What changed in this filing

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Item 2. Management’s Discussion and Analysis

2020-08-06 compared with 2020-05-08 · 429 added, 104 removed, 1062 unchanged (33% of the section changed)

Management’s Discussion and Analysis

We have established a cross-functional LIBOR transition committee to determine our transition plan and facilitate an orderly transition to alternative reference rates.

Our plan includes steps to evaluate exposure, review contracts, assess impact to our business, process and technology and define a communication strategy with shareholders, regulators and other stakeholders.

The committee also continues to engage with industry working groups and other market participants regarding the transition.

Results of Operations

The results of our operations are affected by various factors, many of which are beyond our control.

Certain of such risks and uncertainties are described herein (see “Special Note Regarding Forward-Looking Statements” above) and in Part I, Item 1A.

“Risk Factors” of our most recent Annual Report on Form 10-K and in Part II, Item 1A.

“Risk Factors” in this Quarterly Report on Form 10-Q and in our Quarterly Report on Form 10-Q for the quarter ended March 31, 2020.

This Management Discussion and Analysis section contains analysis and discussion of financial results computed in accordance with U.S.

generally accepted accounting principles (“GAAP”) and non-GAAP measurements.

To supplement our consolidated financial statements, which are prepared and presented in accordance with GAAP, we provide non-GAAP financial measures to enhance investor understanding of our period-over-period operating performance and business trends, as well as for assessing our performance versus that of industry peers.

Refer to the “Non-GAAP Financial Measures” section for additional information.

Net Income (Loss) Summary

The following table presents financial information related to our results of operations as of and for the three and six months ended June 30, 2020 and 2019 .

As of and for the Three Months Ended June 30,

As of and for the Six Months Ended June 30,

(dollars in thousands, except per share data)

Interest income

Interest expense

Net interest income

Realized and unrealized gains (losses)

Other income (loss)

Total general and administrative expenses

Income (loss) before income taxes

Net income (loss)

Net income (loss) attributable to noncontrolling interests

Net income (loss) attributable to Annaly

Dividends on preferred stock

Net income (loss) available (related) to common stockholders

Net income (loss) per share available (related) to common stockholders

Weighted average number of common shares outstanding

1,423,909,112

1,456,038,736

1,427,451,716

1,427,485,102

1,423,909,112

1,456,038,736

1,427,451,716

1,427,485,102

Other information

Asset portfolio at period-end

Average total assets

Average equity

Leverage at period-end (1)

Economic leverage at period-end (2)

Capital ratio (3)

Annualized return on average total assets

Annualized return on average equity

Net interest margin (4)

Average yield on interest earning assets (5)

Average GAAP cost of interest bearing liabilities (6)

Net interest spread

Weighted average experienced CPR for the period

Weighted average projected long-term CPR at period-end

Common stock book value per share

Non-GAAP metrics (7)

Interest income (excluding PAA)

Economic interest expense (6)

Economic net interest income (excluding PAA)

Premium amortization adjustment cost (benefit)

Core earnings (excluding PAA) (8)

Core earnings (excluding PAA) per common share

Annualized core return on average equity (excluding PAA)

Net interest margin (excluding PAA) (4)

Average yield on interest earning assets (excluding PAA) (5)

Average economic cost of interest bearing liabilities (6)

Net interest spread (excluding PAA)

(1) Debt consists of repurchase agreements, other secured financing, debt issued by securitization vehicles and mortgages payable.

Debt issued by securitization vehicles, certain credit facilities (included within other secured financing), and mortgages payable are non-recourse to us.

(2) Computed as the sum of Recourse Debt, cost basis of TBA and CMBX derivatives outstanding and net forward purchases (sales) of investments divided by total equity.

(3) Calculated as total stockholders’ equity divided by total assets inclusive of outstanding market value of TBA positions and exclusive of consolidated VIEs.

(4) Net interest margin r epresents our interest income less interest expense divided by the average interest earning assets.

Net interest margin (excluding PAA) r epresents the sum of our interest income (excluding PAA) plus TBA dollar roll income and CMBX coupon income less interest expense and the net interest component of interest rate swaps divided by the sum of average interest earning assets plus average outstanding TBA contract and CMBX balances.

(5) Average yield on interest earning assets represents annualized interest income divided by average interest earning assets.

Average interest earning assets reflects the average amortized cost of our investments during the period.

Average yield on interest earning assets (excluding PAA) is calculated using annualized interest income (excluding PAA).

(6) Average GAAP cost of interest bearing liabilities represents annualized interest expense divided by average interest bearing liabilities.

Average interest bearing liabilities reflects the average balances during the period.

Average economic cost of interest bearing liabilities represents annualized economic interest expense divided by average interest bearing liabilities.

Economic interest expense is comprised of GAAP interest expense and the net interest component of interest rate swaps.

(7) Represents a non-GAAP financial measure.

Refer to the “Non-GAAP Financial Measures” section for additional information.

(8) Excludes dividends on preferred stock.

Net income (loss) was $856.2 million , which includes $32.0 thousand attributable to noncontrolling interests, or $0.58 per average basic common share, for the three months ended June 30, 2020 compared to ($1.8) billion , which includes ($83.0) thousand attributable to noncontrolling interests, or ($1.24) per average basic common share, for the same period in 2019 .

We attribute the majority of the change in net income (loss) to favorable changes in unrealized gains (losses) on interest rate swaps, net gains (losses) on other derivatives, net gains (losses) on disposal of investments and other and net unrealized gains (losses) on instruments measured at fair value through earnings, and higher net interest income, partially offset by higher realized losses on termination or maturity of interest rate swaps.

Net unrealized gains (losses) on interest rate swaps was $1.5 billion for the three months ended June 30, 2020 compared to ($1.3) billion for the same period in 2019 .

Net gains (losses) on other derivatives was $170.9 million for the three months ended June 30, 2020 compared to ($506.4) million for the same period in 2019 .

Net gains (losses) on disposal of investments and other was $246.7 million for the three months ended June 30, 2020 compared to ($38.3) million for the same period in 2019 .

Unrealized gains (losses) on instruments measured at fair value through earnings for the three months ended June 30, 2020 was $254.8 million compared to ($4.9) million for the same period in 2019 .

Net interest income for the three months ended June 30, 2020 was $398.8 million compared to $177.4 million for the same period in 2019 .

Realized gains (losses) on termination or maturity of interest rate swaps was ($1.5) billion for the three months ended June 30, 2020 compared to ($167.5) million for the same period in 2019 .

Refer to the section titled “Realized and Unrealized Gains (Losses)” located within this Item 2 for additional information related to these changes.

Net income (loss) was ($2.8) billion , which includes $0.1 million attributable to noncontrolling interests, or ($2.00) per average basic common share, for the six months ended June 30, 2020 compared to ($2.6) billion , which includes ($0.2) million attributable to noncontrolling interests, or ($1.88) per average basic common share, for the same period in 2019 .

We attribute the majority of the change in net income (loss) to higher realized losses on termination or maturity of interest rate swaps, lower interest income and an unfavorable change in net unrealized gains (losses) on instruments measured at fair value through earnings, partially offset by a favorable change in net gains (losses) on other derivatives, lower interest expense and a favorable change in net gains (losses) on disposal of investments and other.

Realized gains (losses) on termination or maturity of interest rate swaps was ($1.9) billion for the six months ended June 30, 2020 compared to ($755.7) million for the same period in 2019 .

Interest income for the six months ended June 30, 2020 was $1.1 billion compared to $1.8 billion for the same period in 2019 .

Unrealized gains (losses) on instruments measured at fair value through earnings for the six months ended June 30, 2020 was ($475.4) million compared to $42.7 million for the same period in 2019 .

Net gains (losses) on other derivatives was $377.3 million for the six months ended June 30, 2020 compared to ($621.6) million for the same period in 2019 .

Interest expense for the six months ended June 30, 2020 was $689.5 million compared to $1.4 billion for the same period in 2019 .

