ANNALY CAPITAL MANAGEMENT INC

U.S. real economic growth rebounded in Q2 2025, as gross domestic product rose 3.0% SAAR after falling 0.5% SAAR in the first quarter. Despite the sound quarterly growth rate, consumer spending is moderating in 2025, rising 1.0% SAAR in the first six months of the year, a notable decline from the 2.8% SAAR expansion in 2024. Consumers appear to be growing more cautious as elevated short-term interest rates, lower savings rates, a slowing labor market, and declining confidence seem to weigh on spending behavior. Consistent with forward-looking surveys, investment activity also declined during the quarter but is expected to rebound somewhat in the second half of the year.

The supply and demand for labor have remained in balance. According to the Bureau of Labor Statistics, seasonally adjusted total non-farm payroll employment rose by 449,000 workers in the second quarter, well above the 333,000 workers added in the first quarter. The unemployment rate ended the quarter at 4.1%, the lowest monthly reading since February, as more people left the labor force than ultimately were unable to find employment. At the same time, wage growth, as measured by the year-over-year change in Average Hourly Earnings, dropped moderately to 3.7% from 3.9% in the first quarter.

Inflation readings, as measured by the year-over-year changes in the Personal Consumption Expenditures (“PCE”) Price Index, remain above the Fed’s 2% inflation target, and disinflationary progress remains gradual. Total PCE prices over the 12 months ended in May declined marginally to 2.3% compared to the 2.5% recorded by the same metric in March while core PCE inflation, which excludes volatile food and energy prices, fell from 2.8% in March to 2.7% in May. Progress on inflation in the second quarter was uneven with core PCE goods prices showing modest early pressure from the tariffs in certain categories while core PCE services inflation slowed. Of note, shelter prices have continued to moderate with the annual rate of inflation in this category reaching levels last seen in early 2022 – a positive development given the large importance of shelter inflation and the lagged, slow-moving methodology used to incorporate shelter inflation into the headline index. That said, the forecast remains uncertain due to the most significant increase in the effective tariff rate in decades.

The Fed conducts monetary policy with a dual mandate: full employment and price stability. Given the slow progress on inflation and the resilience in the labor market, the Federal Reserve Open Market Committee (“FOMC”) kept the target range for the Federal Funds rate unchanged at 4.25% - 4.50% at their June meeting, marking their fourth pause since cutting rates by 100 basis points at the end of last year. Fed Chair Jerome Powell has emphasized that the FOMC is in no rush to move policy in either direction, as it is still assessing the appropriate monetary policy response to tariffs. Forecasts from the FOMC meeting in June show a median of two 25 basis point interest rate cuts for 2025. Moreover, the updated economic forecast now expects slower growth, higher unemployment and more persistent inflation over the next year. As a result, the 2026 and 2027 Fed Funds rate forecast each moved up by 25 basis points. Meanwhile, regarding the FOMC’s balance sheet policy, the Fed did not make any additional announcements and maintained its monthly redemption cap of Treasury and Agency MBS holdings at $5 billion and $35 billion, respectively.

A solid economic backdrop combined with tariff-related inflation concerns contributed to a steepening of the Treasury yield curve, as longer-term Treasury rates rose in the quarter. This increase in Treasury yields, relative to more stable interest rate swap yields, led to a tightening in swap spreads. Meanwhile, as the FOMC maintains an on-hold approach to policy, interest rate volatility declined. The 10-year U.S. Treasury yield rose slightly from 4.21% on March 31, 2025, to 4.23% on June 30, 2025. Given lower rates and reduced volatility, the mortgage basis, or the spread between the 30-year Agency MBS coupon and 10-year U.S. Treasury rate, tightened slightly from 130 basis points at the end of the first quarter to 125 basis points at the end of the second quarter.

The following table presents interest rates and spreads at each date presented: