ORC - NYSE

Good morning, and welcome to the Second Quarter 2025 Earnings Conference Call for Orchid Island Capital. This call is being recorded today, July 25, 2025. At this time, the company would like to remind listeners that statements made during this time-- the company would like to remind listeners that statements made during today's conference call relate to matters that are not historical facts or forward-looking statements subject to safe harbor provisions of the Private Securities Litigation Act of 195. Listeners are cautioned that such forward-looking statements are based on information currently available on the company's management -- on the management's good faith. Belief with respect to future events are subject to risks and uncertainties that could cause actual performance or results to differ materially from those expressed in such forward-looking statements. Important factors that could cause such differences are described in the company's filings with the Securities and Exchange Commission, including the company's most recent annual report on Form 10-K. The company assumes no obligation to update such forward-looking statements to reflect actual results, changes in assumptions or changes in other factors affecting forward-looking statements. Now I would like to turn the conference over to the company's Chairman and Chief Executive Officer, Mr. Robert Cauley. Please go ahead, sir.

Thank you, operator, and good morning. As usual, we'll be going through our deck over the course of the call. Hopefully, you've had a chance to download that from our website. We placed it up there yesterday afternoon. With me today is Hunter Haas, our Chief Investment Officer and Chief Financial Officer; and Jerry Sintes, our Controller. As usual, following the table of contents, first thing we will do is go over our financial highlights. Jerry will handle that for us. I will go through the market developments and focus on what happened, how that impacted us, our performance and our decision-making. And then Hunter will go over the portfolio characteristics and our hedge positions before we open up the call to questions. So with that, I will turn the call over to Jerry.

Thank you, Bob. If you turn to Page 5, we'll start with the financial highlights for the quarter. During the quarter, we reported a loss of $0.29 per share compared to income of $0.18 per share in Q1. It should be noted that excluding realized and unrealized losses, that was a net income of $0.16 per share, which is the same as Q1. Book value decreased from $7.94 per share at 3/31 to $7.21 at $6.30. Our total return for the quarter was negative 4.66% compared to 2.6% in Q1, and we reported $0.36 of dividends in both quarters. Turning to Page 6. We'll go to portfolio highlights. We had average MBS during the quarter of $6.9 billion compared to just under $6 billion in Q1. We had -- our leverage ratio at 6/30 was 7.3, which is down from 7.8 at 3/31. Our prepayment speeds during Q2 was 10.1% compared to 7.8% in Q1. And our liquidity at 6/30 was up to 54% from 52%. On Page 7 is our summarized financial statements. These are the same as what was in our earnings release last night, and we'll have more detail presented with our 10-Q that will be filed today. So with that, I'll turn it back over to Rob.