Net gains (losses) on disposal of investments and other was $453.3 million for the six months ended June 30, 2020 compared to ($132.2) million for the same period in 2019 .

Refer to the section titled “Realized and Unrealized Gains (Losses)” located within this Item 2 for additional information related to these changes.

Core earnings (excluding premium amortization adjustment (“PAA”)) were $424.6 million , or $0.27 per average common share, for the three months ended June 30, 2020 , compared to $391.2 million , or $0.25 per average common share, for the same period in 2019 .

The change in core earnings (excluding PAA) during the three months ended June 30, 2020 compared to the same period in 2019 was primarily due to lower interest expense from lower borrowing rates and higher TBA dollar roll income, partially offset by lower coupon income resulting from a decrease in the average yield on interest earnings assets and lower average interest earning assets, and unfavorable changes in the net interest component of interest rate swaps.

Core earnings (excluding premium amortization adjustment (“PAA”)) were $754.8 million , or $0.48 per average common share, for the six months ended June 30, 2020 , compared to $824.3 million , or $0.53 per average common share, for the same period in 2019 .

The change in core earnings (excluding PAA) during the three months ended June 30, 2020 compared to the same period in 2019 was primarily due to lower coupon income resulting from a decrease in the average yield on interest earnings assets, increased amortization due to asset sales and unfavorable changes in the net interest component of interest rate swaps, partially offset by lower interest expense from lower borrowing rates and higher TBA dollar roll income.

Non-GAAP Financial Measures

To supplement our consolidated financial statements, which are prepared and presented in accordance with GAAP, we provide the following non-GAAP financial measures:

core earnings (excluding PAA);

core earnings (excluding PAA) attributable to common stockholders;

core earnings (excluding PAA) per average common share;

annualized core return on average equity (excluding PAA);

interest income (excluding PAA);

economic interest expense;

economic net interest income (excluding PAA);

average yield on interest earning assets (excluding PAA);

average economic cost of interest bearing liabilities;

net interest margin (excluding PAA);

net interest spread (excluding PAA).

These measures should not be considered a substitute for, or superior to, financial measures computed in accordance with GAAP.

While intended to offer a fuller understanding of our results and operations, non-GAAP financial measures also have limitations.

For example, we may calculate our non-GAAP metrics, such as core earnings (excluding PAA), or the PAA, differently than our peers making comparative analysis difficult.

Additionally, in the case of non-GAAP measures that exclude the PAA, the amount of amortization expense excluding the PAA is not necessarily representative of the amount of future periodic amortization nor is it indicative of the term over which we will amortize the remaining unamortized premium.

Changes to actual and estimated prepayments will impact the timing and amount of premium amortization and, as such, both GAAP and non-GAAP results.

These non-GAAP measures provide additional detail to enhance investor understanding of our period-over-period operating performance and business trends, as well as for assessing our performance versus that of industry peers.

Additional information pertaining to our use of these non-GAAP financial measures, including discussion of how each such measure may be useful to investors, and reconciliations to their most directly comparable GAAP results are provided below.

Core earnings (excluding PAA), core earnings (excluding PAA) attributable to common stockholders, core earnings (excluding PAA) per average common share and annualized core return on average equity (excluding PAA)

Our principal business objective is to generate net income for distribution to our stockholders and optimize our returns through prudent management of our diversified investment strategies.

We generate net income by earning a net interest spread on our investment portfolio, which is a function of interest income from our investment portfolio less financing, hedging and operating costs.

Core earnings (excluding PAA), which is defined as the sum of (a) economic net interest income, (b) TBA dollar roll income and CMBX coupon income, (c) realized amortization of MSRs, (d) other income (loss) (excluding depreciation and amortization expense on real estate and related intangibles, non-core income allocated to equity method investments and other non-core

ANNALY CAPITAL MANAGEMENT, INC.

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Management’s Discussion and Analysis

components of other income (loss)), (e) general and administrative expenses (excluding transaction expenses and non-recurring items), and (f) income taxes (excluding the income tax effect of non-core income (loss) items), and excludes (g) the premium amortization adjustment (“PAA”) representing the cumulative impact on prior periods, but not the current period, of quarter-over-quarter changes in estimated long-term prepayment speeds related to our Agency mortgage-backed securities, is used by management and, we believe, used by analysts and investors to measure our progress in achieving our principal business objective.

We seek to fulfill our principal business objective through a variety of factors including portfolio construction, the degree of market risk exposure and related hedge profile, and the use and forms of leverage, all while operating within the parameters of our capital allocation policy and risk governance framework.

We believe these non-GAAP measures provide management and investors with additional details regarding our underlying operating results and investment portfolio trends by (i) making adjustments to account for the disparate reporting of changes in fair value where certain instruments are reflected in GAAP net income (loss) while others are reflected in other comprehensive income (loss), and (ii) by excluding certain unrealized, non-cash or episodic components of GAAP net income (loss) in order to provide additional transparency into the operating performance of our portfolio.

Annualized core return on average equity (excluding PAA), which is calculated by dividing core earnings (excluding PAA) over average stockholders’ equity, provides investors with additional detail on the core earnings generated by our invested equity capital.

ANNALY CAPITAL MANAGEMENT, INC.

AND SUBSIDIARIES

Management’s Discussion and Analysis

The following table presents a reconciliation of GAAP financial results to non-GAAP core earnings for the periods presented:

For the Three Months Ended June 30,

For the Six Months Ended June 30,

(dollars in thousands, except per share data)

GAAP net income (loss)

Net income (loss) attributable to noncontrolling interests

Net income (loss) attributable to Annaly

Adjustments to exclude reported realized and unrealized (gains) losses

Realized (gains) losses on termination or maturity of interest rate swaps

Unrealized (gains) losses on interest rate swaps

Net (gains) losses on disposal of investments and other

Net (gains) losses on other derivatives

Net unrealized (gains) losses on instruments measured at fair value through earnings

Loan loss provision (1)

Other adjustments

Depreciation expense related to commercial real estate and amortization of intangibles (2)

Non-core (income) loss allocated to equity method investments (3)

Transaction expenses and non-recurring items (4)

Income tax effect of non-core income (loss) items

TBA dollar roll income and CMBX coupon income (5)

MSR amortization (6)

Premium amortization adjustment cost (benefit)

Core earnings (excluding PAA) (7)

Dividends on preferred stock

Core earnings (excluding PAA) attributable to common stockholders (7)

GAAP net income (loss) per average common share

Core earnings (excluding PAA) per average common share (7)

GAAP return (loss) on average equity

Core return on average equity (excluding PAA) (7)

Includes $3.8 million and $4.5 million of loss provision on the Company’s unfunded loan commitments for the three and six months ended June 30, 2020, respectively, which is reported in Other income (loss) in the Consolidated Statements of Comprehensive Income (Loss).

Includes depreciation and amortization expense related to equity method investments.

Represents unrealized (gains) losses allocated to equity interests in a portfolio of MSR which is a component of Other income (loss) .

The three and six months ended June 30, 2020 includes costs incurred in connection with the Internalization and costs incurred in connection with the CEO transition.

The six months ended June 30, 2020 also includes costs incurred in connection with securitizations of residential whole loans and Agency mortgage-backed securities.

The three and six months ended June 30, 2019 includes costs incurred in connection with a securitization of residential whole loans .

The six months ended June 30, 2019 also includes costs incurred in connection with a securitization of commercial loans.

TBA dollar roll income and CMBX coupon income each represent a component of Net gains (losses) on other derivatives.

CMBX coupon income totaled $1.6 million and $2.7 million for the three and six months ended June 30, 2020 .

CMBX coupon income totaled $0.8 million and $1.9 million for the three and six months ended June 30, 2019 , respectively.

MSR amortization represents the portion of changes in fair value that is attributable to the realization of estimated cash flows on the Company’s MSR portfolio and is reported as a component of Net unrealized gains (losses) on instruments measured at fair value.

Represents a non-GAAP financial measure.

