ABCDE Safe Harbor Statement - ABCDE Private Securities Litigation - - PowerPoint PPT Presentation

ABCDE

ABCDE

INVESTOR PRESENTATION THIRD QUARTER 2019

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Statement Concerning Forward-looking Statements

This document contains “forward-looking statements” within the meaning of the Private Securities Litigation Reform Act of 1995. Forward-looking statements include, without limitation, any statement that may predict, forecast, indicate or imply future results, performance or achievements, and may contain the words “believe,” “anticipate,” “expect,” “estimate,” “intend,” “will be,” “will likely continue,” “will likely result,”

• r words or phrases of similar meaning.

Actual results could differ materially from those projected in these forward-looking statements due to a variety of factors, without limitation, fluctuations in interest rates, the availability of suitable qualifying investments, changes in mortgage prepayments, the availability and terms of financing, changes in market conditions as a result of federal corporate and individual tax reform, changes in legislation or regulation affecting the mortgage and banking industries or Fannie Mae, Freddie Mac or Ginnie Mae securities, the availability of new investment capital, the liquidity of secondary markets and credit markets, and other changes in general economic conditions. These and other applicable uncertainties, factors and risks are described more fully in the Company’s filings with the U.S. Securities and Exchange Commission. Forward-looking statements speak only as of the date the statement is made and the Company undertakes no obligation to update or revise any forward-looking statements, whether as a result of new information, future events or otherwise. Accordingly, readers of this document are cautioned not to place undue reliance on any forward-looking statements included herein.

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Safe Harbor Statement -

Private Securities Litigation Reform Act of 1995

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• With moderating mortgage prepayments, lower borrowing costs due to lower short-term interest rates

and active management of our hedge positions, we are increasingly optimistic that we will report higher earnings in the coming quarters.

Company Summary Proven Strategy, Efficiently Executed

• Founded in 1985, Capstead is the oldest publicly-traded residential mortgage REIT.
• We manage a leveraged portfolio of adjustable-rate residential mortgage securities issued by Fannie Mae,

Freddie Mac, or Ginnie Mae that can earn attractive risk-adjusted returns.

• At September 30, 2019, our ARM securities portfolio stood at $11.2 billion, supported by $1.2 billion in

long-term investment capital levered 8.8 times.

• Our short-duration strategy differentiates us from our peers because the adjustable-rate mortgages

underlying our portfolio reset to more current interest rates within a relatively short period of time:

• Resulting in smaller fluctuations in portfolio values from changes in interest rates compared to

portfolios containing longer duration investments such as fixed-rate mortgage securities. Our portfolio duration was approximately 14½ months at quarter-end, and after considering related borrowings and derivatives held for portfolio hedging purposes, we had a zero net duration gap.

• This relative stability affords us more flexibility in managing through periods of market stress.
• Our strategy is designed to insulate investors from credit and, to a large degree, interest rate risk.
• We routinely borrow for 30 to 90 days and extend the duration of our borrowings primarily using two- to

three-year term, pay-fixed, receive three-month LIBOR, interest rate swap agreements.

• We have long-term relationships with a variety of domestic and foreign lending counterparties. At

quarter-end we had borrowings outstanding with 20 counterparties.

• We are internally managed with low operating costs and a strong focus on performance-based

compensation ensuring the alignment of management’s interests with those of our stockholders.

• For investors seeking levered returns with a comparably higher degree of safety from interest

rate and credit risk, we believe Capstead represents a compelling opportunity that is difficult to find elsewhere in the market.

• Duration is a measure of market price sensitivity to interest rate movements. A shorter duration indicates less interest rate risk.
• Net duration gap refers to portfolio duration less the duration of related borrowings and derivatives held for hedging purposes.

