Invesco Mortgage Capital Inc. 10-K

Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations. The discussion and analysis disclosed herein apply to material changes in our consolidated financial statements for 2023 and 2022. For the comparison of 2022 and 2021, see the Management's Discussion and Analysis of Financial Condition and Results of Operations in Part II, Item 7 of our 2022 Annual Report on Form 10-K, filed with the SEC on February 21, 2023. The following discussion should be read in conjunction with our consolidated financial statements and the accompanying notes to our consolidated financial statements, which are included in Part IV, Item 15 of this Report. Overview We are a Maryland corporation primarily focused on investing in, financing and managing mortgage-backed securities (“MBS”) and other mortgage-related assets. Our objective is to provide attractive risk-adjusted returns to our stockholders, primarily through dividends and secondarily through capital appreciation. 38 Table of Contents Factors Impacting Our Operating Results Our operating results can be affected by a number of factors and primarily depend on the level of our net interest income and the market value of our assets. Our net interest income, which includes the amortization of purchase premiums and accretion of purchase discounts, varies primarily as a result of changes in market interest rates and prepayment speeds, as measured by the constant prepayment rate (“CPR”) on our assets. Interest rates and prepayment speeds 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. The market value of our assets can be impacted by credit spread premiums (yield advantage over U.S. Treasury notes) and the supply of, and demand for, assets in which we invest. Market Conditions and Impacts Macroeconomic factors that affect our business include interest rates, interest rate volatility, spread premiums, fiscal and monetary policy, residential and commercial real estate prices, credit availability, the health of the banking system, consumer personal income and spending, corporate earnings, employment conditions, financial conditions and inflation. Of these macroeconomic factors, monetary policy, the health of the banking system, inflation, interest rates and interest rate volatility had the most direct impacts on our performance during 2023. Contributing factors included: • While financial conditions ended the year more accommodative, the path was quite volatile. Concerns around the regional banking system near the end of the first quarter caused a sharp tightening in conditions as risk markets reacted negatively. Financial conditions recovered quickly during the second and early part of the third quarter before once again tightening as interest rates spiked higher as financial markets adjusted to shifting expectations for fiscal and monetary policy. However, financial conditions reversed course towards the end of the year, with asset values buoyed by expectations the Federal Open Market Committee (“FOMC) was finished with their tightening cycle and had potentially achieved a soft landing for the economy. • Despite the FOMC increasing the Federal Funds target rate four times during the year, from a range of 4.25% to 4.50% to a range of 5.25% to 5.50%, U.S. Treasury yields ended the year relatively unchanged. The 2-year U.S. Treasury yield increased 18 basis points to 4.25% at year end, while the 10-year U.S. Treasury yield increased 1 basis point to 3.88%. While yields ended the year relatively flat, volatility in the interim was quite pronounced, mirroring the swings in financial conditions. During the year, the 2-year yield traded in a range from 3.73% to 5.22% and the 10-year yield traded between 3.29% and 4.99%. • Agency RMBS outperformed Treasuries over the course of 2023, as the sharp reversal in interest rates and interest rate volatility in the fourth quarter led to notable outperformance in the sector. The outperformance in the fourth quarter more than offset the underperformance in the first nine months of the year, as relative performance to Treasuries in the sector remained volatile. In the first nine months of the year, performance was negatively impacted by market expectations for further restrictive monetary policy, elevated interest rate volatility and the deterioration of the regional banking system, which added unexpected supply to the market. • Quantitative tightening continued throughout 2023, as the Federal Reserve passively reduced the size of their balance sheet through maturities of U.S. Treasuries and paydowns of Agency RMBS. The runoff of Agency RMBS from the balance sheet added over $200 billion of net supply to the market, while commercial bank paydowns and sales contributed approximately $150 billion. These additional sources of supply offset a decline in organic supply due to lower originations and resulted in increased reliance on money manager and overseas investors to provide demand for Agency RMBS. This demand was sensitive to macroeconomic factors and the heightened volatility in interest rates, leading to commensurate volatility in Agency RMBS valuations. These volatile shifts in valuations created significant challenges in hedging and setting risk parameters, making it difficult to fully capture the outperformance. ◦ Prepayment speeds remained at very low levels as borrowers faced elevated mortgage rates, and muted housing turnover led to a sharp reduction in net supply year-over-year. ◦ Premiums on specified pool collateral declined modestly as the value of prepayment protection was reduced amidst historically high mortgage rates and slow prepayment speeds. ◦ Implied financing via the dollar roll market for TBA investments remained unattractive, as reduced demand from the Federal Reserve and commercial banks negatively impacted fundamentals, while the increase in loan balances worsened the prepayment profile. 39 Table of Contents The following market conditions were also notable for the company in 2023: • Risk assets performed extremely well during the year, with the S&P 500 gaining 24.2% and the NASDAQ gaining 43.4%, as investor confidence grew with the FOMC’s tightening cycle nearing its conclusion. The fourth quarter was particularly strong, with the S&P and NASDAQ up 11.2% and 13.6%, respectively. Likewise, fixed income credit spreads saw strong performance, with investment grade corporate, high yield corporate and emerging market debt ending the year at levels not seen in several years. • The employment picture remained robust as gains in non-farm payrolls averaged approximately 255,000 per month, for a total of 3.1 million jobs added during the year. The unemployment rate rose modestly during the year, from 3.5% at the end of 2022 to 3.7% in December. • Inflation moderated throughout 2023, as year over year gains in the consumer price index (“CPI”) decreased from 6.5% at year-end 2022 to 3.4% at year-end 2023. CPI excluding food and energy followed a similar trajectory, decreasing from 5.7% to 3.9%. Commodity prices also moderated during 2023, with the price per barrel of West Texas Intermediate crude oil decreasing by 6.1% and the Commodity Research Bureau commodity index falling by 5%. Breakeven rates on U.S Treasury inflation-protected securities (“TIPs”), which reflect investors' expectations of future inflation, continue to indicate confidence that the FOMC will be successful at bringing inflation levels lower, as the inflation rate implied by 2 year and 5 year TIPs was 2.02% and 2.15%, respectively, at the end of the year. • Consumer activity held up well throughout the year, with retail sales remaining positive. Consumer confidence measures generally followed the path of financial conditions, displaying volatility throughout the year, but ending at a multi-year high as inflation pressures moderated. • CMBS risk premiums increased as tighter lending conditions and elevated borrowing costs resulted in deteriorating commercial real estate fundamentals. Commercial real estate occupancy and property valuations declined across most property sectors as rent growth slowed materially and, in many instances, turned negative. Price discovery remained limited with fewer transactions taking place than in prior years. CMBS loan delinquencies finished the year higher. Retail and office property sectors reported the highest level of CMBS loan delinquencies while industrial and multi-family posted relatively lower delinquency levels. Despite the Federal Reserve signaling lower rates in 2024, some properties may continue to find it difficult to re-finance due to notably higher rates than their current mortgage loan coupons. • Non-Agency RMBS credit spreads tightened across subsectors during the year, as profiles with superior liquidity and favorable technicals outperformed those with greater interest rate sensitivity and persistent supply. The resilience of home prices in the face of higher mortgage rates and historically low affordability supported investor risk appetite. Despite the potential for sub-trend economic growth, borrower defaults are likely to remain contained given strong loan underwriting and high levels of borrower equity. Throughout 2023, persistently elevated interest rate volatility provided a challenging environment for Agency RMBS valuations. Sharp changes in investor expectations for inflation, economic growth and the path for of monetary policy led to substantial adjustments to both the level of interest rates and the shape of the yield curve, which are important inputs for both determining the attractiveness of Agency RMBS investments and applying appropriate hedges. Market volatility increased particularly in March as the regional banking crisis brought fears of broader contagion, and again in September and October amid concerns regarding Treasury supply and further tightening of monetary policy. Both episodes of heightened volatility led to notable underperformance in Agency RMBS as they brought increased supply to the market. We sought to maintain sufficient levels of cash and unencumbered assets during these challenging markets and closely monitored counterparty exposures given the stress in the banking sector. During October, we reduced risk by decreasing leverage as volatility initially increased, and subsequently, returned leverage to our target range as volatility began to subside and our market outlook for Agency RMBS valuations improved. Over the course of the year, we increased the coupon diversification of the investments in our portfolio into both lower and higher coupon Agency RMBS, with the weighted average coupon of our specified pool investments remaining unchanged at 5.0%. Our book value per common share ended the year at $10.00, representing a decline of 22% for 2023, and when combined with our $1.60 common stock dividends produced an economic return of (9.3)% (1) for the year. Our debt-to-equity ratio ended the year at 5.7x, up modestly from 5.3x as of December 31, 2022. Throughout the year, we sought to minimize the impact of changes in short term interest rates on Earnings Available for Distribution (2) (“EAD”) by hedging a high percentage of our funding cost. As a result, EAD for the period continued to benefit from favorable funding and low-cost, pay-fixed swaps. (1) Economic return for the year ended December 31, 2023 is defined as the change in book value per common share from December 31, 2022 to December 31, 2023 of ($2.79); plus dividends declared of $1.60 per common share; divided by the December 31, 2022 book value per common share of $12.79. (2) Earnings available for distribution is a non-GAAP financial measure. See Non-GAAP Financial Measures below for additional information. 