Thanks, Jerry. I'll now go through the market developments for the quarter. And as we all know, there were 2 big events that occurred in the quarter, one much greater than the other, the first of which was the reciprocal tariffs announced in early April, what was known as Liberation Day. Later in the quarter, the administration what became known as the One Big beautiful bill was passed. It was signed into law on July 4, although the heavy lifting to get the bill to the point where it could be signed occurred late in the quarter, and it definitely had an impact on the market and outlook, although much less than what occurred early in the quarter. Obviously, what happened in early April was not quite as bad as the onset of COVID in March of 2020, but pretty significant. There was obviously a lot of forced deleveraging and there was a lot of concern in the market about a host of things, the sanctity of the dollar and the flight of capital out of the U.S. and so forth. So it was clearly a very chaotic period. That being said, given that we've been doing this for a while, we were quite well positioned for that. We had very high cash positions. Our leverage was on the low end of our range. As a result of that, we were able to limit the deleveraging or selling, if you will, to less than 10%. And we, in fact, actually bought back a little over 1.1 million shares early in the quarter at a substantial discount. Once the dust settled in the quarter, and we kind of basically grinded sideways, we were able to we maintained a defensive position, but we were able to sell some shares. We actually did so at a slight discount to book, but we were able to generate a nice cushion and a cash cushion, if you will. As I mentioned, we were still defensively positioned. We kept the leverage at the low end of the range. Now I'll go through the deck and the slides and try to focus on the things that happened that were of most relevance to us. And there were 2 primary takeaways I want to focus on. On Slide 9, you see the curve, the U.S. treasury curve and the swap curve. And obviously, in the first one thing I want to point out is if you look at that blue line there, that's where the curve was last Friday. The green line is June quarter end and then March quarter end. And you can see the curve has been steepening and that continued in this quarter. And I'll have a fair amount more to say about that as we go on. But also note on the right side, the SOFR swap curve. And I want to point out, if you look at these curves, the horizontal lines line up. So you could effectively put all of these curves on the same. And you can see the gap between the nominal curve, if you will, and the swap curve is wide and has been growing. And that's significant for us. So that's kind of the first takeaway. So swap spreads are becoming extremely negative. And for levered MBS investors who have to hedge their positions using swaps is becoming a very attractive option for us because of the spreads that are available in the market as a result of that. So that's kind of point one. If you go to point 2, that's on Slide 10. So here, we show some of the mortgage metrics. The top is just the spread that we show, and this is a lot of history, 15 years of history going back current coupon spread at the 10-year. That's a 10-year treasury, not swap. As you can see with respect to that spread, I mean, it's still wide by historical standards, but it's well off the extreme levels we saw in late 2023. But in the case of swaps, that's not the case. If you look at the bottom left, we show this every quarter. These are normalized prices for a selection of Fannie Mae 30-year coupons. So all we do, we set the pricing go to 100 beginning of the quarter. And as you can see, I want to point out, that even though the return for the index, the mortgage index and the 30-year subcomponent were positive for the quarter, that's just because there's an income component of total return. Price returns was negative or close to negative in the case of everything but Fannie 6s. So you can see that prices just did not fully recover. And in fact, as we've entered the third quarter, they've continued to soften. So that's -- just keep that thought in mind for a second when you consider the following. When you look at Slide 11, this is a picture of volatility. And in this case, we're using a pretty common measure, 3-month by 10-year normalized vol. This is what we would refer to as gamma. But notice that in this 1-year lookback period, as you saw in early April, vol spiked, which is what you would expect. And so that was the high reading for this 1-year period. But notice over the course of the quarter, how much it fell. So we went from the local high to the local low over the course of 1 quarter -- and if you look back in the middle of that graph, say, late 2024 and '25 when vol was also low, mortgages were doing very well. But you look at where we are now with vol at the lowest levels of this period and they're not. So it's kind of -- that's the second takeaway is this combination of relatively weak mortgage performance even in the face of low volatility, which is counter to what we would expect. And so that means you have attractive assets to acquire and very effective ways to hedge them with the swap market. So those are the two primary takeaways I wanted to focus on. Continuing on with the rest of the deck, if you look at Slide 12, on the left-hand side, you see various swap tenors, 7s, 5, I'm sorry, 2-year, 5-year, 7-year and 10-year. And as you can see in this graph right around the early part of April, these things dropped down precipitously. But note, how, the fact that they didn't recover. They've trended sideways since. So -- and what's driving this and what is driving this is the following with the government running persistent deficits and the market anticipating continued deficits, especially after the passage of the one big beautiful bill, that means that the market is in effect, anticipating heavy treasury issuance. So in the face of very heavy treasury issuance, it's as if nominal treasuries are cheapening to what effectively has become the new risk-free asset, which is a swap yield. And so since the market expects this to continue, and I mentioned earlier that the one big, beautiful bill was passed. And while it's going to be very stimulative for the economy, it also -- if you look at it from a perspective of fiscal deficits, it's not likely to cause a shrinkage of those. So a continuation