ANNALY CAPITAL MANAGEMENT INC 10-K

Item 5. Market for Registrant’s Common Equity, Related Stockholder Matters And Issuer Purchases Of Equity Securities 12/31/2017 12/31/2018 12/31/2019 12/31/2020 12/31/2021 12/31/2022 Annaly Capital Management, Inc. 100 93 99 102 104 82 S&P 500 Index 100 96 126 149 191 157 BBG REIT Index 100 97 120 93 110 83 The information in the share performance graph and table has been obtained from sources believed to be reliable, but neither the accuracy nor completeness can be guaranteed. The historical information set forth above is not necessarily indicative of future performance. Accordingly, we do not make or endorse any predictions as to future share performance. The above performance graph and related information shall not be deemed to be “soliciting material” or to be “filed” with the SEC or subject to Regulation 14A or 14C under the Securities Exchange Act or to the liabilities of Section 18 of the Securities Exchange Act, and shall not be deemed to be incorporated by reference into any filing under the Securities Act of 1933 or the Securities Exchange Act, except to the extent that we specifically incorporate it by reference into such a filing. Share Repurchase In January 2022, we announced that our Board authorized the repurchase of up to $1.5 billion of our outstanding common shares through December 31, 2024. The new share repurchase program replaces our previous $1.5 billion share repurchase program, which expired on December 31, 2021. No shares were repurchased with respect to this share repurchase program during the year ended December 31, 2022. As of December 31, 2022, the maximum dollar value of shares that may yet be purchased under this plan was $1.5 billion. In November 2022, we announced that our Board authorized a repurchase plan for all of our existing outstanding Preferred Stock (as defined below, the “Preferred Stock Repurchase Program”). Under the terms of the plan, we are authorized to repurchase up to an aggregate of 63,500,000 shares of Preferred Stock, comprised of up to (i) 28,800,000 shares of our 6.95% Series F Fixed-to-Floating Rate Cumulative Redeemable Preferred Stock, par value $0.01 per share (the “Series F Preferred Stock”), (ii) 17,000,000 shares of our 6.50% Series G Fixed-to-Floating Rate Cumulative Redeemable Preferred Stock, par value $0.01 per share (the “Series G Preferred Stock”), and (iii) 17,700,000 shares of our 6.75% Series I Fixed-to-Floating Rate Cumulative Redeemable Preferred Stock, par value $0.01 per share (the “Series I Preferred Stock”, and together with Series F Preferred Stock and Series G Preferred Stock, the “Preferred Stock”). The aggregate liquidation value of the Preferred Stock that may be repurchased by us pursuant to the Preferred Stock Repurchase Program, as of November 3, 2022, was approximately $1.6 billion. The Preferred Stock Repurchase Program became effective on November 3, 2022, and shall expire on December 31, 2024. No shares were repurchased to with respect to the Preferred Stock Repurchase Program during the year ended December 31, 2022. As of December 31, 2022, the maximum dollar value of shares that may yet be purchased under this plan was $1.6 billion. Purchases made pursuant to the Preferred Stock Repurchase Program will be made in either the open market or in privately negotiated transactions from time to time as permitted by securities laws and other legal requirements. The timing, manner, price and amount of any repurchases will be determined by us in our discretion and will be subject to economic and market conditions, stock price, applicable legal requirements and other factors. The authorization does not obligate us to acquire any particular amount of Preferred Stock and the program may be suspended or discontinued at our discretion without prior notice. 45 ANNALY CAPITAL MANAGEMENT, INC. AND SUBSIDIARIES Item 6. Selected Financial Data ITEM 6. [Reserved] 46 ANNALY CAPITAL MANAGEMENT, INC. AND SUBSIDIARIES Item 7. Management’s Discussion and Analysis ITEM 7. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS All references to “Annaly,” “we,” “us,” or “our” mean Annaly Capital Management, Inc. and all entities owned by us, except where it is made clear that the term means only the parent company. Refer to the section titled “Glossary of Terms” located at the end of this Item 7 for definitions of commonly used terms in this annual report on Form 10-K. This section of our Form 10-K generally discusses 2022 and 2021 items and year-to-year comparisons between 2022 and 2021. Discussions of 2020 items and year-to-year comparisons between 2021 and 2020 that are not included in this Form 10-K can be found in Part II, Item 7. “Management’s Discussion and Analysis of Financial Condition and Results of Operations” of our annual report on Form 10-K for the year ended December 31, 2021. 47 ANNALY CAPITAL MANAGEMENT, INC. AND SUBSIDIARIES Item 7. Management’s Discussion and Analysis INDEX TO ITEM 7. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS Page Overview 49 Reverse Stock Split 49 Business Environment 49 Economic Environment 50 London Interbank Offered Rate (“LIBOR”) Transition 51 Income Tax Reform 51 Results of Operations 52 Net Income (Loss) Summary 53 Non-GAAP Financial Measures 54 Earnings Available for Distribution, Earnings Available for Distribution Attributable to Common Stockholders, Earnings Available for Distribution per Average Common Share and Annualized EAD Return on Average Equity 54 Premium Amortization Expense 56 Economic Leverage and Economic Capital Ratios 56 Interest Income (excluding PAA), Economic Interest Expense and Economic Net Interest Income (excluding PAA) 57 Experienced and Projected Long-term CPR 58 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 59 Economic Interest Expense and Average Economic Cost of Interest Bearing Liabilities 60 Other Income (Loss) 60 General and Administrative Expenses 61 Return on Average Equity 62 Unrealized Gains and Losses - Available-for-Sale Investments 62 Financial Condition 63 Residential Securities 63 Contractual Obligations 66 Commitments and Contractual Obligations with Unconsolidated Entities 66 Capital Management 66 Stockholders’ Equity 67 Capital Stock 67 Leverage and Capital 68 Risk Management 68 Risk Appetite 68 Governance 69 Description of Risks 70 Capital, Liquidity and Funding Risk Management 71 Funding 71 Excess Liquidity 72 Maturity Profile 73 Stress Testing 74 Liquidity Management Policies 75 Investment/Market Risk Management 75 Credit Risk Management 76 Counterparty Risk Management 77 Operational Risk Management 77 Compliance, Regulatory and Legal Risk Management 78 Critical Accounting Estimates 79 Valuation of Financial Instruments 79 Residential Securities 79 Residential Mortgage Loans 79 MSR 79 Interest Rate Swaps 80 Revenue Recognition 80 Consolidation of Variable Interest Entities 80 Use of Estimates 80 Glossary of Terms 81 48 ANNALY CAPITAL MANAGEMENT, INC. AND SUBSIDIARIES Item 7. Management’s Discussion and Analysis Overview We are a leading diversified capital manager with investment strategies across mortgage finance. 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 are an internally-managed Maryland corporation founded in 1997 that has elected to be taxed as a REIT. Our common stock is listed on the New York Stock Exchange under the symbol “NLY.” We use our capital coupled with borrowed funds to invest primarily in real estate related investments, earning the spread between the yield on our assets and the cost of our borrowings and hedging activities. For a full discussion of our business, refer to the section titled “Business Overview” of Part I, Item 1. “Business.” Reverse Stock Split On September 8, 2022, we announced that our Board had unanimously approved a reverse stock split of our common stock at a ratio of 1-for-4 (the “Reverse Stock Split”). The Reverse Stock Split was effective following the close of business on September 23, 2022 (the “Effective Time”). Accordingly, at the Effective Time, every four issued and outstanding shares of our common stock were converted into one share of our common stock. No fractional shares were issued in connection with the Reverse Stock Split. Instead, each stockholder that would have held fractional shares as a result of the Reverse Stock Split received cash in lieu of such fractional shares. The par value per share of our common stock remained unchanged at $0.01 per share after the Reverse Stock Split. Accordingly, for all historical periods presented, an amount equal to the par value of the reduced number of shares resulting from the Reverse Stock Split was reclassified from Common stock to Additional paid in capital in our Consolidated Statements of Financial Condition. All references made to share or per share amounts in the accompanying consolidated financial statements and applicable disclosures have been retroactively adjusted to reflect the effects of the Reverse Stock Split. Business Environment Financial markets saw meaningful volatility in 2022 as high inflation readings led the Federal Reserve to conduct the most notable tightening in monetary policy in over 40 years. The Federal Open Market Committee (“FOMC”) raised the Federal Funds Target Rate by 4.25 percentage points between March and December 2022. In addition, the FOMC announced runoff of its balance sheet, opting to allow up to $95 billion in Treasury and Agency mortgage-backed securities mature on a monthly basis. The meaningful increase in policy rates, which was emulated by many developed market central banks globally, led to sharp underperformance in fixed income assets, best seen by the negative 13% total return for the Bloomberg Aggregate Fixed Income Index in 2022, underperforming the second worst year in index history by more than four-fold. With respect to the housing market, activity slowed meaningfully over the course of 2022 given the upward shock in mortgage rates and the resulting reduced affordability. Existing home sales, for example, are now one-third lower than at the end of 2021. However, the