News Column

MFA FINANCIAL, INC. - 10-K - Management's Discussion and Analysis of Financial Condition and Results of Operations.

February 13, 2014

The following discussion should be read in conjunction with our financial statements and accompanying notes included in Item 8 of this Annual Report on Form 10-K.

GENERAL We are a REIT primarily engaged in the business of investing, on a leveraged basis, in residential Agency MBS and Non-Agency MBS. Our principal business objective is to generate net income for distribution to our stockholders resulting from the difference between the interest and other income we earn on our investments and the interest expense we pay on the borrowings that we use to finance our leveraged investments and our operating costs. At December 31, 2013, we had total assets of approximately $12.472 billion, of which $11.371 billion, or 91.2%, represented our MBS portfolio. At such date, our MBS portfolio was comprised of $6.519 billion of Agency MBS and $4.852 billion of Non-Agency MBS. Our remaining investment-related assets were primarily comprised of cash and cash equivalents, restricted cash, collateral obtained in connection with reverse repurchase agreements, derivative instruments and MBS-related receivables. The results of our business operations are affected by a number of factors, many of which are beyond our control, and primarily depend on, among other things, the level of our net interest income, the market value of our assets, the supply and demand for MBS in the marketplace, the terms and availability of adequate financing, general economic and real estate conditions (both on a national and local level), the impact of government actions in the real estate and mortgage sector, and the credit performance of our Non-Agency MBS. Our net interest income varies primarily as a result of changes in interest rates, the slope of the yield curve (i.e., the differential between long-term and short-term interest rates), borrowing costs (i.e., our interest expense) and prepayment speeds on our MBS, the behavior of which involves various risks and uncertainties. Interest rates and conditional prepayment rates (or CPRs) (which measure the amount of unscheduled principal prepayment on a bond as a percentage of the bond balance), vary according to the type of investment, conditions in the financial markets, competition and other factors, none of which can be predicted with any certainty. With respect to our business operations, increases in interest rates, in general, may over time cause: (i) the interest expense associated with our borrowings to increase; (ii) the value of our MBS portfolio and, correspondingly, our stockholders' equity to decline; (iii) coupons on our ARM-MBS to reset, on a delayed basis, to higher interest rates; (iv) prepayments on our MBS to decline, thereby slowing the amortization of our MBS purchase premiums and the accretion of our purchase discounts; and (v) the value of our derivative instruments and, correspondingly, our stockholders' equity to increase. Conversely, decreases in interest rates, in general, may over time cause: (i) the interest expense associated with our borrowings to decrease; (ii) the value of our MBS portfolio and, correspondingly, our stockholders' equity to increase; (iii) coupons on our ARM-MBS to reset, on a delayed basis, to lower interest rates; (iv) prepayments on our MBS to increase, thereby accelerating the amortization of our MBS purchase premiums and the accretion of our purchase discounts; and (v) the value of our derivative instruments and, correspondingly, our stockholders' equity to decrease. In addition, our borrowing costs and credit lines are further affected by the type of collateral we pledge and general conditions in the credit market. We are exposed to credit risk in our Non-Agency MBS portfolio, generally meaning that we are subject to credit losses in our Non-Agency MBS portfolio that correspond to the risk of delinquency, default and foreclosure on the real estate collateralizing our Non-Agency MBS. In particular, we have significantly higher exposure in our Non-Agency MBS portfolio in California, Florida, New York, Virginia and Maryland. We believe the discounted purchase prices paid on certain of our Non-Agency MBS effectively mitigates our risk of loss in the event, as we expect on most, that we receive less than 100% of the par value of these securities. Our Non-Agency MBS investment process involves analysis focused primarily on quantifying and pricing credit risk. Interest income on Non-Agency MBS purchased at a significant discount is recorded at an effective yield, based on management's estimate of expected cash flows from each security, which estimate is based on our observation of current information and events and includes assumptions related to fluctuations in interest rates, prepayment speeds and the timing and amount of credit losses. 28



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The table below presents the composition of our MBS portfolios with respect to repricing characteristics as of December 31, 2013:

December 31, 2013 Agency MBS Non-Agency MBS Total Percent Underlying Mortgages Fair Value (1) Fair Value (2) (3) MBS (1) of Total (In Thousands) Hybrids in contractual fixed-rate period $ 2,918,806 $ 1,008,794 $ 3,927,600 34.5 % Hybrids in adjustable period 1,039,768 2,310,169 3,349,937 29.5 15-year fixed rate 2,460,066 12,906 2,472,972 21.8 Greater than 15-year fixed rate - 1,432,639 1,432,639 12.6 Floaters 99,461 83,740 183,201 1.6 Total $ 6,518,101 $ 4,848,248 $ 11,366,349 100.0 % (1) Does not include principal receivable in the amount of $1.1 million. (2) Does not reflect $130.8 million of Non-Agency MBS underlying our Linked Transactions. (3) Does not reflect $3.9 million of Non-Agency MBS, which is a re-performing deal with both fixed rate and hybrid re-performing loans. As of December 31, 2013, approximately $7.833 billion, or 68.9%, of our MBS portfolio was in its contractual fixed-rate period or were fixed-rate MBS and approximately $3.533 billion, or 31.1%, was in its contractual adjustable-rate period, or were floating rate MBS. Our ARM-MBS in their contractual adjustable-rate period primarily include MBS collateralized by Hybrids for which the initial fixed-rate period has elapsed, such that the interest rate will typically adjust on an annual or semiannual basis. In addition, at December 31, 2013, we had $183.2 million, or 1.6%, of MBS with interest rates that reset monthly. Premiums arise when we acquire MBS at a price in excess of the principal balance of the mortgages securing such MBS (i.e., par value). Conversely, discounts arise when we acquire MBS at a price below the principal balance of the mortgages securing such MBS. Premiums paid on our MBS are amortized against interest income and accretable purchase discounts on our MBS are accreted to interest income. Purchase premiums on our MBS, which are primarily carried on our Agency MBS, are amortized against interest income over the life of each security using the effective yield method, adjusted for actual prepayment activity. An increase in the prepayment rate, as measured by the CPR, will typically accelerate the amortization of purchase premiums, thereby reducing the yield/interest income earned on such assets. Generally, if prepayments on our Non-Agency MBS are less than anticipated, we expect that the income recognized on such assets would be reduced and impairments could result. CPR levels are impacted by, among other things, conditions in the housing market, new regulations, government and private sector initiatives, interest rates, availability of credit to home borrowers, underwriting standards and the economy in general. In particular, CPR reflects the conditional repayment rate (or CRR), which measures voluntary prepayments of mortgages collateralizing a particular MBS, and the conditional default rate (or CDR), which measures involuntary prepayments resulting from defaults. CPRs on Agency MBS and Non-Agency MBS may differ significantly. For the year ended December 31, 2013, our Agency MBS portfolio experienced a weighted average CPR of 17.9%, and our Non-Agency MBS portfolio (including Non-Agency MBS underlying our Linked Transactions) experienced a CPR of 15.9%. For the year ended December 31, 2012, our Agency MBS portfolio experienced a weighted average CPR of 19.8%, and our Non-Agency MBS portfolio (including Non-Agency MBS underlying our Linked Transactions) experienced a CPR of 15.0%. Over the last consecutive eight quarters, ending with December 31, 2013, the monthly fair value weighted average CPR on our MBS portfolio ranged from a high of 19.7% experienced during the quarter ended September 30, 2013 to a low of 12.1% experienced during the quarter ended December 31, 2013, with an average CPR over such quarters of 17.4%. When we purchase Non-Agency MBS at significant discounts to par value, we make certain assumptions with respect to each security. These assumptions include, but are not limited to, future interest rates, voluntary prepayment rates, default rates, mortgage modifications and loss severities. As part of our Non-Agency MBS surveillance process, we track and compare each security's actual performance over time to the performance expected at the time of purchase or, if we have modified our original purchase assumptions, to our revised performance expectations. To the extent that actual performance or our expectation of future performance of our Non-Agency MBS deviates materially from our expected performance parameters, we may revise our performance expectations, such that the amount of purchase discount designated as credit discount may be increased or decreased over time. Nevertheless, credit losses greater than those anticipated or in excess of the recorded purchase discount could occur, which could materially adversely impact our operating results. 29



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It is our business strategy to hold our MBS as long-term investments. On at least a quarterly basis, we assess our ability and intent to continue to hold each security and, as part of this process, we monitor our securities for other-than-temporary impairment. A change in our ability and/or intent to continue to hold any of our securities that are in an unrealized loss position, or a deterioration in the underlying characteristics of these securities, could result in our recognizing future impairment charges or a loss upon the sale of any such security. At December 31, 2013, we had net unrealized gains of $14.4 million on our Agency MBS, comprised of gross unrealized gains of $106.7 million and gross unrealized losses of $92.3 million, and had net unrealized gains on our Non-Agency MBS of $738.5 million, comprised of gross unrealized gains of $742.3 million and gross unrealized losses of $3.7 million. At December 31, 2013, we did not intend to sell any of our MBS that were in an unrealized loss position, and we believe it is more likely than not that we will not be required to sell those MBS before recovery of their amortized cost basis, which may be at their maturity. We rely primarily on borrowings under repurchase agreements to finance our Agency MBS and Non-Agency MBS. Our MBS have longer term contractual maturities than our borrowings under repurchase agreements. We have also engaged in resecuritization transactions with respect to our Non-Agency MBS, which provide access to non-recourse financing. Even though the majority of our MBS have interest rates that adjust over time based on short-term changes in corresponding interest rate indices (typically following an initial fixed-rate period for our Hybrids), the interest rates we pay on our borrowings and securitized debt will typically change at a faster pace than the interest rates we earn on our MBS. In order to reduce this interest rate risk exposure, we may enter into derivative instruments, which at December 31, 2013 were comprised of Swaps. Our Swap derivative hedging instruments are designated as cash-flow hedges against a portion of our current and forecasted LIBOR-based repurchase agreements and securitized debt. Our Swaps do not extend the maturities of our repurchase agreements and/or securitized debt; they do, however, lock in a fixed rate of interest over their term for the notional amount of the Swap corresponding to the hedged item. During 2013, we entered into 23 new Swaps with an aggregate notional amount of $2.501 billion, a weighted average fixed-pay rate of 1.85% and initial maturities ranging from two months to ten years and had Swaps with an aggregate notional amount of $975.4 million and a weighted average fixed-pay rate of 2.78% amortize and/or expire. At December 31, 2013, we had Swaps with an aggregate notional amount of $4.045 billion with a weighted average fixed-pay rate of 1.91% and a weighted average variable interest rate of 0.17%.



Recent Market Conditions and Our Strategy

During 2013, we continued to invest in both Agency and Non-Agency MBS. During the year ended December 31, 2013, we acquired approximately (i) $1.384 billion of Agency MBS at a weighted average purchase price of 104.3% of par value and (ii) $430.4 million of Non-Agency MBS (including $97.1 million of MBS, which are reported as a component of Linked Transactions), at a weighted average purchase price of 90.0% of par value. At December 31, 2013, our combined MBS portfolio was approximately $11.371 billion compared to $12.608 billion at December 31, 2012. During 2013, we experienced a decrease in our MBS portfolio primarily due to principal repayments exceeding the addition of newly acquired assets. At December 31, 2013, $6.519 billion, or 57.3% of our MBS portfolio, was invested in Agency MBS. During the year ended 2013, the fair value of our Agency MBS holdings declined by $706.2 million. This was due to $1.846 billion of principal repayments, $57.9 million of premium amortization, and a $186.6 million decrease in net unrealized gains, which was partially offset by the addition of $1.384 billion of newly acquired assets. At December 31, 2013, $4.852 billion, or 42.7% of our MBS portfolio, was invested in Non-Agency MBS. In addition, we had $130.8 million of Non-Agency MBS that were reported as a component of our Linked Transactions. During the year ended December 31, 2013, the fair value of our Non-Agency MBS holdings declined by $530.0 million. This was due to $924.4 million of principal repayments and the sale of Non-Agency MBS with an amortized cost of $126.8 million, which was partially offset by $73.2 million of discount accretion and a $114.7 million increase in net unrealized gains. In addition, we purchased $430.4 million of Non-Agency MBS, of which $97.1 million are reported as a component of Linked Transactions. Our book value per common share was $8.06 as of December 31, 2013. Book value declined from $8.99 as of December 31, 2012 due primarily to previously disclosed special dividends of $0.78 per common share, a decline in the value of our Agency MBS portfolio partially offset by appreciation within the Non-Agency MBS portfolio. Due to the interest rate environment in 2013, yields on acquired assets were lower than in prior periods. At the end of 2013, the average coupon on mortgages underlying our Agency MBS was lower compared to the end of 2012, due to acquisition of assets in the marketplace at generally lower coupons reflecting current market conditions and as a result of prepayments on higher yielding assets and downward resets on Hybrid and ARM-MBS within the portfolio. As a result, the coupon yield on our Agency MBS portfolio declined 45 basis points to 3.13% for 2013 from 3.58% for 2012. In addition, the net Agency MBS yield decreased to 2.28% for 2013, from 2.83% for 2012. Our Non-Agency MBS portfolio yielded 7.25% for 2013 compared to 6.76% for 2012. 30



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The increase in the yield on our Non-Agency MBS portfolio is primarily due to increases in accretable discount and changes in the forward yield curve.

We continue to believe that loss-adjusted returns on Non-Agency MBS represent attractive investment opportunities. We believe that our $1.043 billion Credit Reserve and OTTI appropriately factors in remaining uncertainties regarding underlying mortgage performance and the potential impact on future cash flows. Home price appreciation and underlying mortgage loan amortization continue to decrease the loan-to-value (or LTV) for many of the mortgages underlying our Non-Agency MBS portfolio. Home price appreciation is generally due to a combination of limited housing supply, low mortgage rates, capital flows into own-to-rent foreclosure purchases and demographic-driven U.S. household formation. We estimate that the LTV of mortgage loans underlying our Non-Agency MBS has declined from approximately 105% as of January 2012 to less than 85% as of December 31, 2013. Lower LTVs lessen the likelihood of defaults and simultaneously decrease loss severities. Additionally, current to 60-days delinquent transition rates continue to decline from their 2009 peak. Further, during 2013, we have also observed faster voluntary prepayment (i.e. prepayment of loans in full with no loss) speeds than originally projected. The yields on our Non-Agency MBS that were purchased at a discount are generally positively impacted if prepayment rates on these securities exceed our prepayment assumptions. Based on these current conditions, we have reduced estimated future losses within our Non-Agency portfolio. As a result, during the year ended 2013, we transferred $207.9 million from Credit Reserve to accretable discount. This increase in accretable discount is expected to increase the interest income realized over the remaining life of our Non-Agency MBS. The remaining average contractual life of such assets is approximately 22 years, but based on scheduled loan amortization and prepayments (both voluntary and involuntary), loan balances will decline substantially over time. Consequently, we believe that the majority of the impact on interest income from the reduction in Credit Reserve will occur over the next ten years. With $565.4 million of cash and cash equivalents and $369.1 million of unpledged Agency MBS at December 31, 2013, we believe that we are positioned to continue to take advantage of investment opportunities within the residential MBS marketplace. In 2014 we intend to continue to selectively acquire Agency MBS and Non-Agency MBS. We believe that our Non-Agency assets will benefit going forward as the existing private label MBS universe continues to decline in size due to prepayments, defaults and limited issuance. In addition, while most Non-Agency MBS in our portfolio will not return their full face value due to loan defaults, we believe that they will deliver attractive loss adjusted yields due to our average amortized cost of 73% of face value as of December 31, 2013. We believe the financial environment continues to be favorably impacted by accommodative U.S. monetary policy. Repurchase agreement funding for both Agency MBS and Non-Agency MBS continues to be available to us from multiple counterparties. Typically, repurchase agreement funding involving Non-Agency MBS is available from fewer counterparties, at terms requiring higher collateralization and higher interest rates, than for repurchase agreement funding involving Agency MBS. At December 31, 2013, our debt consisted of borrowings under repurchase agreements with 26 counterparties, securitized debt, payable for unsettled purchases and Senior Notes outstanding and obligation to return securities obtained as collateral, resulting in a debt-to-equity multiple of 2.9 times. (See table on page 47 under Results of Operations that presents our quarterly leverage multiples since March 31, 2012.) 31



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Information About Our Assets

The tables below present certain information about our asset allocation at December 31, 2013. ASSET ALLOCATION Non-Agency MBS GAAP Basis Agency MBS MBS Portfolio Cash (1) Other, net (2) Total (Dollars in Thousands) Amortized Cost $ 6,504,846$ 4,113,600$ 10,618,446$ 602,890$ (4,541 )$ 11,216,795 Market Value $ 6,519,221$ 4,852,137$ 11,371,358$ 602,890$ (4,541 )$ 11,969,707 Less Payable for Unsettled Purchases (6,737 ) - (6,737 ) - - (6,737 ) Less Repurchase Agreements (5,750,053 ) (2,589,244 ) (8,339,297 ) - - (8,339,297 ) Less Securitized Debt - (366,205 ) (366,205 ) - - (366,205 ) Less Senior Notes - - - - (100,000 ) (100,000 ) Equity Allocated $ 762,431$ 1,896,688$ 2,659,119



