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Hatteras Financial Corp. (NYSE:HTS)

Q3 2009 Earnings Call Transcript

October 28, 2009 10:00 am ET

Executives

Mark Collinson – CCG IR

Michael Hough – CEO

Ken Steele – CFO, Secretary and Treasurer

Ben Hough – President and COO

Bill Gibbs – EVP and Co-Chief Investment Officer

Fred Boos – EVP and Co-Chief Investment Officer

Analysts

Mike Widner – Stifel Nicolaus

Steve DeLaney – JMP Securities

Bose George – KBW

Matthew Howlett – Fox-Pitt Kelton

Kenneth Bruce – Banc of America

Ariel Suse [ph] – Ladenburg

John Sites [ph] – Sterne Agee

Operator

Hello and welcome to the Hatteras Financial Corporation Q3 earnings conference call. All participants will be in a listen-only mode for this event. (Operator instructions). After today’s presentation there will be an opportunity to ask questions. Please note this event is being recorded. I would now like to turn the conference over to Mark Collinson.

Mr. Collinson, the floor is yours, sir.

Mark Collinson

Thank you, Mike. Good morning, everyone. Welcome to the Hatteras third quarter earnings conference call.

With me today, as usual, are the Company’s Chairman and Chief Executive Officer, Michael Hough; the Company’s President and Chief Operating Officer, Ben Hough; and the Company’s Chief Financial Officer, Ken Steele. And also available to answer your questions are the Company’s Co-Chief Investment Officers, Bill Gibbs and Fred Boos.

Before I hand the call over to them, please note that on this call, certain information presented contains forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995. These statements are based on management’s current expectations and are subject to risks, uncertainties, and assumptions. Should one or more of these risks or uncertainties materialize or should underlying assumptions prove incorrect, actual results may vary materially from those anticipated, expected, estimated, or projected.

The following factors among others could cause actual results to differ materially from those described in the forward-looking statements. The Company’s limited operating history, changes in its business and investment strategy, changes in interest rates, interest rate spreads, the yield curve or prepayment rates, changes in economic conditions generally, inflation or deflation, availability of suitable investment opportunities, available terms and deployment of capital, the degree and nature of the company’s competition, general volatility of the capital markets, dependence on the Company’s manager and the Company’s ability to find a suitable replacement if the manager were to terminate its management relationship and other factors that are set forth in the Company’s filings with the Securities and Exchange Commission.

The content of this conference call contains time-sensitive information that's accurate only as of today, October, 28, 2009. The Company undertakes no obligations to make any revisions to the statements contained in these remarks or to update and to reflect the events or circumstances occurring after this conference call.

That's all from me. It's my pleasure to turn the call over to Michael Hough.

Michael Hough

Thanks Mark. Good morning and thank you all for your interest in Hatteras Financial and welcome to our third quarter earnings call. The entire management team is here today to answer your questions and to provide some color for you on the quarter.

First, I would like to just say that we are very pleased with our asset liability strategy is performing in these obviously favorable times. With another quarter of increased earnings combined with another quarter of increased book value I think we should be pleased.

But most important to me is that we have been able to do this by not sacrificing the conservative risk profile of our balance sheet despite the many uncertainties in the market we feel confident that we continue to be well-placed whatever the future holds. We have low leverage, we are adding longer-term liabilities and our assets are shortening.

Before we go over the numbers for the quarter let me just address a couple of headline items for the strategy, leverage on ARM prices. Leverage at quarter-end of approximately 6.4 times is what I would consider is low for the type of investments we own; especially considering the pricing risk of our short hybrid ARMs the liquidity of them and the availability of credit against them. We're very comfortable on this position.

The question we probably get most nowadays is will we increase this leverage. Our answer to that question always goes back to risk management. Internally, we focus first to the leverage ratios and doing our risk assessments because obviously this is the primary driver of risk in our portfolio, we must be diligent and how we look at it and how we manage what affects these ratios.

ARM prices can be volatile, which in turn affects the volatility of the equity and therefore our debt to equity leverage ratio. We actively manage this volatility by buying assets on the short end of the yield curve and hedging them with light duration liabilities.

It's our view that with the short duration nature of our ARMs this type of leverage is appropriate for the considerations of today’s market. Therefore, we are not interested materially increasing leverage right now. We've been over the course of the quarter and continue to be able to effectively and selectively invest into value that approximates at least our cash flow. Today, we have a lot of cash and a lot of liquidity in hand if we needed.

To touch on the other issues it does tie in the leverage just a quick mention on agency MBS prices. We've had a tremendous run in the MBS market. We discussed this on our last call, but it does bear mentioning again because rally and the agency ARM persisted again in the third quarter.

As most of you know the spreads in hybrid ARMs to the bench mark treasuries have tightened dramatically this year. Last year, agency MBS have a lot of fewer price stand the distance abated. Spreads to treasuries of over 300 basis points last December when we last raised capital and we're aggressively buying have tightened to well south of 100. Although such moves are not entirely predictable this was a rally we expected because of the relative value from a risk reward standpoint that ARMs offer.

We’ve taken advantage of a huge basis discounts as we formed the company, but that discount is at least normalized so we are today managing a high spread treasury balance sheet investing into more normal spread opportunities. This is similar to what we have been doing on our 12 years in this business.

In our view ARMs have and will continue to be the optimal risk management vehicle for this type of strategy. We'll also predict predictable duration characteristics they give us, but we do have price and value constraints as we see the risk outweighing the rewards at certain levels. However, in this unusual environment of slow prepayments of dollars of coupon it is more difficult to estimate what that price range should be.

We don't know for sure when the Fed is going to stop our MBS purchases and what the impact will be on ARMs specifically. But we do need to be an optimistic position when they do. In the event this spreads one [ph] for any reason and ARMs become more attractive to us we're planning of running to grow the portfolio.

In light of all this we have not been buying as aggressively as we have been in the past but we do continue to find attractive investments. As we always have we continue to look and take advantage of more efficient ways to access value and agency ARMs. Hang down price in the forward market has been one way we effectively pre-invest our cash flows at accretive values and maintain leverage.

There are always questions and certainties we deal with one thing we have to remind ourselves is if we are not in this business the time the market right every time. We don't know what the future holds for interest rates, prepayments, Fed, the economy, etc., But we do understand that our job is to provide the best risk adjusted return on investment that we can.

Volatility equals risk and we work hard to minimize it. Right now as we see it leverage is low and capacity is high. We've booked our strategy on to a specific part of the yield curve for reasons and it is paying off by enabling us to have our liquidity assets and liabilities and position to take advantage of and/or to bend against changes and market conditions.

So, with that I'm going to hand the call over to Ken to go with financial results.

Ken Steele

Thanks, Michael. Good morning, everyone, and thanks again for being on the call today. The world of finance and economics seems to have gone worrying about how bad everything was, how good everything might be.

At Hatteras operating metrics continue to be quite strong. We earned net income for the third quarter of 2009 of $45.8 million or $1.26 per share, up from $43.5 million or $1.20 per share for the second quarter of the year. This increase was largely due to growth in average earning assets, which grew by $400 million from $5.9 billion in the second quarter to $6.3 billion in the third quarter along with the continued moderation of short-term rates.

Our portfolio yield for the quarter was 4.57%, falling 14 basis points from 4.71% in the second quarter, as prepayments remained at a similar level as the previous quarter and our new asset purchases were mostly at lower coupon. Our prepayment rate for the quarter was 22.3% on a annualized basis, up slightly from the second quarter rate of 20.9%.

Our cost of funds again fell going from 1.74% in the second quarter to 1.64% in the third quarter, a decrease of 10 basis points as the financing markets continue to ease and competitive pressures on repo increased. Our interest rate spread was basically unchanged at 293 basis points, slight 4 basis point decrease from the second quarter spread of 297 basis points.

As Ben will discuss in a minute, hybrid ARM prices remain strong continuing the direction it had all year. Prices moved up notably in the third quarter, and our book value along with it, ending the quarter at $26.07. This was an increase of $2.17 or 9% since June 30 and $5.72 from $20.35 at December 31, 2008, a 28% increase since the beginning of the year.

