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Annaly Capital Management (NYSE:NLY)

Q2 2009 Earnings Call

July 30, 2009; 10.00 am ET

Executive

Michael Farrell - Chairman, Chief Executive Officer & President

Wellington Denahan-Norris - Chief Investment Officer & Chief Operating Officer; Kathryn Fagan - Chief Financial Officer

Ron Kazel - Managing Directors

Jay Diamond - Managing Directors

Analysts

Bose George - KBW

Jason Arnold - RBC Capital Markets

Steve Delaney - JMP Securities

Andrew Wessel - JP Morgan

Henry Coffey - Sterne, Agee

John McWade - Unidentified Company

Joe Stieven - Stieven Capital

Matthew Howlett - Fox-Pitt Kelton

Operator

Good morning and welcome ladies and gentlemen to the second quarter earnings call for Annaly Capital Management, Inc. At this time I would like to inform you that this conference is being recorded and that all participants are in a listen-only mode. At the request of the company we will open the conference up for questions-and-answers after the presentation.

This earnings call may contain 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. Forward-looking statements, which are based on various assumptions, some of which are beyond our control, maybe identified by reference to a future period or periods or by the use of forward-looking terminology such as may, will, believe, expect, anticipate, continue, or similar terms or variations on those terms or the negative of those terms.

Actual results could differ materially from those set forth in forward-looking statements due to the variety of factors including, but not limited to changes in interest rates; changes in the yield curve; changes in prepayment rates; the availability of mortgage-backed securities for purchase; the availability of financing and if available that terms of any financings; changes in the market value of our assets; changes in business conditions and the general economy; changes in governmental regulations affecting our business and our ability to maintain our classification as a REIT for federal income tax purposes; risks associated with the broker dealer business of our subsidiary and risks associated with the investment advisory business of our subsidiaries including the removal by clients of assets they manage, their regulatory requirements and competition in the investment advisory business.

For a discussion of the risks and uncertainties which could cause actual results to differ from those contained in the forward-looking statements see risk factors in our most recent annual report on Form 10-K and on our subsequent quarterly reports on Form 10-Q. We do not undertake and specifically disclaim any obligation to publicly release the results of any revision, which maybe to any forward-looking statements to reflect the occurrence of anticipated or unanticipated events or circumstances after the date of such statements.

I will now turn the conference over to Mr. Michael Farrell, Chairman, CEO and President of Annaly Capital Management, Inc. Please go ahead, sir.

Michael Farrell

Thank you, operator. Good morning everyone and welcome to Annaly’s second quarter earnings call. I’m joined here today by Wellington Denahan-Norris, our Chief Investment Officer and Chief Operating Officer; Kathryn Fagan, our Chief Financial Officer; and two Managing Directors, Ron Kazel and Jay Diamond.

As always, I want to begin the call today with some prepared remarks, after which we will take your questions. The text of Ron remarks will be available this afternoon on our website, www.annaly.com formatted to include a graph and a link to a YouTube clip that I reference.

While you’re on our website please visit our new bloc that we started early this month called Annaly Salvos, I hope you find it useful. I’d also like to note that some of the data that we collected here was collected by our interns and our research staff and I thank them for doing that work during the course of the summer.

The title to this missive is, Sherlock Holmes and the Mystery Of The Green Shoots. In literature it is difficult to find a protagonist more endearing, clever and flawed than Sherlock Holmes. Peerless is his attention to detail and his limitless powers of perception, what appears to be clear cut and evident to his trained his senses bewilders those of lesser skills.

His foil, Dr. Watson, his counterpart at Scotland Yard, the plotting Inspector Lestrade, and his arch enemy Professor Moriarty all wither in the face of Holmes masterful powers of logic and deduction. That said, I believe even the formidable Mr. Holmes would have a problem figuring out the truth behind the current economic state of affairs.