$ 602,890$ (104,541 )$ 3,157,468 Less Swaps at Market Value

- - - - (15,217 ) (15,217 )



Net Equity Allocated $ 762,431$ 1,896,688$ 2,659,119

$ 602,890$ (119,758 )$ 3,142,251 Debt/Net Equity Ratio (3) 7.55 x 1.56 x 2.93 x Non-Agency MBS Non-GAAP Adjustments Agency MBS MBS (4) Portfolio Cash (1) Other, net (4) Total (Dollars in Thousands) Amortized Cost $ - $ 126,497$ 126,497 $ - $ (26,968 )$ 99,529 Market Value $ - $ 130,790$ 130,790 $ - $ (26,968 )$ 103,822 Repurchase Agreements - 279,921 279,921 - - 279,921 Multi-year Collateralized Financing Arrangements - (383,743 ) (383,743 ) - - (383,743 ) Equity Allocated $ - $ 26,968$ 26,968 $ - $ (26,968 ) $ - Less Swaps at Market Value - - - - - - Net Equity Allocated $ - $ 26,968$ 26,968 $ - $ (26,968 ) $ - Non-Agency MBS Non-GAAP Basis Agency MBS MBS (4) Portfolio Cash (1) Other, net (5) Total (Dollars in Thousands) Amortized Cost $ 6,504,846$ 4,240,097$ 10,744,943$ 602,890$ (31,509 )$ 11,316,324 Market Value $ 6,519,221$ 4,982,927$ 11,502,148$ 602,890$ (31,509 )$ 12,073,529 Less Payable for Unsettled Purchases (6,737 ) - (6,737 ) - - (6,737 ) Less Repurchase Agreements (5,750,053 ) (2,309,323 ) (8,059,376 ) - - (8,059,376 ) Less Multi-year Collateralized Financing Arrangements - (383,743 ) (383,743 ) - - (383,743 ) Less Securitized Debt - (366,205 ) (366,205 ) - - (366,205 ) Less Senior Notes - - - - (100,000 ) (100,000 ) Equity Allocated $ 762,431$ 1,923,656$ 2,686,087$ 602,890$ (131,509 )$ 3,157,468 Less Swaps at Market Value - - - - (15,217 ) (15,217 )



Net Equity Allocated $ 762,431$ 1,923,656$ 2,686,087 $

602,890 $ (146,726 )$ 3,142,251 Debt/Net Equity Ratio (6) 7.55 x 1.59 x 2.96 x (1) Includes cash, cash equivalents and restricted cash. (2) Includes securities obtained and pledged as collateral, Linked Transactions, interest receivable, goodwill, prepaid and other assets, obligation to return securities obtained as collateral, interest payable, dividends payable, excise tax and interest payable, and accrued expenses and other liabilities. (3) For the Agency and Non-Agency MBS portfolio, represents the sum of borrowings under repurchase agreements, payable for unsettled purchases and securitized debt as a multiple of net equity allocated. The numerator of our Total Debt/Net Equity ratio also includes the obligation to return securities obtained as collateral of $383.7 million and Senior Notes. 32



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(4) Includes Non-Agency MBS and repurchase agreements underlying Linked Transactions. The purchase of a Non-Agency MBS and contemporaneous repurchase borrowing of this MBS with the same counterparty are accounted for under GAAP as a "linked transaction." The two components of a linked transaction (MBS and associated borrowings under a repurchase agreement) are evaluated on a combined basis and are presented net as "Linked Transactions" on our consolidated balance sheet. Also includes the adjustment to reflect Non-Agency financing under multi-year collateralized financing arrangements of $383.7 million, while borrowings under repurchase agreements of $382.7 million for which U.S. Treasury securities are pledged as collateral is reclassified to other, net. (5) Includes securities obtained and pledged as collateral, interest receivable, goodwill, prepaid and other assets, borrowings under repurchase agreements of $382.7 million for which U.S. Treasury securities are pledged as collateral, interest payable, dividends payable, excise tax and interest payable, and accrued expenses and other liabilities. (6) For the Agency and Non-Agency MBS portfolio, represents the sum of borrowings under repurchase agreements, payable for unsettled purchases, multi-year collateralized financing arrangements of $383.7 million and securitized debt as a multiple of net equity allocated. The numerator of our Total Debt/Net Equity ratio also includes borrowings under repurchase agreements of $382.7 million for which U.S. Treasury securities are pledged as collateral and Senior Notes. Agency MBS



The following table presents certain information regarding the composition of our Agency MBS portfolio as of December 31, 2013 and 2012:

December 31, 2013 Weighted Weighted Weighted Weighted Average Average Average Weighted Average Current Purchase Market Fair Loan Age Average 3 Month (Dollars in Thousands) Face Price Price Value (1) (Months) (2) Coupon (2) CPR 15-Year Fixed Rate: Low Loan Balance (3) $ 1,977,798 104.3 % 101.8 % $ 2,012,876 20 3.04 % 7.2 % HARP (4) 205,895 104.7 101.8 209,597 19 3.01 6.3 Other (Post June 2009) (5) 222,691 103.7 106.1 236,253 40 4.16 17.0 Other (Pre June 2009) (6) 1,256 104.9 106.7 1,340 55 4.50 0.5 Total 15-Year Fixed Rate $ 2,407,640 104.3 % 102.2 % $ 2,460,066 22 3.14 % 8.0 % Hybrid: Other (Post June 2009) (5) $ 2,502,413 104.1 % 104.4 % $ 2,612,108 32 3.22 % 17.7 % Other (Pre June 2009) (6) 1,202,227 101.4 106.0 1,274,745 84 3.28 13.2 Total Hybrid $ 3,704,640 103.2 % 104.9 % $ 3,886,853 49 3.24 % 16.2 % CMO/Other $ 164,639 102.5 % 104.0 % $ 171,182 154 2.44 % 8.7 % Total Portfolio $ 6,276,919 103.6 % 103.8 % $ 6,518,101 41 3.18 % 12.9 % December 31, 2012 Weighted Weighted Weighted Weighted Average Average Average Weighted Average Current Purchase Market Fair Loan Age Average 3 Month (Dollars in Thousands) Face Price Price Value (1) (Months) (2) Coupon (2) CPR 15-Year Fixed Rate: Low Loan Balance (3) $ 1,674,980 104.4 % 107.0 % $ 1,792,740 14 3.32 % 10.2 % HARP (4) 203,929 104.8 106.7 217,506 10 3.16 7.4 Other (Post June 2009) (5) 296,277 103.4 106.9 316,864 30 4.19 29.1 Other (Pre June 2009) (6) 2,347 104.9 107.5 2,524 43 4.50 20.9 Total 15-Year Fixed Rate $ 2,177,533 104.3 % 107.0 % $ 2,329,634 16 3.43 % 13.0 % Hybrid: Other (Post June 2009) (5) $ 2,697,573 103.9 % 105.5 % $ 2,846,944 22 3.26 % 21.9 % Other (Pre June 2009) (6) 1,722,463 101.4 106.9 1,841,275 70 4.10 23.0 Total Hybrid $ 4,420,036 102.9 % 106.1 % $ 4,688,219 41 3.59 % 22.3 % CMO/Other $ 195,199 102.4 % 104.1 % $ 203,184 145 2.75 % 10.7 % Total Portfolio $ 6,792,768 103.3 % 106.3 % $ 7,221,037 36 3.51 % 19.2 % (1) Does not include principal payments receivable of $1.1 million and $4.4 million at December 31, 2013 and 2012, respectively. (2) Weighted average is based on MBS current face at December 31, 2013 and 2012, respectively. (3) Low loan balance represents MBS collateralized by mortgages with original loan balance of less than or equal to $175,000. (4) Home Affordable Refinance Program (or HARP) MBS are backed by refinanced loans with LTVs greater than or equal to 80% at origination. (5) MBS issued in June 2009 or later. Majority of underlying loans are ineligible to refinance through the HARP program. (6) MBS issued before June 2009. 33



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The following table presents certain information regarding our 15-year fixed-rate Agency MBS as of December 31, 2013 and 2012:

December 31, 2013 Weighted Weighted Weighted Low Loan Weighted Average Average Average Weighted Balance Average Current Purchase Market Fair Loan Age Average and/or 3 Month Coupon Face Price Price Value (1) (Months) (2) Loan Rate HARP (3) CPR (Dollars in Thousands) 15-Year Fixed Rate: 2.5% $ 1,096,097 104.0 % 99.2 % $ 1,086,853 12 3.04 % 100 % 4.0 % 3.0% 481,174 105.9 102.1 491,212 18 3.49 100 5.5 3.5% 15,429 103.5 104.8 16,162 38 4.16 100 24.1 4.0% 688,213 103.4 106.2 730,542 37 4.40 80 13.8 4.5% 126,727 105.2 106.8 135,297 41 4.87 32 15.8 Total 15-Year Fixed Rate $ 2,407,640 104.3 % 102.2 % $ 2,460,066 22 3.62 % 91 % 8.0 % December 31, 2012 Weighted Weighted Weighted Low Loan Weighted Average Average Average Weighted Balance Average Current Purchase Market Fair Loan Age Average and/or 3 Month Coupon Face Price Price Value (1) (Months) (2) Loan Rate HARP (3) CPR

(Dollars in Thousands) 15-Year Fixed Rate: 2.5% $ 520,202 104.2 % 104.9 % $ 545,528 3 3.04 % 99 % 2.6 % 3.0% 546,780 105.9 106.6 582,904 6 3.49 100 4.2 3.5% 21,756 103.5 106.8 23,243 26 4.16 100 25.7 4.0% 907,891 103.3 108.3 982,796 26 4.40 81 18.8 4.5% 180,904 105.2 107.9 195,163 29 4.87 31 24.5



Total 15-Year Fixed Rate $ 2,177,533 104.3 % 107.0 % $ 2,329,634

16 3.88 % 86 % 13.0 % (1) Does not include principal payments receivable of $1.1 million and $4.4 million at December 31, 2013 and 2012, respectively. (2) Weighted average is based on MBS current face at December 31, 2013 and 2012, respectively. (3) Low Loan Balance represents MBS collateralized by mortgages with original loan balance less than or equal to $175,000. HARP MBS are backed by refinanced loans with LTVs greater than or equal to 80% at origination. 34



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The following table presents certain information regarding our Hybrid Agency MBS as of December 31, 2013 and 2012:

December 31, 2013 Weighted Weighted Weighted Weighted Weighted Average Average Weighted Average Average Average Current Purchase Market Fair Average Loan Age Months to Interest 3 Month (Dollars in Thousands) Face Price Price Value (1) Coupon (2) (Months) (2) Reset (3) Only (4) CPR Hybrid PostJune 2009: Agency 5/1 $ 921,849 103.5 % 105.5 % $ 972,201 3.37 % 39 20 24 % 23.8 % Agency 7/1 1,233,187 104.4 104.2 1,284,739 3.09 28 55 21 15.1 Agency 10/1 347,377 104.8 102.2 355,168 3.27 24 95 57 10.9 Total Hybrids Post June 2009 $ 2,502,413 104.1 % 104.4 % $ 2,612,108 3.22 % 32 48 27 % 17.7 % Hybrid Pre June 2009: Coupon < 4.5% (5) $ 860,491 101.5 % 105.9 % $ 910,849 2.44 % 88 6 56 % 8.8 % Coupon >= 4.5% (6) 341,736 101.2 106.5 363,896 5.40 73 20 77 23.5 Total Hybrids Pre June 2009 $ 1,202,227 101.4 % 106.0 % $ 1,274,745 3.28 % 84 10 62 % 13.2 % Total Hybrids $ 3,704,640 103.2 % 104.9 % $ 3,886,853 3.24 % 49 35 38 % 16.2 % December 31, 2012 Weighted Weighted Weighted Weighted Weighted Average Average Weighted Average Average Average Current Purchase Market Fair Average Loan Age Months to Interest 3 Month (Dollars in Thousands) Face Price Price Value (1) Coupon (2) (Months) (2) Reset (3) Only (4) CPR Hybrid PostJune 2009: Agency 5/1 $ 1,195,531 103.3 % 105.4 % $ 1,260,379 3.43 % 29 30 24 % 26.1 % Agency 7/1 1,463,829 104.4 105.6 1,546,339 3.14 17 67 21 18.7 Agency 10/1 38,213 104.4 105.3 40,226 2.95 6 113 - 12.4 Total Hybrids Post June 2009 $ 2,697,573 103.9 % 105.5 % $ 2,846,944 3.26 % 22 51 22 % 21.9 % Hybrid Pre June 2009: Coupon < 4.5% (5) $ 870,664 101.6 % 106.8 % $ 929,622 2.80 % 78 6 51 % 12.6 % Coupon >= 4.5% (6) 851,799 101.2 107.0 911,653 5.42 62 25 78 32.8 Total Hybrids Pre June 2009 $ 1,722,463 101.4 % 106.9 % $ 1,841,275 4.10 % 70 15 64 % 23.0 % Total Hybrids $ 4,420,036 102.9 % 106.1 % $ 4,688,219 3.59 % 41 37 38 % 22.3 % (1) Does not include principal payments receivable of $1.1 million and $4.4 million at December 31, 2013 and 2012, respectively. (2) Weighted average is based on MBS current face at December 31, 2013 and 2012, respectively. (3) Weighted average months to reset is the number of months remaining before the coupon interest rate resets. At reset, the MBS coupon will adjust based upon the underlying benchmark interest rate index, margin and periodic or lifetime caps. The months to reset do not reflect scheduled amortization or prepayments. (4) Interest only represents MBS backed by mortgages currently in their interest only period. Percentage is based on MBS current face at December 31, 2013. (5) Agency 3/1, 5/1, 7/1 and 10/1 Hybrid ARM-MBS with coupon less than 4.5%. (6) Agency 3/1, 5/1, 7/1 and 10/1 Hybrid ARM-MBS with coupon greater than or equal to 4.5%. 35



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Non-Agency MBS

The following table presents information with respect to our Non-Agency MBS: (i) excluding Linked Transactions and reported in accordance with GAAP; (ii) underlying our Linked Transactions and reflected consistent with GAAP reporting requirements; and (iii) on a combined basis (Non-GAAP) as of December 31, 2013 and December 31, 2012:

December 31, (In Thousands) 2013



2012

(i) Non-Agency MBS (GAAP - excluding Linked Transactions) Face/Par $ 5,616,038$ 6,509,560 Fair Value 4,852,137 5,382,165 Amortized Cost 4,113,600 4,758,300



Purchase Discount Designated as Credit Reserve and OTTI

(1,043,037 ) (1) (1,380,506 ) (2) Purchase Discount Designated as Accretable (460,039 ) (371,626 ) Purchase Premiums 638



872

(ii) Non-Agency MBS Underlying Linked Transactions Face/Par $ 134,430$ 52,277 Fair Value 130,790 47,828 Amortized Cost 126,497 43,817 Purchase Discount Designated as Credit Reserve (4,721 ) (6,051 ) Purchase Discount Designated as Accretable (3,212 )



(2,409 )

(iii) Combined Non-Agency MBS and MBS Underlying Linked Transactions (Non-GAAP) Face/Par $ 5,750,468$ 6,561,837 Fair Value 4,982,927 5,429,993 Amortized Cost 4,240,097 4,802,117



Purchase Discount Designated as Credit Reserve and OTTI

(1,047,758 ) (3) (1,386,557 ) (4) Purchase Discount Designated as Accretable (463,251 ) (374,035 ) Purchase Premiums 638 872 (1) Includes discount designated as Credit Reserve of $998.5 million and OTTI of $44.5 million. (2) Includes discount designated as Credit Reserve of $1.332 billion and OTTI of $48.7 million. (3) Includes discount designated as Credit Reserve of $1.003 billion and OTTI of $44.5 million. (4) Includes discount designated as Credit Reserve of $1.338 billion and OTTI of $48.7 million. 36



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Purchase Discounts on Non-Agency MBS and Securities Underlying Linked Transactions

The following table presents the changes in the components of purchase discount on Non-Agency MBS with respect to purchase discount designated as Credit Reserve and OTTI, and accretable purchase discount, including securities underlying Linked Transactions, for the years ended December 31, 2013 and 2012 on both a GAAP and Non-GAAP basis. For the Year Ended December 31, 2013 2012 Discount Discount Designated as Designated as Credit Reserve Accretable Credit Reserve Accretable GAAP Basis and OTTI Discount (1) and OTTI Discount (1) (In Thousands) Balance at beginning of period $ (1,380,506 )$ (371,626 )$ (1,228,766 )$ (250,479 ) Accretion of discount - 73,422 - 38,185 Realized credit losses 163,478 - 162,458 - Purchases (79,320 ) 32,152 (427,741 ) 3,497 Sales 45,371 13,953 - - Reclass discount for OTTI - - 866 (866 ) Net impairment losses recognized in earnings - - (1,200 ) - Unlinking of Linked Transactions - - (38,662 ) (9,424 ) Transfers/release of credit reserve 207,940 (207,940 ) 152,539 (152,539 ) Balance at end of period $ (1,043,037 )$ (460,039 )$ (1,380,506 )$ (371,626 ) Discount Discount Designated as Designated as Credit Reserve Accretable Credit Reserve Accretable Non-GAAP Adjustments and OTTI Discount (1) and OTTI Discount (1) (In Thousands) Balance at beginning of period $ (6,051 )$ (2,409 )$ (45,735 )$ (6,206 ) Accretion of discount - 831 - 958 Realized credit losses 635 - 1,442 - Purchases - (939 ) - - Sales - - - - Unlinking of Linked Transactions - - 38,662 2,419 Transfers/release of credit reserve 695 (695 ) (420 ) 420 Balance at end of period $ (4,721 )$ (3,212 )$ (6,051 )$ (2,409 ) Discount Discount Designated as Designated as Credit Reserve Accretable Credit Reserve Accretable Non-GAAP Basis and OTTI Discount (1) and OTTI Discount (1) (In Thousands) Balance at beginning of period $ (1,386,557 )$ (374,035 )$ (1,274,501 )$ (256,685 ) Accretion of discount - 74,253 - 39,143 Realized credit losses 164,113 - 163,900 - Purchases (79,320 ) 31,213 (427,741 ) 3,497 Sales 45,371 13,953 - - Reclass discount for OTTI - - 866 (866 ) Net impairment losses recognized in earnings - - (1,200 ) - Unlinking of Linked Transactions - - - (7,005 ) Transfers/release of credit reserve 208,635 (208,635 ) 152,119 (152,119 ) Balance at end of period $ (1,047,758 )$ (463,251 )$ (1,386,557 )$ (374,035 )



(1) Together with coupon interest, accretable purchase discount is recognized as interest income over the life of the security.