From time to time, we enter into TBA forward contracts as an alternate means of investing in and financing Agency mortgage-backed securities.

A TBA contract is an agreement to purchase or sell, for future delivery, an Agency mortgage-backed security with a specified issuer, term and coupon.

A TBA dollar roll represents a transaction where TBA contracts with the same terms but different settlement dates are simultaneously bought and sold.

The TBA contract settling in the later month typically prices at a discount to the earlier month contract with the difference in price commonly referred to as the “drop”.

The drop is a reflection of the expected net interest income from an investment in similar Agency mortgage-backed securities, net of an implied financing cost, that would be foregone as a result of settling the contract in the later month rather than in the earlier month.

The drop between the current settlement month price and the forward settlement month price occurs because in the TBA dollar roll market, the party providing the financing is the party that would retain all principal and interest payments accrued during the financing period.

ANNALY CAPITAL MANAGEMENT, INC.

AND SUBSIDIARIES

Management’s Discussion and Analysis

Accordingly, TBA dollar roll income generally represents the economic equivalent of the net interest income earned on the underlying Agency mortgage-backed security less an implied financing cost.

TBA dollar roll transactions are accounted for under GAAP as a series of derivatives transactions.

The fair value of TBA derivatives is based on methods similar to those used to value Agency mortgage-backed securities.

We record TBA derivatives at fair value on our Consolidated Statements of Financial Condition and recognize periodic changes in fair value in Net gains (losses) on other derivatives in our Consolidated Statements of Comprehensive Income (Loss), which includes both unrealized and realized gains and losses on derivatives (excluding interest rate swaps).

TBA dollar roll income is calculated as the difference in price between two TBA contracts with the same terms but different settlement dates multiplied by the notional amount of the TBA contract.

Although accounted for as derivatives, TBA dollar rolls capture the economic equivalent of net interest income, or carry, on the underlying Agency mortgage-backed security (interest income less an implied cost of financing).

TBA dollar roll income is reported as a component of Net gains (losses) on other derivatives in the Consolidated Statements of Comprehensive Income (Loss).

The CMBX index is a synthetic tradable index referencing a basket of 25 commercial mortgage-backed securities of a particular rating and vintage.

The CMBX index allows investors to take a long position (referred to as selling protection) or short position (referred to as purchasing protection) on the respective basket of commercial mortgage-backed securities and is structured as a “pay-as-you-go” contract whereby the protection seller receives and the protection buyer pays a standardized running coupon on the contracted notional amount.

Additionally, the protection seller is obligated to pay to the protection buyer the amount of principal losses and/or coupon shortfalls on the underlying commercial mortgage-backed securities as they occur.

We report income (expense) on CMBX positions in Net gains (losses) on other derivatives in the Consolidated Statements of Comprehensive Income (Loss).

The coupon payments received or paid on CMBX positions is equivalent to interest income (expense) and therefore included in core earnings (excluding PAA).

Premium Amortization Expense

In accordance with GAAP, we amortize or accrete premiums or discounts into interest income for our Agency mortgage-backed securities, excluding interest-only securities, multifamily and reverse mortgages, taking into account estimates of future principal prepayments in the calculation of the effective yield.

We recalculate the effective yield as differences between anticipated and actual prepayments occur.

Using third-party model and market information to project future cash flows and expected remaining lives of securities, the effective interest rate determined for each security is applied as if it had been in place from the date of the security’s acquisition.

The amortized cost of the security is then adjusted to the amount that would have existed had the new effective yield been applied since the acquisition date.

The adjustment to amortized cost is offset with a charge or credit to interest income.

Changes in interest rates and other market factors will impact prepayment speed projections and the amount of premium amortization recognized in any given period.

Our GAAP metrics include the unadjusted impact of amortization and accretion associated with this method.

Certain of our non-GAAP metrics exclude the effect of the PAA, which quantifies the component of premium amortization representing the cumulative impact on prior periods, but not the current period, of quarter-over-quarter changes in estimated long-term Constant Prepayment Rate (“CPR”).

The following table illustrates the impact of the PAA on premium amortization expense for our Residential Securities portfolio and residential securities transferred or pledged to securitization vehicles, for the periods presented:

For the Three Months Ended June 30,

For the Six Months Ended June 30,

(dollars in thousands)

Premium amortization expense

PAA cost (benefit)

Premium amortization expense (excluding PAA)

Interest income (excluding PAA), economic interest expense and economic net interest income (excluding PAA)

Interest income (excluding PAA) represents interest income excluding the effect of the premium amortization adjustment, and serves as the basis for deriving average yield on interest earning assets (excluding PAA), net interest spread (excluding PAA) and net interest margin (excluding PAA), which are discussed below.

We believe this measure provides management and investors with additional detail to enhance their understanding of our operating results and trends by excluding the component of premium amortization expense representing the cumulative effect of quarter-over-quarter changes in estimated long-term prepayment speeds

ANNALY CAPITAL MANAGEMENT, INC.

AND SUBSIDIARIES

Management’s Discussion and Analysis

related to our Agency mortgage-backed securities (other than interest-only securities, multifamily and reverse mortgages), which can obscure underlying trends in the performance of the portfolio.

Economic interest expense is comprised of GAAP interest expense and the net interest component of interest rate swaps.

We use interest rate swaps to manage our exposure to changing interest rates on repurchase agreements by economically hedging cash flows associated with these borrowings.

Accordingly, adding the net interest component of interest rate swaps to interest expense, as computed in accordance with GAAP, reflects the total contractual interest expense and thus, provides investors with additional information about the cost of our financing strategy.

We may use market agreed coupon (“MAC”) interest rate swaps in which we may receive or make a payment at the time of entering into such interest rate swap to compensate for the off-market nature of such interest rate swap.

In accordance with GAAP, upfront payments associated with MAC interest rate swaps are not reflected in the net interest component of interest rate swaps in the Consolidated Statements of Comprehensive Income (Loss).

We did not enter into any MAC interest rate swaps during the three and six months ended June 30, 2020 .

Similarly, economic net interest income (excluding PAA), as computed below, provides investors with additional information to enhance their understanding of the net economics of our primary business operations.

The following tables provide GAAP measures of interest expense and net interest income and details with respect to reconciling the aforementioned line items on a non-GAAP basis for each respective period:

Interest Income (excluding PAA)

GAAP Interest Income

Interest Income (excluding PAA) (1)

For the three months ended

(dollars in thousands)

June 30, 2020

June 30, 2019

For the six months ended

June 30, 2020

June 30, 2019

(1) Represents a non-GAAP financial measure.

Economic Interest Expense and Economic Net Interest Income (excluding PAA)

Net Interest Component of Interest Rate Swaps

Economic Interest

Net Interest Component

of Interest Rate Swaps

Economic Net Interest Income (excluding PAA) (1)

For the three months ended

(dollars in thousands)

June 30, 2020

June 30, 2019

For the six months ended

June 30, 2020

June 30, 2019

(1) Represents a non-GAAP financial measure.

Experienced and Projected Long-Term CPR

Prepayment speeds, as reflected by the CPR and interest rates vary according to the type of investment, conditions in financial markets, competition and other factors, none of which can be predicted with any certainty.

In general, as prepayment speeds and expectations of prepayment speeds on our Agency mortgage-backed securities portfolio increase, related purchase premium amortization increases, thereby reducing the yield on such assets.

The following table presents the weighted average experienced CPR and weighted average projected long-term CPR on our Agency mortgage-backed securities portfolio as of and for the periods presented.

ANNALY CAPITAL MANAGEMENT, INC.

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Management’s Discussion and Analysis

Experienced CPR (1)

Projected Long-term CPR (2)

For the three months ended

June 30, 2020

June 30, 2019

For the six months ended

June 30, 2020

June 30, 2019

For the three and six months ended June 30, 2020 and 2019 , respectively.

At June 30, 2020 and 2019 , respectively.