First, Holmes would review the statistical evidence. There are those who argue that housing has bottomed because there has been a decline in the rate of decline. This belief is truly a leap of faith as long as large non-conforming loans from high FICO borrowers can still not be readily funded, home prices aseptically trend to liquidation levels and foreclosed homes dominate the sales market.

Loan modifications have proven to be a feasting ground for the same mortgage underwriters that initiated the original loans, but unfortunately the results are pretty much the same. Within 90 days about half of the modified loans are once again delinquent. Some have suggested that there are signs of life in the leading indicators and recent corporate earnings. Perhaps, but this ignores clues to the contrary.

For example, the saga of the distended state budgets plays out most tragically on California’s stage, but California is not alone. According to the Center on Budget and Policy Priorities the cumulative total of state budget deficits for fiscal 2009 will be about $111 billion. California, which the New York Times has seemed to be ungovernable due to the splintering effects of special interests, represents one third of this projection by itself.

At least 47 other states still face budget shortfalls and the CDPP is looking for even deeper state budget deficits in the years ahead. On July 2 the Bureau of Labor Statistics reported that the unemployment rate reached 9.5%. Vice President Biden, the Inspector Lestrade of the Executive Branch, stated that the Obama administration had misread the economy, a startling admission since candidate Obama campaigned with a message that the U.S. economy was the worst since the Great Depression.

The massive amounts of stimulus that have been added to the economy have done little to improve the jobs picture. American consumers are no longer a source of economic growth. Terrified by the reality of life changing events, they’ve acted predictably and begun to save discretionary income and any tax stimulus to rebuild their own safety net.

We discuss this in our 2008 fourth quarter earnings call just save, baby, just save. In fact during May of 2009 as the incentive checks were arriving into consumers mailboxes from the government, they actually did not spend them, they put them into their savings accounts at extremely low rates of return and pushed the national savings rate up to a multiyear high of almost 7%.

I applaud this move. As I said in February, it is the best course for America’s long term financial healths to self fund our deficits via domestic savings. I believe that any follow on stimulus packages will be subject to the same forces. Our man Holmes still couldn’t crack the case so he went onto the internet.

On YouTube he found an excerpt from an interview with the TV talk show host Phil Donahue and the noble laureate economist Milton Friedman. Friedman is discussing concepts raised in his book, Capitalism & Freedom, which advocates free enterprise solutions. To Holmes Friedman’s devastating smashing of the idea that any government intervention can lead to a strong society set forth an ideological framework for the current situation.

If you can, listen to the interview by clicking on the link embedded in the online version of my remarks, it’s wonderful. Scratching deeper Holmes found a recent quote by Martin Feldstein, former head of the National Bureau of Economic Research and currently a professor at Harvard. When asked for his thoughts on second quarter GDP he said, we’re going to see a temporary and substantial improvement.

He continued, I emphasize the words temporary and substantial. Holmes then used his databases to draw conclusions from historical presidents. He discovered that as of the last reading household borrowing fell for the first time since 1952. In June of 2008 the borrowing rate was a record of 133% of after tax income. In June of 2009 it fell to 128%. For an economy that is used to having the consumer represent 70% of its GDP this does not bode well for the expenditures needed to lift the economy to trend growth.

Corporate capital expenditures and employment will be constrained by lower than expected sales growth. At nearly 10% unemployment is reaching a level not seen since the early 1980s. The thing most concerning Mr. Holmes is that the rise in savings so far is largely due to home mortgage debt being raised by home foreclosures, tax cuts and federal stimulus.

Going further into his research Holmes uncovered a quote from the Chairman of one of the largest banks in America in a New York Times story with the headline, “Bank Head Sees Credit Restoration and Recovery Nearing”. The story reports, The panic has passed, he declares. We are moving from a period of emergency credit devices into a period where the basis of credit can be restored.

There is a new hope in the world. In treat by this missive exploring the light at the end of the tunnel, Holmes stopped reading and reached for his ever present smoking pipe when he realized that it was actually a quote from Albert H. Wiggin, retiring Chief of the Chase National Bank in an interview published on January 9, 1933.