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The following table presents information with respect to the yield components of our Non-Agency MBS: (i) excluding Linked Transactions and reported in accordance with GAAP; (ii) underlying our Linked Transactions and (iii) combined with the securities underlying Linked Transactions (Non-GAAP) for the periods presented: For the Year Ended December 31, 2013 2012 2011 Non-Agency MBS (GAAP - excluding Linked Transactions) Coupon Yield (1) 5.63 % 5.91 % 6.30 % Effective Yield Adjustment (2) 1.62 0.85



1.25

Net Yield 7.25 % 6.76 %



7.55 %

Non-Agency MBS Underlying Linked Transactions Coupon Yield (1) 4.48 % 5.04 % 5.80 % Effective Yield Adjustment (2) 1.23 1.16



0.75

Net Yield 5.71 % 6.20 %



6.55 %

Combined Non-Agency MBS and MBS Underlying Linked Transactions (Non-GAAP) Coupon Yield (1) 5.61 % 5.90 % 6.25 % Effective Yield Adjustment (2) 1.62 0.85 1.19 Net Yield 7.23 % 6.75 % 7.44 %



(1) Reflects coupon interest income divided by the average amortized cost.

The

discounted purchase price on Non-Agency MBS causes the coupon yield to be higher than the pass-through coupon interest rate. (2) The effective yield adjustment is the difference between the net yield, calculated utilizing management's estimates of future cash flows for Non-Agency MBS, less the current coupon yield. The information in the above tables, on pages 36-38, includes certain underlying Non-Agency MBS and the associated repurchase agreement borrowings that are disclosed both separately and/or on a combined basis with our Non-Agency MBS portfolio. However, for GAAP financial reporting purposes, these items are required to be accounted for by us as Linked Transactions. Consequently, the presentation of this information in the above tables constitutes Non-GAAP financial measures within the meaning of Regulation G, as promulgated by the SEC. In assessing the performance of the Non-Agency MBS portfolio, we do not view these transactions as linked, but rather view the performance of the linked Non-Agency MBS and the related repurchase agreement borrowings as we would any other Non-Agency MBS that is not part of a linked transaction. Accordingly, we consider that the Non-GAAP information disclosed in the above tables enhances the ability of investors to analyze the performance of our Non-Agency MBS in the same way that we assess such assets. In addition, in connection with our financing strategy for Non-Agency MBS, we have entered into contemporaneous repurchase agreement and reverse repurchase agreement transactions with a single counterparty. The transactions effectively result in us pledging Non-Agency MBS as collateral to the counterparty in connection with the repurchase agreement financing and obtaining U.S. Treasury securities as collateral in connection with the reverse repurchase agreement. Both the repurchase agreement and the reverse repurchase agreement have a contractual maturity of January 2016 with no net exchange of cash at inception. The U.S. Treasury collateral obtained is pledged as collateral in a subsequent repurchase agreement transaction with a different counterparty for cash. This subsequent repurchase transaction has a term of 90 days at inception. For purposes of presentation of its repurchase agreement financing liabilities in the Non-GAAP Asset Allocation table on page 32, the obligation to return the $384 million of U.S. Treasury collateral, is separately presented as "Multi-year collateralized financing arrangements" and is included in the numerator of the Debt/Net Equity Ratio for the Non-Agency MBS portfolio. In addition, the asset balance for U.S. Treasury securities obtained as collateral and the repurchase agreement liability to the second counterparty to which we pledged those U.S Treasury securities as collateral are included in the "Other, net" column as we believe net presentation is consistent with the economic substance of the transactions. However, GAAP prohibits offsetting of this asset and liability for a number of reasons, including the fact that the counterparties to these transactions are different, and there is no legal right of offset. For GAAP presentation purposes, the repurchase agreement liability against which we have pledged U.S. Treasuries is disclosed as "Repurchase Agreements" and is included in the numerator of the Debt/Net Equity Ratio for the Non-Agency MBS portfolio. 38



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In addition, the asset balance for the U.S. Treasury securities obtained as collateral and the liability balance for the obligation to return this collateral are included in the "Other, net" column. However, management considers that the Non-GAAP Asset Allocation table presented on page 32 more appropriately reflects the economic substance of the transactions. Consequently, this presentation constitutes a Non-GAAP financial measure within the meaning of Regulation G, as promulgated by the SEC. The Non-GAAP presentation of liabilities associated with the Company's collateralized financing arrangements does not impact the overall calculation of Debt/Net Equity for the Company as a whole.



Actual maturities of MBS are generally shorter than stated contractual maturities because actual maturities of MBS are affected by the contractual lives of the underlying mortgages, periodic payments of principal, and prepayments of principal. The following table presents certain information regarding the amortized costs, weighted average yields and contractual maturities of our MBS at December 31, 2013 and does not reflect the effect of prepayments or scheduled principal amortization on our MBS:

One to Five Years Five to Ten Years Over Ten Years Total MBS (1) Weighted Weighted Weighted Total Weighted Amortized Average Amortized



Average Amortized Average Amortized Total Fair Average (Dollars in Thousands) Cost

Yield Cost Yield Cost Yield Cost Value Yield Agency MBS: Fannie Mae $ 346 3.51 % $ 1,007 1.89 % $ 5,272,680 2.29 % $ 5,274,033$ 5,315,363 2.29 % Freddie Mac - - - - 1,217,927 2.26 1,217,927 1,190,670 2.26 Ginnie Mae - - - - 12,886 1.62 12,886 13,188 1.62 Total Agency MBS $ 346 3.51 % $ 1,007



1.89 % $ 6,503,493 2.28 % $ 6,504,846$ 6,519,221 2.28 % Non-Agency MBS

$ 3,890 4.47 % $ 12,213



6.55 % $ 4,097,497 7.21 % $ 4,113,600$ 4,852,137 7.21 % Total MBS

$ 4,236 4.39 % $ 13,220



6.19 % $ 10,600,990 4.21 % $ 10,618,446$ 11,371,358 4.22 %

(1) We did not have any MBS with contractual maturities of less than one year at December 31, 2013.

Exposure to Financial Counterparties

We finance the acquisition of a significant portion of our MBS with repurchase agreements. In connection with these financing arrangements, we pledge our securities as collateral to secure the borrowing. The amount of collateral pledged will typically exceed the amount of the financing with the extent of over-collateralization ranging from 1-6% of the amount borrowed (U.S. Treasury and Agency MBS collateral) to up to 63% (Non-Agency MBS collateral). Consequently, while repurchase agreement financing results in us recording a liability to the counterparty in our consolidated balance sheet, we are exposed to the counterparty, if during the term of the repurchase agreement financing, a lender should default on its obligation and we are not able to recover our pledged assets. The amount of this exposure is the difference between the amount loaned to us plus interest due to the counterparty and the fair value of the collateral pledged by us to the lender including accrued interest receivable on such collateral. In addition, we use interest rate swaps to manage interest rate risk exposure in connection with our repurchase agreement financings. We will make cash payments or pledge securities as collateral as part of a margin arrangement in connection with interest rate swaps that are in an unrealized loss position. In the event that a counterparty for a swap that is not subject to central clearing were to default on its obligation, we would be exposed to a loss to a swap counterparty to the extent that the amount of cash or securities pledged exceeded the unrealized loss on the associated swaps and we were not able to recover the excess collateral.



During the past several years, certain of our repurchase agreement counterparties in the United States and Europe have experienced financial difficulty and have been either rescued by government assistance or otherwise benefited from accommodative monetary policy of central banks.

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The table below summarizes our exposure to our counterparties at December 31, 2013, by country of domicile:

Repurchase Exposure as a Number of Agreement Swaps at Fair Percentage of Country Counterparties Financing Value Exposure (1) MFA Total Assets (Dollars in Thousands) European Countries: (2) Switzerland 4 $ 1,487,682 $ - $ 993,745 7.97 % United Kingdom 2 1,118,778 (10,915 ) 281,276 2.26 France 1 458,939 - 25,692 0.21 Holland 1 418,101 1,913 17,321 0.14 Germany 1 - (2,563 ) 4,254 0.03 Total 9 3,483,500 (11,565 ) 1,322,288 10.61 % Other Countries: United States (3) 12 $ 4,147,909$ (3,652 )$ 779,469 6.25 % Japan 4 669,463 - 42,663 0.34 Other 3 641,162 - 141,241 1.13 Total 19 5,458,534 (3,652 ) 963,373 7.72 % Total Counterparty Exposure 28 $ 8,942,034 (4)(5) $ (15,217 )$ 2,285,661 18.33 % (1) Represents for each counterparty the amount of cash and/or securities pledged as collateral less the aggregate of repurchase agreement financing, Swaps at fair value, and net interest receivable/payable on all such instruments. (2) Includes European-based counterparties as well as U.S.-domiciled subsidiaries of the European parent entity. (3) Includes one counterparty that is a central clearing house for certain of our Swaps. (4) Includes $500.0 million of repurchase agreements entered into in connection with contemporaneous repurchase and reverse repurchase agreements with a single counterparty. (5) Includes $102.7 million of repurchase agreements which are a component of our Linked Transactions.



At December 31, 2013, we did not use credit default swaps or other forms of credit protection to hedge the exposures summarized in the table above.

If the weak European conditions continue to impact our major European financial counterparties, there is the possibility that it will also impact the operations of their U.S. domiciled subsidiaries. This could adversely affect our financing and operations as well as those of the entire mortgage sector in general. Management monitors our exposure to our repurchase agreement and swap counterparties on a regular basis, using various methods, including review of recent rating agency actions or other developments and by monitoring the amount of cash and securities collateral pledged and the associated loan amount under repurchase agreements and/or the fair of swaps with our counterparties. We intend to make reverse margin calls on our counterparties to recover excess collateral as permitted by the agreements governing our financing arrangements, or take other necessary actions to reduce the amount of our exposure to a counterparty when such actions are considered necessary.



Tax Considerations

Key differences between GAAP net income and REIT Taxable Income for Non-Agency MBS

Our total Non-Agency MBS portfolio for tax differs from our portfolio reported for GAAP primarily due to the fact that for tax purposes; (i) certain of the MBS contributed to the variable interest entities (or VIEs) used to facilitate resecuritization transactions were deemed to be sold; (ii) the tax portfolio includes certain securities issued by these VIEs; and (iii) Non-Agency MBS underlying linked transactions are included in our tax portfolio. In addition, for our Non-Agency MBS tax portfolio, potential timing differences arise with respect to the accretion of market discount into income and recognition of realized losses for tax purposes as compared to GAAP. Consequently, our REIT taxable income calculated in a given period may differ significantly from our GAAP net income. The determination of taxable income attributable to Non-Agency MBS is dependent on a number of factors, including principal payments, defaults and loss severities. In projecting taxable income for Non-Agency MBS during the year, management considers estimates of the amount of discount expected to be accreted. Such estimates require significant judgment and actual results may differ from these estimates. Moreover, the deductibility of realized losses from Non-Agency MBS and their effect on 40



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market discount accretion is analyzed on an asset-by-asset basis and while they will result in a reduction of taxable income, this reduction tends to occur gradually and primarily in periods after the realized losses are reported.

Resecuritization transactions result in differences between GAAP net income and REIT Taxable Income

For tax purposes, depending on the transaction structure, a resecuritization transaction may be treated either as a sale or a financing of the underlying MBS. Income recognized from resecuritization transactions will differ for tax and GAAP. For tax purposes, we own and may in the future acquire interests in resecuritization trusts, in which several of the classes of securities are or will be issued with Original Issue Discount (or OID). As the holder of the retained interests in the trust, we generally will be required to include OID in our current gross interest income over the term of the applicable securities as the OID accrues. The rate at which the OID is recognized into taxable income is calculated using a constant rate of yield to maturity, with realized losses impacting the amount of OID recognized in REIT taxable income once they are actually incurred. For tax purposes, REIT taxable income may be recognized in excess of economic income (i.e., OID) or in advance of the corresponding cash flow from these assets, thereby effecting our dividend distribution requirement to stockholders.



Status of 2012 tax return and impact on distribution of taxable income for 2012 and 2013

As previously disclosed, following a detailed review of tax calculations, we determined that our originally calculated taxable income for certain years did not fully include the impact of discount accretion and premium amortization for certain MBS within our portfolio. In addition, in prior periods the Company utilized a reconciliation process to compare its calculation of GAAP income to taxable income, which did not identify the underreporting of taxable income. Consequently, our Board declared two special cash dividends during 2013 as follows (i) $0.50 per share of common stock during the first quarter of 2013 payable on April 10, 2013, to stockholders of record on March 18, 2013 and (ii) $0.28 per share of common stock during the third quarter of 2013 payable on August 30, 2013 to stockholders of record on August 12, 2013. Approximately $136.0 million, or $0.37 per share of common stock, of these distributions were allocated to the previously undistributed REIT taxable income for tax years prior to 2012, with the remainder satisfying a portion of our undistributed 2012 taxable income.



We timely filed our 2012 tax return in September 2013, and reported fully distributed REIT taxable income of approximately $476 million for the year ended December 31, 2012.

We estimate that for 2013, our taxable income was approximately $374 million. Based on dividends paid or declared during 2013, we have distributed approximately $313 million in dividends not allocated to prior years. We have until the filing of our 2013 tax return (due not later than September 15, 2014) to declare the distribution of any 2013 REIT taxable income not previously distributed.



Regulatory Developments

The U.S. Congress, Board of Governors of the Federal Reserve System, U.S. Treasury, Federal Deposit Insurance Corporation, SEC and other governmental and regulatory bodies have taken and continue to consider additional actions in response to the financial crisis. In particular the Dodd-Frank Act created a new regulator housed within the Federal Reserve System, an independent bureau known as the Consumer Financial Protection Bureau (or the CFPB), which has broad authority over a wide range of consumer financial products and services, including mortgage lending. Another section of the Dodd-Frank Act, the Mortgage Reform and Anti-Predatory Lending Act (or the Mortgage Reform Act), contains new underwriting and servicing standards for the mortgage industry, as well as restrictions on compensation for mortgage originators. In addition, the Mortgage Reform Act grants broad discretionary regulatory authority to the CFPB to prohibit or condition terms, acts or practices relating to residential mortgage loans that the CFPB finds abusive, unfair, deceptive or predatory, as well as to take other actions that the CFPB finds are necessary or proper to ensure responsible affordable mortgage credit remains available to consumers. The Dodd-Frank Act also affects the securitization of mortgages (and other assets) with requirements for risk retention by securitizers and requirements for regulating credit rating agencies. The Dodd-Frank Act requires numerous regulations, many of which (including those mentioned above regarding underwriting and mortgage originator compensation) have only recently been finalized and are only now becoming effective and implemented and operationalized. As a result, we are unable to fully predict at this time how the Dodd-Frank Act, as well as other laws that may be adopted in the future, will impact our business, results of operations and financial condition, or the environment for repurchase financing and other forms of borrowing, the investing environment for Agency MBS, Non-Agency MBS and/or residential mortgage loans, the securitization industry, Swaps and other derivatives. However, at a minimum, we believe that the Dodd-Frank Act and the regulations promulgated thereunder are likely to increase the economic and compliance costs for participants in the mortgage and securitization industries, including us. 41



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In addition to the regulatory actions being implemented under the Dodd-Frank Act, on August 31, 2011, the SEC issued a concept release under which it is reviewing interpretive issues related to Section 3(c)(5)(C) of the Investment Company Act. Section 3(c)(5)(C) excludes from the definition of "investment company" entities that are primarily engaged in, among other things, "purchasing or otherwise acquiring mortgages and other liens on and interests in real estate." Many companies that engage in the business of acquiring mortgages and mortgage-related instruments, including us, seek to rely on an existing interpretation of the SEC staff with respect to Section 3(c)(5)(C) so as not to become an investment company for the purpose of regulation under the Investment Company Act. The SEC has requested comments on, among other things, whether it should reconsider its existing interpretation of Section 3(c)(5)(C) on which we rely. (For additional discussion of the SEC's concept release and its potential impact on us, please see Part I, Item 1A. "Risk Factors" in this Form 10-K.)



