Michael A. J.

Farrell - Chairman, CEO and President Kathryn F. Fagan - CFO and Treasurer

Michael Widner - Stifel Nicolaus Jason Arnold - RBC Capital Markets Robert Napoli - Piper Jaffray Steven Delaney - JMP Securities Jim Ackor - Sterne Agee Bose George - Keefe, Bruyette & Woods Matthew Howlett - Fox-Pitt Kelton Justin Bates - Daniel Stewart

Thank you, Tracy, and good morning everyone, and welcome to the call for the second quarter results of Annaly Capital Management. I'm joined here today by members of the management team including Wellington Denahan-Norris, our Chief Investment Officer and Chief Operating Officer; Kathryn Fagan, our Chief Financial Officer; Nick Singh, our General Counsel; Ron Kazel and J.

Diamond who are Managing Directors with the company. As usual, there is a little bit of missive before the beginning of the Q&A, and the title of this is The Rebirth of the Resolution Trust Corporation.

The number one question asked to us over the past 15 years is always been, what happens if Fannie Mae and Freddie Mac fail. This question of course has always had a theoretical answer, but on Sunday, July 13, 2008 when Secretary Paulson reiterated that Department of Treasury’s support for the GSCs, it got a lot more empirical.

On the same day, the Federal Reserve authorized the New York fed to lend directly to Fannie Mae and Freddie Mac if necessary. Sweeping legislations soon followed, which was an accidental law on July 30.

These policy responses were logical from a bond investor's point of view. The reality however is that at least on that particular weekend, Fannie Mae and Freddie Mac were nowhere near failing.

We'll probably never know what truly spurred the actions of the treasury and federal reserves that weekend. Perhaps the macroeconomic realities of falling property prices and the effects on virtually every institution and citizen finally registered with policymakers, investors, regulators and the administration simultaneously.

While there are certainly significant differences, it reminds me of the capitulation in 1989 when the Resolution Trust Corporation was born and charged with the task of resolving the problems left in the wake of the savings and loan crisis of the 1980s. Unlike many of my missives over the past several years cautioning about the problems in the housing and the mortgage market, it's denial by people who should know better, remember the phrase it's contained, and the future state of affairs.

I want to take a moment to reflect on the present. First, I want to comment on the Federal Reserve.

I know this isn’t popular these days, but I do feel as though the people who work there and have worked hard behind the scenes and in the public life to understand, quantify and react to the rollercoaster ride that has been the capital markets for the past year. I believe that the Chairman is applying creative solutions to the hand that he has been dealt.

Mr. Bernanke has never to my knowledge lobbied for or cast an earmarked project designed to get him re-elected.

Rather he is there to get the job done. As I have said in the past, listening to congressional hearings is a lot like listening to restaurant patrons argue with management over the number on the check long after the meal has been served and digested.

Secondly, let’s talk about treasury. Secretary Paulson working for a lame-duck administration and in the middle of a dynamic situation managed to create a consensus among all of the varied interested groups pointing and [inaudible] at each other and brokered a solution on $1 trillion problem.

As far as I can tell, Mr. Paulson is not residing a placement fee for his investor banking services on this one.

The question remains though, what is the problem, because of this uncertainty, corporations, consumers and institutions cannot move forward. The uncertainty is still tied to residential and commercial property prices.

In my opinion, the free market is restraining credit and lending in ways that the central bank had dreamed to do in a politically correct way. Imagine for a moment where the markets would be if the Federal Reserve moved the lending rates higher by several 100 basis point or so.

That is what the credit markets has done over the past year. It is the polar opposite of what the Federal Reserves’ actions have been designed to do.

There is a lot of talk about inflation in the markets. And we are on record in stating that what we think are witnessing is exactly the opposite.

The asset deflation taking place in the property, equity and debt markets far outweigh in dollar terms any inflationary effect that is going on in the commodities markets. The drop in residential housing prices has taken away roughly $2.7 trillion in domestic housing values.

$4 trillion dollars from household wealth has been taken by the US stock market. Globally, the numbers are even greater.

On the other hand, the cumulative gain in commodities as measured by the increase in the CRB has only created about $300 billion in gains. In our judgment, the re-strength of credit and the losses in equity valuations swap any long-term inflationary effect from the commodities market.

Inflation in the 1970s was closely linked to the relationship between wages, which were much more contractually based to industrial America and prices. That in fact is still having its effect on America's industrial companies today, as evidenced by GM and Ford’s cost base versus foreign competitors.

That was the backdrop of our fourth quarter's earnings call, Welcome to the Keynesian Nightmare. This scenario leads us to the recent GSC reform bill hurried though the house and Senate in the last two weeks and signed by President Bush yesterday.

This is the second time in my career that the GSCs have been swept up in [inaudible] tides of macroeconomic politics. Fannie Mae was technically insolvent in the early 1980s, but the lines of credit that were linked to the US Treasury cemented the financial standings for both companies, Fannie and Freddie.

These lines, as modest as they may appear against today's trillion dollar balance sheets, were a large influence in determining the nature of the relationship between the United States and the GSE financial statements. It is important to understand that the lines have never been used ever, not in the 1980s when the yield curve was severely tested, not in the 1990s during the RTC liquidations and not even in the early 21st century when they were restating five years of financial results.

According to our research, foreclosures and serious delinquencies in their portfolios would have to double from today's levels for them to get even close to touching the newly established lines for support. As we've stated in the past, Annaly is most concerned about the GSEs in two important dimensions, both of which are being underlined in the markets today.

In no particular priority, here are our focus points. We care about the GSEs as a servicer over the loans, which secure our assets.

This is a fundamental business priority for the GSEs, to have a large disciplined organizational structure dedicated to the underlying origination and servicing of their mortgage-backed book of business. They have ordered to chain-link to fence that activities within the payment systems make sure that investors like us receive our monthly payments of principal and exist on a timely basis.

As many investors in structured products have found, maintaining current information, actually getting your checks on time is a priceless commodity today. The fact that NOI receives them through the Federal Reserve banking system via Fedwire actually makes that functionality worth even more.

On an equal standing in terms of priority is the GSEs role as an insurance company for our mortgage-backed securities. They have never ever missed one penny of payment.

