Good morning. My name is Diego and I will be your conference facilitator. At this time, I would like to welcome everyone to Two Harbors' First Quarter 2023 Financial Results Conference Call. All participants will be in a listen-only mode. After the speaker's remarks, there will be a question-and-answer session. I would now like to turn over the call to Maggie Karr.

Good morning, everyone, and welcome to our call to discuss Two Harbors' first quarter 2023 financial results. With me on the call this morning are Bill Greenberg, our President and Chief Executive Officer; Nick Letica, our Chief Investment Officer; and Mary Riskey, our Chief Financial Officer. The earnings press release and presentation associated with today's call have been filed with the SEC and are available on the SEC's website, as well as the Investor Relations page of our website at twoharborsinvestment.com. In our earnings release and presentation, we have provided reconciliation of GAAP to non-GAAP financial measures, and we urge you to review this information in conjunction with today's call. As a reminder, our comments today will include forward-looking statements, which are subject to risks and uncertainties that may cause our results to differ materially from expectations. These are described on Page 2 of the presentation and in our Form 10-K and subsequent reports filed with the SEC. Except as may be required by law, Two Harbors does not update forward-looking statements and disclaims any obligation to do so. I will now turn the call over to Bill.

Thank you, Maggie. Good morning, everyone, and welcome to our first quarter earnings call. This morning, I will provide color on our quarterly performance and the market environments. Mary will provide information around our financial results and Nick will discuss our portfolio activity and positioning. Please turn to Slide 3 for an overview of our quarterly results. Our book value at March 31 was $16.48 per share, representing a negative 3.6% total economic quarterly return. Our book value was impacted by the violent move lower in rates arising from the banking crisis as our portfolio had a slight short duration bias heading into March, consistent with what we disclosed in our fourth quarter earnings call. As more regional bank headlines hit the tapes, rate volatility continued to be elevated, which caused increased hedging costs and mortgage spread widening. Our earnings available for distribution or EAD was $0.09 per share. As we've discussed on prior earnings calls, EAD does not necessarily reflect the earnings potential of our portfolio. For this reason, last quarter, we introduced the metric income excluding market driven value changes or IXM which we believe should better assist our investors and analysts when thinking about our earnings potential. IXM was $0.59 per share for the first quarter representing a 13.3% annualized return on average common equity. This compares to $0.73 per share in the fourth quarter. The change in IXM quarter-over-quarter is mainly the result of timing differences of realized MSR cash flows. This backward looking metric of realized return is meant to be viewed in conjunction with Slide 15, which is our forward-looking and return potential slide. Please turn to Slide 4. After beginning 2023 with two months of relative calm, the financial markets were roiled in early March by the seizure of two regional banks, Silicon…

Thank you, Bill, and good morning, everyone. Please turn to Slide 5. For the first quarter, the company incurred a comprehensive loss of $63.2 million or negative $0.69 per weighted average share. Our book value was $16.48 per share at March 31 compared to $17.72 at December 31, including the $0.60 common dividend, results in a quarterly economic return of negative 3.6%, results primarily reflect mortgage spread widening in March and increased hedging costs. Moving to Slide 6, I'd like to add some detail around IXM. In the first quarter, IXM was $0.59 per share, representing an annualized return of 13.3%. This quarter we refined the calculation of IXM for determining expected price changes to use the realized forwards methodology, which is a change from Q4 when we use the unchanged term structure methodology. Standing on that, the methodology for determining expected price changes may be computed based on either of two commonly assumed scenarios, realized forwards and unchanged term structure. The unchanged term structure methodology assumes that the term structure of the yield curve is unchanged day over day. The realized forwards methodology assumes that rates follow the one-day forwards. Q4 IXM under both methods was a return per weighted average share of $0.73. Quarter-over-quarter, IXM decreased to $0.59 from $0.73, which can almost entirely be attributed to timing differences in the realization of certain MSR cash flows. The service fee that is collected depends on the precise day of the month that borrowers make their mortgage payments. There's also a seasonality component to float income as some of the custodial balances like taxes and insurance are due to be remitted once, twice or 4 times per year. Finally, certain servicing costs also fluctuate from period-to-period, such as non-recoverable advances and interest on escrows. IXM takes into account these…

Thank you, Mary. Please turn to Slide 11. I'd like to focus my opening comments on the supply and demand dynamics for mortgage backed securities, which in our minds is the primary narrative in our market. [indiscernible] shows current coupon spreads since the beginning of last year. Spreads are unquestionably wide with nominal and OAS spreads respectively in the 92nd and 82nd percentile of the long term history generating attractive levered returns in the low to mid-teens as shown in our return potential a few slides forward. Despite these positive signals and a strong belief that over a longer horizon, this time period will be viewed as a great entry point. Our enthusiasm is tempered by the belief that over the short to medium-term, supply is likely to keep mortgage spreads wider than long term averages, and could potentially push them wider than their already generous levels. In fact, we have seen spreads widen into the beginning of this quarter. In addition to $200 million of projected net organic supply for 2023, the FDIC through BlackRock has commenced auction of the asset seeds from Silicon Valley Bank and Signature Bank, which will likely persist for the next six months. Sales of the lower coupon, deep discount, Agency RMBS and CMO positions totaled approximately $85 billion. Inclusive of these sales, other bank selling and Fed pay downs, which are effectively in other form of supply. The total net supply for Agency RMBS is projected to up $500 million for 2023 with the bulk of the supply ahead of us. In an environment where many banks are either on the sidelines or perhaps selling, it will be up to relative value accounts like money managers, REITs and hedge funds to absorb the bulk of the supply. This group of investors typically demands…

Thank you. Ladies and gentlemen, at this time, we will be conducting our question-and-answer session. [Operator Instructions] Our first question comes from Doug Harter with Credit Suisse. Please state your question.

Thanks and good morning. Hoping you could talk a little bit about how you're thinking about when the time might be to want to increase your mortgage basis exposure kind of given your comments that spreads are towards the wider side and kind of what are the factors you'd be looking at?

Good morning, Doug. Thanks very much for the question. As Nick said in his prepared remarks on a fundamental basis, the spreads are certainly attractive there. They are at historical wide levels, but there's just so much out there that we see that tempers our enthusiasm, the banking crisis stuff out there is still ongoing even with the resolution of First Republic. So there's a lot of uncertainty there and of course, we have some debt ceiling stuff coming up this month to be resolved and there's a whole bunch of stuff in the market that seems like, it's not giving the all clear sign and so we're going to wait a little bit to see how that, how that unfolds. As I said with or as Nick said with, with the banks out and with the GSEs out. We think there is, that it's more likely than not that spreads can stay at these levels for quite some time here. And so that's sort of our outlook and that's what we're looking for and we think that suits us fine.

I guess just given that uncertainty, I guess, how would you characterize the risk for further widening versus how much of that's kind of those risks are kind of priced into the market.

Hey, Doug. This is Nick. Yeah, very good question. Something that honestly we grapple with day-in and day-out these days. It's not as though, as we said in the comments where spreads are right now and when you see our return potential it is very, very supportive of our strategy to generate high level of return on income. So, as Bill said, I don't -- we don't feel pressed to increase leverage or exposure given all the uncertainties are ahead of us. And as I said in my comments, we have seen spreads widen since quarter end and that's amidst some technical’s that have not moved in the same direction. For example, longer-term volatility has pretty much moved sideways. We had a strong correlation between those things. Prior to the event in March with the banks and, but since then given the supply concerns we have think seen (ph) spreads kind of widen out in a fairly flat volatility environment. So we're watching it. We'll see where things go, but it's a very hard thing to predict right now.

Okay. Thank you.

Our next question comes from Kenneth Lee with RBC Capital Markets. Please state your question.

Good morning. Thanks for taking my question. Just one on the static returns prospectively, just wondering if I could just get a little bit more thoughts around potential volatility there and what could be sort of the key drivers that you think over the near term that could drive some of that volatility in terms of the static returns there? Thanks.

Hi, Ken. That's great, question. And as you can see, if you compare our -- the range of our assumption -- range of our results compared to this quarter versus last. You can see that we actually have a wider range we did last time, and that is reflective of the volatility we're seeing in the market and the assumptions that go into this analysis and of course, a big component of it is just a spread level in the market, right. So as to the extent that spreads are wider and more volatile, you're going to see a wider variation these numbers, but it takes into account all the assumptions that you would expect in a levered mortgage return obviously prepayments are a big part of it, funding levels are a part of it, all of those things and we feel like this range that we have this quarter that we're giving a $0.50 to $0.69 range does incorporate a wide variation in the underlying assumptions that could drive these numbers.

Got you. Very helpful there. And then just one on the hedging strategy, there were some changes in the book value sensitivity to rates, but just wanted to get a higher level, what's the best way to think about your current hedging strategy? What kind of scenarios are you positioning yourself for? Thanks.