Results of Operations

Year Ended December 31, 2013 Compared to the Year Ended December 31, 2012

General

For 2013, we had net income available to our common stock and participating securities of $285.0 million, or $0.78 per basic and diluted common share, compared to net income available to common stock and participating securities of $298.7 million, or $0.83 per basic and diluted common share, for 2012. The decrease in net income available to our common stock and participating securities, and the decrease of this item on a per share basis were generally influenced by the current interest rate environment and in particular, its impact on Agency MBS yields. Since the middle of 2013, MBS values have been influenced by market uncertainty regarding the timing of tapering of asset purchases by the Federal Reserve. Primarily in the third quarter of 2013, the Company took steps to reduce interest rate risk by using derivatives (Swaps and forward contracts for the sale of Agency MBS securities on a generic pool, or to-be-announced basis (or TBA short positions)) to reduce the duration of our investment portfolio. These actions, combined with the prevailing interest rate environment during 2013 resulted in a decline in our net interest spread compared to the prior year. Yields on Agency MBS were impacted by the lower interest rate environment and higher premium amortization as the weighted average premium for our Agency MBS has increased, while yields on Non-Agency MBS were higher due primarily to the impact of credit reserve releases during the year ended December 31, 2013. In addition, during 2013 we had an increase in preferred stock dividends resulting from the issuance of the Series B Preferred Stock and a $3.9 million write-off of issuance costs on the redemption of Series A Preferred Stock (See Note 11 to the accompanying consolidated financial statements, included under Item 8 of this Annual Report on Form 10-K).



Net Interest Income

Net interest income represents the difference between income on interest-earning assets and expense on interest-bearing liabilities. Net interest income depends primarily upon the volume of interest-earning assets and interest-bearing liabilities and the corresponding interest rates earned or paid. Our net interest income varies primarily as a result of changes in interest rates, the slope of the yield curve (i.e., the differential between long-term and short-term interest rates), borrowing costs (i.e., our interest expense) and prepayment speeds on our MBS. Interest rates and CPRs (which measure the amount of unscheduled principal prepayment on a bond as a percentage of the bond balance), vary according to the type of investment, conditions in the financial markets, and other factors, none of which can be predicted with any certainty. The changes in average interest-earning assets and average interest-bearing liabilities and their related yields and costs are discussed in greater detail below under "Interest Income" and "Interest Expense." For 2013, our net interest income decreased by $8.6 million, or 2.6%, to $318.9 million from $327.5 million for 2012. This decrease primarily reflects the impact of lower yielding Agency MBS, increased Non-Agency MBS borrowing costs (primarily due to allocation of Swap expense), partially offset by lower Agency MBS borrowing costs and higher yielding Non-Agency MBS due to strong credit performance. The net interest spread on our Agency MBS portfolio declined to 1.09% for 2013 compared to 1.27% for 2012. The net interest spread on our Non-Agency MBS portfolio increased to 4.55% for 2013 compared to 4.42% for the 2012. Our net interest spread and margin for 2013 were 2.32% and 2.70%, respectively, compared to a net interest spread and margin of 2.38% and 2.78%, respectively, for 2012. 42



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Analysis of Net Interest Income

The following table sets forth certain information about the average balances of our assets and liabilities and their related yields and costs for the years ended December 31, 2013, 2012 and 2011. Average yields are derived by dividing interest income by the average amortized cost of the related assets and average costs are derived by dividing interest expense by the daily average balance of the related liabilities, for the periods shown. The yields and costs include premium amortization and purchase discount accretion which are considered adjustments to interest rates. For the Year Ended December 31, 2013 2012 2011 Average Average Average (Dollars in Thousands) Average Balance Interest Yield/Cost Average Balance Interest Yield/Cost Average Balance Interest Yield/Cost Assets: Interest-earning assets: Agency MBS (1) $ 6,841,082$ 156,046 2.28 % $ 6,925,973$ 196,058 2.83 % $ 6,921,494$ 241,994 3.50 % Non-Agency MBS (1) 4,507,500 326,770 7.25 4,482,281 302,972 6.76 3,373,534 254,617 7.55 Total MBS 11,348,582 482,816 4.25 11,408,254 499,030 4.37 10,295,028 496,611 4.82 Cash and cash equivalents (2) 475,287 124 0.03 382,373 127 0.03 459,363 136 0.03 Total interest-earning assets 11,823,869 482,940 4.08 11,790,627 499,157 4.23 10,754,391 496,747 4.62 Total non-interest-earning assets 1,368,416 1,151,544 430,833 Total assets $ 13,192,285$ 12,942,171$ 11,185,224 Liabilities and stockholders' equity: Interest-bearing liabilities: Agency repurchase agreements (3) $ 6,116,468$ 72,856 1.19 $ 6,241,623$ 97,094 1.56 $ 6,168,092$ 113,062 1.83 Non-Agency repurchase agreements (3) 2,596,663 71,029 2.74 2,090,031 51,673 2.47 1,416,663 24,677 1.74 Total repurchase agreements 8,713,131 143,885 1.65 8,331,654 148,767 1.79 7,584,755 137,739 1.82 Securitized debt 487,476 12,100 2.48 852,656 17,106 2.01 784,120 11,672 1.49 Senior Notes 100,000 8,028 8.03 72,404 5,797 8.01 - - - Total interest-bearing liabilities 9,300,607 164,013 1.76 9,256,714 171,670 1.85 8,368,875 149,411 1.79 Total non-interest-bearing liabilities 629,220 739,770 115,145 Total liabilities 9,929,827 9,996,484 8,484,020 Stockholders' equity 3,262,458 2,945,687 2,701,204 Total liabilities and stockholders' equity $ 13,192,285$ 12,942,171$ 11,185,224 Net interest income/ net interest rate spread (4) $ 318,927 2.32 % $ 327,487 2.38 % $ 347,336 2.83 % Net interest-earning assets/ net interest margin (5) $ 2,523,262 2.70 % $ 2,533,913 2.78 % $ 2,385,516 3.23 % Ratio of interest-earning assets to

interest-bearing liabilities 1.27 x 1.27 x 1.29 x (1) Yields presented throughout this Annual Report on Form 10-K are calculated using average amortized cost data which excludes unrealized gains and losses and includes principal payments receivable on such MBS. For GAAP reporting purposes, MBS purchases and sales are reported on the trade date. Average amortized cost data used to determine yields is calculated based on the settlement date of the associated purchase or sale as interest income is not earned on purchased bonds and continues to be earned on sold bonds until settlement date. Includes Non-Agency MBS transferred to consolidated VIEs. (2) Includes average interest-earning cash, cash equivalents and restricted cash. (3) Average cost of repurchase agreements includes the cost of Swaps allocated based on the proportionate share of the overall estimated weighted average portfolio duration. (4) Net interest rate spread reflects the difference between the yield on average interest-earning assets and average cost of funds. (5) Net interest margin reflects net interest income divided by average interest-earning assets. 43



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Rate/Volume Analysis

The following table presents the extent to which changes in interest rates (yield/cost) and changes in the volume (average balance) of interest-earning assets and interest-bearing liabilities have affected our interest income and interest expense during the periods indicated. Information is provided in each category with respect to: (i) the changes attributable to changes in volume (changes in average balance multiplied by prior rate); (ii) the changes attributable to changes in rate (changes in rate multiplied by prior average balance); and (iii) the net change. The changes attributable to the combined impact of volume and rate have been allocated proportionately, based on absolute values, to the changes due to rate and volume. Year Ended December 31, 2013 Year Ended December 31, 2012 Compared to Compared to Year Ended December 31, 2012 Year Ended December 31, 2011 Increase/(Decrease) due



to Total Net Change in Increase/(Decrease) due to

Total Net Change in (In Thousands) Volume Rate Interest Income/Expense Volume Rate Interest Income/Expense Interest-earning assets: Agency MBS $ (2,375 )$ (37,637 ) $ (40,012 ) $ 157$ (46,093 ) $ (45,936 ) Non-Agency MBS 1,714 22,084 23,798 77,051 (28,696 ) 48,355 Cash and cash equivalents 27 (30 ) (3 ) (25 ) 16 (9 ) Total net change in income from interest-earning assets $ (634 ) $



(15,583 ) $ (16,217 ) $ 77,183$ (74,773 )

$ 2,410 Interest-bearing liabilities: Agency repurchase agreements $ (1,894 ) $



(22,344 ) $ (24,238 ) $ 1,317$ (17,285 )

$ (15,968 ) Non-Agency repurchase agreements 13,380 5,976 19,356 14,363 12,633 26,996 Securitized debt (8,422 ) 3,416 (5,006 ) 1,088 4,346 5,434 Senior Notes 2,214 17 2,231 - 5,797 5,797 Total net change in expense of interest-bearing liabilities $ 5,278 $



(12,935 ) $ (7,657 ) $ 16,768$ 5,491

$ 22,259 Net change in net interest income $ (5,912 )$ (2,648 ) $ (8,560 ) $ 60,415$ (80,264 ) $ (19,849 )



The following table presents certain quarterly information regarding our net interest spread and net interest margin for the quarterly periods presented:

Total Interest-Earning Assets and Interest- Bearing Liabilities Quarter Ended Net Interest Spread (1) Net Interest Margin (2) December 31, 2013 2.34 % 2.75 % September 30, 2013 2.24 2.63 June 30, 2013 2.38 2.73 March 31, 2013 2.32 2.69 December 31, 2012 2.32 2.69 September 30, 2012 2.22 2.61 June 30, 2012 2.45 2.87 March 31, 2012 2.54 2.96 (1) Reflects the difference between the yield on average interest-earning assets and average cost of funds. (2) Reflects annualized net interest income divided by average interest-earning assets. 44



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The following table presents the components of the net interest spread earned on our Agency and Non-Agency MBS for the quarterly periods presented:

Agency MBS Non-Agency MBS Total MBS Net Net Net Net Cost of Interest Net Cost of Interest Net Cost of Interest Quarter Ended Yield (1) Funding (2) Spread (3) Yield (1) Funding (2) Spread (3) Yield (1) Funding (2) Spread (3) December 31, 2013 2.37 % 1.26 % 1.11 % 7.77 % 3.01 % 4.76 % 4.48 % 1.85 % 2.63 % September 30, 2013 2.13 1.12 1.01 7.33 2.91 4.42 4.20 1.74 2.46 June 30, 2013 2.19 1.15 1.04 7.15 2.41 4.74 4.18 1.56 2.62 March 31, 2013 2.42 1.24 1.18 6.80 2.45 4.35 4.17 1.63 2.54 December 31, 2012 2.59 1.36 1.23 6.70 2.42 4.28 4.23 1.71 2.52 September 30, 2012 2.66 1.53 1.13 6.65 2.41 4.24 4.25 1.82 2.43 June 30, 2012 2.95 1.63 1.32 6.77 2.32 4.45 4.47 1.85 2.62 March 31, 2012 3.15 1.71 1.44 6.95 2.17 4.78 4.57 1.85 2.72 (1) Reflects annualized interest income on MBS divided by average amortized cost of MBS. (2) Reflects annualized interest expense divided by average balance of repurchase agreements, including the cost of swaps allocated based on the proportionate share of the overall estimated weighted average portfolio duration, and securitized debt. Non-Agency cost of funding includes 72 and 57 basis points associated with Swaps to hedge additional interest rate sensitivity on these assets for the quarters ended December 31, 2013 and September 30, 2013, respectively. (3) Reflects the difference between the net yield on average MBS and average cost of funds on MBS. Interest Income Interest income on our Agency MBS for 2013 decreased by $40.0 million, or 20.4% to $156.0 million from $196.1 million for 2012. This change primarily reflects a decrease in the net yield on our Agency MBS to 2.28% for 2013 from 2.83% for 2012 and an $84.9 million decrease in the average amortized cost of our Agency MBS portfolio to $6.841 billion for 2013 from $6.926 billion for 2012. At the end of 2013, the average coupon on mortgages underlying our Agency MBS was lower compared to the end of 2012, due to acquisition of assets in the marketplace at generally lower coupons reflecting current market conditions and as a result of prepayments on higher yielding assets and downward resets on Hybrid and ARM-MBS within the portfolio. As a result, the coupon yield on our Agency MBS portfolio declined 45 basis points to 3.13% for 2013 from 3.58% for 2012. Although our Agency MBS portfolio experienced a decline in CPR to 17.9% for 2013 compared to a CPR of 19.8% for 2012, we recognized an increase of net premium amortization to $57.9 million in 2013 compared to $52.0 million for 2012. The increase in premium amortization was the result of prepayments on Agency MBS that were purchased with high premiums. At December 31, 2013, we had net purchase premiums on our Agency MBS of $226.8 million, or 3.6% of current par value, compared to net purchase premiums of $227.3 million and 3.3% of par value at December 31, 2012. Interest income on our Non-Agency MBS (which includes Non-Agency MBS transferred to consolidated VIEs) increased $23.8 million, or 7.9%, for 2013 to $326.8 million compared to $303.0 million for 2012, primarily due to the increase in the net yield on our Non-Agency MBS portfolio. Our Non-Agency MBS portfolio yielded 7.25% for 2013 compared to 6.76% for 2012. For 2013, the average amortized cost of our Non-Agency MBS increased by $25.2 million or 0.6%, to $4.508 billion, from $4.482 billion for 2012. The increase in the yield on our Non-Agency MBS is primarily due to increases in accretable discount and changes in the forward yield curve, partially offset by the addition of newly acquired assets at yields less than our overall portfolio yield. During 2013, we recognized net purchase discount accretion of $73.2 million on our Non-Agency MBS, compared to $38.0 million for 2012. At December 31, 2013, we had net purchase discounts of $1.502 billion, including Credit Reserve and previously recognized OTTI of $1.043 billion, on our Non-Agency MBS, or 26.8% of par value. During 2013 we reallocated $207.9 million of purchased discount designated as Credit Reserve to accretable purchase discount. 45



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The following table presents the components of the coupon yield and net yields earned on our Agency MBS and Non-Agency MBS and weighted average CPR experienced for such MBS for the quarterly periods presented: Agency MBS Non-Agency MBS Total MBS Weighted Weighted Weighted Coupon Net Average Coupon Net Average Coupon Net Average Quarter Ended Yield (1) Yield (2) CPR Yield (1) Yield (2) CPR Yield (1) Yield (2) CPR December 31, 2013 3.04 % 2.37 % 12.87 % 5.40 % 7.77 % 14.16 % 3.96 % 4.48 % 13.42 % September 30, 2013 3.07 2.13 19.25 5.59 7.33 18.15 4.07 4.20 18.77 June 30, 2013 3.14 2.19 20.19 5.71 7.15 16.37 4.17 4.18 18.53 March 31, 2013 3.25 2.42 19.08 5.78 6.80 15.06 4.26 4.17 17.34 December 31, 2012 3.38 2.59 19.23 5.85 6.70 15.53 4.37 4.23 17.67 September 30, 2012 3.49 2.66 21.62 5.90 6.65 15.42 4.45 4.25 19.08 June 30, 2012 3.68 2.95 20.39 5.89 6.77 14.87 4.57 4.47 18.20 March 31, 2012 3.78 3.15 17.90 6.02 6.95 14.05 4.62 4.57 16.48 (1) Reflects the annualized coupon interest income divided by the average amortized cost. The discounted purchase price on Non-Agency MBS causes the coupon yield to be higher than the pass-through coupon interest rate. (Does not include MBS underlying our Linked Transactions. See Note 5 to the accompanying consolidated financial statements, included under Item 8 of this Annual Report on Form 10-K.) (2) Reflects annualized interest income on MBS divided by average amortized cost of MBS. Interest Expense Our interest expense for 2013 decreased by $7.7 million, or 4.5% to $164.0 million, from $171.7 million for 2012. This decrease primarily reflects the lower effective interest rate paid on borrowings to finance Agency MBS and a decrease in the average balance of securitized debt which was partially offset by an increase in our average borrowings to finance Non-Agency MBS. At December 31, 2013, we had repurchase agreement borrowings of $8.339 billion and securitized debt of $366.2 million, of which $4.045 billion was hedged with Swaps. At December 31, 2013, our Swaps had a weighted average fixed-pay rate of 1.91% and extended 49 months on average with a maximum remaining term of approximately 116 months. The following table presents information about our securitized debt at December 31, 2013: At December 31, 2013 Benchmark Interest Rate Securitized Debt Interest Rate (Dollars in Thousands) 30 Day LIBOR + 100 basis points $ 99,943 1.17 % 30 Day LIBOR + 125 basis points 61,711 1.42 Fixed Rate 93,556 2.85 Weighted Average Coupon Rate 110,995 4.02 Total $ 366,205 2.50 % The effective interest rate paid on our borrowings decreased to 1.76% for 2013 from 1.85% for 2012. This decrease reflects the maturity of Swaps with higher fixed-pay rates partially offset by additional higher cost financing associated with our Non-Agency MBS portfolio. Payments made and/or received on our Swaps are a component of our borrowing costs and accounted for interest expense of $59.0 million or 63 basis points, for 2013, compared to interest expense of $73.3 million, or 79 basis points, for 2012. Certain of our Swaps have fixed interest rates that are significantly higher than current market interest rates. The weighted average fixed-pay rate on our Swaps decreased to 2.08% for 2013 from 2.68% for 2012. The weighted average variable interest rate received on our Swaps decreased to 0.19% for 2013 from 0.27% for 2012. During 2013, we entered into 23 new Swaps with an aggregate notional amount of $2.501 billion, a weighted average fixed-pay rate of 1.85% with initial maturities ranging from two months to ten years, and had Swaps with an aggregate notional amount of $975.4 million and a weighted average fixed-pay rate of 2.78% amortize and/or expire. 46



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We expect that our interest expense and funding costs for 2014 will be impacted by market interest rates, the amount of our borrowings and incremental hedging activity, our existing and future interest rates on our hedging instruments and the extent to which we execute additional financing transactions, such as resecuritizations. As a result of these variables, our borrowing costs cannot be predicted with any certainty. (See Notes 5, 6 and 14 to the accompanying consolidated financial statements, included under Item 8 of this Annual Report on Form 10-K.)



