferred Stock is redeemable, in whole or in part, beginning on June 19, 2012 at a price of $25.00 per share, plus accumulated unpaid dividends, if any. The Series E Preferred Stock may also be redeemed under limited circumstances prior to June 19, 2012. The Company is not required to redeem the shares and the Series E Preferred Stock has no stated maturity date.

During the three- and six-month periods ended June 30, 2007, the Company issued 547,500 and 1,957,500 shares, respectively, of Common Stock through at-market transactions under a controlled equity offering program and received net proceeds of $14.6 million and $50.5 million, respectively. During the same periods in 2007, the Company issued 454,600 and 1,191,400 shares, respectively, of Series C Preferred Stock and received net proceeds of $11.1 million and $29.3 million, respectively.

During the three and six-month periods ended June 30, 2007, the Company issued 2,185,980 and 2,581,380 shares, respectively, of Common Stock under the DRSPP and received net proceeds of $58.0 million and $68.2 million, respectively.

As of June 30, 2007, $948.1 million of the Company’s registered securities remained available for future issuance and sale under its shelf registration statement, declared effective on June 16, 2005.

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On April 19, 2007, the Company declared a quarterly dividend of $0.68 per share of Common Stock, which was paid on May 15, 2007 to shareholders of record as of May 4, 2007.

On June 15, 2007, the Company declared a quarterly dividend of $0.50 per share of Series C Preferred Stock, which was paid on July 16, 2007 to shareholders of record as of June 29, 2007.

On June 15, 2007, the Company declared a quarterly dividend of $0.49 per share of Series D Preferred Stock, which was paid on July 16, 2007 to shareholders of record as of June 29, 2007.

On June 26, 2007, the Company declared a quarterly dividend of $0.14 per share of Series E Preferred Stock, which was paid on July 16, 2007 to shareholders of record as of June 29, 2007.

For federal income tax purposes, all dividends are expected to be ordinary income to the Company’s common shareholders, subject to year-end allocations of the dividend between ordinary income, capital gain income and non-taxable income as return of capital, depending on the amount and character of the Company’s full year taxable income.

Note 7. Comprehensive Income (Loss)

Comprehensive income (loss) is composed of net income and OCI, which includes the change in unrealized gains and losses on available-for-sale Purchased ARM Assets and Hedging Instruments designated as cash flow hedges. The following table presents OCI balances (in thousands):

	Unrealized (losses) gains on Purchased ARM Assets			Unrealized gains (losses) on Hedging Instruments		Accumulated other comprehensive (loss) income
Balance, December 31, 2005	$	(537,510	)	$	389,993	$	(147,517	)
Net change		(276,236	)		300,293		24,057
Balance, June 30, 2006	$	(813,746	)	$	690,286	$	(123,460	)
Balance, December 31, 2006	$	(464,109	)	$	152,061	$	(312,048	)
Net change		(239,323	)		163,043		(76,280	)
Balance, June 30, 2007	$	(703,432	)	$	315,104	$	(388,328	)

Note 8. Long-Term Incentive Awards

The Board of Directors adopted the Plan, effective September 29, 2002. The Plan authorizes TMA’s Compensation Committee to grant DERs, SARs and PSRs.

As of June 30, 2007, there were 1,487,197 DERs outstanding, all of which were vested, and 1,423,346 PSRs outstanding, of which 1,331,979 were vested. The Company recorded expenses associated with DERs and PSRs of $2.7 million and $3.2 million for the quarters ended June 30, 2007 and 2006, respectively. The expense recorded in the second quarter of 2007 consists of $1.9 million associated with dividend equivalents paid on DERs and PSRs, $352,000 related to the amortization of unvested PSRs and $472,000 resulting from the impact of the increase in the Common Stock price on the value of the PSRs which was recorded as a fair value adjustment. The expense recorded in the second quarter of 2006 consists of $1.9 million associated with dividend equivalents paid on DERs and PSRs, $493,000 related to the amortization of unvested PSRs and $840,000 resulting from the impact of the increase in the Common Stock price on the value of the PSRs which was recorded as a fair value adjustment. To date, the Company has not issued SARs under the Plan.

Note 9. Transactions with Related Parties

The Company is managed externally by the Manager under the terms of the Management Agreement. The Manager receives an annual base management fee of 1.36% on the first $300 million of Average Historical Equity, plus 1.00% on Average Historical Equity above $300 million but less than $1.5 billion. The additional fee earned on Average Historical Equity is limited to 0.88% on Average Historical Equity greater than $1.5 billion but less than $2.0 billion, to 0.82% for Average Historical Equity greater than $2.0 billion but less than $2.5 billion, to 0.77% for Average Historical Equity greater than $2.5 billion but less than $3.0 billion, and is capped at 0.72% on any Average Historical Equity greater than $3.0 billion. These percentages are subject to an inflation adjustment each July based on changes to the Consumer Price Index over the prior

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twelve month period. The Manager earns a performance-based incentive fee of 20% of the Company’s annualized net income, before performance-based compensation, above an annualized ROE as defined in the Management Agreement equal to the Ten Year U.S. Treasury Rate plus 1%, with the fee limited such that once the Manager has earned a performance fee of $30 million, the performance fee percentage of 20% is reduced by 1% for each additional $5 million earned in performance fees until reaching a performance fee percentage of 15% for any amount greater than $50 million.

The Management Agreement provides for an annual review of the Manager’s performance by the Company’s independent directors. In addition, the Board of Directors reviews the Company’s financial results, policy compliance and strategic direction on a quarterly basis. If the Company terminated the Management Agreement for a reason other than for cause, a substantial cancellation fee would be payable to the Manager.

During the quarters ended June 30, 2007 and 2006, the Company paid certain reimbursement expenses of $3.9 million and $2.9 million, respectively, to the Manager in accordance with the contractual terms of the Management Agreement. During the six months ended June 30, 2007 and 2006, the Company reimbursed the Manager $7.0 million and $5.4 million, respectively, for expenses. As of June 30, 2007 and 2006, $5.3 million and $4.1 million, respectively, was payable by the Company to the Manager for these reimbursable expenses.

For the quarters ended June 30, 2007 and 2006, the Company incurred base management fees of $7.0 million and $6.0 million, respectively, in accordance with the terms of the Management Agreement. For the six-month periods ended June 30, 2007 and 2006, the Company incurred base management fees of $13.6 million and $11.8 million, respectively. As of June 30, 2007 and 2006, $438,000 and $2.1 million, respectively, was payable by the Company to the Manager for the base management fee.

For the quarters ended June 30, 2007 and 2006, the Company incurred performance-based fees in the amount of $9.5 million and $7.2 million, respectively. For the six-month periods ended June 30, 2007 and 2006, the Company incurred performance-based fees in the amount of $17.7 million and $16.2 million, respectively. As of June 30, 2007 and 2006, $3.4 million and $7.2 million, respectively, was payable by the Company to the Manager for performance-based compensation.

Pursuant to an employee residential mortgage loan program approved by the Board of Directors as part of the Company’s residential mortgage loan origination activities, certain of the directors and officers of the Company and employees of the Manager and of other affiliates of the Company have obtained residential first lien mortgage loans from the Company. In general, the terms of the loans and the underwriting requirements are identical to the loan programs that the Company offers to unaffiliated third parties, except that participants in the program qualify for an employee discount on the interest rate. At the time each participant enters into a loan agreement, such participant executes an addendum that provides for the discount on the interest rate, which is subject to cancellation at the time such participant’s employment or association with the Company or the related entity is terminated for any reason. Effective with the enactment of the Sarbanes-Oxley Act of 2002 on July 30, 2002, any new loans made to directors or executive officers are not eligible for the employee discount. As of June 30, 2007, the aggregate balance of mortgage loans outstanding to directors and officers of the Company, and employees of the Manager and other affiliates amounted to $57.5 million, and had a weighted average interest rate of 5.20%, and maturities ranging between 2031 and 2037.

Note 10. Subsequent Events

On July 6, 2007, the Company issued 206,250 shares of Series E Preferred Stock pursuant to the partial exercise of the over-allotment option it had granted to underwriters in connection with the public offering of Series E Preferred Stock it completed in June 2007. The Company received net proceeds of $5.0 million.

On July 19, 2007, the Company declared a quarterly dividend of $0.68 per share of Common Stock, which is payable on August 15, 2007 to shareholders of record as of August 3, 2007.

On July 31, 2007, the Company securitized $1.5 billion of its ARM loans into Collaterized Mortgage Debt and placed 93% of the resulting securities with third party investors.

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In this quarterly report, we refer to Thornburg Mortgage, Inc. and its subsidiaries as “we,” “us,” or “the Company,” unless we specifically state otherwise or the context indicates otherwise. Capitalized terms not otherwise defined in this quarterly report shall have the definitive meanings assigned to them in the Glossary at the end of this report.

Item 2. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

Executive Overview

Our goal is to acquire or originate ARM Assets for our portfolio using both equity capital and borrowed funds and finance them in such a way so as to achieve earnings and dividend stability as our primary objective, and earnings and dividend growth as our secondary objective. In order to achieve these objectives, we must mitigate key risks inherent in the mortgage portfolio lending business, principally credit risk and interest rate risk, while simultaneously pursuing earnings growth strategies. Our three primary strategies are (i) to increase our more profitable, higher margin mortgage loan origination business; (ii) to raise Common Stock at premiums to book value and access alternative sources of long-term capital such as preferred stock and unsecured debt which are lower in cost and that provide increased earnings to our existing common shareholders and (iii) to diversify our funding sources and grow our assets relative to our existing capital base by pursuing non-recourse funding sources, such as Collateralized Mortgage Debt, to finance our balance sheet.

Earnings Growth Strategies

Higher Margin Loan Originations. Our goal remains to increase our loan originations as a percentage of our annual portfolio acquisitions due to the higher margin potential and customer relationship opportunities associated with those assets. Despite continued highly competitive pricing, declines in industry-wide origination volumes and mandatory regulatory changes to industry-wide underwriting standards, our loan originations totaled $1.7 billion in the second quarter, up 21% from the same period last year. We expect our mortgage origination volumes will remain comparable going forward based on the $831.5 million of loans in the fallout-adjusted pipeline at June 30, 2007, most of which we expect will close in the third quarter of 2007. Our correspondent relationships have increased 16% year-over-year, and we now have 313 correspondent partners across the country.

Our wholesale channel is continuing to gain momentum. We remain confident that as this channel grows, it will become an attractive source of higher yielding loans for us. We also believe our entry into the wholesale business offers an improved lending experience for mortgage brokers because our focus is fully paperless and internet-based. Leveraging the same strategy that has proven successful with correspondent lenders, including emphasis on personal service, sensible underwriting and products designed to meet our sophisticated clients’ needs, we anticipate generating similar success over time. As of June 30, 2007, we had 21 account executives in five targeted geographic regions supporting 475 mortgage brokerage firms.

We have seen positive results with our customer retention and referral programs – The Thornburg Mortgage Exchange Program^SM and Refuse to Lose^SM campaign – as the earnings benefit of retaining an existing client is even greater than on new origination business. Our core service feature under this program has been the loan modification option, in which our borrowers in good standing can change their rate or loan product with a brief phone call and a small fee. The program is not offered to delinquent borrowers and we do not capitalize arrearages. Since 2002, we have modified 4,826 loans representing $2.6 billion. During the second quarter of 2007, we modified 324 loans with balances totaling $187.6 million. Another feature of The Thornburg Mortgage Exchange Program^SM is that our borrowers can cash out equity from their homes on a streamlined basis. Our growing loan servicing portfolio, or client base, which grew 31% over the year ago period to $13.9 billion, should be a promising source for loan exchanges and new loans in the future. This servicing portfolio now represents 22,044 customers.

Long-term Capital Growth. We raised $189.0 million of new common equity capital during the second quarter at an average net price of $26.12 per share and $82.4 million of new preferred equity capital at an average net price of $24.16 per share. This new long-term capital will contribute modestly to additional balance sheet and earnings growth in the future, principally through the acquisition and origination of high quality ARM Assets. Margins on ARM Assets have improved but they remain historically low. Accordingly, rates of return on new opportunities are lower than they have been in previous years. As a result, we may utilize alternative lower cost, long-term capital sources such as preferred stock and unsecured debt to support future earnings and balance sheet growth.

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Capital Efficient Collateralized Mortgage Debt Transactions. Since Collateralized Mortgage Debt represents long-term operating debt financing and the debt has no margin call risk, it reduces our capital requirements when used to finance our portfolio, providing an additional source of balance sheet and earnings growth. Our equity capital requirement for Collateralized Mortgage Debt is lowered to the capital required to support the financing which, in the aggregate, approximates 2% versus our customary 8% minimum capital requirement for Reverse Repurchase Agreement and Asset-backed CP financing. This more efficient use of capital allows us to invest in additional High Quality ARM Assets financed through recourse borrowings. In the second quarter of 2007, we completed a $1.3 billion Collateralized Mortgage Debt transaction which freed up an estimated $91.9 million of capital, which will allow us to acquire an additional $1.0 billion in ARM Assets during 2007 without raising additional capital.

Consistent Profitability

Our business model is designed to protect our profitability during periods of changing interest rates or yield curves in that we fund our Hybrid ARM portfolio with either fixed-rate borrowings or floating rate borrowings and Hedging Instruments of comparable duration. Because longer-duration funds are usually more expensive, this strategy reduced our net interest income and earnings potential in prior years, but has been a contributor to our relative earnings stability during rising interest rate and flattening yield curve environments. Our portfolio yields in the second quarter benefited from wider spreads on new mortgage asset acquisitions caused by credit concerns within the mortgage industry and from reduced premium amortization as the rising interest rate environment during the quarter led to continued slow prepayments and slower projected prepayments going forward. Adding to our positive outlook is the anticipated earnings benefit we should realize as the interest rates on approximately $5.7 billion of our Hybrid ARMs contractually reset over the next 18 months from an average interest rate of 4.68% to a current market rate. After the payment of the second quarter common dividend, we had in reserve an estimated $0.05 per share of Common Stock of undistributed taxable income. The $0.06 per share decrease in undistributed taxable income from the prior quarter is a result of the second quarter’s common dividend exceeding the second quarter’s taxable earnings by $0.03 per share and an increase in the number of common shares outstanding which also had an impact of $0.03 per share.

Prepayment activity in the second quarter was 17% CPR, up 2% from 15% from the same quarter a year ago. Premium amortization for the quarter ended June 30, 2007 resulted in accretion of $7.3 million, compared to $22.2 million in premium amortization expense during the second quarter of 2006. Premium amortization was and will in the future be influenced by changes in our assumptions about future prepayment speeds based on current mortgage rates and other factors including new asset acquisitions, changes in forward interest rates, actual prepayments relative to prior period estimates and changes in the indices that drive future interest rates on Hybrid ARM and Traditional ARM assets after reset. We evaluate all of the above factors on a monthly basis and calculate premium amortization such that the actual historical and expected future ARM asset cash flows generate a level yield over the period from purchase date until maturity. Given that the short term interest rates that determine the reset rates on ARM assets remain high relative to the current interest rates on our ARM Assets, we realized a benefit in our current premium amortization because the expected lifetime yields on our ARM assets exceed many current coupons in our mortgage portfolio. Additionally, the slower estimated future prepayment rate implies that a greater percentage of our Hybrid ARM assets were expected to survive their fixed rate period and not prepay prior to the end of their fixed rate period. Having a larger balance after the interest rate reset results in a higher yield on these Hybrid and Traditional ARM assets over their entire lives. Additionally, as a result of increased rates during the second quarter, the average CPR projected over the remaining life of the portfolio decreased to 23.5% as of June 30, 2007 from 25.5% as of March 31, 2007. Going forward, we will continue to regularly review our long-term prepayment assumptions relative to actual experience and future expectations which may, particularly if recent prepayment rates continue, result in additional downward adjustments to our long-term assumptions.

We possess a number of strategic advantages that allow us to generate consistent profitability over time. One of these strategic advantages is our low operating expense structure. During the second quarter of 2007, our operating expenses as a percentage of average assets were 0.19%, unchanged from 0.19% during the second quarter of 2006. We are able to operate at this low level of operating expenses relative to the size of our portfolio because we do not operate like a traditional mortgage lender or FDIC-insured depository institution. We acquire many of our assets through MBS purchases, originate loans by developing strategic partnerships with correspondent lenders, mortgage brokerage firms, lending partners and other sources, and fund our balance sheet using capital market-sourced funds, as opposed to FDIC-insured deposits and FHLB advances. As a result, we generally avoid the high overhead associated with retail branch networks and commissioned loan officers. In addition, we have developed other outsourced strategic partnerships that provide loan fulfillment services on a variable cost basis. This low, variable-cost model has allowed us to operate profitably with a lower interest rate spread on our portfolio, enabling us to mitigate certain cyclical risks frequently associated with mortgage banking and portfolio lending activities. Our low and generally variable operating cost structure and REIT tax status have allowed us to reduce investment risk by investing primarily in High Quality ARM Assets. We elect to securitize our acquired and originated ARM Loans or

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invest primarily in AAA- or AA-rated securities, Agency Securities or “A quality” ARM Loans. This strategy has resulted in very low credit losses. See additional discussion in the “Exceptional Credit Quality and Securitization” section below. Finally, by employing a portfolio lending strategy and retaining all of our ARM Loans rather than employing a mortgage-banking strategy and selling our ARM loan production, we do not depend on gain on sale income, which can fluctuate significantly with loan origination volume and market conditions.

Exceptional Credit Quality and Securitization

One of our strategic focuses is high credit quality assets. We believe this strategy keeps our credit losses and financing costs low. It also creates significant portfolio liquidity and low portfolio price volatility, which gives us access to financing through the credit cycle and contributes to maintaining consistent profitability. As of June 30, 2007, 94.6% of our ARM Asset portfolio was High Quality. We remain committed to preserving strong asset quality. As of the end of the second quarter, none of the securities in our portfolio had been downgraded since acquisition. To the contrary, 22 securities in the portfolio were upgraded from the original rating as a result of increased subordination due to prepayments within the respective collateral pools.

Our High Quality ARM Assets include “A quality” ARM loans that we have purchased or originated and securitized either into ARM pass-through certificates or into Collateralized Mortgage Debt financings for our own portfolio. We retain the risk of potential credit losses on all of these loans and had loan loss allowances totaling $15.7 million at June 30, 2007. We recorded our first charge-off in 22 quarters. Although we did not realize any losses in the quarter, we do expect to ultimately have losses on nine REO properties based on current appraisals and estimated expenses of disposition. Accordingly, we have recorded $449,000 in charge-offs to reduce the carrying value of the reclassified REO properties to their net realizable value. The charge-off does not flow through the income statement as it is taken from the general loan loss reserve. The general reserve is then replenished through the provision for loan losses which does flow through income and which totaled $1.4 million during the second quarter of 2007 versus $856,000 in the first quarter of 2007. Management believes the resulting allowance for loan losses of $15.7 million at June 30, 2007 is an appropriate allowance level given the high-quality characteristics of our loan portfolio. Our portfolio has an average LTV of 67%, which we believe is indicative of our capacity to work out seriously delinquent loans and REO properties without incurring significant losses. We continue to monitor performance in various geographic markets and continue to believe our portfolio is geographically well diversified and not unduly subject to any individual market stresses.