of deficits, which means nominal treasuries have been cheapening relative to swap yields. And that appears to be something we expect to continue for quite some time. On the bottom right, we show the composition of our hedge book weighted by DB01. And as you can see, swaps, the green area are over -- or almost 80% futures at 21%. Given what I've just said, we would expect that composition to shift going forward in favor swaps more for the obvious reason. Moving on to Slide 13. This is a picture of the mortgage refinancing and housing market. On the left, you can see the refi index versus mortgage rates. The song remains the same. The refi index is at historically low levels. Mortgage rates are high. For the reasons I've been discussing, I would expect that those would continue to stay high. And just to give you some added color, this last week, existing home sales were released. Home prices are at all-time highs. They continue to hit all-time highs. The inventory to sales ratio, which was at 4.7 Typically, 6 is considered kind of middle of the range. But that being said, that's the highest reading since 2016. So inventory levels are building. And when you consider that the consumer is relatively tentative given the uncertainty around tariffs and potential job losses, affordability is at multi-years, if not decade lows and rates are high and likely to stay higher, what does this mean? Well, refinancing activity is likely to stay quite low. And what that means then for carry, particularly higher coupons is that carry could be very attractive. So I'm trying to paint a picture here that shows that based on what's going on in the market, the outlook for mortgage and mortgage investing could be quite attractive. A few more slides before I turn it over to Hunter. Slide 14. I've been showing this one for years or at least quarters rather. And you can see I just have on here the GDP of the U.S. in dollars versus the money supply. And the red line, as you can see, is the government continues to run large deficits and it's keeping growth elevated. It's really buttressing growth. And when you look at, for instance, what happened in '22 and '23 when the Federal Reserve raised interest rates by over 500 basis points, yet the economy never really ran into a recession. And even today in the face of these tariffs, the labor market appears resilient. The unemployment rate hasn't grown and spending and consumer spending has remained at least resilient, if not very strong. And what this really means is that you have this deficit spending, which is really preventing the economy from slowing in the face of what would otherwise be typically slow the economy quite a bit, whether it's the uncertainty surrounding the tariffs or the Fed hikes. And so I expect that to continue, which means that come, I would expect to continue to be quite robust. I want to go to a few slides in the appendix. I'll give you a moment to turn the page. If you look at Slide 26, this is new. What we're showing is the term premium as measured by the ACM model. I am not an expert in the ACM model, but I can tell you that it is one widely used and well respected. And what you see in this data, this goes back 25 years, is that for a long period of time up until around 2015, term premiums were positive and in some cases, quite high, up 200, 300 basis points. But then we entered a long period of where they were negative or rarely positive, but that's changed, and we're starting to see the move higher. And for the reasons I've been discussing, I think that, that's going to continue to be the case. And so with respect to, say, for instance, the curve shape, while we may not get as much Fed cuts, as many Fed cuts as the market anticipates, we may. But even if we don't, I think this upward pressure on longer-term rates is going to keep the curve steep, which is again attractive for investors such as ourselves. On Slide 27, another new slide. What we're showing here is the spread of the current coupon mortgage to both a 7-year swap in the case of a blue line and a 10-year swap versus a red line. And as you can see, where we are now, we're in the neighborhood of 200 basis points for the current coupon mortgage to a 7-year swap. We haven't been at those levels since late 2023 when the Fed was just finishing up in a massive tightening cycle and mortgages had suffered mightily. So here we are right back in those levels. And also in conjunction with what I've been saying about the market, generally speaking, all this paints a very attractive picture for mortgages. The final slide before I turn it over to Hunter is Slide 28. I've been talking about this one as well for quite a while. What you see here are bank holdings of mortgages as well as the Federal Reserve. And as we can see in the red line, the Fed just continues to let the mortgages run off their balance sheet. Banks have been growing slowly, but very slowly. The rate of growth is minimal. And they represent one of the most, if not the most important marginal buyer of mortgages. If you look at the mortgage market today, obviously, REITs have been growing, raising capital, but they're still not nearly as big as the bank community. The money manager community has been seeing inflows. They've been overweight mortgages for some time. So they're a good source of demand, but their flows can go both ways and be volatile. So what's really been missing is this big 800-pound gorilla is the banking community from coming in and buying mortgages. And really, I think that's what's a big reason why mortgages have yet to perform well, and we still trade at these cheap levels. So going forward, what could change that? What could cause the banks to become more engaged? Well, one of the points mentioned often is the uncertainty surrounding tariffs. Hopefully, that's behind us relatively soon. We'll see a regulatory relief that's in the works and then obviously, Fed rate cuts, which would further steepen the curve. All of these could combine to cause the banks to be more engaged, and that would represent very much a big wind behind in the sales of mortgages. I guess the final one might be if the economy does get really strong and deposit growth grows at the banks, they could buy more. But it definitely is a source of potential tightening, but we're just not sure when and if that's going to occur. So that's kind of my synopsis of all the macro developments in the market and what those mean for us. And with that, I will turn it over to Hunter.