The following table presents our leverage multiples, as measured by debt-to-equity, at the dates presented:

GAAP Non-GAAP Leverage Leverage At the Period Ended Multiple (1) Multiple (2) December 31, 2013 2.9 3.0 September 30, 2013 3.0 3.1 June 30, 2013 3.1 3.1 March 31, 2013 3.1 3.1 December 31, 2012 3.0 3.0 September 30, 2012 3.2 3.2 June 30, 2012 3.6 3.6 March 31, 2012 3.4 3.5 (1) Represents the sum of borrowings under repurchase agreements, securitized debt, payable for unsettled purchases, and obligations to return securities obtained as collateral and Senior Notes divided by stockholders' equity. (2) The Non-GAAP Leverage Multiple reflects the sum of our borrowings under repurchase agreements, securitized debt, payable for unsettled purchases, obligations to return securities obtained as collateral, Senior Notes and borrowings that are reported on our consolidated balance sheets as a component of Linked Transactions of $102.7 million, $82.4 million, $33.2 million, $34.1 million, $35.3 million, $36.4 million, $51.2 million and $84.8 millionDecember 31, 2013, September 30, 2013, June 30, 2013, March 31, 2013, December 31, 2012, September 30, 2012, June 30, 2012 and March 31, 2012 respectively. We present a Non-GAAP leverage multiple since repurchase agreement borrowings that are a component of Linked Transactions may not be linked in the future and, if no longer linked, will be reported as repurchase agreement borrowings, which will increase our leverage multiple. (See Note 5 to the accompanying consolidated financial statements, included under Item 8 of this Annual Report on Form 10-K.)



OTTI

During 2013, we did not recognize any OTTI charges through earnings against our Non-Agency MBS. During 2012, we recognized OTTI charges through earnings of $1.2 million against our Non-Agency MBS. The impairment charges during 2012 reflected changes in our estimated cash flows for such securities based on an updated assessment of the estimated future performance of the underlying collateral, including the expected principal loss over the term of the security and changes in the expected timing of receipt of cash flows. At December 31, 2013, we had 308 Agency MBS with a gross unrealized loss of $92.3 million and 30 Non-Agency MBS with a gross unrealized loss of $3.7 million. Impairments on Agency MBS in an unrealized loss position at December 31, 2013 are considered temporary and not credit related. Unrealized losses on Non-Agency MBS for which no OTTI was recorded during the year are considered temporary based on an assessment of changes in the expected cash flows for such MBS, which considers recent bond performance and expected future performance of the underlying collateral. Significant judgment is used both in the Company's analysis of expected cash flows for its Non-Agency MBS and any determination of the credit component of OTTI. (See "Critical Accounting Policies and Estimates" for more information regarding OTTI.) 47



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Other Income, net

For 2013, Other income, net, increased slightly by $131,000 to $21.8 million, from $21.6 million for 2012. 2013 Other income, net primarily reflects $25.8 million of net gains realized on the sale of certain Non-Agency MBS and U.S. Treasury securities and unrealized net gains and net interest income of $3.2 million on our Linked Transactions, which was partially offset by $7.5 million of losses realized on the sale of $350.0 million notional of TBA Securities. During 2013, we sold Non-Agency MBS for $152.6 million, realizing gross gains of $25.8 million and sold U.S. Treasury securities for $422.2 million, realizing net losses of approximately $24,000. During 2012, we realized $9.0 million of gains on the sale of certain Agency MBS for proceeds of $168.9 million. The unrealized net gains and net interest income from Linked Transactions of $3.2 million for 2013 included interest income of $3.9 million on the underlying Non-Agency MBS, interest expense of $925,000 on the borrowings under repurchase agreements and an increase of $281,000 in the fair value of the underlying securities. The unrealized net gains and net interest income on Linked Transactions of $12.6 million for 2012 included interest income of $5.1 million on the underlying Non-Agency MBS, interest expense of $1.1 million on borrowings under repurchase agreements and an increase of $8.6 million in the fair value of the underlying securities. Changes in the market value of the securities underlying our Linked Transactions, the amount of bond purchases recorded as Linked Transactions in the future and the amount of Linked Transactions that become unlinked in the future, none of which can be predicted with any certainty, will impact future gains/(losses) on our Linked Transactions.



Operating and Other Expense

For 2013, we had compensation and benefits and other general and administrative expense of $33.7 million, or 1.03% of average equity, compared to $33.6 million, or 1.14% of average equity, for 2012. The $1.8 million decrease in our compensation and benefits expense to $20.3 million for 2013, compared to $22.1 million for 2012, primarily reflects lower equity-based compensation expense and payroll taxes partially offset by an increase in salary expense. Our other general and administrative expenses increased by $1.9 million to $13.4 million for 2013 compared to $11.5 million for 2012. The increase was primarily comprised of increases in professional services, including auditing and legal fees, recruitment costs, the cost of data and analytical systems, and lease expense. During 2013, we recorded an excise tax and interest accrual of $2.0 million reflecting an updated estimate of excise tax payable in respect of undistributed REIT taxable income for the 2012 tax year and an additional accrual of interest with respect to prior years undistributed taxable income and recorded $250,000 reflecting an estimate of excise tax payable in respect of undistributed REIT taxable income for the 2013 tax year. In addition, for 2013, we realized a $2.0 million charge related to the impairment of resecuritization related costs. 48



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Selected Financial Ratios

The following table presents information regarding certain of our financial ratios at or for the dates presented:

Return on Total Average Book Value Return on Average Total Stockholders' Dividend per Share Average Total Stockholders' Equity to Total Payout of Common At or for the Quarter Ended Assets (1) Equity (2) Average Assets (3) Ratio (4) Stock (5) December 31, 2013 2.37 % 9.55 % 24.80 % 0.98 % $ 8.06 September 30, 2013 2.10 8.71 24.12 1.18 (6) 7.85 June 30, 2013 2.10 8.29 25.35 1.16 8.19 March 31, 2013 2.20 8.92 24.63 1.05 (7) 8.84

December 31, 2012 1.96 8.12 24.16 1.06 8.99 September 30, 2012 2.26 10.14 22.32 0.99 8.80 June 30, 2012 2.33 10.41 22.36 1.13 7.45 March 31, 2012 2.73 12.36 22.07 1.03 7.49 (1) Reflects annualized net income divided by average total assets. (2) Reflects annualized net income divided by average total stockholders' equity. (3) Reflects total average stockholders' equity divided by total average assets. (4) Reflects dividends declared per share of common stock divided by earnings per share. (5) Reflects total stockholders' equity less the preferred stock liquidation preference divided by total shares of common stock outstanding. (6) Excludes the special common stock dividend declared on August 1, 2013. (7) Excludes the special common stock dividend declared on March 4, 2013.



Year Ended December 31, 2012 Compared to the Year Ended December 31, 2011

Our results for 2012 were generally influenced by the impact of declining net interest rate spreads. These declining spreads were primarily attributable to lower net yields on both Agency and Non-Agency MBS. Yields on Agency MBS were impacted, particularly in the second half of the year, by the lower interest rate environment and marginally higher CPRs, while yields on Non-Agency MBS were primarily impacted by the addition of lower yielding assets and changes in expected future interest rates. In addition, our holdings of Non-Agency MBS increased by approximately $1.607 billion throughout 2012, primarily due to the addition of $1.351 billion of newly acquired assets which was partially offset by $740.3 million of principal repayments on the entire Non-Agency MBS portfolio and an increase in net unrealized gains of $784.6 million for the portfolio as a result of market price appreciation. For 2012, we had net income available to our common stock and participating securities of $298.7 million, or $0.83 per basic and diluted common share, compared to net income available to common stock and participating securities of $308.3 million, or $0.90 per basic and diluted common share, for 2011. The decrease in net income available to our common stock and participating securities, and the decrease of this item on a per share basis, were generally influenced by the impact of declining net interest rate spreads. These declining spreads were primarily attributable to lower net yields on both Agency and Non-Agency MBS. For Agency MBS, the spread impact of declining net yields was partially offset by decreased funding costs, particularly in the second half of the year. For Non-Agency MBS, in addition to yield declines, spreads were also impacted to some extent by incrementally higher funding costs resulting from longer terms of financing. Yields on Agency MBS were impacted by the lower interest rate environment and higher CPRs, while yields on Non-Agency MBS were primarily impacted by the addition of lower yielding assets and changes in expected future interest rates. Interest income on our Agency MBS for 2012 decreased $45.9 million, or 19.0% to $196.1 million from $242.0 million for 2011. This change primarily reflects a decrease in the net yield on our Agency MBS to 2.83% for 2012 from 3.50% for 2011 partially offset by an increase in the average amortized cost of our Agency MBS portfolio to $6.926 billion for 2012 from $6.921 billion for 2011. During 2012, our Agency MBS portfolio experienced a 19.8% CPR and we recognized $52.0 million of net premium amortization compared to a CPR of 19.0% and $38.2 million of net premium amortization for 2011. At the end of 2012, the average coupon on mortgages underlying our Agency MBS was lower compared to the end of 2011, due to acquisition of assets in the marketplace at generally lower coupons reflecting current market conditions and as a result of prepayments on higher yielding assets and resets on Hybrid and ARM-MBS within the portfolio. As a result, the coupon yield on our Agency MBS portfolio declined 47 basis points to 3.58% for 2012 from 4.05% for 2011. At December 31, 2012, we had net purchase premiums 49



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on our Agency MBS of $227.3 million, or 3.3% of current par value, compared to net purchase premiums of $177.7 million and 2.6% of par value at December 31, 2011. Interest income on our Non-Agency MBS (which includes Non-Agency MBS transferred to consolidated VIEs) increased $48.4 million, or 19.0% for 2012 to $303.0 million compared to $254.6 million for 2011, principally due to the increase in the amortized cost of our Non-Agency MBS portfolio. For 2012, the average amortized cost of our Non-Agency MBS increased by $1.109 billion, or 32.9%, to $4.482 billion, from $3.374 billion for 2011. The growth in our Non-Agency MBS has primarily been funded with longer term forms of repurchase agreement financings. In addition, certain of our Non-Agency MBS underlying Linked Transactions became delinked during 2012, due to the repayment of the repurchase agreement financing. These delinkings resulted in Non-Agency MBS of $175.2 million, previously included as a component of Linked Transactions, being recognized as Non-Agency MBS on our consolidated balance sheet at December 31, 2012. Our Non-Agency MBS portfolio yielded 6.76% for 2012 compared to 7.55% for 2011. The decrease in the yield on our Non-Agency MBS is primarily due to the impact of lower yields on assets purchased during 2012 as well as the flattening (downward movement in the later years) of the forward yield curve, which causes us to lower the projected future coupons and therefore the expected yields on our Hybrid Non-Agency MBS. During 2012, we recognized net purchase discount accretion of $38.0 million on our Non-Agency MBS, compared to $42.2 million for 2011. At December 31, 2012, we had net purchase discounts of $1.751 billion, including Credit Reserve and previously recognized OTTI of $1.381 billion, on our Non-Agency MBS, or 26.9% of par value. During 2012 we reallocated $152.5 million of purchase discount designated as Credit Reserve to accretable purchase discount. The following table presents the components of the coupon yield and net yields earned on our Agency MBS and Non-Agency MBS and weighted average CPR experienced for such MBS for the quarterly periods presented: Agency MBS (1) Non-Agency MBS (1) Total MBS (1) Weighted Weighted Weighted Coupon Net Average Coupon Net Average Coupon Net Average Quarter Ended Yield (2) Yield (3) CPR Yield (2) Yield (3) CPR Yield (2) Yield (3) CPR December 31, 2012 3.38 % 2.59 % 19.23 % 5.85 % 6.70 % 15.53 % 4.37 % 4.23 % 17.67 % September 30, 2012 3.49 2.66 21.62 5.90 6.65 15.42 4.45 4.25 19.08 June 30, 2012 3.68 2.95 20.39 5.89 6.77 14.87 4.57 4.47 18.20 March 31, 2012 3.78 3.15 17.90 6.02 6.95 14.05 4.62 4.57 16.48 December 31, 2011 3.79 3.14 19.35 6.07 7.02 13.07 4.60 4.51 17.19 September 30, 2011 3.98 3.37 19.29 6.15 7.25 14.66 4.75 4.75 17.97 June 30, 2011 4.14 3.68 16.57 6.41 7.84 14.63 4.87 5.01 16.03 March 31, 2011 4.32 3.84 20.95 6.83 8.58 14.80 5.00 5.12 19.39 (1) Yields presented throughout this Annual Report on Form 10-K are calculated using average amortized cost data. For GAAP reporting purposes, MBS purchases and sales are reported on the trade date. Average amortized cost data used to determine yields is calculated based on the settlement date of the associated purchase or sale as interest income is not earned on purchased bonds and continues to be earned on sold bonds until settlement date. (2) Reflects annualized coupon interest income divided by the average amortized cost. The discounted purchase price on Non-Agency MBS causes the coupon yield to be higher than the pass-through coupon interest rate. (Does not include MBS underlying our Linked Transactions. See Note 5 to the accompanying consolidated financial statements, included under Item 8 of this Annual Report on Form 10-K.) (3) Reflects annualized interest income divided by average amortized cost. 50



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The following table presents information about average balances of our MBS portfolio by category and associated income for the years ended December 31, 2012 and 2011.

Average Weighted Amortized Interest Average



Coupon Net Asset (Dollars in Thousands) Cost (1) Income Coupon Yield (2) Yield (3)

Year Ended December 31, 2012 Agency MBS $ 6,925,973$ 196,058 3.76 % 3.58 % 2.83 % Non-Agency MBS, including transfers to a consolidated VIE 4,482,281 302,972 4.34 5.91 6.76 Total $ 11,408,254$ 499,030 4.04 % 4.50 % 4.37 % Year Ended December 31, 2011 Agency MBS $ 6,921,494$ 241,994 4.22 % 4.05 % 3.50 % Non-Agency MBS, including transfers to a consolidated VIE 3,373,534 254,617 4.64 6.30 7.55 Total $ 10,295,028$ 496,611 4.39 % 4.79 % 4.82 % (1) Includes principal payments receivable. (2) Reflects coupon interest income divided by the average amortized cost.