Additionally, our High Quality ARM Assets include Purchased Securitized Loans, which are “A quality” ARM Loans originated and securitized by third parties which we have acquired for our portfolio. These assets are Qualifying Interests for purposes of maintaining our exemption from the Investment Company Act because we retain a 100% ownership interest in the underlying loans. Because we purchase all classes of these securitizations, we have the credit exposure on the underlying loans. Prior to the purchase of these securities, we analyze seller-provided data allowing us to remove loans that do not meet our credit standards based on loan-to-value ratios, borrowers’ credit scores, income and asset documentation and other criteria that we believe to be important indications of credit risk. The purchase price of the classes that are less than Investment Grade generally include a discount for probable credit losses. Based on management’s judgment, the portion of the purchase discount which reflects the estimated unrealized loss on the securities due to credit risk is treated as a non-accretable discount and totaled $15.1 million at June 30, 2007.

Interest Rate Risk Management

Interest rate changes affect our short-term borrowing costs, which as a spread lender can pose a risk to our profitability if not responsibly managed. To counter this potential risk, when we purchase or originate Hybrid ARM Assets, we adhere to a matched funding or duration matching strategy which means we use Hybrid ARM Hedging Instruments to fix, or cap, the interest rates on the short-term borrowings and floating rate Collateralized Mortgage Debt that finance our Hybrid ARM Assets. We hedge our financing cost such that we maintain a Net Effective Duration of less than one year. The closer the Effective Duration gap is to zero, the less impact interest rate changes should have on the market value of our portfolio and therefore on earnings. As of June 30, 2007, we had $48.7 billion of Hybrid ARM Assets and had entered into Swap Agreements with notional balances totaling $44.3 billion and delayed Swap Agreements with notional balances totaling $4.7 billion that become effective between July 2007 and June 2009. These delayed Swap Agreements have been entered into to hedge the financing of existing ARM Assets and the forecasted financing of ARM Assets purchase commitments at June 30, 2007, and to replace Swap Agreements as they mature. Additionally, at June 30, 2007, we had Cap Agreements with aggregate net notional balances of $708.7 million. These Cap Agreements receive payments if one-month LIBOR rises above a range of 3.61% to 9.67%, and on average 5.91%. During the quarter ended June 30, 2007, we received payments of $5.7 million related to these Cap Agreements. As of June 30, 2007, we measured the Net Effective Duration applicable to our Hybrid ARM portfolio, related borrowings and Hybrid ARM Hedging Instruments at approximately 0.12 years, while the financing and hedging of all of our ARM Assets resulted in a Net Effective Duration of approximately 0.13 years.

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We continue to employ a duration matching funding strategy as we acquire Hybrid ARM Assets in order to stabilize earnings during periods of changing interest rates. As we acquire ARM Assets, we attempt to “lock-in” a spread that is expected to provide a rate of return at or above our threshold requirement. In order to stabilize the spread over the expected life of our ARM Assets, we use Hedging Instruments in conjunction with our borrowings to approximate the repricing characteristics of our ARM Assets. Given the prepayment uncertainties on our ARM Assets, there is no guaranteed way to “lock-in” a spread between the yield on our ARM Assets and the related borrowing that would produce an acceptable rate of return. However, through active management, we believe we can continue to mitigate a significant amount of net interest income volatility that would result from changes in short-term interest rates. See the discussion of “Effects of Interest Rate Changes” on page 59.

Funding Diversification

Another long-term objective is to achieve a more balanced funding mix between Asset-backed CP, Collateralized Mortgage Debt and Reverse Repurchase Agreements in order to reduce our reliance on any one funding source. Historically, we have relied principally on Reverse Repurchase Agreements for our funding needs. Since year end 2002, we have been actively working towards diversifying our financing sources. At that time, 91% of our borrowings were provided through Reverse Repurchase Agreements. At June 30, 2007, Reverse Repurchase Agreements accounted for only 45% of our borrowings, while Collateralized Mortgage Debt represented 35% and our Asset-backed CP facility accounted for 15%. We expect to continue to diversify our financing sources as opportunity permits.

In the second quarter of 2007, we further diversified our funding sources by establishing a $3.5 billion Whole loan-collateralized CP facility which provides an additional way to finance ARM loans held for securitization and is expected to have a lower cost of funds than our current whole loan financing facilities. We may issue commercial paper collateralized by ARM loans held for securitization to investors in the form of secured liquidity notes. At June 30, 2007, no such notes had been issued.

Forward-Looking Statements

Certain information contained in this Quarterly Report on Form 10-Q constitutes “forward-looking” statements within the meaning of Section 27A of the Securities Act of 1933 and Section 21E of the Securities Exchange Act of 1934 that are based on our current expectations, estimates and projections. Pursuant to those sections, we may obtain a “safe harbor” for forward-looking statements by identifying those statements and by accompanying those statements with cautionary statements, which identify factors that could cause actual results to differ from those expressed in the forward-looking statements. Statements that are not historical facts, including statements about our beliefs and expectations, are forward-looking statements. The words “believe,” “anticipate,” “intend,” “aim,” “expect,” “will,” “strive,” “target,” “project,” “have confidence” and similar words identify forward-looking statements. Such statements are not guarantees of future performance, events or results and involve potential risks and uncertainties. Accordingly, our actual results may differ from our current expectations, estimates and projections. Important factors that may impact our actual results or may cause our actual results to differ materially from those expressed in any forward-looking statements made by us or on our behalf include, but are not limited to, changes in interest rates, changes in yields available for purchase on adjustable and variable rate mortgage assets, changes in the yield curve, changes in prepayment rates, changes in the supply of mortgage-backed securities and loans, our ability to obtain financing and the terms of any financing that we do obtain. Other factors that may impact our actual results are discussed in our 2006 Annual Report on Form 10-K under the section entitled “Risk Factors.” We do not undertake any obligation to publicly release the result of any revisions that may be made to any forward-looking statements to reflect the occurrence of anticipated or unanticipated events or circumstances after the date of such statements.

Corporate Governance

We pride ourselves on maintaining an ethical workplace in which the highest standards of professional conduct are practiced. Accordingly, we would like to highlight the following facts relating to corporate governance:

• The Board of Directors is, and always has been, composed of a majority of independent directors. The Audit, Nominating/Corporate Governance and Compensation Committees of the Board of Directors are, and always have been, composed exclusively of independent directors. The Board of Directors 1) reviews our financial results, policy compliance and strategic direction on a quarterly basis, 2) reviews our budget and three-year strategic plan annually and 3) performs an annual review of the Manager’s compensation, performance and implementation of our strategic plan.

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• We have a Code of Conduct and Corporate Governance Guidelines that cover a wide range of business practices and procedures that apply to all of our employees, officers, directors and the Manager that foster the highest standards of ethics and conduct in all of our business relationships. In addition, we have instituted a Nonretaliation Policy and Procedure for Whistleblowers that sets forth procedures by which any officer or employee of the Company or the Manager may raise concerns regarding alleged violations of federal fraud or securities laws, which may involve financial matters, such as accounting, auditing or financial reporting, as well as non-financial matters, with the appropriate supervisors, officers or committees of the Board of Directors.

• We have an Insider Trading Policy to prohibit any of the directors, officers or employees of the Company or the Manager from buying or selling our stock on the basis of material nonpublic information or communicating material nonpublic information to others.

• We are managed externally by the Manager under the terms of the Management Agreement, subject to the supervision of the Board of Directors. The Manager’s compensation is based on formulas tied to our success in increasing equity capitalization and generating net income above defined targets. The Compensation Committee and the independent directors annually evaluate the Manager’s performance and determine whether the compensation paid to the Manager is reasonable in relation to the nature and quality of services performed.

• We have a formal internal audit function to further the effective functioning of our internal controls and procedures. Our internal audit plan is approved annually by the Audit Committee of the Board of Directors and is based on a formal risk assessment and is intended to provide management and the Audit Committee with an effective tool to identify and address areas of financial or operational concerns and ensure that appropriate controls and procedures are in place. Section 404 of the Sarbanes-Oxley Act of 2002 requires an annual evaluation of internal control over financial reporting. See “Controls and Procedures – Management’s Annual Report on Internal Control over Financial Reporting” on page 52 of our 2006 Annual Report on Form 10-K.

Our internet website address is www.thornburgmortgage.com. We make available free of charge, through our internet website, under the “Investor Information – SEC Filings” section, our Annual Report on Form 10-K, our Quarterly Reports on Form 10-Q, our Current Reports on Form 8-K and any amendments to those reports that we file or furnish pursuant to Section 13(a) or 15(d) of the Securities Exchange Act of 1934 as soon as reasonably practicable after we electronically file such material with, or furnish it to, the SEC.

You may also find the Code of Conduct, the Corporate Governance Guidelines and the charters of the Audit Committee, Nominating/Corporate Governance Committee and Compensation Committee of the Board of Directors at our website under the “Investor Information – Corporate Governance” section. These documents are also available in print to anyone who requests them by writing to us at the following address: 150 Washington Avenue, Suite 302, Santa Fe, New Mexico, 87501, or by phoning us at 1-888-898-8698.

Critical Accounting Policies and Estimates

Our consolidated financial statements are prepared in conformity with GAAP, which requires the use of estimates and assumptions. In accordance with SEC guidance, those material accounting policies and estimates that we believe are the most critical to an investor’s understanding of our financial results and condition and require complex management judgment are discussed below.

• Revenue Recognition. Interest income on ARM Assets is a combination of the interest earned based on the outstanding balance and contractual terms of the assets and the amortization of yield adjustments, principally the amortization of purchase premiums and discounts. Premiums and discounts associated with the purchase of ARM Assets are amortized or accreted into interest income over the estimated lives of the assets in accordance with SFAS 91, “Accounting for Nonrefundable Fees and Costs Associated with Originating or Acquiring Loans and Initial Direct Costs of Leases,” using the interest method adjusted for the effects of actual and future estimated prepayments and the current index on ARM assets. The use of these methods requires us to project cash flows over the remaining life of each asset based on these factors. These projections include assumptions about interest rates, prepayment rates, timing and amount of credit losses, estimates regarding the likelihood and timing of calls of securities at par, and other factors. Estimating prepayments and estimating the remaining lives of our ARM Assets requires management judgment, which involves consideration of possible future interest rate environments and an estimate of how borrowers will behave in those environments. We review our cash flow projections on an ongoing basis and monitor these projections based on input and analyses received from external sources, internal models, and our own judgment and experience. We regularly review our assumptions and

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make adjustments to the cash flows as deemed necessary. There is no assurance that the assumptions we use to estimate future cash flows, or the current period’s yield for each asset, will prove to be accurate.

The following table presents a sensitivity analysis to show the one time adjustment we would have to make to our net purchase premium of $465.0 million at June 30, 2007 for 1% and 2% CPR increases and decreases to our lifetime prepayment assumptions. The purpose of this analysis is to provide an indication of the impact that changes to the lifetime prepayment assumptions have on our purchase premium. We believe the current lifetime assumptions used, which average 23.5% CPR, are appropriate and consistent with our long-term portfolio experience and expectations.

Changed Assumption	Increase (Decrease) in Net Purchase Premium (in thousands)
Prepayment assumption increased by 1% CPR	$	(10,003	)
Prepayment assumption increased by 2% CPR	$	(21,621	)
Prepayment assumption decreased by 1% CPR	$	12,395
Prepayment assumption decreased by 2% CPR	$	23,058

Future premium amortization and accretion will also be influenced by new asset acquisitions, changes in the forward interest rate curve and changes in the indices that drive future yields on Hybrid ARM and Traditional ARM assets.

• Fair Value. We record our Purchased ARM Assets, commitments to purchase ARM Loans and Hybrid ARM Hedging Instruments at fair value. The fair values of most of our Purchased ARM Assets and all of our Hybrid ARM Hedging Instruments are based on market prices provided by third-party pricing services or certain dealers which make markets in these financial instruments. If the fair value of a Purchased ARM Asset is not reasonably available from a third-party pricing service or dealer, management estimates the fair value. For Purchased Arm Assets valued by management, we first look to identify a security in our portfolio for which a third-party market price is available that has similar characteristics including interest coupon, product type, credit rating, seasoning and duration. The third-party market price of the similar security is then used to value the security for which there was no third-party quote. Our objective is to use the third-party quote as the primary valuation indicator; however, if we are unable to identify a similar security in our portfolio, we look to recent market transactions of similar securities or make inquiries of broker-dealers that trade similar securities and use the data obtained to calculate a market price based on a yield or spread target. The net unrealized gain or loss on loans expected to be purchased from correspondent lenders and bulk sellers is calculated using the same methodologies that are used to price our ARM Loans, adjusted for anticipated fallout of purchase loan commitments that will likely not be funded. The fair values reported reflect estimates and may not necessarily be indicative of the amounts we could realize in a current market exchange. At June 30, 2007, management’s judgment was used to estimate the fair value of $6.2 billion or 10.9% of our ARM Assets and 100% of our commitments to purchase ARM Loans.

• Impairment of Purchased ARM Assets and Non-Accretable Discounts on Purchased ARM Assets. Purchased ARM Assets are evaluated for impairment on a quarterly basis, or more frequently if events or changes in circumstances indicate that these investments may be impaired. We evaluate whether our Purchased ARM Assets are considered impaired, evaluate whether the impairment is other than temporary, and, if the impairment is other than temporary, recognize an impairment loss equal to the difference between the Purchased ARM Asset’s amortized cost basis and its fair value. These evaluations require management to make estimates and judgments based on changes in market interest rates, changes in credit ratings, delinquency data on the loans underlying the respective securities and other information to determine whether unrealized losses are reflective of credit deterioration and to evaluate management’s ability and intent to hold the investment to maturity or recovery. Because the estimate for other-than-temporary impairment requires management judgment, we consider this to be a critical accounting estimate. We have determined that the gross unrealized losses of $716.2 million on Purchased ARM Assets at June 30, 2007 are not reflective of credit deterioration and because we have the ability and intent to hold the Purchased ARM Assets until recovery, the losses are not other-than-temporary impairments.

A portion of our Purchased Securitized Loans are rated less than Investment Grade and represent subordinated interests in High-Quality, first lien residential mortgage loans where we own all of the securitized principal classes. We generally purchase the less than Investment Grade classes at a discount. Based upon management’s analysis and judgment, a portion of the purchase discount is subsequently accreted as interest income under the effective yield method while the remaining portion of the purchase discount is treated as a non-accretable discount which reflects the estimated unrealized loss on the securities due to credit losses on the underlying loans. We review Purchased Securitized Loans periodically for impairment and record or adjust non-accretable discounts accordingly. Non-accretable discounts are increased by recognizing an impairment loss when management determines that there is a decline in the fair value of a Purchased

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Securitized Loan that is considered other than temporary and decreased when there is improvement in the risk exposures. Any such determinations are based on management’s assessment of numerous factors affecting the fair value of Purchased Securitized Loans, including, but not limited to, current economic conditions, potential for natural disasters, delinquency trends, credit losses to date on underlying mortgages and remaining credit protection. If management ultimately concludes that the non-accretable discounts will not represent realized losses, the balances are accreted into earnings over the remaining life of the loan under the interest method.

• Allowance for Loan Losses on ARM Loans. We maintain an allowance for loan losses based on management’s estimate of credit losses inherent in our portfolio of ARM Loans. The estimate of the reserve is based on a variety of factors including, but not limited to, industry statistics, current economic conditions, potential for natural disasters, loan portfolio composition, delinquency trends, credit losses to date on underlying loans and remaining credit protection. If the credit performance of our ARM Loans is different than expected, we adjust the allowance for loan losses to a level deemed appropriate by management to provide for estimated losses inherent in our ARM Loan portfolio. Two critical assumptions used in estimating the allowance for loan losses are an assumed rate of default, which is the expected rate at which loans go into foreclosure over the life of the loans, and an assumed rate of loss severity, which represents the expected rate of realized loss upon disposition of the properties that have gone into foreclosure.

The following table presents a sensitivity analysis to show the impact on our allowance for loan losses at June 30, 2007 of using 5% increases and decreases in the borrower’s propensity to default and the loss severity if there is a default. The purpose of this analysis is to provide an indication of the impact that defaults and loss severity assumptions have on our estimate of allowance for loan losses. It is not intended to imply our expectation of future default levels or changes in loss severity. We believe the current assumptions used for defaults and loss severity are appropriate.

Changed Assumption	Increase (Decrease) in Allowance for Loan Losses(in thousands)
Default assumption increased by 5%	$	1,604
Default assumption decreased by 5%	$	(1,598	)
Loss severity assumption increased by 5%	$	3,605
Loss severity assumption decreased by 5%	$	(3,600	)

For additional information on our significant accounting policies, see Note 1 to the Consolidated Financial Statements.

Recently Adopted Accounting Pronouncements

In September 2006, the FASB issued SFAS 157, “Fair Value Measurements.” This statement defines fair value, establishes a framework for measuring fair value in GAAP, and expands disclosures about fair value measurements. This statement applies under other accounting pronouncements that require or permit fair value measurements. SFAS 157 will become effective for us beginning January 1, 2008 and is not expected to have a material impact on our consolidated financial statements.

In February 2007, the FASB issued SFAS 159, “The Fair Value Option for Financial Assets and Financial Liabilities.” This statement permits companies to choose to measure many financial instruments and certain other items at fair value. Once a company chooses to report an item at fair value, changes in fair value would be reported in earnings at each reporting date. SFAS 159 will become effective for us beginning January 1, 2008. We are evaluating this Statement and have not yet decided whether we will or will not adopt the fair value option.

General

We are a single-family residential mortgage lender that originates, acquires and retains investments in ARM Assets, thereby providing capital to the single-family residential housing market. Our ARM Assets consist of Purchased ARM Assets and ARM Loans and are comprised of Traditional ARM Assets and Hybrid ARM Assets. Purchased ARM Assets are MBS that represent interests in pools of ARM loans, which are publicly rated and issued by third parties and may include guarantees or other third-party credit enhancements against losses from loan defaults. ARM Loans are either loans that we have securitized from our own loan origination or acquisition activities, loans that we use as collateral to support the issuance of Collateralized Mortgage Debt or loans pending securitization. Like traditional banking institutions, our income is generated primarily from the net spread or difference between the interest income we earn on our ARM Assets and the cost of our borrowings. Our strategy is to maximize the long-term sustainable difference between the yield on our ARM Assets and the cost of financing these assets, and to maintain that difference through interest rate and credit cycles.

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While we are not a bank or savings and loan institution, our business purpose, strategy, method of operation and risk profile are best understood in comparison to such institutions. We finance the purchases and originations of our ARM Assets with equity capital, unsecured debt, Collateralized Mortgage Debt and short-term borrowings such as Reverse Repurchase Agreements, Asset-backed CP, whole loan financing facilities, and other collateralized financings that we may establish in the future. When we borrow short-term or floating-rate funds to finance our Hybrid ARM Assets, we also enter into interest rate hedging transactions, which are intended to fix, or cap, our borrowing costs during the fixed-rate period of the Hybrid ARM assets. We believe we have minimized our exposure to changes in interest rates since the assets we hold are primarily ARM Assets and we generally match the Effective Duration, which is a calculation expressed in months or years that is a measure of the expected price change of financial instruments based on changes in interest rates, of those assets with funding of comparable Effective Duration. We have a policy to operate with an Adjusted Equity-to-Assets Ratio, a non-GAAP measurement, of at least 8%. See “Capital Utilization and Leverage” on page 46 for an explanation and a calculation of our Adjusted Equity-to-Assets Ratio. Moreover, we focus on acquiring High Quality assets to minimize potential credit losses and to ensure our access to financing. Our operating structure has resulted in operating costs well below those of other mortgage originators. Our corporate structure differs from most lending institutions in that we are organized for tax purposes as a REIT and, therefore, pay substantially all of our earnings in the form of dividends to shareholders.

