Annaly Capital Management Inc (NLY) 2008 Q1 法說會逐字稿

Good morning, and welcome, ladies and gentlemen, to the first-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 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 1993 and Section 21E of the Securities Exchange Act of 1934. Forward-looking statements which are based on various assumptions, such of which are beyond our control, may be identified by reference or 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 variation on those terms or the negative of those terms. Actual results could differ materially from those set forth in forward-looking statements due to a variety of factors, including, but not limited to, changes in interest rates; changes in yield curves; changes in repayment rates; the availability of mortgage-backed securities for purchase; the availability of financing and if available, the term of any financing; changes in the market value of our assets; changes in business conditions and the general economy; the risk associated with the investment advisory business of FIDAC, including the removal of FIDAC's clients that FIDAC manages, FIDAC's regulatory requirements, and competition in the investment advisory business; changes in governmental regulations affecting our business; and our ability to maintain our classification as a REIT for federal income tax purposes.

For a discussion of the risks and uncertainties which could cause actual results to differ materially from those contained in the forward-looking statements, see "Risk Factors" in our most recent annual report on Form 10-K and all subsequent quarterly reports on Form 10-Q. We will not undertake and specifically disclaim any obligation to publicly release the result of any revisions which may be made to any forward-looking statements to reflect occurrence of anticipated or unanticipated events or circumstances after the date of such statements. I would now like to turn the conference over to Mr. Michael Farrell, Chairman, CEO and President of Annaly Capital Management Inc. Please go ahead, sir.

Thank you, Serena. Good morning, everyone. Welcome to the first-quarter earnings call. I'm joined here today by Wellington Denahan-Norris, our Chief Investment Officer and our Chief Operating Officer; Nick Singh, our General Counsel; Kathryn Fagan, our Chief Financial Officer; and two managing directors, Ron Kazel and Jay Diamond.

As usual, we've got some prepared comments and then we will go into Q&A. The title of this prepared comment is to serve man.

As sands of the twilight zone will recall, to serve man is the tale of the arrival on earth of seemingly kind and generous 9-foot tall human beings from another planet called the Kanamits. These giant aliens arrive in peace, promising only to help humans enjoy a better life. As they share their advanced thinking technology and methods, it's clear that they can quickly solve all the impediments to progress on earth. They eliminate hunger, disease, greed and as a result, the need for war. Even the most skeptical among Earth citizens are converted, particularly after the title of one of the Kanamits' books is translated. After all, the title of the book, "To Serve Man" clearly sets forth the benevolence of their mission.

As the story moves ahead, massive numbers of satiated, complacent citizens of earth begin to line up eagerly to travel onto the alien spaceships to Kanamits' home planet, a virtual risk-free paradise. It's so wonderful there, apparently, that no one ever wants to return to the earth. In the final scene, the remaining skeptical on earth is carried away screaming by the crowd. You see us finally analyze and crack the rest of the code in the alien's book. "To Serve Man" is not a book of instructions on how to assist mankind, rather, it is a cookbook with instructions on how to make our earthlings complacent, fatter, and healthier for slaughtering consumption.

I think it is appropriate to compare this "Twilight Zone" episode with the past several years of credit complacency, financial engineering, and capital markets feeding the global consumers' desire for a better life. In retrospect, the 2002, 2007 credit criteria for underwriting debt could have just as easily arrived from another planet. The cookbook was the computer models designed to financially fatten up the credit cycle by making below investment-grade cash flows suitable for mass consumption, and thereby curing the hunger for a better life with a no-money-down, low-equity lifestyles. Instead of an encoded book, the recipe was locked in inscrutable offering documents, flawed models that were blessed by [over-maturating] agencies, overzealous underwriters, and negligent regulators who didn't understand what the cookbook said. Now that book has decoded, the challenge in these markets is to identify the opportunities left in the wake of the massive repricing of those cash flows.

As the first quarter came to a close, the financial markets got a chance to watch history unveil itself. The Federal Reserve accelerated its sprint to ease balance sheet stress not only at the banking level, but also at the primary dealer level. With the combination of Bear Stearns, J.P. Morgan Chase, the term securities lending facility, the primary dealer credit facility and the slashing of short-term funding rates, the credit markets waddled through a shaky first quarter's end. Indeed, commercial banks were so stuffed with cash at March 31 that they actually began to direct money away from their balance sheets and into competing money market funds.

In the last weeks of March, I believe we witnessed a preview of the new financial world order. We are now firmly set towards the task of reconstructed underwriting criteria that will be the new Sarbanes-Oxley of the debt and structured finance world.

There is a deeply seeded desire for simplicity at every level of banking and investment. This need will be satisfied by our long overdue regulatory updates. Many of today's formulas and calculations were written in the 1930s and only lightly amended or eased over time. This provided numerous chances for financial engineering to push market activities beyond the boundaries of regulatory oversight to the point where we arrived at the wreckage of the last six months.

What does this leave us? We see disarray and dislocation from many levels of mortgage-backed securities, municipal securities, corporate securities, auction rate preferreds, student loans and asset-backed securities. The Federal Reserve and its international counterparts are taking unprecedented steps in providing liquidity to the system.

