Good day, and welcome to the Third Quarter 2021, Annaly Capital Management Earnings Conference Call. All participants will be in a listen-only mode. . 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 Mr. Sean Kensil. Please go ahead.

Good morning, and welcome to the Third Quarter 2021 earnings call for Annaly Capital Management. Any forward-looking statements made during today's call are subject to certain risks and uncertainties, including with respect to COVID-19 impacts, which are outlined in the Risk Factors section in our most recent annual Quarterly SEC filings. Actual events and results may differ materially from these forward-looking statements. We encourage you to read the disclaimer in our earnings release and addition to our quarterly and annual filings. Additionally, the content of this conference call may contain time-sensitive information that is accurate only as of the date hereof. We do not undertake and specifically disclaim any obligation to update or revise this information. During this call, we may present both GAAP and non-GAAP financial measures. A reconciliation of GAAP to non-GAAP measures is included in our earnings release. As a reminder, Annaly, routinely post important information for investors on the Company's website www. annaly.com. Content referenced in today's call can be found in our third quarter 2021 investor presentation and third quarter of 2021 financial supplement, both found under the presentations section of our website, Annaly intends to use our web-page as a means of disclosing material, non-public information for complying with the Company's disclosure obligations under Regulation FD, and to post an update investor presentations and similar materials on a regular basis. Annaly encourages investors, analysts, the media, and other interested parties to monitor the Company's website. In addition to following annually press releases, SEC filings, public conference calls, presentations, webcasts and other information to post from time-to-time on this website. Please also note this event is being recorded. Participants on this morning's call include David Finkelstein, Chief Executive Officer, and Chief Investment Officer, Serena Wolfe. Chief Financial Officer, Ilker Ertas, Head of Securitized Products. Tim Coffey, Chief Credit Officer and Mike Danielle, Head of Residential Credit. And with that, I'll turn the call over to David.

Thank you, Sean. Good morning, everyone and thanks for joining us for our third quarter earnings call. Today, I will provide an overview of the broader market environment, including our thoughts on the federal reserve's reduction in asset purchases, briefly touch on our performance during the quarter. And highlight some of our recent achievements in positioning across our businesses. Ilker will provide more detailed commentary on our agency and residential credit portfolios and Serena will discuss our financial results. And as Sean noted, our other business heads are also here this morning to provide additional context during Q&A. Now, first with respect to the macro landscape, the COVID Delta wave and related factors have led to a moderation in the economic recovery. Labor market gains have slowed relative to the strong pace at the beginning of the summer. Production bottlenecks and global supply chain disruptions have caused delays, the raised prices on products in high demand. And while inflation has been boosted by higher goods in energy prices, record home price appreciation has started to filter into inflation shelter component, suggesting that price pressures may persist for longer than previously anticipated. Meanwhile, interest rate experienced meaningful intra -quarter volatility given the shifting narrative on the economic recovery and inflation. Early in the quarter, rates rally this market sought direction on the magnitude of the impact of the Delta variant. And later in the quarter as a relative reduction in COVID case counts led to a return to economic optimism, rates sold off and the curve steepen in the quarter. Now the greater near-term focus in the macro landscape, however, is the imminent reduction in the of asset purchases. Following the September FOMC meeting, we now have a clear picture as to what the taper will likely look like. That is…

Thank you, David. Against the economic can interest rate drop, David described, agency MBS performed broadly in line with but performance was mixed across to coupons tech. Specifically, lower coupon MBS widened modestly due to continued record supply levels. Fetch taper moving closer, and elevated prepayment speeds. At the same time, higher coupons all per contagious into the retracement of higher interest rates that materialized later in the quarter and emerging signs of prepayment burnout. Our portfolio performance showed the benefits of the barbell strategy. We have discussed in several of our recent earnings call. In third quarter, the out-performance of higher coupons more than offset the widening experienced in the local production coupons. We believe the approach is also efficient in protecting the portfolio from any potential taper induced whitening. As nearly 60% of our agency portfolio consists of non-fed supported coupons. That is 3% and In addition, our specified pool portfolio is more than 45 months seasoned than average, which provides a strong source of durable earnings with minimal duration and convexity risk. Turning to our portfolio activity, we tactically increased our agency portfolio by nearly $3 billion during the quarter, predominantly in lower coupon TBAs to opportunistic redeploy a portion of the proceeds from our previously announced commercial real estate sale. Our purchases consisted of primarily lower coupon TBAs, which exhibited spread-widening earlier in the quarters. We have favorite TBAs over posts in lower coupons due to attractive implied financing rates in the dollar roll market, which remain quite special in the context of negative 30 to 40 basis points financing, and enhanced leverage returns. We expect these favorable conditions to purchase vol into 2022 as the Fed remains a net buyer of MBS throughout the tapers. In addition, the sector offer strongest liquidity should we choose…

Thank you Ilker and good morning everyone. This morning, I'll provide brief financial highlights for the Quarter ended September 30, 2021. consistent with prior quarters, while our earnings release discloses GAAP and non-GAAP earnings metrics. My comments will focus on our non-GAAP EAD and related key performance metrics which exclude PAA. At the risk of repeating myself, I would say that the general themes for this quarter's earnings are consistent with recent quarters. That is, this quarter, we continued to generate strong results from the portfolio benefiting from the continued low interest rates in the funding market, marking another quarter of record low cost of funds and sustained specialists in dollar rolled financing. To set the stage with some summary information, our book value per share was $8.39 for Q3, And we generated earnings available for distribution per share of $0.28. Book value increased primarily due to GAAP net income of 522 million or $0.34 per share, partially offset by the common dividend declaration of 320 million or $0.22 per share. And other comprehensive loss of a 142 million or $0.10 per share on higher rates. The negative impact to our book value from our agency MBS valuations was more than offset by the gains on our swaps, resulting from higher hedge rates and higher mark-to-market valuations on our MFO and ready credit portfolios, which together contributed approximately $0.06 per share to book value during the quarter. Combining our book value performance of the $0.22 common dividend we declared during Q3, our quarterly economic intangible economic returns were both 2.9%. As we take a closer look at the GAAP results, the valuation drivers we mentioned above benefited GAAP results, as we generated GAAP net income for Q3 of $522 million or $0.34 per common share, up from GAAP net loss…

Thank you. We will now begin the question-and-answer session. And at this time, we'll pause momentarily to a similar roster. And the first question will come from Steven DeLaney with JMP Securities. Please go ahead.

Thanks. Good morning, everyone. Given that you have 13 analysts following the Company, I'm just going to ask one question to lead off. David, curious, your quarterly dividend $0.22 has been stable for the past six quarters going back to Q20 after COVID. What does management and the board want to see that would give support to increasing that quarterly payout? Thanks.

Good morning, Steven. It's good to hear from you.

Yes, sir.

So first and foremost, just a backup in terms of how we set the dividend in -- Obviously, our board is -- provide strong guidance on that front. And in conjunction with the board, we look at the overall dividend yield with the earnings outlook looks like, and we want to achieve a competitive yield. And currently, our yield on book value is 10.5%, 10.25% on the actual stock price this morning. In terms of what we want to look for, to increase the yields or increase the dividend, we would need to see, obviously wider asset spreads and better investment opportunity, more durable earnings. We feel good about where earnings are this quarter, and we feel good about covering the dividend into 2022, certainly. But we do recognize that we have out earned the dividend consistently since the second quarter of 2021. And we're comfortable with that. And we're very comparable with where the dividend yield is today. It's certainly competitive with the rest of the market and we're content right here.

Yeah. I would certainly agree that at 10% dividend yield is too high, and then their incomes to catch 22 of what comes first, but we certainly look at 10% and say, they're certainly up side and the stock is that dividend comes down. The credit-oriented names are more in the more in the 8 to 9% and you're certainly adding a good bit of that. Thank you for the comments

Thanks, Steve.

The next question will come from George Bose with KBW, please go ahead

Hey guys, good morning. This is Bose. I just want to ask about the $1.5 billion resi portfolio. Can you just give us some color on that? What are the returns going to be and how much capital is that going to use in the end once that's securitized?

Hey, Bose. Good morning, and I'll start off and then hand it over to Mike. I would separate both loans from securities. We have had an emphasis on growing our loan portfolio and securitizing. The securitized portfolio has grown. But I will say from a return standpoint, the loan to securitization market is more attractive in terms of what we can generate relative to what our securities are currently pricing. Mike, you can jump in here.

Sure, thanks. And I think we ended the quarter 3.2 billion in securities on an economic basis and then $1.1 billion in terms of whole loans. And I think when you think about the conversion of whole loans to securities on Balance Sheet, we're retaining anywhere, I'll say, between 7% to 8%. I will say between $75 million to $80 million to $85 million is what ultimately will be created from that $1.1 billion of whole loans. But to note, we've settled $2.8. billions of whole loans year-to-date, and we ended the quarter were $1.2 billion pipeline. So we remain positioned to continue to go to the securitization markets to the extent that they're open. But I would think about it. Probably 7% to 8% of the whole loan portfolio is ultimately converted to security on Balance Sheet.

Okay, great. And then, the target ROE on that, on a levered basis?

On securitization, we are in the low double-digits right now, Bose.

Okay, great, thanks. And then, on the MSR investment, and how large could that get as a percentage of your capital? And in terms of the yields on the MSR that you are buying, can you just give us some color?