Insurance companies can live forever as long as they have access to funding in equity. If nothing else is accomplished in terms of healing a residential sector in the US, the housing and economic recovery act of 2008 has seen to that.

Here is my vision of the future for the GSEs, both short-term and long-term. With the ongoing stress in the real estate sector claiming more and more banking entities, the GSEs along with the SPIC are positioned to be the new resolution trust corporations.

The real estate owned parts to their portfolio will grow as foreclosures continue, and they will be liquidating [ph] properties across the nation. Fannie Mae and Freddie Mac will service repair and re-underwrite the residential sector and the FDIC will handle the commercial sector along with the banking deposit bases.

The United States Treasury is the immediate backstop for all of these activities. The Federal Reserve will be providing financing and some oversight.

The new regulator that will be created will be a powerful restraint against any desire to dilute underwriting investment standards. Over the short-term, the dynamics involved in the GSE debt and ensure products should generate strong net interest margins for the GSEs, albeit against the backdrop of a much slower origination and refinancing business.

These conditions plus the amortization from monthly principal pay-downs on existing portfolios and loans have created a scenario where the mortgage market is shrinking for the first time in my career. Yes, you heard that correctly, the overall pool of mortgage debt will relentlessly become smaller, but its composition increasingly will reflect agency-based industry standards, shrinking day-by-day, month-by-month, payment-by-payment.

This should set the stage for increasingly tighter spreads for agency securities relative to their benchmarks. With that completed, we open up the call for questions.

Tracy Anne, can you please line them up? Question and Answer

Hi. Good morning guys.

Thanks for taking my questions, and congratulations on a petty solid quarter. Just two questions, if I may, first one just a comment on leverage.

I know you guys raised a little bit of money in the quarter, and just wondering how much that might have had do with where you ended the leverage or if it's just kind of conservatism, given the current environment. And then I guess really, the question is as we build our models after the rest of the year and looking into '09 should we expect you guys down in the sort of below 8 range, which is pretty rare for you guys, should we look for something more in kind of the customary range?

Thank you, Mike. Our view of the markets as we have expressed over the past two earnings calls, the fourth and the first quarter, is that the markets continue to create history on the run here.

At the end of first quarter you had the merger between JP Morgan and Bear Stearns. At the end of the second quarter you had essentially Lehman Brothers and others being attacked in the markets.

And at the beginning of the third quarter on the 4th of July the real fireworks in the markets in our minds was the GSEs. And I think against that backdrop, the wider spread that are out there on the asset side are allowing us to maintain short duration and capture spread in a way that rivals going back to when we first started in the early...

in the late 1997. That's the last time that our leverage was this low.

With the spread out there we can do a great job of creating spread income and taking advantage of dislocations in the market as people were liquidating things to keep our powder dry, and I think that against the backdrop of an entire financial section that is cutting dividend and is simultaneously taking write-downs on assets, I think that’s the backdrop where we want to be is to be in to take advantage of that and keep our powder dry and pick up pieces that are cheap along the way here as our dislocations work themselves through the system. So the answer is that, with spreads out here we can afford to run lower amounts of leverage and we feel comfortable doing that, and we have done it before, our history would so you that we have done it.

Against that backdrop, we are creating a high-teens ROE. If investors can find that elsewhere in the market, I'm sure that they are going to find it, but in our mind if you can do that with short durations philosophy and low leverage you’re supposed to do that.

Thanks, makes a lot of sense to me and, yes, it’s hard to argue with you the ROEs you guys have at this point, even at the low leverage. One more quick one if I may, one of the things I was pleasantly surprised to see was book value actually up a little bit in the quarter.

I was wondering if you could comment on sort of the marks that you guys took on the different assets, and I think most people expected that the fixed rate securities may be down a fair bit in the quarter and swaps should offset that, but curious about the hybrids and the arms that you have on the portfolio might have offset… would have expected to be generally downward pressures as opposed to a slight increase?

There was certainly pressure in the mortgage market at the end of the second quarter because you had the GSEs essentially on hold while they were working through their issues, you had concern in the markets. 30 days ago people were talking about the fed raising interest rates in the August meeting, everybody remember that conversation and no one talks about that any more, but the combination of the fixed that's on our books is much shorter duration than traditionally people might be used to looking at in the fixed market.

There is no question that if you want to a long duration that in the mortgage market today, you can buy long duration to fix assets as one definition of all of the plus row of securities that are out there and leverage them up against the very short liability structure and increase your spread income. We don't think that that's prudent for what we do for a living.

We think that it is a business model that can work for a while and that's great, but you need to be prepared for a lot of different scenarios and we've relied on the barbell now for 15 years and we think that the returns that we’ve created to all the different cycles over 15 years justify that prudence and that philosophy in the barbell. So the answer is that within fixed there are many different definitions and those spreads not go around based off duration not off of necessarily stated maturity.

And one the issues that the mortgage market is definitely dealing with now are slower prepays, and you have duration drift going on because of that and you need to be careful as you manage that.

Great, thanks. And just to clarify that, when you say shorter duration fixed do you may basically by buying up in coupon or is there more to it?

Combination of both, it could be structured product, it could be going up in coupon, we obviously are not going to speak to the specifics of the portfolio on an open call.

You can’t just reveal [ph] most of the trade secrets. All right.

Well, thanks a lot guys. I definitely appreciate the clarity.

And again, I think it's great results in a very tough market.

Thank you, Mike.

Hi. Good morning, everyone.

Mike, fantastic commentary as usual. I think you guys are spot on across the board.

I think the previous person ended up asking most of my questions, but I was wondering if you could offer the remaining tender… average tender on swap and also the pay fixed rate?

We do not disclose the tender, but the pay rates on the swap is a… 4.78 and the receive rate traded at 2.47.

Okay, and then perhaps if you could also offer us a little bit of color on FIDAC as well, please?

Yes. We are excited about FIDAC.

We are excited about the advisory nature of the business, the things that we’re doing in there. Several months ago we started to invest and hire people to take advantage of different business opportunities that are out there.

Included in the numbers that you’re seeing now are… is a growing advisory business on liquidation list and CDOs. We expect that business to grow dramatically over the next two years.

