Ladies and gentlemen, thank you for standing by. At this time, I'd like to welcome everyone to the Dynex Capital Third Quarter 2021 Earnings Results and Conference Call. All lines have been placed on mute to prevent any background noise. After the speakers' remarks, there will be a question-and-answer session. [Operator instructions] Thank you. I'd now like to turn the call over to Alison Griffin, Vice President, Investor Relations for opening remarks. You may proceed.

Thank you. Good morning everyone and thank you for joining us today for the Dynex Capital third quarter 2021 earnings conference call. The press release associated with today's call was issued and filed with the SEC this morning, October 27, 2021. You may view the press release on the homepage of the Dynex website at dynexcapital.com, as well as on the SEC's website at sec.gov. As we begin, we wish to remind you that this conference call may contain forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995. The words; will, believe, expect, forecast, assume, anticipate, estimate, project, plan, continue and similar expressions identify forward-looking statements. These forward-looking statements reflect our current beliefs, assumptions and expectations based on information currently available to us and are applicable only as of the date of this presentation. These forward-looking statements are inherently subject to risks and uncertainties, some of which cannot be predicted or quantified. The company's actual results and timing of certain events could differ considerably from those projected and/or contemplated by those forward-looking statements as a result of unforeseen external factors or risks. For additional information on these factors or risks, please refer to our disclosures filed with the SEC, which may be found on the Dynex's website under Investor Center as well as on the SEC's website. This conference call is being broadcast live over the Internet with a streaming slide presentation which can be found through a webcast link on the homepage of our website. The slide presentation may also be referenced under Quarterly Reports on the Investor Center page. Joining me on the call is Byron Boston, Chief Executive Officer and Co-Chief Investment Officer; Smriti Popenoe, President and Co-Chief Investment Officer; and Steve Benedetti, Executive Vice President, Chief Financial Officer and Chief Operating Officer. And with that, it is my pleasure to turn the call over to, Byron Boston.

Good morning. Thank you. Thank you, Alison and thank you everyone for joining our third quarter call. As many of you know, who have followed us for a long time, we manage our shareholders' capital for the long term. One of our core strengths is understanding the environment in which we operate, positioning board and adjusting that position as the environment changes. We believe the beginning of this decade marked a major change in the global economic and capital markets environment. It has been a great environment for Dynex to build on our solid track record of industry-leading performance as you can see on slide 12, concluding the 21% cumulative shareholder total return since December 2019. As we finished the third quarter, we continue to be excited about how we have performed during this period and how we have positioned our balance sheet for the future. We're in a unique moment in history, and we believe every asset management team around the globe will be challenged by unforeseen surprises as we have already continually witnessed over the past 22 months. At Dynex, we believe this environment calls for patience, discipline and flexibility. We also believe that this is a great environment for our stakeholders as we expect to see attractive opportunities to deploy capital. Our experienced management team has proven time and again that they have a flexible mindset to successfully navigate any operating environment and to generate above average cash dividends and a solid economic return for our shareholders. And with that, I'm going to turn it over to Steve and Smriti, who will give you far more details around the specifics of the third quarter.

Thank you, Byron and good morning, everyone. For the third quarter, we reported comprehensive income of $0.09 per common share and a total economic return of $0.06 per common share or 0.3% for the quarter. We also reported earnings available for distribution of $0.54 per common share a 6% increase over last quarter and well in excess of our $0.39 quarterly common stock dividend. On a year to date basis, through the third quarter, we have paid a $1.17 in dividends. Book value per common share declined modestly to $18.42 from $18.75 or 1.8% primarily from economic losses on the investment portfolio, principally in lower coupons relative to our hedge position. As Smriti will discuss later in her comments, we've recovered this declined post quarter end with the curve steepening, which has occurred since then. Beginning this quarter, consistent with others in our industry, we have renamed our non-GAAP earnings measure to earnings available for distribution from co-ordinate operating income. All prior quarters have been relabelled to earnings available for distribution. There have been no changes to the calculation of the non-GAAP measures and the adjustments made to reconcile the comprehensive income, the earnings available for distribution are identical to those previously used to reconcile the coordinate operating income. We believe that the caption earnings available for distribution more accurately reflects the principle purpose of the measure and will serve as a useful indicator, but not the only indicator in evaluating the company's performance and its ability to pay dividends to common shareholders. Other factors that are considered in the dividends to common shareholders include our taxable income, total economic return, gains and losses including carry-forwards for tax purposes and our outlook for future performance. Turning back to the discussion of the performance, the increase in earnings available for distribution…