We are an externally advised REIT and, as such, we are managed externally by the Manager under the terms of the Management Agreement, subject to the supervision of the Board of Directors. See Note 9 “Transactions with Related Parties” in the Consolidated Financial Statements.

Portfolio Strategies

Our business strategy is to acquire, originate and retain primarily ARM Assets to hold in our portfolio, fund them using equity capital and borrowed funds, and generate earnings from the difference, or spread, between the yield on our assets and our cost of borrowings. Our ARM Assets include investments in Hybrid ARM Assets and Traditional ARM Assets.

We acquire Purchased ARM Securities and ARM Loans from investment banking firms, broker-dealers, mortgage bankers, mortgage brokerage firms, banks, savings and loan institutions, credit unions, home builders and other entities involved in originating, securitizing, packaging and selling MBS and mortgage loans. We believe we have a competitive advantage in acquiring and investing in ARM Assets due to the low cost of our operations relative to traditional mortgage investors and originators.

We acquire and originate ARM Loans for our portfolio through our correspondent lending, wholesale lending, direct retail lending and bulk acquisition programs. Our correspondent lending program currently includes 313 approved correspondents. In the second quarter of 2006, we began originating ARM Loans through our wholesale lending channel and, as of June 30, 2007, we had 475 approved mortgage brokerage firms. Our direct retail lending channel originates ARM Loans through direct contact with consumers and we are currently authorized to lend in all 50 states and the District of Columbia. We believe that diversifying our sources for ARM Loans and Purchased ARM Assets will enable us to consistently find attractive opportunities to acquire or create high quality assets at attractive yields and spreads for our portfolio.

We have a focused portfolio lending investment policy designed to minimize credit risk and interest rate risk. Our policy requires us to have a mortgage asset portfolio with an expected Net Effective Duration of one year or less and which may consist of Agency Securities guaranteed by Ginnie Mae, Fannie Mae or Freddie Mac, or privately issued (generally publicly registered) ARM pass-through securities, multi-class pass-through securities, Collateralized Mortgage Debt, “A quality” ARM Loans that we intend to securitize, Purchased Securitized Loans or other short-term investments that either mature within one year or have an interest rate that reprices within one year.

Our investment policy requires that we invest at least 70% of our total assets in High Quality ARM Assets and short-term investments. The remainder of our ARM portfolio, comprising not more than 30% of total assets, may consist of Other Investments.

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In 2006, we began acquiring Traditional Pay Option ARMs as well as Purchased Securitized Loans collateralized by Traditional Pay Option ARMs because they represented an opportunity to earn a better investment return even after taking into account the increased potential for losses due to mortgage loan defaults. As of June 30, 2007, we held $1.7 billion of Traditional Pay Option ARMs in our portfolio, the majority of which were purchased through bulk loan acquisitions and Purchased Securitized Loans. Our last Traditional Pay Option ARM purchase was in January 2007, and we are no longer acquiring or originating this type of loan for our portfolio. Traditional Pay Option ARMs bear interest at a floating rate and have features that allow borrowers to defer making the full interest payment on their loans. Therefore, the potential loss in the event of default could be higher than on a loan that does not provide for deferral of interest. The Traditional Pay Option ARMs have features that limit the deferred interest to 110% to 125% of the original loan balance. If the loan balance reaches the applicable limit, additional interest may not be deferred and the monthly minimum payment is increased to an amount that would amortize the loan over its remaining term. As of June 30, 2007, accumulated deferred interest was $78.3 million. Of the $33.2 million of loans in our bulk acquisition portfolio which were 60 days or more delinquent at June 30, 2007, 12 loans totaling $24.0 million or 72% were Traditional Pay Option ARMs. In the bulk portfolio, the Traditional Pay Option ARM delinquency was 1.95%, which was less than the Mortgage Bankers Association reported Prime ARM delinquencies of 2.32% for the first quarter of 2007. Excluding these loans from our bulk acquisition portfolio would have resulted in a delinquency ratio of 0.15% rather than the current delinquency ratio of 0.45%. We had no delinquent Fixed Option ARMs or Traditional Pay Option ARMs in our TMHL-originated portfolio at June 30, 2007. Of the $79.6 million 60 days or more delinquent loans and REO in our Purchased Securitized Loan portfolio at June 30, 2007, 19 loans totaling $56.4 million or 71% were Traditional Pay Option ARMs. We believe that our credit reserves are adequate to cover any losses that may occur as a result of these delinquencies. Our Fixed Option ARMs and Traditional Pay Option ARMs had an average original effective loan-to-value ratio of 67% and an average original FICO score of 721 at June 30, 2007.

Through the second quarter of 2006, our ownership of Hybrid ARM Assets with fixed-rate periods of greater than five years was limited to no more than 50% of our total assets. In July 2006, the Board of Directors removed this limitation in response to consumer preference for longer-term Hybrid ARM products in the current interest rate environment. We may also invest up to 5% of total assets in fifteen year fixed-rate assets, although, as of June 30, 2007, we did not hold any fifteen year fixed-rate assets. We use Hybrid ARM Hedging Instruments to fix, or cap, the interest rates on the short-term borrowings and floating-rate Collateralized Mortgage Debt financing our Hybrid ARM Assets. We have a policy that requires us to maintain a Net Effective Duration on Hybrid ARM Assets of less than one year. We use a financial model that simulates interest rate changes and calculates the impact of those changes on the fair value of our portfolio. By maintaining a Net Effective Duration of less than one year on our Hybrid ARM Assets, we believe that we can maintain relatively stable earnings and dividends given changing interest rates.

We believe that our status as a mortgage REIT makes an investment in our equity securities attractive for tax-exempt investors, such as pension plans, profit sharing plans, 401(k) plans, Keogh plans and IRAs. We do not invest in REMIC residuals or other CMO residuals that would result in the creation of excess inclusion income or unrelated business taxable income.

Acquisition, Securitization and Retention of Traditional ARM and Hybrid ARM Loans

We acquire and originate “A quality” ARM Loans through TMHL, our wholly-owned mortgage loan origination and acquisition subsidiary, from four sources: (i) correspondent lending, (ii) wholesale lending, (iii) direct retail lending and (iv) bulk acquisitions. Correspondent lending involves originating individual loans that we generally re-underwrite from lending partners which we have approved and which originate and close the individual loans using our product pricing, underwriting criteria and guidelines, or other approved criteria and guidelines. We currently have 31 correspondent lenders to which we have granted delegated underwriting status, which means they can close a loan according to our underwriting guidelines up to a maximum loan amount of $2,000,000. Loans with exceptions to our guidelines are not eligible under our delegated program. Delegated status has only been granted to those correspondent lenders who have proved they have underwriting processes which mirror our credit criteria and underwriting processes. 138 out of 1,343 correspondent loans went through the delegated process in the second quarter. Wholesale loan originations are loans which we underwrite and close that are sourced from approved mortgage brokerage firms. Direct retail loan originations are loans that we originate directly to consumers via the internet or by telephone. See “Loan Quality Control” below for a description of quality control performed in our correspondent, wholesale and retail channels. Bulk acquisitions involve acquiring pools of whole loans which are originated using the seller’s guidelines and underwriting criteria. The loans we acquire or originate are financed through warehouse borrowing arrangements pending securitization for our portfolio. In addition to the quality control process that we apply to delegated loans, we re-verify the accuracy of Truth in Lending disclosures on 100% of correspondent lenders aggregating 46% of correspondent loans and on 100% of wholesale and retail loans. In addition, we perform pre-funding fraud audits on at least 50% of all retail and correspondent loans in process, and on 100% of all wholesale loans in process.

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The loans acquired or originated by TMHL are first lien, single-family residential Traditional ARM and Hybrid ARM loans with original terms to maturity of not more than forty years and are either fully amortizing, interest-only for up to ten years and fully amortizing thereafter, or to a lesser extent negatively amortizing.

All ARM Loans that we acquire or originate for our portfolio bear an interest rate tied to an interest rate index. Most loans have periodic and lifetime constraints on the amount by which the loan interest rate can change on any predetermined interest rate reset date. The interest rate on each Traditional ARM loan resets monthly, semi-annually or annually. Traditional ARM loans generally adjust to a margin over a U.S. Treasury index, a LIBOR index or the 12-Month Treasury Average Index. Hybrid ARM loans have a fixed rate for an initial period, generally 3 to 10 years, and then convert to Traditional ARM loans for their remaining term to maturity.

We acquire and originate ARM Loans for our portfolio with the intention of using them as collateral for Collateralized Mortgage Debt. Alternatively, we may also securitize them to create High Quality ARM securities and retain them in our portfolio as Securitized ARM Loans. In order to facilitate the securitization or financing of our loans, we generally create subordinate certificates, which provide a specified amount of credit enhancement and which we retain in our portfolio. Our investment policy limits the amount we may retain of below Investment Grade subordinate certificates or classes created as a result of our loan acquisition and securitization efforts or acquired as Purchased Securitized Loans, to 17.5% of shareholders’ equity, measured on a historical cost basis.

We believe acquiring or originating ARM Loans and then securitizing them benefits us by providing: (i) greater control over the quality and types of ARM Assets acquired; (ii) the ability to acquire current coupon ARM Assets at lower prices; (iii) additional sources of new whole-pool ARM Assets; and (iv) generally higher yielding investments in our portfolio.

We offer The Thornburg Mortgage Exchange Program^SM for loans we originate and/or service. We believe this program promotes customer retention and reduces loan prepayments. Our core feature under this program is the loan modification option where borrowers in good standing can pay a fee to change their current mortgage loan products to any then-available Hybrid or Traditional ARM product that we offer. The program is not offered to delinquent borrowers and we do not capitalize arrearages. During the second quarter of 2007, we modified 324 loans with balances totaling $187.6 million. At June 30, 2007, the pipeline of loans to be modified totaled $27.2 million. Another feature of The Thornburg Mortgage Exchange Program^SM is that our borrowers can take out equity from their homes on a streamlined basis.

Loan Quality Control

We employ a number of pre- and post-funding measures to ensure the quality of our loans. In addition to our internal pre-funding underwriting and loan documentation reviews on 100% of our wholesale and non-delegated correspondent loans, we maintain strict oversight of our retail lending third party providers. We also utilize a third party database company to conduct pre-funding fraud checks on 100% of our wholesale loans and 50% of our direct retail and correspondent loans. These checks validate loan application data via relational databases and logic to identify potentially fraudulent data.

Post-funding, TMHL’s wholly owned subsidiary Adfitech currently reviews 100% of our wholesale loans, 100% of loans originated through correspondents with delegated underwriting status and a 10%—15% sample of our direct retail and correspondent loans, generally within one month of funding. In the future, it is likely we will decrease the amount of current reviews performed by Adfitech on wholesale loans once we have sufficient evidence of the effectiveness of our underwriting and operating guidelines. These are extensive audits that involve a full evaluation of the underwriting decision and a re-verification of loan documentation. Our internal quality control department reviews all findings. Significant findings are circulated within relevant departments and provided to applicable correspondents and mortgage brokerage firms. Summary reports are prepared for management and the Board of Directors.

Financing Strategies

We finance our ARM Assets using common and preferred equity capital, unsecured debt, Collateralized Mortgage Debt and short-term borrowings such as Reverse Repurchase Agreements, Asset-backed CP, whole loan financing facilities and other collateralized financings that we may establish in the future. See “Hedging Strategies” below for a discussion of how we convert short-term borrowings into the equivalent of long-term fixed-rate financing for purposes of managing our interest rate risk. Our long-term objective is to achieve a more diversified funding mix including Asset-backed CP, Collateralized Mortgage Debt and Reverse Repurchase Agreements.

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Reverse Repurchase Agreements involve a simultaneous sale of pledged securities to a lender at an agreed-upon price in return for our agreement to repurchase the same securities at a future date (the maturity of the borrowing) at a higher price. The price difference is the cost of borrowing under these agreements. We have established lines of credit and collateralized financing agreements with 21 different financial institutions.

We enter into three types of Reverse Repurchase Agreements: variable rate term Reverse Repurchase Agreements, fixed-rate Reverse Repurchase Agreements and structured Reverse Repurchase Agreements. Our variable rate term Reverse Repurchase Agreements are financings with original maturities ranging from two to twelve months. Our structured Reverse Repurchase Agreements incorporate elements of both the variable rate term and the fixed-rate Reverse Repurchase Agreements, usually have a call feature, and have original maturities ranging from three to seven years. The interest rates on these variable rate term and structured Reverse Repurchase Agreements are generally indexed to the one-month LIBOR rate, and reprice accordingly. The fixed-rate Reverse Repurchase Agreements have original maturities within one month. Generally, upon repayment of each Reverse Repurchase Agreement, we immediately pledge the ARM Assets used to collateralize the financing to secure a new Reverse Repurchase Agreement.

We have an Asset-backed CP facility, which provides us with an alternative way to finance our High Quality ARM Assets portfolio. We issue Asset-backed CP in the form of secured liquidity notes that have been rated P-1 by Moody’s Investors Service, F1+ by Fitch Ratings and A-1+ by Standard and Poor’s to money market investors. The notes can be collateralized by Agency Securities and AAA-rated, adjustable-rate MBS that we have either purchased or created through our loan securitization process. Importantly, over time we have diversified our funding sources by replacing a portion of our Reverse Repurchase Agreement borrowings with the issuance of Asset-backed CP.

Because we borrow money under Reverse Repurchase Agreements and Asset-backed CP based on the fair value of our ARM Assets, our borrowing ability under these agreements could be limited and lenders could initiate margin calls in the event of interest rate changes or if the value of our ARM Assets declines for other reasons.

We have also financed the origination and purchase of ARM Assets by issuing hedged floating-rate and fixed-rate Collateralized Mortgage Debt in the capital markets. The Collateralized Mortgage Debt is collateralized by ARM Loans that are placed in a trust. The trust pays the principal and interest payments on the debt out of the cash flows received on the collateral and related Hedging Instruments. This structure enables us to make more efficient use of our capital because the capital requirement to support these financings is less than the amount our policy requires to support the same amount of financings in the Reverse Repurchase Agreement or Asset-backed CP markets. These transactions are a long-term form of financing and are not subject to margin calls.

We have financing facilities, or credit lines, for whole loans. A whole loan is the actual mortgage loan evidenced by a note and secured by a mortgage or deed of trust. We use these financing facilities to finance our acquisition and origination of whole loans while we are accumulating loans for securitization.

In the second quarter of 2007, we established a $3.5 billion Whole loan-collateralized CP facility which provides an additional way to finance ARM loans held for securitization and is expected to have a lower cost of funds than our current whole loan financing facilities. We may issue commercial paper collateralized by ARM loans held for securitization to investors in the form of secured liquidity notes that are recorded as borrowings on our Consolidated Balance Sheets. At June 30, 2007, no such notes had been issued.

We have issued Senior Notes in the amount of $305.0 million as a form of long-term capital. The Senior Notes bear interest at 8.0%, payable each May 15 and November 15, and mature on May 15, 2013. The Senior Notes are unsecured and are redeemable at a declining premium, in whole or in part, beginning on May 15, 2008, and at par beginning on May 15, 2011.

We have issued Subordinated Notes in the amount of $240.0 million as another form of long-term capital. The Subordinated Notes bear interest at a weighted average fixed rate of 7.47% per annum through the interest payment dates between October 2015 and January 2016, and thereafter at a variable rate equal to three-month LIBOR plus a weighted average rate of 2.56% per annum, payable each January 30, April 30, July 30 and October 30, and mature between October 30, 2035 and April 30, 2036. The Subordinated Notes are unsecured and are redeemable at par, in whole or in part, beginning on October 30, 2010. The Subordinated Notes may also be redeemed at a premium under limited circumstances on or before October 30, 2010.

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Capital Utilization

The Board of Directors has approved a policy that limits our capacity to borrow funds to finance mortgage assets based on long-term capital. We monitor the relationship between our assets, borrowings and long-term capital using a variety of different measures. However, the primary operating policy that limits our borrowings and leverage is a requirement to maintain our Adjusted Equity-to-Assets Ratio, a non-GAAP measurement, at a minimum of 8%. Broadly speaking, this ratio reflects the relationship between those assets financed with borrowings that are subject to margin calls and our long-term capital position. See further discussion of capital utilization and leverage beginning on page 46 and the calculation of our Adjusted Equity-to-Assets Ratio on page 47.

Liquidity Management

Our primary focus is to acquire and originate high quality, highly liquid assets such that sufficient assets could be readily converted to cash, if necessary, in order to meet our financial obligations. We have a Liquidity Management Policy, which is designed to minimize potential shortfalls in liquidity resulting from adverse changes in interest rates or market conditions. The Liquidity Management Policy requires the frequent measurement of the potential market value exposure of the portfolio to a 100 BP instantaneous parallel increase in interest rates above expected future interest rates as well as a 100 BP instantaneous parallel decrease in interest rates below expected future interest rates. The calculated potential mark-to-market exposure resulting from this scenario is probability weighted, increased by a multiple of three, and compared to recent minimum liquidity levels in order to determine whether management needs to take specific actions to improve liquidity or further reduce interest rate risk. We believe this approach is prudent for assessing our liquidity risk. At June 30, 2007, we had unencumbered assets of $1.6 billion, consisting of unpledged ARM Assets, cash and cash equivalents, and other assets.

Hedging Strategies

We attempt to mitigate our interest rate risk by funding our ARM Assets with a combination of short-term borrowings and Hedging Instruments whose combined Effective Durations approximately match the Effective Durations on our ARM Assets. Some of our borrowings are at interest rates that are either variable or short-term (one year or less) because a portion of our ARM Assets, the Traditional ARM Assets, have interest rates that adjust within one year. We finance our Hybrid ARM portfolio with borrowings hedged with Hybrid ARM Hedging Instruments that fix the interest rate on our floating-rate borrowings such that the Net Effective Duration is less than one year. As Net Effective Duration approaches zero, a lower volatility of earnings is expected when interest rates change during future periods. When we enter into a Swap Agreement, we agree to pay a fixed rate of interest and to receive a variable interest rate, generally based on LIBOR. We purchase Cap Agreements by incurring a one-time fee or premium. Pursuant to the terms of the Cap Agreements, we will receive cash payments if the interest rate index specified in any such Cap Agreement increases above contractually specified levels. Therefore, such Cap Agreements have the effect of capping the interest rate on a portion of our borrowings above a specified level as opposed to fixing our cost of funds as in a swap transaction. The notional amounts of the Hybrid ARM Hedging Instruments generally decline over the life of these instruments and the notional amounts of a portion of our Swap Agreements and all of our Cap Agreements decline such that they are expected to equal the balance of the Hybrid ARM Loans Collateralizing Debt hedged with these Hybrid ARM Hedging Instruments. As of June 30, 2007, our Hybrid ARM Hedging Instruments had an estimated remaining average term to maturity of 3.9 years before considering the effects of prepayments and when combined with our Hybrid ARM Assets and related borrowings had a Net Effective Duration of approximately 0.12 years, including the effects of estimated prepayments.

We enter into Pipeline Hedging Instruments to manage interest rate risk associated with commitments to purchase ARM Loans. The gain (loss) on the Pipeline Hedging Instruments is expected to offset the gain (loss) recorded for the change in fair value of the loan commitments.

We may enter into additional hedging transactions designed to protect our borrowing costs or portfolio yields from interest rate changes. We may purchase “interest-only” or “principal-only” mortgage assets or other mortgage derivative products for purposes of mitigating risk from interest rate changes. We may also use, from time to time, futures contracts and options on futures contracts on the Eurodollar, Federal Funds, Treasury bills and Treasury notes and similar financial instruments to mitigate risk from changing interest rates.