Not only was there an historical president for a Bank Executive calling a bottom way too early, but it turns that Wiggin was a scoundrel. A core commission investigation into the Wall Street crash uncovered that Wiggin had been shorting his own company stock even as his firm and others were supporting the market by investment pools. These profits were protected from U.S. taxes because they were conducted in an offshore trading corporation.

Holmes, realizing that some things never change, put down his pipe and reached for his true comfort, a 7% solution in a hypodermic syringe. At this point in the analysis Dr. Watson assumed that the savings boost solved the credit crunch, Inspector Lestrade declared premature victory over the national municipal economic crisis and Professor Moriarty surrendered to the local tax authorities. Sherlock Holmes on the other hand had used his keen powers and solved the case.

Let’s not forget that Mr. Holmes is actually a fictional character created by Sir Arthur Conan Doyle and therefore his adventures and successes are all the products of a spectacular imagination, just like the Green Shoots.

Operator, we’ll now take questions.

Question-and-Answer Session

Operator

(Operator Instructions) Your first question comes from Bose George - KBW.

Bose George - KBW

I had a question on the dollar amount and the yield of the securities you purchased during the quarter. I was wondering if that was one of the drivers of the slightly lower asset yield of the quarter end versus the quarter average. Also, did these assets come on pretty evenly or were they more back ended?

Kathryn Fagan

No, I mean, we don’t disclose that level of detail about, how we settle things. One thing I always like to say about the snapshot of the yield at quarter end. It is a snapshot based on model prepayment assumptions and things like that. So again, you can’t extrapolate too much from one period, one day’s picture.

Bose George - KBW

So I shouldn’t read anything into the yield of the new portfolio of the new assets versus the existing?

Kathryn Fagan

Yes. It would be very difficult I think.

Operator

Your next question comes from Jason Arnold - RBC Capital Markets.

Jason Arnold - RBC Capital Markets

I guess I know that you guys manage the portfolio using a barbell approach, but you have a couple means of balancing things out either via buying more hybrid arms or by utilizing more swaps. So I guess I was just curious to hear your thoughts on what’s more attractive to you right now?

Kathryn Fagan

Again, we will constantly run relative value analysis on the various buckets of assets that we focused on and always make the best long term cash flow decision. Again, for competitive reasons we’re not going to sit here and say exactly, where we think people should be putting their money. We will always strike a balance. We understand that markets can change.

I know there’s a lot of AAA CDO holders out there, who never thought they would see massive downgrades. Right now, I’m sure there are a lot of people holding mortgages, who never think that rates are going to go much higher. So we will always take all of those things into account, when constructing the portfolio and try and maintain a nice balance and obviously on the margin continue to place capital where we see the best relative value stack up.

Jason Arnold - RBC Capital Markets

Then I guess, can we expect the pay fixed rate on your swap book to continue to roll down by maybe 20 to 30 basis points a quarter over the next several quarters ahead or would you prefer not to say on that either?

Kathryn Fagan

It will continue to improve, all else being equal. So I can’t say exactly, how we’ll construct forward swaps from here, but we should see continued improvement based on where the swap market is right now.

Jason Arnold - RBC Capital Markets

Then just one final one, I was just wondering if you could give us an update on FIDAC as well, please?

Michael Farrell

I mean obviously the assets under management tripled over the course of the year, which continues to be the focus of expansion in the business in terms of a growth element underneath. As you’ve heard me explain at other earnings calls and investor meetings, we certainly have been gratified by the diversity and breadth of that business that gives us an incredible window into pricing across all the different spectrums.

Obviously, as Chimera grows that contract is an extremely valuable contract to FIDAC and to Annaly’s shareholders, which we think deserves some cash flow consideration and multiple considerations by the markets. We also think that if you look at our auction business and the window that that’s opened up for us in terms of being a CDO manager and helping to restructure and cleanup these deals that are coming into the market as the downgrades occur.