Value Proposition

About Capstead

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Current Opportunity

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MEZZANINE CAPITAL COMMON EQUITY CAPITAL

50% 16% 84%

Market Snapshot

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NYSE: CMOPRE 7.50%

(in thousands, except per share data)

Shares outstanding (9/30/19): 10,329 Price (11/7/19): $25.38 Perpetual preferred; callable at $25 par Cost of preferred capital: 7.72% Shares outstanding (11/7/19): 94,606 NYSE: CMO

(in thousands, except per share data)

Book value (9/30/2019): $8.60 Price (11/7/19): $7.56 Market capitalization (11/7/19): $715,221 Price as a multiple of book value: 87.9% LONG-TERM UNSECURED BORROWINGS Recorded amount, net (9/30/19): $98,367 Cost of capital: 7.74% Market capitalization (11/7/19): $262,150 Matures in 2035/2036; callable at $100 par

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Long-Term Investment Capital

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We are incented to grow the Company by raising capital based solely on the attractiveness of the

• pportunity for our stockholders rather than for the purpose of increasing compensation or external

management fees. We view share repurchases in the same way.

• Beginning of period book value used to illustrate discount and calculate accretion on activity. On August 1, 2019, we closed an overnight “bought deal” that was re-offered to

investors at $8.60 per share, a 3.8% discount to our $8.93 June 30, 2019 book value.

Recent Common Stock Activity Shares Capital (Deployed) Raised Price, net of expenses Discount to Trailing BV BV Accretion (Dilution)

2017 (397,352) (3,460,000) $ 8.71 $ 80.0% 0.01 $ 2018 (10,653,060) (84,594,000) 7.94 77.5 0.29 Q3 2019 9,000,000 75,101,982 8.34 93.4 (0.06) (2,050,412) (12,952,018) $

Long-term Investment Capital

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NET INCOME & BOOK VALUE

Core Earnings $0.12 $0.11 Q2 2019 Q3 2019

INVESTMENT PORTFOLIO

Book Value

• 4%

$8.93 $8.60 Q2 2019 Q3 2019

FINANCING

$(0.02) $0.11

GAAP EPS Core EPS

$11.24B $1.17B

Portfolio Value Investment Capital

$10.29B $7.20B

Secured Borrowings Swap Portfolio Yield on Investments

• 2%

2.82% 2.76% Q2 2019 Q3 2019 Secured Borrowings

• 2%

2.35% 2.31% Q2 2019 Q3 2019 Leverage

• 8%

9.59x 8.80x Q2 2019 Q3 2019

Third Quarter Financial Highlights

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Longer to Reset 51%

Yet to Reset 18%

Post Initial Reset 82%

Current Reset 49% ARM Securities Portfolio

• 8%

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Economic return is a key metric for mortgage REITs. Our strategy typically leads to outperformance during periods of rising longer-term interest rates and/or worsening credit conditions relative to other residential mortgage REITs. Falling longer-term interest rates coupled with a flattening and at times inverted yield curve has made the 2nd and 3rd quarters of 2019 a challenging operating environment.

• Agency Peers: AGNC, AI, ANH, ARR, CYS, EARN, HTS, NLY, ORC (HTS through 2016; CYS through 2018).
• Broader REIT Peers: Agency peers plus AMTG, CIM, DX, HCFT, IVR, JMI, MFA, MITT, MTGE, NYMT, RWT, TWO, WMC (HTS, AMTG and JMI through 2016; HCFT and

MTGE through 2018).

• CMO economic returns exclude $(0.28) per share associated with 2013 preferred capital redemption and issuance transactions and $(0.03) per share in separation of

service charges incurred in 2016. Including the effects of these items, our economic returns would have been lower by 206 basis points in 2013, 26 basis points in 2016, and by nine, five, and 39 basis points for the 3-, 5- and 6-year averages, respectively.

Reasonable Risk-Adjusted Economic Returns

(Changes in Book Value plus Dividends)

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Our ARM portfolio with its 14 ½ month duration compares favorably with fixed rate portfolios with durations measured in years not months. The relatively modest contraction and extension risk (convexity) of ARM securities naturally mitigates the risk of over or under hedging.