40 Table of Contents Outlook As we enter 2024, both the FOMC and the Federal Funds futures market forecast that the next policy move by the FOMC will be a rate cut, although they have differing expectations regarding the timing and quantity of these cuts. While evolving expectations around the timing of changes in monetary policy may bring challenges in the coming months, we believe that a potential reduction in interest rate volatility, combined with compelling valuations and favorable funding conditions, will support an attractive investment environment for Agency RMBS in 2024. Investment Activities The table below shows the composition of our investment portfolio as of December 31, 2023 and 2022. $ in thousands As of December 31, 2023 2022 Agency RMBS: 30 year fixed-rate, at fair value 4,952,474 4,661,737 Agency CMO, at fair value 74,758 84,956 Non-Agency CMBS, at fair value 9,935 36,787 Non-Agency RMBS, at fair value 8,139 8,413 U.S. Treasury securities, at fair value 11,214 — Investments in unconsolidated ventures 500 552 Subtotal 5,057,020 4,792,445 TBAs, at implied cost basis (1) — 1,437 Total investment portfolio, including TBAs 5,057,020 4,793,882 (1) Our presentation of TBAs in the table above represents management's view of our investment portfolio and does not reflect how we record TBAs on our consolidated balance sheets under U.S. GAAP. Under U.S. GAAP, we record TBAs that we do not intend to physically settle on the contractual settlement date as derivative financial instruments. We value TBAs on our consolidated balance sheets at net carrying value, which represents the difference between the fair market value and the implied cost basis of the TBAs. For further details of our U.S GAAP accounting for TBAs, refer to Note 8 “Derivatives and Hedging Activities” in Part IV, Item 15 of this Report. Our TBA dollar roll transactions are a form of off-balance sheet financing. For further information on how management evaluates our at-risk leverage, see Non-GAAP Financial Measures below. We sold $5.2 billion and purchased $5.9 billion of Agency RMBS during the year ended December 31, 2023. As of December 31, 2023 and 2022, our holdings of 30 year fixed-rate Agency RMBS represented 98% and 97% of our total investment portfolio, including TBAs, respectively. Our 30 year fixed-rate Agency RMBS holdings as of December 31, 2023 and 2022 consisted of specified pools with coupon distributions as shown in the table below. As of December 31, 2023 2022 $ in thousands Fair Value Percentage Period-end Weighted Average Yield Fair Value Percentage Period-end Weighted Average Yield 4.0% 876,337 17.7 % 4.65 % — — % — % 4.5% 1,017,191 20.5 % 4.95 % 1,392,304 29.9 % 4.93 % 5.0% 1,028,036 20.8 % 5.34 % 1,694,939 36.4 % 5.27 % 5.5% 1,016,707 20.5 % 5.59 % 1,574,494 33.7 % 5.53 % 6.0% 1,014,203 20.5 % 6.03 % — — % — % Total 30 year fixed-rate Agency RMBS 4,952,474 100.0 % 5.33 % 4,661,737 100.0 % 5.26 % Our purchases of Agency RMBS have been primarily focused on specified pools with attractive prepayment profiles. We seek to capitalize on the impact of prepayments on our investment portfolio by purchasing specified pools with characteristics that optimize borrower incentive to prepay for both our premium and discount priced investments. The table below shows the specified pool characteristics of our 30 year fixed-rate Agency RMBS holdings as of December 31, 2023 and 2022. 41 Table of Contents As of December 31, 2023 2022 $ in thousands Fair Value Percentage Fair Value Percentage Specified pool characteristic: Geographic location 1,079,310 21.8 % 1,302,391 27.9 % Loan balance 2,193,876 44.3 % 1,033,014 22.2 % Generic — — % 158,230 3.4 % High loan-to-value (“LTV”) ratio 574,246 11.6 % 750,724 16.1 % Low credit score 1,105,042 22.3 % 1,417,378 30.4 % Total 30 year fixed-rate Agency RMBS 4,952,474 100.0 % 4,661,737 100.0 % As of December 31, 2023 and 2022, our holdings of non-Agency CMBS and non-Agency RMBS represented less than 1% of our total investment portfolio, including TBAs. Approximately 68% of our non-Agency securities were rated double-A (or equivalent) or higher by a nationally recognized statistical rating organization as of December 31, 2023. As of December 31, 2022, we held investments in two unconsolidated ventures that were managed by an affiliate of our Manager. Our joint venture whose net assets were denominated in euros was dissolved during the first quarter of 2023. Our remaining unconsolidated venture is in liquidation and plans to sell or settle its remaining investments as expeditiously as possible. Until the venture completes its liquidation, we are committed to fund $2.9 million in additional capital to cover future expenses should they occur. Financing and Other Liabilities We finance the majority of our investment portfolio through repurchase agreements. Repurchase agreements are generally settled on a short-term basis, usually from one to six months, and bear interest at rates that are expected to move in close relationship to SOFR. The following table presents the amount of collateralized borrowings outstanding under repurchase agreements as of the end of each quarter, the average amount outstanding during the quarter and the maximum balance outstanding during the quarter. $ in thousands Collateralized borrowings under repurchase agreements Quarter Ended Quarter-end balance Average quarterly balance (1) Maximum balance (2) March 31, 2022 5,837,420 6,218,445 6,636,913 June 30, 2022 3,262,530 4,059,917 4,902,191 September 30, 2022 3,887,291 3,907,505 4,165,996 December 31, 2022 4,234,823 3,825,218 4,234,823 March 31, 2023 4,814,700 4,734,819 4,814,700 June 30, 2023 4,959,388 4,791,720 4,959,388 September 30, 2023 4,987,006 4,902,400 4,987,006 December 31, 2023 4,458,695 3,736,432 4,458,695 (1) Average quarterly balance for each period is based on month-end balances. (2) Amount represents the maximum borrowings at month-end during each of the respective periods. Hedging Instruments We generally hedge as much of our interest rate and foreign exchange risk as we deem prudent because of market conditions. No assurance can be given that our hedging activities will have the desired beneficial impact on our results of operations or financial condition. Our investment policies do not contain specific requirements as to the percentages or amount of risk that we are required to hedge. Hedging may fail to protect or could adversely affect us because, among other things: • available interest rate hedging may not correspond directly with the interest rate risk for which protection is sought; 42 Table of Contents • the duration of the hedges may not match the duration of the related liabilities; • our counterparty in the hedging transaction may default on its obligation to pay; • the credit quality of our counterparty on the hedge may be downgraded to such an extent that it impairs our ability to sell or assign our side of the hedging transaction; and • the value of derivatives used for hedging may be adjusted from time-to-time in accordance with accounting rules to reflect changes in fair value. We enter into interest rate swap agreements that are designed to mitigate the effects of changes in interest rates for a portion of our borrowings. Under these swap agreements, we generally pay fixed interest rates and receive floating interest rates indexed to SOFR. To a lesser extent, we have also used interest rate swap agreements whereby we make floating interest rate payments indexed to SOFR and receive fixed interest rate payments as part of our overall risk management strategy. We actively manage our interest rate swap portfolio as the size and composition of our investment portfolio changes. During the year ended December 31, 2023, we terminated existing interest rate swaps with a notional amount of $7.6 billion and entered into new interest rate swaps with a notional amount of $3.5 billion. Forward starting swaps are excluded from the additions and terminations above until they begin to bear interest. We did not have any forward starting swaps as of December 31, 2023. Daily variation margin payment for interest rate swaps is characterized as settlement of the derivative itself rather than collateral and is recorded as a realized gain or loss in our consolidated statement of operations. We have historically entered into currency forward contracts to help mitigate the potential impact of changes in foreign currency exchange rates on investments denominated in foreign currencies. We did not have any currency forward contracts outstanding as of December 31, 2023 or December 31, 2022. Capital Activities As of December 31, 2023, we may sell up to 6,300,529 shares of our common stock from time to time in at-the-market or privately negotiated transactions under our equity distribution agreement with placement agents. During the year ended December 31, 2023, we sold 9,699,471 shares of common stock under our equity distribution agreement with placement agents for proceeds of $109.1 million, net of approximately $1.5 million in commissions and fees. During the year ended December 31, 2022, we sold 5,686,598 shares of common stock under our equity distribution agreements for proceeds of $81.6 million, net of approximately $1.3 million in commissions and fees. In May 2022, our board of directors approved a share repurchase program for our Series B and Series C Preferred Stock. During the year ended December 31, 2023, we repurchased and retired 151,637 shares of Series B Preferred Stock and 271,031 shares of Series C Preferred Stock and recorded a gain on repurchase and retirement of preferred stock of $1.5 million. During the year ended December 31, 2022, we repurchased and retired 1,662,366 shares of Series B Preferred Stock and 3,683,530 shares of Series C Preferred Stock and recorded a gain on repurchase and retirement of preferred stock of $14.2 million. As of December 31, 2023, we had authority to repurchase 1,185,997 additional shares of our Series B Preferred Stock and 1,045,439 additional shares of our Series C Preferred Stock under the current share repurchase program. In May 2022, our board of directors approved a one-for-ten reverse split of outstanding shares of our common stock. The reverse stock split was effected following the close of business on June 3, 2022. For all periods presented, all per common shares and per common share amounts have been adjusted on a retroactive basis to reflect our one-for-ten reverse stock split. For information on dividends declared and paid during the years ended December 31, 2023 and 2022, see Note 12 - “Stockholders' Equity” of our consolidated financial statements in Part IV, Item 15 of this report on Form 10-K. During the year ended December 31, 2023, we did not repurchase any shares of our common stock. 