slowdown in activity has also coincided with a reduction in available inventories. According to data from the real estate brokerage Redfin, new home listings have declined 18% year-over-year as borrowers opt to stay in their homes in the current higher rate environment. As long as the labor market remains robust, we foresee few forced sellers, keeping inventories below historical averages. Home prices have been slower to decline than initially anticipated with the Case-Shiller National Home Price index falling 3.6% from its peak level in June through November 2022, the last month for which data is available. Despite the weaker activity, the state of the housing market remains relatively robust as consumer balance sheets and lending standards are sound, and the shortage of supply supports prices all else equal. In light of the extremely turbulent year in financial markets, Annaly delivered an economic return of negative 23.7% for the full year. Of note, the fourth quarter saw a meaningful slowdown in inflation data and a subsequent decline in interest rate volatility that resulted in a strong finish to the year, generating an 8.7% economic return in the final quarter. While 2022 was particularly challenging, we are proud of a number of key strategic accomplishments throughout the year, including: the accretive disposition of our Middle Market Lending portfolio, the successful continued expansion of our Residential Credit and Mortgage Servicing Rights platforms, inclusion in the S&P MidCap 400 Index, and the 25th anniversary of our initial public offering. In the fourth quarter of 2022, we generated GAAP net income (loss) of ($1.96) per share and earnings available for distribution of $0.89 per share compared to GAAP net income (loss) of ($0.70) per share and earnings available for distribution of $1.06 per share for the prior quarter. While earnings available for distribution covered our common stock dividend of $0.88 per share for the fourth quarter of 2022, given the moderation in earnings available for distribution and anticipated further pressure on this measure, we expect to reduce the common stock dividend for the first quarter of 2023 to a level closer to our historical yield on book value of 11 – 12%. We believe that this would set the dividend at a level that is more sustainable in the prevailing environment given current new money returns. Shifting to portfolio activity, we continued to rotate the Agency MBS portfolio up in coupon to take advantage of wider spreads and improved carry in production coupons. We grew our allocation to 4.5% coupons and higher, which now represent over 50% of our portfolio, up from 12% at the end of 2021. We believe historically wide nominal spreads in these coupons provide more 49 ANNALY CAPITAL MANAGEMENT, INC. AND SUBSIDIARIES Item 7. Management’s Discussion and Analysis than adequate compensation for taking on the incremental convexity exposure relative to lower coupons. In addition, we lowered our exposure to TBAs, as roll specialness dissipated over the course of 2022, and we are likely to continue favoring pools over TBAs going forward given their superior return profile. In Residential Credit, our portfolio ended the year at $5.0 billion in market value, up roughly $400 million year-over-year, and currently represents 19% of the firm’s capital. In the current decelerating housing market, our loan business represents our preferred approach to investing in the residential credit market given our ability to control our credit strategy, partners, the diligence process, and pricing. We continue to focus on preserving the credit quality of our portfolio, with fourth quarter whole loan acquisitions exhibiting strong underlying borrower fundamentals. Our OBX securitization platform had a record year of issuance supported by our correspondent channel, which acquired nearly $2 billion in loans during the year. Since the beginning of 2022, we closed 17 securitizations totaling $6.6 billion and generated $760 million of proprietary assets with a low to mid double-digit return profile utilizing minimal recourse leverage. In our MSR business line, we had significant growth in the strategy in 2022, increasing our portfolio by nearly three times to $1.8 billion in market value and ending the year as the third largest buyer of bulk MSR in the market. We added new originator partners, expanded relationships with subservicers, and put in place new dedicated financing as an additional source of liquidity to support future growth. Our focus on very high credit quality, low loan rate MSR has proven to be valuable. The portfolio paid three CPR in the fourth quarter and experienced minimal delinquencies, generating stable cash flows while providing a hedge to current dynamics in the housing market. Earnings available for distribution is a non-GAAP financial measure. Refer to the “Non-GAAP Financial Measures” section for additional information, including reconciliations to its most directly comparable GAAP results. Economic Environment U.S. real