Thanks, Rob. If you're following along, we'll go back towards the investment portfolio section, starting on Slide 16. During the second quarter, we continued to reposition our portfolio up in coupon. Weighted average coupon increased from to 5.45% from 5.32% at the end of the first quarter, while the realized yield slightly declined from 5.41% to 5.38%, our economic interest spread remains healthy at 243 basis points. We rotated out of lower pay-up Fannie 4s and 5s, $334 million and $137 million, respectively, and increased 5.5s, 6s and 6.5s by $555 million, $145 million and $86 million, respectively. This marks a continued strategic shift away from our barbell approach towards a more concentrated production coupon bias. This has served us well in this recent curve steepening environment that Bob has been discussing. Turning to Slide 17. This slide shows the evolution of our coupon allocation over the past couple of quarters. You can see the meaningful decline in the exposure to 3.5% through 4.5% coupons and a corresponding rise in 5.5% to 6.5% buckets. This shift is deliberate Lower coupon pools, while theoretically easier to hedge, have shown elevated spread volatility during risk-off events, largely due to redemption-driven selling by the money manager community that Bob was just talking about. The combination of the heightened spread volatility, considerably lower realized yields and relatively higher hedge costs resulting from a steeper yield curve have all contributed to the rationale for us to shift away from the barbell into a more production coupon focus. Turning to Slide 18. Our repo funding remains very stable. We had a blended rate of 4.48% in the second quarter, which was basically unchanged from the first quarter. Our average maturity shortened slightly to 35 days. Our all-in economic cost of funds rose modestly from 2.83% to 2.95%, mainly due to swap portfolio dynamics. And we ended the quarter with our leverage at 7.3, down slightly from 7.5, reflecting our disciplined focus on keeping leverage stable in volatile times. The funding environment remains very constructive with repo spreads relatively stable outside of period-end tightness. And at June 30, 2025, and continuing into the third quarter, we had excess borrowing capacity with 24 active lenders and a few more sources of funding in the queue. Turning to Slide 19. To briefly discuss our hedge positions. Our hedge ratio stood at 73% of our repo balance at quarter end, down slightly due to the asset mix shift that I discussed earlier. Going forward, we'll likely shorten the hedge mix and thereby increase the notional balance of the hedges commensurate with the shorter duration of the assets we've been adding. The book is still biased towards interest rate swaps, as discussed earlier, 78% of our DBO1, in fact, and the rest is in futures, predominantly treasury futures. Current configuration leaves us modestly positioned for a higher rate bias and a steeper curve. Mark-to-market on the hedges in the second quarter totaled $0.47 a share or $53.8 million with the majority stemming from our swap positions. While both swaps and treasury futures contributed to losses, the treasury hedges outperformed our swap hedges, and this reflects the sharp tightening in swap spreads following April's hedge fund stop-outs when levered players were forced to unwind basis trades under stress and distorting the price of the treasury curve. Going to Slide 20. I have a couple of points to make here. You'll see the full breakdown. This shows you a full breakdown of all of our hedges, swaps futures and TBA positions. Our swap book had a weighted average maturity of 5.7 years with an average fixed rate of 330. Futures remain concentrated in 5, 7s and 10s, so the FDs, Ts and the Ultras. And at the end of the quarter, we didn't have any short TBAs or swaps positions. Slide 21 shows how the combination of the assets and the hedges to our current risk profile. This shows our interest rates -- Page 21 shows our interest rate sensitivity by coupon. Our portfolio is now, as I mentioned, more weighted towards lower duration assets, and we have maintained a slightly higher duration on our hedges, giving us the curve steepening bias that I alluded to. We expect positioning to be -- this current positioning to be resilient in a bear steepener or higher rate scenario and while still capturing meaningful carry because spreads of mortgage assets over swaps are very elevated at the moment. Slide 22 -- our dollar DVO1 for RMBS is $2.285 million, while the hedges is $2.492 million, leaving a modest negative duration gap of $207,000. This equates to 0.17% exposure in an up 50 parallel shock, which is very manageable. Our strategy keeps us agile across rate paths with modest exposure, as I alluded to, to curve shape and lower rates. Slide 23 is our prepayment experience. Prepayments remain pretty muted overall with a slight seasonal uptick, higher coupons continue to see very modest speed increases. though most of them are still in kind of the mid- to high single-digit range. And our deep discount positions continue to benefit from favorable prepay speeds, mostly in kind of the mid- to upper single-digit range, which provides a consistent source of income. Just kind of wrapping things up and giving a little bit of an outlook, Q2 opened with a severe volatility reminiscent of March 2020. The tariff announcements triggered a violent risk-off move and widespread deleveraging. Thanks to our ample liquidity and strong hedge positioning, we avoided large scale forced sales. As the markets stabilized, we raised $140 million in new equity and deployed it into higher coupon specified pools, expanding the portfolio modestly by quarter end. Mark-to-market hedge losses totaled $0.47 per share or $0.538 with swaps accounting for the disproportionate share going back due to the violent swap spread tightening move that we saw in April. Our portfolio shift towards higher coupons has shortened overall duration. And as a result, our hedge ratio as a percent of our repo balance declined slightly. Going forward, we may modestly narrow that gap. Looking ahead, we believe the investment environment for Agency RMBS remains extremely attractive. Production coupon spreads are currently 200 basis points roughly over swaps, which is a historically wide level that presents a very compelling total return potential even without some sort of catalyst-driven basis recovery. Our larger equity base and refined coupon allocation and reduced leverage also provide us with a lot of flexibility going forward to be opportunistic. Our higher coupon specified pools offer a lot of carry and our hedge structure by being biased towards slightly longer tenors is designed to mitigate upward interest rate shocks, the effect of upward interest rate shocks and a steepening curve. So with that, I will turn it back over to Rob for some concluding remarks.