The hedging transactions that we currently use are primarily designed to protect our income during periods of changing market interest rates and also have the benefit of protecting our portfolio market value. We do not enter into derivative transactions for speculative purposes. Further, no hedging strategy can completely insulate us from risk and certain of the federal income tax requirements that we must satisfy to qualify as a REIT may limit our ability to hedge. We carefully monitor and may have to limit our hedging strategies to ensure that we do not realize excessive hedging income or hold hedging assets having excess value in relation to total assets.

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Financial Condition

Asset Quality

At June 30, 2007, we held total assets of $57.5 billion, $56.4 billion of which consisted of ARM Assets. That compares to $52.7 billion in total assets and $51.5 billion of ARM Assets at December 31, 2006. Since commencing operations, we have purchased either Agency Securities, privately-issued MBS or ARM Loans generally originated to “A quality” underwriting standards. At June 30, 2007, 93.0% of the assets we held, including cash and cash equivalents, were High Quality assets, far exceeding our investment policy minimum requirement of investing at least 70% of our total assets in High Quality ARM Assets and cash and cash equivalents.

The following tables present schedules of ARM Assets owned at June 30, 2007 and December 31, 2006 classified by High Quality and Other Investment assets and further classified by type of issuer and by ratings categories. All Purchased ARM Assets included in the tables have been rated by the Rating Agencies. ARM Loans include Securitized ARM Loans that have been rated by the Rating Agencies, ARM Loans Collateralizing Debt that have been stratified by credit rating based on the ratings received from the Rating Agencies on the respective Collateralized Mortgage Debt and ARM loans held for securitization that have not been rated by the Rating Agencies.

ARM Assets by Issuer and Credit Rating

(dollar amounts in thousands)

	June 30, 2007
	Purchased ARM Assets					ARM Loans					Total
	Carrying Value			Portfolio Mix		Carrying Value			Portfolio Mix		Carrying Value			Portfolio Mix
High Quality
Agency Securities	$	2,853,128		9.0	%	$	141		0.0	%	$	2,853,269		5.0	%
Non-agency ARM Assets:
AAA/Aaa rating		27,739,817		87.3			22,064,613	(1)	89.4			49,804,430		88.3
AA/Aa rating		721,732		2.3			37,563	(1)	0.2			759,295		1.3
Total non-agency ARM Assets		28,461,549		89.6			22,102,176		89.6			50,563,725		89.6
Total High Quality		31,314,677		98.6			22,102,317		89.6			53,416,994		94.6
Other Investments
Non-agency ARM Assets:
A rating		255,363		0.8			26,487		0.1			281,850		0.5
BBB/Baa rating		140,190		0.4			17,806		0.0			157,996		0.3
BB/Ba rating and below		51,361	(2)	0.2			124,906	(1)	0.5			176,267		0.3
ARM Loans pending securitization		—		0.0			2,417,545		9.8			2,417,545		4.3
Total Other Investments		446,914		1.4			2,586,744		10.4			3,033,658		5.4
Allowance for loan losses		—		0.0			(15,692	)	0.0			(15,692	)	(0.0	)
Total ARM portfolio	$	31,761,591		100.0	%	$	24,673,369		100.0	%	$	56,434,960		100.0	%

(1) As of June 30, 2007, the Investment Grade classes of ARM Loans Collateralizing Debt have been credit-enhanced through overcollateralization and subordination in the amount of $138.0 million, which is included in the BB/Ba Rating and Below category.

(2) As of June 30, 2007, we had total non-accretable discounts of $15.1 million on our Purchased ARM Assets due to estimated credit losses (other than temporary declines in fair value) related to securities purchased at a discount, which is included in the BB/Ba Rating and Below category.

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	December 31, 2006
	Purchased ARM Assets					ARM Loans					Total
	Carrying Value			Portfolio Mix		Carrying Value			Portfolio Mix		Carrying Value			Portfolio Mix
High Quality
Agency Securities	$	2,204,663		7.8	%	$	328		0.0	%	$	2,204,991		4.3	%
Non-agency ARM Assets:
AAA/Aaa rating		24,920,432		88.0			21,646,654	(1)	93.2			46,567,086		90.3
AA/Aa rating		724,378		2.6			38,194	(1)	0.2			762,572		1.5
Total non-agency ARM Assets		25,644,810		90.6			21,684,848		93.4			47,329,658		91.8
Total High Quality		27,849,473		98.4			21,685,176		93.4			49,534,649		96.1
Other Investments
Non-agency ARM Assets:
A rating		260,899		0.9			26,008		0.1			286,907		0.6
BBB/Baa rating		144,912		0.5			15,782		0.0			160,694		0.3
BB/Ba rating and below		56,032	(2)	0.2			125,004	(1)	0.5			181,036		0.3
ARM Loans pending securitization		—		0.0			1,383,577		6.0			1,383,577		2.7
Total Other Investments		461,843		1.6			1,550,371		6.6			2,012,214		3.9
Allowance for loan losses		—		0.0			(13,908	)	0.0			(13,908	)	(0.0	)
Total ARM portfolio	$	28,311,316		100.0	%	$	23,221,639		100.0	%	$	51,532,955		100.0	%

(1) As of December 31, 2006, the Investment Grade classes of ARM Loans Collateralizing Debt were credit-enhanced through overcollateralization and subordination in the amount of $175.9 million, which is included in the BB/Ba Rating and Below category.

(2) As of December 31, 2006, we had total non-accretable discounts of $15.1 million on our Purchased ARM Assets due to estimated credit losses (other than temporary declines in fair value) related to securities purchased at a discount, which is included in the BB/Ba Rating and Below category.

As of June 30, 2007, 58 of the 38,024 loans in our $24.7 billion ARM loan portfolio were considered seriously delinquent (60 days or more delinquent) and had an aggregate balance of $46.6 million. At June 30, 2007, we had thirteen real estate-owned properties as a result of foreclosing on delinquent loans in the amount of $4.3 million. We recorded $449,000 in charge-offs to reduce the carrying value of the real estate properties to their estimated net realizable value. During the six months ended June 30, 2006, we did not record any charge-offs. During the six months ended June 30, 2007 and 2006, we recorded loan loss provisions totaling $2.2 million and $1.0 million, respectively, to reserve for estimated credit losses on ARM Loans, bringing our total loan loss reserve to $15.7 million and $11.8 million, respectively. We believe that our current allowance for loan losses is adequate to cover probable losses inherent in the ARM Loan portfolio at June 30, 2007.

At June 30, 2007, our Purchased Securitized Loans totaled $6.1 billion. Like our own loan originations and acquisitions, these assets are Qualifying Interests for purposes of maintaining our exemption from the Investment Company Act because we retain a 100% ownership interest in the underlying loans. Because we purchase all classes of these securitizations, we have the entire credit exposure on the underlying loans. The purchase price of the classes that are less than Investment Grade generally includes a discount for probable credit losses and, based on management’s judgment, the portion of the purchase discount which reflects the estimated unrealized loss on the securities due to credit risk is treated as a non-accretable discount. As of June 30, 2007, 74 of the underlying loans in these Purchased Securitized Loans were 60 days or more delinquent and had an aggregate balance of $79.6 million. We believe the losses inherent in our Purchased Securitized Loan portfolio at June 30, 2007 are appropriately reflected in the fair value of these assets.

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ARM Loan Portfolio Characteristics

The following tables present various characteristics of our ARM Loan portfolio as of June 30, 2007, categorized by TMHL originations and bulk acquisitions. This information pertains to ARM loans held for securitization, ARM loans held as collateral for Collateralized Mortgage Debt and ARM loans securitized for our own portfolio for which we retained credit loss exposure. The combined unpaid principal balance of the loans included in these tables is $24.5 billion, consisting of TMHL originations of $17.1 billion and bulk acquisitions of $7.4 billion.

ARM Loan Portfolio Characteristics – TMHL Originations

	Average			High			Low
Original loan balance	$	679,683		$	14,000,000		$	25,000
Unpaid principal balance	$	658,561		$	14,000,000		$	1,629
Coupon rate on loans		5.93	%		9.25	%		3.00	%
Pass-through rate		5.64	%		9.00	%		2.67	%
Pass-through margin		1.68	%		4.42	%		0.26	%
Lifetime cap		11.01	%		18.00	%		6.00	%
Original term (months)		361			480			120
Remaining term (months)		339			479			72

Geographic distribution (top 5 states):			Property type:
California	30.2	%	Single-family	77.7	%
New York	10.4		Condominium	17.3
Colorado	8.8		Other residential	5.0
Florida	7.4
Georgia	5.3		ARM Loan type:
			Traditional ARM loans	3.5	%
Occupancy status:			Hybrid ARM loans	96.5
Owner occupied	70.5	%
Second home	18.4		ARM interest rate caps:
Investor	11.1		Initial cap on Hybrid ARM loans:
			3.00% or less	6.3	%
Documentation type:			3.01%-4.00%	4.8
Full	88.9	%	4.01%-5.00%	78.0
Stated income/no ratio	11.1		5.01%-6.00%	7.7
Loan purpose:			Periodic cap on ARM Loans:
Purchase	50.4	%	None	1.7	%
Cash out refinance	30.0		1.00% or less	1.0
Rate & term refinance	19.6		Over 1.00%	0.5
Unpaid principal balance:			Percent of interest-only loan balances:	93.7	%
$417,000 or less	16.4	%
$417,001 to $650,000	16.0		Weighted average length of remaining interest-only period:	9.6 years
$650,001 to $1,000,000	19.4
$1,000,001 to $2,000,000	31.3		FICO scores:
$2,000,001 to $3,000,000	8.2		801 and over	5.1	%
Over $3,000,000	8.7		751 to 800	45.6
			701 to 750	31.7
Original effective loan-to-value:			651 to 700	15.7
80.01% and over	1.0	%	650 or less	1.9
70.01%-80.00%	47.0
60.01%-70.00%	24.3		Weighted average FICO score:	744
50.01%-60.00%	13.3
50.00% or less	14.4		Weighted average effective original loan-to-value:	66.7	%

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ARM Loan Portfolio Characteristics – Bulk Acquisitions

	Average			High			Low
Original loan balance	$	629,648		$	10,016,162		$	13,190
Unpaid principal balance	$	615,874		$	10,229,887		$	518
Coupon rate on loans		6.18	%		9.20	%		2.75	%
Pass-through rate		5.87	%		8.82	%		2.42	%
Pass-through margin		2.29	%		4.89	%		0.54	%
Lifetime cap		10.73	%		15.13	%		7.25	%
Original term (months)		360			480			170
Remaining term (months)		342			473			47

Geographic distribution (top 5 states):			Property type:
California	43.6	%	Single-family	83.6	%
New York	7.3		Condominium	15.3
Florida	7.2		Other residential	1.1
New Jersey	4.5
Virginia	3.6		ARM Loan type:
			Traditional ARM loans	16.5	%
Occupancy status:			Hybrid ARM loans	83.5
Owner occupied	88.3	%
Second home	9.2		ARM interest rate caps:
Investor	2.5		Initial cap on Hybrid ARM loans:
			3.00% or less	2.6	%
Documentation type:			3.01%-4.00%	0.0
Full	57.8	%	4.01%-5.00%	77.7
Stated income/no ratio	42.2		5.01%-6.00%	3.2
Loan purpose:			Periodic cap on ARM Loans:
Purchase	52.1	%	None	16.4	%
Cash out refinance	28.0		1.00% or less	0.0
Rate & term refinance	19.9		Over 1.00%	0.1
Unpaid principal balance:			Percent of interest-only loan balances:	69.2	%
$417,000 or less	12.9	%
$417,001 to $650,000	36.3		Weighted average length of remaining interest-only period:	8.9 years
$650,001 to $1,000,000	24.0
$1,000,001 to $2,000,000	13.5		FICO scores:
$2,000,001 to $3,000,000	5.8		801 and over	4.2	%
Over $3,000,000	7.5		751 to 800	42.7
			701 to 750	35.5
Original effective loan-to-value:			651 to 700	16.4
80.01% and over	0.6	%	650 or less	1.2
70.01%-80.00%	48.1
60.01%-70.00%	26.9		Weighted average FICO score:	743
50.01%-60.00%	13.1
50.00% or less	11.3		Weighted average effective original loan-to-value:	67.9	%

As of June 30, 2007 and December 31, 2006, we serviced $13.9 billion and $12.0 billion of our loans, respectively, and had 22,044 and 20,637 customer relationships, respectively. We hold all of the loans that we service in our portfolio in the form of Securitized ARM Loans, Arm Loans Collateralizing Debt or ARM loans that are pending securitization.

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Asset Repricing Characteristics

The following table classifies our ARM portfolio by type of interest rate index and frequency of repricing.

ARM Assets by Index and Repricing Frequency

(dollar amounts in thousands)

	June 30, 2007					December 31, 2006
	Carrying Value			Portfolio Mix		Carrying Value			Portfolio Mix
Traditional ARM Assets:
Index:
One-month LIBOR	$	2,310,124		4.1	%	$	2,029,809		3.9	%
Six-month LIBOR		1,625,686		2.9			1,222,463		2.4
MTA		1,905,329		3.4			1,965,885		3.8
Other		1,885,372		3.3			1,495,772		2.9
		7,726,511		13.7			6,713,929		13.0
Hybrid ARM Assets:
Remaining fixed period:
3 years or less		9,581,765		17.0			9,024,562		17.5
Over 3 years – 5 years		8,514,765		15.2			9,260,351		18.0
Over 5 years		30,627,611		54.1			26,548,021		51.5
		48,724,141		86.3			44,832,934		87.0
Allowance for loan losses		(15,692	)	(0.0	)		(13,908	)	(0.0	)
	$	56,434,960		100.0	%	$	51,532,955		100.0	%

The ARM portfolio had a weighted average coupon of 5.59% at June 30, 2007. This consisted of a weighted average coupon of 5.36% on the Hybrid ARM Assets and a weighted average coupon of 6.39% on the Traditional ARM Assets. If the portfolio had been Fully Indexed, the weighted average coupon of the portfolio would have been 5.76%, based upon the composition of the portfolio and the applicable indices at June 30, 2007. Additionally, if the Traditional ARM portion of the portfolio had been Fully Indexed, the weighted average coupon of that portion of the portfolio would have been 7.22%, also based upon the composition of the portfolio and the applicable indices at that time.

As of December 31, 2006, the ARM portfolio had a weighted average coupon of 5.48%. This consisted of a weighted average coupon of 5.34% on the Hybrid ARM Assets and a weighted average coupon of 7.13% on the Traditional ARM assets. If the portfolio had been Fully Indexed, the weighted average coupon of the portfolio would have been 5.47%, based upon the composition of the portfolio and the applicable indices at December 31, 2006. Additionally, if the Traditional ARM portion of the portfolio had been Fully Indexed, the weighted average coupon of that portion of the portfolio would have been 7.06%, also based upon the composition of the portfolio and the applicable indices at that time.

At June 30, 2007, the current yield of the ARM Assets portfolio was 5.61% up from 5.29% as of December 31, 2006. The increase in the yield of 32 BPs as of June 30, 2007, compared to December 31, 2006, is primarily due to a 20 BP increase as a result of lower net premium amortization due to lower prepayments and a 12 BP increase in the weighted average coupon as a result of new asset purchases at higher weighted average coupons.

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Interest Rate Risk Management

The Hybrid ARM portfolio comprised 86.3% of the total ARM portfolio, or $48.7 billion at June 30, 2007, compared to 87.0%, or $44.8 billion as of December 31, 2006. We attempt to mitigate our interest rate risk by funding our ARM portfolio with borrowings and Hedging Instruments with an Effective Duration approximately matching the Effective Duration on our ARM Assets. Some of our borrowings bear variable or short-term (one year or less) fixed interest rates because our Traditional ARM Assets have interest rates that adjust within one year. However, most of our Hybrid ARM Assets are financed with short-term borrowings that are hedged with Hybrid ARM Hedging Instruments that fix the interest rate on those borrowings such that the combined Net Effective Duration is less than one year. By maintaining a Net Effective Duration of less than one year, which is our maximum Effective Duration policy limit, the combined price change of our Hybrid ARM Assets, associated Hybrid ARM Hedging Instruments and other borrowings is expected to be a maximum of 1% for a 1% parallel shift in interest rates. An Effective Duration closer to zero indicates a lower expected volatility of earnings given future changes in interest rates. As of June 30, 2007, the Net Effective Duration applicable to our Hybrid ARM Assets was approximately 0.12 years while the Net Effective Duration applicable to the ARM portfolio was approximately 0.13 years.

As of June 30, 2007 and December 31, 2006, we were counterparty to Swap Agreements having an aggregate notional balance of $44.3 billion and $34.8 billion, respectively. As of June 30, 2007, our Swap Agreements had a weighted average maturity of 3.9 years. In accordance with the Swap Agreements, we will pay a fixed rate of interest during the term of these Swap Agreements and receive a payment that varies monthly with the one-month LIBOR rate. The combined weighted average fixed rate payable of the Swap Agreements was 4.84% and 4.51% at June 30, 2007 and December 31, 2006, respectively. In addition, as of June 30, 2007, we had entered into delayed Swap Agreements with notional balances totaling $4.7 billion that will become effective between July 2007 and June 2009. We entered into these delayed Swap Agreements to hedge the financing of existing ARM Assets and the forecasted financing of our ARM Assets purchase commitments at June 30, 2007, and to replace Swap Agreements as they mature. The combined weighted average fixed rate payable of the delayed Swap Agreements was 5.28% at June 30, 2007. The net unrealized gain on Swap Agreements at June 30, 2007 of $360.1 million, which was recorded in OCI, included Swap Agreements with gross unrealized gains of $381.0 million and gross unrealized losses of $20.9 million and is included in Hedging Instruments on the Consolidated Balance Sheets. As of December 31, 2006, the net unrealized gain on Swap Agreements of $197.5 million included Swap Agreements with gross unrealized gains of $284.9 million and gross unrealized losses of $87.4 million. In the twelve month period following June 30, 2007, $162.9 million of these net unrealized gains are expected to be realized as a component of net interest income.

As of June 30, 2007 and December, 31, 2006, our Cap Agreements, used to manage our interest rate risk exposure on the financing of the Hybrid ARM Assets, had remaining net notional amounts of $708.7 million and $934.2 million, respectively. We have also entered into Cap Agreements that have start dates ranging from 2008 to 2010. The notional balance at the start date will be the lesser of the scheduled amount of $197.5 million or the balance of Hybrid ARM loans associated with these Cap Agreements. The fair value of all of our Cap Agreements at June 30, 2007 and December, 31, 2006 was $8.2 million and $12.3 million, respectively, and is included in Hedging Instruments on the Consolidated Balance Sheets. The net unrealized losses on Cap Agreements of $4.9 million and $6.5 million as of June 30, 2007 and December 31, 2006, respectively, are included in OCI. In the twelve month period following June 30, 2007, a $1.7 million loss is expected to be realized as a component of net interest income. Pursuant to the terms of these Cap Agreements, the notional amount of the Cap Agreements declines such that it is expected to equal the balance of the Hybrid ARM loans collateralizing our Collateralized Mortgage Debt hedged with these Cap Agreements. Under these Cap Agreements, we will receive cash payments should the one-month LIBOR increase above the contract rates of these Hedging Instruments, which range from 3.61% to 9.67% and average 5.91%. The Cap Agreements had an average maturity of 3.6 years as of June 30, 2007 and will expire between 2008 and 2013.