We're really trying to be very balanced right now. We are not – we are trying to be pretty agnostic with regard to direction of rates or curve shape. Just given all the variabilities that are in the market right now and as a path, I think ahead of the, the banking crisis we had in March was probably a little bit more predictable than it is right now, the effects of what the bank crisis will do to the economy and how much work that's actually going to do for the Fed are all things that are -- I think very, very hard to judge. So we're trying to stay pretty neutral across the curve. I think if you look at our exposures they are pretty balanced in, as I said, across the curve and in various curve scenarios, we're trying not to take a strong view on one way or the other.

Gotcha. Very helpful. Thanks again.

Thank you.

Thank you. Our next question comes from Bose George with KBW. Please state your question.

Hey guys. Good morning. Actually just on sticking to Slide 15, as your allocation to MSR increases, does the prospective range of that return go up just as that hedged MSR percentage increases?

Yeah. Well, I think just from -- thanks for the question, Bose. Good morning. Yeah. I think if you look at the top of the Slide 15, the higher the percentage to MSR given the fact that the static return estimates for MSR is higher than that from the RMBS right now that would increase that results, the more than we did that.

And how high could that percentage, the hedged MSR percentage potentially go this year?

Well, we don't have a set number in mind, it depends on market opportunities and such things, we do see value even aside from it being, as we show here a higher static return potential than RMBS. We do think there's value in having some RMBS and RMBS portfolio as a balance here, and so it can go higher, but you're unlikely to see it be 100%.

Okay. Great. And then actually switching, just wanted to ask about book value. Can you just give us an update on book value quarter-to-date?

Yeah. You bet, Bose. So as Nick said during his comments as well as in the Q&A here spreads have been volatile. They've been wider in the month of April. For the first half of the month through the 21, we were rolling down between 1% and 2%, but in the last week of the month with FDIC sales and First Republic noise spreads have been pretty, pretty rocky here and as of Friday, we were down about 4%.

Okay. Great. Thanks for the update.

Thank you.

Our next question comes from Trevor Cranston with JMP Securities. Please state your question.

Hey. Thanks. The question on the float income, you guys talked about earlier in the presentation, a couple of things there I guess. Number one, do you have the average balance of custodial funds was in the first quarter. And also, I was wondering if you could, Mary talked about the seasonal impact of tax payments on float income. I was wondering if you could provide any sort of numbers around the estimated seasonal impact for the first quarter? Thanks.

So, thank you for the question and good morning. We don't have those numbers handy as to what the average balances we can circle back on that. In terms of the seasonality that Mary mentioned some states require interest and escrows (ph), some states don’t, some states require the remittances to be done annually, some are dried semi-annually, some do it monthly and so forth and so that provides a natural seasonality among the states. And the balances that exist between the states between when things need to be remitted and how long you can hold onto it for, so that's a very detailed question, it's not as simple seasonality like we haven't prepayments were slower in winter and faster in summer, it's a more complex shape than that, if you were to grab it.

Okay. Got it. Thank you.

Yeah. Thank you.

Our next question comes from Arren Cyganovich with Citi. Please state your question.

Thanks. Just kind of following up on Doug's earlier question about spreads and when they could potentially tighten. What are the kind of scenarios that would likely lead to tighter spreads. Would it be, would we have to enter into a recession and see generally lower rates and slower kind of growth overall to bring folks back to wanting to get. I guess more demand for RMBS assets.

Hey, Arren. Yeah. Thank you for that question. Look the traditional drivers for tighter mortgage spreads are lower volatility and generally speaking, steeper yield curve in a rally. I mean those are the historically had been the elements to drive spreads tighter. Very interesting market that we're in right now with this, this lack of bank buying and potentially a little bit different response then from the banking community than we've seen. In the past, given the focus on bank portfolios in duration of bank portfolios and what that mean was and then really that's what's driving our comments and belief that we're going to see spreads wider than long term averages for a long period of time. But I think to answer your question, as usual, I think more predictability on the path of rates, the movement of the Fed should drive mortgage spreads tighter and just the passage of time a little bit here as we get through the supply that that is in front of us both from inorganic nature of some of the higher coupon production numbers, which are not like overwhelmingly large, but big and – but large enough in the current market, especially with -- without banks buying and then, the dual effect of this the slug of lower coupon supply that's coming into the market. What I would say is, what has held mortgage spreads in and one of the reasons that we were very optimistic about mortgage spreads earlier in the year has been just the amount of retail flow that's come into fixed income that has been supportive of all fixed income and mortgages and that's flowing through the money manager channel. So, the state of spreads here in many ways is sitting with the money management community and how much they can absorb of the supply that's coming into the market.

Okay. And do you think that whenever the Fed does pivot and provide kind of, instead of a tightening guide path to a, kind of loosening guide path with lower short-term rates. Would that be enough on them to likely lead to tighter spreads as you kind of get away from this inverted yield curve.