The

discounted purchase price on Non-Agency MBS causes the coupon yield to be higher than the pass-through coupon interest rate. (Does not include MBS underlying our Linked Transactions. See Note 5 to the accompanying consolidated financial statements, included under Item 8 of this Annual Report on Form 10-K.) (3) Reflects interest income divided by the average amortized cost. Interest income from our cash investments, which are comprised of money market investments and are not a material source of income, as the yields on such funds remain at historically low levels, decreased to $127,000 for 2012 from $136,000 for 2011. Our average cash investments were $382.4 million and yielded 0.03% for 2012 compared to average cash investments of $459.4 million that yielded 0.03% for 2011. In general, we manage our cash investments relative to our investing, financing and operating requirements, investment opportunities and current and anticipated market conditions. At December 31, 2012, we had repurchase agreement borrowings of $8.752 billion and securitized debt of $646.8 million, of which $2.520 billion was hedged with Swaps. At December 31, 2012, our Swaps had a weighted average fixed-pay rate of 2.31% and extended 17 months on average with a maximum remaining term of approximately 48 months. 51



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Our interest expense for 2012 increased by $22.3 million, or 14.9%, to $171.7 million, from $149.4 million for 2011. This increase primarily reflects the combined impact of an increase in our average borrowings and the higher effective interest rate paid particularly on borrowings to finance Non-Agency MBS, as well as on securitized debt and Senior Notes. The following table presents information regarding the components of our interest expense for the years ended 2012 and 2011: Average Interest Average Cost (Dollars in Thousands) Balance Expense of Funds (1) Year Ended December 31, 2012 Agency Repurchase Agreements $ 6,241,623$ 97,094 1.56 % Non-Agency Repurchase Agreements 2,090,031 51,673 2.47 Total Repurchase Agreements 8,331,654 148,767 1.79 Securitized Debt 852,656 17,106 2.01 Senior Notes (2) 72,404 5,797 8.01 Total $ 9,256,714$ 171,670 1.85 %



Year Ended December 31, 2011 Agency Repurchase Agreements $ 6,168,092$ 113,062 1.83 % Non-Agency Repurchase Agreements 1,416,663 24,677 1.74 Total Repurchase Agreements 7,584,755 137,739 1.82 Securitized Debt

784,120 11,672 1.49 Total $ 8,368,875$ 149,411 1.79 %



(1) Reflects interest expense divided by the average balance and includes the cost of Swaps designated as hedges against repurchase agreements. (2) We did not have any Senior Notes prior to April 11, 2012.

The following table presents information about our securitized debt at December 31, 2012: At December 31, 2012 Benchmark Interest Rate Securitized Debt Interest Rate (Dollars in Thousands) 30 Day LIBOR + 100 basis points $ 237,258 1.21 % 30 Day LIBOR + 125 basis points 265,539 1.46 Fixed Rate 144,019 2.85 Total $ 646,816 1.68 % The effective interest rate paid on our borrowings increased to 1.85% for 2012 from 1.79% for 2011. This increase reflects additional higher cost longer-term financing associated with our Non-Agency MBS portfolio, the issuance of fixed-rate securitized debt in February 2012, the issuance of our Senior Notes in April 2012 partially offset by the maturity of Swaps with higher fixed-pay rates. Payments made and/or received on our Swaps are a component of our borrowing costs and accounted for interest expense of $73.3 million, or 79 basis points, for 2012, compared to interest expense of $95.7 million, or 114 basis points, for 2011. Certain of our Swaps have fixed interest rates that are significantly higher than current market interest rates. As these Swaps continue to amortize and/or expire, the Swap component of our borrowing costs is expected to continue to decrease. The weighted average fixed-pay rate on our Swaps decreased to 2.68% for 2012 from 3.13% for 2011. The weighted average variable interest rate received on our Swaps increased slightly to 0.27% for 2012 from 0.25% for 2011. During 2012, we entered into one new Swap with a notional amount of $100.0 million, a fixed-pay rate of 0.48% and an initial maturity of four years, and had Swaps with an aggregate notional amount of $958.3 million and a weighted average fixed-pay rate of 3.87% amortize and/or expire. 52



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We expect that our interest expense and funding costs for 2013 will be impacted by market interest rates, the amount of our borrowings and incremental hedging activity, our existing and future interest rates on our hedging instruments and the extent to which we execute additional financing transactions, such as resecuritizations. As a result of these variables, our future borrowing costs cannot be predicted with any certainty. (See Notes 5, 6 and 14 to the accompanying consolidated financial statements, included under Item 8 of this Annual Report on Form 10-K.)



The following table presents our leverage multiples, as measured by debt-to-equity, at the dates presented:

GAAP Non-GAAP Leverage Leverage At the Period Ended Multiple (1) Multiple (2) December 31, 2012 3.0 (3) 3.0 September 30, 2012 3.2 (3) 3.2 June 30, 2012 3.6 (4) 3.6 March 31, 2012 3.4 (3) 3.5 December 31, 2011 3.6 (5) 3.7 September 30, 2011 3.4 (6) 3.5 June 30, 2011 3.2 (7) 3.3 March 31, 2011 2.9 3.0 (1) Represents the sum of borrowings under repurchase agreements, securitized debt, payable for unsettled purchases, obligation to return securities obtained as collateral, and Senior Notes, divided by stockholders' equity. (2) The Non-GAAP Leverage Multiple reflects the sum of our borrowings under repurchase agreements, securitized debt, payable for unsettled purchases, obligation to return securities obtained as collateral, Senior Notes and borrowings that are reported on our consolidated balance sheet as a component of Linked Transactions of $35.3 million, $36.4 million, $51.2 million, $84.8 million, $170.9 million, $193.0 million, $225.4 million and $304.1 million at December 31, 2012, September 30, 2012, June 30, 2012, and March 31, 2012, December 31, 2011, September 30, 2011, June 30, 2011, March 31, 2011, respectively. We present a Non-GAAP leverage multiple since repurchase agreement borrowings that are a component of Linked Transactions may not be linked in the future and, if no longer linked, will be reported as repurchase agreement borrowings, which will increase our leverage multiple. (See Note 5 to the accompanying consolidated financial statements, included under Item 8 of this Annual Report on Form 10-K.) (3) The decrease compared to the prior quarter primarily reflects an increase in the market value of our Non-Agency MBS. (4) The increase compared to the prior quarter primarily reflects a higher use of financing structures and the issuance of Senior Notes during the quarter. (5) The increase compared to the prior quarter primarily reflects a decline in the market value of our Non-Agency MBS and increased use of structured financing to acquire Non-Agency MBS. (6) The increase compared to the prior quarter primarily reflects a decline in the market value of our Non-Agency MBS. (7) The increase compared to the prior quarter primarily reflects the use of resecuritization to finance a portion of our Non-Agency MBS portfolio. For 2012, our net interest income decreased by $19.8 million, or 5.7%, to $327.5 million from $347.3 million for 2011. This decrease primarily reflects the impact of additional lower yielding MBS and increases in our average borrowings and the higher effective interest rate paid on such borrowings. Our net interest spread and margin for 2012 were 2.38% and 2.78%, respectively, compared to a net interest spread and margin of 2.83% and 3.23%, respectively, for 2011. 53



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The following table presents information regarding our average balances, interest income and expense, yields on average interest-earning assets, average cost of funds and net interest income for the quarters presented:

Yield on Average Average Average Average Interest Interest Total Interest- Balance of Average Net Amortized Cost Income on Earning Interest Earning Financing Interest Cost of Interest Quarter Ended of MBS (1) MBS Cash (2) Income Assets (3) Arrangements (4) Expense Funds Income (Dollars in Thousands) December 31, 2012 $ 11,807,038$ 124,925$ 405,490$ 124,968 4.09 % $ 9,654,253$ 43,054 1.77 % $ 81,914 September 30, 2012 11,778,939 125,097 406,488 125,135 4.11 9,660,381 45,801 1.89 79,334 June 30, 2012 11,219,055 125,504 292,302 125,531 4.36 8,981,553 42,688 1.91 82,843 March 31, 2012 10,819,531 123,504 424,691 123,523 4.39 8,721,868 40,127 1.85 83,396 December 31, 2011 11,000,704 123,964 402,958 123,994 4.35 8,899,013 38,811 1.73 85,183 September 30, 2011 11,010,686 130,741 548,339 130,766 4.53 9,034,044 38,752 1.70 92,014 June 30, 2011 10,545,419 132,082 432,005 132,109 4.81 8,473,314 37,195 1.76 94,914 March 31, 2011 8,587,526 109,824 453,730 109,878 4.86 7,041,406 34,653 1.99 75,225 (1) Unrealized gains and losses are not reflected in the average amortized cost of MBS. (2) Includes average interest-earning cash, cash equivalents and restricted cash. (3) Reflects annualized interest income divided by average amortized cost of interest-earning assets. (4) Includes repurchase agreements, securitized debt and Senior Notes.



The following table presents our net interest spread and net interest margin for the quarters presented:

Total Interest-Earning Assets and Interest- Bearing Liabilities Quarter Ended Net Interest Spread (1) Net Interest Margin (2) December 31, 2012 2.32 % 2.69 % September 30, 2012 2.22 2.61 June 30, 2012 2.45 2.87 March 31, 2012 2.54 2.96 December 31, 2011 2.62 3.00 September 30, 2011 2.83 3.20 June 30, 2011 3.05 3.46 March 31, 2011 2.87 3.31



(1) Reflects the difference between the yield on average interest-earning assets and average cost of funds. (2) Annualized net interest income divided by average interest-earning assets.

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The following table presents the components of the net interest spread earned on our Agency and Non-Agency MBS for the quarters presented:

Agency MBS Non-Agency MBS Total MBS Net Cost of Net Interest Net Cost of Net Interest Net Cost of Net Interest Quarter Ended Yield (1) Funding (2) Spread (3) Yield (1) Funding (2) Spread (3) Yield (1) Funding (2) Spread (3) December 31, 2012 2.59 % 1.36 % 1.23 % 6.70 % 2.42 % 4.28 % 4.23 % 1.71 % 2.52 % September 30, 2012 2.66 1.53 1.13 6.65 2.41 4.24 4.25 1.82 2.43 June 30, 2012 2.95 1.63 1.32 6.77 2.32 4.45 4.47 1.85 2.62 March 31, 2012 3.15 1.71 1.44 6.95 2.17 4.78 4.57 1.85 2.72 December 31, 2011 3.14 1.71 1.43 7.02 1.78 5.24 4.51 1.73 2.78 September 30, 2011 3.37 1.74 1.63 7.25 1.61 5.64 4.75 1.70 3.05 June 30, 2011 3.68 1.82 1.86 7.84 1.57 6.27 5.01 1.76 3.25 March 31, 2011 3.84 2.10 1.74 8.58 1.62 6.96 5.12 1.99 3.13 (1) Reflects annualized interest income on MBS divided by average amortized cost of MBS. (2) Reflects annualized interest expense divided by average balance of repurchase agreements and securitized debt. (3) Reflects the difference between the net yield on average MBS and average cost of funds on MBS. During 2012, we recognized OTTI charges through earnings of $1.2 million against our Non-Agency MBS compared to $10.6 million during the year ended 2011. These impairment charges reflected changes in our estimated cash flows for such securities based on an updated assessment of the estimated future performance of the underlying collateral, including the expected principal loss over the term of the security and changes in the expected timing of receipt of cash flows. At December 31, 2012, we had 33 Non-Agency MBS with a gross unrealized loss of $6.3 million and 53 Agency MBS with a gross unrealized loss of $1.5 million. Impairments on Agency MBS in an unrealized loss position at December 31, 2012 are considered temporary and not credit related. Unrealized losses on Non-Agency MBS for which no OTTI was recorded during the year are considered temporary based on an assessment of changes in the expected cash flows for such MBS, which considers recent bond performance and expected future performance of the underlying collateral. Significant judgment is used both in the Company's analysis of expected cash flows for its Non-Agency MBS and any determination of the credit component of OTTI. (See "Critical Accounting Policies and Estimates" for more information regarding OTTI.) For 2012, we had other income, net of $21.6 million compared to $10.8 million for 2011. The 2012 income primarily reflects the net gains of $12.6 million on our Linked Transactions and $9.0 million of gains realized on the sale of certain Agency MBS. The gains on Linked Transactions for 2012 included interest income of $5.1 million on the underlying Non-Agency MBS, interest expense of $1.1 million on borrowings under repurchase agreements and an increase of $8.6 million in the fair value of the underlying securities. The gains on Linked Transactions for 2011 included interest income of $25.6 million on the underlying Non-Agency MBS, interest expense of $4.8 million on borrowings under repurchase agreements and a decrease of $17.8 million in the fair value of the underlying securities. Changes in the market value of the securities underlying our Linked Transactions, the amount of bond purchases recorded as Linked Transactions in the future and the amount of Linked Transactions that become unlinked in the future, none of which can be predicted with any certainty, will impact future gains/(losses) on our Linked Transactions. During 2012, certain of our Linked Transactions became unlinked, resulting in our recording Non-Agency MBS with a fair value of $175.2 million on our consolidated balance sheet. During 2012, we realized $9.0 million of gains on the sale of certain Agency MBS for proceeds of $168.9 million. During the 2011, we realized $6.7 million of gains on the sale of certain Agency MBS for proceeds of $150.6 million. During 2012, we had compensation and benefits and other general and administrative expense of $33.6 million, or 1.14% of average equity, compared to $30.2 million, or 1.12% of average equity, for 2011. The increase in our compensation and benefits expense to $22.1 million for 2012, compared to $19.0 million for 2011, primarily reflects vesting of equity-based compensation awards and an increase in the level of incentive compensation awards to our employees. Our other general and administrative expenses increased slightly to $11.5 million for 2012 compared to $11.3 million for 2011. During 2012, we recorded an accrual of $7.5 million for potential federal excise tax on our current estimate of 2012 REIT taxable income and interest for prior years undistributed taxable income. 55



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CRITICAL ACCOUNTING POLICIES AND ESTIMATES Our consolidated financial statements include our accounts and all majority owned and controlled subsidiaries. In addition, we consolidated the special purpose entities (or SPEs) created to facilitate the resecuritization transactions that we completed in February 2012, June 2011, February 2011, and October 2010. The preparation of consolidated financial statements in accordance with GAAP requires management to make estimates and assumptions that affect the reported amounts reported in the consolidated financial statements. In preparing these consolidated financial statements, management has made estimates and judgments of certain amounts included in the consolidated financial statements, giving due consideration to materiality. Application of these accounting policies involves the exercise of judgment and use of assumptions as to future uncertainties and, as a result, actual results could differ from these estimates.



Our accounting policies are described in Note 2 to the consolidated financial statements, included under Item 8 of this Annual Report on Form 10-K. Management believes the more significant of these to be as follows:

Classifications of Investment Securities and Assessment for Other-Than-Temporary Impairments

Our investments in securities are primarily comprised of Agency MBS and Non-Agency MBS, as discussed and detailed in Notes 2(b) and 3 to the consolidated financial statements, included under Item 8 of this Annual Report on Form 10-K. With the exception of MBS accounted for as a component of our Linked Transactions, all of our MBS are designated as available-for-sale and carried on the balance sheet at their fair value with unrealized gains and losses excluded from earnings (except when an OTTI is recognized, as discussed below) and recorded in AOCI, a component of stockholders' equity. We do not intend to hold any of our investment securities for trading purposes; however, if available-for-sale securities were classified as trading securities, there could be substantially greater volatility in our earnings. When the fair value of an available-for-sale security is less than its amortized cost at the balance sheet date, the security is considered impaired. We assess our impaired securities on at least a quarterly basis and designate such impairments as either "temporary" or "other-than-temporary." If we intend to sell an impaired security or it is more likely than not that we will be required to sell the impaired security before its anticipated recovery, an OTTI is recognized through charges to earnings equal to the entire difference between the investment's amortized cost and its fair value at the balance sheet date. If we do not expect to sell an other-than-temporarily impaired security, only the portion of the OTTI related to credit losses is recognized through charges to earnings with the remainder recognized through AOCI on the consolidated balance sheets. In making our assessments about OTTIs, we review and consider certain information relating to our financial position and the impaired securities, including the nature of such securities, the contractual collateral requirements impacting us and our investment and leverage strategies, as well as subjective information, including our current and targeted liquidity position, the credit quality and expected cash flows of the underlying assets collateralizing such securities, and current and anticipated market conditions. In determining the OTTI related to credit losses for securities that were purchased at significant discounts to par and/or are otherwise assessed to be of less than high credit quality, the Company compares the present value of the remaining cash flows expected to be collected at the purchase date (or last date previously revised) against the present value of the cash flows expected to be collected at the current financial reporting date. The determination as to whether an OTTI exists and, if so, the amount of credit impairment recognized in earnings is subjective, as such determinations are based on factual information available at the time of assessment as well as management's estimates of the future performance and cash flow projections. As a result, the timing and amount of OTTIs constitute material estimates that are susceptible to significant change. During 2013, we did not recognize any credit-related OTTI losses through earnings related to our MBS. At December 31, 2013, we did not intend to sell any MBS that were in an unrealized loss position, and it is "more likely than not" that we will not be required to sell these MBS before recovery of their amortized cost basis, which may be at their maturity. Gross unrealized losses on our Agency MBS were $92.3 million at December 31, 2013. Agency MBS are issued by GSEs that enjoy either the implicit or explicit backing of the full faith and credit of the U.S. Government. While our Agency MBS are not rated by any rating agency, they are currently perceived by market participants to be of high credit quality, with risk of default limited to the unlikely event that the U.S. Government would not continue to support the GSEs. In addition the GSEs are currently profitable on a stand-alone basis with such profits being remitted to the U.S. Treasury. Given the credit quality inherent in Agency MBS, we do not consider any of the current impairments on our Agency MBS to be credit related. In assessing whether it is more likely than not that we will be required to sell any impaired security before its anticipated recovery, which may be at their maturity, we consider for each impaired security, the significance of each investment, the amount of impairment, the projected future performance of such impaired securities, as well as our current and anticipated leverage capacity and liquidity position. Based on these analyses, we determined that at December 31, 2013 any unrealized losses on our Agency MBS were temporary. 56



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The payments of principal and interest we receive on our Agency MBS, which depend directly upon payments on the mortgages underlying such securities, are guaranteed by Fannie Mae, Freddie Mac and Ginnie Mae. Fannie Mae and Freddie Mac are GSEs, but their guarantees are not explicitly backed by the full faith and credit of the United States. Ginnie Mae is part of a U.S. Government agency and its guarantees are explicitly backed by the full faith and credit of the United States. We believe that the stronger backing for the guarantors of Agency MBS resulting from the conservatorship of Fannie Mae and Freddie Mac has further strengthened their credit worthiness; however, there can be no assurance that these actions will be adequate for their needs. Accordingly, if these government actions are inadequate and the GSEs continue to suffer losses or cease to exist, our view of the credit worthiness of our Agency MBS could materially change, which may affect our assessment of OTTI for Agency MBS in future periods. (See Part I, Item 1A., Risk Factors, "The federal conservatorship of Fannie Mae and Freddie Mac and related efforts, along with any changes in laws and regulations affecting the relationship between Fannie Mae and Freddie Mac and the U.S. Government, may materially adversely affect our business.") Unrealized losses on our Non-Agency MBS (including Non-Agency MBS transferred to consolidated VIEs) were $3.7 million at December 31, 2013. Based upon the most recent evaluation, we do not consider these unrealized losses to be indicative of OTTI and do not believe that these unrealized losses are credit related, but are rather due to non-credit related factors. We have reviewed our Non-Agency MBS that are in an unrealized loss position to identify those securities with losses that are other-than-temporary based on an assessment of changes in expected cash flows for such MBS, which considers recent bond performance and expected future performance of the underlying collateral. Our expectations with respect to our securities in an unrealized loss position may change over time, given, among other things, the dynamic nature of markets and other variables. Future sales or changes in our expectations with respect to securities in an unrealized loss position could result in us recognizing OTTI charges or realizing losses on sales of MBS in the future. (See Notes 2(b) and 3 to the consolidated financial statements, included under Item 8 of this Annual Report on Form 10-K.) Fair Value Measurements



A financial instrument's categorization within the valuation hierarchy is based upon the lowest level of input that is significant to the fair value measurement. The three levels of valuation hierarchy are defined as follows:

Level 1 - inputs to the valuation methodology are quoted prices (unadjusted) for identical assets or liabilities in active markets.