43 Table of Contents Book Value per Common Share We calculate book value per common share as follows: As of December 31, In thousands except per share amounts 2023 2022 2021 Numerator (adjusted equity): Total equity 782,665 804,075 1,402,135 Less: Liquidation preference of Series B Preferred Stock (109,650) (113,441) (155,000) Less: Liquidation preference of Series C Preferred Stock (188,636) (195,412) (287,500) Total adjusted equity 484,379 495,222 959,635 Denominator (number of shares): Common stock outstanding 48,461 38,711 32,987 Book value per common share 10.00 12.79 29.09 Book value per common share decreased 22% as of December 31, 2023 compared to December 31, 2022 as Agency RMBS performance in the first nine months of 2023 was negatively impacted by market expectations for further restrictive monetary policy, elevated interest rate volatility and the deterioration of the regional banking system, which added unexpected supply to the market. Refer to Item 7A. “Quantitative and Qualitative Disclosures About Market Risk” for interest rate risk and its impact on fair value. Critical Accounting Policies and Estimates Our consolidated financial statements are prepared in accordance with U.S. GAAP, which requires the use of estimates and assumptions that involve the exercise of judgment and use of assumptions as to future uncertainties. Accounting estimates and assumptions discussed in this section are those that we consider to be the most critical to an understanding of our financial statements because they involve significant judgments and uncertainties. All of these estimates reflect our best judgment about current, and for some estimates, future economic and market conditions and their effects based on information available as of the date of these financial statements. If conditions change from those expected, it is possible that the judgments and estimates described below could change, which may result in a change in valuation of our investment portfolio, allowances for credit losses on our available-for-sale MBS, and a change in our interest income recognition among other effects. Mortgage-Backed Securities. We have elected the fair value option for all of our MBS purchased on or after September 1, 2016 and all of our RMBS IOs. Under the fair value option, changes in fair value are recognized in the consolidated statement of operations. In our view, the fair value option election more appropriately reflects the results of our operations because MBS fair value changes are accounted for in the same manner as fair value changes in economic hedging instruments. As of December 31, 2023, $5.0 billion (December 31, 2022: $4.7 billion) or 99.7% (December 31, 2022: 99.1%) of our MBS are accounted for under the fair value option. We record our MBS purchased before September 1, 2016, as available-for-sale and report these MBS at fair value. We determine the fair value of our MBS by obtaining valuations from an independent source. If the fair value of a security is not available from a third-party pricing service, we may estimate the fair value of the security using a variety of methods including other pricing services, discounted cash flow analysis, matrix pricing, option adjusted spread models and other fundamental analysis of observable market factors. It is possible that changes in these inputs could change the valuation estimate and lead us to establish allowances for credit losses on our available-for-sale MBS. Refer to the preceding discussion under “Market Conditions and Impacts” for information on how conditions in 2023 impacted valuations of our Agency RMBS, which constituted substantially all of our investment portfolio during 2023. Additionally, refer to Item 7A. “Quantitative and Qualitative Disclosures About Market Risk” for the estimated impact of an instantaneous shift in the yield curve on the market value of our interest rate-sensitive investments. Interest Income Recognition. Interest income on MBS is accrued based on the outstanding principal or notional balance of the securities and their contractual terms. Premiums or discounts are amortized or accreted into interest income over the life of the investment using the effective interest method. Interest income on our MBS where we may not recover substantially all of our initial investment is based on estimated future cash flows. We estimate future expected cash flows at the time of purchase and determine the effective interest rate based 44 Table of Contents on these estimated cash flows and our purchase price. Over the life of the investments, we update these estimated future cash flows and compute a revised yield based on the current amortized cost of the investment, unless those changes will be reflected in an allowance for credit losses. In situations where an allowance for credit losses is limited by the fair value of the investment, we compute the yield as the rate that equates expected future cash flows to the current fair value of the investment. In estimating these future cash flows, there are a number of assumptions that are subject to uncertainties and contingencies, including but not limited to the rate and timing of principal payments (prepayments, repurchases, defaults and liquidations), the pass through or coupon rate, and interest rate fluctuations. These uncertainties and contingencies are difficult to predict and are subject to future events that may impact our estimate and our interest income. Changes in our original or most recent cash flow projections may result in a prospective change in interest income recognized on these securities, or the amortized cost of these securities. For non-Agency RMBS not of high credit quality, when actual cash flows vary from expected cash flows, the difference is recorded as an adjustment to the amortized cost of the security, unless those changes will be reflected in an allowance for credit losses, and the security's yield is revised prospectively. One of the most significant factors impacting our projected cash flows is changes in long-term interest rates. When interest rates fall, prepayments will generally increase and when interest rates rise, prepayments will generally decrease. However, there are a variety of factors that may impact the rate of prepayments on our securities. Accordingly, under different conditions, we could report materially different amounts. For Agency RMBS that cannot be prepaid in such a way that we would not recover substantially all of our initial investment, interest income recognition is based on contractual cash flows. We do not estimate prepayments in applying the effective interest method. Prepayment rates on our mortgage-backed securities remained moderately low throughout 2023 given elevated mortgage rates. Refer to Item 7A. “Quantitative and Qualitative Disclosures About Market Risk” for an estimate of the percentage change in our net interest income, including interest paid or received under interest rate swaps, caused by an instantaneous 50 and 100 basis points increase or decrease in interest rates. Accounting for Derivative Financial Instruments. We use or have used derivatives to manage interest rate and currency exchange risk and as an alternative means of investing in and financing Agency RMBS. We record all derivatives on our consolidated balance sheets at fair value. Our interest rate swaps and TBAs are valued using a market approach through the use of quoted prices available in an active market. All of our interest rate swaps were centrally cleared by a registered clearing organization as of December 31, 2023. Changes in the fair value of our derivatives are recorded in gain (loss) on derivative instruments, net in our consolidated statement of operations. Further information is provided in Note 8 - “Derivatives and Hedging Activities” of our consolidated financial statements included in Part IV, Item 15 of this Report. The factors that impact valuations of our TBAs are similar to those that impact valuations of our Agency RMBS. Interest rate swap valuations are most significantly impacted by forward interest rate expectations. We recognized net gains on our interest rate swaps in 2023 primarily due to shifting expectations that interest rates would stay higher for longer. 45 Table of Contents Results of Operations Our consolidated results of operations for the years ended December 31, 2023, 2022 and 2021 are summarized below. Years Ended December 31, $ in thousands except share data 2023 2022 2021 Interest income Mortgage-backed and other securities 277,929 192,566 167,056 Commercial loan — 1,947 2,146 Total interest income 277,929 194,513 169,202 Interest expense Repurchase agreements (1) 228,229 51,560 (11,290) Total interest expense 228,229 51,560 (11,290) Net interest income 49,700 142,953 180,492 Other income (loss) Gain (loss) on investments, net (107,280) (1,079,339) (366,509) (Increase) decrease in provision for credit losses (320) — 1,768 Equity in earnings (losses) of unconsolidated ventures (1) (407) 870 Gain (loss) on derivative instruments, net 61,838 559,007 122,611 Other investment income (loss), net (66) 186 1 Total other income (loss) (45,829) (520,553) (241,259) Expenses Management fee — related party 12,290 16,906 21,080 General and administrative 7,440 8,418 8,153 Total expenses 19,730 25,324 29,233 Net income (loss) (15,859) (402,924) (90,000) Dividends to preferred stockholders (23,153) (28,218) (37,795) Gain on repurchase and retirement of preferred stock 1,471 14,179 — Issuance and redemption costs of redeemed preferred stock — — (4,682) Net income (loss) attributable to common stockholders (37,541) (416,963) (132,477) Earnings (loss) per share: Net income (loss) attributable to common stockholders Basic (0.85) (12.21) (4.82) Diluted (0.85) (12.21) (4.82) Weighted average number of shares of common stock: Basic 44,073,815 34,160,080 27,513,223 Diluted 44,073,815 34,160,080 27,513,223 (1) Negative interest expense on repurchase agreements in 2021 is due to amortization of net deferred gains on de-designated interest rate swaps that exceeds current period interest expense on repurchase agreements. For further information on amortization of amounts classified in accumulated other comprehensive income before we discontinued hedge accounting, see Note 8 - “Derivatives and Hedging Activities” and Note 12 - “Stockholders' Equity” in Part IV, Item 15 of this report on Form 10-K. 46 Table of Contents Interest Income and Average Earning Asset Yields The table below presents information related to our average earning assets and earning asset yields for the years ended December 31, 2023, 2022 and 2021. Years ended December 31, $ in thousands 2023 2022 2021 Average earning assets (1) 5,106,473 5,137,339 8,808,105 Average earning asset yields (2) 5.44 % 3.79 % 1.92 % (1) Average balances for each period are based on weighted month-end balances. (2) Average earning asset yields for the period were calculated by dividing interest income, including amortization of premiums and discounts, by average earning assets based on the amortized cost of the investments. All yields are annualized. Our primary source of income is interest earned on our investment portfolio. Average earning assets were relatively unchanged for the year ended December 31, 2023 compared to 2022. Average earning asset yields increased for the year ended December 31, 2023 compared to 2022 due to our rotation into higher yielding Agency RMBS. We earned total interest income of $277.9 million during 2023 (2022: $194.5 million). Our interest income consists of coupon interest and net (premium amortization) discount accretion on MBS and other securities as well as interest income on our commercial loan as shown in the table below. Years Ended December 31, $ in thousands 2023 2022 2021 Interest Income Mortgage-backed and other securities - coupon interest 271,856 198,290 207,506 Mortgage-backed and other securities - net (premium amortization) discount accretion 6,073 (5,724) (40,450) Mortgage-backed and other securities - interest income 277,929 192,566 167,056 Commercial loan — 1,947 2,146 Total interest income 277,929 194,513 169,202 Mortgage-backed and other securities interest income increased $85.4 million for the year ended December 31, 2023 compared to 2022 due to a 165 basis point increase in average earning asset yields. Our commercial loan investment was fully repaid in October 2022 . 