As evidenced by the experience of cash investors on March 31, the issue is not about liquidity. There is plenty of cash around. It is, however, about counterparty pricing, trust and execution. The global consumer who benefited from the rush to riskless spreads over the past several years will now be paying the price in terms of risk-adjusted spreads as this trust is rebuilt. This is going to take two things. First, a long time. Second, a steep yield curve globally.

Welcome to the planet of the Kanamits. The cookbook has been decoded and is being rewritten. The recipes have been inalterably changed for corporations, consumers, banks and broker-dealers. It is a world where risk premiums have been reintroduced, asset spreads are wider, and as a result, capital is being reallocated.

We describe this world in the February 5 commentary entitled "Welcome to the Keynesian Nightmare." In the reference chart in that paper, we described the crowding out effect that government borrowing will have to provide so that the general economy can re-inflate.

Against this background, all capital allocators are faced with the judgment call of estimating what will be an acceptable rate of return in a world where the primary competitors for capital are federal-level issuers who can liquefy markets at will and can print money simultaneously.

The write-downs and recapitalizations are happening at a faster rate now than ever before in history in the banking sector. A recent J.P. Morgan research paper tallied the total write-downs so far at $300 billion and total capital raised at $200 billion. Every day brings a new announcement of distressed capital raising.

Do you think that these bank risk managers surveying the future courses of their business will be seeking more or less risk? More certainty of principal return or more risk-based returns?

As investors in Japan have learned since 1987, asset deflation is painful and rates of return on government-backed debt are nominally lower than one could ever have imagined 20 years ago. Whether you call it asset deflation or stag-flation, all analysis leads to one compelling desire -- the need for more alpha in portfolios along with the certainty of principal return.

As of March 31, Annaly's cumulative rate of return or total rate of return since its NYSE listing in late 1997 was 291% or 14% on an annual basis. The S&P over that period, by contrast, generated a cumulative total rate of return of 71% or 5.3% annualized. Most of our return in NOI has always come from alpha, our dividend, quarterly dividends where you decide how to compound your returns. Come to think of it, John Maynard Keynes was almost as tall as tall as the Kanamit. He peacefully and benevolently espoused deficit spending and debt capital formation in order to jump-start a recessionary economy. The fact that this theory was adopted and perverted by financial engineers in the private sector as more or less a permanent state of affairs got us into the mess we are in today. Perhaps Keynes's book, the General Theory of Employment, Interest and Money, was more of a cookbook than we ever could have imagined.

With that said, we close out the formal comments and we open ourselves for questions.

(OPERATOR INSTRUCTIONS). Mike Widner, Stifel Nicolaus.

Good quarter. A couple questions that are related here. First one, just looking through your balance sheet, I see a new line item there for reverse repurchase agreements. I'm guessing you guys aren't so flushed with liquidity that you've entered the repo lending business. I was wondering if you could just give us a quick comment on exactly what that is and why it's showing up.

Well, as I said in the opening comments, and this is something that everybody should focus on as to what was really happening in the last three weeks of the first quarter -- commercial banks, large commercial banks, were so flushed with cash that they literally would not take any deposits.

I want everyone to pause and think about that. Because that's exactly the condition of having a flush of liquidity in the system that is not seeking a risk premium. So in essence, what you see during that period is there is plenty of money around and it is being used to support that which is the most clear and transparent to price.

As regards our takes on the inside of the business, I will ask Welly to comment on it.

Yes, we, as we are all fully aware and as we have all witnessed, liquidity was a key asset on anybody's balance sheet. And going through that environment, we felt that it was more prudent to have excess liquidity and it shows up in our cash and cash equivalents and reverse repo. The reverse repo shows that we sold it into the repo market; cash and cash equivalents would show that we sold it into the money markets.

But it's a snapshot in time, going over probably one of the most volatile quarters I think in the history of Wall Street, certainly for some had fared better than others. But we felt that there was no question that having liquidity on your balance sheet was the prudent thing to do.

So I would certainly agree with all of that and appreciate the clarity there. Let me just make sure I understand though what the reverse -- I mean --?

So we basically sell cash and reverse collateral in.

So basically you are a repo lender.

Yes, it's a collateralized loan.

Right. So I guess the thing that concerns us there is that without knowing what the collateral that back that is --

It's 100% AAA collateral. It's a normal course of, you know, if you have excess cash and you don't have a repo that you are paying down, you would go to a dealer and say I will sell you this cash, but you sell them the cash and they give you collateral.

You have a choice. You could sell it unsecured at Fed funds into the banking system or you can sell it secured into the repo markets.

Certainly, I understand the benefits of that. The drawbacks are potentially what happened to the repo lenders that took the AAA-rating collateral from all of the Alt-A lenders and all of the sub-prime lenders before that and Thornburgh more recently.

I would say that you have to live in a world -- in order to understand the world that we look at, you have to live in a world that was pre St. Patrick's Day and post St. Patrick's Day.

And I can assure you, the losses -- the bulk of the losses in the system right now did not come from repo lending.

That is certainly true. I won't disagree with that, but --

Even on Thornburgh or Carlyle or any of the situations out there, the bulk of the problem did not come from the repo market.

I appreciate the clarity on that. Let me just ask some follow-up questions that are related to that, a quick one.

In your written comments, you mentioned that the weighted average yield on assets at quarter end was $536 million. Just wondering if that is -- I'm assuming that that reflects all interest-earning assets, meaning cash and cash equivalents, the repo agreements and the MBS -- and the agency debentures, etc.?