We’re got a staff of people working on that. That's contribution income and has been contributing income since the first quarter.

We are over 50% of the market share in that market. We act as a liquidation caution agent for some of the larger trustees and administrators as these deals break apart.

We have a tremendous amount of information and data base that we have created as a result of that and an expertise based out of our CDO business and the restructuring business as well and our surveillance business. So from the advisory point of view, we are picking up new relationships and new clients all the time and working on different asset classes outside of the GSE collateral.

We think that's going to pay off for us as the markets do restructure themselves in the future, and I think… I appreciate your comments about the commentary because to me the number one question is… for all of us on these calls is what is the future of the GSEs. In effect, Fannie Mae and Freddie Mac have become the new Ginnie Mae and they are part of this solution, they are not part of the problem.

We didn't think they were part of the problem during the great build-out for credit from 2002 to 2007. They were restrained from participating in that party, and it's the… now that the markets have settled the first $5 trillion worth of debt that's out there that's guaranteed by the GSEs, it's the other $5 trillion that has to be dealt with and we have the tools and the mechanisms with in-flight act to do that we are very excited about that opportunity.

Fantastic. Thank you, and I agree completely.

I think that without Fannie and Freddie we’d be in a much bigger [inaudible]. So, thank you very much and great job this quarter.

Thank you, Jason.

Good morning, Mike.

Good morning, Bob.

Question just on the repo lines, and this world and historically as I've looked at financial companies, one thing that seem to constrain people at some point in line in time and when your assets may be different than some of the other companies, but size I think you have 50 billion in repo lines and in today's market is it… can you really... is there some constraints on you as an organization and being able to increase repo lines even with your current low leverage versus historical levels in today's market and do you think long-term that that could be a constraint on your organization?

The answer is that be… any hesitation that other counterparties had about taking on agency collateral because of the lack of support from treasury or from the federal reserve was basically answered over the 4th of July weekend and legislation signed in by the President on the 30th. And the one thing that has been a constant last August when this first broke out is that in the agency space the lenders have not taken a lot of hits on lending on repo for agency securities, and the answer is, is because the transparency and clarity of the collateral pricing has given the lenders both in terms of money market funds, corporations, etcetera, who create these tri-party repos or the other side of the repo markets has certainty in terms of what is the value of the collateral is.

Now, bigger question that you should have been asking me five years ago is... is that as always SIVs and CDOs and all of these other ABC commercial papers entities are out there grabbing repo share, are you concerned about them crowning out the agency paper, no one ever asked us that question, but that was certainly a challenging environment for everybody who is in the repo markets back then and I would argue that our cost of capital was actually higher during that period because we were competing with those guys for capital on the repo lines.

In today's world, all of those competitors are dead. There is a growing pile of capital in the cash market, so I think $1.5 trillion quarter-over-quarter growth that needs to be collateralized, that needs the ability to have access to this kind of entity if you were a tri-party.

Certainly during this period there have been write-downs by the intermediaries who we borrow from, but their balance sheets have been constrained by their own investments on their own balance sheets of super senior pieces and AAA pieces not by lending to counterparts on GSC collateral. In fact, even in the case well known Carlisle liquidation there was very little collateral damage after the first go-around on that in terms of valuation because of the value of the securities and the ability to price them.

So, there is an acceptance. The only thing that people will take on the repo side right now are treasuries and agencies, and we think that, that pool of money is going to continue to grow.

So, if you have… I mean are you… if you had to or if you wanted to tomorrow and you want to go out and increase the repo line up to S60 billion, I mean do you have the equity capital to do it? Is it not difficult for you to do?

There is certainly capacity, there is certainly cash out there waiting for more repo. The question is that you get me through a quarter and you price into your model when there is not a global economic meltdown going down at some large commercial bank or some government agency going out of business and being threatened we are going out of business, and then we will start to take a look at how much more leverage do we want to put on the balance sheet.

But if I can give you a high-teens return using lower amounts of leverage in this environment and has certainly an access to that collateral and to the federal reserve system, then that’s the business model I want to run.

When do you think the fed raises rates? I mean think...

and do you think that it's totally off the table [inaudible] rates, I mean the US can't have short-term interest rates well below the rest of the developed world for a long time, I don't think, so do you think the rest of the developed world is coming down?

I think that... I think the big story for the second half of 2008 will be the reversal in interest rate policy by the Bank of Japan, the Bank of England and the European Bank.

The headline will read, it's not contained.

Right.

You had not seen the numbers come out of the European banks like you've seen the financials come out of the US. So, the fed is going to pick up here, they are already picking up space to go on hold because of the collapsing commodity prices over the past couple of weeks.

And that will give them… this is the slowing growth scenario that they have been talking about, and I think post the Olympics once China stops buying everything to try to get the Olympic stadiums done, within the next week or so you are going to see a real fall-out in the commodities markets from… especially from infrastructure and steel, etcetera. I mean you point to me at a time in history when the Federal Reserves raised rates, when employment was...

unemployment was rising and [inaudible], but that's never happened. The bigger story for the next year is that the gap between the currencies is going to be filled by companies like us who are generating high-teen returns in dollar denominated form at a time when you can't get those returns in foreign markets.

And if… on the TSC and the structure of the US Mortgage market, I think clearly people are going to… going through this are going to stand back and take a look at the US Mortgage market probably much more in depth than they have and the other forms of capital, whether it's covered bonds, if we look at the success of the... at least at this point to the Canadian mortgage market and various… and so I do think I mean that there is some risk that the US mortgage market is going to change.

I do think that one could argue that the GSE format is actually working although in today's day and age that would not be a popular position to have.

I agree. The mortgage market is going to change.

It is getting smaller demographically, the access to credit, that the private markets are constraining credit and underwriting criteria looks remarkably like what the GSEs have been underwriting for the past 50 years. So a lot of the growth in credit is coming through with much more normal underwriting standards, 80% loan to value, no first laws pieces in Fannie Mae and Freddie Mac without private insurance in between it on higher rates.

I think that the mortgage market is going to change going forward and that's what I love about our advisory business, that's what I love about the other infrastructure that we’ve built out in here is that as it changes it's going to be great to do. The one thing that I can guarantee will not change going forward is the need to get a rate on cash.

