Good afternoon and welcome to the Anworth Second Quarter Earnings Call. All participants will be in listen-only mode. [Operator Instructions] After today’s presentation, there will be an opportunity to ask questions. [Operator Instructions] And please note that today’s event is being recorded. Before we begin the call, I will make a brief introductory statement. Statements made on this earnings call may contain forward-looking statements within the meaning of section 27A of Securities Act of 1933, as amended, and Section 21E of the Securities Exchange Act of 1934, as amended, and hereby claim the protection of the safe harbor provisions of the Private Securities Litigation Reform Act of 1995 with respect to any such forward-looking statements. Forward-looking statements are those that predict or describe future events or trends that do not relate solely to historical matters. You should not rely on our forward-looking statements because the matters they describe are subject to assumptions, known and unknown risks, uncertainties and other unpredictable factors, many of which are beyond our control. Statements regarding the following subjects are forward-looking by their nature, our business and investment strategy, market trends and risks, assumptions regarding interest rates and assumptions regarding prepayment plans and mortgage loans, securing our mortgage-backed securities. Our actual results may differ materially and adversely from those expressed in any forward-looking statements as a result of the various factors and uncertainties. Certain risks, uncertainties and factors, including those discussed under the heading Risk Factors and our annual report on Form 10-K and other reports that we file from time to time with the Securities and Exchange Commission could cause our actual results to differ materially and adversely from those projected in any such forward-looking statements we make. All forward-looking statements speak only as of the date they are made. New risks and uncertainties arise over time and it is not possible to predict those events or how they may affect us. Except as required by law, we do not intend to publicly update or revise any forward-looking statements, whether as a result of new information or expectations, future or a change in events, conditions or circumstances or otherwise. Thank you. I would now like to turn the conference over to Mr. Lloyd McAdams, Chairman and Chief Executive Officer of Anworth. Please go ahead.

Thank you very much. I am Lloyd McAdams and I welcome you to this call today where we will discuss the second quarter operating results of our company. With me today is Joe McAdams, President and Chief Investment Officer; Brett Roth, Senior Vice President; and Chuck Siegel, our Chief Financial Officer. I will participate on the call later. I will now turn the call over to Joe McAdams, our President and Chief Investment Officer. Thank you.

Thanks, Lloyd. For the second quarter Anworth’s core earnings were $12.3 million, or $0.13 per common share, decline from $13.7 million, or $0.14 per share, in the first quarter. This decline was driven primarily by the paydown expense related to increased prepayments on our agency mortgage-backed security portfolio as well as some continued narrowing of the net interest spread we are earning on our nonagency MBS investments. Relative to the agency prepayments, while we expect current higher interest rates to reduce refinance and prepayment activity generally in the future during the second quarter, agency prepayments rose due to higher refinancing and adjustable-rate MBS, as the underlying loans have seen their interest rates rising in recent months. In addition, there is also the general seasonal effect of higher prepayments coming out of the winter months. Comprehensive income, which also includes all realized and unrealized gains and losses in the market value of the entire portfolio and related liabilities were $500,000, or $0.01 per share, for the quarter. This was lower than core earnings due to a decline in the market value of both the agency MBS portfolio, net of interest rate hedges as well as the mortgage credit portfolio, as interest rates rose by approximately 20 basis points during the quarter. Looking at Anworth's portfolio, you'll see the agency MBS holdings, including the notional value of our TBA positions, declined from $4.8 billion to $4.6 billion during the quarter while nonagency MBS holdings were relatively unchanged in size on the quarter. Total assets, including loans consolidated on the balance sheet as well as residential properties totaled $6.1 billion at quarter end. Within the agency MBS portfolio, adjustable-rate MBS declined from 41% of the portfolio to 39%, with 23% of the overall agency portfolio continuing to be fully indexed and currently resetting adjustable-rate MBS. Of the fixed-rate MBS holdings, 42% of the portfolio are 15-year maturity MBS, with the balance in 30-year fixed-rate MBS. The coupon on the agency MBS portfolio rose from 3.19% to 3.26% during the quarter, with the currently adjusting ARM coupon rising 17 basis points to 3.71% at quarter-end. As I mentioned earlier, this increase in interest rate did result in higher agency prepayments on the quarter, with the prepayment rate on agency ARMs rising from 17% to 21% annualized rate, and the overall portfolio increased to – agency portfolio increased to a 16% CPR. With that, I will turn over to Brett to discuss our mortgage credit investments.