Level 2 - inputs to the valuation methodology include quoted prices for similar assets and liabilities in active markets, and inputs that are observable for the asset or liability, either directly or indirectly, for substantially the full term of the financial instrument.



Level 3 - inputs to the valuation methodology are unobservable and significant to the fair value measurement.

The following describes the valuation methodologies used for our financial instruments measured at fair value, as well as the general classification of such instruments pursuant to the valuation hierarchy.

Securities Obtained and Pledged as Collateral/Obligation to Return Securities Obtained as Collateral

The fair value of U.S. Treasury securities obtained as collateral and the associated obligation to return securities obtained as collateral are based upon prices obtained from a third-party pricing service, which are indicative of market activity. Securities obtained as collateral are classified as Level 1 in the fair value hierarchy.



Agency MBS, Non-Agency MBS and Securitized Debt

We determine the fair value of our Agency MBS based upon prices obtained from third-party pricing services, which are indicative of market activity and repurchase agreement counterparties.

For Agency MBS, the valuation methodology of our third-party pricing services incorporate commonly used market pricing methods, trading activity observed in the market place and other data inputs. The methodology also considers the underlying characteristics of each security, which are also observable inputs, including: collateral vintage; coupon; maturity date; loan age; reset date; collateral type; periodic and life cap; geography; and prepayment speeds. Management analyzes pricing data received from third-party pricing services and compares it to other indications of fair value including data received from repurchase agreement counterparties and its own observations of trading activity observed in the market place. 57



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In determining the fair value of its Non-Agency MBS and securitized debt, management considers a number of observable market data points, including prices obtained from pricing services and brokers as well as dialogue with market participants. In valuing Non-Agency MBS, we understand that pricing services use observable inputs that include, in addition to trading activity observed in the market place, loan delinquency data, credit enhancement levels and vintage, which are taken into account to assign pricing factors such as spread and prepayment assumptions. For tranches that are cross-collateralized, performance of all collateral groups involved in the tranche are considered. We collect and consider current market intelligence on all major markets, including benchmark security evaluations and bid list results from various sources, when available.



Our MBS and securitized debt are valued using various market data points as described above, which management considers to be directly or indirectly observable parameters. Accordingly, our MBS and securitized debt are classified as Level 2 in the fair value hierarchy.

Derivative Instruments

Linked Transactions

The Non-Agency MBS underlying our Linked Transactions are valued using similar techniques to those used for our other Non-Agency MBS. The value of the underlying MBS is then netted against the carrying amount (which approximates fair value) of the repurchase agreement borrowing at the valuation date. The fair value of Linked Transactions also includes accrued interest receivable on the MBS and accrued interest payable on the underlying repurchase agreement borrowings. Our Linked Transactions are classified as Level 2 in the fair value hierarchy. Swaps For non-centrally cleared Swaps, we determine the fair value of our derivative hedging instruments considering valuations obtained from a third-party pricing service. For Swaps that are cleared by a central clearing house, valuations provided by the clearing house are used. All valuations obtained are tested with internally developed models that apply readily observable market parameters. In valuing our derivative hedging instruments, we consider both our creditworthiness and that of our counterparties, along with collateral provisions contained in each derivative agreement, from the perspective of both us and our counterparties. All of our derivative hedging instruments are subject to bilateral collateral arrangements or for cleared Swaps, to the clearing house's margin requirements. Consequently, no credit valuation adjustment was made in determining the fair value of such instruments. Our derivative hedging instruments are classified as Level 2 in the fair value hierarchy.



TBA Short Positions

We determine the fair value of our TBA short positions, based upon prices obtained from third party pricing services, which are indicative of market activity. Accordingly, our TBA short positions are classified as Level 2 in the fair value hierarchy.

Interest Income on our Non-Agency MBS

Interest income on the Non-Agency MBS that were purchased at a discount to par value and/or are considered to be of lower credit quality is recognized based on the security's effective interest rate. The effective interest rate is based on management's estimate of the projected cash flows for each security, which are based on our observation of current information and events and include assumptions related to fluctuations in interest rates, prepayment speeds and the timing and amount of credit losses. On at least a quarterly basis, we review and, if appropriate, make adjustments to our cash flow projections based on input and analysis received from external sources, internal models, and our judgment about interest rates, prepayment rates, the timing and amount of credit losses, and other factors. Changes in cash flows from those originally projected, or from those estimated at the last evaluation, may result in a prospective change in the yield/interest income recognized on these securities and/or in the recognition of OTTIs. Based on the projected cash flows for our Non-Agency MBS purchased at a discount to par value, a portion of the purchase discount may be designated as a Credit Reserve, which effectively mitigates our risk of loss on the mortgages collateralizing such MBS and is not expected to be accreted into interest income. The amount designated as Credit Reserve may be adjusted over time, based on the actual performance of the security, its underlying collateral, actual and projected cash flow from such collateral, economic conditions and other factors. If the performance of a security with a Credit Reserve is more favorable than forecasted, a portion of the amount designated as Credit Reserve may be reallocated to accretable discount and recognized into interest income over time. Conversely, if the performance of a security with a Credit Reserve is less favorable than forecasted, the amounts designated as Credit Reserve maybe be increased, or impairment charges and write-downs of such securities to a new cost basis could result. 58



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Table of Contents Hedging Activities We use a variety of derivative instruments to economically hedge a portion of our exposure to market risks, including interest rate risk, prepayment risk and extension risk. The objective of our risk management strategy is to reduce fluctuations in net book value over a range of interest rate scenarios. In particular, we attempt to mitigate the risk of the cost of our variable rate liabilities increasing during a period of rising interest rates. Our derivative instruments are primarily comprised of Swaps, which are designated as cash flow hedges against the interest rate risk associated with our borrowings. In prior years we have also used interest rate swaptions (or Swaptions) for hedging purposes. During 2013, we also entered into TBA short positions which are not designated as hedging instruments for GAAP reporting purposes, but are entered into by the Company to reduce interest rate risk associated with our investment activities. We use Swaps to modify the repricing characteristics of our repurchase agreements and securitized debt and cash flows for such liabilities. Under each Swap, we agree to pay a fixed rate of interest and receive a variable interest rate, generally based on one-month or three-month LIBOR, on the notional amount of the Swap. Swaptions (when used) are used as a hedge against the risk of changes in the interest component above a specified level on a portion of forecasted one-month fixed rate borrowings. We document our risk-management policies, including objectives and strategies, as they relate to our hedging activities and the relationship between the hedging instrument and the hedged liability. We assess both at inception of a hedge and on a quarterly basis thereafter, whether or not the hedge relationship is "highly effective." We discontinue hedge accounting on a prospective basis and recognize changes in the fair value of the derivative through earnings when: (i) it is determined that the derivative is no longer effective in offsetting cash flows of a hedged item (including forecasted transactions); (ii) it is no longer probable that the forecasted transaction will occur; or (iii) it is determined that designating the derivative as a hedge is no longer appropriate. Swaps are carried on our balance sheets at fair value, as assets, if their fair value is positive, or as liabilities, if their fair value is negative. Changes in the fair value of our Swaps are recorded in OCI provided that the hedge remains effective. Changes in fair value for any ineffective amount of a Swap are recognized in earnings. We have not recognized any change in the value of our existing Swaps through earnings as a result of hedge ineffectiveness. Swaptions (when used) are carried as assets on our balance sheets at fair value. Changes in the intrinsic value of the Swap underlying the Swaption are recorded in OCI, a component of stockholders' equity, provided that the hedge remains effective, while changes in the time value of the Swaption are recorded as gains/losses through earnings as a component of other income during the option period. We use the cumulative dollar-offset ratio to assess the hedge effectiveness of our Swaptions. During 2013, we entered into TBA short positions as a means of managing interest rate risk and MBS basis risk associated with our investment and financing activities. A TBA short position is a forward contract for sale of Agency MBS at a predetermined price, face amount, issuer, coupon and stated maturity on an agreed-upon future date. The specific Agency MBS that could be delivered into the contract upon the settlement date, published each month by the Securities Industry and Financial Markets Association (or SIFMA), are not known at the time of the transaction. We account for TBA short positions as derivative instruments since we cannot assert that it is probable at inception and throughout the term of the TBA contract that we will physically deliver the agency security upon settlement of the contract. We present TBA short positions as either derivative assets or liabilities, at fair value on our consolidated balance sheets. Gains and losses associated with TBA short positions are reported in Other income on our consolidated statements of operations.



Although permitted under certain circumstances, we do not offset cash collateral receivables or payables against our net derivative positions.

Income Taxes

Our financial results generally do not reflect provisions for current or deferred income taxes. We believe that we operate in, and intend to continue to operate in, a manner that allows and will continue to allow us to be taxed as a REIT. Provided that we distribute all of our REIT taxable income in the timeframe permitted by the Code, we do not generally expect to pay corporate level taxes and/or excise taxes. However, such taxes may arise from time to time in the normal course of our business. Many of the REIT requirements, however, are highly technical and complex. In addition, REIT taxable income calculated at the time our financial statements are prepared is based on certain estimates that may be revised as our tax return, which is not required to be filed until the third quarter in the following year, is completed. If we were to fail to meet certain of the REIT requirements, we would be subject to U.S. federal, state and local income taxes. 59



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Accounting for Stock-Based Compensation

We expense our equity based compensation awards ratably over the vesting period of such awards, based upon the fair value of such awards at the grant date. Equity-based awards for which there is no risk of forfeiture are expensed upon grant or at such time that there is no longer a risk of forfeiture. (See Notes 2(j) and 13 to the consolidated financial statements, included under Item 8 of this Annual Report on Form 10-K.) During 2010, we granted certain RSUs that vest after either two or four years of service and provided that certain criteria are met, which are based on a formula that includes changes in our closing common stock price over a two- or four-year period and dividends declared on our common stock during those periods. In each year in the three-year period ended December 31, 2013, we granted certain RSUs that vest annually over a one or three-year period, provided that certain criteria are met, which are based on a formula that includes changes in our closing stock price over the annual vesting period and dividends declared on our common stock during those periods. Such criteria constitute a "market condition" which impacts the amount of compensation expense recognized for these awards. Specifically, the uncertainty regarding whether the market condition will be achieved is reflected in the grant date fair valuation of the RSUs, which in addition to estimates regarding the amount of RSUs expected to be forfeited during the associated service period, determines the amount of compensation expense that is recognized. Compensation expense is not reversed should the market condition not be achieved, while differences in actual forfeiture experience relative to estimated forfeitures will result in adjustments to the timing and amount of compensation expense recognized. We have awarded DERs that may be attached to or awarded separately from other equity based awards. Compensation expense for separately awarded DERs is based on the grant date fair value of such awards and is recognized over the vesting period. Payments pursuant to these DERs are charged to stockholders' equity. Payments pursuant to DERs that are attached to equity based awards are charged to stockholders' equity to the extent that the attached equity awards are expected to vest. Compensation expense is recognized for payments made for DERs to the extent that the attached equity awards do not or are not expected to vest and grantees are not required to return payments of dividends or DERs to us. RECENT ACCOUNTING STANDARDS TO BE ADOPTED IN FUTURE PERIODS



Financial Services - Investment Companies

In June 2013, the FASB issued Accounting Standards Update ( or ASU) 2013-08, Financial Services - Investment Companies: Amendments to the Scope, Measurement, and Disclosure Requirements, ( or ASU 2013-08). In general, the amendments of this ASU: (i) revise the definition of an investment company; (ii) require an investment company to measure non-controlling ownership interests in other investment companies at fair value rather than using the equity method of accounting; and (iii) require information to be disclosed concerning the status of the entity and any financial support provided, or contractually required to be provided, by the investment company to its investees. ASU 2013-08 is effective for interim and annual periods that begin after December 15, 2013 and early application is prohibited. As the FASB has decided to retain the current U.S. GAAP scope exception from investment company accounting and financial reporting for real estate investment trusts, the adoption of this ASU will not have a material impact on our consolidated financial statements. LIQUIDITY AND CAPITAL RESOURCES Our principal sources of cash generally consist of borrowings under repurchase agreements, payments of principal and interest we receive on our MBS portfolio, cash generated from our operating results and, depending on market conditions, proceeds from capital market and resecuritization transactions. Our most significant uses of cash are generally to pay principal and pay interest on our borrowings under repurchase agreements and securitized debt, to purchase MBS, to make dividend payments on our capital stock, to fund our operations and to make other investments that we consider appropriate. We seek to employ a diverse capital raising strategy under which we may issue capital stock or other types of securities. To the extent we raise additional funds through capital market transactions, we currently anticipate using the net proceeds from such transactions to acquire additional MBS, consistent with our investment policy, and for working capital, which may include, among other things, the repayment of our repurchase agreements. There can be no assurance, however, that we will be able to access the capital markets at any particular time or on any particular terms. We have available for issuance an unlimited amount (subject to the terms and limitations of our charter) of common stock, preferred stock, depositary shares representing preferred stock, warrants, debt securities, rights and/or units pursuant to our automatic shelf registration statement and, at December 31, 2013, we had 11.5 million shares of common stock available for issuance pursuant to our DRSPP shelf registration statement. During 2013, we issued 9,511,739 shares of common stock through our DRSPP, raising net proceeds of approximately $77.6 million. 60



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On April 15, 2013, we completed the issuance of 8.0 million shares of our Series B Preferred Stock, liquidation preference $25.00 per share, in an underwritten public offering. The aggregate net proceeds to us from the offering of the Series B Preferred Stock were approximately $193.3 million, after deducting the underwriting discount and related offering expenses. We used a portion of the net proceeds to redeem all of our outstanding Series A Preferred Stock (as discussed below), and used the remaining net proceeds of the offering for general corporate purposes, including, without limitation, to acquire additional MBS consistent with our investment policy, and for working capital, which may include, among other things, the repayment of its repurchase agreements. On May 16, 2013, we redeemed all 3,840,000 outstanding shares of our Series A Preferred Stock, at an aggregate redemption price of approximately $97.0 million, or $25.27153 per share, including all accrued and unpaid dividends to the redemption date. The redemption value of the Series A Preferred Stock exceeded its carrying value by $3.9 million, which represents the original offering costs for the Series A Preferred Stock. During the year ended December 31, 2013, we repurchased 2,143,354 shares of our common stock under the Repurchase Program at a total cost of approximately $15.4 million and an average cost of $7.20 per share. (See Part II, Item 5., "Market for Registrant's Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities," of this Annual Report on Form 10-K, for further discussion regarding our Repurchase Program.) Our borrowings under repurchase agreements are uncommitted and renewable at the discretion of our lenders and, as such, our lenders could determine to reduce or terminate our access to future borrowings at virtually any time. The terms of the repurchase transaction borrowings under our master repurchase agreements as such terms related to repayment, margin requirements and the segregation of all securities that are the subject of repurchase transactions generally conform to the terms in the standard master repurchase agreement as published by SIFMA or the global master repurchase agreement published by SIFMA and the International Capital Market Association. In addition, each lender typically requires that we include supplemental terms and conditions to the standard master repurchase agreement. Typical supplemental terms and conditions, which differ by lender, may include changes to the margin maintenance requirements, required haircuts (as defined below), purchase price maintenance requirements, requirements that all controversies related to the repurchase agreement be litigated in a particular jurisdiction and cross default and setoff provisions. With respect to margin maintenance requirements for repurchase agreements with Non-Agency MBS as collateral, margin calls are typically determined by our counterparties based on their assessment of changes in the fair value of the underlying collateral and in accordance with the agreed upon haircuts specified in the transaction confirmation with the counterparty. We address margin call requests in accordance with the required terms specified in the applicable repurchase agreement and such requests are typically satisfied by posting additional cash or collateral on the same business day. We review margin calls made by counterparties and assess them for reasonableness by comparing the counterparty valuation against our valuation determination. When we believe that a margin call is unnecessary because our assessment of collateral value differs from the counterparty valuation, we typically hold discussions with the counterparty and are able to resolve the matter. In the unlikely event that resolution cannot be reached, we will look to resolve the dispute based on the remedies available to us under the terms of the repurchase agreement, which in some instances may include the engagement of a third party to review collateral valuations. For other agreements that do not include such provisions, we could resolve the matter by substituting collateral as permitted in accordance with the agreement or otherwise request the counterparty to return the collateral in exchange for cash to unwind the financing. 61



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The following table presents information regarding the margin requirements, or the percentage amount by which the collateral value is contractually required to exceed the loan amount (this difference is referred to as the "haircut"), on our repurchase agreements at December 31, 2013 and December 31, 2012: Weighted Average Haircut Low High December 31, 2013 Repurchase agreement borrowings secured by: Agency MBS 4.89 % 3.00 % 6.00 % Non-Agency MBS 32.48 10.00 63.00 U.S. Treasury securities 1.65 1.00 2.00 December 31, 2012 Repurchase agreement borrowings secured by: Agency MBS 4.80 % 3.00 % 7.00 % Non-Agency MBS 30.49 10.00 63.00 U.S. Treasury securities 1.74 1.00 2.00



The haircut requirements for the respective underlying collateral types for our repurchase agreements have not significantly changed since December 31, 2012.