Average Yield on Interest Earning Assets (excluding PAA), Net Interest Spread (excluding PAA), Net Interest Margin (excluding PAA) and Average Economic Cost of Interest Bearing Liabilities

12 unchanged sentences

(dollars in thousands)

March 31, 2020

March 31, 2019

June 30, 2020

June 30, 2019

For the six months ended

June 30, 2020

June 30, 2019

(1) Based on amortized cost.

13 unchanged sentences

(dollars in thousands)

March 31, 2020

March 31, 2019

June 30, 2020

June 30, 2019

For the six months ended

June 30, 2020

June 30, 2019

Represents a non-GAAP financial measure.

ANNALY CAPITAL MANAGEMENT, INC.

AND SUBSIDIARIES

Management’s Discussion and Analysis

TBA dollar roll income and CMBX coupon income each represent a component of Net gains (losses) on other derivatives.

CMBX coupon income totaled $1.2 million and $1.1 million for the three months ended March 31, 2020 and 2019 , respectively.

CMBX coupon income totaled $1.6 million and $2.7 million for the three and six months ended June 30, 2020 , respectively.

CMBX coupon income totaled $0.8 million and $1.9 million for the three and six months ended June 30, 2019 , respectively.

Economic Interest Expense and Average Economic Cost of Interest Bearing Liabilities

5 unchanged sentences

Average Economic

Liabilities (2)

One-Month LIBOR

3 unchanged sentences

For the three months ended

March 31, 2020

March 31, 2019

June 30, 2020

June 30, 2019

For the six months ended

June 30, 2020

June 30, 2019

(1) Economic interest expense is comprised of GAAP interest expense and the net interest component of interest rate swaps.

(2) Represents a non-GAAP financial measure.

Economic interest expense increased by $3.8 million for the three months ended March 31, 2020 compared to the same period in 2019 .

The change was primarily due to the change in the net interest component of interest rate swaps which was ($14.0) million for the three months ended March 31, 2020 compared to $134.0 million for the same period in 2019 and an increase in average interest bearing liabilities, partially offset by lower rates on repurchase agreements.

Economic interest expense decreased by $416.0 million for the three months ended June 30, 2020 compared to the same period in 2019 .

Economic interest expense decreased by $412.2 million for the six months ended June 30, 2020 compared to the same period in 2019 .

The change in each period was due to lower borrowing rates and decreases in average interest bearing liabilities, partially offset by the change in the net interest component of interest rate swaps, which was ($64.6) million for the three months ended June 30, 2020 compared to $83.7 million for the same period in 2019 and ($78.5) million for the six months ended June 30, 2020 compared to $217.7 million for the same period in 2019 .

We do not manage our portfolio to have a pre-designated amount of borrowings at quarter or year end.

6 unchanged sentences

Since our average borrowings and period end borrowings can be expected to differ, we believe our average borrowings during a period provide a more accurate representation of our exposure to the risks associated with leverage than our period end borrowings.

At March 31, 2020 and December 31, 2019 , the majority of our debt represented repurchase agreements and other secured financing arrangements collateralized by a pledge of our Residential Securities, residential mortgage loans, commercial real estate investments and corporate loans.

At June 30, 2020 and December 31, 2019 , the majority of our debt represented repurchase agreements and other secured financing arrangements collateralized by a pledge of our Residential Securities, residential mortgage loans, commercial real estate investments and corporate loans.

All of our Residential Securities are currently accepted as collateral for these borrowings.

However, we limit our borrowings, and thus our potential asset growth, in order to maintain unused borrowing capacity and maintain the liquidity and strength of our balance sheet.

ANNALY CAPITAL MANAGEMENT, INC.

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Management’s Discussion and Analysis

Realized and Unrealized Gains (Losses)

Realized and unrealized gains (losses) is comprised of net gains (losses) on interest rate swaps, net gains (losses) on disposal of investments and other, net gains (losses) on other derivatives and net unrealized gains (losses) on instruments measured at fair value through earnings.

These components of realized and unrealized gains (losses) for the three months ended March 31, 2020 and 2019 were as follows:

For the Three Months Ended March 31,

These components of realized and unrealized gains (losses) for the three and six months ended June 30, 2020 and 2019 were as follows:

For the Three Months Ended June 30,

For the Six Months Ended June 30,

(dollars in thousands)

5 unchanged sentences

(1) Includes the net interest component of interest rate swaps, realized gains (losses) on termination or maturity of interest rate swaps and unrealized gains (losses) on interest rate swaps.

Net gains (losses) on interest rate swaps for the three months ended March 31, 2020 was ($3.2) billion compared to ($844.8) million for the same period in 2019 , primarily attributable to unfavorable changes in unrealized gains (losses) on interest rate swaps.

Net unrealized gains (losses) on interest rate swaps was ($2.8) billion for the three months ended March 31, 2020 , reflecting a sharper decline in forward interest rates compared to ($390.6) million for the same period in 2019 .

Net gains (losses) on disposal of investments and other was $206.6 million for the three months ended March 31, 2020 compared to ($93.9) million for the same period in 2019 .

For the three months ended March 31, 2020 , we disposed of Residential Securities with a carrying value of $41.9 billion for an aggregate net gain of $267.3 million .

For the Three Months Ended June 30, 2020 and 2019

Net gains (losses) on interest rate swaps for the three months ended June 30, 2020 was ($91.7) million compared to ($1.4) billion for the same period in 2019 .

The change was primarily attributable to favorable changes in unrealized gains (losses) on interest rate swaps, partially offset by unfavorable changes in realized gains (losses) on termination or maturity of interest rate swaps.

Unrealized gains (losses) on interest rate swaps was $1.5 billion for the three months ended June 30, 2020 , reflecting the reversal of unrealized losses upon termination of swaps during the period compared to ($1.3) billion for the same period in 2019 , reflecting a decline in forward interest rates during the period.

Realized gains (losses) on termination or maturity of interest rate swaps was ($1.5) billion resulting from fixed-rate payer and receiver interest rate swaps with notional amounts of $38.2 billion and $38.1 billion, respectively, for the three months ended June 30, 2020 compared to ($167.5) million resulting from the termination or maturity of fixed-rate payer interest rate swaps with a notional amount of $18.6 billion for the same period in 2019 .

Net gains (losses) on disposal of investments and other was $246.7 million for the three months ended June 30, 2020 compared to ($38.3) million for the same period in 2019 .

For the three months ended June 30, 2020 , we disposed of Residential Securities with a carrying value of $5.5 billion for an aggregate net gain of $259.9 million .

For the same period in 2019 , we disposed of Residential Securities with a carrying value of $9.1 billion for an aggregate net loss of ($34.3) million .

Net gains (losses) on other derivatives was $206.4 million for the three months ended March 31, 2020 compared to ($115.2) million for the same period in 2019 .

The change in net gains (losses) on other derivatives was primarily comprised of higher net gains on TBA derivatives, which was $431.8 million for the three months ended March 31, 2020 compared to $173.8 million for the same period in 2019 , and the change in net gains (losses) on interest rate swaptions, which was $121.6 million for the three months ended March 31, 2020 compared to ($10.3) million for the same period in 2019 , partially offset by the change in net gains (losses) on credit derivatives, which was ($63.5) million for the three months ended March 31, 2020 compared to $9.6 million for the same period in 2019 .

Net unrealized gains (losses) on instruments measured at fair value through earnings was ($730.2) million for the three months ended March 31, 2020 compared to $47.6 million for the same period in 2019 , primarily due to unfavorable changes in unrealized gains (losses) on residential loans, credit risk transfer securities and non-Agency mortgage-backed securities, partially offset by favorable changes in unrealized gains (losses) on commercial securitized debt of consolidated VIEs for the three months ended March 31, 2020 compared to the same period in 2019 .

For the three months ended March 31, 2020 , a loan loss provision of ($99.3) million was recorded on commercial mortgage and corporate loans.

For the three months ended March 31, 2019 , a loan loss provision of ($5.7) million was recorded on a commercial mortgage loan.