Sensitivity to Interest Rate Changes

Capstead’s agency ARM securities portfolio 0.90 1.18 1.45

Indicative (contraction) extension (0.28) 0.27

Related borrowings and derivatives

• 1.20
• 1.21
• 1.20

Net duration

• 0.30
• 0.03

0.25 Indicated change in book value

• 2.36%
• 5.43%

Effects of Instantaneous Parallel Shifts in the Yield Curve on Duration (in years)

Duration

• 100 bps

Recent Duration Duration +100 bps

Fannie Mae 30-year 3% fixed-rate TBA 2.50 5.77 9.92

Indicative (contraction) extension (3.27) 4.15

• Change in book value is measured by the change in duration times the market value of the portfolio and related derivatives held for hedging purposes.
• Recent duration for Fannie Mae 30-year TBAs is based on October settlement. Capstead’s positions are as of September 30, 2019.

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Our leverage level is conservative relative to our peers given our duration profile.

Short-Duration Strategy

• 2

2 4 6 8 10 12 14

• 2

2 4 6 8 10 12 14

Leverage Duration in Months

Long-Term Capital Common Only Portfolio Duration Net Duration

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A Leader in Operating Cost Efficiency

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Capstead is internally-managed with low operating costs and stands out as a leader among our mortgage REIT peers (as well as other investment vehicles) in terms of operating cost efficiency.

Operating expenses Year Ended Dec 31, 2018 Quarter Ended Sept 30, 2019 Nine Months Ended Sept 30, 2019 Compensation-related expenses: Fixed: 0.30% 0.33% 0.34% Variable: 0.32 (0.14) 0.37 0.62 0.19 0.71 Other platform expenses 0.36 0.39 0.40 Operating expenses as a % of avg LTIC 0.98% 0.58% 1.11% Operating expenses as a % of avg total assets 0.09% 0.06% 0.10%

• Chart data presented as of 12/31/18 using company filings, calculated as operating expenses divided by average long-term investment capital.

2018 Operating Cost Efficiency Comparison

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ARM Portfolio Characteristics

As of September 30, 2019 (dollars in thousands, unaudited) Principal Balance Investment Premiums Fair Market Value Net WAC Fully- Indexed WAC Average Net Margins Months to Roll Current-reset ARMs: Fannie Mae Agency Securities $ 2,844,141 $ 95,518 $ 2,939,659 103.36 $ 2,970,079 4.07% 3.65% 1.68% 6.2 Freddie Mac Agency Securities 1,368,714 51,449 1,420,163 103.76 1,429,802 4.03 3.73 1.76 7.6 Ginnie Mae Agency Securities 1,079,773 38,146 1,117,919 103.53 1,122,205 3.71 3.26 1.51 6.2 Residential Mortgage Loans 714 3 717 100.42 731 3.89 4.66 2.06 5.4 (49% of total) 5,293,342 185,116 5,478,458 103.50 5,522,817 3.99

• 0.40

3.59 1.66 6.6 Longer-to-reset ARMs: Fannie Mae Agency Securities 2,834,768 74,408 2,909,176 102.62 2,919,241 3.10 3.55 1.60 44.5 Freddie Mac Agency Securities 1,340,894 35,586 1,376,480 102.65 1,379,954 3.10 3.63 1.66 49.7 Ginnie Mae Agency Securities 1,373,182 35,267 1,408,449 102.57 1,412,653 3.49 3.25 1.50 45.7 (51% of total) 5,548,844 145,261 5,694,105 102.62 5,711,848 3.19 +0.30 3.49 1.59 46.0 10,842,186 $ 330,377 $ 11,172,563 $ 103.05 11,234,665 $ 3.58

• 0.04

3.54 1.62 26.8 Gross WAC (rate paid by borrowers) 4.18 Amortized Cost Basis

• Net WAC, or weighted average coupon, is the weighted average interest rate of the mortgage loans underlying the indicated investments, net of servicing and other fees,

as of September 30, 2019. Net WAC is expressed as a percentage calculated on an annualized basis on the unpaid principal balances of the mortgage loans underlying these investments. As such, it is similar to the cash yield on the portfolio which is calculated using amortized cost basis. Fully-Indexed WAC represents the weighted average coupon upon one or more resets using interest rate indexes and net margins in effect as of September 30, 2019.