Good morning, everyone. And thank you, Steve. I'll briefly discuss performance drivers for the quarter and then turn to our macroeconomic outlook and portfolio construction. We communicated last quarter that the risk of a whipsaw in rates was substantial. During the quarter, the 10-year treasury yield touched a low of 1.13% twice and ended the quarter virtually unchanged at 1.46% with a 44 basis point intra-quarter trading range. We also indicated during the quarter that we had maintained a portfolio structure, a hedge with the long end of the yield curve through July and we continue to hold that hedge position through today. Book value on September 30 was at $18.42 and thus far as of October 22 book value is up between 2% to 2.5%. Our trading discipline and top-down macroeconomics centric approach continue to serve us well and remain the cornerstone of our decision-making framework. Leverage at the end of the quarters stood at 5.9 times down from 6.4 times at the beginning of the quarter. As Steve mentioned, we decreased our exposure to convexity by selling TBA Fanny two and a half, and to add to dry powder, to make future investments With the recovery in book value quarter to date, leverage stands at 5.6 times and the liquidity position is over $500 million. At this current level of the balance sheet, we expect earnings available for distribution to continue to meet or modestly exceed the current level of the dividend in the fourth quarter with any excess returns providing a cushion to capital. Book value will continue to fluctuate with the level of interest rates and mortgage spreads. Due to book value volatility is mitigated by our low leverage, substantial levels of liquidity and the dry powder that we have to deploy capital opportunistically. Turning now…

Let me wrap up with a couple of comments. Dynex Capital is the oldest REIT focused solely on financing real estate assets in the United States. We've encountered and navigated every market environment for 33 years. Today, we are building a resilient organization to last the next 33 years and beyond. We're making investments in people, processes and technology that will allow us to rapidly adjust to a world that is destined to change. We're also focused intensely on maintaining your trust by how we manage our risk, how we treat our employees and how we positively impact our community at large. We are positioned for this environment and we're excited about our opportunities. Through our years of experience, we have learned that the best opportunities can appear at the most uncertain moments in the capital markets. Please look at our journey on slide 11 and join us as we continue to build our company on the foundation of ethical stewardship and excellent performance over the long-term. Thank you and operator we're open for questions.

Thank you. [Operator instructions] Your first question comes from Doug Harter of Credit Suisse.

Hi, this is John Kolz on for Doug Harter. First thanks for the color around leverage here and I see as we're at 5.6 turns now, and you mentioned that eight turns seems to be that target. What would you need to hear from the fed to start to take that up and kind of what would be the pace of taking it up to get towards that eight times target?

Hi. John. Thank you for the question. So I guess, I'm not necessarily waiting to hear from the fed. I think it's really a question of finding the right moments of volatility and the market reaction to potentially things that the fed says that would help -- that would help us to make those investments. We're really expecting the next six months to give us those chances. There's a lot of factors in play here between now and March of next year. The curve volatility would be something that we would use as an opportunity to invest. So I think what you can think about us as yes. We do want to take the leverage up to eight times. We do think we'll get the opportunity to do that selectively over the next six months. And then just to put it in context of where returns are today, it's not that returns today are bad, returns today are actually quite good. It's just that believe that we'll get a chance to really enhance existing returns during periods of volatility. So existing returns and low coupons are really quite solid. So we always have the option to take this leverage up. And we're just looking for that extra ability to put the alpha back in the portfolio. So I would say in the next six months, we're expecting volatility to help us make that investment decision to get us back up to that eight times target.

Great. Thank you. And just sort of on that comment you made about returns and low coupons. Could you just give me an idea of how attractive TBAs versus spectacles are and what those returns are and the level of returns are in each of those?

Sure. Yes. So, again, the local ones are still really the place in which we find the most attractive returns twos and two and a half unadjusted for, unadjusted for the role. You're seeing sort of low double digits 10% to 12% types of returns depending on where you hedge on the yield curve. Once you include the roll, you're adding another 3% to 5% returns based on the dollar roll at this point. So roughly, minus 30 to minus 50 basis points on the roll for implied financing in 30 years, we're actually seeing outstanding financing costs in the 15-year market as well in the TBA position. So that's really providing an incremental suite of 5%, but look, you're already adding that on to double digit returns even without that on the TBAs.

Your next question comes from Trevor Cranston of JMP Securities.

All right, thanks. Another, another question on the leverage, I guess in the very near term as you guys look at the market, if we see spreads on MBS kind of roughly stay flat over the short term, or even grind a little bit tighter, are you guys looking to reinvest pay downs or in that type of environment, would you potentially let leverage even continued to drift lower from where it is today? Thanks.

That's a good question, Trevor. So we have tended to allow the leverage to drift down. Having said that, I think, again, in bouts of volatility we would expect to make some type of investment decision either on the assets side or the hedging side to add to returns. So I think the idea is, 5.6 times is a relatively good position. It might drift down a little bit lower, but really not looking to de-lever a whole bunch from this level.