Thanks, Hunter. Just a couple of things I'll mention before we turn it over to question and answer. We didn't dwell a lot on funding. We have seen some volatility in funding spreads around month, quarter and year-end. 3, 4, 5 basis points generally is the range. Otherwise, I would say funding has been stable. We've had no issues whatsoever adding repo counterparties when we need it. As we've seen, we've been growing. So if anything, the complaint we hear from our repo counterparties is they are asking for more bonds, not less. So I would say characterize funding as ample for our asset class with spreads that are somewhat choppy around period ends, but otherwise fairly stable. And then I suspect we may hear this question, but I'll be glad to talk about it more. But with respect to GSE privatization, I think it's not on the immediate horizon. I think it could happen, but our basic takeaway is that with mortgage or housing affordability at multi-decade lows, anything that has any risk of causing mortgage spreads to widen is not something that's going to be pursued. And even if it does, the President has already said, it's just a statement, not law, but saying that they would maintain the implicit guarantee of mortgages. So that would basically de-risk that if it were to occur. Again, who's to say if that actually became law, but at least with the perspective of the current administration and they would try to maintain that. So a couple of that's about it. Otherwise, I would just reiterate -- we expect the market to stay favorable for mortgages. We talked about swap spreads being where they are, that could continue to erode. We'll see what is priced in the market. I think it's quite a bit, but it could potentially get worse. Otherwise, vol being low, curve steep and mortgages looking quite attractive from a carry perspective, all bode well. So with that, I'll turn the call over to questions, operator.

