ANNALY CAPITAL MANAGEMENT INC

The second quarter of 2024 saw modest changes in interest rates in the aggregate, but the quarterly change belies elevated interest rate volatility and Agency mortgage-backed security (“MBS”) spread widening during the quarter. Strong economic data led markets to reduce expectations for 2024 Federal Reserve (“Fed”) rate cuts in April, before concerns about higher yields faded given weaker labor market data and moderation in inflation readings in May and June. Volatility remained elevated, nonetheless, as unexpected election results, most notably from the surprise French parliamentary elections, weighed on markets. Of note, although markets will be influenced by the upcoming U.S. presidential election, the slowdown in the U.S. labor market, combined with more muted inflation prints, point to rising conviction that the Fed will begin to lower interest rates in the second half of the year. The prospects of easing monetary policy should boost demand for fixed income securities, creating a supportive backdrop for our businesses in general and improving demand for Agency MBS in particular.

Given the environment, Annaly’s portfolio delivered a 0.9% positive economic return in the quarter, once again demonstrating our ability to deliver strong returns with prudent economic leverage, which stood at 5.8x, while generating earnings available for distribution of $0.68 per share.

We tactically reduced our Agency MBS portfolio early in the quarter as we navigated higher rates and wider MBS spreads. Portfolio holdings ultimately ended the quarter $1.4 billion higher in market value, as we added back exposure in the second half of the quarter. Similar to earlier quarters, we favored higher coupon prepayment protected collateral with durable cash flows, which we believe offer the best risk-adjusted returns across a number of interest rate market environments. As a result of our trading activity, the average net coupon on the Agency portfolio increased by 30 basis points to 4.87 percent in the first two quarters. We continue to have a positive outlook on the sector, as Agency MBS spreads remain above long-term averages, offering attractive risk adjusted returns at conservative leverage levels. The sector has seen improvements in the supply-demand picture, as supply has so far been running below expectations, while demand has broadened relative to last year to include banks. Declines in interest rate volatility and a steepening in the yield curve should support the sector in coming months.

In our Residential Credit business, securities holdings declined modestly during the quarter as we sold third-party securities to take advantage of relatively tight credit spreads while increasing our exposure to Agency MBS. Residential credit spreads traded largely rangebound throughout the quarter, as the market remains supported by robust fundamentals. Housing market activity remains well below historical averages and home price gains have been robust nationally, but we are monitoring increased regional disparities and the strength of the consumer, particularly if the labor market softens further. We continued to focus our efforts on our Onslow Bay correspondent channel, which experienced record growth during the quarter as we locked $4.1 billion and settled $2.8 billion of expanded prime loans. In the first six months of 2024, our correspondent channel activity already exceeded activity for all of 2023, while our pipeline continues to exhibit strong credit characteristics.

Our MSR portfolio increased modestly quarter-over-quarter, driven by settlements of earlier purchases and an increase in valuations given the rise in mortgage rates during the quarter. The fundamental performance of the portfolio continues to outpace our earlier expectations as prepayment speeds remain muted, serious delinquencies remain low, and elevated escrow deposit float income help attract investors to the sector and boost valuations. Of note, the record supply of bulk offerings over the last few years appears to be normalizing as originators see improving gain on sale margins and have reduced operating costs. As bulk supply slows, focus has shifted on enhancing our flow and recapture capabilities to acquire newly originated MSR from our network of strategic partners.

Earnings available for distribution, economic leverage, and economic return are non-GAAP financial measures. Refer to "Non-GAAP Financial Measures" for additional information, including a reconciliation to its most directly comparable GAAP results.