Sure. And as we've talked about both the last two quarters, we would like to get our MSR portfolio up to 10% in capital, but we've also stressed that we're going to be patient in doing so. We're not going to chase returns in the sector. We were happy with the growth that we achieved in the third quarter. But again, it may take time because the market is competitive, but we're finding opportunities, and Ilker can talk a little bit about the terms.

Yes. The purchases that we were buying with the hedge benefit will be very low doubles. But at the current pricing, it will be high-singles. So that's why we reduce our purchases. We reduced our purchase pace recently.

Yeah. I know, we can also distinguish bulk purchases versus flow. Where with flow purchases you can get into the double-digits currently.

Correct.

Okay. Great. Thanks.

Thanks, Bose.

The next question will come from Rick Shane with JPMorgan. Please go ahead.

Thanks everybody for taking my questions this morning. I just wanted to talk a little bit the disparity between actual prepayment speeds in the long-term CPR assumptions fairly wide. I'm curious how we should think about the convergence of that over time and the implications in terms of your reported numbers.

Sure. One of the main reason is the steepness of the curve. For long-term speeds are laid the forwards. And as the curve steepens, like mortgage rate goes up and forward to the speeds goes down. So that's one of the reason. And second reason is the burnout. As the portfolio burns out, speeds will slow down. But curve the bigger reason. If curve flattens, you will see those two numbers approach to each other.

How should -- it does. But at the same time, how should we think about -- ultimately they have to converge at some point. So how do we think about that from a reporting perspective, what we should anticipate and really what the time frame on that convergent should be. I mean, it's we're wider than ten points at this point and that just seems unsustainable. So trying to think about the timeline and the accounting implications.

Yeah. Rick, I'd say there is a consistent catch up that is adjusted on a quarterly basis, number 1. Number 2, let's just look back. I realized the disparity between actuals and long-term projection is quite widen out. But if you go back a few years, when rates were higher, you did have portfolio speeds that were in the low double-digits, very consistent with long term projection. So to the extent rates do normalize, then we're going to ultimately approach those longer-term CBRs if we follow the forward as Ilker suggested, and potentially even through those levels and will average out. But it's all dependent on where actual rates do go out the horizon. the horizon.

Okay. No, certain -- Look, I don't -- I'm not questioning the long-term prepayment speeds, particularly given the burnout that we're all anticipating. I'm just trying to think about what it means if you are persistently above the long-term assumptions because, obviously, what's left has a very low speed, but there's not much of it remaining. And as you replace or reinvest, you could have this situation where you have this persistent gap between the two.

You can look at it this way, though. So as long as prepayment models were accurate, and if we were -- if forwards do not realize and see it, yes, short-term speeds will be higher than the long-term speeds. But through that, then you will get the roll-down benefit on your hedges. So if yield curve does not -- if the forward slope does not materialize, then your hedge costs will never increase as much as the forwards realize. So then, when you look at the spread of the mortgages to the hedges, you are taking the forward roll-down into account. So one may think that okay forward realize then your hedge costs, goes higher, or other may think that forwards are not realized, then your hedge costs will be lower. So as long as what we are modeling or what market is modeling is consistent with where the mortgage rates and where the prepayments are, then those 2 offset -- those 2 effects will offset each other.

Okay. Got it. Thank you, and I've taken a lot of time. I apologize. Thank you guys.

Thanks, Rick.

The next question will come from Eric Hagen with BTIG. Please go ahead.

Hey, good morning, guys. So we know that overnight repo is very plentiful in the treasury market, like you noted. But, can you share where on the term structure repo liquidity is currently most abundant for agency mortgages? And how you expect that could evolve as the Fed begins to taper and more collateral supply gets put onto the market?

Sure. Sure. Good morning. That's a good question. So I'll just give you a quick run of where bilateral repo is right now for a month, it's about 12 basis points, three months, 14, 17, roughly for six months and then in the mid-20s for a year. So obviously we have seen a steepening in the slope of that curve. Now let's look at repo and break it down for clarification. There are two components to repo costs. There's the short rate component or the Fed funds component, if you will.

And then there's the liquidity component, which is the spread of bilateral repo over that short rate. And the way we look at the current environment, what we're most concerned about is the rate component. And we've seen hikes get priced in, acceleration of hikes gets priced into the market as of late. And obviously. that's something we're very focused on. Now, however, when you look at our hedge profile, we're very well covered from that standpoint, $31 billion in 0-to-3-year swaps and 80% hedge ratio at quarter-end, actually a little bit higher than that. Now we're around 84%. So the rate component and the risk associated with short rates going up, we're well covered from. Now the liquidity component, given our days, are about 75 roughly right now. We're not as concerned about that over the very near to intermediate term because of the liquidity in the system We set balance sheet about 8.5, 1.6 trillion in the reverse repo facility at Quarter-end, standing repo facility at the Fed in case there's any destabilization and repo market. So, we're more -- much more focused on hedging the rate component which we have. And we're confident that liquidity out the near term is going to be ample. And so we're not as inclined to pay as much of a premium for term repo, but we're actively looking to find good value in say 6 months to a year repo.