And how the money markets are adjusting to this I think is a very healthy and creative chance. People forget that the lenders who have the cash are also concerned about the banking intermediaries as the middle man and that they are finding their way into different structures, and I think all that creation is going to take place over the next several quarters and we are at the forefront over it.

I feel very good about our position in that respect.

Thanks. It's nice to see the Yankees buying the [inaudible].

Thank you.

I’ll see you at the colts [ph] stadium in October.

It sounds good.

Okay.

Good morning, everyone.

Hello, Steve. How are you doing?

Yes, I am fine. And Mike, thanks on that opening statement.

I think the most important thing you gave us there was a blueprint of everybody focused on these wide OAS spreads and I think the concerns about whether there is… could be too much supply or not enough demand and I think you gave us a great blueprint of how the supply… from a technical side how the supply might be contracting in sort of an argument for a while. Over the long-term, we can expect those to tighten it, so it’s really clearly stated and I appreciate it.

Thank you, Steve.

So, my question was really about pricing on repos. It strikes me that since maybe May or early June we’ve probably seeing prices relative to funds reliable or move up about 15 or 20 basis points just roughly to the 240 range at a time when [inaudible] was really flat throughout that.

So obviously for all of us it's a bit of… it’s a modeling issue looking forward. And I guess my question to you is, do you… is this like a systemic credit more expensive as you were talking about earlier or… what has to change in the world for… maybe for us to get back to the kind of pricing levels that we were seeing back in May?

Well. Steve, I am glad you are the guy to ask this question because I know that you will keep me honest and drive this answer the way that it needs to be explained in case I start to ramble a little bit.

So there are two things that we have been watching carefully. One is, look at the auctions that are going off in Fannie and Freddie debentures, no, not the mortgage-backed securities, but the auctions on their unsecured.

Since the beginning of the third quarter, those spreads have been tightening up pretty dramatically. So as those costs come down, that will improve the net interest margins for Fannie Mae and Freddie Mac as they issue debt and that debt gets displaced… or placed throughout the system.

So that gives Fannie and Freddie better operating margins and allows them to come in and be more supportive of the secondary market. The second thing that we’ve been watching is obviously balance sheets with the intermediaries.

And they can make money here, they are making money on repo, there is no question about it, and that’s keeping some of the spread on the assets at a wider spread. Now, as this begins to pick there is two things that I think will happen.

Once the regulatory body, [inaudible], is comfortable that Fannie and Freddie are now operating underneath all of the guidelines that they’ve put out there for them, they will immediately begin to raise and eliminate those penalty capital charges that they have on them, which they already took off 10%, there is another 20% to go. That has the effect on a portfolio of allowing Fannie and Freddie to go in and buy more products, and we think that that’s underway and you’re probably going to experience that before the end of the third quarter, that you’ll see some more lightning there.

Once that happens combined with the changes that are going on at our home loan bank, which is allowing the banking system to add more Fannie and Freddie products simultaneously you’re going to have this twin dynamic of more money chasing fewer assets going forward. The demand for those assets is going to be strong in lending accounts and in repo counterparties because you have more money against the backdrop of a weakening US economy in cash looking for a return.

So like I said earlier in the call, 30 days ago we were all talking about and we were answering to questions to basically everybody about the feds going to tighten in August, they’re going to tighten in October, and etcetera, etcetera, and our answer was the same answer that we gave today, is that the mistake that the Japanese made in the early 1990s was that they began to reverse course on interest rates too early in the cycle once they had put a floor underneath some of the inflationary problems coming out of real estate. They thought their economy was okay and they tightened, and what they did was create a second leg down.

I believe that the fed understands, they wrote a paper on it several years ago critical of that move, understanding the move, and when you speak to a Japanese ex-central banker, which I’ve had the opportunity to speak to some of the guys over the year, they recognized that that was a mistake too. It’s hard for me to imagine a scenario where against the backdrop of General Motors and Ford, the airlines, the financial system, these companies not being able to follow on to lease cars, that’s like 20% of their sales we figure.

What would be the impetus to move rates higher, unless it was an inflationary concern, and we think that inflationary concern is a very narrow part of the investment philosophy of the country and the world. You had a lot of money go into commodities and drive up the price of oil, which are relatively small markets compared to the equity in that markets of the United States.

So I think that we are going to gradually grind those spreads tighter, it’s not going to happen overnight, it’s not a miracle cure, but you’re gradually going to see these spreads get tighter, and if originations are falling off of a cliff, new housing activity doesn’t pick up the way that people project it to be, then you’ve still got, like in the case of Florida, five years worth of housing supply on the market, that's got to be eaten into.

Right.

You've got an opportunity here to have low rates for a long period of time. Now, I am not saying that the entire yield curve will move in tandem with that because the penalty in my mind will be in the long end of the curve and in the credit piece of the curve, which the credit piece of the curve today as you know is extremely steep.

You can’t imagine that the Federal Reserve has cut interest rates from 5.25% to 2% and you still have to pay more when you go [inaudible] in terms of rate terms and your ability re-finance has gone away because your loan-to-value ratio has been kept intact. That's a real restraint on the growth of the economy going forward, it holds down rates, it keeps people more defensive in terms of equity trading and equity investing while they wait for that to settle out, which means more cash in money market funds and corporations building up.

So my gut feeling is we are in for a long steep yield curve, an L-shaped recovery with some financial problems along the away. We’ll walk in on any given Sunday and we'll find some bank sale here taking place or some [inaudible] marriage being arranged by the FDIC.

There are... the good thing that I feel about is that there is a great report out by Bridgewater Associates that handicaps the United States Banking System and puts out a six-month employee profitability of the flow up against the top ten banks in the United States and we don't have any exposure to any of them.

There is no direct exposure at Annaly to any of those ten. So from my perspective you just go through this very cautiously.

It's almost a polar opposite, Steve, of what we’ve discussed in 2003. In 2003, when everybody was piling onto Annaly and screaming at us that we didn't get the new paradigm and we should be going into credit and that our rate of return was so great, but we should be using that money to go and take advantage of the 1% to 3% fed funds environment that was out there, it was our decision back then that in a 1% fed funds rate we should not be creating a 20% return on equity, that in fact if we were we’re creating a return that was unsustainable over time and that when it did reverse itself it would expose a lot of the weaknesses, which obviously over the next three years, it did expose the lot of the weaknesses in the system.