47 Table of Contents Prepayment Speeds Our RMBS portfolio is subject to inherent prepayment risk primarily driven by changes in interest rates, which impacts the amount of premium and discount on the purchase of these securities that is recognized into interest income. Generally, in an environment of falling interest rates, prepayment speeds will increase as homeowners are more likely to prepay their existing mortgage and refinance into a lower borrowing rate. In an environment of rising interest rates, prepayment speeds will generally decrease as homeowners are not as incentivized to refinance. For Agency RMBS where we do not estimate prepayments, premium amortization and discount accretion are not impacted by prepayments until actual prepayments occur. For those securities on which we do estimate prepayments, expected future prepayment speeds are estimated on a quarterly basis. If the actual prepayment speed during the period is faster than estimated, the amortization on securities purchased at a premium to par value will be accelerated, resulting in lower interest income recognized. Conversely, for securities purchased at a discount to par value, interest income will be reduced in periods where prepayment speeds were slower than expected. The following table presents net (premium amortization) discount accretion recognized on our mortgage-backed and other securities portfolio during 2023, 2022 and 2021. Years Ended December 31, $ in thousands 2023 2022 2021 Agency RMBS 5,160 (6,755) (41,881) Non-Agency CMBS 1,101 1,624 2,695 Non-Agency RMBS (479) (552) (1,264) U.S. Treasury Securities 291 (41) — Net (premium amortization) discount accretion 6,073 (5,724) (40,450) Net discount accretion was $6.1 million during 2023 compared to net premium amortization of $5.7 million during 2022 as the result of repositioning our Agency RMBS portfolio into securities with lower book prices. Our interest income is subject to interest rate risk. Refer to Item 7A. “Quantitative and Qualitative Disclosures about Market Risk” for more information relating to interest rate risk and its impact on our operating results. Interest Expense and Cost of Funds The table below presents our average borrowings and cost of funds for the years ended December 31, 2023, 2022 and 2021. Years ended December 31, $ in thousands 2023 2022 2021 Total average borrowings (1) 4,540,252 4,495,581 7,892,617 Maximum borrowings during the period (2) 4,987,006 6,636,913 8,708,686 Cost of funds (3) 5.03 % 1.15 % (0.14) % (1) Average borrowings for each period are based on weighted month-end balances. (2) Amount represents the maximum borrowings at month-end during each of the respective periods. (3) Average cost of funds is calculated by dividing annualized interest expense, including amortization of net deferred gain (loss) on de-designated interest rate swaps, by our average borrowings. 48 Table of Contents Total average borrowings were relatively unchanged for the year ended December 31, 2023 compared to 2022. Our average cost of funds increased 388 basis points in 2023 compared to 2022 as the FOMC has raised the Federal Funds target rate from a range of 0.0% to 0.25% as of January 1, 2022 to a range of 5.25% to 5.50% as of December 31, 2023. The table below presents the components of interest expense for the years ended December 31, 2023, 2022 and 2021. Years ended December 31, $ in thousands 2023 2022 2021 Interest Expense Interest expense on repurchase agreement borrowings 238,634 71,268 10,710 Amortization of net deferred (gain) loss on de-designated interest rate swaps (10,405) (19,708) (22,000) Repurchase agreements interest expense 228,229 51,560 (11,290) Total interest expense 228,229 51,560 (11,290) Our interest expense on repurchase agreement borrowings increased $167.4 million for the year ended December 31, 2023 compared to 2022 due to a higher cost of funds. Our repurchase agreements interest expense as reported in our consolidated statement of operations includes amortization of net deferred gains and losses on de-designated interest rate swaps as summarized in the table above. Amortization of net deferred gains on de-designated interest rate swaps decreased our total interest expense by $10.4 million and $19.7 million during the years ended December 31, 2023 and December 31, 2022, respectively. Amounts recorded in accumulated other comprehensive income before we discontinued cash flow hedge accounting for our interest rate swaps were reclassified to interest expense on repurchase agreements on the consolidated statements of operations as interest was accrued and paid on the related repurchase agreements over the remaining life of the interest rate swap agreements. As of December 31, 2023, there were no net deferred gains or losses on discontinued cash flow hedges included in accumulated other comprehensive income. Net Interest Income The table below presents the components of net interest income for the years ended December 31, 2023, 2022 and 2021. Years ended December 31, $ in thousands 2023 2022 2021 Interest Income Mortgage-backed and other securities 277,929 192,566 167,056 Commercial loan — 1,947 2,146 Total interest income 277,929 194,513 169,202 Interest Expense Interest expense on repurchase agreement borrowings 238,634 71,268 10,710 Amortization of net deferred (gain) loss on de-designated interest rate swaps (10,405) (19,708) (22,000) Repurchase agreements interest expense 228,229 51,560 (11,290) Total interest expense 228,229 51,560 (11,290) Net interest income 49,700 142,953 180,492 Net interest rate margin 0.41 % 2.64 % 2.06 % Our net interest income, which equals total interest income less total interest expense, totaled $49.7 million for the year ended December 31, 2023 (2022: $143.0 million). The decrease in net interest income and net interest rate margin, which equals the yield on our average assets for the period less the average cost of funds, for the year ended December 31, 2023 compared to 2022 was due to higher interest expense related to increases in the Federal Funds target rate, which was partially offset by our rotation into higher yielding Agency RMBS. Our cost of funds is generally more sensitive to changes in interest rates than the yield on our investment portfolio, which is largely comprised of 30 year fixed-rate Agency RMBS. 49 Table of Contents Gain (Loss) on Investments, net The table below summarizes the components of gain (loss) on investments, net for the years ended December 31, 2023, 2022 and 2021. Years Ended December 31, $ in thousands 2023 2022 2021 Net realized gains (losses) on sale of MBS (158,028) (1,163,910) (281,224) Net unrealized gains (losses) on MBS accounted for under the fair value option 50,364 118,365 (85,702) Net unrealized gains (losses) on commercial loan — 404 417 Net unrealized gains (losses) on U.S. Treasury securities 372 — — Net realized gains (losses) on U.S. Treasury securities 12 (34,198) — Total gain (loss) on investments, net (107,280) (1,079,339) (366,509) During the year ended December 31, 2023, we sold MBS for cash proceeds of $5.2 billion (2022: MBS of $27.3 billion; and realized net losses of $158.0 million (2022: net losses of $1.2 billion). Realized net losses during the year ended December 31, 2023 and 2022 primarily reflect the repositioning of Agency RMBS coupon allocations and sales of lower yielding Agency RMBS to purchase higher yielding Agency RMBS in an effort to improve the earnings power of the portfolio. We have elected the fair value option for all of our MBS purchased on or after September 1, 2016. Before September 1, 2016, we had also elected the fair value option for our non-Agency RMBS interest-only securities. Under the fair value option, changes in fair value are recognized in income in the consolidated statements of operations. As of December 31, 2023, $5.0 billion or 99.7% (December 31, 2022: $4.7 billion or 99.1%) of our MBS are accounted for under the fair value option. We recorded net unrealized gains on our MBS portfolio accounted for under the fair value option of $50.4 million in 2023 (2022: net unrealized gains of $118.4 million). Net unrealized gains in the year ended December 31, 2023 primarily reflect favorable valuations on our assets held at year end. Net unrealized gains in the year ended December 31, 2022 reflect reclassifications of unrealized losses upon sale as well as tighter spreads and favorable rates on assets held at year end. In October 2022, our commercial loan with a principal balance of $23.9 million was repaid in full. We recorded unrealized gains of $404,000 on our commercial loan investment during the years ended December 31, 2022. We valued our commercial loan investment based upon a valuation from an independent pricing service. We recorded net unrealized gains of $372,000 and net realized gains of $12,000 on U.S. Treasury securities during the year ended December 31, 2023. We recorded net realized losses of $34.2 million on U.S. Treasury securities during the year ended December 31, 2022 due to rising interest rates. (Increase) Decrease in Provision for Credit Losses As of December 31, 2023, approximately $15.7 million of our $5.0 billion of MBS are classified as available-for-sale and subject to evaluation for credit losses. We recorded a provision for credit losses of $320,000 on a single non-Agency CMBS for the year ended December 31, 2023 based on a comparison of the security's amortized cost basis to discounted expected cash flows. We did not record any provisions for credit losses during the year ended December 31, 2022. Refer to Note 2 – “Summary of Significant Accounting Policies” of our consolidated financial statements included in Part IV, Item 15 of this Report for additional information on how we calculate our provision for credit losses. Equity in Earnings (Losses) of Unconsolidated Ventures For the year ended December 31, 2023, we recorded equity in losses of unconsolidated ventures of $1,000 (2022: equity in losses of $407,000). Earnings and losses of unconsolidated ventures are driven primarily by the underlying portfolio investments. Gain (Loss) on Derivative Instruments, net We record all derivatives on our consolidated balance sheets at fair value. Changes in the fair value of our derivatives are recorded in gain (loss) on derivative instruments, net in our consolidated statements of operations. Net interest paid or received under our interest rate swaps is also recognized in gain (loss) on derivative instruments, net in our consolidated statements of operations. 