That's correct.

Okay. Because it struck me as a little low. Do you have an indication of what the ending yield would be on the MBS portfolio by itself?

The cash and cash equivalents is only a small portion when compared to the MBS, so it is close to this number. The yield does take into account where our projected interest rates are going to go.

Yes, the weighted average -- the current coupon mortgage is close to 5.5% right now.

Right. And so that was -- I mean for -- I was running a model out with assuming that the MBS yields at the end of the quarter were going to be in the range of 5.5 rather than 14 basis points lower at $536 million.

You have -- remember we do have floating rate, which is tied closer to LIBOR, and LIBOR is roughly around 270, 280 right now.

Right.

So you are blending some return there. We are not 100% fixed-rate here.

I think, Mike, the two things that you should take away from this is that at the -- as you can see at the end of the quarter, there were a number of dynamics. One is, is that we operated at lower amounts of leverage profitably. The second thing is, is that we had a very powerful liquidity position. And on the first month's call back at the end of the fourth quarter in January, essentially what we told people is that we were going to be extremely cautious and prudent going through this quarter because we were concerned about March, being Japanese year end and what we thought would be some more concerns that were being drawn out in the market.

We began to execute that very early in the first quarter. So the result of that is, is that you've got some analysts models had us running $0.51 at 10 to 1 leverage. As you can see, we're running at 8 to 1 leverage during this snapshot. And we have a very powerful liquidity position as a result underneath it, when you take cash and cash equivalents into account and unencumbered securities.

Well, definitely appreciate the color and clarity and wholeheartedly agree. Think you guys are in a great position and glad to see that you pulled through the quarter in what I would consider outstanding shape.

Let me leave you with one final question. The topic of capital raises is one that we get from investors from time to time asking what do we think you guys and really the others in this space are going to do. So would be interested in any comments you have or how you would think about the opportunity to raise capital here and any lessons you may have garnered from the last cycle and sort of what happened that time.

Two things that I would like to draw out of that comment. The first one is, is that, one of the big opportunities that we have been able to take advantage of is the fact that we raised so much money early in the cycle starting in 2006.

So unlike every other financial company that is out in the world today for the most part, our legacy portfolio is extremely powerful; it was all acquired at lower dollar prices and higher yields. So unlike some of the banking counterparts who are having problems with their legacy portfolio, and that's a minus for them, our legacy portfolio is actually a huge plus for us as a result.

The issue of capital raising addresses into the formal comments about the total rate of return that we created in this quarter, describing what we just outlined with you, a very powerful liquidity position, and acting prudently and opportunistically throughout the quarter. As you saw, we took profits where necessary; we added some securities as well; I think speaks to the value that we've embedded overall in the portfolio since 10 years ago. But the net-net is, is that capital raising is an extremely opportunistic thing that we have always been able to do accretively for shareholders, and that's how we view the opportunities in the markets today. I'm sure Welly has got something.

Yes, I just want to say that we are looking at a market where you potentially have very long-running opportunity. I know the Fed kind of indicated yesterday that it would like nothing better than to do no further moves. However, market participants, and I think the bond market has been justified now in its call a couple years ago that we are going to go into probably one of the greatest recessions that we've had in a long time, that this is going to be a long-running situation. And as Mike indicated in his comments, it's going to take time. And the few beneficiaries of that kind of that drop are people like us.

And there's no question that the opportunities are out there. And as always, we will be opportunistic for our shareholders to go ahead and take advantage of them.

There's no question that things have stabilized somewhat. One of the guys on our desk here made somewhat of a flippant comment saying that the credit crisis started with Bear Stearns and ended with Bear Stearns. And now it's basically turned its attention to the economy.

And that's something that is not easily fixed, and the banking system is still wounded, but there is a lot of positive things going on in that arena that make our business much better.

I think, the way we look at the business isn't simply also just from capital raising on the spreads and the long-term opportunities that Welly described. But in the FIDAC umbrella, we continue to be extremely active in that space. We are currently one of the top auction liquidation agents in the CDO space, which we have used our expertise in structuring products and putting that stuff together. We're not doing principal transactions, but we're building a giant database of information about how to use that stuff and to crawl out of it for other participants. So you can continue to see our money advisory business grow as well underneath this.

And I think that all of those cannons are all firing now. We are going at full pace to add incremental value for the shareholders, not only in spread transactions, but in just business transactions in general, business development underneath.

But I feel pretty good that the prudence of the management team in the core mother-ship, as Welly would call it, has helped broaden out the reputation of Annaly across a lot of different sectors. And now we're getting ready to exploit those.

Great. Thank you very much, guys. And again, congratulations on the great quarter.

Steve Delaney, JPM Securities.

So I suppose this is probably directed to Wellington. Your book value came in materially better than we had estimated. It looks -- the swap mark was right in line, and that's the easy side I guess, but MBS looked like you had a positive mark of about $200 million. And I think where we were wrong is we were just way too negative on CMO prices, especially floaters, just because of all the Carlyle color and talk in the markets. Could you maybe just share with us some thoughts about what you saw and the volatility of CMO prices during March and how the assets have recovered to the current time; and also, how the market is treating that paper today in the repo market.