Okay. That's helpful. Then to follow up on the comments you just made about, the incremental returns that role financing is providing and low coupons. Can you talk a little bit about how you expect the role specialists to behave and evolve, once the fed actually starts to implement taper?

Sure. Yeah, so, there's really two different components to that. One of the reasons there's a supply factor and a demand factor as well as the overall level of the asset yield itself and typically what you'll see here as the fed tapers, we should see the specialness in dollar old financing decline. But it also depends on the level of interest rates and what the current coupon is at the time. So there are situations where you have coupons that are not being created, for example, in the 2% coupon, not really being the the major supply coupon for the moment. The specialness in that coupon could persist for a little bit longer. The fed owns a lot of that coupon in their balance sheet. But you should see that level of specialness decline and really we anticipate as the specialness declines, the asset yield will typically adjust higher to reflect the lack of that specialness. So there's a little bit of a push me pull you type scenario. But once again, don't forget, you're already looking at relatively solid returns without the specialness in the dollar roll market at this point. So that is somewhat icing on the cake at the moment which we expect to decline over the next six months to 12 months. It won't be immediate is the main point. It's not going to be like tomorrow, as soon as the fed tapers, we don't expect the role to really like collapse.

Sure. Okay. I appreciate the comment. Thank you.

Your next question comes from Bose George of KBW.

Hey everyone. This is actually Mike Smith on for Bose. So my first question is one kind of on the macro backdrop, when you think about the taper, some fiscal policy uncertainty, and what's going on with inflation and how that all relates to interest rates and volatility, I was just wondering kind of high-level what scenarios keep you up at night. And then what scenario is kind of the best case for agency MBS investors.

In terms of, in terms of interest rates, you mean?

Yes.

Okay. Yeah. Well, everything I have to say, the environment is such where I think there's not much sleep to be had, period. We are in a very unique environment, as Byron mentioned. This type of scenario has not been really experienced by the globe ever. And so, we are up at night a lot thinking about the risks and where these surprises could come from. So one of the key ways in which we manage our position is we're not here trying to predict what's going to happen, but instead what we do is actually prepare for different scenarios to make sure that we're ready with a game plan in the event XYZ happens. So that's a real key in terms of how we position ourselves and how we respond to what happens in the market. From here, significantly flatter yield curves or inverted yield curves would be scenarios that would be challenging for fixed income securities in general mortgage securities in particular, right? So anytime the curve flattens or inverts, I think you'll have that challenge. That's not in the necessarily the base case expectations in the market, but that would be a scenario, I think that would be challenging for agency RMBS. Other than that, I think in general, you got to think about agency RMBS a very liquid asset. Just because the fed is tapering does not necessarily mean lack of support for agency RMBS because of the stock effect of that balance sheet. So you will really see longer-term good support for MBS spreads until the fed basically reduces the balance sheet and stops reinvesting. That reinvestment is a very powerful positive factor for agency RMBS. And again, I can't emphasize enough how difficult it is to basically say if X then Y in this type of market there are so many factors in place that the market could price one thing today and price a different thing tomorrow. And that's where, when you really have to understand what the underlying factors are and make sure that what position you're in and why you're in that position. So, today the curve is flattening a few days ago it was steepening. We're ready to manage through all these gyrations and we have a game plan for these scenarios. And the thing that keeps us mostly at night is just the potential for surprises, which is really massive at this point. So, we're respecting that by having a low level of leverage. We're respecting that and that's, sometimes the best way to avoid risk is to not own it and that's how we've expressed that in our little levered position.

Great. Thank you very much. I appreciate the detailed response. And then just one more question, are you seeing any changes to, or hearing any chatter with regards to MBS demand from banks just given the pickup and loan activity?

Yeah, I think that is a wild card. As I mentioned, the technical factors in MBS, they're not that great, right? So you've got an, a net seller coming back into the market in terms of the fed potential. As this economy starts to pick up and loan demand starts to pick up, there's going to be less reason for banks to own this asset class or buy this asset class. It hasn't happened yet. But that is a wild card. And without that, I think that, that's why you're going to really -- you're going to see potentially some challenges in MBS tightening too much from here. So, if you look at the balance of risks, probably not too much tighter, a little bit wider, maybe not too much wider, but it's spread volatility in the MBS market itself is not what concerns us. It's really the macro volatility that concerns us and has us in the position that we're in.

Your next question comes from Eric Hagan of BTIG.

Hey, thanks. Good morning. Is there a point at which you guys need to move back into a larger concentration of pools versus TVA's to satisfy the whole pool test? Can you share how much flexibility you have on that front?

Hi, Eric. Yeah, so I'm going to let Steve describe to you the flexibility around that. We have tremendous flexibility around the whole pool test. That is actually not the main driver of the percentage of TBAs that we hold. So we are well in with that, but I'll let Steve just describe how we think about the percentage of TBAs and what the metric is that's the relevant metric for that?