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The following table presents the outstanding notional balance of our Hybrid ARM Hedging Instruments as of June 30, 2007 and the balance of these same Hybrid ARM Hedging Instruments as of June 30 for each of the following five years (assuming that no additional Hybrid ARM Hedging Instruments are added to the portfolio in the future periods) (in thousands):

	As of June 30,
	2007		2008		2009		2010		2011		2012
Swap Agreements:
Balance-guaranteed (1) (3)	$	1,070,899	$	508,095	$	291,940	$	125,156	$	70,904	$	40,946
Other (2)		43,246,360		34,873,336		19,740,258		10,363,999		5,650,151		2,389,286
		44,317,259		35,381,431		20,032,198		10,489,155		5,721,055		2,430,232
Cap Agreements (1) (3)		708,731		492,156		183,544		221,547		177,238		163,774
	$	45,025,990	$	35,873,587	$	20,215,742	$	10,710,702	$	5,898,293	$	2,594,006

(1) These Swap Agreements and Cap Agreements have been entered into in connection with our Collateralized Mortgage Debt transactions. The notional balances of these agreements are guaranteed to match the balance of the Hybrid ARM collateral in the respective Collateralized Mortgage Debt transactions, subject to a maximum notional balance over the term of those agreements. The notional balances presented in the table above for these balance-guaranteed agreements represent forward-looking statements which are calculated based on a CPR assumption of 20%. The actual balances will likely be different based on the actual prepayment performance of the applicable Hybrid ARM collateral. The final maturity of these agreements is 2017.

(2) These Hedging Instruments have a pre-determined schedule of notional balances over the term of the respective instruments, based on the expected decline in the balance of our short-term borrowings used to finance our Hybrid ARM portfolio. The final maturity of these agreements is 2017.

(3) The following table presents the maximum outstanding notional balance of our balance-guaranteed Hybrid ARM Hedging Instruments as of June 30, 2007 and as of June 30 for each of the following five years (in thousands):

	As of June 30,
	2007		2008		2009		2010		2011		2012
Swap Agreements	$	1,070,899	$	499,696	$	294,933	$	129,072	$	75,616	$	44,755
Cap Agreements		708,731		499,415		337,864		244,389		243,137		197,250
	$	1,779,630	$	999,111	$	632,797	$	373,461	$	318,753	$	242,005

The fair value of the Pipeline Hedging Instruments at June 30, 2007 and December 31, 2006 was a net unrealized loss of $4.4 million and $849,000, respectively, and is included in Hedging Instruments on the Consolidated Balance Sheets. Pipeline Hedging Instruments had remaining notional balances of $401.0 million and $349.0 million at June 30, 2007 and December 31, 2006, respectively. We recorded a net gain of $8.3 million on Derivatives during the six months ended June 30, 2007. This gain consisted of a net gain of $7.0 million on Pipeline Hedging Instruments, a net gain of $959,000 on other Derivative transactions and net gain of $329,000 on commitments to purchase loans from correspondent lenders and bulk sellers. We recorded a net gain of $15.6 million on Derivatives during the same period in 2006. This gain consisted of a net gain of $16.0 million on Pipeline Hedging Instruments and a net gain of $1.2 million on other Derivative transactions partially offset by a net loss of $1.6 million on commitments to purchase loans from correspondent lenders and bulk sellers. The net gain on Derivatives is driven by several factors including: the size of the loan pipeline, the expected and actual fallout rates, changes in interest rates, changes in the shape of the yield curve, changes in mortgage spreads, and our pipeline hedging long or short bias. These factors work together or in opposition to increase or decrease the net gain or loss on Derivatives in a particular reporting period.

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Asset Acquisitions

During the quarter ended June 30, 2007, we purchased $4.4 billion of Purchased ARM Assets, 100% of which were High Quality assets, and we purchased or originated $1.7 billion of ARM Loans, generally originated to “A quality” underwriting standards. Of the ARM Assets acquired and originated during the second quarter of 2007, 100% were Hybrid ARM Assets. The following table compares our ARM asset acquisition and origination activity for the three- and six-month periods ended June 30, 2007 and 2006 (in thousands):

	For the three months ended
	June 30, 2007				June 30, 2006
ARM securities:
Agency Securities	$	—	0.0	%	$	231,197	4.0	%
High Quality, privately issued		4,414,414	71.8			2,844,702	48.6
Other privately issued		—	0.0			88,290	1.5
		4,414,414	71.8			3,164,189	54.1
ARM Loans:
Bulk acquisitions		—	0.0			1,250,075	21.4
Correspondent originations		1,336,103	21.7			1,386,808	23.7
Wholesale origination		377,264	6.1			3,770	0.7
Direct retail originations		26,360	0.4			41,603	0.1
		1,739,727	28.2			2,682,256	45.9
Total acquisitions	$	6,154,141	100.0	%	$	5,846,445	100.0	%
	For the six months ended
	June 30, 2007				June 30, 2006
ARM securities:
Agency Securities	$	2,403,039	19.8	%	$	231,197	2.0	%
High Quality, privately issued		5,830,112	49.7			5,601,188	48.8
Other privately issued		—	0.0			161,094	1.4
		8,233,151	69.5			5,993,479	52.2
ARM Loans:
Bulk acquisitions		107,307	0.9			2,611,581	22.8
Correspondent originations		2,803,964	23.9			2,763,361	24.1
Wholesale origination		606,124	5.2			106,793	0.9
Direct retail originations		54,648	0.5			3,770	0.0
		3,572,043	30.5			5,485,505	47.8
Total acquisitions	$	11,805,194	100.0	%	$	11,478,984	100.0	%

As of June 30, 2007, we had commitments to purchase $831.5 million of ARM Loans. At June 30, 2007, we used a 29.2% fallout assumption in the determination of our ARM loan commitments based on our historical experience with the conversion of loan commitments to funded loans.

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Securitization Activity

During the quarter ended June 30, 2007, we securitized $1.3 billion of our ARM Loans into one Collateralized Mortgage Debt securitization. While TMHL transferred all of the ARM Loans to a separate bankruptcy-remote legal entity, on a consolidated basis we did not account for this securitization as a sale and, therefore, did not record any gain or loss in connection with the securitization. We retained $46.6 million of the resulting securities for our ARM Loan portfolio and financed $1.3 billion with third-party investors, thereby providing long-term collateralized financing for these assets. As of June 30, 2007 and December 31, 2006, we held $19.7 billion and $19.1 billion, respectively, of ARM Loans Collateralizing Debt. As of June 30, 2007 and December 31, 2006, we held $2.6 billion and $2.8 billion, respectively, of Securitized ARM Loans as a result of our securitization efforts. All discussions relating to securitizations in these financial statements and notes are on a consolidated basis and do not reflect the separate legal ownership of the loans by various bankruptcy-remote legal entities.

Prepayment Experience

For the quarter ended June 30, 2007, our mortgage assets paid down at an approximate average CPR of 17%, compared to 15% for the quarter ended March 31, 2007 and 15% for the quarter ended June 30, 2006. When prepayment expectations over the remaining life of the assets increase, we have to amortize our premiums over a shorter time period, resulting in a reduced yield to maturity on our ARM Assets. Conversely, if prepayment expectations decrease, we would amortize the premium over a longer time period, resulting in a higher yield to maturity. We monitor our prepayment experience and future expectations on a periodic basis and adjust the amortization of the net premium, as appropriate.

Liquidity and Capital Resources

We manage liquidity to ensure that we have the continuing ability to maintain cash flows that are adequate to fund operations and meet commitments on a timely and cost-effective basis. At June 30, 2007, we had unencumbered assets of $1.6 billion, consisting of unpledged ARM Assets, cash and cash equivalents, and other assets. We had unencumbered assets of $1.2 billion at December 31, 2006. At June 30, 2007, we believed that our liquidity level was in excess of that necessary to satisfy our operating requirements and we expect to continue to use diverse funding sources to maintain our financial flexibility.

Sources of Funds

Our primary sources of funds for the quarter ended June 30, 2007 consisted of Reverse Repurchase Agreements, Asset-backed CP, Collateralized Mortgage Debt and whole loan financing facilities, as well as new equity proceeds and principal and interest payments from ARM Assets. At June 30, 2007, the Reverse Repurchase Agreement market was approximately a $4 trillion market, the Asset-backed CP market was approximately an $830 billion market and the AAA-rated mortgage- and asset- backed securities market was approximately a $10 trillion market, all of which were readily available sources of financing for mortgage assets, particularly those rated AA or better. Using Collateralized Mortgage Debt as financing effectively eliminates rollover and margin call risk for the related portion of our balance sheet. To supplement our funding sources, we also issue equity securities and unsecured long-term debt.

We have arrangements to enter into Reverse Repurchase Agreements with 21 different financial institutions and had borrowed funds from all of these firms as of June 30, 2007. At June 30, 2007, we had $24.7 billion of Reverse Repurchase Agreements outstanding with a weighted average effective borrowing rate of 5.26% and a weighted average remaining term to maturity of 15.5 months.

We also have a $10 billion Asset-backed CP facility, which provides an alternative way to finance a portion of our ARM portfolio. We issue Asset-backed CP to investors in the form of secured liquidity notes that are recorded as borrowings on our Consolidated Balance Sheets and are rated P-1 by Moody’s Investors Service, F1+ by Fitch Ratings and A-1+ by Standard and Poor’s. As of June 30, 2007, we had $8.2 billion of Asset-backed CP outstanding with a weighted average interest rate of 5.33% and a weighted average remaining maturity of 36 days.

Because we borrow money under reverse repurchase and Asset-backed CP agreements based on the fair value of our ARM Assets, and because changes in interest rates can negatively impact the valuation of ARM Assets, our borrowing ability under these agreements may be limited and lenders may initiate margin calls in the event interest rates change or the value of our ARM Assets declines for other reasons. External disruptions to credit markets might also impair access to additional liquidity and, therefore, we might be required to sell certain mortgage assets in order to maintain liquidity. If required, such sales might be at prices lower than the carrying value of the assets, which would result in losses. Our Hedging Instruments help offset this risk and through June 30, 2007, we have not had to sell assets to maintain liquidity.

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All of our Collateralized Mortgage Debt is secured by ARM Loans. For financial reporting purposes, the ARM Loans Collateralizing Debt are recorded as our assets and the Collateralized Mortgage Debt is recorded as our debt. In some transactions, Hedging Instruments are held by the trusts and are recorded as our assets or liabilities. The Hedging Instruments either fix the interest rates of the pass-through certificates or cap the interest rate exposure on these transactions. The effective interest rate of the Collaterized Mortgage Debt including the impact of issuance costs and Hedging Instruments was 5.54% at June 30, 2007.

As of June 30, 2007, the Collateralized Mortgage Debt was collateralized by ARM Loans with a principal balance of $19.6 billion. The debt matures between 2033 and 2047 and is callable at par once the total balance of the loans collateralizing the debt is reduced to 20% of their original balance. The balance of this debt is reduced as the underlying loan collateral is paid down and is expected to have an average life of approximately 3.5 years.

As of June 30, 2007, we had entered into three committed whole loan financing facilities with a total borrowing capacity of $900.0 million that expire between August 2007 and April 2008. In addition to our committed borrowing capacity, we have an uncommitted borrowing capacity of $1.4 billion. The interest rates on these facilities are indexed to one-month LIBOR and reprice accordingly. We expect to renew these facilities when they expire or replace them with new facilities with similar terms. As of June 30, 2007, we had $1.7 billion borrowed against these whole loan financing facilities at an effective cost of 5.88%.

Capital Utilization and Leverage

The Board of Directors has approved a policy that limits our capacity to borrow funds to finance ARM Assets based on our long-term capital. We monitor the relationship between our ARM Assets, borrowings and long-term capital using a variety of different measures. However, the primary operating policy that limits our borrowings and leverage is a requirement to maintain our Adjusted Equity-to-Assets Ratio, a non-GAAP measurement, at a minimum of 8%. Broadly speaking, this ratio reflects the relationship between those ARM Assets financed with borrowings that are subject to margin calls and our long-term capital position. See the table below for the calculation of this ratio.

Recourse or marginable debt generally consists of Reverse Repurchase Agreements, Asset-backed CP and whole loan financing facilities. These borrowings are based on the current market value of our ARM Assets, are short-term in nature, mature on a frequent basis (weighted average maturity of 1 year as of June 30, 2007), need to be rolled over at each maturity date and are subject to margin calls based on collateral value changes or changes in margin requirements. For these reasons, our policy requires that we maintain significant excess capital and liquidity above the initial margin requirement to meet future margin calls as a result of unexpected changes in margin requirements and collateral value. Our initial margin requirements typically average between 4% and 5% for these borrowings, so our policy requires that we maintain an Adjusted Equity-to-Assets Ratio of at least 8% against the financing of these ARM Assets. The 8% minimum policy requirement provides a capital cushion that we feel confident will be sufficient to allow us to fund future margin requirements that might result from changes in the value of our assets or Hedging Instruments or changes in margin requirements. Historically, this capital cushion has proved to be more than adequate to support our borrowing arrangements through a variety of interest rate and credit cycles.

We use the Adjusted Equity-to-Assets Ratio as a way to ensure that we always have an adequate capital cushion relative to those recourse borrowings subject to margin call. If we did not maintain a sufficient capital cushion to meet initial and ongoing margin requirements, we could be forced to liquidate ARM Assets, potentially at a loss, at a time when our ARM Assets had declined in value or when margin requirements had changed. The potential limitation that may result from the use of the non-GAAP measurement is that, in an economic environment where the market value of the investment portfolio is increasing, the amount of capital that we can invest will be less than the amount then available for investment under a comparable GAAP measurement. Although we acknowledge this limitation, we believe that it is not prudent to factor these market gains into the calculation of leveragable capital because the gains may be short-term in nature. The potential volatility in market prices could result in subsequent reversal of the gains that would require subsequent disposition of ARM Assets in unfavorable market conditions.

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As we increase our use of Collateralized Mortgage Debt, the risk of margin calls, changes in margin requirements and potential refinancing risk is reduced because Collateralized Mortgage Debt represents long-term non-recourse financing whose terms are established at the time of the financing and are not subject to change. As a result, the need to maintain a capital cushion comparable to what we maintain on our recourse borrowings is eliminated. For purposes of maintaining an adequate capital cushion, our policy allows us to eliminate all assets (and the associated long-term equity capital) associated with Collateralized Mortgage Debt from our operating capital ratio. Because Collateralized Mortgage Debt only requires approximately 2% of equity capital to support the transactions, versus our customary 8% minimum capital requirement on our recourse borrowings, we are able to use this freed-up capital to acquire additional ARM Assets. We expect that we will be able to retain and carry an increased amount of assets in the future as a percentage of our equity capital base. Additionally, we eliminate from our Adjusted Equity-to-Assets Ratio any unrealized market value adjustments, recorded as OCI, from our equity accounts and we include our Senior Notes and Subordinated Notes as forms of long-term capital as if the notes were equity capital.

The following table presents the calculation of our Adjusted Equity-to-Assets ratio, a non-GAAP measurement (dollar amount in thousands):

	June 30, 2007			December 31, 2006
Assets	$	57,507,370		$	52,705,052
Adjustments:
Net unrealized loss on Purchased ARM Assets		703,432			464,109
Net unrealized gain on Hedging Instruments		(362,197	)		(258,044	)
ARM Loans Collateralizing Debt		(19,676,428	)		(19,072,563	)
Cap Agreements		(101,796	)		(112,468	)
Adjusted assets	$	38,070,381		$	33,726,086
Shareholders’ equity	$	2,705,737		$	2,377,072
Adjustments:
Accumulated other comprehensive loss		388,328			312,048
Equity supporting Collateralized Mortgage Debt:
Collateralized Mortgage Debt		19,255,819			18,704,460
ARM Loans Collateralizing Debt		(19,676,428	)		(19,072,563	)
Cap Agreements		(101,796	)		(112,468	)
		(522,405	)		(480,571	)
Senior Notes		305,000			305,000
Subordinated Notes		240,000			240,000
Adjusted shareholders’ equity	$	3,116,660		$	2,753,549
Adjusted Equity-to-Assets Ratio		8.19	%		8.16	%
GAAP equity-to-assets ratio		4.71	%		4.51	%
Ratio of historical equity-to-historical assets		5.60	%		5.07	%
Ratio of long-term equity-to-historical assets		6.29	%		6.11	%
Total risk-based capital /risk-weighted assets		18.73	%		18.09	%

The above table also presents four alternative capital utilization measurements to our Adjusted Equity-to-Assets ratio. The first alternative capital utilization measurement is the GAAP equity-to-assets ratio, a calculation that simply divides total GAAP equity by total assets. While the simplest of all equity-to-assets calculations, it is not used by management to manage our balance sheet because it includes factors such as unrealized gains and losses on assets and Hedging Instruments deemed to be less important to the long-term operating nature of our business since our assets are not held for sale and since the unrealized gains and losses are not permanent impairments of our equity or of these assets and Hedging Instruments. If we did use the GAAP measurement as a basis for our leverage limitation and if our Board of Directors-approved policy limited our GAAP equity-to-assets to a minimum of 8%, our total assets would have been reduced to $33.8 billion instead of the $57.5 billion of assets owned as of June 30, 2007. In part, we are able to carry those additional assets by financing a portion of our ARM Assets with Collateralized Mortgage Debt financings, which have an initial fixed capital requirement of approximately 2% of the assets financed in this way. The GAAP measurement ignores changes in the level of equity required to support various forms of financing as the mix of our financing of ARM Assets changes between financing subject to margin requirements and Collateralized Mortgage Debt financings which are not subject to margin requirements. This is another reason why we do not use the GAAP measurement to make leverage or capital utilization decisions.

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The second alternative capital utilization measurement is the ratio of historical equity to historical assets. This is a non-GAAP measurement that eliminates the market value adjustment of our assets and Hedging Instruments included in OCI. This measurement is calculated by dividing the sum of the assets, net unrealized gain (loss) on Purchased ARM Assets and net unrealized gain (loss) on Hedging Instruments in the table above by the sum of shareholders’ equity and OCI. Our historical equity-to-assets ratio is higher than the regulatory “well-capitalized” threshold of 5% required of banks and savings and loan institutions for the Tier I Core Capital Ratio.

The third alternative capital utilization measurement is the ratio of long-term equity to historical assets. This is a non-GAAP measurement that eliminates the market value adjustment of our assets and Hedging Instruments included in OCI. This calculation also includes Senior Notes and Subordinated Notes as a component of our long-term capital base. This measurement is calculated by dividing the sum of the assets, net unrealized gain (loss) on Purchased ARM Assets and net unrealized gain (loss) on Hedging Instruments in the table above by long-term capital. We monitor these ratios in order to have a complete picture of the relationship between our total assets and long-term equity position.

The fourth alternative capital utilization measurement is a calculation of our total risk-based capital ratio, a regulatory calculation required to be made by banks and savings and loan institutions that comply with Federal Reserve Board capital requirements. The ratio results from dividing the sum of our historical and supplementary capital by total risk-weighted assets as presented in the Thrift Financial Report instructions. Risk-based capital measures capital requirements for assets based on their credit exposure as defined by the regulation, with lower credit risk assets requiring less capital and higher credit risk assets requiring more capital. Although we are not subject to these regulatory requirements, we focus our efforts on only high quality assets. Therefore, our risk-based capital ratio tends to be quite high when compared to banking institutions, and well in excess of the regulatory minimum of 10% required for banks and savings and loan institutions to qualify as “well-capitalized.”

Equity Transactions

In May 2007, we completed a public offering of 4,500,000 shares of Common Stock and received net proceeds of $116.4 million.