economic growth slowed in 2022, with U.S. gross domestic product (“GDP”) rising 2.1% on a year-over-year basis, well below the 5.9% recorded for 2021. The relative slowdown was mostly a result of weaker growth reported in the first half of the year, as the economy contracted on a seasonally adjusted annualized basis in both Q1 and Q2. In the second half of the year, economic activity proved more resilient considering the higher interest rate backdrop as GDP rose 3.2% on a seasonally adjusted annualized basis in Q3 and 2.9% in Q4. Driving the increase in economic activity was strong consumption, inventory rebuilds, and net export growth. Heading into 2023, however, recession risks are elevated as the impact of the Federal Reserve’s monetary policy tightening flows through to the real economy. Residential investment continues to contract sharply, given the affordability challenges of a much higher average mortgage rate, while business fixed investments and manufacturing output have weakened. Meanwhile, total employment growth in 2022 registered as the second strongest year on record since 1950, behind only the robust hiring seen in 2021. In the fourth quarter alone, the labor market continued to expand at a solid pace as total nonfarm payroll employment rose by an average 274 thousand workers per month. The unemployment rate ended the year at a historic low of 3.5%, declining 0.4 percentage points from 3.9% in December 2021. Additionally, job openings remain elevated relative to pre-pandemic averages as labor demand far exceeded labor supply. As a result of the strong labor demand, wage growth remained elevated all year and above levels consistent with the Federal Reserve’s 2% inflation target. Average hourly earnings rose 4.6% over the 12 months ending in December. However, there are some signs of labor market softening at the margin. The average workweek declined in the fourth quarter and the pace of wage gains slowed, both suggesting employers are moderating their demand for workers. The Employment Cost Index decelerated from a pace of 1.2% quarter-over-quarter in Q3 to 1.0% in Q4. The slowdown in economic growth and moderation in labor demand has led to a modest decline in broader inflation, although price pressures remained at elevated levels throughout the year and broadened beyond the initial pandemic-driven dislocations. Price pressures were driven by the service sector as providers enjoyed peak pricing power in high-demand services and higher rent and home valuations led to an increase in shelter prices. Meanwhile, goods inflation, which accelerated in 2021 because of healthy household consumption during the depths of the pandemic, subsequently eased throughout 2022 as consumption was focused on services. The Federal Reserve’s preferred inflation gauge, the headline Personal Consumption Expenditure Chain Price Index (“PCE”), measured 5.0% in December 2022, after peaking at 6.7% on a year-over-year basis in June 2022. The core measure, which does not include price changes in food and energy sectors, measured 4.4%, after peaking at 5.4% in February 2022. The Fed conducts monetary policy with a dual mandate: full employment and price stability. Given the strength of the labor market and the broadening inflation pressures, the Fed embarked on an aggressive tightening campaign in 2022. The target range for the Federal Funds rate increased 425 bps from 0.0% - 0.25% in December 2021 to 4.25% - 4.50% by the end of 2022. At the same time, the Fed transitioned from expanding their balance sheet through asset purchases in 2021 to contracting their balance sheet in 2022 by allowing assets to mature. The asset side of the balance sheet continues to decline at a pace of 50 ANNALY CAPITAL MANAGEMENT, INC. AND SUBSIDIARIES Item 7. Management’s Discussion and Analysis $95 billion per month across U.S. Treasuries and Agency MBS, almost twice the runoff rate of the prior quantitative tightening period between 2017 and 2019. During the year ended December 31, 2022, yields on the 10-year U.S. Treasury note rose by 236 bps as market participants assessed the path of the Federal Funds rate. The 10-year Treasury Inflation Protected Security (“TIPS”), which subtracts the expected inflation rate from the bond’s nominal yield, rose 267 bps, while longer-term inflation expectations declined slightly. Meanwhile, the mortgage basis, or the spread between the 30-year Agency MBS coupon and 10-year U.S. Treasury rate, widened significantly, ending the year 96 bps wider than December 2021. The following table below presents interest rates and spreads at each date presented: As of December 31, 2022 2021 2020 30-Year mortgage current coupon 5.39% 2.07% 1.34% Mortgage basis 152 bps 56 bps 43 bps 10-Year U.S. Treasury rate 3.87% 1.51% 0.91% LIBOR 1-Month 4.39% 0.10% 0.14% 6-Month 5.14% 0.34% 0.26% OIS SOFR Swaps 1-Month 4.36% 0.05% 0.07% 6-Month 4.80% 0.19% 0.06% London Interbank Offered Rate (“LIBOR”) Transition The United Kingdom Financial Conduct Authority (“FCA”), which regulates LIBOR, announced