I would say we are at the opposite end of that spectrum now. In a deflationary environment, which no central bank alive have experienced including Alan Greenspan, the risks that are being created in other asset classes outside of government guaranteed asset classes need to be understood in a different light and against that backdrop maybe you shouldn't be creating 20 plus return on equity because while the S&P is paying a 1% dividend rate, why should this sector retain 20%.

It just doesn't make sense to me. So the bottom line is that by using lower amounts or leverage or wider spread, you can become more sustainable and do a better job protecting book.

Thank you, Mike, and one thing I did detect from that, and as you advertised you did ramble a little bit, but it’s your call, so we are going to certainly give you that a courtesy.

Thank you.

The… it does sound like you see a link between these wide OAS spreads and repo pricing and maybe as the OAS comes in because of these demand factors it will… as the actual collateral becomes tighter we might see better pricing on repo as well?

Yeah, I think you want to watch the long end of the LIBOR curve, Steve, like 1995, you remember 1995 when the long end of the LIBOR curve started to come down and you had a hell of a rally take place in OAS spreads.

Yeah, we got a nice drop in one-year [ph] LIBOR today.

Exactly. One day doesn't make a quarter, but it's on its way.

It will grind tighter as those mechanics become more comfortable.

Thank you, Mike.

Thank you.

Good morning, Michael.

Mr. Perkins, good morning.

Two quick questions. With the elimination of the employee guarantee with the actual guarantee, would you expect to see the spreads between Fannies and Freddies and Ginnies to narrow?

And the second question is, with the slowing in the market, I understand the mortgage market is a large market, but would you expect supply problems?

I would say that $5 trillion is a lot of supply to manage and obviously there is a lot of different ways to use that. I think my interpretation of what's happened here is Fannie and Freddie are the new Ginnie Maes in terms of credit spreads, so I will continue to see those spreads tighten to each other.

I'd also like to point out just for historical purposes, and I have spoken about this in the past, is that one of the dirty little secrets about Ginnie Mae is that Ginnie Mae actually was initially the first subprime kind of lender and that a lot of the delinquencies and defaults on first-time homebuyers actually already flow through the government budget in Fannie Mae's prepays as they take back properties and redistribute them back out into the market… Ginnie Mae, I am sorry. So Ginnie Mae was created for the first-time homebuyer who didn't have the access to the kind of credit capabilities or the balance sheet capabilities of more conventional buyers and that's been a drain on the budget I would say for years.

I don't have to quantify it because they don't break it out, but certainly that is something that deserves some scrutiny from people who look at the United States budget. At the end of the day, you are going to have Fannie, Freddie and Ginnie being big supporters in the market, which means that their underwriting standards, 80% loan to value multiple valuation techniques, strong servicing behind it, cash flows that flow through the Federal Reserve system will be a standard and the access for credit for a while.

Most of the originations that are going from today have to be confirming. So I would say that you will see some compression in spreads there, yes.

Michael, back in the mid 80's when the Ginnie Mae mortgage pool became a great fixed income alternative as Wall Street normally does, it takes a great idea and destroys it with excess amounts of money, given the spreads even at the low level of leverages you are talking about today, would you expect to see new competitors come into the market because of the spread opportunity and the, as you say, high double digit... high-teen returns?

I think that the beauty of the American Banking System, and this is something that we've spoken about in past calls and I thank you for giving me an opportunity to talk about this a little bit, is that we are not currency experts here, but one of the things that we said on the third quarter call last year reviewing my notes was that when you begin to see these returns on equity be created in the banking system and this return on equity is relatively high compared to our history as well, it’s not the highest we’ve heard them, but it's high, the dollar actually begins to perform better because it begins to sift away capital from other currencies because you can get government guaranteed cash flows with a relatively high ROE and you can’t get that in other markets while they are going through their slowdowns, etcetera. So from my perspective, that will track more money into existing structures.

I'm not sure that new competitors can come into this space simply because the due diligence that's required is… well, tell me how you did in 1998, tell me how you did in 2000, tell me how you did in 2001, tell me how you did in 2003 and now let me see how you did in 2007. If I was a foreigner bringing cash into this market, you are going to decide in the checklist am I going to deal with the public company that's been through this and uses outside pricing techniques, doesn't have a black box and basically transparent and liquid, Sarbanes-Oxley compliant, New York Stock Exchange registered, or I am going to put it into a hedge fund, everyone has to answer that question for themselves.

Thank you, Michael.

Thank you, Dan.

Hey. Good morning, guys.

Hi, Jim.

It's been a while, I’ve been enjoying the call immensely, it's the first one I’ve listened to for a few quarters, but I’m back off the beach and I was wondering, Mike, given all the macro commentary that you appear so good at, it seems to me that in the midst of all of the topics that are being discussed here, the one topic that seems to I think has the potential to impact one way or the other a lot of works being discussed here on this call is the US housing market, which appears to be in many people’s mind just on freefall. I was curious as to whether or not you might be willing to make any commentary regarding what your thoughts are on the housing market here in the US, [inaudible] what we might be in with regard to the housing market, and then whether or not you see any of the housing problems spilling over into other places, a lot of people seem to be focusing on England right now and what sort of the implications might be for the rate environment here in the United States?

Thanks.

Thank you, Jim. Well, we do watch housing very carefully, and obviously over the past seven years we have taken some heat from people because we did feel the bubble was there and it took a while for it to play out.

I can't handicap it in terms of innings, but I will point out the following problems is that this is not a US phenomenon as we have said on another calls. If you have contacts in Ireland or if you have contacts in Spain, you know that the housing bubble has also broken there or property bubble has broken there.

Ireland and Spain are extremely frustrated with the European Central Bank because they tightened rates at a time when their growth economies are falling, which were based off of housing build-outs, etcetera. At one point in the past few weeks, Spain actually threatened to issue their sovereign debt in dollars instead of euros because they felt like they needed to make a statement to the European Central Bank.

And it's important to understand also that the European Central Bank still does not have a constitution that links an approved constitution across all of these different economies. The Japanese have been in real estate deflation for 20 years.

They have been dealing with it in a different way. Australia, New Zealand, definitely feeling the heat now, they are commodities based countries.

So from the prospective of what we look at it the US, you now have record amount of supply that has to be worked through, some of those houses will never be occupied. They will… they are the new ghost towns of the West has one of that Federal Reserve member said, and I think that it is going to take a long time for us to work through this because you are seeing the effects at the municipal level.

There was an article in yesterday's New York time about the State of New York and… because of the downturn on Wall Street the financial crisis has been created in the state’s budget were they are looking at emergency cuts in services, in personnel. New Jersey is certainly another one.

California, we read a commentary a few weeks back that California spends more than $1 billion a day than it takes in currently in tax receipts. So the housing build-out… Las Vegas, which was always recession proof, allegedly was in a crisis.

So this is a period where we are going to be juggling from crisis to crisis over the next few years between consumers, the economy, municipalities and the federal government. I think that the distinction that needs to be made in every investors mind is that, as Welly said in the fourth quarter call that the economy is only now beginning to deal with this, Joe Six Pack she said, is only beginning to realize that he doesn't have access to credit and he doesn't experience the same sorts of thing that are going on, on Wall Street.

Wall Street is taking a hit first because it's using assumptions to knock down these securities and to knock down these assets, so they can price it for what the economy is going to be dealing with in the future. So in my mind, if you can separate between the assets that have been created out of the bubble and you assumptive nature used to price those, I think that the fed, the banking system are getting your arms around that and that a lot of that stuff is priced in.

The consequences of that cost however are only now beginning to be borne by the consumer and what has his reaction been, his reaction has been I am not going Starbucks, I am not going to Bennigan’s, if I’ve got to spend $4 on something it's going to be on a gallon of gas so I can get to work, and we’re going to choose to eat in more as opposed to eat out more, which means that when we eat in we’re going to make more choices, maybe we are not going [inaudible], we are going to have hamburger. So from my point of view, there is circling of the waggings...

waggings going on of a 70% chunk of the American economy in terms of the consumer who is also 20% of the global economy and that could be going on for a while, while he ships from managing his balance sheet of debt to trying to save for the future and maintain growing tax pressures from [inaudible] and the federal government and the results of lower asset price as a result.

And by the way I'd like say that Joe Six Pack is also running some of the community banks.

Right. So I think it is going to take a while, Jim, and I had to separate it as an investment professional between the difference in the real economy, which my family and my brothers and sisters operate in, and the economy that is operating around that, which is the structural economy of Wall Street and assets and liabilities.

Okay, that makes a lot of sense. So if you have a handicaps, just real quick, the odds of short-term interest rates going up in the United States versus the odds of short-term interest rates coming down in Europe, what's sort of Europe… what's your odds of spread there?

Well, I'm fairly confident that… there was a story this morning about the Bank of Japan, highest unemployment rates in years, slowing economy, got to reverse course, bring down the rates, even more monitory compliance. I think that the BOE is probably the next one.

They have a very week government and I think that they have also been dealt a hand here where there is going to be reversal. We do business in England, so we are very knowledgeable about what's being going on there and what the lag effect is between the bubble and the break.

And simultaneously, the Eurozone… the European Central Bank as one mandate and that’s to defend against inflation, which in my mind they are fighting the last war, not the current war. So they need to come to that conclusion.

Obviously, there are not a lot of American consumers going to Italy this summer at a $1.50 or $1.60 on the euro. I have always been stunned about how expensive London is in terms of being either for businesses or personal reasons.

So the real problems in all these economies has been that incomes and wages have not kept up with the cost of housing first and then for the food and energy services, and incomes are not going to be rising against the backdrop of slowing economies. That's the bottom line.

All right, thanks very much guys, I appreciate it.

Thank you Jim.

Hi, good morning.

Good morning, Bose.

I had at couple of more company-specific question. One, just your quarter-end spread was slightly lower than the 199, I know there are usually quite a few moving parts, so can we assume that was the reason for the change or do the asset sales have any impact?

No, it’s just that quarter-end spread is an annualized yield that’s based off of forward adjustments and interest rates, so it’s not reflective, it's an annualized number is what I should leave it at.

Okay. Secondly, what percentage of your portfolio was agency CMOs during the quarter-end?

Are the repo markets treating those securities any differently in terms of haircut still, like what's--?

You know what, the repo markets have always treated their CMOs differently. They are structured product.

It’s only a slight difference and the percentage in the portfolio is less than 30%.

Okay. And then just switching to spreads, where are you seeing spreads on your new investments?

You are still looking at relatively attractive spreads in the market. Depending on where you are in the curve and depending on what risks you are willing to take, it can be anywhere from 180 to 225-ish, it depends on where you want to be.

Okay, great. And then just finally I wanted to refer back to something, Mike, you’d mentioned.

It seemed like you alluded to the potential dis-intermediation of some of the Wall Street players in repo relationship. Can you elaborate on that a little further, I mean are there structures that are… could happen like that?

Yes. I do think that now that you have the underwriting standards for repo clearly being monitored and dictated by the Federal Reserve, which has never happened before in my career, which is part of the reforms that came out of the Bear Stearns, J.P.

Morgan. What have the lenders learned here, right, what have they learned?

They have learned that they need even more transparency as to what the underlying collateral is and that they are concerned about the intermediaries on the bank balance sheets as well. So, the banks need to make a decision as Welly has said in the past, when the ruble is settling they have to stick their head up and see where they are making money and where they have the ability to do that on a relatively low reserve requirement business that's risk...

relatively risk free. And that is the agency and treasury securities market, right.

You can... if you don't have cash coming in, you can turn around and put it into the fed and you can turn it into cash, if you are a primary dealer or a bank.

You can charge higher spreads and you can make money because LIBOR is out of sync with where this all is, which keeps the asset spreads on a relative basis wider than they should be. So, until you start to see changes in that, the dealers are probably doing pretty well just on… just great margins on this collateral.