The components of our book value at September 30, 2009 on a per share basis are $21.27 of common equity or what I'd call permanent book, $0.16 of undistributed earnings, $5.96 of unrealized gains on our MBS and an unrealized loss of $1.32 on our swaps. This increase in equity makes some of our quarter-over-quarter ratio is difficult to compare as our stated leverage at 6.4 times equity is the same as the previous quarter even though we earn more assets and have more debt.

Because the effect of unrealized gains and losses on our debt equity ratio we've added new item to our statistics table on our earnings release. Better demonstrate earnings power of the portfolio and give a better risk adjusted look at our leverage we're including the debt additional paid in capital ratio. This ratio stood at 7.8 times at the end of the third quarter compared to 7.1 times at the end of the second quarter.

Net result for the quarter was a dividend of $1.15 on a $1.26 of earnings per share. This brings us to a total of $3.30 of dividend for the first nine months of the year and earnings of $3.54. We generated 20.12% return on equity for the third quarter versus last quarter’s number of 20.58%.

I will now turn the call over to Ben for more details regarding the portfolio.

Ben Hough

Thanks, Ken. The trends in the third quarter were for the most part of continuation of Q2 and as Ken said performance was driven primarily by lower funding cost on higher ARMs prices. As always we search for a value and investment securities that we believe will perform best over time.

Given the current environment and our outlook we continue to selectively invest in new production ARMs which we feel are more predictable and allow us to model and hedge more effectively. As we've been doing all year we've been settling most of these purchases forward, booking them at lower dollar prices which will ultimately give us a better yield and book value protection over time even though we forego the interim income.

We're interest rate risk managers and as a long-term investor, we look for the optimal balance between yield, prepayment risk and book value protection. As Michael pointed out even though we have grown the portfolio somewhat we have liquidity and drop out which will be valuable as volatility of the treasuries and agency MBS may present opportunities.

That said in the third quarter we had a 754 million in current phase amount of hybrid ARMs with a weighted average coupon of 4.14, an average price of 102.13 and then average months to reset is 63. After prepayments our total MBS holdings, excluding forward settling purchases were $6.4 billion in current phase on September 30th. The weighted average coupon was 498, the average dollar price was $101.45 and the average date of months to reset was 47.

Looking ahead to forward purchases, we have about 550 million in current phase scheduled to settle in the fourth quarter that once it all settles and excluding any effect of future prepayment, the portfolio will total approximately 6.9 billion in current phase.

Prepayments have trended gradually lower since their peak in July, so while our quarterly prepayment rate had 22.3% was slightly higher than last quarter, it peaked in July at 23.4% and has gradually moved lower since then to about 19% in September and October.

We still expect modest prepayments, but we remain cautious as loan modifications files are on the rise and as the government may continue to look for new ways to help home owners. As long as the borrower has the option to prepay and the government is eyeing the housing and mortgage market we'll stay vigilant on prepayment risk.

On the liability side things have continued to improve. Competition between repo providers has picked up somewhat, forcing rates and even some haircuts lower. Short repo rates averaged about 40 basis points for the quarter and at the moment probably average somewhere between 25 basis points and 30 basis points.

On top of the improvement rate most of those counterparties which previously had haircuts over 5% have come in line with the market average. In the third quarter we had six counterparties reduce haircut, bringing the average at quarter-end to 4.98, down from 5.5 last quarter. It's also worth mentioning that term repo out to 90 days is readily available and we’ll likely take advantage of that for at least a portion of our book over year-end.

As for hedging, we added 200 million in new interest rate swaps in the third quarter with an average rate of 2.2% and 48 months to maturity. This brings our total swaps position to 2.3 billion, which is 38% of our September 30 repo book. The weighted average rate on all swaps is 2.79. The average term is 28 months. When combined with the 400 million we have an extended repo financing we have 45% of our liabilities extended out to an average of 25 months at an average rate of 2.82.

We’ll be looking for opportunities to add new longer date in swaps and also looking to replace maturing swaps, which start coming due for us in 2010. Finally, since September 30th and as of this morning, hybrid ARM prices and swap evaluations are pretty close to the same.

With that I will turn it back over to Michael.

Michael Hough

Okay, thanks. Before questions I would like to mention the controlled equity offering plan or CEO plan we put in place and filed with the SEC in October. We've registered 5 million shares under the plan and counterfeit share will be the sales agent. Since (inaudible) eligible in April of this year we spent a lot of time researching the potential advantages we gained from this type of program.

