Dynex Capital, Inc. Reports Fourth Quarter 2013 Results

Dynex Capital, Inc. (NYSE:DX) reported its fourth quarter results today. GAAP net income to common shareholders was $19.3 million, or $0.35 per common share, for the fourth quarter of 2013 versus a net loss of $(6.9) million, or $(0.13) per common share, for the third quarter of 2013 and net income of $18.3 million, or $0.34 per common share for the fourth quarter of 2012. Core net operating income to common shareholders (a non-GAAP financial measure) was $15.5 million for the fourth quarter of 2013, or $0.29 per common share, versus $14.9 million, or $0.27 per common share, for the third quarter of 2013, and $16.2 million, or $0.30 per common share, for the fourth quarter of 2012. See "Use of Non-GAAP Financial Measures" for more information on this and other non-GAAP measures discussed in this release. Book value per common share at December 31, 2013 was $8.69 versus $8.59 at September 30, 2013.

Management Remarks

Mr. Byron Boston, CEO, President and Co-CIO, commented, “I am very pleased with our results for the fourth quarter as we reported solid core earnings and a modest improvement in book value despite challenging market conditions. Our diversified portfolio of CMBS and short duration hybrid ARMs produced solid cash flow returns, while providing the opportunity to roll down the yield curve. We respect the potential impact on our business of the uncertainty around economic growth, regulatory actions, market reactions and global market imbalances, which led us to be cautious investing our capital during the quarter. In addition, on the margin, risk premiums have declined across asset classes, requiring more vigilance. The environment continues to be supportive of our investment thesis as the Federal Reserve is committed to holding short-term rates low for an extended period. We continue to favor the CMBS sector over the hybrid ARM sector.”

Mr. Thomas Akin, Executive Chairman, noted, "In the last few months we have made important changes to the management team and the Board. We have added significant experience with Smriti Popenoe as our new Co-Chief Investment Officer, and the addition of Valerie Mosley and Robert Salcetti to the Board will bring invaluable knowledge of the investment and funding markets. We are very excited about the team we have assembled heading into 2014."

Book Value Per Common Share

Book value per common share was $8.69 at December 31, 2013, representing an increase of $0.10 per common share from September 30, 2013 and a decline of $(1.61) per share from December 31, 2012. Book value changes in the quarter were principally the result of spread tightening on investments and increases in the fair value of derivative instruments which more than offset the decline in investment values from the rise in interest rates during the quarter. The year-over-year decline in book value was significantly impacted by market value declines in our investments in the second and third quarter of 2013 from widening credit spreads and increasing interest rates during that period. The following table reconciles the changes in the Company's book value per common share from September 30, 2013 to December 31, 2013:

Investments

The following table summarizes the changes in our MBS portfolio during the fourth quarter of 2013:

The following tables present certain information for the Company's MBS portfolio by category as of and for the periods indicated:

The following table presents the weighted average coupon by weighted average months-to-reset ("MTR") for the variable-rate portion of our Agency RMBS based on par value as of December 31, 2013 and December 31, 2012:

The following table presents the conditional prepayment rates ("CPRs") for the Company's Agency MBS for the periods presented:

(1) CPRs for CMBS IO are not calculated and therefore are not reported. If CPRs for CMBS IO were included, the total weighted averages above would be lower.

CPRs declined in the fourth quarter of 2013 on Agency RMBS as a result of higher mortgage rates beginning in the end of the second quarter of 2013 which dampened refinancing demand.

Information related to the credit ratings for the Company's non-Agency MBS as of December 31, 2013 is as follows:

Investment Performance

The following table provides information on the performance of the Company's investments and financing for the periods indicated:

Our adjusted net interest spread increased for the fourth quarter of 2013 compared to the third quarter of 2013 due to our termination of certain interest rate swap agreements which lowered our weighted average effective borrowing rate for the quarter. Our net periodic interest costs, which is used to calculate adjusted net interest spread, was $2.4 million lower for the fourth quarter of 2013 versus the third quarter as a result of these terminations. Our weighted average effective yield on assets declined as a result of the repayment of higher yielding investments and also coupon resets on our Hybrid ARMs. As compared to the fourth quarter of 2012, our adjusted net interest spread for the fourth quarter of 2013 declined due to lower effective yields earned on our MBS portfolio, partially offset by lower effective borrowing costs.

Repurchase Agreement Borrowings

The following table presents our repurchase agreements as of December 31, 2013 by fair value and type of securities pledged as collateral to the repurchase agreements:

The combined weighted average original term to maturity for our repurchase agreements was 114 days as of December 31, 2013 and 67 days as of December 31, 2012. We have been able to extend the maturity dates for our repurchase agreements subsequent to our discontinuation of cash flow hedge accounting under GAAP which had previously limited our ability to extend maturity dates.

Hedging Activities

We use pay-fixed interest rate swaps and Eurodollar contracts to mitigate our exposure to changes in interest rates. We began adding Eurodollar contracts in the third quarter of 2013 and discontinued the use of cash flow hedge accounting for our interest rate swaps effective June 30, 2013. During the fourth quarter of 2013, we terminated $902 million in current pay interest rate swaps expiring beginning primarily in 2014 and through 2016 with a weighted average rate of 1.96% and $2.8 billion in Eurodollar futures effective from 2014 and through 2020 with a swap equivalent weighted average rate of 2.54%. The following table summarizes the weighted average notional balance of our interest rate derivatives that will be effective for the periods indicated:

(1) Weighted average rate is based on the weighted average notional outstanding.