During 2013, the financial market environment was impacted by continued accommodative monetary policy. Repurchase agreement funding for both Agency MBS and Non-Agency MBS has been available to us at generally attractive market terms from multiple counterparties. Typically, due to the credit risk inherent to Non-Agency MBS, repurchase agreement funding involving Non-Agency MBS is available from fewer counterparties, at terms requiring higher collateralization and higher interest rates, than does repurchase agreement funding secured by Agency MBS and U.S. Treasury securities. Therefore, we generally expect to be able to finance our acquisitions of Agency MBS (which we expect will continue to comprise the majority of our assets) on more favorable terms than financing for Non-Agency MBS. We maintain cash and cash equivalents, unpledged Agency MBS and collateral in excess of margin requirements held by our counterparties (or collectively, our Cushion) to meet routine margin calls and protect against unforeseen reductions in our borrowing capabilities. Our ability to meet future margin calls will be impacted by our Cushion, which varies based on the market value of our securities, our cash position and margin requirements. Our cash position fluctuates based on the timing of our operating, investing and financing activities and is managed based on our anticipated cash needs. (See "Interest Rate Risk" included under Item 7A. of this Annual Report on Form 10-K and our Consolidated Statements of Cash Flows, included under Item 8 of this Annual Report on Form 10-K.) At December 31, 2013, we had a total of $10.2 billion of MBS and U.S. Treasury securities and $37.5 million of restricted cash pledged against our repurchase agreements and Swaps. At December 31, 2013, we had a Cushion of $970.9 million available to meet potential margin calls, comprised of cash and cash equivalents of $565.4 million, unpledged Agency MBS of $369.1 million, and excess Agency MBS collateral of $36.4 million. In addition, at December 31, 2013, we had unpledged Non-Agency MBS with a fair value of $53.4 million and Non-Agency MBS with a fair value of $245.3 million pledged in excess of contractual requirements. 62



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The table below presents certain information about our borrowings under repurchase agreements and securitized debt:

Repurchase Agreements Securitized Debt Quarterly Maximum Quarterly End of Maximum Average End of Quarter Balance at Any Average Quarter Balance at Any Quarter Ended (1) Balance Balance Month-End Balance Balance Month-End



(In Thousands) December 31, 2013$ 8,462,138$ 8,339,297$ 8,504,593$ 399,762$ 366,205 $ 398,384 September 30, 2013 8,679,410

8,568,171 8,721,573 440,665 419,693 462,207 June 30, 2013 8,842,018 8,909,283 8,909,283 505,409 443,748 508,893 March 31, 2013 8,873,852 8,902,827 8,956,951 606,858 542,014 609,707 December 31, 2012 8,841,994 8,752,472 8,966,468 712,259 646,816 718,326 September 30, 2012 8,741,020 8,832,326 8,832,326 819,361 749,471 821,256 June 30, 2012 7,961,497 8,368,407 8,368,407 931,045 861,255 935,051 March 31, 2012 7,772,000 7,908,932 7,908,932 949,868 967,422 (2) 1,000,787 December 31, 2011 7,969,178 7,813,159 7,996,749 929,836 875,520 932,239 September 30, 2011 8,007,343 8,017,663 8,084,098 1,026,701 958,406 1,027,701 June 30, 2011 7,742,223 7,870,251 7,870,251 731,091 1,062,040 (3) 1,062,040 (3) March 31, 2011 6,600,592 7,652,713 (4) 7,652,713 440,814 663,367 (5) 680,794 (5) (1) The information presented in the table above excludes Senior Notes issued in April 2012. The outstanding balance of Senior Notes has been unchanged at $100.0 million since issuance. (2) The higher end of the period balance reflects the securitized debt from our resecuritization transactions in February 2012. (3) The higher end of the period balance reflects the securitized debt from our resecuritization transactions in June 2011. (4) On March 11, 2011, the Company raised net equity of approximately $605.0 million, which was invested on a leveraged basis and, as a result, increased the Company's borrowings under repurchase agreements. (5) Reflects securitized debt from our resecuritization transactions in February 2011 and October 2010.



Cash Flows and Liquidity For the Year Ended December 31, 2013

Our cash and cash equivalents increased by $164.1 million during the year ended December 31, 2013, reflecting: $1.601 billion provided by our investing activities, primarily from payments on our MBS; $298.1 million provided by our operating activities; and $1.735 billion used by our financing activities. At December 31, 2013, our debt-to-equity multiple was 2.9x, compared to 3.0x at December 31, 2012. At December 31, 2013, we had borrowings under repurchase agreements of $8.339 billion with 26 counterparties, of which $5.750 billion was secured by Agency MBS, $2.207 billion was secured by Non-Agency MBS and $382.7 million was secured by U.S. Treasuries. In addition, at such date, we had $102.7 million of borrowings under repurchase agreements that were a component of our Linked Transactions. (See Note 5 to the consolidated financial statements, included under Item 8 of this Annual Report on Form 10-K.) We continue to have available capacity under our repurchase agreement credit lines. At December 31, 2012, we had borrowings under repurchase agreements of $8.752 billion with 26 counterparties and had borrowings under repurchase agreements of $35.3 million that were a component of our Linked Transactions. At December 31, 2013, outstanding securitized debt was $366.2 million, which had a weighted average expected remaining term of 0.74 years. During the year ended December 31, 2013, securitized debt was reduced by principal payments of $409.6 million. During 2013, the principal balance for the DMSI 2010-RS2 Senior Bond (A1 tranche) was paid off and the A2 and A3 tranches were sold to third parties for aggregate proceeds of $129.3 million. 63



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During 2013, we issued 8.0 million shares of our Series B Preferred Stock in an underwritten public offering. The aggregate net proceeds to us from the offering of the Series B Preferred Stock were approximately $193.3 million, after deducting the underwriting discount and estimated offering expenses. A portion of such net proceeds were used during 2013 to redeem all 3,840,000 outstanding shares of our Series A Preferred Stock at an aggregate redemption price of approximately $97.0 million, or $25.27153 per share, including all accrued and unpaid dividends to the redemption date. (See Note 11 to the accompanying consolidated financial statements, included under Item 8 of this Annual Report on Form 10-K.) During 2013, we received $1.601 billion through our investing activities. We received cash of $2.771 billion from prepayments and scheduled amortization on our MBS portfolio, of which $1.846 billion was attributable to Agency MBS and $924.4 million was from Non-Agency MBS. We purchased $1.411 billion of Agency MBS and $333.4 million of Non-Agency MBS funded with cash and repurchase agreement borrowings. While we generally intend to hold our MBS as long-term investments, we may sell certain MBS in order to manage our interest rate risk and liquidity needs, meet other operating objectives and adapt to market conditions. In addition, we sold certain of our Non-Agency MBS and U.S. Treasury securities for $574.9 million, realizing net gains of $25.8 million. In connection with our repurchase agreement borrowings and Swaps, we routinely receive margin calls/reverse margin calls from our counterparties and make margin calls to our counterparties. Margin calls and reverse margin calls, which requirements vary over time, may occur daily between us and any of our counterparties when the value of collateral pledged changes from the amount contractually required. The value of securities pledged as collateral fluctuates reflecting changes in: (i) the face (or par) value of our for MBS; (ii) market interest rates and/or other market conditions; and (iii) the market value of our Swaps. Margin calls/reverse margin calls are satisfied when we pledge/receive additional collateral in the form of additional securities and/or cash. The table below summarizes our margin activity with respect to our repurchase agreement financings (including underlying Linked Transactions) and derivative hedging instruments for the quarterly periods presented: Collateral Pledged to Meet Margin Calls Aggregate Cash and Securities Net Assets Received/ Fair Value of Assets Pledged Received For (Pledged) For Securities For Margin Reverse Margin Margin For the Quarter Ended Pledged Cash Pledged Calls Calls Activity (In Thousands) December 31, 2013 $ 282,521 $ 8,500 $ 291,021 $ 242,652 $ (48,369 ) September 30, 2013 395,970 61,400 457,370 506,703 49,333 June 30, 2013 421,744 2 421,746 294,067 (127,679 ) March 31, 2013 631,265 - 631,265 575,083 (56,182 ) We are subject to various financial covenants under our repurchase agreements and derivative contracts, which include minimum net worth and/or profitability requirements, maximum debt-to-equity ratios and minimum market capitalization requirements. We have maintained compliance with all of our financial covenants to date. During 2013, we paid $594.8 million for cash dividends on our common stock and DERs which included (i) a special cash dividend paid on April 10, 2013 of $0.50 per share of common stock, or $179.9 million, including DERs of approximately $641,000 and (ii) a special cash dividend paid on August 30, 2013 of $0.28 per share of common stock, or $102.2 million, including DERs of approximately $355,000. In addition, during 2013, we paid cash dividends of $13.8 million on our preferred stock. On December 11, 2013, we declared our fourth quarter 2013 dividend on our common stock of $0.20 per share; on January 31, 2014, we paid this dividend, which totaled $73.2 million, including DERs of approximately $169,000. We believe that we have adequate financial resources to meet our current obligations, including margin calls, as they come due, to fund dividends we declare and to actively pursue our investment strategies. However, should the value of our MBS suddenly decrease, significant margin calls on our repurchase agreement borrowings could result and our liquidity position could be materially and adversely affected. Further, should market liquidity tighten, our repurchase agreement counterparties may increase our margin requirements on new financings, reducing our ability to use leverage. Access to financing may also be negatively impacted by the ongoing volatility in the world financial markets, potentially adversely impacting our current or potential lenders' ability or willingness to provide us with financing. In addition, there is no assurance that favorable market conditions will continue permit us to consummate additional securitization transactions if we determine to seek that form of financing. 64



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OFF-BALANCE SHEET ARRANGEMENTS We do not have any material off-balance-sheet arrangements. Our Linked Transactions are comprised of MBS, associated repurchase agreements and interest receivable/payable on such accounts. The extent to which these transactions become unlinked in the future, the underlying MBS and the borrowings under repurchase agreements and associated interest income and expense will be presented on a gross basis on our consolidated balance sheet and statement of operations, prospectively. (See page 47 for information about our leverage multiple and Note 5 to the accompanying consolidated financial statements, included under Item 8 of this Annual Report on Form 10-K.) AGGREGATE CONTRACTUAL OBLIGATIONS The following table summarizes the effect on our liquidity and cash flows of contractual obligations for the principal and interest amounts due at December 31, 2013: Due During the Year Ending December 31, (In Thousands) 2014 2015 2016 2017 2018 Thereafter Total Repurchase agreements $ 8,097,772$ 241,525 $ - $ - $ - $ - $ 8,339,297 Interest expense on repurchase agreements (1) 18,240 19,615 36,018 - - - 73,873 Linked Transactions (2) 102,923 - - - - - 102,923 Securitized debt (3) 40,185 48,112 53,151



63,797 43,081 116,155 364,481 Interest expense on securitized debt (1)

8,719 8,377 8,229 7,353 5,737 12,134 50,549 Senior Notes (4) - - - - - 100,000 100,000 Interest expense on Senior Notes (1) 8,000 8,000 8,000 8,000 8,000 187,911 227,911 Payable for unsettled purchases 6,737 - - - - - 6,737 Long-term lease obligations 2,382 2,397 2,552 2,522 2,522 3,572 15,947 Total $ 8,284,958$ 328,026$ 107,950$ 81,672$ 59,340$ 419,772$ 9,281,718 (1) Interest expense based on the interest rate in effect at December 31, 2013. (2) Reflect payments of principal and interest due on repurchase agreements that are a component of our Linked Transactions. (3) Securitized debt is contractually scheduled to mature by December 2024. However, the weighted average life of the securitized debt is estimated to be 0.74 years assuming a 11.1% weighted average CPR. Excludes $1.7 million of premium on securitized debt issued. (4) Senior Notes mature April 2042 but may be redeemed, in whole or in part, at any time on or after April 15, 2017. 65



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INFLATION Substantially all of our assets and liabilities are financial in nature. As a result, changes in interest rates and other factors impact our performance far more than does inflation. Our financial statements are prepared in accordance with GAAP and dividends declared are based upon net ordinary income as calculated for tax purposes. In each case, our results of operations and reported assets, liabilities and equity are measured with reference to historical cost or fair value without considering inflation. CAUTIONARY NOTE REGARDING FORWARD LOOKING STATEMENTS This Annual Report on Form 10-K includes forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995, which are subject to risks and uncertainties. The forward-looking statements contain words such as "will," "believe," "expect," "anticipate," "estimate," "plan," "continue," "intend," "should," "could," "would," "may" or similar expressions. These forward-looking statements include information about possible or assumed future results with respect to our business, financial condition, liquidity, results of operations, plans and objectives. Statements regarding the following subjects, among others, may be forward-looking: changes in interest rates and the market value of our MBS; changes in the prepayment rates on the mortgage loans securing our MBS, an increase of which could result in a reduction of the yield on MBS in our portfolio and an increase of which could require us to reinvest the proceeds received by us as a result of such prepayments in MBS with lower coupons; changes in the default rates and management's assumptions regarding default rates on the mortgage loans securing our Non-Agency MBS; our ability to borrow to finance our assets and the terms, including the cost, maturity and other terms, of any such borrowings; implementation of or changes in government regulations or programs affecting our business; our estimates regarding taxable income the actual amount of which is dependent on a number of factors, including, but not limited to, changes in the amount of interest income and financing costs, the method elected by us to accrete the market discount on Non-Agency MBS and the extent of prepayments, realized losses and changes in the composition of our Agency MBS and Non-Agency MBS portfolios that may occur during the applicable tax period, including gain or loss on any MBS disposals; the timing and amount of distributions to stockholders, which are declared and paid at the discretion of our Board of Directors and will depend on, among other things, our taxable income, our financial results and overall financial condition and liquidity, maintenance of our REIT qualification and such other factors as the Board deems relevant; our ability to maintain our qualification as a REIT for federal income tax purposes; our ability to maintain our qualification as a REIT for federal income tax purposes; our ability to maintain our exemption from registration under the Investment Company Act, including statements regarding the concept release issued by the SEC relating to interpretive issues under the Investment Company Act with respect to the status under the Investment Company Act of certain companies that are in engaged in the business of acquiring mortgages and mortgage-related interests; and risks associated with investing in real estate assets, including changes in business conditions and the general economy. These and other risks, uncertainties and factors, including those described in the annual, quarterly and current reports that we file with the SEC, could cause our actual results to differ materially from those projected in any forward-looking statements we make. All forward-looking statements are based on beliefs, assumptions and expectations of our future performance, taking into account all information currently available. Readers are cautioned not to place undue reliance on these forward-looking statements, which speak only as of the date they are made. New risks and uncertainties arise over time and it is not possible to predict those events or how they may affect us. Except as required by law, we are not obligated to, and do not intend to, update or revise any forward-looking statements, whether as a result of new information, future events or otherwise. (See Part I, Item 1A. "Risk Factors" of this Annual Report on Form 10-K) 66



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