The CEO plan gives us the ability to sell shares into the normal trading flow on a daily basis at our discretion. However, there is no time limit or requirement for us to do so. We believe it will be a very cost-effective way for us to raise capital when we see opportunities develop in the market.

Our intention though is to use a CEO only when it would be accretive and beneficial to the Company and is just another channel we could use to add value. We've not sold a share yet, we have no immediate plans too. I'd like to say that if we use a larger opportunities in the market this vehicle would most likely not replace the more traditional secondary offerings it work so well for Hatteras to-date.

In conclusion, we are excited about the upcoming quarter and the opportunities that could be presented in the market. We will diligently pursue our strategy as we described it and look for additional ways to add value.

So with that, Operator, we are available to answer questions.

Question-and-Answer Session

Operator

(Operator instructions). The first question we have comes from Mike Widner of Stifel Nicolaus.

Mike Widner – Stifel Nicolaus

Hey, good morning, guys and congratulations on a solid quarter.

Michael Hough

Thank you.

Mike Widner – Stifel Nicolaus

Just one quick question actually, you mentioned kind of extended duration repo, potential they are going forward, I know you didn’t do any of that in the quarter, but you did at a little bit on the swap side, so, just wondering if you could comment a little bit on the relative attractiveness of the two of those, and what you think the opportunity is to hedge out rates a little bit more going forward?

Bill Gibbs

Hey, Mike, it's Bill. As we take a look at it currently it’s still more attractive for us to term out our liabilities by using swaps, the repo when you start getting out into the one-year range and above that gets a little more expensive, so we're going to continue to use swaps at this time.

Mike Widner – Stifel Nicolaus

Okay. And as far as your overall amount of notional swaps and the relatives to the portfolio you guys are a tad bit less than some in the group, swaps that is. Are you feeling pretty comfortable at these levels or the major concern at there of course is at some point next year the Fed starts tightening and rates go up and all that. How do you feel with that and when do you think you might or what would cause you to change your level of extended duration financing?

Michael Hough

Mike, this is Michael. We've been taken a pretty systematic approach to swap in our assets. While we did slightly increase our portfolio, I think we have a proportionately, done the same thing with the hedges and our view still is that we're appropriately hedged for the environment right now, we continue to look for opportunities to increase swaps what we've been doing with swaps as extending the terms of the ones we put on, significantly longer than what we have on the books right now. So I think we're going to have the opportunity to really increase the ultimate term of our entire book and bring the rate down as we head into the fourth quarter and as swap roll off next year.

Mike Widner – Stifel Nicolaus

Great, thanks guys, appreciate the comments. And again, congrats on a great quarter.

Michael Hough

Thanks Mike.

Bill Gibbs

Thanks Mike.

Operator

The next question we have comes from Steve DeLaney with JMP Securities.

Steve DeLaney – JMP Securities

Hi, good morning, guys. Nice quarter. Just two on your comments, the additional color took here most of my questions, but I was wondering, Ben, you gave us the details on which you added in the quarter. Would it be possible for you to comment on this 570 million of unsettled trades sort of the racks the cost basis, months to reset, how that compares to what you're actually booked in the third quarter?

Ben Hough

Sure. That is 550 million or so, that's current phase. The coupon on that was right, I don't have the exact numbers right around 390, dollar price was probably around 102 in a quarter, it'll be close to that. And it's pretty evenly scattered throughout the quarter as far as when they settle. And they're all for the most part of fab ones.

Steve DeLaney – JMP Securities

All fab ones?

Ben Hough

Yes, it's going to have average months to resettle 60 months when they come on. So that's a –

Steve DeLaney – JMP Securities

Yes, so just a little, I mean, just a little higher and like you said it things in September 30th kind of been choppy, but when you get down to the end of it, there's not much movement and it don't look like in the prices and sense.

Ben Hough

Right. We're just trying to stay out of the cash flow and we expect prepayments to probably stay close to where they're now, but we're prepared for them to freezable debt as the modifications have, bios have increased, so that’s basically what we're doing with that.