We think that that’s going to be an ongoing theme in the future. We continue to be very opportunistic in taking advantage of that as a large player and a public company in the space we provide many of the administrators with a great deal of comfort about our continuation of making the senior pieces especially comfortable with the ongoing management of those cash flows, swaps and credit default swaps and things that are in there.

The broadening of that business will continue. We feel very good about it and obviously, if you look at the other subsidiaries that are out there, our cap is starting to provide us with the diversity that we want not only from the ability to distribute our own fund products, but to operate very effectively on the liability side of the business. I think that’s going to be a great theme for us going forward.

Operator

Your next question comes from Steve Delaney - JMP Securities.

Steve Delaney - JMP Securities

So I was wondering, the press release was really straightforward and I think obviously trends are positive. So my question is sort of big picture. I was just wondering if you would be willing to share your views or Annaly’s view on where you think the 10 year yield is going to be looking out six to 12 months, given we’ve got these conflicting forces of slow global growth and this unprecedented deficit spending?

Because really I asked not just for casual conversation, but I think whether it’s Annaly or whether it’s any of the mortgage REITs, I think it’s an important factor in determining where book values are going to go?

Michael Farrell

I’m happy to talk about the macro views with the caveat that we never have to forget that the investment team listens to me all day and they usually discard a great deal of what I say, and they operate and figure out how to get better value out of almost everything that’s out there without me doing that so.

Kathryn Fagan

That’s not true by the way.

Michael Farrell

Just said in general, I’m very concerned about valuations in the equity market. I believe that we are setting ourselves up for a very disappointing fall as an economy coming into the winter season that the jump that’s taking place in housing is extremely delicate at best.

The way that I would characterize it is that, there was a great deal of focus and hype that was pushed around on the new homes, sales annualized number this week at 380 something thousand, when in fact the amount of monthly foreclosures in California alone are three times that number adding to the supply on the other side.

So I feel that the weight of the supply that’s coming into the fixed income markets, especially on the treasury side, will continue to weigh on the ability of the private sector to compete and grow inside that sector without some sort of technological innovation or major change in healthcare and I don’t mean legislation. I mean too smart people in a garage somewhere and figure out, how to make an electric car or figure out, how to make stem cells to solve some of these terrible diseases.

So I still believe that’s going to happen in America, if it happens anywhere, first and that’s the hope for the future. I think the five year treasury auction yesterday, should have been a warning shot across the bow. For everyone, we’re just getting started into this borrowing; it is going to be a tremendous weight on the markets. That said, I think that the weakness in the stock market will suppress yields for some time to come.

We are in a deflationary environment; deflation should be the focus. We are going to continue to see deleveraging, not only from the private sector, but also from the public sector. I don’t know if California is going to be able to sell Yosemite Park or some of these other national pieces outside of their funding, but there certainly is going to be a pressure within the U.S. economy to continue to delever and it’s not just the U.S., it’s global, it’s Europe, it’s Asia, it’s across the board.

So the mystery of the Green Shoots is that we should not get too excited about stabilization at very little rates. That stabilization of growth is not necessarily the outcome that everyone would have hoped for given the massive amount of stimulus that we’ve thrown at it.

So my answer to your question is, with that background is that the 10 year is going to bounce around probably around the 4% range for the foreseeable future. However, credit spreads will probably stay at extremely generous levels, while we all sort through the issues of whether or not these cash flows are reliable and quantifiable in the future and whether or not they’re going to continue to be interfered with from government policymakers.

The threat of cram down legislation is still out there in my mind. The modifications, obviously are not working. We need to get back to getting people into homes. Who deserve to be in those homes, who actually can afford to stay in those homes, and that’s against a backdrop of obviously a very poor employment picture, so a steep yield curve, and I think a weaker equity market going forward, and as you know, I’m not an equity market guy, but we cannot grow our economy by cutting expenses across the board and that’s what these latest earnings numbers seem to be showing me.