I mean, it should be helpful. The one thing that's been set in the market, which I think is an interesting point is that with these sales coming from the FDIC and through BlackRock. There is potentially some market sensitivity to those sale levels and that if rates were alley (ph) and prices go up, it could cause potentially an acceleration of those sales that might temper mortgage performance and that kind of scenario. But overall, I would agree with your -- I would agree assertion that if we see a turnaround and a little bit more predictability, the Fed that should be positive for mortgage spreads.

And then my last question is, Slide 7, you have kind of the listed various GAAP and non-GAAP earnings, which one of these is setting your dividend policy. I fully understand like the IXM is kind of more illustrative of what your earnings power can be, and -- but we're struggling little bit with trying to figure out where we're dividend Mike go relative to the potential earnings power and the actual earnings that you're producing?

Hi, Arren. This is Mary. So we obviously consider several measures and I think that what I would point you to is Slide 15, that is probably the most significant factor in determining where we think return potential is and where we set the dividend.

But in terms of the actual earnings that you have or I mean are you going to be end up like if you produce a quarter like you did this quarter, are you going to be returning capital relative versus actual earnings relative to that distribution.

While the characterization of the dividend depends on taxable income, which is different than all these measures, but I think I would point you to the cash flow information on Page 7, and again we believe the dividend is reflective of the return potential of the portfolio.

Okay. Thank you.

Our next question comes from Eric Hagen with BTIG. Please state your question.

Hey. Thanks. Good morning. Hope all is going well. I think just one from me, when you think about your stock valuation and where you could trade on the near and longer term basis. How does that drive the amount of leverage that you're comfortable running, like, how much more risk do you think you can take it your current valuation and what scenarios do you think you could maybe trade at a higher valuation with higher leverage?

Well, thanks for the question, Eric. Good morning. I would say that we don't really think of the stock price is having an input into the amount of leverage that we run that's really a risk question. We're always trying to have performance so that the returns are -- our high quality returns with an acceptable level of risk and so we're making those decisions based on the existing portfolio and the existing assets and existing book value rather than looking at what the stock price is. We're not trying to link the two in any way. That answers your question.

Okay. That's helpful. Thanks.

Thank you. And our next question comes from Rick Shane with JP Morgan. Please state your question.

Thanks, everybody, and good morning. Hey, Nick. I have some questions on Slide 29, which is the interest rate swaps and swaptions. You had talked a little bit about the hedging strategy during your comments, but can you help me understand what's going on the slide. It looks like a lot of netting trades, but again, I think there's something much more sophisticated going on there than I understand. If you can just help us understand both the interest rate swaps and the swaptions because the notional seem to largely net out?

Yeah. Hey. How are you doing? Thank you for that question. So I don't think it's actually a complicated as you may, as you may be inferring from that slide. As we noted in our prepared remarks, we did move some of our hedges this quarter from futures to swaps and that was really driven by the fact that there were some opportunities with some fairly deeply negative swap spreads to put that trade at levels we thought were effective and to boost our spot carry on our hedges and what we thought was an efficient way. And as said, it's about 30% of our hedged book that moved away from futures. We like to have a mix of those hedging instruments because as markets have moved around with the volatility in the markets and you run into potential about liquidity having both of those instruments at our disposal can be helpful when things are moving around as fast as they are. I think what you're seeing in terms of some of that netting is just the, you're seeing the portfolio activity in the re-hedging that we did, as the quarter progressed rates as you know and we discussed rates moved an epic amount in March and we had put some hedges on earlier on the quarter that we needed to reverse as the market rallied and our portfolio will get shorter. We obviously have to adjust our hedges. So I think that's what you're seeing in those numbers. The interest rate swaps is -- was a small trade we put on to -- for some protection on some rate scenarios and that's what you're looking at on that page.

Got it. Okay. So I heard the initial comment as you saw an opportunity and I assume that opportunity to persistent and what you're saying is that there was an opportunity in terms of the curve that you saw benefited from it and then largely netted that trade out as you move through the quarter.

Well, I wouldn't say we netted it out. We're ending the quarter with us -- we ended the quarter with some of our hedging and swaps. It's just that as we re-hedged through the quarter, some of the initial trades we did. We had to pare down along with other trades because you're -- our hedge book customer move with the duration of our underlying securities.

Okay. Got it. Thank you very much.

Of course. Thank you.

Thank you. There are no further questions at this time, I'll hand the floor back to management for closing remarks.

I want to thank -- thank you all for those good questions. I want to thank you all for taking the time to join us today and thank you as always for your interest in Two Harbors.

Thank you. And with that, we conclude today's conference. All parties may disconnect.