And if they are in the money management business they want to make sure they are keeping that cash under their control because it is hard to get cash back once you have let it go as Bear Stearns learned. So, you need to constantly have a bid for that collateral, and obviously dealer banks… broker dealers, primary dealers are running lower inventories right now.

So, they need intermediaries and they need collateral to collateralize that cash. They don't have as many principal balances that they had.

Certainly, look at the announcement by Merrill Lynch in the past week. They have a lot fewer principal balances than they did six months ago.

So, that de-leveraging opens up opportunities eventually into the repo market and the concerns that lenders have they express to us directly and we have the opportunity I think to make some significant changes structurally here going forward and the dealers are always going to be there and they are good partners to us in the way that they handle things, they behaved very well with us over the course of the past several months and that's because we've behaved well within the markets. Where they have needed information, we've given it to them.

From a management point of view, Kathryn has been totally available to all of our lenders on a regular basis. One of the things and the beauties about being New York is that you can speak to these guys on a regular basis, they can walk over and speak to you and we can look them in the eye and go through everything with them.

And combine that with the fact that we've never ever marked to model, we've always used third-party marks in our model and outside marking services and audited returns as a result to distribute our results. So, they don't have the question valuation, they can point to a screen and I think that's an interesting development that people are starting to understand.

As Welly said on the fourth quarter call, up until last August nobody really paid attention to our road show when we said they could take our collateral and turn it into the fed. A lot of people pay attention to that screen now.

And you are a banking analyst, so you understand that there are going to be more short-term marriages in the banking sector and I don't know when the Federal Reserve has ever raised rates against the backdrop of having this many banks in international distress. So, I don't think that's going to change.

The amount of cash that’s out there is a growing pile of cash that can make relatively high ROEs in this spread, and I think that will balance the dollar out and I think it will attract new capital.

And just going forward, do you think we will see some of these… some slightly different structures coming out in the market in terms of that without where… where the dealers have less control over it?

I wouldn't say control, I think you want them as partners, and I think that certainly the fed and the treasury are working with all of the players in the market including us to discuss what are the options, how do you change this, how do you make it better, how do you make it stronger to protect money market funds. You don't have a break-the-buck issue, you don't have these portable liquidity issues back on to balance sheets of the banks.

Those are things that can be fixed pretty easily. There are structures out there.

Up until now the rating agencies didn't want to deal with them because they were so busy rating all of these other CDO structure and SIS and the other CLOs, etcetera, that were out there. Well, there is a genuine focus on this stuff now, and without given away the secret source I think over the course of the next year you are going to see some dramatic changes in the way that this works and I think it's going to work a lot better for everybody, dealers, lenders and borrowers.

Great, thanks very much

Thank you.

Thanks for taking my call, fellows. Mike, your presentation seems to rest on two pillars, one we’re in the deflationary environment and two, the Fannie and Freddie are basically going to continue operating in their present form.

If that’s so how would you explain the fact that the capital rate that Fannie did in May with the preferred issue at 8.25, that preferred is trading around $17. What is the market saying about the Fannie and Freddie that you haven't addressed?

Well, I think that… that's not to say… when I talk about their present form, Rich, what I am talking about is the roll that they play for us, especially in terms of servicing the outstanding pool of mortgages that they guarantee and the insurance guarantee that they put on top of it. Now financially, investors have to make a decision, do they want to invest in the equity of a company that does that and have a credit sale where they are going to be liquidating and acquiring properties and selling it off, or those preferreds and the debentures might be restructured in such a way so that they don't perform as well in the future and that there are other alternatives out there for cash, right.

So, the financial structures will be dealt with. I personally am comfortable with the outstanding debentures and preferreds and the equity that's out there in terms of, they want this to operate, meaning Treasury want this to operate as an independent company.

They don't want to try to have these lines of credit out there forever. They are looking for free market solutions.

Now, depending on what happens in November of 2008 with the election, I don't see that changing too much over the course of the next four years, but certainly new processes will emerge here that may change the rate of return expectations of those coupons. But I do think that those coupons on the preferred, the debentures, the unsecured debt of the agencies, I think it's money good, I think it's buying opportunity for people who want to be in them and they can use that return in a meaningful way and I think that's what the market is saying.

It is that there may be structural changes in the way the balance sheets of these companies… they maybe the most preferreds, they may change the coupons, they may renegotiate things and that uncertainty won’t be known until you have the regulators started and overlooking everything that's going on.

Okay. Thanks for your comments.

Thank you.

Thanks for taking my question. Mike, the first question is if you believe mortgage are cheap and there...

they look like they’re trading sort of ten-year [inaudible] maybe you have a better answer on that. It's now the time to grow assets or do you feel like now it's the time to put on assets, particularly if you think the GSEs we are buying at some point in time will continue to grow their portfolios, and if you don't want to take your leverage up, does that mean we are going to see more deals in the future?

I do think it's a great time to be investing. I think there is a huge opportunities across the entire spectrum of mortgage credit.

The dislocations that are going on evidenced by what went on with Merrill Lynch this week in a very public way speaks to the plethora of opportunity that is… that there is out there across all the credit. Now my feeling is that when you are in this market where you have such uncertainty about the banking system in general and what the reaction would be, I know this is going to sound… like a heretic compared to what other people likely see in the market, but against the backdrop of what I think the outcome might be here over the next several months, I could actually make a case where the fed begins to lower interest rates again, simply because if there is no inflation, if what we are seeing is a temporary blip in energy and food prices and you still have this massive asset deflation weighing on the markets, then they are finding the wrong battle.

They need to re-inject the risk premium back into the market. With a $5 trillion market, you have an opportunity to get in there and do it, and we have the power to do it in the existing portfolio.

So I think as people's return expectations become much more realistic about what the opportunities are in deflationary environment, against that backdrop in the case where S&P dividend is 1% or below, that's when I think we will be aggressively chasing these assets in a meaningful way from capital raising, etcetera. But while you're going through this swap, you have people who want to give us money today to operate, that would be great, but what I...

as I outlined at the beginning, this is the polar opposite of 2003 in my mind. In 2003, the biggest arguments we ever had as a management team was when the markets thought that the yield curve was steep.

And our research and our forecast told us that mortgage curve was actually inverted in negative duration and nobody believed us. But it was, and that's what was going on.