I mean, in general, as LIBOR continues to pull on the downward trend, LIBOR floaters will underperform other things in the market. And spreads would typically widen the lower you go because I think the world is transitioning to paying more attention via the fact that it doesn't have the ability to leverage as much as it used to, to absolute returns over spread returns. And so LIBOR has to compete with that.

With that said, the Carlyle situation, anybody who didn't sell immediately actually did better. There were people that held out. The paper actually moved pretty well.

They have different paper than we do. We tend not to go in as low a cap as some of the newer participants in the market we're involved with. So our assets performed better there.

The other thing is, is a lot of the CMO paper we have are fixed-rate CMOs; which even though widen because there was such a rally in the treasury market, you are still net-net doing okay in those securities.

So I think there's a big misconception that spread widening automatically results in a negative price movement, which is not necessarily the case.

So I guess what I'm gathering is that while there was some volatility, that you have moved much closer to your historical -- or cost basis on that paper.

Yes.

And what -- the floaters, your 10%, what percentage of the portfolio is in fixed CMOs?

You know, we have roughly in total CMOs, which the floaters are included, roughly 30%.

Okay. So maybe another 20%. Okay. Great.

And then just my last question, the leverage of 8.1 at March 31, certainly seems like repo conditions and trading conditions as far as price discovery in the agency market on paper is much better. Can you comment on whether you have taken leverage back up a little bit or at least offer maybe kind of what range in the near term we would look for leverage to be in?

We really want to continue to see. I think the second quarter for all participants needs to be the quarter where there's not a disaster on someone's balance sheet or a disaster in their company. So it's still a time to allow participants to make money, get through the quarter without having to announce these massive write-downs. There is no question that it is positive for us and participants like us to see a Citibank go out and do $4.5 billion.

Sure.

To see that at some point, investors are going to require a return on that equity. And as Mike alluded to, the banks are not going to be getting into the business of massive risk-taking. They just came out of that and it didn't pay off.

So what they are going to do in order to get a return on that money is the least capital intensive, least risk intensive return that they can get. And that falls right into our arena. And we are seeing that as participants take their head out of the rubble and look around and realize that they need to be in business, and realize they need to get a return on all the equity that they are raising, that we are the natural place that they would look -- seek those kinds of returns.

I think that, Steve, if I could just use that question to pose a hypothetical for everyone on the call, not for you, but for everyone on the call, including you, is that the way that we see the market breaking down is into three separate categories.

There are people out there who believe that everything is going back to normal, normal being 2005 kind of levels and backwards in time and that the operations of the markets are all going to be just as they were. Then there's a camp of well, we're just going to muddle through, and that muddling through will have some hiccups along the way with some more credit write-downs, perhaps, and other assets carriers away from mortgages, but we're just going to kind of muddle through.

And then there's the last category, which is the world is changed. It changed on March 17th. It's going to be changed forever going forward. Now, against that backdrop and against the capability of a Company like ours to create a 16.6% annualized total rate of return or return on equity in that environment, all people on this call need to ask themselves which camp do they fall into and what kind of rate of return can they generate. And can they get it out of a company that's going to pay a quarterly dividend when S&P dividends are being slashed and are already below 2%. So I think that's the huge opportunity here, and I think that both in Annaly and FIDAC, we are poised to take advantage of it.

That's great. Very helpful, Mike, and you can just put me down in category three for what it's worth. Thank you both.

All right, Steve. I'm marking that down.

Jason Arnold, RBC Capital Markets.

Great commentary as usual. Mike, in the past you have compared the housing and credit market melt-down to a slow-motion car wreck. So I was wondering if you could share your thoughts on what stage we are at. Are we still in the impact stage or is the car off the road on fire, in the bushes somewhere?

Well, I think the air bags are deploying, which I would say that's the capital cushions, for an analogy. I think the emergency squad, some of the early EMTs got there from the Federal Reserve and they're definitely working on some of the accident victims. But I don't think anybody is fully in the operating room yet. I think a couple of the people have been taken to the operating room and they are being worked on by the surgeons in the form of mergers and acquisitions. So -- but I do think that there are potential other pileups as people are crawling past and as we like to say in New York, sort of slowing down to watch the accident that happened on the other side of the road, right? There's still some of that to go on.

I think it's extremely important to look back at what were saying a few years ago when we were talking about the slow-motion car wreck, is that it's really affected everything from municipal lending to student lending. It's affected the way of life of the average Americans, but they are only beginning to understand the dimensions of that cost right now.

And risk premiums are going to be wide for a while. I think Wellington's long-term opportunity discussed on the first part of the call, extremely accurate. These spreads are staying out there. And the reason they are staying out there is because they overshot on the way down. They've [overshot] on the way back up. So I would say that the crash has happened and there are people that are just looking at the accidents and trying to figure out how to take advantage of it. But there are still people that were involved in the accident being worked on. And I think it will be more M&A and more discussion about write-downs. Because until you have floor under housing, which we wrote about I guess in 2004, you are not going to be able to get stable cash flows out of no-nagency paper. All of the new stuff is working great, but there's huge opportunities in the mortgage arena as a result, and literally, $2 trillion to $3 trillion worth of capable financing has been taken away from that market and is now being socialized. So that is a big change and that points to I think my third category in the previous call.

I'm in that third camp as well.

I'm marking you down.

Great. And I was wondering if you could also share your thoughts on where directionally you think the long end of the curve is going really over the near term?