50 Table of Contents The tables below summarize the components of our gain (loss) on derivative instruments, net for the years ended December 31, 2023, 2022 and 2021: $ in thousands Year ended December 31, 2023 Derivative not designated as hedging instrument Realized gain (loss) on derivative instruments, net Contractual net interest income (expense) Unrealized gain (loss), net Gain (loss) on derivative instruments, net Interest Rate Swaps (177,628) 239,008 918 62,298 Currency Forward Contracts (18) — — (18) TBAs (1,880) — 1,438 (442) Total (179,526) 239,008 2,356 61,838 $ in thousands Year ended December 31, 2022 Derivative not designated as hedging instrument Realized gain (loss) on derivative instruments, net Contractual net interest income (expense) Unrealized gain (loss), net Gain (loss) on derivative instruments, net Interest Rate Swaps 593,035 86,872 11,426 691,333 Currency Forward Contracts 919 — (271) 648 TBAs (134,488) — 1,514 (132,974) Total 459,466 86,872 12,669 559,007 $ in thousands Year ended December 31, 2021 Derivative not designated as hedging instrument Realized gain (loss) on derivative instruments, net Contractual net interest income (expense) Unrealized gain (loss), net Gain (loss) on derivative instruments, net Interest Rate Swaps 185,232 (15,803) (5,869) 163,560 Interest Rate Swaptions (553) — — (553) Currency Forward Contracts 209 — 970 1,179 TBAs (28,731) — (12,844) (41,575) Total 156,157 (15,803) (17,743) 122,611 During the year ended December 31, 2023, we entered into interest rate swaps with a notional amount of $3.5 billion and terminated existing interest rate swaps with a notional amount of $7.6 billion (December 31, 2022: $10.0 billion of additions and $10.1 billion of terminations). Forward starting swaps are excluded from the additions and terminations above until they begin to bear interest. We recorded net gains of $62.3 million and $691.3 million on interest rate swaps during the years ended December 31, 2023 and 2022, respectively, primarily due to changes in forward interest rate expectations. As of December 31, 2023, we had $4.5 billion of repurchase agreement borrowings with a weighted average remaining maturity of 20 days (December 31, 2022: $4.2 billion and 28 days). We typically refinance each repurchase agreement at market interest rates upon maturity. We use interest rate swaps to manage our exposure to changing interest rates and add stability to interest rate expense. As of December 31, 2023 and 2022, we held the following interest rate swaps whereby we pay fixed rate interest and receive floating rate interest based upon SOFR. $ in thousands As of December 31, 2023 As of December 31, 2022 Derivative instrument Notional Amount Weighted Average Fixed Pay Rate Weighted Average Floating Receive Rate Weighted Average Years to Maturity Notional Amount Weighted Average Fixed Pay Rate Weighted Average Floating Receive Rate Weighted Average Years to Maturity Interest Rate Swaps (1) 4,065,000 1.10 % 5.38 % 6.6 5,800,000 0.45 % 4.30 % 6.3 (1) As of December 31, 2022, we held $975.0 million notional amount of SOFR-based pay fixed and receive floating interest rate swaps with forward start dates that had a weighted average maturity of 16.5 years and a weighted average fixed pay rate of 0.89% that are excluded from the table above. We did not have any such forward starting swaps as of December 31, 2023. 51 Table of Contents As of December 31, 2022, we held the following interest rate swaps whereby we pay floating rate interest based upon SOFR and receive fixed rate interest. We did not have any such interest rate swaps as of December 31, 2023. $ in thousands As of December 31, 2022 Derivative instrument Notional Amount Weighted Average Floating Pay Rate Weighted Average Fixed Receive Rate Weighted Average Years to Maturity Interest Rate Swaps (1) 2,350,000 4.30 % 2.78 % 9.3 (1) As of December 31, 2022, we held $275.0 million notional amount of SOFR-based pay floating and receive fixed interest rate swaps with forward start dates that had a weighted average maturity of 16.0 years and a weighted average fixed receive rate of 2.63% that are excluded from that table above. We historically used currency forward contracts to help mitigate the potential impact of changes in foreign currency exchange rates. As of December 31, 2023 and December 31, 2022, we did not have any currency forward contracts outstanding. During the year ended December 31, 2022, we settled currency forward contracts of €33.0 million or $37.1 million in notional amount related to our investment in an unconsolidated venture denominated in euro and realized a net gain of $919,000. We primarily use TBAs that we do not intend to physically settle on the contractual settlement date as an alternative means of investing in and financing Agency RMBS. As of December 31, 2023 and December 31, 2022, we had no investments or immaterial investments in TBAs. We recorded $442,000 and $133.0 million of net realized and unrealized losses on TBAs during the year ended December 31, 2023 and December 31, 2022, respectively. Net realized and unrealized losses on TBAs for the year ended December 31, 2022 primarily reflect rising interest rates, in addition to wider interest rate spreads on Agency RMBS. Other Investment Income (Loss), net Our other investment income, net for the years ended December 31, 2023 and 2022 consisted of foreign currency transaction gains and losses. Other investment income (loss) for the year ended December 31, 2023 also includes the reclassification of our foreign currency translation adjustment that was previously recorded in accumulated other comprehensive income related to an unconsolidated venture that was liquidated during the first quarter of 2023. Expenses For the year ended December 31, 2023, we incurred management fees of $12.3 million (2022: $16.9 million) that are payable to our Manager under our management agreement. Management fees decreased for the year ended December 31, 2023 compared to 2022 due to a lower stockholders' equity management fee base in 2023. Our management fees are calculated quarterly in arrears. Refer to Note 11 – “Related Party Transactions” of our consolidated financial statements in Part IV, Item 15 of this Report for a discussion of our relationship with our Manager and a description of how our fees are calculated. For the year ended December 31, 2023, our general and administrative expenses not covered under our management agreement amounted to $7.4 million (2022: $8.4 million). General and administrative expenses not covered under our management agreement primarily consist of directors and officers insurance, legal costs, accounting, auditing and tax services, filing fees and miscellaneous general and administrative costs. Gain on Repurchase and Retirement of Preferred Stock In May 2022, our board of directors approved a share repurchase program for our Series B and Series C Preferred Stock. During the year ended December 31, 2023, we repurchased and retired 151,637 shares of Series B Preferred Stock and 271,031 shares of Series C Preferred Stock and recorded a gain on repurchase and retirement of preferred stock of $1.5 million. During the year ended December 31, 2022, we repurchased and retired 1,662,366 shares of Series B Preferred Stock and 3,683,530 shares of Series C Preferred Stock and recorded a gain on repurchase and retirement of preferred stock of $14.2 million. Gains on repurchases and retirements of preferred stock represent the difference between the consideration transferred and the carrying value of the preferred stock. 52 Table of Contents Net Income (Loss) attributable to Common Stockholders For the year ended December 31, 2023, our net loss attributable to common stockholders was $37.5 million (2022: $417.0 million) or $0.85 basic and diluted net loss per average share available to common stockholders (2022: $12.21). For the year ended December 31, 2023, the change in net loss attributable to common stockholders compared to 2022 was primarily due to: (i) net losses on investments of $107.3 million versus $1.1 billion in the 2022 period; (ii) net gains on derivative instruments of $61.8 million versus $559.0 million in the 2022 period and (iii) a $93.3 million decrease in net interest income. For further information on the changes in net gain (loss) on investments, net gain (loss) on derivative instruments, and changes in net interest income, see preceding discussion under “Gain (Loss) on Investments, net”, “Gain (Loss) on Derivative Instruments, net” and “Net Interest Income”. Non-GAAP Financial Measures The table below shows the non-GAAP financial measures we use to analyze our operating results and the most directly comparable U.S. GAAP measures. We believe these non-GAAP measures are useful to investors in assessing our performance as discussed further below. Non-GAAP Financial Measure Most Directly Comparable U.S. GAAP Measure Earnings available for distribution (and by calculation, earnings available for distribution per common share) Net income (loss) attributable to common stockholders (and by calculation, basic earnings (loss) per common share) Effective interest expense (and by calculation, effective cost of funds) Total interest expense (and by calculation, cost of funds) Effective net interest income (and by calculation, effective interest rate margin) Net interest income (and by calculation, net interest rate margin) Economic debt-to-equity ratio Debt-to-equity ratio The non-GAAP financial measures used by management should be analyzed in conjunction with U.S. GAAP financial measures and should not be considered substitutes for U.S. GAAP financial measures. In addition, the non-GAAP financial measures may not be comparable to similarly titled non-GAAP financial measures of our peer companies. Earnings Available for Distribution Our business objective is to provide attractive risk-adjusted returns to our stockholders, primarily through dividends and secondarily through capital appreciation. We use earnings available for distribution as a measure of our investment portfolio’s ability to generate income for distribution to common stockholders and to evaluate our progress toward meeting this objective. We calculate earnings available for distribution as U.S. GAAP net income (loss) attributable to common