• Excludes $1 million in legacy portfolio of fixed-rate residential mortgage investments.

With underlying indices (principally 12-month LIBOR and one-year Treasury) declining, net WACs are trending lower reducing incentives to refinance and therefore mortgage prepayment risks.

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ARMs tend to prepay faster than fixed-rate MBS and are priced accordingly. Declines in mortgage rates since late 2018 are having a greater impact on fixed-rate prepayment speeds than on ARM speeds largely because declines in underlying indices have reduced refinancing

• pportunities for ARM borrowers.

Agency Mortgage Prepayment Speeds

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APPENDIX

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Quarterly Income Statements

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(dollars in thousands, except per share amounts, unaudited) September June March December September 2019 2019 2019 2018 2018 Interest income: Residential mortgage investments 77,693 $ 85,100 $ 83,807 $ 72,902 $ 67,649 $ Other 1,065 600 422 626 350 78,758 85,700 84,229 73,528 67,999 Interest expense: Secured borrowings (62,800) (67,945) (63,779) (59,321) (54,393) Unsecured borrowings (1,910) (1,900) (1,891) (1,910) (1,910) (64,710) (69,845) (65,670) (61,231) (56,303) 14,048 15,855 18,559 12,297 11,696 Other(expense) income: Loss on derivative instruments (net) (9,221) (74,842) (21,657)

• Loss on sale of investments (net)
• (1,365)
• Compensation-related expense

(566) (1,972) (3,609) (2,238) (1,913) Other general and administrative expense (1,123) (1,138) (1,128) (1,207) (1,184) Miscellaneous other revenue 58 2 89 132 81 (10,852) (79,315) (26,305) (3,313) (3,016) Net (loss) income 3,196 (63,460) (7,746) 8,984 8,680 Less preferred stock dividends (4,842) (4,842) (4,842) (4,842) (4,842) Net (loss) income to common stockholders (1,646) $ (68,302) $ (12,588) $ 4,142 $ 3,838 $ Net income per diluted common share (0.02) $ (0.80) $ (0.15) $ 0.05 $ 0.04 $ Core earnings 14,798 14,780 15,471 8,984 8,680 Core earnings per diluted common share 0.11 0.12 0.12 0.05 0.04 Average balance of mortgage assets 11,266,776 12,065,084 12,169,106 12,442,410 13,026,636 Average secured borrowings 10,481,080 11,193,335 11,156,608 11,439,646 11,957,518 Average long-term investment capital ("LTIC") 1,146,916 1,149,388 1,161,815 1,188,553 1,258,367 CPR 30.18% 26.29% 20.62% 22.37% 25.71% Average total financing spreads 0.31 0.34 0.42 0.22 0.21 Average financing spreads on residential mortgage investments 0.45 0.47 0.52 0.27 0.26 Operating costs as a percentage of average LTIC 0.58 1.09 1.32 1.15 0.98 Return on average common equity capital 4.95 4.98 5.33 1.96 1.69 Quarter Ended

• See page 17 for information regarding core earnings, core earnings per diluted common share and average financing spreads on residential mortgage investments, which

are non-GAAP financial measures.

• Return on average common equity capital is calculated using core earnings less preferred dividends on an annualized basis over average common equity for the period.