I think it is stagnant. It's going to be stuck in a trading range; inflation premiums are going to be built into the longer end of the curve. The way I view yesterday's announcement from the Federal Reserve is that the bond market told you everything you needed to know and so did the stock market tell you that the markets -- the bond market rallied and the stock market sold off on 150 points in about an hour.

So, the market participants are speaking with their dollars and they're saying that maybe we are pausing at 2%, but we're not sure that we're done yet. And long-term rates, that's where inflation premiums get built in. If there is inflation in the system, which I seriously think is not the issue, I think it is asset deflation across the entire system, then those rates are going to stay up there for a while. You might get [flex] the quality. You might get those back at 50 basis points, 20 basis points. But the Fed has done an excellent job here. I can't speak highly enough of the work that is being done at the Federal Reserve in terms of reacting to this. They've done an excellent job.

There's tremendous opportunity as the market tries to figure out that inflation component. But there's opportunity for people like us as the long end of the curve moves around.

Fantastic. And then just one other quick item. I was wondering if you could give us the average paid fixed-rate on your swaps right now.

Yes, the pay rate is 490 and the received rates is at 285.

Excellent. Very good. Thank you guys so much.

Don Fandetti, Citi.

I have a quick question. Obviously, it's early to be talking about a Fed tightening cycle, but do you think your Company is better positioned today than let's say the last cycle? And do you plan on using any hedging instruments or would you just do your organic hedge?

We -- our swap, just so you know, in the last tightening cycle, we did not have swaps on.

I would say as a group, we're much better prepared because of the things that we have changed in the market over time to prepare for a tightening, whether the market tightens as it is doing in the LIBOR side, or if it is the central banks tightening.

I think the bigger issue is now is that you're going to have the BOE and the ECB and perhaps even the Japanese banks all beginning to ease in order to get their currencies back in line with the U.S. as this thing drags out.

So I would assume your sort of view is that the Fed is either on hold or cutting, and that any type of tightening is far off at this point?

Don, you always want to buy insurance when it's the cheapest. And you will leave money on the table to do that. So we are fully aware that whether the Fed needs to react to inflation via a tightening or not, the market -- we have to be prepared to deal with the market fallout of that. So I think the portfolio is in so much better position to be able to deal with that than it was prior to 2004.

You can't wait for the headlines in order to be prepared for that. I think for people who listen carefully to what we said on the fourth-quarter call, in the Q&A, is that we described March pretty accurately in January. We thought that the first quarter would be a tough quarter for financials, maybe a bottoming effect; but it was the first Japanese year end during the credit crunch and that we thought there would be some dislocations and we wanted to be prepared for it. One of the ways that we prepared for it was that leaving money on the table, we brought a lot of our book over quarter end early in the quarter in January and February when things were pretty quiet. And then, of course, in March, that looked tremendous because we had already rolled over quarter end before the Bear Stearns debacle and the J.P. Morgan bailout etc.

So I think that you have to look ahead here, but the barbell has worked extremely well because it's market-based. And people are paying us to interpret the tea leaves and the cash flows of these mortgages. And really they teach us a lot about consumer activity. Consumer activity is such a large piece of GDP that it can send you warning signs early. And we're not going to give all those warning signs on any call. But it's part of our morning discussion here every day.

Okay, thanks.

Bose George, KBW.

A couple of things. First, actually I was wondering what kind of spreads you are seeing on new investments and can you just break that out in terms of repo funded or stuff where you are terming out your liabilities?

You are anywhere between -- if you are swapping it out, you might be 150; to repo funding, you might be 225, 250, depending on what you're doing.

Okay. Great. And then, just switching to, at the end of the fourth quarter, you had about $6.5 billion of structured repo. And I was wondering if that number has changed much, and just, can you talk about the general funding benefit on structured repo versus similar swaps.

It's changed a little bit. But the number I think is around 7.

The structured repo is actually -- and a lot of times it's much easier. You don't have to do hedge accounting on stuff like that and there's no marked-to-market or very little.

Is the funding benefit pretty minor or is it --?

No, you actually -- a lot of times you can get better than what you can do.

In cash.

In swap market.

The LIBOR curve, as people make their own estimations of central bank activity, we, because of the size and track record of the Company, we were able to execute some brilliant trades on our liability desk well below Fed funds during that quarter as people were making bed in the far end of the LIBOR curve.

So we had three very powerful aspects available to us during the quarter. One was that we were getting back in immense amount of P&I every month, providing us with our own liquidity to do things and keep ourselves within a primer to take advantage of dislocations in the market.

The second thing is we had access to longer-term repo, so we could go out and set up a lot of that structure ourselves, in effect, ease before the markets began to ease.

And then lastly, with those two things in mind, as we were taking amortization and reinvesting it into the market, we could buy larger assets as a result. And all of those three has worked very strongly from a fundamental point of view.

Great. And then just one more question on the liability side. Where are you currently rolling repo?

If you are doing new stuff today, you are on open anywhere between 2%, 2.20%. One month you might be 2.25% to 2.50% depending on the counterparty.

Great. Thanks a lot.

Jason Deleeuw, Piper Jaffray.

Thank you, and I just want to congratulate you on a solid quarter in a turbulent market. I think a 16% return on equity is very good in these times.

Thank you.

Thank you.