In June 2007, we completed a public offering of 2,956,250 shares of Series E Preferred Stock at $25.00 per share and received net proceeds of $71.2 million. The quarterly dividend is equal to the sum of $0.46875 (which is equal to an annual base dividend rate of 7.50%), plus the product of the excess, if any, over $0.68 of the quarterly cash dividend paid on each share of Common Stock and the conversion rate then in effect. Shares of the Series E Preferred Stock are convertible at the option of the holder at any time into a number of shares of Common Stock determined by multiplying the number of shares of Series E Preferred Stock by the conversion rate then in effect. The initial conversion price is $32.37 per Common Share. On or after June 19, 2012, we may require holders to convert the Series E Preferred Stock into Common Stock at the conversion rate then in effect, but only if the Common Stock price equals or exceeds 130% of the then prevailing conversion price of the Series E Preferred Stock for a certain period of time. The Series E Preferred Stock is redeemable, in whole or in part, beginning on June 19, 2012 at a price of $25.00 per share, plus accumulated unpaid dividends, if any. The Series E Preferred Stock may also be redeemed under limited circumstances prior to June 19, 2012. We are not required to redeem the shares and the Series E Preferred Stock has no stated maturity date.

During the three-month period ended June 30, 2007, we issued 547,500 shares of Common Stock through at-market transactions under a controlled equity offering program and received net proceeds of $14.6 million. During the same period in 2007, we issued 454,600 shares of Series C Preferred Stock and received net proceeds of $11.1 million.

During the three-month period ended June 30, 2007, we issued 2,185,980 shares of Common Stock under the DRSPP and received net proceeds of $58.0 million.

Off-Balance Sheet Commitments

As of June 30, 2007, we had commitments to purchase or originate the following amounts of ARM Assets, net of an estimated fallout of 29.2% (in thousands):

ARM loans – correspondent originations	$	654,337
ARM loans – wholesale originations		134,496
ARM loans – direct originations		42,641
	$	831,474

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Contractual Obligations

As of June 30, 2007, we had the following contractual obligations (in thousands):

	Payments Due by Period
	Total		Less than 1 year		1 – 3 years		3 – 5 years		More than 5 years
Reverse Repurchase Agreements	$	24,728,685	$	19,100,051	$	—	$	4,663,634	$	965,000
Asset-backed CP		8,201,965		8,201,965		—		—		—
Collateralized Mortgage Debt (1)		19,255,819		29,951		74,830		110,805		19,040,233
Whole loan financing facilities		1,700,567		1,700,567		—		—		—
Senior Notes		305,000		—		—		—		305,000
Subordinated Notes		240,000		—		—		—		240,000
Total (2)	$	54,432,036	$	29,032,534	$	74,830	$	4,774,439	$	20,550,233

(1) Maturities of our Collateralized Mortgage Debt are dependent upon cash flows received from the underlying loans receivable. Our estimate of their repayment is based on scheduled principal payments on the underlying loans receivable. This estimate will differ from actual amounts to the extent we experience prepayments and/or loan losses.

(2) Our Consolidated Balance Sheets include a liability for Hedging Instruments with negative market values, which are not reflected in this table.

Results of Operations for the Three Months Ended June 30, 2007

For the quarter ended June 30, 2007, our net income was $83.4 million, or $0.66 Basic EPS and Diluted EPS, based on weighted average basic and diluted shares of Common Stock outstanding of 119,007,000 and 119,292,000, respectively. That compares to $69.7 million, or $0.61 Basic EPS and Diluted EPS for the quarter ended June 30, 2006, based on weighted average shares of Common Stock outstanding of 110,992,000, an 8.2% increase in our EPS.

The table below highlights the historical trend in the components of return on average common equity (annualized) during each respective quarter:

Components of Return on Average Common Equity

For the Quarter Ended	Net Interest Income/ Equity		G & A Expense, net (1) / Equity		Mgmt Fee/ Equity		Performance Fee/ Equity		Other (2)/ Equity		Preferred Dividend/ Equity		Net Income/ Equity (ROE)
Jun 30, 2005	16.53	%	1.04	%	1.03	%	2.00	%	(1.54	)%	0.29	%	13.71	%
Sep 30, 2005	17.85	%	0.33	%	1.09	%	2.00	%	0.09	%	0.44	%	13.90	%
Dec 31, 2005	17.59	%	1.05	%	1.13	%	1.74	%	(0.83	)%	0.46	%	14.04	%
Mar 31, 2006	16.29	%	1.31	%	1.07	%	1.67	%	(1.06	)%	0.43	%	12.88	%
Jun 30, 2006	13.86	%	1.03	%	1.04	%	1.24	%	(1.48	)%	0.42	%	11.61	%
Sep 30, 2006	15.08	%	0.34	%	1.11	%	1.50	%	(0.91	)%	0.43	%	12.61	%
Dec 31, 2006	16.63	%	1.02	%	1.18	%	1.81	%	(2.10	)%	0.64	%	14.08	%
Mar 31, 2007	16.98	%	1.59	%	1.24	%	1.55	%	(1.45	)%	0.91	%	13.14	%
Jun 30, 2007	18.19	%	0.52	%	1.24	%	1.68	%	(0.09	)%	0.95	%	13.89	%

(1) G & A expense excludes management and performance fees and is net of servicing income.

(2) Other includes gain on ARM assets and Hedging Instruments, hedging expense and provision for credit losses.

Our ROE increased in the second quarter of 2007 compared to the same period in 2006 primarily as a result of growing our balance sheet and better utilizing our existing capital base, as well as by the decrease in premium amortization as rising interest rates on our ARM Assets during the quarter resulted in a reduced forecast for prepayments which increased the expected yield on our portfolio. This ROE increase was partially offset by increased competition for mortgage assets and the lag in reset dates on our Traditional ARM portfolio compared to the associated financing cost.

49

The following table presents the components of our net interest income for the quarters ended June 30, 2007 and 2006:

Comparative Net Interest Income Components

(in thousands)

	For the quarters ended June 30,
	2007			2006
Coupon interest income on ARM assets	$	747,288		$	600,624
Accretion (amortization) of net premium		7,273			(22,199	)
Cash and cash equivalents		2,955			1,117
Interest income		757,516			579,542
Reverse Repurchase Agreements and Asset-backed CP		412,388			384,500
Collateralized Mortgage Debt		277,277			164,254
Whole loan financing facilities		20,561			18,118
Senior Notes		6,194			6,133
Subordinated Notes		4,542			4,540
Hedging Instruments		(65,709	)		(78,243	)
Interest expense		655,253			499,302
Net interest income	$	102,263		$	80,240

50

The following table presents the average balances for each category of our interest-earning assets as well as our interest-bearing liabilities, with the corresponding annualized effective rate of interest and the related interest income or expense:

Average Balance, Rate and Interest Income/Expense Table

(dollar amounts in thousands)

	For the quarters ended June 30,
	2007							2006
	Average Balance		Effective Rate		Interest Income and Expense			Average Balance		Effective Rate		Interest Income and Expense
Interest-Earning Assets:
ARM Assets (1)	$	54,139,626	5.57	%	$	754,561		$	46,071,011	5.02	%	$	578,425
Cash and cash equivalents		219,180	5.39			2,955			112,040	3.99			1,117
		54,358,806	5.57			757,516			46,183,051	5.02			579,542
Interest-Bearing Liabilities:
Reverse Repurchase Agreements and Asset-backed CP		30,931,136	5.33			412,388			30,359,758	5.07			384,500
Plus: Cost of Hedging Instruments (2)			(0.69	)		(53,489	)			(0.90	)		(68,416	)
Hedged Reverse Repurchase Agreements and Asset-backed CP			4.64			358,899				4.17			316,084
Collaterized Mortgage Debt		19,622,314	5.65			277,277			12,412,183	5.29			164,254
Plus: Cost of Hedging Instruments (2)			(0.25	)		(12,220	)			(0.32	)		(9,827	)
Hedged Collaterized Mortgage Debt			5.40			265,057				4.97			154,427
Whole loan financing facilities		1,338,006	6.15			20,561			1,253,858	5.78			18,118
Senior and Subordinated Notes		545,000	7.88			10,736			545,000	7.83			10,673
		52,436,456	5.00			655,253			44,570,799	4.48			499,302
Net interest-earning assets and spread	$	1,922,350	0.57	%	$	102,263		$	1,612,252	0.54	%	$	80,240
Portfolio Margin (3)			0.75	%						0.69	%

(1) Effective rate includes impact of amortizing ARM Assets net premium.

(2) Includes Swap Agreements with notional balances of $44.3 billion and $34.2 billion as of June 30, 2007 and 2006, respectively, and Cap Agreements with net notional balances of $708.7 million and $850.3 million as of June 30, 2007 and 2006, respectively.

(3) Portfolio Margin is computed by dividing annualized net interest income by the average daily balance of interest earning assets.

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The following table presents the total amount of change in interest income/expense from the table above and presents the amount of change due to changes in interest rates versus the amount of change due to changes in volume (in thousands):

	Rate/Volume Variance
	Three Months ended June 30, 2007 versus 2006
	Rate		Volume		Total
Interest Income:
ARM assets	$	63,681	$	112,455	$	176,136
Cash and cash equivalents		394		1,444		1,838
		64,075		113,899		177,974
Interest Expense:
Reverse Repurchase Agreements and Asset-backed CP		36,185		6,630		42,815
Collaterized Mortgage Debt		13,236		97,394		110,630
Whole loan financing facilities		1,150		1,293		2,443
Senior and Subordinated Notes		63		—		63
		50,634		105,317		155,951
Net interest income	$	13,441	$	8,582	$	22,023

Net interest income increased by $22.0 million in the second quarter of 2007, over the same quarter of the prior year. This increase in net interest income is composed of a favorable rate variance and a favorable volume variance. The increased average size of our portfolio during the second quarter of 2007 compared to the same period of 2006 increased net interest income in the amount of $8.6 million. The average balance of our interest-earning assets was $54.4 billion during the quarter ended June 30, 2007, compared to $46.2 billion during the same period of 2006 — an increase of 17.7%. As a result of the yield on our interest-earning assets increasing to 5.57% during the second quarter of 2007 from 5.02% during the same quarter of 2006, an increase of 55 BPs, and our cost of funds increasing to 5.00% from 4.48% during the same period, an increase of 52 BPs, there was a net favorable rate variance of $13.4 million.

The following table highlights the components of net interest spread and the annualized yield on net interest-earning assets as of each applicable quarter:

Components of Net Interest Spread and Yield on Net Interest-Earning Assets (1)

(dollar amounts in millions)

For the Quarter Ended	Average Interest- Earning Assets		Historical Weighted Average Coupon		Yield Adjust- ment (2)		Yield on Interest Earning Assets		Cost of Funds		Net Interest Spread		Portfolio Margin
Jun 30, 2005	$	30,854	4.65	%	0.36	%	4.29	%	3.44	%	0.85	%	1.05	%
Sep 30, 2005	$	35,858	4.83	%	0.37	%	4.46	%	3.63	%	0.83	%	1.03	%
Dec 31, 2005	$	40,501	4.98	%	0.32	%	4.66	%	3.96	%	0.70	%	0.87	%
Mar 31, 2006	$	42,808	5.10	%	0.21	%	4.89	%	4.22	%	0.67	%	0.83	%
Jun 30, 2006	$	46,183	5.21	%	0.19	%	5.02	%	4.48	%	0.54	%	0.69	%
Sep 30, 2006	$	50,448	5.36	%	0.07	%	5.29	%	4.76	%	0.53	%	0.69	%
Dec 31, 2006	$	51,710	5.51	%	0.06	%	5.45	%	4.88	%	0.57	%	0.70	%
Mar 31, 2007	$	53,356	5.52	%	0.09	%	5.43	%	4.93	%	0.50	%	0.68	%
Jun 30, 2007	$	54,359	5.55	%	(0.02	)%	5.57	%	5.00	%	0.57	%	0.75	%

(1) Portfolio Margin is computed by dividing net interest income by the average daily balance of interest-earning assets during the quarter.

(2) Yield adjustments include the impact of amortizing premiums and discounts, the impact of principal payment receivables and the impact of interest-earning non-ARM assets.

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The following table presents these components of the yield adjustments for the dates presented in the table above.

Components of the Yield Adjustments on ARM Assets

For the Quarter Ended	Premium/ Discount Amortization		Impact of Principal Payments Receivable		Other (1)		Total Yield Adjustment
Jun 30, 2005	0.35	%	0.06	%	(0.05	)%	0.36	%
Sep 30, 2005	0.35	%	0.06	%	(0.04	)%	0.37	%
Dec 31, 2005	0.30	%	0.07	%	(0.05	)%	0.32	%
Mar 31, 2006	0.23	%	0.05	%	(0.07	)%	0.21	%
Jun 30, 2006	0.23	%	0.04	%	(0.08	)%	0.19	%
Sep 30, 2006	0.10	%	0.04	%	(0.07	)%	0.07	%
Dec 31, 2006	0.08	%	0.03	%	(0.05	)%	0.06	%
Mar 31, 2007	0.11	%	0.03	%	(0.05	)%	0.09	%
Jun 30, 2007	(0.01	)%	0.03	%	(0.04	)%	(0.02	)%

(1) Other includes the impact of interest-earning cash and cash equivalents, restricted cash and cash equivalents and mark-to-market adjustments.

As of June 30, 2007, our ARM Loans, including those that we have securitized, but with respect to which we have retained credit loss exposure, accounted for 43.7% of our portfolio of ARM Assets or $24.7 billion. During the second quarters of 2007 and 2006, we recorded loan loss provisions totaling $1.4 million and $505,000, respectively, to reserve for estimated credit losses on ARM Loans.

At June 30, 2007 and December 31, 2006, our Purchased Securitized Loans totaled $6.1 billion and $6.8 billion, respectively. These assets are Qualifying Interests for purposes of maintaining our exemption from the Investment Company Act because we retain a 100% ownership interest in the underlying loans. Because we purchase all classes of these securitizations, we have the credit exposure on the underlying loans. The purchase price of the classes that are less than Investment Grade generally includes a discount for probable credit losses and, based on management’s judgment, the portion of the purchase discount which reflects the estimated unrealized loss on the securities due to credit risk is treated as a non-accretable discount. As of June 30, 2007, 74 of the underlying loans in these Purchased Securitized Loans were 60 days or more delinquent and had an aggregate balance of $79.6 million. Activity in non-accretable discounts for the three month periods ended June 30, 2007 and 2006 is as follows (in thousands):

	2007		2006
Balance at beginning of period	$	15,078	$	15,251
Increase for securities purchased		—		—
Increase for expected future losses		—		—
Realized losses		—		—
Reclassifications to accretable discount		—		—
Balance at end of period	$	15,078	$	15,251

We recorded a net gain of $1.6 million on Derivatives during the second quarter of 2007, which consisted of a net gain of $7.8 million on Pipeline Hedging Instruments and a net gain of $139,000 on other Derivative transactions partially offset by a net loss of $6.3 million on commitments to purchase loans from correspondent lenders and bulk sellers. We recorded a net gain of $9.1 million on Derivatives during the same period in 2006. This gain consisted of a net gain of $7.7 million on Pipeline Hedging Instruments and a net gain of $1.4 million on commitments to purchase loans from correspondent lenders and bulk sellers.

We realized a gain of $308,000 on the sale of $309.9 million of Purchased ARM Assets during the second quarter of 2007. We realized a loss of $65,000 on ARM securities during the second quarter of 2006.

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The following table highlights the quarterly trend of operating expenses as a percent of average assets:

Annualized Operating Expense Ratios

For the Quarter Ended	Management Fee/ Average Assets		Performance Fee/ Average Assets		Other Expenses/ Average Assets		Total Operating Expenses/ Average Assets
Jun 30, 2005	0.06	%	0.13	%	0.10	%	0.29	%
Sep 30, 2005	0.06	%	0.11	%	0.05	%	0.22	%
Dec 31, 2005	0.06	%	0.09	%	0.08	%	0.23	%
Mar 31, 2006	0.05	%	0.08	%	0.11	%	0.24	%
Jun 30, 2006	0.05	%	0.06	%	0.08	%	0.19	%
Sep 30, 2006	0.05	%	0.07	%	0.05	%	0.17	%
Dec 31, 2006	0.05	%	0.07	%	0.08	%	0.20	%
Mar 31, 2007	0.05	%	0.06	%	0.09	%	0.20	%
Jun 30, 2007	0.05	%	0.07	%	0.07	%	0.19	%

The most significant increases to our operating expenses for the quarter ended June 30, 2007 compared to June 30, 2006 were the $2.3 million increase in performance-based compensation paid to the Manager and the $926,000 increase in base management fees paid to the Manager partially offset by the $1.2 million decrease in expenses related to the operations of TMHL and the $460,000 decrease in the expenses associated with our long-term incentive awards. Our ROE prior to the effect of the performance-based fee of $9.5 million for the second quarter of 2007 was 15.57%, whereas the threshold used to determine the amount of the performance-based fee, the average Ten Year U.S. Treasury Rate plus 1%, was 5.85%. This ROE is a non-GAAP measurement used solely to calculate the amount of the performance-based fee earned by the Manager, in accordance with the formula contained in the Management Agreement. Our GAAP ROE for the quarter ended June 30, 2007, which includes the effect of the performance-based fee of $9.5 million, was 13.89%.

Results of Operations for the Six Months Ended June 30, 2007

For the six months ended June 30, 2007, our net income was $158.4 million, or $1.27 Basic EPS and Diluted EPS, based on weighted average basic and diluted shares of Common Stock outstanding of 116,556,000 and 108,618,000. That compares to $142.1 million, or $1.26 Basic EPS and Diluted EPS for the six months ended June 30, 2006, based on weighted average shares of Common Stock outstanding of 108,618,000, a 1.0% increase in our EPS.

Our ROE was 13.52% for the six months ended June 30, 2007 compared to 12.40% for the same period in 2006. Our ROE increased in the first six months of 2007 compared to the same period in 2006 primarily as a result of growing our balance sheet and better utilizing our existing capital base, as well as the decrease in premium amortization as rising interest rates on our ARM Assets during the first six months of 2007 resulted in a reduced forecast for prepayments which increased the expected yield on our portfolio. This ROE increase was partially offset by increased competition for mortgage assets and the lag in reset dates on our Traditional ARM portfolio compared to the associated financing cost.