[Operator Instructions] Our first question comes from Jason Weaver with Jones Trading.

So I did a number of about $18.8 million increase in shares over the quarter. I guess that squares with the $140 million capital raise mentioned. I wonder what's your position towards raising additional capital here given the incremental ROE opportunity that you're seeing?

Well, where the stock trades, we would like to see it obviously higher. Let's just talk about ROEs. I would say, obviously, it depends on your coupon mix and leverage ratio. But let's just assume for the moment, a leverage ratio of 8, which is above where we are, but it's a nice round number. And I think that increasing our leverage could be warranted in this environment, given everything we've said. So let's just start with 8% and our current coupon mix. In other words, what we have in the portfolio today. I would say ROEs are 16%, maybe 16. If you were to stretch the composition buys it more up in coupon, you could probably get to about 18%. So that's kind of the range, I would say, which is available in the market. And in terms of capital raising, it's a question of where the price is. We would accept slight dilution to book, which we did in the second quarter, given the chaotic nature of the market and the fact that spreads were so attractive. But going forward, ideally, we would like to be at book or better all the time. And these are still attractive levels, which we really haven't seen in a while.

Agreed. That's helpful. I was also wondering, given the stance towards high coupon positioning, how you're thinking of the premium risk in those, say, 6 and 6.5 pools, I say either 1 point or 3 points of premium today on generics? And maybe that just squares with your view that rates stay higher for longer in the long end.

Yes, I would say so. And we tend to buy -- and I'll let Hunter speak to this more like we tend to buy lower pay up poles and the prepayment experience on those has been very good. The housing market is in a real challenging situation from a perspective of affordability and the ability for people to refinance. And with the curve staying the way it is, with deficits running the way they are and the economy is strong and resilient as it is, it's really hard for me, absent just some external shock to see a big rally in the long end. Now you could argue that's the obvious pain trade it is, but I think carry absent the next shock in higher coupons is very attractive.

Go ahead. First of all, just to chime in on that, all of our premium specified pools are -- have some sort of a story to them. So that's the kind of first line against some sort of a large rally and premium risk. So we've focused on stories that are relatively inexpensive. We try to kind of focus inside of an extra point. But those stores have held up really well as we've had these small kind of micro refi waves over the course of the last year or so. And so I think we're well positioned. We still do have a decent portion of the portfolio in the discount coupon. So that always helps in that big rally scenario. We would see -- expect to see those assets do very well while the higher coupons, specifically like the 6.5s and maybe even the 6s underperform a little bit. And we've seen that happen as we've pushed towards the lower end of the rate range here in the last several months. And the strategy seems to be working relatively well. We keep enough exposure to discounts even if they're more recently just slight discounts, so like the 5s and the 5.5s that I think we're pretty well diversified for both little rally in refi wave as well as a sell-off. That's the other side of it is the 6s and 6.5s have done incredibly well as we push towards the higher end of the recent range. So that's how we think about it.

Got it. And one more, if I may. Did you give an updated quarter-to-date book value?

Apologies if I missed it during the prepared remarks. We did not. And as of last night, and these numbers are not audited, obviously, it's just our best guess estimate. We were down about $0.03 quarter-to-date, about 3%, $0.03.

Our next question comes from Mikhail Goberman with Citizens JMP.

As usual, thanks for the detailed slide deck. Just a quick question on prepay speeds. There was a bit of a spike up in the second quarter. What is your sort of outlook for the third quarter in terms of prepays?

I would say, very muted. Consider that the second quarter is typically the peak seasonal period. Now that's not a premium story or discount story. That's just the nature of the turnover. It was very muted given that. And the brief refi spike was really just because of the rally that occurred early in the quarter. I don't expect that to continue much at all. And again, to the extent we continue to see pressure on longer-term rates, I don't really see how you can have that come back meaningfully.

I would say, I expect them to be muted. Yes. And we've added -- part of that was just the natural seasoning of the portfolio in conjunction with a small refi opportunity similar to sort of what we saw at the end of September, October of last year. pushing into December and January speeds. So I think going forward, we should be in good shape. And we've also added a lot of newer issue spec pools in the upper coupon range. So that should pull that weighted average speed down a little bit going forward.

So I probably expect something with a 8 or low 9 handle as opposed to almost 8% in the first quarter, you'd say?

Yes, I don't have that. Slide 3 months speed was 8.9%, -- is that what you're referring to and then 14.4% in some of the 6s. Yes, I don't know if we get to single digits in those coupons, but I think they will remain in the teens with the possible exception of the 7s. So I don't -- even the low to mid-teens, I would think, by the end of the year. So I think that the carrying those is going to continue to be good and the combination of relatively muted speeds and the dollar prices that we're looking at, the yields on those are in the mid- to high 5s, I believe. I want to say we have that in here, but 6.5, I think they're in the 565,5.75% range, and I would expect that to be maintained.

Our next question comes from Jason Stewart with Janney Montgomery Scott.

Rob, on the capital activity. For the share repurchases and the issuance, do you have a number how that impacted book in the quarter, either separately or together?