stockholders adjusted for (gain) loss on investments, net; realized (gain) loss on derivative instruments, net; unrealized (gain) loss on derivative instruments, net; TBA dollar roll income; gain on repurchase and retirement of preferred stock; foreign currency (gains) losses, net and amortization of net deferred (gain) loss on de-designated interest rate swaps. By excluding the gains and losses discussed above, we believe the presentation of earnings available for distribution provides a consistent measure of operating performance that investors can use to evaluate our results over multiple reporting periods and, to a certain extent, compare to our peer companies. However, because not all of our peer companies use identical operating performance measures, our presentation of earnings available for distribution may not be comparable to other similarly titled measures used by our peer companies. We exclude the impact of gains and losses when calculating earnings available for distribution because (i) when analyzed in conjunction with our U.S. GAAP results, earnings available for distribution provides additional detail of our investment portfolio’s earnings capacity and (ii) gains and losses are not accounted for consistently under U.S. GAAP. Under U.S. GAAP, certain gains and losses are reflected in net income whereas other gains and losses are reflected in other comprehensive income. For example, a portion of our mortgage-backed securities are classified as available-for-sale securities, and we record changes in the valuation of these securities in other comprehensive income on our consolidated balance sheets. We elected the fair value option for our mortgage-backed securities purchased on or after September 1, 2016, and changes in the valuation of these securities are recorded in other income (loss) in our consolidated statements of operations. In addition, certain gains and losses represent one-time events. We may add and have added additional reconciling items to our earnings available for distribution calculation as appropriate. To maintain our qualification as a REIT, U.S. federal income tax law generally requires that we distribute at least 90% of our REIT taxable income annually, determined without regard to the deduction for dividends paid and excluding net capital gains. We have historically distributed at least 100% of our REIT taxable income. Because we view earnings available for distribution as a consistent measure of our investment portfolio's ability to generate income for distribution to common 53 Table of Contents stockholders, earnings available for distribution is one metric, but not the exclusive metric, that our board of directors uses to determine the amount, if any, and the payment date of dividends on our common stock. However, earnings available for distribution should not be considered as an indication of our taxable income, a guaranty of our ability to pay dividends or as a proxy for the amount of dividends we may pay, as earnings available for distribution excludes certain items that impact our cash needs. Earnings available for distribution is an incomplete measure of our financial performance and there are other factors that impact the achievement of our business objective. We caution that earnings available for distribution should not be considered as an alternative to net income (determined in accordance with U.S. GAAP) or as an indication of our cash flow from operating activities (determined in accordance with U.S. GAAP), a measure of our liquidity or as an indication of amounts available to fund our cash needs. The table below provides a reconciliation of U.S. GAAP net income (loss) attributable to common stockholders to earnings available for distribution for the following periods: Years Ended December 31, $ in thousands, except per share data 2023 2022 2021 Net income (loss) attributable to common stockholders (37,541) (416,963) (132,477) Adjustments: (Gain) loss on investments, net 107,280 1,079,339 366,509 Realized (gain) loss on derivative instruments, net (1) 179,526 (459,466) (156,157) Unrealized (gain) loss on derivative instruments, net (1) (2,356) (12,669) 17,743 TBA dollar roll income (2) 697 28,843 40,058 (Gain) on repurchase and retirement of preferred stock (1,471) (14,179) — Foreign currency (gains) losses, net (3) 66 (186) (1) Amortization of net deferred (gain) loss on de-designated interest rate swaps (4) (10,405) (19,708) (22,000) Subtotal 273,337 601,974 246,152 Earnings available for distribution 235,796 185,011 113,675 Basic earnings (loss) per common share (0.85) (12.21) (4.82) Earnings available for distribution per common share (5) 5.35 5.42 4.13 (1) U.S. GAAP gain (loss) on derivative instruments, net on the consolidated statements of operations includes the following components: Years Ended December 31, $ in thousands 2023 2022 2021 Realized gain (loss) on derivative instruments, net (179,526) 459,466 156,157 Unrealized gain (loss) on derivative instruments, net 2,356 12,669 (17,743) Contractual net interest income (expense) on interest rate swaps 239,008 86,872 (15,803) Gain (loss) on derivative instruments, net 61,838 559,007 122,611 (2) A TBA dollar roll is a series of derivative transactions where TBAs with the same specified issuer, term and coupon but different settlement dates are simultaneously bought and sold. The TBA settling in the later month typically prices at a discount to the TBA settling in the earlier month. TBA dollar roll income represents the price differential between the TBA price for current month settlement versus the TBA price for forward month settlement. We include TBA dollar roll income in earnings available for distribution because it is the economic equivalent of interest income on the underlying Agency RMBS, less an implied financing cost, over the forward settlement period. TBA dollar roll income is a component of gain (loss) on derivative instruments, net on our consolidated statements of operations. (3) Foreign currency gains (losses), net includes foreign currency transaction gains and losses and the reclassification of currency translation adjustments that were previously recorded in accumulated other comprehensive income and is included in other investment income (loss), net on the consolidated statements of operations. 54 Table of Contents (4) U.S. GAAP repurchase agreements interest expense on the consolidated statements of operations includes the following components: Years Ended December 31, $ in thousands 2023 2022 2021 Interest expense on repurchase agreements borrowings 238,634 71,268 10,710 Amortization of net deferred (gain) loss on de-designated interest rate swaps (10,405) (19,708) (22,000) Repurchase agreements interest expense 228,229 51,560 (11,290) (5) Earnings available for distribution per common share is equal to earnings available for distribution divided by the basic weighted average number of common shares outstanding. Earnings available for distribution per common share has been retroactively adjusted to reflect our one-for-ten reverse stock split that was effected following the close of business on June 3, 2022. The components of earnings available for distribution for the years ended December 31, 2023, 2022 and 2021 were: Years Ended December 31, $ in thousands 2023 2022 2021 Effective net interest income (1) 278,303 210,117 142,689 TBA dollar roll income 697 28,843 40,058 Equity in earnings (losses) of unconsolidated ventures (1) (407) 870 (Increase) decrease in provision for credit losses (320) — 1,768 Total expenses (19,730) (25,324) (29,233) Subtotal 258,949 213,229 156,152 Dividends to preferred stockholders (23,153) (28,218) (37,795) Issuance and redemption costs of redeemed preferred stock — — (4,682) Earnings available for distribution 235,796 185,011 113,675 (1) See below for a reconciliation of net interest income to effective net interest income, a non-GAAP measure. Earnings available for distribution increased for the year ended December 31, 2023 compared to 2022 due to an increase in effective net interest income, which was partially offset by a reduction in our TBA notional amount and related TBA dollar roll activity. Effective Interest Expense / Effective Cost of Funds / Effective Net Interest Income / Effective Interest Rate Margin We calculate effective interest expense (and by calculation, effective cost of funds) as U.S. GAAP total interest expense adjusted for contractual net interest income (expense) on our interest rate swaps that is recorded as gain (loss) on derivative instruments, net and the amortization of net deferred gains (losses) on de-designated interest rate swaps that is recorded as repurchase agreements interest expense. We view our interest rate swaps as an economic hedge against increases in future market interest rates on our borrowings. We add back the net payments or receipts on our interest rate swap agreements to our total U.S. GAAP interest expense because we use interest rate swaps to add stability to interest expense. We exclude the amortization of net deferred gains (losses) on de-designated interest rate swaps from our calculation of effective interest expense because we do not consider the amortization a current component of our borrowing costs. We calculate effective net interest income (and by calculation, effective interest rate margin) as U.S. GAAP net interest income adjusted for contractual net interest income (expense) on our interest rate swaps that is recorded as gain (loss) on derivative instruments, net and amortization of net deferred gains (losses) on de-designated interest rate swaps that is recorded as repurchase agreements interest expense. We believe the presentation of effective interest expense, effective cost of funds, effective net interest income and effective interest rate margin measures, when considered together with U.S. GAAP financial measures, provides information that is useful to investors in understanding our borrowing costs and operating performance. 