So I think that’s fundamentally healthy. Obviously, the Fed is in buying securities, they will continue to do that. As we would note to the markets, don’t worry about their exit strategy. We have to worry about when they decide to say that they’re going to stop. Right now the way I view what they’re doing is they’re basically replacing Fannie Mae and Freddie Mac’s long history with us of providing a bid to the market.

Even though they’ve been up buying a tremendous amount of securities, I think it’s about $20 billion a week in securities, they have not been able to move rates down materially and in fact rates are higher today than when the program began. So that tells you something about the opportunities in the markets. We think that they’re extremely good for value players.

As a team, Welly and the team I think here are managing the company for the long term; they are not managing it for one quarter, they’re taking an extremely disciplined and diligent view and clearly I think from a company point of view we see tons of opportunity across the mortgage curve in credit, spreads, assets both at the agency, non agency and distress levels and we intend to exploit all of them.

Steve Delaney - JMP Securities

Your 4%, your call sort of a range around 4%, is your horizon on that, is it as far out as say 12 months?

Michael Farrell

It may be a long time. I’m not saying that the Fed will never tighten again in my lifetime or my career, but I am saying that the markets will tighten dramatically ahead of that and that I think the best caution that we can put to it is that we would welcome some inflation back into the system as a company, but we don’t see that fundamental aspect leaking into the economy at this point.

Right now continue to look for more assets coming on the market that need to be liquefied and refinanced. Commercial loans, commercial properties especially have to be in distress. We think the CLO market is also in distress. All of these financings are going to happen over the next two years and it’s going to provide a huge opportunity on top of what’s going on in the muni market.

Operator

Your next question comes from Andrew Wessel - JP Morgan.

Andrew Wessel - JP Morgan

Just a question on state of the repo market, it looks like everything has really settled down. Talking to our own repo desk, it sounds like best customers are coming back in now and actually getting a haircut to LIBOR on short term trades. With funding costs as low as they are and still with swap rates pretty attractive for hedging that out, what are your thoughts about increasing leverage given your running very, very at the low end of where you’ve run historically? Do you feel like there’s enough stability to lever up in this environment?

Kathryn Fagan

There’s certainly enough stability in the environment and the repo markets has definitely improved significantly. It’s just whether it makes good sense or not with. There is still the Fed’s MBS purchase program out there, which, as Mike mentioned, they do about $20 billion a week. They’re up to $600 billion odd. There is a point when that is going to leave the market. I think they’re starting to try and communicate that with the market.

A couple of mortgage strategists have written pieces about how they will exit the market. It is not our belief that they intend to sell anything, but just be active not buying anything further could put some weight into the mortgage space, which I would love to see and our feeling is that they probably do it later this year. I know a lot of the Fed programs are set to end at 12/31 this year. I’d just like to see, there’s no reason to rush ahead of it.

As the Fed has demonstrated, you can easily buy $20 billion a week, not a problem. I think selling $20 billion a week maybe a problem as treasury is starting to find out. So we would just like to sit back and see how things unfold. The Fed has communicated pretty clearly that they intend to keep rates low on the short end.

So I think what they’re advertising is a steep yield curve for some time. So for Annaly we’d like to just see where the mortgage rates kind of end up given the eventual end to their purchase program.

Andrew Wessel - JP Morgan

So, if I can just back that out, I mean it’s more of an asset valuation issue right now than it is…?

Kathryn Fagan

Absolutely, I mean, it’s not like. Obviously there’s good spread out there, all spread is not created equal. So why rush ahead when we’re producing tremendous returns as we are and things are improving and you just there’s that one buyer out there that eventually is going to stop.

Operator

Your next question comes from Henry Coffey - Sterne, Agee.

Henry Coffey - Sterne, Agee

Two questions really. One very specific, should we wait for the Q or can you give us some detail on the cost basis and principal basis of your mortgage portfolio?

Kathryn Fagan

Yes, typically we wait for the Q. The information is really detailed in the Q.