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Annual Income Statements – Five Years Ended 2018

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(dollars in thousands, except per share amounts, unaudited) December December December December December 2018 2017 2016 2015 2014 Interest income: Residential mortgage investments 274,891 $ 232,435 $ 212,694 $ 215,989 $ 226,749 $ Other 1,689 964 637 341 315 276,580 233,399 213,331 216,330 227,064 Interest expense: Secured borrowings (206,976) (138,757) (107,653) (85,521) (65,155) Unsecured borrowings (7,611) (7,610) (7,833) (8,454) (8,488) (214,587) (146,367) (115,486) (93,975) (73,643) 61,993 87,032 97,845 122,355 153,421 Other revenue (expense): Compensation-related expense (7,759) (4,915) (11,749) (10,200) (8,302) Other general and administrative expense (4,527) (4,689) (4,682) (4,798) (4,157) Miscellaneous other revenue (expense) 365 2,161 1,459 968 (142) (11,921) (7,443) (14,972) (14,030) (12,601) Net income 50,072 $ 79,589 $ 82,873 $ 108,325 $ 140,820 $ Net income per diluted common share 0.34 $ 0.65 $ 0.70 $ 0.97 $ 1.33 $ Average balance of mortgage assets 12,947,215 13,406,614 13,658,034 13,922,698 13,424,149 Average long-term investment capital ("LTIC") 1,257,903 1,359,067 1,384,074 1,476,953 1,498,252 CPR 23.20% 20.37% 17.28% Average total financing spreads 0.64 0.81 1.06 Average financing spreads on residential mortgage investments 0.72 0.89 1.17 Operating costs as a percentage of average LTIC 0.97 1.02 0.83 Return on average common equity capital 6.20 7.86 10.37 23.97% Year Ended 0.38 22.89% 0.98 0.71 3.38 5.96 0.61 0.33 0.55

• See page 17 for information regarding average financing spreads on residential mortgage investments, a non-GAAP financial measure.
• Year ended December 31, 2017 excludes the effects of an adjustment to prior year annual incentive compensation accruals of $938,000 from operating costs as a

percentage of average LTIC. Year ended December 31, 2016 excludes the effects of separation of service charges totaling $(3.0 million) and an adjustment to the prior year annual incentive compensation accrual of $(655,000).

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Comparative Balance Sheets

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(dollars in thousands, except per share amounts, unaudited) September 30, December 31, December 31, December 31, December 31, 2019 2018 2017 2016 2015 Assets Residential mortgage investments 11,235,803 $ 11,965,381 $ 13,454,098 $ 13,316,282 $ 14,154,737 $ Cash collateral receivable from derivative counterparties 83,511 31,797 42,506 29,660 50,193 Derivatives at fair value 1,267

• 24,709

7,720 Cash and cash equivalents 68,204 60,289 103,907 56,732 54,185 Receivables and other assets 145,902 129,058 132,938 149,493 179,531 11,534,687 $ 12,186,525 $ 13,733,449 $ 13,576,876 $ 14,446,366 $ Liabilities Secured borrowings 10,292,924 $ 10,979,362 $ 12,331,060 $ 12,145,346 $ 12,958,394 $ Derivatives at fair value 35,515 17,834 23,772 24,417 26,061 Unsecured borrowings 98,367 98,292 98,191 98,090 97,986 Common stock dividend payable 11,702 7,132 18,487 22,634 25,979 Accounts payable and accrued expenses 24,423 24,842 23,063 38,702 39,622 10,462,931 11,127,462 12,494,573 12,329,189 13,148,042 Stockholders' Equity Preferred stock 250,946 250,946 250,946 199,059 197,172 Common stock 795,091 829,163 925,812 942,842 965,057 Accumulated other comprehensive income (loss) 25,719 (21,046) 62,118 105,786 136,095 1,071,756 1,059,063 1,238,876 1,247,687 1,298,324 11,534,687 $ 12,186,525 $ 13,733,449 $ 13,576,876 $ 14,446,366 $ Book value per common share (based on outstanding shares of common stock and calculated assuming liquidation preferences for preferred stock) (unaudited) 8.60 $ 9.39 $ 10.25 $ 10.85 $ 11.42 $ Long-term investment capital (stockholders' equity and unsecured borrowings) (unaudited) 1,170,123 1,157,355 1,337,067 1,345,777 1,396,310 Portfolio leverage (secured borrowings divided by long-term investment capital) (unaudited) 8.80:1 9.49:1 9.22:1 9.02:1 9.28:1