The following table details the components of our gain on derivative instruments, net for the fourth quarter of 2013:

Other Income and Expense Items

Gain on sale of investments for the fourth quarter of 2013 of $0.8 million includes the sale of $29.0 million in CMBS and CMBS IO during the quarter as a result of portfolio repositioning. General and administrative expenses declined to $1.8 million in the fourth quarter of 2013 versus $3.5 million in the fourth quarter of 2012 from reduced incentive compensation expense as management elected to receive $1.4 million in restricted stock vesting over a three year period in lieu of cash bonuses for 2013.

Stock Activity

During the fourth quarter of 2013, we repurchased 120,991 shares of common stock at an average price of $8.01 per share including commissions. In November 2012, the Board of Directors authorized us to repurchase up to $50 million in common stock through December 31, 2014, of which there is $42.1 million remaining.

Capital Allocation

The following table summarizes the allocation of the Company's shareholders' equity capital as of December 31, 2013:

(1) Associated financing for investments includes repurchase agreements and securitization financing issued to third parties (which is presented on the Company's balance sheet as “non-recourse collateralized financing”). Associated financing for derivative instruments represents the fair value of the interest rate swap agreements in a liability position.

Conference Call

As previously announced, the Company's quarterly conference call to discuss the fourth quarter results is today at 11:00 a.m. ET. Interested investors may access the call by dialing 1-888-317-6016 or by accessing the live webcast, the link for which is provided under “Investor Relations/IR Highlights” on our website (www.dynexcapital.com). A slide presentation will accompany the webcast and will also be available at least one hour prior to the call at the same location on our website.

Company Description

Dynex Capital, Inc. is an internally managed real estate investment trust, or REIT, which invests in mortgage assets on a leveraged basis. The Company invests in Agency and non-Agency RMBS and CMBS. Additional information about Dynex Capital, Inc. is available at www.dynexcapital.com.

Forward Looking Statements

This release contains “forward-looking statements” within the meaning of the Private Securities Litigation Reform Act of 1995. The words “believe,” “expect,” “forecast,” “anticipate,” “estimate,” “project,” “plan,” and similar expressions identify forward-looking statements that are inherently subject to risks and uncertainties, some of which cannot be predicted or quantified. Forward-looking statements in this release may include, without limitation, statements regarding future interest rates, our views on expected characteristics of future investment environments, prepayment rates on our investment portfolio and risks posed by our investment portfolio, our future investment strategies, our future leverage levels and financing strategies including the use of specific financing and hedging instruments and the future impacts of these strategies, and the expected performance of our investments. The Company's actual results and timing of certain events could differ materially from those projected in or contemplated by the forward-looking statements as a result of unforeseen external factors. These factors may include, but are not limited to, changes in general economic and market conditions, including volatility in the credit markets which impacts asset prices and the cost and availability of financing, defaults by borrowers, availability of suitable reinvestment opportunities, variability in investment portfolio cash flows, fluctuations in interest rates, fluctuations in property capitalization rates and values of commercial real estate, defaults by third-party servicers, prepayments of investment portfolio assets, other general competitive factors, uncertainty around government policy, the impact of regulatory changes, including the Dodd-Frank Wall Street Reform and Consumer Protection Act of 2010, the full impacts of which are unknown at this time, and another ownership change under Section 382 that further impacts the use of our tax net operating loss carryforward. For additional information on risk factors that could affect the Company's forward-looking statements, see the Company's Annual Report on Form 10-K for the year ended December 31, 2012, and other reports filed with and furnished to the Securities and Exchange Commission.

Use of Non-GAAP Financial Measures

In addition to the Company's operating results presented in accordance with GAAP, this release includes the following non-GAAP financial measures: core net operating income to common shareholders (including per common share), adjusted return on average common equity, effective borrowing costs and rates, adjusted net interest income, and adjusted net interest spread. Management uses these non-GAAP financial measures in its internal analysis of results and operating performance and believes these measures may be important to investors and present useful information about the Company's performance.

Core net operating income to common shareholders equals GAAP net income to common shareholders adjusted for amortization of accumulated other comprehensive loss on de-designated interest rate swaps included in GAAP interest expense, net change in fair value of derivative instruments, gains and losses on terminated derivative instruments, gains and losses on sales of investments, and fair value adjustments on investments not classified as available for sale. Adjusted return on average common equity equals core net operating income to common shareholders divided by average common equity for the respective period. Effective borrowing costs equals GAAP interest expense excluding the amortization of accumulated other comprehensive loss on interest rate swaps de-designated as cash flow hedges on June 30, 2013 plus net periodic interest costs on derivative instruments (including accrued amounts) which are not already included in GAAP interest expense. Effective borrowing rate equals annualized cost of funds calculated on a GAAP basis, less the effect of amortization of de-designated cash flow hedges and plus the effect of net periodic interest costs of derivative instruments. Adjusted net interest spread equals average annualized yields on investments less effective borrowing rates. Schedules reconciling these non-GAAP financial measures to GAAP are provided as a supplement to this release.

The Company believes these non-GAAP financial measures are useful because they provide investors greater transparency to the information used by management in its financial and operational decision-making processes. The Company also believes the presentation of these measures, when analyzed in conjunction with the Company's GAAP operating results, allows investors to more effectively evaluate and compare the performance of the Company to that of its peers, particularly those competitors that continue to use hedge accounting in reporting their financial results, as well as to the Company's performance in periods prior to discontinuing hedge accounting. However, because these non-GAAP financial measures exclude certain items used to compute GAAP net income to common shareholders and GAAP interest expense, these non-GAAP measures should be considered as a supplement to, and not as a substitute for, the Company's GAAP results as reported on its consolidated statements of income (loss). In addition, because not all companies use identical calculations, the Company's presentation of core net operating income, adjusted return on average common equity, effective borrowing costs and rates, adjusted net interest income, and adjusted net interest spread may not be comparable to other similarly-titled measures of other companies.