Hatteras Financial Corp. Announces Fourth Quarter 2013 Financial Results

Hatteras Financial Corp. (NYSE: HTS) (“Hatteras” or the “Company”) today announced financial results for the quarter ended December 31, 2013.

Fourth Quarter 2013 Highlights

• GAAP net loss ($0.16) per weighted average share
• Core earnings of $0.51 per weighted average share
• Dividend of $0.50 per common share
• Quarter end book value of $21.50 per common share
• GAAP leverage of 7.0 to 1
• Leverage of 7.3 to 1, including TBA dollar rolls
• Weighted average constant prepayment rate (“CPR”) of 14.2% for the quarter
• Repurchased 1.3 million shares at weighted average per share price of $16.91

Fourth Quarter 2013 Results

During the quarter ended December 31, 2013, the Company had a GAAP net loss to common shareholders of ($15.4) million, or ($0.16) per diluted common share, compared to net loss of ($267.6) million, or ($2.72) per diluted common share during the quarter ended September 30, 2013. The decrease in net loss was primarily due to fewer sales of the Company’s agency securities along with gains on its derivative instruments. The Company realized a net loss on sale of mortgage-backed securities (MBS) of ($68.7) million during the quarter compared to ($225.6) million for the previous quarter. The Company continued to rebalance its portfolio during the quarter along with reducing leverage and increasing hedge positions. For the quarter ended December 31, 2013, the Company had core earnings of $0.51 per common share compared to $0.44 per common share during the quarter ended September 30, 2013. “Core earnings" represents a non-GAAP measure and is calculated as net interest margin, as adjusted for certain derivative impacts, and after deducting operating expenses and dividends on preferred stock. Management believes core earnings is additional useful information of the Company’s performance in light of, among other things, the discontinuation of hedge accounting for its interest rates swaps at the end of the third quarter.

Net interest margin for the quarter ended December 31, 2013 was $64.0 million, compared to $55.7 million for the quarter ended September 30, 2013. The Company’s net interest spread increased to 1.26% for the fourth quarter of 2013 from 0.86% in the third quarter of 2013. A large driver of this increase was the higher yield on average assets. The yield on the Company’s agency securities was 2.16% in the fourth quarter compared to 1.80% in the third quarter as a rise in mortgage rates in the second half of 2013 caused a slowdown in prepayments and less amortization expense.

The Company’s cost of funds decreased 0.04% to 0.90% for the quarter ended December 31, 2013. The Company’s average short term financing rate decreased to 0.36% in the fourth quarter of 2013 from 0.38% in the third quarter of 2013. The Company’s effective cost of funds, which includes certain interest rate swap adjustments, was 1.05% as compared to 0.94% in the prior quarter. Operating expenses increased to $7.5 million from $6.7 million in the prior quarter. The total annualized expense ratio for the quarter was 1.25% of average shareholders’ equity for the quarter ended December 31, 2013 as compared to 1.10% for the prior quarter.

“We are pleased with our fourth quarter results, especially as they indicate the success of the rebalancing efforts made by our portfolio team during the second half of 2013,” said Michael Hough the Company’s Chief Executive Officer. “Through our traditional use of adjustable rate mortgage products, 15-year mortgages, and more specific uses of hedging tools, we are positioned for greater consistency as the Federal Reserve’s exit from QE3 may create additional volatility in the future. Our goal is to establish a conservative portfolio that can generate predictable returns and we believe that our portfolio is positioned to perform well and to our expectations.”

Dividend

The Company declared a dividend of $0.50 per share of common stock with respect to the quarter ended December 31, 2013, which was a decrease from the $0.55 per share dividend for the quarter ended September 30, 2013. Based on the closing share price of $16.34 on December 31, 2013, the fourth quarter dividend equates to an annualized yield of 12.2%.

Portfolio

The Company’s weighted average earning assets, consisting of residential mortgage securities issued primarily by Fannie Mae and Freddie Mac, was $20.1 billion for the quarter ended December 31, 2013, compared to $23.8 billion for the previous quarter. The portfolio’s weighted average coupon was 2.78% for the fourth quarter of 2013, compared to 2.67% for the third quarter of 2013, and was 2.80% at December 31, 2013. The annualized yield on average assets was 2.16% for the fourth quarter of 2013, compared to 1.80% for the third quarter of 2013, due primarily to lower premium amortization.

At December 31, 2013, the Company’s portfolio of agency securities consisted of 93.0% of adjustable-rate agency securities and 7.0% of 15-year fixed-rate agency securities. The Company’s adjustable-rate agency securities portfolio at December 31, 2013 is summarized below.

The Company’s fixed-rate agency securities portfolio at December 31, 2013 is summarized below:

At December 31, 2103 the Company also owned 15-year TBA dollar rolls in the amount of $627.2 million not included in the table above. The Company accounts for TBA dollar roll positions as derivative instruments and recognizes dollar roll income/(loss) in other income (loss), net on the Company's financial statements. As of December 31, 2013, the Company's net TBA mortgage portfolio had a cost basis of approximately $632.3 million and a net carrying value of ($5.1) million reported in other liabilities on the Company's balance sheet. The Company uses dollar rolls as an alternative financing for its 15-year fixed rate positions.

During the fourth quarter of 2013, the expense of amortizing the premium on the Company’s securities was $26.7 million, compared to $47.2 million during the third quarter of 2013. The weighted-average principal repayment rate (scheduled and unscheduled principal payments as a percentage of the weighted-average portfolio, on an annualized basis) during the fourth quarter of 2013 was 19.6%, compared to 27.7% during the third quarter of 2013, indicating the extent of the slowdown in mortgage refinancing. The Company’s weighted-average one-month constant prepayment rate (CPR) for the quarter ended December 31, 2013 was 14.2, as compared to 19.7 for the quarter ended September 30, 2013. CPR measures unscheduled repayment rate as a percentage of principal on an annualized basis.

Portfolio Financing and Leverage

At December 31, 2013, the Company financed its portfolio with approximately $16.5 billion of borrowings under repurchase agreements and dollar rolls on issued securities. The Company’s debt-to-shareholders’ equity ratio at December 31, 2013, was 7.0 to 1 compared to 7.9 to 1 as September 30, 2013. The Company’s effective leverage, which includes the effects of TBA dollar roll financing, was 7.3 to 1 at December 31, 2013. At December 31, 2013, the Company’s repurchase agreements had a weighted-average remaining term of approximately 25 days.

The Company uses interest rate swap agreements and Eurodollar futures contracts to synthetically extend the fixed interest period of these liabilities and hedge against the interest rate risk associated with financing the Company’s portfolio. As of December 31, 2013, the Company had entered into interest rate swaps and Eurodollar futures contracts with effective notional amounts and rates as shown in the following table.

Book Value

The Company’s book value (shareholders’ equity less preferred stock liquidation preference) per share on December 31, 2013 was $21.50, up 0.9%, from the per share book value of $21.31 on September 30, 2013. On a per share basis, the book value at December 31, 2013 consisted of $25.30 of common equity, ($3.72) of retained losses, $1.07 of unrealized gains on agency securities, and ($1.15) of unrealized losses on interest rate swaps.

Full Year 2013 Results

The yield on average assets decreased during 2013 as compared to 2012. The yield dropped from 2.28% in 2012 to 1.96% for the year ended December 31, 2013. The most significant factor in this decrease was the lower average coupon on the Company’s portfolio, due to accelerated prepayments and the reinvestment at lower rates driven by the continued pressure on mortgage rates from U.S. government policy. The Company had a net loss of ($156.1) million or ($1.59) per weighted average common share compared to net income $341.7 million, for the 12 months ended December 31, 2012, which equaled $3.67 per weighted average common share.

The primary driver for the Company’s loss in 2013 was losses on securities sales and derivative positions. The Company had net losses on sale of MBS securities of $283.0 for the year ended December 31, 2013 compared to a gain of $64.3 million in the prior year. Interest rates increased sharply mid-year as markets tried to interpret the effects from tapering of the Federal Reserve’s QE3 program. During the second half of 2013, the Company repositioned its portfolio and lowered its leverage to reduce its exposure to rate moves and market volatility.

For the year, the Company distributed $2.45 per common share based on the combination of $2.07 per common share of core earnings and $0.38 per common share of undistributed income from 2012. Book value per common share at December 31, 2013 was $21.50 compared to $28.19 at December 31, 2012 and total assets declined to $19.1 billion from $26.4 billion year over year.