55 Table of Contents The following table reconciles total interest expense to effective interest expense and cost of funds to effective cost of funds for the following periods: Years Ended December 31, 2023 2022 2021 $ in thousands Reconciliation Cost of Funds / Effective Cost of Funds Reconciliation Cost of Funds / Effective Cost of Funds Reconciliation Cost of Funds / Effective Cost of Funds Total interest expense 228,229 5.03 % 51,560 1.15 % (11,290) (0.14) % Add: Amortization of net deferred gain (loss) on de-designated interest rate swaps 10,405 0.23 % 19,708 0.44 % 22,000 0.28 % Add (Less): Contractual net interest expense (income) on interest rate swaps recorded as gain (loss) on derivative instruments, net (239,008) (5.26) % (86,872) (1.93) % 15,803 0.20 % Effective interest expense (374) — % (15,604) (0.34) % 26,513 0.34 % Our effective interest expense and effective cost of funds increased modestly for the year ended December 31, 2023 compared to 2022 as significant increases in U.S. GAAP interest expense, which were driven by increases in the Federal Funds target rate, were largely offset by increases in contractual net interest income on interest rate swaps. In addition to changes caused by the underlying floating rate index, the amount of contractual net interest income or expense on interest swaps that we recognize may change materially from period to period based on changes in the size and composition of our interest rate swap portfolio, which are generally broadly aligned with changes in our repurchase agreement borrowings. See preceding discussion under “Gain (Loss) on Derivative Instruments, net” for details of our interest rate swap portfolio as of December 31, 2023 and December 31, 2022. The following table reconciles net interest income to effective net interest income and net interest rate margin to effective interest rate margin for the following periods: Years Ended December 31, 2023 2022 2021 $ in thousands Reconciliation Net Interest Rate Margin / Effective Interest Rate Margin Reconciliation Net Interest Rate Margin / Effective Interest Rate Margin Reconciliation Net Interest Rate Margin / Effective Interest Rate Margin Net interest income 49,700 0.41 % 142,953 2.64 % 180,492 2.06 % Less: Amortization of net deferred (gain) loss on de-designated interest rate swaps (10,405) (0.23) % (19,708) (0.44) % (22,000) (0.28) % Add (Less): Contractual net interest income (expense) on interest rate swaps recorded as gain (loss) on derivative instruments, net 239,008 5.26 % 86,872 1.93 % (15,803) (0.20) % Effective net interest income 278,303 5.44 % 210,117 4.13 % 142,689 1.58 % Our effective net interest income and effective interest rate margin increased for the year ended December 31, 2023 compared to 2022 due to higher interest income resulting from our rotation into higher yielding Agency RMBS. Effective interest expense and effective cost of funds had a less significant impact on effective net interest income and effective interest rate margin as higher U.S. GAAP interest expense was largely offset by an increase in contractual net interest income on interest rate swaps. Economic Debt-to-Equity Ratio The tables below show the allocation of our stockholders' equity to our target assets, our debt-to-equity ratio, and our economic debt-to-equity ratio as of December 31, 2023 and December 31, 2022. Our debt-to-equity ratio is calculated in 56 Table of Contents accordance with U.S. GAAP and is the ratio of total debt to total stockholders' equity. As of December 31, 2023, approximately 98% of our equity is allocated to Agency RMBS. We present an economic debt-to-equity ratio, a non-GAAP financial measure of leverage that considers the impact of the off-balance sheet financing of our investments in TBAs that are accounted for as derivative instruments under U.S. GAAP. We include our TBAs at implied cost basis in our measure of leverage because a forward contract to acquire Agency RMBS in the TBA market carries similar risks to Agency RMBS purchased in the cash market and funded with on-balance sheet liabilities. Similarly, a contract for the forward sale of Agency RMBS has substantially the same effect as selling the underlying Agency RMBS and reducing our on-balance sheet funding commitments. We believe that presenting our economic debt-to-equity ratio, when considered together with our U.S. GAAP financial measure of debt-to-equity ratio, provides information that is useful to investors in understanding how management evaluates our at-risk leverage and gives investors a comparable statistic to those of other mortgage REITs who also invest in TBAs and present a similar non-GAAP measure of leverage. As of December 31, 2023 $ in thousands Agency RMBS Credit Portfolio (1) Total Mortgage-backed securities 5,027,232 18,074 5,045,306 U.S. Treasury securities 11,214 — 11,214 Cash and cash equivalents (2) 76,967 — 76,967 Restricted cash (3) 121,670 — 121,670 Derivative assets, at fair value (3) 939 — 939 Other assets 27,480 633 28,113 Total assets 5,265,502 18,707 5,284,209 Repurchase agreements 4,458,695 — 4,458,695 Other liabilities 42,117 732 42,849 Total liabilities 4,500,812 732 4,501,544 Total stockholders' equity (allocated) 764,690 17,975 782,665 Debt-to-equity ratio (4) 5.8 — 5.7 Economic debt-to-equity ratio (5) 5.8 — 5.7 (1) Investments in non-Agency CMBS, non-Agency RMBS and an unconsolidated joint venture are included in credit portfolio. (2) Cash and cash equivalents is allocated based on our financing strategy for each asset class. (3) Restricted cash and derivative assets are allocated based on our hedging strategy for each asset class. (4) Debt-to-equity ratio is calculated as the ratio of total repurchase agreements to total stockholders' equity. (5) Economic debt-to-equity ratio is calculated as the ratio of total repurchase agreements and TBAs at implied cost basis to total stockholders' equity. We did not have any TBAs outstanding as of December 31, 2023. 57 Table of Contents As of December 31, 2022 $ in thousands Agency RMBS Credit Portfolio (1) Total Mortgage-backed securities 4,746,693 45,200 4,791,893 Cash and cash equivalents (2) 175,535 — 175,535 Restricted cash (3) 103,246 — 103,246 Derivative assets, at fair value (3) 662 — 662 Other assets 25,252 807 26,059 Total assets 5,051,388 46,007 5,097,395 Repurchase agreements 4,234,823 — 4,234,823 Derivative liabilities, at fair value (3) 2,079 — 2,079 Other liabilities 53,980 2,438 56,418 Total liabilities 4,290,882 2,438 4,293,320 Total stockholders' equity (allocated) 760,506 43,569 804,075 Debt-to-equity ratio (4) 5.6 — 5.3 Economic debt-to-equity ratio (5) 5.6 — 5.3 (1) Investments in non-Agency CMBS, non-Agency RMBS and unconsolidated joint ventures are included in credit portfolio. (2) Cash and cash equivalents is allocated based on our financing strategy for each asset class. (3) Restricted cash and derivative assets and liabilities are allocated based on our hedging strategy for each asset class. (4) Debt-to-equity ratio is calculated as the ratio of total repurchase agreements to total stockholders' equity. (5) Economic debt-to-equity ratio is calculated as the ratio of total repurchase agreements and TBAs at implied cost basis ($1.4 million as of December 31, 2022) to total stockholders' equity. Liquidity and Capital Resources Liquidity is a measure of our ability to meet potential cash requirements, including ongoing commitments to pay dividends, fund investments, repay borrowings and fund other general business needs. Our primary sources of funds for liquidity consist of the net proceeds from our common and preferred equity offerings, net cash provided by operating activities, proceeds from repurchase agreements and other financing arrangements and future issuances of equity and/or debt securities. We currently believe that we have sufficient liquidity and capital resources available for the acquisition of additional investments, repayments on borrowings, margin requirements and the payment of cash dividends as required for continued qualification as a REIT. We generally maintain liquidity to pay down borrowings under repurchase arrangements to reduce borrowing costs and otherwise efficiently manage our long-term investment capital. Because the level of these borrowings can be adjusted on a daily basis, the level of cash and cash equivalents carried on our consolidated balance sheets is significantly less important than our potential liquidity available under borrowing arrangements or through the sale of liquid investments. However, there can be no assurance that we will maintain sufficient levels of liquidity to meet any margin calls. We held cash, cash equivalents and restricted cash of $198.6 million at December 31, 2023 (2022: $278.8 million). Our cash, cash equivalents and restricted cash change due to normal fluctuations in cash balances related to the timing of principal and interest payments, repayments of debt, and asset purchases and sales. Our operating activities provided net cash of approximately $237.8 million for the year ended December 31, 2023 (2022: $196.1 million). Our investing activities used net cash of $536.8 million for the year ended December 31, 2023 (2022: provided net cash of $2.4 billion). Our primary use of cash from investing activities during the year ended December 31, 2023 was $5.9 billion to purchase MBS and $59.5 million to purchase U.S. Treasury securities. We also paid $179.5 million to settle derivative contracts during the year ended December 31, 2023. We received proceeds from the sale of MBS of $5.2 billion and proceeds from the sale of U.S. Treasury securities of $49.0 million during the year ended December 31, 2023. We also generated $348.5 million from principal payments of MBS during the year ended December 31, 2023. Our primary source of cash from investing activities during the year ended December 31, 2022 was proceeds from the sale of MBS of $27.3 billion and proceeds from the sale of U.S. Treasury securities of $468.1 million. We also generated $403.3 million from principal payments of MBS and received cash of $459.5 million to settle derivative contracts during the 58 Table of Contents year ended December 31, 2022. We used cash of $25.7 billion to purchase MBS and $502.3 million to purchase U.S. Treasury securities during the year ended December 31, 2022. Our financing activities provided net cash of $218.9 million for the year ended December 31, 2023 (2022: used net cash of $2.9 billion). Our primary source of cash from financing activities during the year ended December 31, 2023 was net proceeds on our repurchase agreements of $223.5 million and proceeds from issuance of common stock of $109.1 million. We paid dividends of $102.2 million and used $8.7 million to repurchase Series B and Series C Preferred Stock. Our primary use of cash from financing activities during the year ended December 31, 2022 was net principal repayments on our repurchase agreements of $2.8 billion. We paid dividends of $140.3 million and used cash of $115.1 million to repurchase Series B and Series C Preferred Stock during the year ended December 31, 2022. Proceeds from the issuance of common stock provided $81.9 million during the year ended December 31, 2022. As of December 31, 2023, the average margin requirement (weighted by borrowing amount), or the haircut, under our repurchase agreements was 4.6% for Agency RMBS. The haircuts ranged from a low of 3% to a high of 5% for Agency RMBS. Declines in the value of our securities portfolio can trigger margin calls by our lenders under our repurchase agreements. An event of default or termination event may give our counterparties the option to terminate all repurchase transactions outstanding with us and require any amount due from us to the counterparties to be payable immediately. Effects of Margin Requirements, Leverage and Credit Spreads Our securities have values that fluctuate according to market conditions and the market value of our securities will decrease as prevailing interest rates or credit spreads increase. When the value of the securities pledged to secure a repurchase loan decreases to the point where the positive difference between the collateral value and the loan amount is less than the haircut, our lenders may issue a “margin call”, which means