Henry Coffey - Sterne, Agee

Secondly, you did grow the portfolio this quarter. Should we view that as a shift in view or just a natural part of using available cash flows and available leverage?

Michael Farrell

There really was a very minor changes in the growth of the portfolio. The leverage is obviously at the lowest that we’ve ever announced as a public company, the spreads are about at the highest that we’ve ever announced as a public company.

So any changes in there are really at the margin of mark-to-market change in leverage, et cetera and the new instruments that we use on swaps may skew that against past analysis, but the bottom line is that we think that there’s opportunities all over the market.

We intend to be opportunistic across the board here and Welly will call the shots about how to take advantage of it and what sectors to go after and pretty much that’s all we really want to say about it.

Operator

Your next question comes from John McWade – Unidentified Company.

John McWade – Unidentified Company

I have one question and I’d like to talk about the over collateralization required by your lenders. What do you foresee that to be six and 12 months out?

Michael Farrell

The markets are returning towards what they have traditionally looked at in terms of haircuts, which is how we would describe that over collateralization, which the Fed has been very diligent at setting out schedules like that post the Bear Stearns markets debacle on St. Patrick’s Day.

It seems so long ago now, but those haircuts are typically anywhere from 102 to 105, depending on the kind of collateral maybe 107 with some changes in there about the nature of the collateral, but certainly at these operating leverages it’s way inside of what we typically have used and set a standard for ourselves.

I feel like we are extremely liquid at this point, extremely well collateralized with a lot of flexibility in what we do and I don’t see that changing materially over the course of the next year.

John McWade – Unidentified Company

The last question I have is related to that loss you took in the fourth quarter on the unrealized loss for interest rate swaps, which was an accounting loss, but not a tax loss.

Kathryn Fagan

That’s correct.

John McWade – Unidentified Company

Could you tell us at June 30, what the difference is between tax and book as it relates to interest rate swap losses?

Kathryn Fagan

For tax purposes you do not realize, until you terminate the swap, the loss. So anything that you’re seeing on our financial statements and the income statement is a book adjustment and a book gain or loss, but not on the tax side.

Michael Farrell

It’s important to keep in focus that when we determined to use a REIT structure when we first brought the company public, that we recognize that it is an extremely passive structure in which you have to take a long term view of the acquisition of assets and the way that you set out your liabilities.

There’s a lot of analysis and decision work that goes into constructing the portfolio that Welly and the team put together both on both sides of the ledger, but it’s always taken towards the view of respecting that passive nature of REIT access and REIT laws and making sure that we’re doing the right thing for cash flows over a long term basis not per a trade.

Operator

Your next question comes from Joe Stieven - Stieven Capital.

Joe Stieven - Stieven Capital

Almost all my questions were asked except for one. With your thought on the rate cycle that you talked about can you guesstimate what you think or, I mean, because obviously it’s important to what you’re buying, but what type of CPR rates do you think would be probably appropriate when you look to model stuff, because your CPR has been running pretty good for you guys.

Kathryn Fagan

It depends on what you’re buying.

Joe Stieven - Stieven Capital

Right, I was going to have you go over your menu of what you’re buying.

Kathryn Fagan

Yes, I mean I’ll just give you a generalization if you’re buying a discount you might argue that SPEs are going to be very slow if you’re buying a premium you might argue that SPEs are going to be very fast. What you are due to get the best price is not always where things come in obviously. Our expectation is that a lot of the backlog in, due to capacity constraints we’ll continue to flow through as the Fed tries to orchestrate a manipulated mortgage rate.

So how long they can keep that going that backlog will continue to push its way through. If they put out there the 125 LTV, which may capture marginally more, I don’t think it’s going to throw that wide of a net to create massive Refi activity. Nonetheless, they create another modification program that starts to impact Refi activity.

I think you just have to be cautious on both sides, that the market becomes much longer than people expect and that there’s always the possibility that becomes much shorter due to some of the Federal programs out there.