Steve DeLaney – JMP Securities

And this is general, Ben, or Bill, whoever wants to comment, but I mean, I'm looking at a current settlement for new production fab one and about 103.5, 103.7 in dollar price. If you look at three months for your drop, I mean, is that a bond, I know this is general math, not trying to peg you down, but is that something that you could probably buy, maybe a little over 102.5 and book it with a net yield of about 3.5, is that the ballpark we're looking at now?

Bill Gibbs

I think the yield would be a little bit lower, but I would use probably for something like that around 9 to 10 set drop –

Steve DeLaney – JMP Securities

Got it.

Bill Gibbs

That should be able to get you where we're looking.

Steve DeLaney – JMP Securities

Should be a little lower than that, but it would that kind of dollar price, higher dollar price, a little lower on the yield.

Bill Gibbs

Yes, I would look at around approximately 3.30 to 3.35.

Steve DeLaney – JMP Securities

Okay, that’s very helpful, thanks, Bill. And then one final thing, just looking at your forward production, it sounds like your comments about the buying for trying to get ahead of your portfolio run-off, that take your portfolio at September 30th and like a 23 kind of run-off rate, 23% or something.

It looks like fourth quarter run-off would be somewhere around 375 to 400, so it looks like to me the fair value, that was on the books for unsettled traded there is a little bit in that portfolio growth of say 150 million, 200 million which would modestly take leverage up a little over to 6.4. So I was just wondering if I am looking at that properly.

Ben Hough

Yes, I think that's probably the right, I mean, given where prepayments have come in reasonably and given those numbers, but those numbers do not take into effect in a future prepayment data, so some of them may pay down before they settle, they’re not necessarily all TVA purchases, so.

Steve DeLaney – JMP Securities

Okay, got it. Thanks a lot, that’s very helpful.

Ben Hough

Thanks, Steve.

Operator

The next question we have comes from Bose George of KBW.

Bose George – KBW

Yes, good morning. Just wanted to follow-up on the earlier question to get to sort of the spread. You said the yields on some of those the new purchases are in the 3.25 and using the blended sort of funding mix would suggest is your cost of your funds sort of sub 1%, your incremental cost of funds?

Bill Gibbs

Yes, average yields is about the fund somewhere in the neighborhood of around 80 basis points if we use a blend of about a third swapped out and the balance in shorter term repo.

Bose George – KBW

Okay, great, I can get to it from there. Thanks. And then just the gap for the substitute by forward, what’s the typical gap between when you do and when is settled?

Bill Gibbs

It varies, Bose, but it's going to about two months to three months, probably would be an approximation.

Bose George – KBW

Okay, great. Thanks. And just one thing on the undistributed taxable income that you guys have. I was just wondering where that stands now and you guys planning to carry it over and pay it by the end of by next September. Is that the plan?

Ken Steele

Yes, we'll definitely have it paid out before then. We have for this year we have $0.24 that we've earned this year, we've not distributed. We've some carryover last year due to Lehman that might look from the GAAP basis that is just extreme, but this year we got $0.24.

Bose George – KBW

Okay, great, thanks a lot. Good quarter.

Michael Hough

Thank you, Bose.

Operator

The next question we have from Mr. Matthew Howlett of Fox-Pitt Kelton

Matthew Howlett – Fox-Pitt Kelton

Good morning, guys. Just on the new purchases it seems like you guys are really still going after the or targeting the lower part of the coupon stack, turn coupon market. What are we're seeing change and what could change in order for you to maybe move up in coupon? Would we need to see dollar prices come down in that area? Do you sort of have a target? Or you won't pay over a certain dollar price to purchase something?

Fred Boss

This is Fred. Thanks on that. I think it's on relative basis. We look at coupon, we look at price, we look at OES. I would argue that on a relative basis we're looking at all of those factors and we generally don't try to purchase bonds above the 102, 102.5 threshold, but I don’t think we're not firm there, we'll look at potentially higher dollar prices if we feel that the nature of the ARM asset warrants that. So I would say on a general basis, 102, 102.5 sort of our cap on dollar price.

Matthew Howlett – Fox-Pitt Kelton

Okay, got you. And just on the new issue market, what are you seeing in terms of monthly production on ARMs that supposed to go up, seeing as much space of 10 billion a month next year. Any estimates on that?