And just looking at the credit market sentiment at least has seemed to have gotten -- to stop getting worse, stabilize, maybe somewhat improve I guess depending on what camp you are in. But it seems like short-term LIBOR is elevated from where you would expect it to be. And I was just wondering if you could comment on that.

European banks are still unveiling their problems.

LIBOR is the credit rate. There is no saying -- LIBOR is an uncollateralized loan.

Like Fed funds.

It's telling you that there are still strains in the system. This is probably the first time that the LIBOR market has really been through a global credit crunch in the banking system, even in the early '90s, which the Eurodollar market was not nearly as developed as it is today, it was really more of a thrift problem, even though you could throw a couple of large banks in there. But today, it's pretty much a widespread problem that is still manifesting itself in LIBOR.

There is nothing that says that it's broken. It's telling you what is going on. It may be the new norm. You don't know. You can -- there's benefits to it and depending on where you are.

But for someone like us, our swaps are doing better. If LIBOR stays elevated relative to repo, we pick up from that.

The European banks from our point of view, not so much with the multinational banks, but many of the other European banks, a lot of their liability structure was not built around deposits. It's built around structured investment vehicles and things like that, that obviously have been subject to the most distress. So as you have that stuff still unwinding and still struggling to identify cash flows, I think this LIBOR, Fed funds thing can become a powerful element to discerning risk in the markets.

And I've never seen it like this before, but we've discussed this -- we discussed this two years ago on a call. I was looking at notes last night about this could be one of the outcomes where LIBOR bifurcates away from Fed funds because the European banks basically don't have the same kind of financial structure that the U.S. banks have.

Thank you very much.

Armu Ansuleaner (sic), [36] Capital Group.

That's [Amaru Almanaseer]. Was actually, wanted to ask a little bit more about the financing side as well. What was the average -- weighted average life of your outstanding repo?

it's 229 days.

229 days. So I mean basically, I'm trying to understand how cost of funds is going to move going forward. If the interest rate structure is relatively flat for 229 days, can we expect the cost of funds to approach -- I guess Fed would be average. And going forward, if the interest rate structure is relatively flat, basically, and repo rolls off, we can expect cost of funds to just -- is it kind of like a straight line?

All else being equal, you should see a continued improvement in it, our cost of funds.

Okay, great. Yes, everything else was taken care of. I also just want to add that I really appreciate the statement mid-quarter just updating the situation. That really made it easier to sleep that night. so thank you for that.

Thank you.

Richard [Sloan], [HNR] Realty.

Mike, first, compliments on a very creative opening presentation. When I first clicked on, I thought perhaps I dialed in a call on a preview of a Star Wars movie. But on a serious note, I, too, am interested in your cost of funds. I see it went from 493 average on December to 385 at the end of March. You indicated, I thought you just said, that the new repo rate was running at around 220. Where would you put the average cost right now?

We don't project that. What we tried to say to people on the first quarter -- rather in January's call for the fourth quarter, is that we can be opportunistic because of our size and because of our asset classes in taking advantage of forward-looking LIBOR markets.

And the result is, is that during the quarter, while the Fed was still at higher rates in January than they were during the course of what began to explode over February and March, we were actually taking our counterparties and taking them out over the quarter end pretty aggressively, beginning early in the quarter; which means that our overall cost of funds and the total rate of return and the leverage ratios and the liquidity that you see here all reflect leaving money on the table during that period in order to make sure that the Company was well funded and liquid over that quarter end.

So you see this aberration where it looks like perhaps, if I was an analyst looking at the Company, I would say well I had my model at 10 to one at $0.51 but they came in at 8 to 1 at $0.51 and they had a lot more cash and cash equivalents on the balance sheet as a result, and their cost of funds is slightly higher than what I thought it was going to be. The answer is that was all part of the operating plan for going into the credit crunch.

So the results are that we are rolling off that repo today; sequentially we are rolling into lower rates, and now we're taking advantage of them.

One thing I want to just clarify is the forward repo market is not being opportunistic right now. So it's not presenting us the opportunities that we saw in the first quarter from an inverted repo curve. You -- the repo market now is somewhat stable in the shape of its curve. And the rates that I had quoted to you are new open rates after the Fed easing yesterday, so --

Okay. Could you just give me a little more information about the composition of the repo lenders? Are you dealing firstly with roughly how many and are they the same lenders that you have had in the past? What is happening on (multiple speakers)?

Yes. We have roughly 30 to 35 lenders. They are -- they have roughly been the same lenders we have had for years. We have a couple of new ones. Obviously, the Bear Stearns J.P. Morgan situation, you know, you -- there are always times where one of your lenders goes by the wayside. However, we were underutilized in the bigger balance sheet there, so the whole thing could actually work out nicely for us. But, we have concentration limits. We don't go greater than 30% with any one guy; and we roughly maintain about, I think our biggest is maybe 10% of the book. And that is by design, so --.

And we added a couple of new lenders during the course of the -- early in this quarter.

And we do have relationships directly with money funds as well.

Thank you very much.

Brock Vandervliet, Galleon Group.

It's actually Brock Vandervliet at Galleon. If you could one, talk about the haircuts on repo, my favorite question. And also, just how that may link in with how you are thinking about levering the balance sheet at this point.

I think the way that I would characterize it, Brock, is that what happens to haircuts in the agency space, for the most part, was not something we hadn't seen before in our operating history across Annaly and FIDAC. And in fact, when we built out this leverage range, of 8 to 12 to 1 debt-to-equity it was based off of a lot of experience gained in the 1990s, the early 1990s, about how to run high net worth money on a levered transaction in agency securities.