that all LIBOR tenors relevant to us will cease to be published or will no longer be representative after June 30, 2023. The FCA's announcement coincided with the announcement of LIBOR's administrator, the ICE Benchmark Administration Limited (“IBA”), indicating that, as a result of not having access to input data necessary to calculate LIBOR tenors relevant to us on a representative basis after June 30, 2023, IBA would have to cease publication of such LIBOR tenors immediately after the last publication on June 30, 2023. These announcements mean that any of our LIBOR-based borrowings that extend beyond June 30, 2023 will need to be converted to a replacement rate. The firm has a plan to facilitate an orderly conversion to alternative reference rates. The plan includes steps to evaluate exposure; review contracts; assess impact to our business; process and technology and outline a communication strategy with shareholders; regulators and other stakeholders. As LIBOR cessation enters its final stages, we continue to remain on track with our transition plan, which requires different solutions depending on the underlying asset or liability. The U.S. federal government enacted a legislative solution for certain LIBOR contracts, which in some cases inserts fallback language into the contract or provides a determining party with a safe harbor from litigation. The Board of Governors of the Federal Reserve promulgated rules required by this legislation. We continue to consider all available options with respect to our preferred stock, including those available under the federal legislation. As of December 31, 2022, we had $1.5 billion of USD LIBOR-linked preferred stock that may remain outstanding beyond the June 30, 2023 cessation date. See the risk factor titled “The discontinuation of LIBOR may affect our results” in Part I, Item 1A “Risk Factors” for additional information. Income Tax Reform On August 16, 2022, tax legislation, informally known as the Inflation Reduction Act (the “IRA”), was enacted, and included several changes impacting U.S. federal income tax laws applicable to corporations. The components most relevant to our business are the imposition of a 1% excise tax on stock repurchases by publicly-traded corporations and a 15% corporate minimum tax (“CMT”) on GAAP financial statement income. However, the new legislation explicitly excludes REITs from the law and we do not expect the CMT to apply to our TRSs. In the event the application of the CMT were to be imposed on our TRSs, we do not expect a material impact to our operations as it would simply affect the timing of the payment of income taxes already accrued. While technical corrections or other amendments to the IRA or administrative guidance interpreting the IRA may be forthcoming, we continue to analyze the overall effects of the IRA to our operations, our industry and the economy in general. 51 ANNALY CAPITAL MANAGEMENT, INC. AND SUBSIDIARIES Item 7. Management’s Discussion and Analysis 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”. 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. Beginning with the quarter ended March 31, 2022, in light of the continued growth of our mortgage servicing rights portfolio, we enhanced our financial disclosures by separately reporting servicing income and servicing expense in our Consolidated Statements of Comprehensive Income (Loss). Servicing income and servicing expense were previously included within Other income (loss). As a result of this change, prior periods have been adjusted to conform to the current presentation. In addition, beginning with the quarter ended March 31, 2022, we consolidated certain line items in our Consolidated Statements of Comprehensive Income (Loss) in an effort to streamline and simplify its financial presentation. Amounts previously reported under Net interest component of interest rate swaps, Realized gains (losses) on termination or maturity of interest rate swaps, Unrealized gains (losses) on interest rate swaps and Net gains (losses) on other derivatives are combined into a single line item titled Net gains (losses) on derivatives. Similarly, amounts previously reported under Net gains (losses) on disposal of investments and other and Net unrealized gains (losses) on instruments measured at fair value through earnings are combined into a single line item titled Net gains (losses) on investments and other. As a result of these changes, prior periods have been adjusted to conform to the current presentation. Beginning with the quarter ended June 30, 2021, we began classifying certain portfolio activity-related or volume-related expenses as Other income (loss) rather than Other general and administrative expenses in the Consolidated Statements of Comprehensive Income (Loss) to better reflect the nature of the items. As such, prior periods have been conformed to the current presentation. Refer to the “General and Administrative Expenses” section for additional information. 52 ANNALY CAPITAL MANAGEMENT, INC. AND SUBSIDIARIES