I don't have one on the buybacks. On the issuance, it was somewhere around -- and this is -- there's no precise way to measure this because you don't necessarily know what book value is at the moment you're selling shares. I tend to just look at end-of-day book to compare that to the issuance price, which I'm not going to say is absolutely the best way. It was somewhere around $0.20 or $0.21 negative in the second quarter, and it was about a positive $0.21 or $0.22 in the first quarter. but we sold more shares in the second quarter. So the combination of the 2 was about 99.5% of book for the first 6 months of the year. Net of fees. Yes. Net of fees using that methodology.

Okay. All right. And then just on the ROE range relative to the dividend. I know there's tax differences. But I mean, if we think about the dividend today on a let's use $7.24 for current book value, that's a 99% payout plus cost to operate. Relative to the ROE that you're talking about in the high teens, could you just help me think through how you put those 2 and how we should think about the tax versus economic return difference?

Okay. Well, first of all, keep in mind that the mark-to-market of the portfolio affects the yield. So obviously, as you mark the portfolio down, the yield is going to go higher. And I think that's capturing a part of that. And you also think of it this way, whenever the mark-to-market of the portfolio occurs, you also have a realized or unrealized loss. So that dividend yield might be 20%, but you've also incurred a mark-to-market loss. Now that doesn't impact the dividend per se. But when you think of it from a total return perspective, yes, you're paying a higher dividend, but you've got a mark-to-market loss. So what's the net of that and compare that to what you're earning on new capital. And also keep in mind that for tax purposes, -- when you close out a hedge, if the hedge is in the money, you are required by tax law to allocate that equity over the balance of the hedge period. So when you look at the dividend we pay, some -- it's driven by taxable income. Some of that is a result of closed hedges. So they don't -- there's no -- that cash isn't necessarily sitting in an escrow account. So at any point in time, you have a period where market moves and your hedges go in the money and your mortgage assets go out of the money, you're going to get margin call activity. So you're going to be sending out cash to your repo counterparties. You're going to be taking in cash from your hedge counterparties. The net of that could be 0. So your cash position could literally not change. Under tax law, you have to take that equity in those hedges. And let's say you closed your hedges, all of them, just for argument's sake, at the end of that period. All of that open equity would have to be used to reduce interest expense over the balance of the hedge period. So when you calculate your dividend for tax purposes, you offset interest expense incurred over that period and then reduce it by that open equity. But that cash doesn't exist. That's just an artifact of the tax law. Now under the tax law, you might have capital losses in that period, but those don't affect the dividend calculation generally. In fact, with respect to calculating, say, taxes on under distribution of REIT earnings, you ignore capital gains. So those are kind of thrown out the window for that purposes. So in our dividend, it's capturing those effects. So the one, you have this interest expense adjustment, but you also have the fact that your portfolio in this period went down in value. So now when you look at that yield as a percentage of the current mark-to-market value of the portfolio, it appears very high. So when we give you an ROE, that's on a flatline basis. So from the perspective of total return, that's just the carry. When you look at the historical, it's a combination of carry and mark-to-market gains or losses. Does that help?

Yes. No, that's helpful. So would it be fair to say that the dividend policy right now is sort of being driven by the taxable distribution requirement? And if that's right, how long until that converges with maybe go-forward economics?

It's -- I don't have that in front of me. I'm going to say it's maybe a year or 2 more. The bulk of it will be gone by then. But that's also -- keep in mind, this is important. As we've grown, that's getting diluted, right? So the dollar amount a year ago and the impact it has on the July 2024 dividend and the July 2025 dividend because we're larger on a per share basis, that dollar that's going down. And so it depends on what happens to the size of the company in the next year or 2, just the exact magnitude of that effect. If we were to continue to grow, that effect would become more and more diluted.

Yes. I got you.

Through the first 7 months of this year, our taxable income projections are right on top of our dividend distribution.

Our next question comes from Eric Hagen with BTIG.

Just as a matter of clarity, the book value update, does that include the dividend, the accrual for the dividend?

Yes. Yes. Okay. Okay.

You guys are always so thoughtful around market conditions. I mean, do you expect MBS spreads are more likely to widen or tighten into an interest rate rally, specifically for the current coupons, are there scenarios where you feel like we can get a curve steepener with lower rate fall? And how would you respond to that?