Net gains (losses) on other derivatives was $170.9 million for the three months ended June 30, 2020 compared to ($506.4) million for the same period in 2019 .

The change in net gains (losses) on other derivatives was primarily comprised of lower net losses on futures derivatives, which was ($17.3) million for the three months ended June 30, 2020 compared to ($597.2) million for the same period in 2019 and higher net gains on TBA derivatives, which was $204.2 million for the three months ended June 30, 2020 compared to $105.9 million for the same period in 2019 .

Net unrealized gains (losses) on instruments measured at fair value through earnings was $254.8 million for the three months ended June 30, 2020 compared to ($4.9) million for the same period in 2019 , primarily due to favorable changes in unrealized gains (losses) on commercial securitized loans of consolidated VIEs, credit risk transfer securities, residential loans and non-Agency mortgage-backed securities, partially offset by unfavorable changes in unrealized gains (losses) on commercial securitized debt of consolidated VIEs for the three months ended June 30, 2020 compared to the same period in 2019 .

For the three months ended June 30, 2020 , a loan loss provision of ($68.8) million was recorded on commercial mortgage and corporate loans.

No loan loss provision was recorded on loans for the three months ended June 30, 2019 .

Refer to the “Loans” Note located within Item 1 for additional information related to these loan loss provisions.

For the Six Months Ended June 30, 2020 and 2019

Net gains (losses) on interest rate swaps for the six months ended June 30, 2020 was ($3.3) billion compared to ($2.2) billion for the same period in 2019 , primarily attributable to unfavorable changes in realized gains (losses) on termination or maturity of interest rate swaps.

Realized gains (losses) on termination or maturity of interest rate swaps was ($1.9) billion resulting from fixed-rate payer and receiver interest rate swaps with notional amounts of $65.0 billion and $38.1 billion, re spectively, for the six months ended June 30, 2020 compared to ($755.7) million resulting from fixed-rate payer and receiver interest rate swaps with notional amounts of $45.4 billion and $11.3 billion, respectively, for the same period in 2019 .

ANNALY CAPITAL MANAGEMENT, INC.

AND SUBSIDIARIES

Management’s Discussion and Analysis

Net gains (losses) on disposal of investments and other was $453.3 million for the six months ended June 30, 2020 compared to ($132.2) million for the same period in 2019 .

For the six months ended June 30, 2020 , we disposed of Residential Securities with a carrying value of $47.4 billion for an aggregate net gain of $527.1 million .

For the same period in 2019 , we disposed of Residential Securities with a carrying value of $19.5 billion for an aggregate net loss of ($126.8) million .

Net gains (losses) on other derivatives was $377.3 million for the six months ended June 30, 2020 compared to ($621.6) million for the same period in 2019 .

The change in net gains (losses) on other derivatives was primarily comprised of lower net losses on futures derivatives, which was ($289.9) million for the six months ended June 30, 2020 compared to ($886.6) million for the same period in 2019 and higher net gains on TBA derivatives, which was $635.9 million for the six months ended June 30, 2020 compared to $279.7 million for the same period in 2019 .

Net unrealized gains (losses) on instruments measured at fair value through earnings was ($475.4) million for the six months ended June 30, 2020 compared to $42.7 million for the same period in 2019 , primarily due to unfavorable changes in unrealized gains (losses) on commercial securitized loans of consolidated VIEs, securitized debt of consolidated VIEs backed by Agency mortgage-backed securities, Agency interest-only securities, credit risk transfer securities and residential loans, partially offset by favorable changes in unrealized gains (losses) on commercial securitized debt of consolidated VIEs for the six months ended June 30, 2020 compared to the same period in 2019 .

For the six months ended June 30, 2020 , a loan loss provision of ($168.1) million was recorded on commercial mortgage and corporate loans.

For the six months ended June 30, 2019 , a loan loss provision of ($5.7) million was recorded on a commercial mortgage loan.

Refer to the “Loans” Note located within Item 1 for additional information related to these loan loss provisions.

Other Income (Loss)

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Given the nature of certain components of this line item, balances may fluctuate from period to period.

ANNALY CAPITAL MANAGEMENT, INC.

AND SUBSIDIARIES

Management’s Discussion and Analysis

General and Administrative Expenses

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(dollars in thousands)

March 31, 2020

March 31, 2019

Includes $7.2 million of transaction costs incurred in connection with securitizations of residential whole loans and Agency mortgage-backed securities as well as costs incurred in connection with the expected Internalization and costs incurred in connection with the CEO transition for the three months ended March 31, 2020 .

Includes $10.0 million of transaction costs incurred in connection with securitizations of residential whole loans and commercial loans for the three months ended March 31, 2019 .

Excluding these transaction costs, G&A expenses as a percentage of average total assets were 0.25% and 0.26% and as a percentage of average equity were 1.98% and 1.97% for the three months ended March 31, 2020 and 2019 , respectively.

G&A expenses were $77.6 million for the three months ended March 31, 2020 , a decrease of $6.1 million compared to the same period in 2019 .

The change was largely attributable to a lower management fee in the first quarter of 2020 reflecting lower adjusted stockholders’ equity balances compared to same period in 2019 and lower transaction costs in connection with securitizations in the first quarter of 2020 compared to the same period in 2019.

June 30, 2020

June 30, 2019

For the six months ended

June 30, 2020

June 30, 2019

Includes $1.1 million of costs incurred in connection with the Internalization and costs incurred in connection with the CEO transition for the three months ended June 30, 2020 .

Includes $8.3 million of transaction costs incurred in connection with securitizations of residential whole loans and Agency mortgage-backed securities as well as costs incurred in connection with the Internalization and costs incurred in connection with the CEO transition for the six months ended June 30, 2020 .

Includes $3.0 million and $13.0 million of transaction costs incurred in connection with securitizations of residential whole loans and commercial loans for the three and six months ended June 30, 2019 , respectively.

Excluding these transaction costs, G&A expenses as a percentage of average total assets were 0.28% and 0.26% and as a percentage of average equity were 2.01% and 1.94% for the three and six months ended June 30, 2020 , respectively.

Excluding these transaction costs, G&A expenses as a percentage of average total assets were 0.24% and 0.25% and as a percentage of average equity were 1.91% and 1.96% for the three and six months ended June 30, 2019 , respectively.

G&A expenses were $67.7 million for the three months ended June 30, 2020 , a decrease of $10.7 million compared to the same period in 2019 .

G&A expenses were $145.3 million for the six months ended June 30, 2020 , a decrease of $16.9 million compared to the same period in 2019 .

The change in each period was largely attributable to lower management fees in the second quarter

ANNALY CAPITAL MANAGEMENT, INC.

AND SUBSIDIARIES

Management’s Discussion and Analysis

and first half of 2020 reflecting lower adjusted stockholders’ equity balances compared to the same periods in 2019 and lower transaction costs in the second quarter and first half of 2020 compared to the same periods in 2019.

Return on Average Equity

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For the three months ended

March 31, 2020

March 31, 2019

June 30, 2020

June 30, 2019

For the six months ended

June 30, 2020

June 30, 2019

(1) Economic net interest income includes the net interest component of interest rate swaps.

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The table below shows cumulative unrealized gains and losses on our available-for-sale investments reflected in the Consolidated Statements of Financial Condition.

March 31, 2020

June 30, 2020

December 31, 2019

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Accumulated other comprehensive income (loss)

ANNALY CAPITAL MANAGEMENT, INC.

AND SUBSIDIARIES

Management’s Discussion and Analysis

Unrealized changes in the estimated fair value of available-for-sale investments may have a direct effect on our potential earnings and dividends:

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A very large negative change in the net fair value of our available-for-sale Residential Securities might impair our liquidity position, requiring us to sell assets with the potential result of realized losses upon sale.

The fair value of these securities being less than amortized cost at March 31, 2020 is solely due to market conditions and not the quality of the assets.

The fair value of these securities being less than amortized cost at June 30, 2020 is solely due to market conditions and not the quality of the assets.