You know, the Federal Reserve is now I think creating standards, as you saw in their press releases about where haircuts are going to be. The fact is, is it leaves you with a lot more unencumbered securities on your balance sheet the lower the haircuts go; but you always need to be prepared for changes in haircuts. It's the one thing you can't hedge out in terms of lending rates.

And I would characterize the following, is that the one important lesson that the regulators learned over the past six months and that the markets learned over the past six months is that when lenders tried to widen out haircuts on agency securities that were liquid, that in fact, that said more about the lenders than it did about the assets or the borrowers. And it triggered the kinds of I think reforms and investigations that you are going to see going into the repo markets.

You saw, there was a press release last week about Thornburgh. That the first time in my career where I have seen the SEC go in and look at haircuts and margin calls on repo positions.

So I would say that there's a new sheriff on the job and that sheriff is pretty serious and he can take a lot of action in here and haircuts I think are stabilizing as a result of that. So where people tried to move haircuts out on us, we took our collateral back, and we put it into other places. So that's kind of where it is all falling out. The haircuts reflect -- lenders can create liquidity for themselves. If they are trying to go after 20 points on agency collateral, that's telling you that they are in trouble, but not the borrower is in trouble.

And as those come in, would you, all else equal, tend to dial up the leverage somewhat?

We're going to be opportunistic. You know, it's 16.6% with all the metrics of what we described. Where else are you going to get that rate of return?

Brock, we are --

Which camp do you go into? (multiple speakers)

Yes. We are constantly assessing the situation. There's no question that as the banking system continues to recapitalize itself, and not knock out all that new capital with more write-downs, it's a positive for the backdrop of what we do. Haircuts right now you are anywhere from 3 to 5 on pass-throughs and 5 to 7 on CMOS, which is expected. And I think as -- and we have a tremendous liquidity cushion to deal with any further changes that we may see. There's no question that after the Bear Stearns, J.P. Morgan bailout, that everything stabilized. It really did stabilize.

And whether the cop on the beat was the one who laid the law down, there's no question that it's certainly a more predictable, stabler operating environment. And we will continue to assess whether it remains so before we make changes or significant changes in the way the balance sheet looks right now.

Thanks. Great color.

Dale Benson, Wells Capital Management.

Thank you. I just had one question that just kind of puzzled me a little bit. I know that during the first quarter, Fannie and Freddie, 5.5s, traded pretty much below par. In fact, in mid-March I bought them for a client at less than 99 and now they are par and a half. But you point out that your net premiums remaining unamortized virtually doubled from December 31 from $195 million to $383 million. And that would suggest that you bought a lot of assets at premiums. I'm kind of curious, can you kind of give us some additional color in that?

We will go across the coupon spectrum. And, again, I'm not going to give as much detail because there's always the possibility that people are listening that are not investors.

You're also always looking at year-to-year numbers and --

No, I'm talking about $283.3 million for the March period, but $195 million at December.

That was March '07.

I'm sorry. I'm sorry. I misread that. Yes, you are about flat for the quarter. I apologize. Yes.

What are you doing to me, Dale? Come on.

Just looking at the numbers.

I will take all of your 5.5s at 99 right now.

No, they are no longer there. They are par and a half or better than that.

Okay. You better tell that to the other newbie REITs that are being launched too.

And Dale, I don't think it's a good idea when people overly focus on the dollar price as a premium, because there's risk by not having any premium and there's risk by having it, and you just try and balance that. And what we try and do is look at the landscape before us and take advantage of what we see as the best set of cash flows in any environment.

Well, that's exactly right. It's cash versus GAAP. Thank you anyway.

Stephen Laws, Deutsche Bank.

You guys have hit on most everything, but two questions. Is there any way you could kind of break out the kind of traditional FIDAC versus Chimera contribution on management fees there to give us a comparison?

I don't break them out typically. You do know that Chimera was outstanding for the Company for the entire quarter, and it was not last quarter. So that's the only thing I can mention.

Okay. And then, I guess from a higher level, from a capacity standpoint, you guys have grown quite a bit. And I realize the asset class you're investing is huge, so I want to touch more on the liability side. Is there a point that you get to where you have difficulty increasing your repo capacities because the counterparty wants to limit some type of exposure to an individual company? Or can you talk about capacity there, how much more could you grow, given you've continued to raise capital and unexpected to opportunistically do it going forward. Are there any issues there?

Well, I want to talk to that in broad terms so that people can really have the framework of the way that we're thinking about it, Steve, if I may.

That would be great.

This is a broad discussion and it's not specific to the asset class, which is only $5 trillion or so.

From the period 2002, 2001 to 2007, we and everybody else were competing in the markets on the liability side against structured investment vehicles, asset-backed commercial paper, auction rate preferred structures, all of the different financially engineered CDOs that were out there and CLOs that were out there for liability structures in the world, globally.

Now, if you listen carefully to that list, a lot of those assets and the ability to create them no longer exist. Therefore, you have conditions that are right for what we saw at the end of March, which I think needs to be heard again and again; that the commercial banks, the large commercial banks are so stuffed with cash, the mattresses were so stuffed with cash that they refused deposits. We need to all think about that.