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The following table presents the components of our net interest income for the six months ended June 30, 2007 and 2006:

Comparative Net Interest Income Components

(in thousands)

	For the six months ended June 30,
	2007			2006
Coupon interest income on ARM assets	$	1,475,706		$	1,144,471
Amortization of net premium		(644	)		(42,889	)
Cash and cash equivalents		6,512			1,716
Interest income		1,481,574			1,103,298
Reverse Repurchase Agreements and Asset-backed CP		826,997			715,773
Collateralized Mortgage Debt		541,663			304,428
Whole loan financing facilities		40,519			29,170
Senior Notes		12,327			12,266
Subordinated Notes		9,082			8,098
Hedging Instruments		(141,957	)		(135,298	)
Interest expense		1,288,631			934,437
Net interest income	$	192,943		$	168,861

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The following table presents the average balances for each category of our interest-earning assets as well as our interest-bearing liabilities, with the corresponding annualized effective rate of interest and the related interest income or expense:

Average Balance, Rate and Interest Income/Expense Table

(dollar amounts in thousands)

	For the six months ended June 30,
	2007							2006
	Average Balance		Effective Rate		Interest Income and Expense			Average Balance		Effective Rate		Interest Income and Expense
Interest-Earning Assets:
ARM Assets (1)	$	53,595,856	5.50	%	$	1,475,062		$	44,425,511	4.96	%	$	1,101,582
Cash and cash equivalents		261,795	4.98			6,512			86,330	3.98			1,716
		53,857,651	5.50			1,481,574			44,511,841	4.96			1,103,298
Interest-Bearing Liabilities:
Reverse Repurchase Agreements and Asset-backed CP		30,840,106	5.36			826,997			29,453,982	4.86			715,773
Plus: Cost of Hedging Instruments (2)			(0.77	)		(118,664	)			(0.84	)		(124,227	)
Hedged Reverse Repurchase Agreements and Asset-backed CP			4.59			708,333				4.02			591,546
Collaterized Mortgage Debt		19,210,841	5.64			541,663			11,880,715	5.12			304,428
Plus: Cost of Hedging Instruments (2)			(0.24	)		(23,293	)			(0.19	)		(11,071	)
Hedged Collaterized Mortgage Debt			5.40			518,370				4.93			293,357
Whole loan financing facilities		1,341,163	6.04			40,519			1,031,087	5.66			29,170
Senior and Subordinated Notes		545,000	7.86			21,409			520,538	7.82			20,364
		51,937,110	4.96			1,288,631			42,886,322	4.36			934,437
Net interest-earning assets and spread	$	1,920,541	0.54	%	$	192,943		$	1,625,519	0.60	%	$	168,861
Portfolio Margin (3)			0.72	%						0.76	%

(1) Effective rate includes impact of amortizing ARM Assets net premium.

(2) Includes Swap Agreements with notional balances of $44.3 billion and $34.2 billion as of June 30, 2007 and 2006, respectively, and Cap Agreements with net notional balances of $708.7 million and $850.3 million as of June 30, 2007 and 2006, respectively.

(3) Portfolio Margin is computed by dividing annualized net interest income by the average daily balance of interest earning assets.

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The following table presents the total amount of change in interest income/expense from the table above and presents the amount of change due to changes in interest rates versus the amount of change due to changes in volume (in thousands):

	Rate/Volume Variance
	Six Months ended June 30, 2007 versus 2006
	Rate		Volume		Total
Interest Income:
ARM assets	$	121,094	$	252,386	$	373,480
Cash and cash equivalents		432		4,364		4,796
		121,526		256,750		378,276
Interest Expense:
Reverse Repurchase Agreements and Asset-backed CP		84,951		31,836		116,787
Collaterized Mortgage Debt		27,223		197,790		225,013
Whole loan financing facilities		1,981		9,368		11,349
Senior and Subordinated Notes		83		962		1,045
		114,238		239,956		354,194
Net interest income	$	7,288	$	16,794	$	24,082

Net interest income increased by $24.1 million in the six months ended June 30, 2007, over the same period of the prior year. This increase in net interest income is composed of a favorable rate variance and a favorable volume variance. The increased average size of our portfolio during the first six months of 2007 compared to the same period of 2006 increased net interest income in the amount of $16.8 million. The average balance of our interest-earning assets was $53.9 billion during the six months ended June 30, 2007, compared to $44.5 billion during the same period of 2006 — an increase of 21.1%. As a result of the yield on our interest-earning assets increasing to 5.50% during the first six months of 2007 from 4.96% during the same quarter of 2006, an increase of 54 BPs, and our cost of funds increasing to 4.96% from 4.36% during the same period, an increase of 60 BPs, there was a net favorable rate variance of $7.3 million.

For the six months ended June 30, 2007, our ratio of operating expenses to average assets was 0.19%, compared to 0.21% for the same period in 2006. The most significant increases to our operating expenses for the six months June 30, 2007 compared to June 30, 2006 were the $1.7 million increase in base management fees paid to the Manager and the $1.5 million increase in performance-based compensation paid to the Manager partially offset by the $471,000 decrease in expenses related to operations of TMHL and the $336,000 decrease in the expenses associated with our long-term incentive awards. Our ROE prior to the effect of the performance-based fee of $17.7 million for the first six months of 2007 was 15.14%, whereas the threshold used to determine the amount of the performance-based fee, the average Ten Year U.S. Treasury Rate plus 1%, was 5.76%. This ROE is a non-GAAP measurement used solely to calculate the amount of the performance-based fee earned by the Manager, in accordance with the formula contained in the Management Agreement. Our GAAP ROE for the six months ended June 30, 2007, which includes the effect of the performance-based fee of $17.7 million, was 13.52%.

Market Risks

The market risk management discussion and the amounts estimated from the analysis that follows are forward-looking statements that assume that certain market conditions will occur. Actual results may differ materially from these projected results due to changes in our ARM portfolio and borrowings mix and due to developments in the domestic and global financial and real estate markets. Developments in the financial markets include the likelihood of changes in interest rates and in the relationship of various interest rates and their impact on our ARM portfolio yield, cost of funds and cash flows.

As a financial institution that has only U.S.-dollar denominated assets, liabilities and Hedging Instruments, we are not subject to foreign currency exchange or commodity price risk. Our market risk exposure is largely due to interest rate risk. Interest rate risk is defined as the sensitivity of our current and future earnings to interest rate volatility, variability of spread relationships, the difference in repricing intervals between our assets and liabilities and the effect that interest rates may have on our cash flows, especially ARM portfolio prepayments. Interest rate risk impacts our interest income, interest expense and the market value on a large portion of our assets and liabilities. The management of interest rate risk attempts to maximize earnings and to preserve capital by minimizing the negative impacts of changing interest rates, asset and liability mix, and prepayment activity.

57

The table below presents an approximation of the sensitivity of the market value of our ARM portfolio, including purchase commitments, using a discounted cash flow simulation model. Application of this method results in an estimation of the percentage change in the market value of our assets, liabilities and Hedging Instruments per 100 and 200 BP shifts in interest rates expressed in years – a measure commonly referred to as Effective Duration. Positive portfolio Effective Duration indicates that the market value of the total portfolio will decline if interest rates rise and increase if interest rates decline. Negative portfolio Effective Duration indicates that the market value of the total portfolio will decline if interest rates decline and increase if interest rates rise. The closer Effective Duration is to zero, the less interest rate changes are expected to affect earnings. Included in the table is a base case Effective Duration calculation for an interest rate scenario that assumes future rates are those implied by the yield curve as of June 30, 2007. The other four scenarios assume interest rates are instantaneously 100 and 200 BPs lower and 100 and 200 BPs higher than those implied by interest rates as of June 30, 2007.

The use of Hybrid ARM Hedging Instruments is a critical part of our interest rate risk management strategies, and the effects of these Hybrid ARM Hedging Instruments on the market value of the portfolio are reflected in the model’s output. This analysis also takes into consideration the value of options embedded in our ARM Assets including constraints on the repricing of the interest rates of ARM Assets resulting from periodic and lifetime cap features, as well as prepayment options. Assets and liabilities that are not interest rate-sensitive, such as cash, payment receivables, prepaid expenses, payables and accrued expenses, are excluded. The Effective Duration calculated from this model is a key measure of the effectiveness of our interest rate risk management strategies.

Net Portfolio Effective Duration

June 30, 2007

	Base Case	Parallel -100 BPs	Parallel +100 BPs	Parallel -200 BPs	Parallel +200 BPs
Assets:
Traditional ARMs	0.39 Years	0.32 Years	0.50 Years	0.31 Years	0.65 Years
Hybrid ARMs	2.29	1.74	2.60	1.31	2.76
Total ARM Assets	2.04	1.55	2.33	1.18	2.49
Borrowings and hedges	(1.84)	(1.93)	(1.81)	(2.03)	(1.79)
Net Effective Duration	0.13 Years	(0.16) Years	0.29 Years	(0.40) Years	0.38 Years

Based on the assumptions used, the model output suggests a very low degree of portfolio price change given decreases and increases in interest rates, which implies that our cash flow and earning characteristics should be relatively stable for comparable changes in interest rates. As a comparison, the approximate base case Effective Duration of a ten year U.S. treasury, a conforming 30-year fixed mortgage and a conforming 5/1 Hybrid ARM are 7.7, 3.1 and 1.9 years respectively.

Changes in assumptions including, but not limited to, volatility, mortgage and financing spreads, prepayment behavior and defaults, changes in the shape of the yield curve, as well as the timing and level of interest rate changes, will affect the results of the model. Therefore, actual results are likely to vary from modeled results.

Although market value sensitivity analysis is widely accepted in identifying interest rate risk, it does not take into consideration changes that may occur such as, but not limited to, changes in investment and financing strategies, changes in market spreads, and changes in business volumes. Accordingly, we make extensive use of an earnings simulation model to further analyze our level of interest rate risk.

There are a number of key assumptions in our earnings simulation model. These key assumptions include changes in market conditions that affect interest rates, the shape of the yield curve, the pricing of ARM products, the availability of ARM products, and the availability and the cost of financing for ARM products. Other key assumptions made in using the simulation model include prepayment speeds and management’s investment, financing and hedging strategies, and the issuance of new equity. We typically run the simulation model under a variety of hypothetical business scenarios that may include different interest rate scenarios, different investment strategies, different prepayment possibilities and other scenarios that provide us with a range of possible earnings outcomes in order to assess potential interest rate risk. The assumptions used represent our estimate of the likely effect of changes in interest rates and do not necessarily reflect actual results. The earnings simulation model takes into account periodic and lifetime caps embedded in our ARM Assets in determining the earnings at risk.

58

Our earnings model base case at June 30, 2007 reflects the forward interest rate swap yield curve. Based on the earnings simulation model, our potential earnings increase (decrease) from our base case earnings forecast for a parallel 100 and 200 BP decline and 100 and 200 BP rise in market interest rates over the next twelve months and an adjustment in interest rate management strategies as interest rates change, was (4.1)%, (5.3)%, 4.9% and 7.4%, respectively, of projected net income for the twelve months ended June 30, 2008. The assumptions used in the earnings simulation model are inherently uncertain and, as a result, the analysis cannot precisely predict the impact of higher or lower interest rates on net income. Actual results could differ from simulated results due to timing, magnitude and frequency of interest rate changes, changes in prepayment speed and changes in other market conditions and management strategies, other than what was assumed in the model, to offset our potential exposure, among other factors. This measure of risk represents our exposure to higher or lower interest rates at a particular point in time. Our actual risk is always changing. We continuously monitor our risk profile and alter our strategies as appropriate based on our view of interest rates and other developments in our business.

Effects of Interest Rate Changes

Changes in interest rates impact our earnings in various ways. While we invest primarily in ARM Assets, rising short-term interest rates may temporarily negatively affect our earnings, and, conversely, falling short-term interest rates may temporarily increase our earnings. This impact can occur for several reasons and may be mitigated by portfolio prepayment activity and portfolio funding and hedging strategies. For example, our borrowings may react to changes in interest rates sooner than our ARM Assets because the weighted average next repricing date of our borrowings may be sooner than that of our ARM Assets. Additionally, interest rates on Traditional ARM Assets may be limited to an increase of either 1% or 2% per adjustment period (commonly referred to as the periodic cap), or indices may be based on weighted averages rather than current rates, while our borrowings do not have similar limitations. Our ARM Assets also typically lag changes in the applicable interest rate indices by 45 days, due to the notice period provided to ARM borrowers when the interest rates on their loans are scheduled to change.

Interest rates can also affect our net return on Hybrid ARM Assets (net of the cost of financing Hybrid ARM Assets). We estimate the Effective Duration of our Hybrid ARM Assets and have a policy to hedge the financing of the Hybrid ARM Assets such that the Net Effective Duration is less than one year. During a declining interest rate environment, the prepayment of Hybrid ARM Assets may accelerate causing the amount of fixed-rate financing to increase relative to the amount of Hybrid ARM Assets, possibly resulting in a decline in our net return on Hybrid ARM Assets as replacement Hybrid ARM Assets may have lower yields than the ones paying off. In contrast, during a rising interest rate environment, Hybrid ARM Assets may prepay slower than expected, requiring us to finance more Hybrid ARM Assets with more costly funds than was originally anticipated, resulting in a decline in our net return on Hybrid ARM Assets. In order to manage our exposure to changes in the prepayment speed of Hybrid ARM Assets, we regularly monitor the balance of Hybrid ARM Assets and make adjustments to the amounts anticipated to be outstanding in future periods and, on a regular basis, make adjustments to the amount of our fixed-rate borrowing obligations in future periods.

Interest rate changes can also affect the availability and pricing of ARM Assets, which affects our investment opportunities. During a rising interest rate environment, there may be less total loan origination and refinance activity, but a larger percentage of ARM products being originated, mitigating the impact of lower overall loan origination and refinance activity. Conversely, during a declining interest rate environment, consumers, in general, may favor fixed-rate mortgage products, but because there will likely be above average loan origination and refinancing volume in the industry, even a small percentage of ARM product volume may provide sufficient investment opportunities. Additionally, a flat or inverted yield curve may be an adverse environment for ARM products because there may be little incentive for a consumer to choose an ARM product over a 30 year fixed-rate mortgage loan. Conversely, in a steep yield curve environment, ARM products may enjoy an above average advantage over 30-year fixed-rate mortgage loans, increasing our investment opportunities. The volume of ARM Loans being originated industry-wide can also affect their investment yield. During periods when there is a shortage of ARM products, yields may decline due to market forces and conversely, when there is an above average supply of ARM products, yields may improve due to the same market forces.

The prepayment rate on our ARM Assets may increase if interest rates decline or if the difference between long-term and short-term interest rates diminishes. An increase in prepayments would cause us to amortize the premiums paid for our ARM Assets faster, resulting in a lower yield on our ARM Assets. Additionally, if prepayment proceeds cannot be reinvested in ARM Assets having similar yields to those being replaced, our earnings may be adversely affected. Conversely, the prepayment rate on our ARM Assets may decrease if interest rates rise or if the difference between long-term and short-term interest rates increases. Decreased prepayments would cause us to amortize the premiums paid for our ARM Assets over a longer time period, resulting in an increased yield on our ARM Assets. Therefore, in rising interest rate environments where prepayments are declining, not only would the interest rate on the ARM portfolio reset to reflect higher interest rates, but the yield would also rise due to slower prepayments. The combined effect could significantly mitigate other negative effects that rising short-term interest rates might have on earnings.

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Lastly, because we invest primarily in ARM Assets, and a portion of such assets are purchased with shareholders’ equity, our earnings, over time, will tend to increase, after an initial short-term decline, following periods when short-term interest rates have risen, and decrease after an initial short-term increase, following periods when short-term interest rates have declined. This is because the financed portion of our ARM portfolio will, over time, reprice to a spread over our cost of funds, while the portion of our ARM portfolio purchased with shareholders’ equity will generally have a higher yield in a higher interest rate environment and a lower yield in a lower interest rate environment.

Taxable Income Per Share

As a REIT, we pay substantially all of our taxable earnings in the form of dividends to shareholders. Therefore, taxable income per share, a non-GAAP financial measurement, is a meaningful measurement for both management and investors. A reconciliation of our REIT taxable income per common share to GAAP EPS follows:

Reconciliation of REIT Taxable Income Per Share to GAAP EPS

	Three Months Ended June 30,						Six Months Ended June 30,
	2007			2006			2007			2006
REIT Taxable income per share	$	0.65		$	0.60		$	1.29		$	1.30
Payments under long-term incentive plan		0.01			—			0.01			0.02
Taxable REIT subsidiary income (loss)		0.01			0.04			(0.01	)		0.02
Gain on purchase loan commitments		0.01			—			0.01			—
Hedging Instruments, net		—			(0.02	)		0.02			(0.04	)
Provision for credit losses, net		(0.01	)		—			(0.02	)		(0.01	)
Long-term incentive plan expense		(0.01	)		(0.01	)		(0.03	)		(0.03	)
Other		—			—			—			—
GAAP EPS	$	0.66		$	0.61		$	1.27		$	1.26

We estimate that our undistributed taxable income as of June 30, 2007, after deducting the estimated second quarter common dividend declared on July 19, 2007, was $6.0 million, or $0.05 per share, based on estimated outstanding common shares of 123,101,000 as of the second quarter dividend record date.

Other Matters

The Code requires that at least 75% of our consolidated tax assets must be Qualified REIT Assets. The Code also requires that we meet a defined annual 75% source of income test and an annual 95% source of income test. As of June 30, 2007, we calculated that we were in compliance with all of these requirements. We also met all REIT requirements regarding the ownership of capital stock and the distributions of our net income. Therefore, as of June 30, 2007, we believed that we continue to qualify as a REIT under the provisions of the Code.

We intend to conduct our business so as not to become regulated as an investment company under the Investment Company Act. If we were to become regulated as an investment company, our use of leverage would be substantially reduced. The Investment Company Act exempts from regulation entities that are “primarily engaged” in the business of purchasing or otherwise acquiring “mortgages and other liens on and interests in real estate.” In order to maintain our exempt status under the Investment Company Act, current SEC staff interpretations require that at least 55% of our assets must consist of Qualifying Interests, as such term has been defined by the SEC staff. In addition, unless certain mortgage securities represent all the certificates issued with respect to an underlying pool of mortgages, such mortgage securities may be treated as securities separate from the underlying mortgage loans and, thus, may not be considered Qualifying Interests for purposes of the 55% requirement. We calculated that we are in compliance with this requirement.

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Item 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK

The information called for by Item 3 is incorporated by reference from the information in Part I, Item 2 under the captions “General—Hedging Strategies”, “Interest Rate Risk Management” and “Market Risks.”

Item 4. CONTROLS AND PROCEDURES

Our Chief Executive Officer, Chief Operating Officer and Chief Financial Officer, after evaluating the effectiveness of our disclosure controls and procedures, as defined in Rules 13a-15(e) and 15d-15(e) of the Securities Exchange Act of 1934, as amended, have concluded that, as of the end of the period covered by this report, our disclosure controls and procedures were effective to provide reasonable assurances that information required to be disclosed in the reports filed or submitted under such Act is recorded, processed, summarized and reported within the time periods specified in the SEC’s rules and forms. In addition, during the quarter ended June 30, 2007, there has been no significant change in our internal control over financial reporting that has materially affected, or is reasonably likely to materially affect, our internal control over financial reporting.

PART II OTHER INFORMATION

Item 1. LEGAL PROCEEDINGS

At June 30, 2007, there were no material pending legal proceedings to which we were a party or of which any of our property was subject.

Item 1A. RISK FACTORS

There have been no material changes from risk factors as previously disclosed in our 2006 Annual Report on Form 10-K.

Item 2. UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS

Not applicable

Item 3. DEFAULTS UPON SENIOR SECURITIES

Not applicable

Item 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS

(a) Our Annual Meeting of Shareholders was held on April 19, 2007.

(b) Election of Class I Directors

	Votes
Nominee	For	Withheld
Anne-Drue M. Anderson	101,525,888	6,235,818
David A. Ater	101,602,057	6,159,648
Larry A. Goldstone	101,503,169	6,258,536
Ike Kalangis	101,552,278	6,209,427

Item 5. OTHER INFORMATION

None

Item 6. EXHIBITS

See “Exhibit Index”

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SIGNATURES

Pursuant to the requirements of the Securities Exchange Act of 1934, the Registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized.