Mortgages have been directional of late. A meaningful rally depends what drives it. I don't think if it's a classic sort of rolling over of the of credit, you would definitely see probably a pronounced widening into a rally like that. So economy starts to break and credit cycle rolls over. I don't know that that's our house view, but I think it's certainly a risk that we have to think about. And -- but for a more orderly market, like we've had over the course of the last couple of years at least, I think we will push down -- as we push down to kind of the lower end of the recent rate range. You'll see weakness in higher coupons as we would expect and a little bit of a tightening in the slight discounts. I think that those will -- those will continue to do well. And the opposite is true if we continue to have a very strong economy, which is, I think, kind of the way we lean. We could see re-steepening of the curve from the front end as Fed cuts get pushed out of the very front end of the curve and some of the weakness that Bob talked about on the longer end of the curve during his prepared remarks, resulting from just much higher treasury issuance. I think we're seeing that continue to play out. We saw it in the swap spreads in April. And so we've got our eye on that. I know that wasn't specifically the risk you were addressing, but that's what we've been kind of keeping our eye on. I don't see the potential for significant widening from here. And the way I approach it is just from the perspective of who the players are in the market. If you look at it, the marginal buyer to a large extent, has been REITs and money managers. Fast money hedge funds are in and all the time. Banks have not been involved much in what they tend to buy floaters anyway. So for instance, if you have the economy roll over and credit became a concern, I think money managers, if anything, are going to increase their allocation to mortgages. From the perspective of the meaningful steepening of the curve, let's say, the economy weakens, and the Fed now is going to aggressively cut, which I don't think is likely to happen. But if it did, I think you could see banks become more meaningful marginal buyer. But in any of these scenarios, whatever this perturbation is to the market, I think it results in more buying of mortgages, not less. It's -- I just really -- we're pretty cheap here right now. It's just hard to see us really getting a lot cheaper that's shocked. I don't know what that is, frankly.

Right. But the house view generally is that you don't feel like MBS spreads really reflect the likelihood for the Fed to cut rates before year-end and the Fed needs to deliver a cut and that's going to catalyze MBS spreads to be tighter?

Maybe. I mean we've been talking about Fed cuts for so long, all the way back to '23 and '24 -- or not '23, 2024 and earlier this year, everybody is expecting the Fed to cut. It just keeps getting pushed out. The economy is too resilient. It's -- here's my metaphor. You get one of these a year. So my metaphor is the economy is a car and it's driving down the road. And if the car goes too fast, if we grow too fast, the Fed intervenes to slow the economy. So in my metaphor, the driver of the car is the Fed and they put on the brakes to slow the car. But then you have this government running these massive deficits. And that in my metaphor is a truck that's behind the card and it just keeps pushing it. So no matter how much the Fed tries to put on the brakes, these deficits just keep pushing it. And that's going to just continue to be the case. And we think about it, what's the potential growth rate of the U.S. economy, 2%, 2.5%, and we're running deficits at multiples of that. So I just think the Fed is going to continue to be challenged containing inflation. And everything in this big, beautiful bill is extremely stimulative. They're going to full expensing of factories, Trumps negotiating trade deals where all these countries have to agree to spend money in the U.S. building. The multiplier effects of these things are significant. CapEx has a greater impact on growth than the housing market in terms of a multiplier. And it's just all these factors combined, I just don't see how the economy does anything but stay strong, if not get stronger and inflation stay the same or maybe even get worse. So that's my personal view. How that leads to Fed cuts, I don't know. That being said, I think the curve can continue to even steepen just because the term premium continues to grow and treasury issuance gets worse. I think it's really a question of what is neutral, right? So if somebody at the Fed decides that rates are too high in spite of all the things that we just discussed, then they may cut rates a couple of times. I'm not sure that they need to, but they may do it. They might revisit what neutral is decide that 4.5% is pretty close.

And I'm not showing any further questions at this time. I'd like to turn the call back over to Robert Cauley for any further remarks.

Thank you, operator. Thanks, everybody. If you have any questions that come up later or if you happen to miss the call and want to listen to the replay and then trigger that triggers a call, we'll be glad to take any calls. Our number is (772) 231-1400. Otherwise, we look forward to speaking with you next quarter. Thank you.