Got it. That's helpful. And then it seems like one of the benefits of moving lower in coupon in the agency portfolio is that the premium risk, like a capital structure, gets reduced or tempered a little bit because you are buying lower price Securities. I mean, would you agree with that? And do you think that changes the way you think about your leverage and the way you guys manage risk and other areas of the portfolio sale?

Just to talk a little bit about premium risk, I'd say it's always a concern of ours, but if you back up to the beginning of the year, it's less of a concern now than it was then because, for example, we had $11 billion higher balance in fixed rate securities in the portfolio largely premiums, obviously. Rates were much lower at the time, so the risk of refi was greater. And then, lastly, and perhaps most importantly, we did experience a bit of a re-pricing of higher coupons in the second quarter. And so, as a consequence of that, premium coupons are priced to very fast speed. So we're always concerned about the premium in the portfolio. Right now, I think it's 27% of our equity balance, which is lower than it's been over the past year certainly. Does it influence our leverage? We do take a holistic approach and what most influences our leverage is the attractiveness and the overall agency market. And also our capital allocation as we've talked about in the past. But generally speaking, we are shifting down in coupon into TBAs, because the carry is better. And TBAs did -- or lower coupons did cheap in a bit relative to higher coupons, both in the third quarter and on a relative basis to higher coupons and touch in the fourth quarter thus far. So again, we take a holistic look at leverage and a specific amount of premium. Obviously has is concerned about about refi risk, but it's generally a bigger picture than that.

Thank you, David.

You bet, Eric.

Our next question will come from Kenneth Lee with RBC Capital Markets. Please go ahead.

Hi, thanks for taking my question. Wondering on a broader level, could you talk about what are you looking specifically for before you start taking a more aggressive approach to leveraging portfolio positioning? Is it just a matter of spread widening in certain assets, or are there any macro considerations? Thanks.

Sure. Good morning, Ken. And look, this also goes back into the first question with respect to the dividend, you know, when we look at the market and landscape right now, we are approaching the Fed tapering and obviously rate hikes a little further out. The horizon is something that we're obviously very focused on. So is now the right time to raise leverage? We don't think so. Asset spreads are relatively tight. We're able to generate what we think to be strong earnings but we will need to see wider spreads, particularly in agency before we did raise leverage. And I'll say that given our liquidity profile, as Serena discussed, and we are at the low-end of the range. We're at the lowest level of leverage that we've been in in over 5 years. So we do have ample opportunities should that eventuality materialized. But if I -- if the market ended the quarter where it is today, and the portfolio looks as it looks today, I'd say we're on that which will be here to slightly lower even. And should spread widened, we will have the capacity to do so, but we do need to see more abundant spreads to take leverage up. What that is, is dependent exactly on what the state of the world is at the time. But generally speaking, it's not a -- we're not inclined to leverage right at the moment.

Got you. Very helpful. And one follow-up if I may, the Private closed and middle-market lending fund. Could you just talk a little bit more about what you see our opportunities in that area over time with the potential for perhaps additional funds. Thanks.

Sure, and look, I think when we look at the middle market business, we have said repeatedly that the returns in that sector are very complementary to the agency portfolio given the low correlation and the team has built a great franchise and has very extensive relationships with private equity that we think And as a consequence, they were able to successfully raise outside capital. And the catalyst was looking through the lens of the Annaly portfolio. We like the business and we very much like the assets, but given the fact that it's a corporate lending and there are limits to the potential growth. And so outside capital certainly solves the issue of enabling that business in that portfolio to further scale. And also it reduces some of the concentration risk of individual position. So we're very happy with the accomplishment of raising the outside capital and to the extent there's more opportunities, we'll see but right now, we feel like we have capacity on the Annaly Balance Sheet to add to the portfolio. And we're happy with how it's performed and Tim, if you can add anything to it by all means.

I think David summed it up beautifully.

Great.

Great. Very helpful. Thanks again.

You bet. Thank you, Ken.

This concludes our question-and-answer session. I would like to turn the conference back over to Mr. David Finkelstein for any closing remarks. Please go ahead.

Thanks, Jeff. And thank you guys for joining us today. Have a good holiday season, and we'll talk to you at the beginning of the year.

The conference has now concluded. Thank you for attending today's presentation. You may now disconnect.