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$8.93 $0.03 $0.10 $0.06 $0.14 $8.60 Beginning BV per share Portfolio Change Swap Impact Equity Issuance Dilution Dividend in Excess

• f Earnings

Ending BV per share

• $8.93

$0.03 $0.23 $0.06 $0.01 $8.60 Beginning BV per share Portfolio Change Swap Impact Equity Issuance Dilution Dividends in Excess

• f Core Earnings

Ending BV per share

• Book Value per Common Share Progression

June 30 – September 30, 2019

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GAAP earnings Core Earnings

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Amount Per Share Amount Per Share Amount Per Share Amount Per Share Amount Per Share

Net income (loss) 3,196 $ (0.02) $ (63,460) $ (0.80) $ (7,746) $ (0.15) $ 8,984 $ 0.05 $ 8,680 $ 0.04 $ Unrealized (gain) loss on non-designated derivative instruments (16,952) (0.19) 59,388 0.70 26,237 0.31 – – – – Realized loss (net) on termination of non-designated derivative instruments 31,673 0.35 24,202 0.28 – – – – – – Amortization of unrealized gain, net of unrealized losses on de-designated derivative instruments (3,119) (0.03) (6,715) (0.08) (3,020) (0.04) – – – – Realized loss on sale of investments – – 1,365 0.02 – – – – – – Core earnings 14,798 $ 0.11 $ 14,780 $ 0.12 $ 15,471 $ 0.12 $ 8,984 $ 0.05 $ 8,680 $ 0.04 $ Q3 Q2 Q1 Q4 Q3 2018 2019

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When analyzed in conjunction with our GAAP operating results, we believe our presentation of core earnings and core earnings per common share allows investors to more effectively evaluate our performance and in comparison to that of our peers.

Non-GAAP Financial Measures

Q3 Q2 Q1 Q4 Q3 2018 2017 2016 2015 2014 Total financing spreads 0.31% 0.34% 0.42% 0.22% 0.21% 0.33% 0.55% 0.64% 0.81% 1.06% Impact of yields on other interest-earning assets – 0.01 – – – – 0.01 0.02 0.03 0.05 Impact of borrowing rates on other interest-paying liabilities 0.05 0.05 0.05 0.05 0.05 0.05 0.05 0.06 0.05 0.06 Impact of amortization of unrealized gain, net of unrealized losses on de-designated derivative instruments (0.12) (0.24) (0.11) – – – – – – – Impact of net interest cash flows on non-designated derivative instruments 0.21 0.31 0.16 – – – – – – – Financing spreads on residential mortgage investments 0.45 0.47 0.52 0.27 0.26 0.38 0.61 0.72 0.89 1.17 Year Ended 2018 2019

• On March 1, 2019, the Company discontinued its use of hedge accounting on its interest rate swaps related to secured borrowings and introduced these non-GAAP

financial measures.

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Phillip A. Reinsch – President and Chief Executive Officer

• Appointed President, CEO and Director in July 2016 after serving as Chief Financial Officer since 2003
• Served in other executive positions at Capstead since 1993

Robert R. Spears – Executive Vice President, Chief Investment Officer

• Served in asset and liability management positions at Capstead since 1994
• Formerly Vice President of secondary marketing with NationsBanc Mortgage Corporation

Roy S. Kim – Senior Vice President, Asset and Liability Management and Treasurer

• Joined Capstead in April 2015 augmenting our asset and liability management capabilities with primary responsibility for liability

and derivative management

• Has over 20 years experience in the mortgage finance industry, primarily in trading capacities with JP Morgan and Bank of

America

Lance J. Phillips – Senior Vice President, Chief Financial Officer and Secretary

• Joined Capstead in October 2017
• Has 20 years experience in the accounting and finance industry, most recently as Vice President and Principal Accounting Officer

for InfraREIT, Inc.

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Our top four executive officers have over 75 years of mortgage finance industry experience.

Experienced Management Team