that the lender will require us to pay cash or pledge additional collateral. Under our repurchase facilities, our lenders have full discretion to determine the value of the securities we pledge to them. Most of our lenders will value securities based on recent trades in the market. Lenders also issue margin calls as the published current principal balance factors change on the pool of mortgages underlying the securities pledged as collateral when scheduled and unscheduled paydowns are announced monthly. We experience margin calls and increased collateral requirements in the ordinary course of our business. In seeking to effectively manage the margin requirements established by our lenders, we maintain a position of cash and unpledged securities. We refer to this position as our liquidity. The level of liquidity we have available to meet margin calls is directly affected by our leverage levels, our haircuts and the price changes on our securities. If interest rates increase as a result of a yield curve shift or for another reason or if credit spreads widen, then the prices of our collateral (and our unpledged assets that constitute our liquidity) will decline, we will experience margin calls, and we will seek to use our liquidity to meet the margin calls. There can be no assurance that we will maintain sufficient levels of liquidity to meet any margin calls or increased collateral requirements. If our haircuts increase, our liquidity will proportionately decrease. In addition, if we increase our borrowings, our liquidity will decrease by the amount of additional haircut on the increased level of indebtedness. We intend to maintain a level of liquidity in relation to our assets that enables us to meet reasonably anticipated margin calls and increased collateral requirements but that also allows us to be substantially invested in securities. We may misjudge the appropriate amount of our liquidity by maintaining excessive liquidity, which would lower our investment returns, or by maintaining insufficient liquidity, which would force us to liquidate assets into unfavorable market conditions and harm our results of operations and financial condition. We are subject to financial covenants in connection with our lending, derivatives and other agreements we enter into in the normal course of our business. We intend to operate in a manner which complies with all of our financial covenants. Our lending and derivative agreements provide that we may be declared in default of our obligations if our leverage ratio exceeds certain thresholds and we fail to maintain stockholders’ equity or market value above certain thresholds over specified time periods. 59 Table of Contents Forward-Looking Statements Regarding Liquidity As of December 31, 2023, we held $4.7 billion of Agency securities that are financed by repurchase agreements. We also had approximately $344.8 million of unencumbered investments and unrestricted cash of $77.0 million as of December 31, 2023. As of December 31, 2023, our known contractual obligations primarily consist of $4.5 billion of repurchase agreement borrowings with a weighted average remaining maturity of 20 days. We generally intend to refinance the majority of our repurchase agreement borrowings at market rates upon maturity. Repurchase agreement borrowings that are not refinanced upon maturity are typically repaid through the use of cash on hand or proceeds from sales of securities. We are also committed to fund $2.9 million in additional capital to our unconsolidated joint venture to cover future expenses should they occur. Based upon our current portfolio and existing borrowing arrangements, we believe that cash flow from operations and available borrowing capacity will be sufficient to enable us to meet anticipated short-term (one year or less) liquidity requirements to fund our investment activities, pay fees under our management agreement, fund our required distributions to stockholders and fund other general corporate expenses. Our ability to meet our long-term (greater than one year) liquidity and capital resource requirements will be subject to obtaining additional debt financing. We may increase our capital resources by obtaining long-term credit facilities or through public or private offerings of equity or debt securities, possibly including classes of preferred stock, common stock, senior or subordinated notes and convertible notes. Such financing will depend on market conditions for capital raises and our ability to invest such offering proceeds. If we are unable to renew, replace or expand our sources of financing on substantially similar terms, it may have an adverse effect on our business and results of operations. Dividends To maintain our qualification as a REIT, U.S. federal income tax law generally requires that we distribute at least 90% of our REIT taxable income annually, determined without regard to the deduction for dividends paid and excluding net capital gains. We must pay tax at regular corporate rates to the extent that we annually distribute less than 100% of our REIT taxable income. Before we pay any dividend, whether for U.S. federal income tax purposes or otherwise, we must first meet both our operating requirements and debt service on our repurchase agreements and other debt payable. If our cash available for distribution is less than our REIT taxable income, we could be required to sell assets or borrow funds to make cash distributions, or we may make a portion of the required distribution in the form of a taxable stock distribution or distribution of debt securities. As discussed above, our distribution requirements are based on REIT taxable income rather than U.S. GAAP net income. The primary differences between our REIT taxable income and U.S. GAAP net income are: (i) unrealized gains and losses on investments that we have elected the fair value option for that are included in current U.S. GAAP income but are excluded from REIT taxable income until realized or settled; (ii) gains and losses on derivative instruments that are included in current U.S. GAAP net income but are excluded from REIT taxable income until realized; and (iii) temporary differences related to amortization of premiums and discounts on investments. For additional information regarding the characteristics of our dividends, refer to Note 12 – “Stockholders' Equity” of our consolidated financial statements in Part IV, Item 15 of this Report. Unrelated Business Taxable Income We have not engaged in transactions that would result in a portion of our income being treated as unrelated business taxable income. 60 Table of Contents Exposure to Financial Counterparties We finance a substantial portion of our investment portfolio through repurchase agreements. Under these agreements, we pledge assets from our investment portfolio as collateral. Additionally, certain counterparties may require us to provide cash collateral in the event the market value of the assets declines to maintain a contractual repurchase agreement collateral ratio. If a counterparty were to default on its obligations, we would be exposed to potential losses to the extent the fair value of collateral pledged by us to the counterparty including any accrued interest receivable on such collateral exceeded the amount loaned to us by the counterparty plus interest due to the counterparty. As of December 31, 2023, no counterparty held collateral that exceeded the amounts borrowed under the related repurchase agreements by more than $39.1 million, or 5% of our stockholders’ equity. The following table summarizes our exposure under repurchase agreements to counterparties by geographic concentration as of December 31, 2023. The information is based on the geographic headquarters of the counterparty or counterparty's parent company. However, our repurchase agreements are denominated in U.S. dollars. $ in thousands Number of Counterparties Repurchase Agreement Financing Exposure North America 12 2,547,621 130,143 Europe (excluding United Kingdom) 3 700,633 29,364 Asia 4 790,393 39,728 United Kingdom 1 420,048 16,769 Total 20 4,458,695 216,004 Other Matters We believe that we satisfied each of the asset tests in Section 856(c)(4) of the Internal Revenue Code of 1986, as amended (the “Code”) at the end of each calendar quarter in 2023. We also believe that our revenue qualifies for the 75% source of income test and for the 95% source of income test rules for the year ended December 31, 2023. Consequently, we believe we met the REIT income and asset test as of December 31, 2023. We also met all REIT requirements regarding the stock ownership and distribution of dividends of our taxable income as of December 31, 2023. Therefore, as of December 31, 2023, we believe that we qualified as a REIT under the Code. At all times, we intend to conduct our business so that neither we nor our Operating Partnership nor the subsidiaries of our Operating Partnership are required to register as an investment company under the 1940 Act. If we were required to register as an investment company, then our use of leverage would be substantially reduced. Because we are a holding company that conducts our business through our Operating Partnership and the Operating Partnership’s wholly-owned or majority-owned subsidiaries, the securities issued by these subsidiaries that are excepted from the definition of “investment company” under Section 3(c)(1) or Section 3(c)(7) of the 1940 Act, together with any other investment securities the Operating Partnership may own, may not have a combined value in excess of 40% of the value of the Operating Partnership’s total assets (exclusive of U.S. government securities and cash items) on an unconsolidated basis. This requirement limits the types of businesses in which we are permitted to engage in through our subsidiaries. In addition, we believe neither we nor the Operating Partnership are considered an investment company under Section 3(a)(1)(A) of the 1940 Act because they do not engage primarily or hold themselves out as being engaged primarily in the business of investing, reinvesting or trading in securities. Rather, through the Operating Partnership’s wholly-owned or majority-owned subsidiaries, we and the Operating Partnership are primarily engaged in the non-investment company businesses of these subsidiaries. IAS Asset I LLC and certain of the Operating Partnership’s other subsidiaries that we may form in the future rely upon the exclusion from the definition of “investment company” under the 1940 Act provided by Section 3(c)(5)(C) of the 1940 Act, which is available for entities “primarily engaged in the business of purchasing or otherwise acquiring mortgages and other liens on and interests in real estate.” This exclusion generally requires that at least 55% of each subsidiary’s portfolio be comprised of qualifying assets and at least 80% be comprised of qualifying assets and real estate-related assets (and no more than 20% comprised of miscellaneous assets). We calculate that as of December 31, 2023, we conducted our business so as not to be regulated as an investment company under the 1940 Act.