Thanks, Joe. During the second quarter, there was some volatility in mortgage credit spreads. We saw spreads tightening at the beginning of the quarter and then widened back out. By the end of the quarter, spreads were slightly tighter than where we were at the end of last quarter. In general, investors' appetite for mortgage credit assets has remained strong. Activity in the market seems to have slowed recently, but that seems more linked to the time of year, summer, and a change in sentiment toward this asset class. In terms of valuations, our portfolio benefited from the slight tightening in spreads, although the market value of our assets is lower due to the rising interest rates. That decrease was somewhat offset due to the previously mentioned spread tightening. While maintaining our disciplined approach to valuing assets, we were still able to continue to selectively add assets at attractive yields to the portfolio during the quarter, and investment activity was slightly greater than portfolio runoff. Specifically, we added assets mainly in the non-performing and agency risk transfer asset sectors of the portfolio, with a very limited amount of acquisition in the legacy CUSIP Alt-A sector of the portfolio. The legacy portfolio continues to benefit from the credit performance of its underlying assets. In general, during the quarter, CDRs were trending downward in our legacy portfolio. The voluntary prepayments fees in our legacy CUSIP portfolio slowed as we would expect in this environment, while our agency risk transfer portfolio experienced a slight increase in voluntary prepayments fees. Turning to our loans held in securitization trust. The credit performance of these assets continues to remain strong with default at zero CDR. These assets have been benefiting from positive HPI and the overall positive economic environment we have experienced over the last few years. The result of this we see, in general, that the underlying mortgage holders in these securitizations have further strengthened their credit, and the value of their properties have continued to increase, which has resulted in lowering their HPI-adjusted LTVs. We continue to see these mortgages have opportunities to refinance their current mortgage and, in spite of higher rates, are continuing to do so at elevated voluntary rates that are still in line with our original expectations. On the funding side, we continue to add new counterparties to our mix of lenders and to prudently manage our financing book and, therefore, our cost of funds. This activity has allowed us to help offset some of the cost of the rise in interest rates. Looking forward, we continue to feel that we are in a good position to take advantage of investment opportunities as they arise in the current market. We continue to look to find attractive assets to add to the portfolio across all sectors of mortgage credit. Thanks, Joe.

Great, thank you. Looking at the portfolio financing overall, total repo borrowings decreased from $4.2 billion to just over $4 billion at June 30. The average repo rate at quarter-end was 2.24% up from 1.92% at March 31. Our interest rate swap positions lessened the impact of this increase, with the net interest rate after accounting for hedges rising nine basis points 1.97%. The average maturity effective maturity of these borrowings after adjusting for the hedges was 3.0 years at quarter-end. As a result, the overall portfolio leverage decreased to 5.9 times total capital, with the effective leverage, which includes the effect of implied TBA dollar roll financing, was at seven times capital, down from 7.2 times at March 31. We did increase our swap position slightly during the quarter to $3.1 billion of notional balance, which is approximately 78% of the total balance of all of our outstanding repo borrowings. The portfolio's net interest spread did decrease on the quarter to 112 basis points. Again, the primary driver of this decrease was increase in paydown expense from the agency MBS portfolio. During the quarter, we declared a dividend of $0.14 per common share based on the closing stock price for the quarter. This was equivalent to an annualized dividend yield of 11.3%. Book value per share decreased to $5.33 per common share at June 30. The combination of the $0.14 dividend and the $0.15 decline in book value resulted in a total return on common equity of negative 0.2% for the quarter. And with that I would like to turn the call back over to Lloyd.