Substantially all of the Agency mortgage-backed securities are “AAA” rated or carry an implied “AAA” rating.

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Financial Condition

Total assets were $96.9 billion and $130.3 billion at March 31, 2020 and December 31, 2019 , respectively.

The change, consistent with our portfolio repositioning to strengthen our balance sheet in the first quarter of 2020, was primarily due to a decrease in Agency mortgage-backed securities of $34.4 billion, excluding assets transferred or pledged to securitization vehicles, partially offset by increases in cash and cash equivalents of $1.0 billion and assets transferred or pledged to securitization vehicles of $0.7 billion.

Our portfolio composition, net equity allocation and debt-to-net equity ratio by asset class were as follows at March 31, 2020 :

Total assets were $93.5 billion and $130.3 billion at June 30, 2020 and December 31, 2019 , respectively.

The change, consistent with our portfolio repositioning to strengthen our balance sheet in the first quarter of 2020, was primarily due to a decrease in Agency mortgage-backed securities of $36.1 billion, excluding assets transferred or pledged to securitization vehicles, non-Agency mortgage-backed securities of $0.5 billion and residential mortgage loans of $0.5 billion, partially offset by an increase in assets

ANNALY CAPITAL MANAGEMENT, INC.

AND SUBSIDIARIES

Management’s Discussion and Analysis

transferred or pledged to securitization vehicles of $0.7 billion.

Our portfolio composition, net equity allocation and debt-to-net equity ratio by asset class were as follows at June 30, 2020 :

Agency MBS and MSRs

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Residential Securities

Substantially all of our Agency mortgage-backed securities at March 31, 2020 and December 31, 2019 were backed by single-family residential mortgage loans and were secured with a first lien position on the underlying single-family properties.

Substantially all of our Agency mortgage-backed securities at June 30, 2020 and December 31, 2019 were backed by single-family residential mortgage loans and were secured with a first lien position on the underlying single-family properties.

Our mortgage-backed securities were largely Freddie Mac, Fannie Mae or Ginnie Mae pass through certificates or CMOs, which carry an actual or implied “AAA” rating.

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We accrete discount balances as an increase to interest income over the expected life of the related interest earning assets and we amortize premium balances as a decrease to interest income over the expected life of the related interest earning assets.

At March 31, 2020 and December 31, 2019 we had on our Consolidated Statements of Financial Condition a total of $98.4 million and $156.9

At June 30, 2020 and December 31, 2019 we had on our Consolidated Statements of Financial Condition a total of $92.8 million and $156.9 million , respectively, of unamortized discount (which is the difference between the remaining principal value and current amortized cost of our Residential Securities, excluding securities transferred or pledged to securitization vehicles, acquired at a price below principal value) and a total of $3.8 billion and $5.3 billion , respectively, of unamortized premium (which is the difference between the remaining principal value and the current amortized cost of our Residential Securities, excluding securities transferred or pledged to securitization vehicles, acquired at a price above principal value).

The weighted average experienced prepayment speed on our Agency mortgage-backed securities portfolio for the three months ended June 30, 2020 and 2019 was 19.5% and 11.2% , respectively.

The weighted average projected long-term prepayment speed on our Agency mortgage-backed securities portfolio as of June 30, 2020 and 2019 was 18.0% and 14.5% , respectively.

Given our current portfolio composition, if mortgage principal prepayment rates were to increase over the life of our mortgage-backed securities, all other factors being equal, our net interest income would decrease during the life of these mortgage-backed securities as we would be required to amortize our net premium balance into income over a shorter time period.

Similarly, if mortgage principal prepayment rates were to decrease over the life of our mortgage-backed securities, all other factors being equal, our net interest income would increase during the life of these mortgage-backed securities as we would amortize our net premium balance over a longer time period.

ANNALY CAPITAL MANAGEMENT, INC.

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Management’s Discussion and Analysis

million , respectively, of unamortized discount (which is the difference between the remaining principal value and current amortized cost of our Residential Securities, excluding securities transferred or pledged to securitization vehicles, acquired at a price below principal value) and a total of $3.9 billion and $5.3 billion , respectively, of unamortized premium (which is the difference between the remaining principal value and the current amortized cost of our Residential Securities, excluding securities transferred or pledged to securitization vehicles, acquired at a price above principal value).

The weighted average experienced prepayment speed on our Agency mortgage-backed securities portfolio for the three months ended March 31, 2020 and 2019 was 13.6% and 7.3% , respectively.

The weighted average projected long-term prepayment speed on our Agency mortgage-backed securities portfolio as of March 31, 2020 and 2019 was 17.7% and 11.6% , respectively.

The following tables present our Residential Securities, excluding securities transferred or pledged to securitization vehicles, that were carried at fair value at March 31, 2020 and December 31, 2019 .

March 31, 2020

The following tables present our Residential Securities, excluding securities transferred or pledged to securitization vehicles, that were carried at fair value at June 30, 2020 and December 31, 2019 .

June 30, 2020

December 31, 2019

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Total Residential Securities

The following table summarizes certain characteristics of our Residential Securities (excluding interest-only mortgage-backed securities) and interest-only mortgage-backed securities, excluding securities transferred or pledged to securitization vehicles, at March 31, 2020 and December 31, 2019 .

ANNALY CAPITAL MANAGEMENT, INC.

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Management’s Discussion and Analysis

March 31, 2020

June 30, 2020

December 31, 2019

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(2) Excludes non-Agency mortgage-backed securities and CRT securities as this attribute is not applicable to these asset classes.

The following tables summarize certain characteristics of our Residential Credit portfolio at March 31, 2020 .

NM Not meaningful.

The following tables summarize certain characteristics of our Residential Credit portfolio at June 30, 2020 .

Payment Structure

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Contractual Obligations

The following table summarizes the effect on our liquidity and cash flows from contractual obligations at March 31, 2020 .

The following table summarizes the effect on our liquidity and cash flows from contractual obligations at June 30, 2020 .

The table does not include the effect of net interest rate payments on our interest rate swap agreements.

The net swap payments will fluctuate based on monthly changes in the floating rate.

At March 31, 2020 , the interest rate swaps had a net fair value of ($1.2) billion .

At June 30, 2020 , the interest rate swaps had a net fair value of ($1.2) billion .

Three to Five

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Long-term operating lease obligations

Interest expense on repurchase agreements and other secured financing calculated based on rates at March 31, 2020 .

Interest expense on repurchase agreements and other secured financing calculated based on rates at June 30, 2020 .

In the coming periods, we expect to continue to finance our Residential Securities in a manner that is largely consistent with our current operations via repurchase agreements.

We may use FHLB Des Moines advances, securitization structures, credit facilities, mortgages payable or other term financing structures to finance certain of our assets.

During the three months ended March 31, 2020 , we received $4.9 billion from principal repayments and $41.1 billion in cash from disposal of Residential Securities.

During the three months ended March 31, 2019 , we received $2.4 billion from principal repayments and $7.9 billion in cash from disposal of Residential Securities.

We may use securitization structures, credit facilities, mortgages payable or other term financing structures to finance certain of our assets.

During the six months ended June 30, 2020 , we received $9.3 billion from principal repayments and $46.8 billion in cash from disposal of Residential Securities.

During the six months ended June 30, 2019 , we received $6.1 billion from principal repayments and $13.2 billion in cash from disposal of Residential Securities.

Off-Balance Sheet Arrangements

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In addition, we have provided customary non-recourse carve-out and environmental guarantees (or underlying indemnities with respect thereto) with respect to mortgage loans held by subsidiaries of these unconsolidated joint ventures.

We believe that the likelihood of making any payments under these guarantees is remote, and have not accrued a related liability at March 31, 2020 .

We believe that the likelihood of making any payments under these guarantees is remote, and have not accrued a related liability at June 30, 2020 .

Capital Management

ANNALY CAPITAL MANAGEMENT, INC.