Against that backdrop to go out and chase credit and continue to flatten it was a mistake and that mistake is being unwound in the markets and has been unwound for the past year. In the environment that creates today to be paying a return on equity and yield that we are paying today, I think that that's great and it just gives you opportunity, but as long as these spreads are out there, historically we’ve always operated at the lower amount of leverage and I think that that ultimately will pay-off our shareholders in a big way going forward.

Just a follow-on that, I mean if you think the fed is going to cut again or you may have a bias towards that, which is where discounts today, it’s just historic all-time [inaudible]. Would it make sense to kind of bring a deal and say, how much added risk would it be if you just raised capital, if you have the capacity in your lives to keep leverages several times and raise capital and buy… maybe [inaudible] or something?

We are always pregnant, as I’d like to say.

And as you mentioned… updated us on haircuts, where they are right now a weighted average basis and where they be have been trending?

Haircuts, as Welly said earlier, when we started this business 15 years ago together, the assumption that we made in terms of haircuts was based off of running managed money through private high net worth individuals and we have not seen anything change in the agency space in haircuts that's outside of our historical experience now. That may not be true for other players in the market.

They may not have experienced wider the haircuts in the past, they may not be used to operating in that, but haircuts are part of the lending and borrowing business and you need to be prepared to deal with a wider haircut, and that's how we run our business model.

Yeah, we've actually since the debt has put in all of it…financing and liquidity facility there since the first quarter haircuts have stabilized to slightly improved in the agency space. We would expect if you continue to have volatility, there is no question that you have to be prepared for changes and as a prudent management team you should always be in position to deal with changes relative to the volatility that's in the market.

So… but as of right now, things have stabilized to slightly improved over the volatility that we saw earlier in the year.

Okay, great. Thanks again.

Thank you, Matthew.

First of all, great quarter to the entire management team. All my questions have been answered though.

I’ll follow-up later if we have anything else, so thanks again.

Thank you, Joe, and I appreciate your comments, and I do want to comment that it is the team.

Hi, gang.

Good morning, Jim. Jim, I do want to point out for the record that you didn't call me on the second quarter call when the Giants peaked the Patriots.

Well, this is still tidal town, and I was out at [inaudible] drinking far too much.

I avoid.

Okay. Anyway--.

[inaudible] be on that call, Jim.

I would like to… see, in one of the… one of the questions that has been strangely silent… people have been strangely silent on whenever Mr. Paulson or any of these people speak is at one part of the capital stack, common, preferred, sub-debt, the treasury envisions investing in for Fannie Mae or Freddie Mac if the situation requires it.

The interesting… I mean my opinion is that people are told not to ask that question because they don't want to talk about it, but I am interested in your opinion.

I have to qualify by saying it’s an opinion and it’s a speculation, but I do feel as though… here is my backdrop for that. I’ve just got to tell a little anecdotal story and then I will give you my answer, is that we were at dinner about a year ago where Alan Greenspan was asked a question that I always wanted to ask him, which is 'Why were you so quick to hit the bid of the RTC to get that $400 billion of assets out of the banking system and into private sector hands?

Why didn't the government just try it take it on longer and get some of the profit for themselves and to take advantage of it?” I've always wanted to ask him that question, and somebody did ask his this question at a dinner.

It was after he had retired. And his answer was… it’s a very simple answer, which is bankers don't like to own property and we don't like to cut lawns.

And as you look at capitulation events like the RTC, like the guarantee of Fannie and Freddie, that may lead to the decisions that you need to make as an investor on the capital structure. It may be difficult to be an equity holder in here, but they can get relief on equity through a lot of different measures and the assumptive nature of the mortgage market is telling us that they don't necessarily have to go to the markets to raise capital under the current regulatory structures that they have.

They have a credit sale. Credit sale is being priced in very aggressively.

It is a credit sale that suggests from an assumption point of view that we’re in a depression, not a recession, in housing and that they may need credit going forward. As I said in my earlier comment, as an insurance company, that’s what we care about it, then they have access to financing to decide if they can pay off their claims over time.

Obviously, NDIA index still has not missed one payment of insurance, which is kind of stunning when the market thinks about it. So, in that note, I think to myself, you know what, the equity markets might be a good place for Fannie to be invested in or for Freddie to be invested in, and that the capital structure that I will would go after if a reserve… I would go into the equity, because if that is a situation event and that's telling you that you're going to see a turn of the year and the standards were dictated and so many people starting with King George [inaudible] United States on a property deal that...

it’s not a very good that. So from my perspective, I guess I'd go after the equity.

And the second question specific to you, you've said in the past that you're exploring different counterparties if you will and are getting beyond the historical... your normal counterparties, the Street primary deals and the like.

Are there any new counterparties that you've started getting funding from on your agencies?

There is nothing that I want to share on this call currently right now.

We are not giving out any numbers.

Right.

All right.

I love that you asked the question.

Someone had to.

Thank you.

Hi, guys. I’m stuck in England, can I thank you're very much for depressing us and telling us that we’ve got it worse than you guys have, thanks for that.

In terms of questions, mine has actually been asked I think, but there was really just on the interest rate spread at the period and during the period. I was really wondering if you're indicating from that that spreads had peaked, and if that was the case, what your ability was?

Did you have the ability to gear up quick enough in order to ensure that you return to state of current levels?

No, Justin, I know everybody forgets now that some of the events have unfolded most recently that there was a lot of talk about the fed tightening in August and then starting a tightening campaign throughout the rest of the year. So, if you have a lot of dealers being opportunistic and rightly so, if you can get away with it you certainly do it.

The spread at period-end is just a snapshot in time and we’re always rebalancing the portfolio and doing a lot of shifts within the portfolio. So I wouldn't characterize it as a peak in spread.

Okay. Thanks very much.

Sure.

Thank you, Tracy Anne. Thank you all.

I know it's been a long call and we've had a chance to discuss a lot of things. We hope again that the comments that we have made clarify for a great deal of the investment pool that's out there, how we feel about things and how the market works.

Obviously, we are always available to discuss this stuff in the markets. My comments from the beginning will be put on the website if you are not already there, and we look forward to speaking to you on our third quarter call in the fall.

Have a good summer, and be safe.