Michael Farrell

Just across those lines in general, Joe, if you do an analysis of Annaly’s dividend yield versus the SMT500 dividend yields, which obviously dividends are tremendous components of total rate of return overtime for any equity position, but especially that is the case in the case of Annaly.

We are very close to the all-time high spread difference between our dividend yield and the SMT dividends when obviously those SMT dividends are now shrinking and going away and perhaps losing their advantage in a year that from the Bush tax cuts on dividends.

So from my perspective, those riffs are way overstated into cash flows of our company and that spread is an extremely generous spread given the shape of the yield curve, the nature of the risks and the opportunities that are in the market and total rate of return just on a cash flow dividend basis. So I think a lot of that has been recognized by the market and is perhaps being overstated.

Operator

Your next question comes from Matthew Howlett - Fox-Pitt Kelton.

Matthew Howlett - Fox-Pitt Kelton

Is there an excess capital dollar amount that you could provide that would be currently available to Annaly to either grow the REIT portfolio assuming haircuts stay constant? Or one of the taxable subs/REIT subs, Chimera that you’ve created? Then, Mike, looking out a year from now, maybe two years from now, is the percent of Annaly’s capital that’s going to be dedicated to the nontraditional business of MBS; is there a percent that you have in mind?

Michael Farrell

No, I mean if you look at the original prospectus and the original investment indenture that was put together for Annaly, Annaly could have at any time over the course of the past 11 years gone out and done 75% agency and 25% of non-agency or other structured products and been consistent with that.

With that said, we’ve come to recognize over time that the agency portfolio, returns that we’ve created are extremely valuable contributor to our investor base and that’s where we want them to focus on those returns, in short government products.

We also made the commitment to investors that when we did see opportunities in other markets we would participate in those opportunities by shooting down capital from Annaly rather than taking performance bonuses, rather than taking extreme compensation measures across the board.

We get compensated at the Annaly level. We participate just like all other Annaly shareholders do, in the way that those things play out. So I wouldn’t say that we have a hard and fast target. We have a view of the way that the markets are going to operate in the future, which we think we’ve been very clear expressing that we think that the world has changed dramatically.

I would say without hesitation that the field is broken, in terms of the way that the structures have existed for the vast amount of my career and we have spent the better part of the past five years preparing to go through that field and take advantage of what’s left and to help create that which what knew, and the one thing I love about being in this company is that I have a great team of broken field runners and we are running all over the place on behalf of the shareholders.

I love the way they are motivated, I love the way they are structured and I love the way that they’re going after it. So I’m not going to put a number on that that stops that. The markets will always judge that in their own wisdom, and that’s the way they are going to look at it.

Matthew Howlett - Fox-Pitt Kelton

As it stands sort of June 30, in terms of the excess capital that you have available. I know you’ve [exceeded] some money to the broker dealer. There is a commercial REIT in registration. Is there a dollar amount that could be available to further these businesses or redeploy towards the traditional agency MBS business?

Michael Farrell

No, I’m not going to put a dollar number on it. It will be consistent with the REIT rules; it will be consistent with the New York Stock Exchange rules. We have chosen as a group to act with the fullest transparency and liquidity across the board in all of our structures, and that means that we are clearly being monitored by everything from the SEC through the IRS, and in offshore markets by those regulatory authorities and the team here has been built out to conform to that, and where capital is needed and capital can be incentified for the shareholders, we are going to take advantage of it.

The company is growing very nicely against a backdrop of what we think are opportunities that we’ve been waiting years for. So I love the structure of the hub and spoke that we’ve created, I think it’s paying off dividends in a material way for our shareholders and will continue to do so for the future.

Operator

Your next question comes from the line of Ed Groshans - Ladenburg

Ed Groshans - Ladenburg

I have a kind of a long winded question. I got on the call late, so I hope it wasn’t asked, but today we heard the story of Bank of America hindering some low-nods, there’s talk about cram-down resurfacing down in DC and then the services were brought down to DC, I believe it was earlier this week also. So I just wanted to get your view of how likely do you think that forced mods will come into play, in the next six months or next 12 months, or do you think that’s not likely?