What that's telling you is that there is a growing pool of capital that needs collateral. And the collateral that will be needed is price-transparent Fed-wireable collateral that has very low beta risk for the lenders. That's the business that the banks are going to get back into first in a large way. That's the opportunity for the sector. That's the opportunity for Annaly.

And then simultaneously, you have a $5 trillion mortgage sector that because of the lack of housing activity, is not growing anymore. It's actually amortizing down for the first time in my career.

We need to understand those fundamentals; it's a very powerful fundamental. So you have all of these things going on. And I think it speaks to the prudence and the caution that we exhibited over the past two years and definitely showed on this earnings release about what the opportunities are that are out there. And the results are, as Welly said, this is a longer-term kind of opportunity. The spreads and the risk spreads probably stay a little wide so you can be really opportunistic and you have the ability to be selective about how you enter the market and issue and retire equity and also do the same on the liability side.

So you have had a lot of buying power added to this market in the past several weeks as all these Fed changes and regulatory changes at OFHEO and Fannie and Freddie and FHA have taken place. But we all have to come to the realization that the mortgage market is shrinking just like the house prices are shrinking.

Great. I appreciate the color.

Matthew Howlett, Fox-Pitt Kelton.

Thanks for taking my question. Mike, just an update on Fannie and Freddie. Do you think that the potentially, they are through the worst of it; some of their forward purchases in March were up. Could they potentially be in the market significantly at some time in the future?

I think the first aspect that they're going to go through are capital raises. I think that they are going to raise money. I think their leverage fell over the five-year period that we just described from 77 to 1 debt-to-equity down to 18 to 1 debt-to-equity.

They have the capability to be extremely powerful partners. I was listening to Hank Paulson last night in an interview, where he said the exact opposite of what the Bush administration had been tainting Fannie and Freddie for five years. He has now made the commitment I think and also the administration and Congress has made the commitment that Fannie and Freddie are huge parts of the solution. They are no longer parts of the problem.

So I expect to see the gloves taken off there, Fannie and Freddie to be much more opportunistic going forward. But I think the first level will be going through raising capital and getting their balance sheets much more powerfully situated to take advantage of any falling credit issues that they might have. Their credit tail is really what the issue is now.

It's interesting from my perspective that the jumbo loans that they are taking on the securitization model right now, for the most part are post summer 2007 loans. So they are taking really great collateralized stuff, which gives them a great credit tail story in my mind.

Great. Do you see them really as a -- any threat to tightening spreads, maybe on the floater side or the hybrid side, or do you think it's just sort of too far out to see them as sort of a tightening spread driver here in the future?

I just think the fundamentals are pretty powerful in favor of agency securities in general, both from the funding side and also from the fact that the market is not going to grow. If you -- there was a time in my life where Fannie Mae and Freddie Mac were positioned, especially in the late '80s, the early '90s, where they were going to own every piece of real estate and secure every piece of real estate between Texas and Alaska. That's not the case. That proved not be the case because you had all these new products that come in with lower underwriting standards. Fannie and Freddie really missed most of the bubble because they did not dilute their standards. They weren't allowed to, by OFHEO in effect, or Congress.

But spreads have gotten pretty tight overtime. Going into the early '90s, I can remember collateral trading at 75 off, as all the fundamentals kicked in, post the blowup in the RTC and the recapitalization of the banking sector back then. And during March, we saw them at 260 off. So, I think that they could be volatile, but that the fundamentals are in favor of spread tightening here.

Great. Thank you.

Justin Bates, Daniel Stewart.

I think you have more than answered this question, but I was just trying to read into the message that you are perhaps giving us on the dividend payout ratio. And I think the comments you made about returns being higher, gearing being lower is, correct me if I'm wrong here, is pointing to a healthier payout ratio going forward. Is that correct?

There is always that potential, Justin.

Absolutely potential to do that.

Great, thank you.

John Barrett, Trafelet.

I had a question for you on the repo side. I know that you said that you made the right move and moved a lot of repo over quarter end. Could you quantify how much that was, ballpark, and how much of an impact that may have had?

We're not going to do that, John, but I will just say it was substantial.

And I also just want to just basically say that our financing debt did a tremendous job. And I would like all the investors to know that these guys are some of the best out there, if not the best out there in navigating this market.

Great. That was it. Thanks, guys.

At this time, we have no further questions in queue. I would now like to turn the conference back to Mr. Farrell for closing remarks.

Thank you. In closing, I would like to congratulate Welly and the team here about the job that was executed over the past year in terms of identifying the opportunities and taking advantage of them for the benefit of the shareholders. And I think that the message is clear that as people think about what their returns need to be for 2008 and 2009, they have to consider those three terms of whether or not they are in the camp of things are going to be better, we are going to muddle through, or we are in a new paradigm.

And as you think about those things, we would love to hear those comments and we would love to be engaged in discussions about them to make sure that our thoughts are correct in that matter.

With that said, we look forward to seeing you in July at the second quarter's earnings call and we thank you all for your time today.

Ladies and gentlemen, if you wish to access the replay for this call, you may do so by dialing 888-286-8010 or 617-801-6888 with an ID number of 26909379.

This concludes our conference for today. Thank you for participating and have a nice day. All parties may now disconnect.

NOTE - This transcript has not been reviewed or approved by Annaly Capital Management, Inc.