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Management’s Discussion and Analysis

Capital Management

Maintaining a strong balance sheet that can support the business even in times of economic stress and market volatility is of critical importance to our business strategy.

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“Risk Factors” in our most recent Annual Report on Form 10-K and in Part II, Item 1A.

“Risk Factors” in this Quarterly Report on Form 10-Q.

“Risk Factors” in this Quarterly Report on Form 10-Q and in our Quarterly Report on Form 10-Q for the quarter ended March 31, 2020.

Capital requirements are based on maintaining levels above approved thresholds, ensuring the quality of our capital appropriately reflects our asset mix, market and funding structure.

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Stockholders’ Equity

The following table provides a summary of total stockholders’ equity at March 31, 2020 and December 31, 2019 :

March 31, 2020

The following table provides a summary of total stockholders’ equity at June 30, 2020 and December 31, 2019 :

June 30, 2020

December 31, 2019

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For the Three Months Ended

March 31, 2020

March 31, 2019

June 30, 2020

June 30, 2019

(dollars in thousands)

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Amount raised from direct purchase and dividend reinvestment program

During the three months ended March 31, 2019 , we closed the public offering of an original issuance of 75.0 million shares of common stock for proceeds of $730.5 million before deducting offering expenses.

During the six months ended June 30, 2019 , we closed the public offering of an original issuance of 75.0 million shares of common stock for proceeds of $730.5 million before deducting offering expenses.

In connection with the offering, we granted the underwriters a thirty-day option to purchase up to an additional 11.3 million shares of common stock, which the underwriters exercised in full resulting in an additional $109.6 million in proceeds before deducting offering expenses.

No shares were issued under the at-the-market sales program during the three months ended March 31, 2020 .

During the three months ended March 31, 2019 , we issued 48.0 million shares for proceeds of $489.0 million, net of commissions and fees, under the at-the-market sales program.

No shares were issued under the at-the-market sales program during the six months ended June 30, 2020 .

During the three and six months ended June 30, 2019 , we issued 8.0 million and 56.0 million shares, respectively, for proceeds of $80.1 million and $569.1 million, respectively, net of commissions and fees, under the at-the-market sales program.

In June 2019, we announced that our Board had authorized the repurchase of up to $1.5 billion of our outstanding shares of common stock through December 31, 2020.

During the three months ended March 31, 2020 , no shares were purchased pursuant to this authorization.

Leverage and Capital

We believe that it is prudent to maintain conservative debt-to-equity and economic leverage ratios as there may be continued volatility in the mortgage and credit markets.

Our capital policy governs our capital and leverage position including setting limits.

During the three and six months ended June 30, 2020 , we repurchased an aggregate of 22.9 million shares of our common stock for an aggregate amount of $143.3 million, excluding commission costs.

All common shares purchased were part of a publicly announced plan in open-market transactions.

ANNALY CAPITAL MANAGEMENT, INC.

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Management’s Discussion and Analysis

During the three and six months ended June 30, 2019 , we redeemed all 2.2 million of our issued and outstanding shares of 8.125% Series H Cumulative Redeemable Preferred Stock (“Series H Preferred Stock”) for $55.0 million.

The cash redemption amount for each share of Series H Preferred Stock was $25.00 plus accrued and unpaid dividends to, but not including, the redemption date of May 31, 2019.

During the three and six months ended June 30, 2019 , we issued 16.0 million shares of our 6.750% Series I Fixed-to-Floating Rate Cumulative Redeemable Preferred Stock for gross proceeds of $400.0 million before deducting the underwriting discount and other estimated offering costs.

Leverage and Capital

We believe that it is prudent to maintain conservative debt-to-equity and economic leverage ratios as there may be continued volatility in the mortgage and credit markets.

Our capital policy governs our capital and leverage position including setting limits.

Based on the guidelines, we generally expect to maintain an economic leverage ratio of less than 10:1.

Our actual economic leverage ratio varies from time to time based upon various factors, including our opinion of the level of risk of our assets and liabilities, our liquidity position, our level of unused borrowing capacity, the availability of credit, over-collateralization levels required by lenders when we pledge assets to secure borrowings and our assessment of domestic and international market conditions.

Our debt-to-equity ratio at March 31, 2020 and December 31, 2019 was 6.4:1 and 7.1:1 , respectively.

Our economic leverage ratio, which is computed as the sum of Recourse Debt, cost basis of TBA derivative and CMBX notional outstanding and net forward purchases (sales) of investments divided by total equity was 6.8:1 and 7.2:1 at March 31, 2020 and December 31, 2019 , respectively.

Our capital ratio, which represents our ratio of stockholders’ equity to total assets (inclusive of total market value of TBA derivatives and shown net of debt issued by securitization vehicles), was 12.3% and 12.0% at March 31, 2020 and December 31, 2019 , respectively.

Our debt-to-equity ratio at June 30, 2020 and December 31, 2019 was 5.5:1 and 7.1:1 , respectively.

Our economic leverage ratio, which is computed as the sum of Recourse Debt, cost basis of TBA derivative and CMBX notional outstanding and net forward purchases (sales) of investments divided by total equity was 6.4:1 and 7.2:1 at June 30, 2020 and December 31, 2019 , respectively.

Our capital ratio, which represents our ratio of stockholders’ equity to total assets (inclusive of total market value of TBA derivatives and shown net of debt issued by securitization vehicles), was 13.0% and 12.0% at June 30, 2020 and December 31, 2019 , respectively.

Risk Management

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We will seek to comply with regulatory requirements needed to maintain our REIT status and our exemption from registration under the Investment Company Act.

ANNALY CAPITAL MANAGEMENT, INC.

AND SUBSIDIARIES

Management’s Discussion and Analysis

Risk management begins with our Board, through the review and oversight of the risk management framework, and executive management, through the ongoing formulation of risk management practices and related execution in managing risk.

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The management committees responsible for our risk management include the Enterprise Risk Committee (“ERC”), Asset and Liability Committee (“ALCO”), Investment Committee and the Financial Reporting and Disclosure Committee (“FRDC”).

Each of these committees reports to our management Operating

Committee which is responsible for oversight and management of our operations, including oversight and approval authority over all aspects of our enterprise risk management.

Each of these committees reports to our management Operating Committee which is responsible for oversight and management of our operations, including oversight and approval authority over all aspects of our enterprise risk management.

Audit Services is an independent function with reporting lines to the BAC.

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Comprehensive policies including monitoring, risk limits and an escalation protocol.

Our primary financing sources are repurchase agreements provided through counterparty arrangements and through Arcola, other secured financing including funding from the Federal Home Loan Bank of Des Moines (“FHLB”), debt issued by securitization vehicles, mortgages, credit facilities, note sales and various forms of equity.

Our primary financing sources are repurchase agreements provided through counterparty arrangements and through Arcola, other secured financing, debt issued by securitization vehicles, mortgages, credit facilities, note sales and various forms of equity.

We maintain excess liquidity by holding unencumbered liquid assets that could be either used to collateralize additional borrowings or sold.

We seek to conservatively manage our repurchase agreement funding position through a variety of methods including diversity, breadth and depth of counterparties and maintaining a staggered maturity profile.

Additionally, our wholly-owned subsidiary, Arcola, provides direct access to third party funding as a FINRA member broker-dealer.

Our wholly-owned subsidiary, Arcola, provides direct access to third party funding as a FINRA member broker-dealer.

Arcola borrows funds through the General Collateral Finance Repo service offered by the FICC, with FICC acting as the central counterparty.

Arcola also borrows funds through direct repurchase agreements.

In addition, Arcola has historically borrowed funds through direct repurchase agreements.

To reduce our liquidity risk we maintain a laddered approach to our repurchase agreements.

At March 31, 2020 , the weighted average days to maturity was 48 days .

At June 30, 2020 and December 31, 2019 , the weighted average days to maturity was 74 days and 65 days , respectively.

Our repurchase agreements generally provide that in the event of a margin call we must provide additional securities or cash on the same business day that a margin call is made.