Michael Farrell

I would say we did discuss this briefly in the opening comments, and I would encourage you to listen to them if you can, Ed. I think that what we all need to do is take a step back and understand that the modifications are not working, cannot work.

You have to look at that modification form, as I have to get a sense of how difficult it is for many people who perhaps had no documentation loans or high appraisals or shaky appraisals, that were speculators, that owned a lot more house or houses than they should have owned. To get a sense of how bad and extreme this took place between 2002 and 2006. We can to try to shove people into homes, but the evidence so far is that within 90 days most of those loans collapsed.

In a recent visit to Washington we’ve had discussions with some of the senior staff of some of the legislature, and I’ll talk a little bit about the credit card legislation just to give you my sense of overall, how this interference is being handled, because apparently there was a great debate on the credit card side about how long they should wait before they really allow people to put in a credit risk spread on someone who’s struggling to repay their credit cards.

The debate was between the republicans, at 12 months she’d give the window into the companies and for the democrats it wound up being 30 days and it was great deal of debate on the floor about that and the republicans walked away frustrated and depressed that they had lost that battle.

Then they looked at the statistics, and they realized that even when you modify those loans most of them go into default within 30 days again anyway. So we are in a massive deflationary environment, we’d better come to realize it, we’d better understand that the world is dealing with it across the board, that it is happening in country after country and credit sector after credit sector, and that it is best to operate prudently and to operate conservatively within that framework.

That’s how it’s going to be for the future and modifications, changes to lending structures, in my mind the more that they do the greater the opportunities will be for informed people to take advantage of it throughout all of that once the wind passes and we are preparing for that.

Ed Groshans - Ladenburg

I guess, if you look in your crystal ball. What do you think the GSE structure looks like three to five years out?

Michael Farrell

I think that there’ll be one GSE. I think it will be an insurance company and I think that it will be providing origination and insurance, and perhaps some affordable housing incentives underneath it and that the portfolio business that they managed for 30 years is gone forever.

Ed Groshans - Ladenburg

Since they’re doing insurance, you think that the agency MBS market will still be in existence as a result?

Michael Farrell

They are the greatest insurance company in the world right now, even better than AIG.

Your next question comes from Jim Young - West Family Investments.

Jim Young - West Family Investments

If you go back to the start of the June quarter, what developments in the mortgage market from an asset and liability perspective surprised you the most during the quarter, and what issues today are most debated and discussed as you manage the portfolio going into the future?

Kathryn Fagan

No major surprises. The one thing that was happening in the State, that the repo market continued to improve, liquidity continues to improve. Obviously the main discussion, I think is around the largest buyer out there right now and when they exit the market, when they stop and what that means.

Coupled with the largest issuer we are out there and how much that’s going to weigh on the pricing of everything and that’s in case you are waiting for more.

If there are no further questions I would now like to turn the conference back to Mr. Ferrell.

Michael Farrell

On behalf of the team here, I’d like to thank you all for participating in the call today and please do take a chance, if you can to take a look at the website, especially on our research papers and white papers.

If you haven’t signed up, please do so. I think you’ll find them helpful and informative about our views during the course of the quarter when we’re not communicating through earnings calls, etc. I’d like to take a moment to recognize the asset and liability managers here for the terrific job that they’ve done over the past tow years especially in helping to navigate a great deal of this.

We’re not saying that it’s over. We think it’s still continuing, but I think we are in a very profitable position as a firm to take advantage of all of the dislocations that have happened and continue to happen across the credit markets. With that said, we wish you a good summer and we’ll speak to you in the fall.

Operator

Ladies and gentlemen, if you wish to access the replay for this call you may do so by dialing 617-801-6888 or 888-286-8010 with the ID number of 6773-1924. This concludes our conference for today. Thank you all for participating and have a nice day.

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