Hey Eric, good morning. Smriti is right. From a whole pool perspective the value of the TBA is the net fair value and so it's not a gross notional, so it doesn't really count that much against you from a whole pool perspective and managing to the 40 act [ph] from a REIT income perspective, you do want to make sure you're managing the exposure to your income test the 75% test and 95% tasks, and particularly at 75% test. So we do watch that at these levels. And I think we've commented in the past on this, at these levels, we're very comfortable being able to manage the REIT income tests for the TBAs that are on the balance sheet today.

Got it. Okay, good. Good to know that you have the flexibility there. Okay. So being in the TBA and hedging with futures, I guess, commands you could say a fair amount of attention and fine tuning, if you will. Can you shed light on how active you guys are in flexing in and out of those positions and turning over the portfolio right now?

Yeah. Hi Eric. So again, when I look back at this past quarter with the 10 year note touching 113 a couple of times, the most important thing we did was actually not doing anything. It was hard and so that takes discipline. It takes understanding the market that you're in, it takes understanding why the market moves the way it moved. So the only repositioning that we did last quarter was really getting out of that convexity risk and the two and a halves. And then we've methodically started to layer in some hedges in the front end of the yield curve and the five-year part of the curve. And we've been doing that all year really, but beyond that, we do not want to over-trade or over-manage the position. So we do have some very core principles by which we're thinking about our head ratios and where we hedge on the curve. But again the second, this third quarter was a quarter in which you could have really made a lot of mistakes over hedging. We don't think this is an environment where you're supposed to make many, many small decisions. We've chosen to and we think this is the right strategy, which is, you really want to have a core position and then you make adjustments around the edges. If anything, our biggest expression of the risk that we see in the market right now is the level of leverage that we have and how much dry powder we have to be able to add to that incremental return as we see opportunities come in

Your next question comes from Jason Stewart of Jones Trading.

Hey, good morning. Thanks for taking the question. I appreciate the comments on elevated prepays and capacity in industry, and I was hoping you could sort of dig into that a little bit more. It sounds like maybe models, overestimate burnout in your opinion, but when you look through up and coupon inspect pools, do you think there's anywhere to hide? Are there any pockets of value that you think remain out there?

Yeah. Hi Jason. So yes, there's always places to hide. It's just a matter of what price you're willing to pay and whether or not you get value for the money when you pay that price. Right? So if you look at low balance three and halves or fours or anything of that nature seasoned paper that's already somewhat burned out, there are definitely places to hide and people with big positions in those coupons, have places to hide. If you're trying to enter that trade today, I think that's an expensive way to purchase call protection. So, I think that is a lot of IO risk and we've been hesitant to take that risk. We feel more comfortable really keeping our position in the lower coupons. I also think structurally there are many things that are fundamentally in play here to destroy returns from iOS in general, right because there's the government policies against you, the competition in the industry is against you, there's just structural factors in here that over time are just going to erode these returns. It may not show up in the pricing today. But over time, I think, if you're trying to buy this call protection at the price today, it's less likely that you're going to get value for your money over time. And for that reason, that's what explains our positioning. But there's no reason to believe that, people who are already in the trade or have that position on won't realize value from that. It's just challenging to pay today's prices for that protection and expect that you're going to get value for money.

Right. No, that's helpful. So it sounds like you believe that whoever ends up being FHFAs had continues to push the credit box at least marginally wider.

Absolutely. And it's already happening.

Okay, great. Thank you for that. And then Steve, I just want to clarify two quick things to make sure I wrote down correctly, on the $800,000 of increased expenses, how much of that was one time versus the operating platform expansion?

90% of its one time.

Okay, perfect. Thank you very much. Appreciate taking the questions. Thanks. Yep.

[Operator instructions] Your next question comes from Christopher Nolan of Ladenburg Thalmann.

Hey guys. On the question of the operating expenses Steve, any sort of guidance you can give in terms of where you think operating expenses will be coming quarters.

Yeah. I think if you adjust Chris, for that one time, you get a pretty decent run rate.

So you expect it to be fairly steady.

Yeah. Yeah.

And then follow up question. The $27.9 million equity raise, is that net or gross of underwriting fees.

That's going to be net of all costs related to that issue.

At this time, there are no further questions. I'll now turn the floor back over to Byron Boston for any additional or closing remarks.

Last word to our shareholders. This is a complex global environment, and you have a very seasoned management team, very disciplined and very comfortable in operating in a complex environment. So with that, we thank you for leaving us with your savings and we intend to continue to manage for the long-term in an ethical manner. And we look forward to you joining us for our call to discuss the entire year and really in the first quarter of 2022. Thank you so much. Have a wonderful day,

Ladies and gentlemen, this concludes today's event. Thank you for your participation. You may now disconnect.