Should prepayment speeds on the mortgages underlying our Agency and Residential mortgage-backed securities and/or market interest rates or other factors move suddenly and cause declines in the market value of assets posted as collateral, resulting margin calls may cause an adverse change in our liquidity position.

We maintain access to FHLB funding through our captive insurance subsidiary Truman Insurance Company LLC (“Truman”).

We maintain access to Federal Home Loan Bank (“FHLB”) funding through our captive insurance subsidiary Truman Insurance Company LLC (“Truman”).

A 2016 rule from the Federal Housing Finance Agency (“FHFA”) requires captive insurance companies to terminate their FHLB membership, however, given the length of its membership at the time the rule was enacted, Truman was granted a five year sunset provision whereby its membership will expire in February 2021.

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While there can be no assurances that such steps will be taken, we believe it would be appropriate for there to be legislative or other action to permit Truman and similar captive insurance subsidiaries to retain their membership status beyond the current sunset period.

In February 2020, the FHFA issued a request for input (“RFI”) on FHLB membership.

The RFI is part of a holistic review of FHLB membership and requests input on whether FHFA’s existing regulation of FHLB membership ensures that the FHLB system remains safe and sound and able to provide liquidity for housing finance through the housing and business cycle and the advancement of the FHLBs’ housing finance and community development mission.

We utilize diverse funding sources to finance our commercial investments.

Aside from FHLB funding, we may utilize credit facilities, securitization funding and, in the case of investments in commercial real estate, CLO securitization funding, mortgage financing and note sales.

At March 31, 2020 , we had total financial assets and cash pledged against existing liabilities of $81.0 billion .

However, in anticipation of the expiration of our membership, we have commenced actions to refinance our FHLB advances with alternative funding sources, including credit facilities and securitization funding.

At June 30, 2020 , we had total financial assets and cash pledged against existing liabilities of $75.5 billion .

The weighted average haircut was approximately 4% on repurchase agreements.

The quality and character of the Residential Securities and commercial real estate investments that we pledge as collateral under the repurchase agreements and interest rate swaps did not materially change at March 31, 2020 compared to the same period in 2019 , and our counterparties did not materially alter any requirements, including required haircuts, related to the collateral we pledge under repurchase agreements and interest rate swaps during the three months ended March 31, 2020 .

The quality and character of the Residential Securities and commercial real estate investments that we pledge as collateral under the repurchase agreements and interest rate swaps did not materially change at June 30, 2020 compared to the same period in 2019 , and our counterparties did not materially alter any requirements, including required haircuts, related to the collateral we pledge under repurchase agreements and interest rate swaps during the three months ended June 30, 2020 .

The following table presents our quarterly average and quarter-end repurchase agreement and reverse repurchase agreement balances outstanding for the periods presented:

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(dollars in thousands)

June 30, 2020

March 31, 2020

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June 30, 2018

March 31, 2018

The following table provides information on our repurchase agreements and other secured financing by maturity date at March 31, 2020 .

The weighted average remaining maturity on our repurchase agreements and other secured financing was 70 days at March 31, 2020 :

March 31, 2020

The following table provides information on our repurchase agreements and other secured financing by maturity date at June 30, 2020 .

The weighted average remaining maturity on our repurchase agreements and other secured financing was 95 days at June 30, 2020 :

June 30, 2020

(dollars in thousands)

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Approximately 3% of the total repurchase agreements and other secured financing had a remaining maturity over 1 year.

The table below presents our outstanding debt balances and associated weighted average rates and days to maturity at March 31, 2020 :

The table below presents our outstanding debt balances and associated weighted average rates and days to maturity at June 30, 2020 :

Weighted Average Rate

22 unchanged sentences

An asset is considered unencumbered if it has not been pledged or securitized.

The following table also provides the carrying amount of our encumbered and unencumbered financial assets at March 31, 2020 :

The following table also provides the carrying amount of our encumbered and unencumbered financial assets at June 30, 2020 :

Encumbered Assets

22 unchanged sentences

Our balance sheet also generates liquidity on an on-going basis through mortgage principal and interest repayments and net earnings held prior to payment of dividends.

The following table presents our liquid assets as a percentage of total assets at March 31, 2020 :

The following table presents our liquid assets as a percentage of total assets at June 30, 2020 :

Carrying Value (1)

10 unchanged sentences

Carrying value approximates the market value of assets.

The assets listed in this table include $81.0 billion of assets that have been pledged as collateral against existing liabilities at March 31, 2020 .

The assets listed in this table include $75.5 billion of assets that have been pledged as collateral against existing liabilities at June 30, 2020 .

Please refer to the Encumbered and Unencumbered Assets table for related information.

31 unchanged sentences

Management’s Discussion and Analysis

The interest rate sensitivity of our assets and liabilities in the following table at March 31, 2020 could vary substantially based on actual prepayment experience.

The interest rate sensitivity of our assets and liabilities in the following table at June 30, 2020 could vary substantially based on actual prepayment experience.

More than 1 Year to 3 Years

58 unchanged sentences

The results assume no management actions in response to the rate or spread changes.

The following table presents estimates at March 31, 2020 .

The following table presents estimates at June 30, 2020 .

Actual results could differ materially from these estimates.

43 unchanged sentences

Additionally, ALCO has oversight of our credit risk exposure.

Our portfolio composition, based on balance sheet values, at March 31, 2020 and December 31, 2019 was as follows:

March 31, 2020

Our portfolio composition, based on balance sheet values, at June 30, 2020 and December 31, 2019 was as follows:

June 30, 2020

December 31, 2019

24 unchanged sentences

Management’s Discussion and Analysis

The following table summarizes our exposure to counterparties by geography at March 31, 2020 :

The following table summarizes our exposure to counterparties by geography at June 30, 2020 :

Number of Counterparties

115 unchanged sentences

Average GAAP cost of interest bearing liabilities represents annualized interest expense divided by average interest bearing liabilities.

A verage interest bearing liabilities reflects the average balances during the period.

Average interest bearing liabilities reflects the average balances during the period.

Average economic cost of interest bearing liabilities represents annualized economic interest expense divided by average interest bearing liabilities.

53 unchanged sentences

Core Earnings (excluding PAA) and Core Earnings (excluding PAA) Per Average Common Share

Core earnings is defined as the sum of (a) economic net interest income, (b) TBA dollar roll income and CMBX coupon income, (c) realized amortization of MSRs, (d) other income (loss) (excluding depreciation and amortization expense on real estate and related intangibles, non-core income allocated to equity method investments and other non-core components of other income (loss)), (e) general and administrative expenses (excluding transaction expenses and non-recurring items), and (f) income taxes (excluding the income tax effect of non-core income (loss) items) and excludes (g) the premium amortization adjustment representing the cumulative impact on prior periods, but not the current period, of quarter-over-quarter changes in estimated long-term prepayment speeds related to our Agency mortgage-backed securities.

Core earnings (excluding PAA) is defined as the sum of (a) economic net interest income, (b) TBA dollar roll income and CMBX coupon income, (c) realized amortization of MSRs, (d) other income (loss) (excluding depreciation expense related to commercial real estate and amortization of intangibles, non-core income allocated to equity method investments and other non-core components of other income (loss)), (e) general and administrative expenses (excluding transaction expenses and non-recurring items), and (f) income taxes (excluding the income tax effect of non-core income (loss) items) and excludes (g) the premium amortization adjustment representing the cumulative impact on prior periods, but not the current period, of quarter-over-quarter changes in estimated long-term prepayment speeds related to our Agency mortgage-backed securities.

Core earnings (excluding PAA) per average common share is calculated by dividing core earnings (excluding PAA) by average basic common shares for the period.

291 unchanged sentences

Compared sentence by sentence after normalising whitespace, quotation marks, case and digits, so re-formatting and restated figures do not read as changed language. Wording changes appear as one removal and one addition. The current filing and the prior one are authoritative.

What changed 10-Q

Item 2. Management’s Discussion and Analysis