Fred Boss

We've seen from the beginning of the year we're in a 0.5 billion to a 1 billion a month range. We're now up to 2 billion to 4 billion a month. We're seeing that steady now for several months. So we do think production will keep ramping up. Obviously, that’s a function of the mortgage curve. That is the ARM rates versus the third year rates. The steep of the curve, the more origination likely there will be an ARM product. But, yes, I think our view and, Bill, you can join in, our view would be that production origination would ramp up at least be consistent with where it is now and possibly higher if the curve steepens and then there is the Fed exiting the third-year MBS market in the end of the first quarter around April. That could put some pressure on the long-end of the mortgage curve that if it steepens would also act to ramp up the ARM origination product.

Matthew Howlett – Fox-Pitt Kelton

Right. Got you. And then just a last question on bios [ph]. Does it really impact you guys as much in terms of your cost basis is so close to par? But have you seen anything in sort of the September month? We have seen some reports that it starting to show up in the speeds and is there anyway to tell on a pool basis where the bios could come in and could you tell by the delinquencies much of you would have that information?

Bill Gibbs

Unfortunately we don't see anything really published in terms of what’s coming out of the payouts or paydowns which is delinquent versus regular bios or people moving. So there is really no good way to look at that on a breakdown standpoint. But I think you could take a look, I don’t think there is any secret that the highest delinquencies are coming in, in 06, 07 production and the IOs, in particular, the higher coupon IOs, and see any definite little bit higher in terms of delinquencies and spread as well. So I think we’re going to try to narrow it down to a degree we’d be looking at the higher coupon 06, 07, IO production, if any.

Matthew Howlett – Fox-Pitt Kelton

Great. Okay. Thank you.

Michael Hough

Thank you, Matt.

Operator

The next question we have comes from Kenneth Bruce of Banc of America.

Kenneth Bruce – Banc of America

Thanks. Good morning.

Michael Hough

Morning, Ken.

Kenneth Bruce – Banc of America

My question really is a little bit more big picture. When you take a step back and, Ben, you had mentioned that you view yourself as interest rate risk managers. That often gets basically quoted as one of the guiding principals behind agency mortgage REIT managers. I guess I have a difficult time understanding what tolerance is your managing to and if you could provide some context or how you think about balancing out the various risks in the market that would be very helpful?

Michael Hough

Ken, good morning, this is Michael. Yes, we always have view ourselves as interest rate risk managers, not credit risk managers, obviously, from the type assets we have, but I think primarily the more appropriate term will be asset liability managers and we are not in this really to trade the market at a time the market we view ourselves as managing the interest rates spread and trying to provide a risk adjusted rate of return on which means eliminating as much volatilities we can understanding that there is always going to be volatility in the market.

From having any fine tolerances I think we have those in our internal management philosophy, in our management style, we're going to focus on book value and our capital position and maintaining our capital position that’s what enables us to earn and I think we have settled our portfolio, right now very well for that, primarily because of our asset durations is a short. And the short duration asset helps us protect that equity position long-term and it helps us maintain our ability to earn. From an earning standpoint it is a byproduct of that. We look at leverage and target leverage where we think it’s appropriate for the current market conditions, we hedge appropriately as well. So from a big picture standpoint I have to say that we start looking at assets, we follow with leverage and then we follow that with hedges.

Kenneth Bruce – Banc of America

Would it be appropriate to say that it’s income generation within a capital preservation strategy?

Michael Hough

I think that’s very appropriate.

Kenneth Bruce – Banc of America

Okay, thank you, that’s helpful. That was my only question.

Michael Hough

Okay.

Operator

The next question we have comes from Ariel Suse [ph], Ladenburg.

Ariel Suse – Ladenburg

Hi, guys, (inaudible), how are you?

Michael Hough

Great.

Ariel Suse – Ladenburg

Maybe even the follow-up on Ken’s question, a second ago, I mean when you look at the leverage and the risk that you see that cause you to have the leverage that you have. How you rank the different parts of it that you talk about, whether it’s the Fed or hard to figure out the proper prices and the sort of prepays I mean what is the most impactful aspect of that to you?