	THORNBURG MORTGAGE, INC.
	(Registrant)
Dated: August 8, 2007	/s/ Garrett Thornburg
	Garrett Thornburg
	Chairman of the Board and Chief Executive Officer
	(Principal Executive Officer)
Dated: August 8, 2007	/s/ Larry A. Goldstone
	Larry A. Goldstone
	President and Chief Operating Officer
	(authorized officer of registrant)
Dated: August 8, 2007	/s/ Clarence G. Simmons, III
	Clarence G. Simmons, III
	Senior Executive Vice President and Chief Financial Officer
	(Principal Financial and Accounting Officer)

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Exhibit Index

Exhibit Number	Exhibit Description
31.1	Certification of Chief Executive Officer pursuant to Rule 13a-14(a) and 15d-14(a) of the Securities Exchange Act of 1934*
31.2	Certification of President and Chief Operating Officer pursuant to Rule 13a-14(a) and 15d-14(a) of the Securities Exchange Act of 1934*
31.3	Certification of Senior Executive Vice President and Chief Financial Officer pursuant to Rule 13a-14(a) and 15d-14(a) of the Securities Exchange Act of 1934*
32.1	Certification of Chief Executive Officer pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002*
32.2	Certification of President and Chief Operating Officer pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002*
32.3	Certification of Senior Executive Vice President and Chief Financial Officer pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002*

* Being filed herewith.

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GLOSSARY

There follows a definition of certain capitalized and other terms and abbreviations used in this Quarterly Report on Form 10-Q.

“Adfitech” means ADFITECH, Inc., a wholly-owned mortgage services taxable REIT subsidiary of TMHL.

“Adjusted Equity-to-Assets Ratio” means a ratio that reflects the relationship between assets financed with recourse debt that is subject to margin calls and our long-term capital. The ratio is a non-GAAP measurement that we have adopted and that the Board of Directors has approved as an internal policy. Our policy requires us to maintain this ratio at a minimum of 8%, which represents approximately twice the initial margin requirement for our recourse debt.

“Agency Securities” means Purchased ARM Assets that are guaranteed by Ginnie Mae, Fannie Mae or Freddie Mac.

“Agent” means American Stock Transfer & Trust Company, TMA’s transfer agent.

“ARM” means adjustable-rate and variable-rate mortgage, which signifies that adjustments of the underlying interest rate are made at predetermined times based on an agreed margin to an established index.

“ARM Assets” means all of our ARM Loans and Purchased ARM Assets comprised of Traditional ARM Assets and Hybrid ARM Assets.

“ARM Loans” means Securitized ARM Loans, ARM Loans Collateralizing Debt and ARM loans held for securitization.

“ARM Loans Collateralizing Debt” means first lien prime quality ARM loans originated or acquired by us and financed in their entirety on our balance sheet through securitization by us into sequentially rated classes. In general, we retain the classes that are not AAA-rated which provide credit support for higher rated classes issued to third-party investors in structured financing arrangements.

“Asset-backed CP” means asset-backed commercial paper, which provides an alternative way to finance our High Quality ARM Assets portfolio. We issue Asset-backed CP to investors in the form of secured liquidity notes that are recorded as borrowings on our Consolidated Balance Sheets.

“Average Historical Equity” means for any period the difference between our total assets and total liabilities calculated on a consolidated basis in accordance with GAAP, excluding (i) OCI, (ii) goodwill and (iii) other intangibles, computed by taking the average of such values at the end of each month during such period, adjusted for equity sold during the period on a pro rata basis.

“Average Net Worth” means for any period the average of the sum of the gross proceeds from any offering of our equity securities, before deducting any underwriting discounts and commissions and other expenses and costs relating to the offering, plus our retained earnings (without taking into account any losses incurred in prior periods) computed by taking the average of such values at the end of each month during such period, and shall be reduced by any amount that we pay for the repurchases of Common Stock.

“Basic EPS” means basic earnings per share, calculated by dividing net income available to common shareholders by the average common shares outstanding during the period.

“Bloomberg Mortgage REIT Index” means a capitalization weighted index of infinite life mortgage REITs having a market capitalization of $15 million or greater. The index has a base value of 100 as of December 31, 1993 and is revised semi-annually.

“Board of Directors” means the board of directors of TMA.

“BP” means basis point, a hundredth of a percent.

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“Cap Agreements” means interest rate cap agreements, pursuant to which we receive cash payments if the interest rate index specified in any such agreement increases above contractually specified levels, thus effectively capping the interest rate on a specified amount of borrowings at a level specified by the agreement.

“CDOs” means collateralized debt obligations, which can be either floating-rate or fixed-rate non-recourse financing, all of which are issued by trusts and secured by prime quality ARM loans originated or purchased by us, and may also include Hedging Instruments. CDOs represent long-term financing. The financing transactions are now referred to as Collateralized Mortgage Debt.

“CMOs” means collateralized mortgage obligations which are debt obligations ordinarily issued in series and backed by a pool of fixed-rate mortgage loans, Hybrid ARM loans, Traditional ARM loans or ARM securities, each of which consists of several serially maturing classes. Generally, principal and interest payments received on the underlying mortgage-related assets securing a series of CMOs are applied to principal and interest due on one or more classes of the CMOs of such series.

“Code” means the Internal Revenue Code of 1986, as amended.

“Code of Conduct” means the Code of Business Conduct and Ethics adopted by TMA.

“Collateralized Mortgage Debt,” which was previously referred to as collateralized debt obligations or CDOs in our prior SEC filings, means collateralized debt obligations, which can be either floating-rate or fixed-rate non-recourse financing, all of which are issued by trusts and secured by prime quality ARM loans originated or purchased by us, and may also include Hedging Instruments. Collateralized Mortgage Debt represents long-term financing. We are using a new term to highlight the fact that the debt financings are backed exclusively by first lien prime quality ARM Loans either originated or purchased by us and Hedging Instruments.

“Common Stock” means shares of TMA’s common stock, $.01 par value per share.

“Company” means TMA and its subsidiaries, unless specifically stated otherwise or the context indicates otherwise.

“Consumer Price Index” means an inflationary indicator that measures the change in the cost of a fixed basket of products and services, including housing, electricity, food, and transportation. The Consumer Price Index is published monthly.

“Corporate Governance Guidelines” means the Corporate Governance Guidelines adopted by TMA.

“CPR” means constant prepayment rate, which refers to the annualized rate at which the mortgage assets in our portfolio are prepaid. The CPR typically increases as interest rates decrease and, conversely, the CPR typically decreases as interest rates increase.

“Derivative” means a contract or agreement whose value is derived from changes in interest rates, prices of securities or commodities, or financial or commodity indices. Our Derivatives include commitments to purchase loans from correspondent and bulk sellers, Pipeline Hedging Instruments and Hybrid ARM Hedging Instruments.

“DERs” means dividend equivalent rights, which may be granted under the Plan. A DER consists of the right to receive either cash or PSRs in an amount equal to the value of the cash dividends paid on a share of Common Stock.

“Diluted EPS” means earnings per share expressed as if all outstanding convertible securities and warrants have been exercised.

“DRSPP” means the Dividend Reinvestment and Stock Purchase Plan adopted by TMA.

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“Effective Duration” is a calculation expressed in months or years that is a measure of the expected price change of financial instruments based on changes in interest rates. For example, a duration of 4.4 months implies that a 1% change in interest rates would cause a .37% change in the opposite direction in the value of our portfolio (i.e., 4.4 months equals 37% of twelve months.)

“EITF” means Emerging Issues Task Force Abstract which is an authoritative GAAP pronouncement issued by the FASB.

“EPS” means earnings per share.

“Eurodollar Transactions” means Eurodollar futures contracts, which are three month contracts with a price that represents the forecasted three-month LIBOR rate. The sale of these contracts locks in a future interest rate.

“Fannie Mae” means the Federal National Mortgage Association, a government-sponsored private corporation that operates under a federal charter.

“FASB” means the Financial Accounting Standards Board.

“FDIC” means Federal Depository Insurance Corporation.

“Federal Funds” means the overnight intrabank lending rate.

“FHLB” means the Federal Home Loan Bank.

“FICO” means a credit score, ranging from 300 to 850, with 850 being the best score, based upon the credit evaluation methodology developed by Fair, Isaac and Company, a consulting firm specializing in creating credit evaluation models.

“FIN” means Financial Accounting Standards Board Interpretation.

“Fixed Option ARM” means a Hybrid ARM Asset that has a fixed interest rate for an initial period of three to ten years after which it converts to a Traditional ARM Asset. The loan product offers four payment options during the fixed rate period with the understanding that if a payment option is selected that is less than the interest-only option, the shortfall will be added to the principal balance of the loan until the loan balance increases to a maximum of 110% to 118% of the original loan balance. When the negative amortization limit is reached, the loan’s payment option is converted to at least meet interest only payments until the fixed rate period expires and the loan is recast to fully amortize over the remaining term of the loan. The Fixed Option ARM has an original maturity of 40 years, an initial interest rate change cap of 4% or 5% after the fixed rate period, a 2% interest rate change cap in subsequent years and a lifetime interest rate change cap of 5% over the original note rate.

“Freddie Mac” means the Federal Home Loan Mortgage Corporation, a federally-chartered private corporation.

“FTSE NAREIT All REIT” means a free float adjusted market capitalization weight index that includes all tax qualified REITs listed in the New York Stock Exchange, American Stock Exchange and National Association of Securities Dealers Automated Quotation System National Market. The base date of the index is December 31, 1999 with a base value of 100.

“Fully Indexed” means an ARM Asset that has an interest rate currently equal to its applicable index plus a margin to the index that is specified by the terms of the ARM Asset.

“G & A” means general and administrative.

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“GAAP” means generally accepted accounting principles set forth in the statements, opinions and pronouncements of the Accounting Principles Board of the American Institute of Certified Public Accountants and the FASB or in such other statements by such other entity as may be approved by a significant segment of the accounting profession of the United States.

“Ginnie Mae” means the Government National Mortgage Association, a government-owned corporation within the United States Department of Housing and Urban Development.

“Hedging Instruments” means Cap Agreements and Swap Agreements which are Derivatives that we use to manage our interest rate exposure when financing the purchase of ARM Assets.

“High Quality” means (i) Agency Securities, (ii) Purchased ARM Assets and Securitized ARM Loans which are rated within one of the two highest rating categories by at least one of the Rating Agencies, (iii) Purchased ARM Assets and Securitized ARM Loans that are unrated or whose ratings have not been updated but are determined to be of comparable quality (by the rating standards of at least one of the Rating Agencies) to a High Quality-rated mortgage security, as determined by the Manager and approved by the Board of Directors, or (iv) the portion of ARM loans that have been deposited into a trust and have received a credit rating of AA or better from at least one Rating Agency. Our investment policy requires that we invest at least 70% of total assets in High Quality ARM Assets and short-term investments.

“Hybrid ARM Hedging Instruments” means Hedging Instruments, including Swap Agreements and Cap Agreements, that we use to manage our interest rate exposure when financing the purchase of Hybrid ARMs.

“Hybrid ARMs” or “Hybrid ARM Assets” means ARM Loans and Purchased ARM Assets that have a fixed interest rate for an initial period of three to ten years, after which they convert to Traditional ARM Assets for their remaining terms to maturity.

“Insider Trading Policy” means the Insider Trading Policy adopted by TMA.

“Investment Company Act” means the Investment Company Act of 1940, as amended.

“Investment Grade” generally means a security rating of BBB- or better by Standard & Poor’s Corporation or Baa3 or better by Moody’s Investors Service, Inc.

“IRA” means Individual Retirement Account.

“KPMG” means KPMG LLP.

“LIBOR” means the London InterBank Offer Rate, which is fixed each morning at 11 a.m. London time, by the British Bankers’ Association. The rate is an average derived from sixteen quotations provided by banks determined by the British Bankers’ Association, the four highest and lowest are then eliminated and an average of the remaining eight is calculated to arrive at the fixed rate.

“Liquidity Management Policy” means the Liquidity Management Policy adopted by TMA.

“Management Agreement” means the management agreement by and between TMA and the Manager whereby the Manager performs certain services for TMA in exchange for certain fees.

“Manager” means Thornburg Mortgage Advisory Corporation, a Delaware corporation.

“MBS” means mortgage-backed securities, which are pools of mortgages used as collateral for the issuance of securities in the secondary market. MBS are commonly referred to as “pass-through” certificates because the principal and interest of the underlying loans is “passed through” to investors. The interest rate of the security is lower than the interest rate of the underlying loan to allow for payment of servicing and guaranty fees.

“MSRs” means mortgage servicing rights.

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“MTA” means the monthly treasury average. This index is the 12 month average of the monthly average yields of U.S. Treasury securities adjusted to a constant maturity of one year.

“Net Effective Duration” means the Effective Duration of assets minus the Effective Duration of borrowings and Hedging Instruments.

“OCI” means our accumulated other comprehensive income or loss calculated on a consolidated basis in accordance with GAAP.

“Other Investments” means assets that are (i) adjustable or variable rate pass-through certificates, multi-class pass-through certificates or CMOs backed by loans that are rated at least Investment Grade at the time of purchase, (ii) ARM loans collateralized by first liens on single-family residential properties, generally underwritten to “A quality” standards and acquired for the purpose of future securitization, (iii) fixed-rate mortgage loans collateralized by first liens on single-family residential properties originated for sale to third parties, (iv) real estate properties acquired as a result of foreclosing on our ARM Loans, or (v) as authorized by the Board of Directors, ARM Assets rated less than Investment Grade that are created as a result of our loan acquisition and securitization efforts or are acquired as Purchased Securitized Loans, and that equal an amount no greater than 17.5% of shareholders’ equity, measured on a historical cost basis. Other Investments may not comprise more than 30% of our total assets.

“Pipeline Hedging Instruments” means Eurodollar Transactions that we use to limit interest rate risk associated with commitments to purchase ARM loans.

“Plan” means TMA’s Amended and Restated 2002 Long-Term Incentive Plan, as amended.

“Portfolio Margin” means yield on net interest earning assets.

“Preferred Stock” means the Series C Preferred Stock, the Series D Preferred Stock and the Series E Preferred Stock, issued by TMA.

“PSRs” means phantom stock rights, which may be granted under the Plan. A PSR consists of (i) the unfunded deferred obligation of TMA to pay the recipient of a PSR, upon exercise, an amount of cash equal to the fair market value of a share of Common Stock at the time of exercise, and (ii) the recipient’s right to receive distributions, either in the form of cash or additional PSRs, in an amount equal to the value of the cash dividends that are paid on a share of Common Stock.

“Purchased ARM Assets” means ARM securities and Purchased Securitized Loans.

“Purchased Securitized Loans” means loans securitized by third parties and purchased by us. We purchase all principal classes of the securitizations, including the subordinated classes. These assets are Qualifying Interests for purposes of maintaining our exemption from the Investment Company Act because, like our own loan originations and acquisitions, we retain a 100% interest in the underlying loans.

“PWC” means PricewaterhouseCoopers LLP.

“QSPE” means qualifying SPE.

“Qualified REIT Assets” means real estate assets as defined by the REIT provisions of the Code. Substantially all of the tax assets that we have acquired and will acquire for investment are expected to be Qualified REIT Assets.

“Qualifying Interests” means “mortgages and other liens on and interests in real estate,” as such term has been defined by SEC staff. Under current SEC staff interpretations, we must maintain at least 55% of our assets directly in Qualifying Interests.

“Rating Agencies” means Standard & Poor’s Corporation and Moody’s Investors Service, Inc.

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“REIT” means real estate investment trust as defined in the Code.

“REMIC” means real estate mortgage investment conduit which is an entity that holds a fixed pool of mortgages and issues multiple classes of interests in itself to investors as defined in the Code.

“REO” means real estate properties owned by the Company.

“Return on Equity” or “ROE” means the quotient obtained by dividing our annualized net income by our Average Net Worth.

“Reverse Repurchase Agreement” means an agreement between two parties whereby one party sells the other a security at a specified price with a commitment to buy the security back at a later date for another specified price.

“SARs” means stock appreciation rights, which may be granted under the Plan. An SAR consists of the right to receive the value of the appreciation of our Common Stock that occurs from the date the right is granted up to the date of exercise.

“SEC” means the United States Securities and Exchange Commission.

“Securitized ARM Loans” means loans originated or acquired and securitized by us, in which we retain 100% of the beneficial ownership interests.

“Senior Notes” means the 8% senior unsecured notes due May 15, 2013, issued by TMA.

“Series C Preferred Stock” means the 8% Series C Cumulative Redeemable Preferred Stock, $0.01 par value per share, issued by TMA.

“Series D Preferred Stock” means the Series D Adjusting Rate Cumulative Redeemable Preferred Stock, $0.01 par value per share, issued by TMA.

“Series E Preferred Stock” means the 7.50% Series E Cumulative Convertible Redeemable Preferred Stock, $0.01 par value per share, issued by TMA.

“Service” means the Internal Revenue Service.

“SFAS” means Statement of Financial Accounting Standards which is an authoritative GAAP pronouncement issued by the FASB.

“SPE” means special purpose entity.

“Subordinated Notes” means the floating rate junior subordinated notes, issued by TMHL and guaranteed by TMA.

“Swap Agreements” means interest rate swap agreements, pursuant to which we agree to pay a fixed rate of interest and to receive a variable interest rate, thus effectively fixing the cost of funds.

“Ten Year U.S. Treasury Rate” means the arithmetic average of the weekly average yield to maturity for actively traded current coupon U.S. Treasury fixed interest rate securities (adjusted to a constant maturity of ten years) published by the Federal Reserve Board during a quarter, or, if such rate is not published by the Federal Reserve Board, any Federal Reserve Bank or agency or department of the federal government that we select. If we determine in good faith that the Ten Year U.S. Treasury Rate cannot be calculated as provided above, then the rate shall be the arithmetic average of the per annum average yields to maturities, based upon closing asked prices on each business day during a quarter, for each actively traded marketable U.S. Treasury fixed interest rate security with a final maturity date not less than eight nor more than twelve years from the date of the closing asked prices as chosen and quoted for each business day in each such quarter in New York City by at least three recognized dealers in U.S. Government securities that we select.

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“The Thornburg Mortgage Exchange Program^SM” means the program where borrowers can choose to take equity out of their homes, select another ARM loan product, extend the fixed-rate period of their loan, modify to a current interest rate or change to an interest-only payment option by paying a small flat fee.

“TMA” means Thornburg Mortgage, Inc., a Maryland corporation.

“TMCR” means Thornburg Mortgage Capital Resources, LLC, a wholly-owned special purpose finance subsidiary of TMD.

“TMD” means Thornburg Mortgage Depositor, LLC, a wholly-owned special purpose finance subsidiary of TMA.

“TMFI” means Thornburg Mortgage Funding, Inc., a wholly-owned subsidiary of TMA.

“TMHL” means Thornburg Mortgage Home Loans, Inc., a wholly-owned mortgage loan origination and acquisition taxable REIT subsidiary of TMA.

“TMHS” means Thornburg Mortgage Hedging Strategies, Inc., a wholly-owned taxable REIT subsidiary of TMA.

“Traditional ARMs” or “Traditional ARM Assets” means ARM Loans and Purchased ARM Assets that have interest rates that reprice in a year or less.

“Traditional Pay Option ARM” means a Traditional floating rate ARM Asset that typically is indexed to a short term market rate and has no interest rate change cap despite monthly or quarterly resets, offers an annual maximum payment cap of 7.5% and offers borrowers the ability to select a payment amount with the understanding that if a payment is selected that is less than a fully indexed rate the shortfall will be added to the principal balance of the loan until the loan balance increases to a maximum of 110% to 125% of the original loan balance, at which time the loan is recast to fully amortize over the remaining term of the loan.

“Whole loan-collateralized CP” means commercial paper collateralized by ARM loans held for securitization which provides an additional way to finance our ARM loans held for securitization. We issue Whole loan-collateralized CP to investors in the form of secured liquidity notes that are recorded as borrowings on our Consolidated Balance Sheets.

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