Thank you very much, Joe and Brett. Before we answer your questions that you may have, I'd like to note the June 15 press release in which the Board of Directors announced that as of September 30, 2018, Joe McAdams, our Chief Investment Officer, would become Anworth's Chief Executive Officer, that I would remain as Chairman and also continue my role as Corporate Manager of Anworth Management, LLC, which is the manager of Anworth. The succession process has been placed for several years, and now it's a good time to move forward with Joe as the CEO, as Anworth continues to expand its transition from agency to hybrid mortgage REIT. Lastly, and during the past 20 years as Anworth's CEO, I've had the pleasure and opportunity to meet and get to know many of the leaders in the development of the residential mortgage REIT sector, whose as company managers, investment bankers and security analysts has resulted in the significant presence that mortgage REITs have today in our capital markets. So with that, I will return the call back to William so that we can respond to any questions that you might have.

[Operator Instructions] And our first questioner today will be Doug Harter with Credit Suisse. Please go ahead.

Thanks. First, Lloyd and Joe, congratulations on the transition. And then second, as you're looking at the portfolio and kind of given the outlook for the yield curve, I guess, how should we think about the compensation of the Agency portfolio going forward?

Sure, thanks Doug. This is Joe. As we move forward, I think, we're going to continue to see sort of the trend that we've been following for the past quarter or two, which is a continued sort of rotation into more fixed rate MBS. And within that sector looking to find securities that will perform well as the curve remains flat or if the curve were to get a little flatter. So I do think we're going to see longer duration MBS, more 20 and 30 years and more fixed rates in general relative to the ARMs sector within the agency MBS portfolio. We are seeing spreads on new investments, between 90 basis points to 110 basis points. So those are attractive and accretive relative to the agency MBS that are rolling off of the portfolio. And I think the overall allocation between – as Brett pointed out, we have while spreads are tighter in general, we’re still finding good opportunities to add attractive assets on the residential credit side. To-date that's been more about maintaining the overall size allocated to non-agency MBS holdings, but I think the overall mix between agency and non-agency is relatively stable going forward from here.

And then Joe if you continue to rotate into more 20-year, 30-year MBS, how should we think about your interest rate exposure going forward?

We're not looking for that to change. We've had an overall portfolio – interest rate gap of between a quarter year and a half year. I think that will continue to maintain. As you've seen in the past couple of quarters the overall swap balance will continue to rise as a percentage of overall repos, as we have less ARMs, and we have more fixed-rate hedge as well as the tenor of those hedges would continue to increase as well, depending on the duration of the new assets.

Got it. Thank you.

Thanks Doug.

And our next questioner today will be Steven Delaney with JMP Securities. Please go ahead.

Hello everyone. Lloyd let me also extend my congratulations to you on your career and Joe to you for your promotion. And Lloyd, nice to know you're not going to be too far away. So congrats to both of you. I guess a couple of things and this kind of ties into Doug's question. We saw really rough second quarter environment for these short ARMs when we spoke to Capstead last week. I'm just curious you shared your CPR on the total ARM portfolio is 21%. I'm wondering if you'd be willing to comment on what that looked like for just the fully indexed short reset ARMs?

Sure. The – first things first, if you look at the – I’m hoping to see if I have it here for you, on just those ARMs. The overall portfolio CPR was 17% for the quarter and just the ARMs that are resetting was 32% CPR during the quarter, so 21% was the entire ARM and 32% was for the fully indexed ARM. Also as point of reference, we are a month into the quarter, so we have seen some decline in prepayments so far during the third quarter. I think the overall portfolio CPR was 16 for the first month and then, in the same vein, reduction of 32% to 27% on those fully indexed ARMs that you referenced.

While your comments to Doug were clear, you are going to move to longer duration and the flattening of the curve is kind of forcing that. But it seems to me these short ARMs, while they're fantastic for managing the duration and we love them, and anytime other than a flat curve they're a great asset. It feels like at this point that they're really dragging the overall portfolio. It seemed like the spread on those is next to nothing when you have to deal with the amortization at the basis. So I know you're thinking about that more than I, but we saw it with Capstead, MFA and now again in your reports up. So my opinion is – thought is as you were describing to Doug, I would get on, I think getting on with it and – because it seems to be they’re not to get better anytime soon?