Michael Hough

Well, from a leverage standpoint most important factor is liquidity and that goes back to capital preservation, but we manage our balance sheet primarily of the amount of liquidity we have now. Right now with type of haircuts we have, the type of assets we have, our liquidity position is very high and like we say we have room to grow the portfolio comfortably within our liquidity management.

Today, we look at the market, we look at, at asset prices, we look at the uncertainties and what the impact is going to be from the Fed participation in our market and we look at what the impact could be from future changes and interest rates. And all of that together brings us to the formula basically, if you want to say that too, that we have today. And in the mix of we have shown you in our portfolio in a way we described it to you guys.

Ariel Suse – Ladenburg

In terms of that’s the way you said is just that it's slow prepays regardless of coupon, I mean that in a sense has been further while now, I mean, do you think we get to a new normal where as the risk tolerance has been increasing that, that will stabilize or is that really all over the place, Bill?

Bill Gibbs

Yeah I think you are seeing the prices on these assets on MBS where they are because maybe the market is assuming it’s a new normal lower prepays and that is somewhat taken and enabled the prices to go higher than it have in the past and have higher premiums, but from our standpoint we have been doing this for a long time, we've all been in the MBS business, this doesn’t make sense for us to go out and then try to capture additional yield by paying a premium because we believe long-term that managing the dollar price low like we do is going to enable us to form work a system…

Ariel Suse – Ladenburg

That’s helpful. Thank you so much.

Bill Gibbs

Thank you.

Operator

The next question we have comes from John Sites [ph] of Sterne Agee.

John Sites – Sterne Agee

.Hi, good morning, guys. Thanks for your time. First question just a little housekeeping; I know it’s small on your balance sheet, and no receivable with the nature of that?

Bill Gibbs

It will be in our Q, with a little bit more detail, but it is a no AAA rated note that we purchase from one of our lending counterparties.

John Sites – Sterne Agee

What’s the term on that?

Bill Gibbs

It’s about a year and a half, December of next year and it’s at a 10% rate payable monthly.

Michael Hough

Let me go into a little detail, john. This was a note that we gave with one of our strategic partner South Street Securities. South Street are only AAA rated counterparty and we joined Syndicate, who invested with them, it enabled them to expand their business and grow and operate in this market and it strengthened already strong strategic relationship and then we thought it may though, a lot of sense from our standpoint and we'll definitely rewarded for it.

John Sites – Sterne Agee

Okay. A second ago you were talking about classifying yourselves as asset liability managers; do you guys manage to range on a duration gap, from your asset liability framework?

Michael Hough

Yes we do, and we look at that internally, the difference between the net duration of our asset versus the net duration of our liabilities is the primary driver on how we make internal decisions, it’s not a number that we publish on a regular basis.

John Sites – Sterne Agee

So you have a range in months that you target?

Michael Hough

We’ve targeted when we started Hatteras back in November '07 we were targeting about a year and we gradually brought that in a little bit.

John Sites – Sterne Agee

Okay, so 9 months to 12 months maybe?

Michael Hough

That’s reasonable.

Ben Hough

It’s really more a function of what our outlook is for interest rates. It can be shorter or lower in that, but it’s a function of what we think rates are going.

John Sites – Sterne Agee

Sure. A question about repo, you mentioned current repo rates just have to meet 30 days, 25 to 30 beats, and you also mentioned about going over the calendar flip, what kind of rates you are seeing for that, that 90-day repo right now?

Ben Hough

That’s about an extra four basis points to five basis points depending on counterparty. So we'll be looking somewhere in the neighborhood of 32, 33 basis points.

John Sites – Sterne Agee

Okay. That’s all I got, guys. Great quarter. Thank you.

Michael Hough

Thank you, John.

Operator

We show no further questions at this time. I would like to turn the conference back over to Mr. Michael Hough for any closing remarks. Mr. Hough?

Michael Hough

I just want to say thanks for your interest in our company and for being on this call and we'll forward to talking to you again next quarter. Have a great day.

Operator

Thank you, gentlemen. You also have a great day. The conference is now concluded. Thank you for attending today’s presentation. At this time you may disconnect your lines. Thank you.

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Source: Hatteras Financial Corp. Q3 2009 Earnings Call Transcript
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