You're right, ARM, we've – there have been periods we've had ARMs as a part of our portfolio for the last 20 years

I know you have.

So we certainly know a good deal about them. They tend to perform better at the beginning of a tightening cycle when the yield curve is steep. When rates rise in a steep yield curve environment they perform very well. But they are vulnerable to a lot of refinancing activity in a flat or inverted yield curve. I would point out that obviously in terms of the expense of premium amortization, and the pay down expense, that's relative to the cost basis of the securities and they do have a cost basis that is significantly lower than the current market price. But again, when it comes to the total return, when you have something prepaying quickly, that's going to be a drag on the total return.

Understood. And your agency repo at June 30 was 207. I don't – I assume that doesn't fully reflect the Fed's June hike. Where are you today? What are you paying kind of on the run on 30 and 60 day repo today on agency?

Let’s see if I can get that. It's obviously a little higher. I don't – sorry, Steve, I'm looking for my currency app. I don't see – it is a little higher. But likewise, on – the swap rates continue to reset higher as well. So in terms of our overall hedged position, as I pointed out, we've got 78% of our repo balance that is covered by the swaps. And as we've discussed, there's a decent number of ARMs as well that have seen the coupons are higher.

Right. And you're mostly receiving three-month LIBOR, I recall. Is that correct?

Yes, correct.

Yes, great. Okay. And Chuck, this is – I have one last one. This is maybe best addressed to you. Is there anything, whether it's because of your single-family rental, is there anything that would cause your taxable income on a quarter-to-quarter to exceed your GAAP income?

Hi, Steve. This is Chuck Siegel. The taxable income, there are several things that are different from our book or GAAP income. One is on the nonaccretable discount that are on our nonagency bonds. For book purposes, we don't recognize any of that into income. But for tax purposes, they do not recognize any discounts as a discount and have to be taken into income. So there's going to be an increase to taxable income because of that. We've had that for the last couple of years. And then depending on whether we have the – the other big adjustment usually from book income to tax income is related to the unrealized gains or losses on swaps, which are not recognized for tax purposes. So this year, we happened to have a sizable amount so far in gains on swaps. So that will likely be reversed out and would tend to offset that increase in the nonaccretable discount that's being taken in for tax purposes, may actually even be more than offset that. It's possible that our taxable income could be less than our book income.

Okay, got it. So it's not clear that it's going to be higher. I guess, I'm asking because for a couple of quarters now, even though you did take the dividend down by a penny, but it has been – the dividend has been exceeding GAAP earnings and has a modest impact on book value. And unfortunately, it looks like the – not just for ANH, but for most of the agency mortgage REITs that this near-term trend quarter-to-quarter appears to be headed towards lower earnings, which necessarily is going to put pressure on the dividends. So I just wanted to ask if there are – some companies have a undistributed taxable income cushion, if you will, and that's certainly an explanation for why the dividends would continue above currently reported GAAP income. So thank you for the color there.

I would say if Joe could clarify it, but our tendency has been in the past more to relate our dividend to our core income as opposed to our taxable income.

Got it, okay. Taxable is your requirement, but the board's policy is to track core.

That’s correct. And as described earlier, I have found them through my papers for you, Steve, but 213 is where our current repo rate.

Yes, but I was thinking 210 to 215 in that range. Okay, thank you all for your comments today.

Thanks Steve.

[Operator Instructions] Okay. And there look to be no further questions at this time, so this will conclude our question-and-answer session. I would like to turn the call back over to Lloyd McAdams for any closing remarks.

Thank all of you for participating in this call today, specifically to those of you who are on the call with us in person, for those of you who'll be listening to our replay shortly on the Internet and for those of you who'll be reading the transcript. We look forward to having this call again in early November and look forward and appreciate to your continued support. Thank you very much and everyone enjoy your weekend.

And the conference has now concluded. Thank you for attending today's presentation. You may now disconnect your lines.