Conference Call

The Company will host a conference call at 10:00 a.m. ET on Wednesday, February 12, 2014, to discuss financial results for the fourth quarter ended December 31, 2013. To participate in the event by telephone, please dial (888) 317-6016 five to 10 minutes prior to the start time (to allow time for registration) and ask to join the “Hatteras Financial” conference call. International callers should dial (412) 317-6016. Canada callers should dial (855) 669-9657. A digital replay of the call will be available on Wednesday, February 12, 2014 at approximately 12:00 noon ET through Thursday, February 20, 2014 at 9:00 a.m. ET. Dial (877) 344-7529 and enter the conference ID number 10040682. International callers should dial (412) 317-0088 and enter the same conference ID number. Canada callers should dial (855) 669-9658 . The conference call will also be webcast live over the Internet and can be accessed at Hatteras' web site at www.hatfin.com. To monitor the live webcast, please visit the web site at least 15 minutes prior to the start of the call to register, download, and install any necessary audio software. An audio replay of the event will be archived on Hatteras' web site.

About Hatteras Financial Corp.

Hatteras Financial is a real estate investment trust formed in 2007 to invest in single-family residential mortgage real estate assets, such as pass-through securities guaranteed or issued by U.S. Government agencies or U.S. Government-sponsored entities, such as Fannie Mae, Freddie Mac or Ginnie Mae. Based in Winston-Salem, N.C., Hatteras is managed and advised by Atlantic Capital Advisors LLC. Hatteras is a component of the Russell 1000® index.

Non-GAAP Measures

In addition to the Company’s results presented in accordance with GAAP, this press release includes certain non-GAAP financial information. Management’s decision to present these supplemental non-GAAP measures arose largely from two developments during 2013: 1) the Company’s cessation of hedge accounting for its interest rates swaps effective September 30, 2013, and 2) the Company’s use of TBA dollar rolls, which generate non-traditional investment income and embody off-balance sheet financing. These changes result in the recognition of material fair value adjustments in net income, as well as line item classifications that make it difficult to clearly explain the economics of the Company’s results and strategies without supplemental disclosures. The non-GAAP measures the Company employs include effective interest expense, effective net interest margin, core earnings, and certain financial metrics derived from non-GAAP information, such as effective cost of funds and effective leverage. The Company uses these measures internally to assess its results and financial condition. Therefore, the Company believes that providing these measures gives users of financial information additional clarity regarding its performance and financial condition, and better enables them to see “through the eyes of management.”

These measures involve differences from results computed in accordance with GAAP, and should be considered supplementary to, and not as a substitute for, the Company’s results computed in accordance with GAAP. Further, the Company’s definition of these non-GAAP measures may not be comparable to other similarly-titled measures of other companies. Reconciliations of each non-GAAP measure to its nearest directly comparable measure calculated in accordance with GAAP are included below.

Forward-Looking Statements

This press release, together with other statements and information publicly disseminated by the Company, contains certain forward-looking statements within the meaning of Section 27A of the Securities Act of 1933, as amended, and Section 21E of the Securities Exchange Act of 1934, as amended. The Company intends such forward-looking statements to be covered by the safe harbor provisions for forward-looking statements contained in the Private Securities Litigation Reform Act of 1995 and includes this statement for purposes of complying with these safe harbor provisions. Forward-looking statements, which are based on certain assumptions and describe the Company's future plans, strategies and expectations, are generally identifiable by use of the words "believe," ”will,” "expect," "intend," "anticipate," "estimate," ”should,” "project" or similar expressions. You should not rely on forward-looking statements since they involve known and unknown risks, uncertainties and other factors that are, in some cases, beyond the Company's control and which could materially affect actual results, performances or achievements. Forward-looking statements in this press release include, among others, statements about the Company’s MBS portfolio and repurchase agreements, future volatility in the domestic and global economies, risks in the portfolio and the Company’s return profile. Factors that may cause actual results to differ materially from current expectations include the risk factors discussed in the Company’s most recent Annual Report on Form 10-K and Quarterly Reports on Form 10-Q. Accordingly, there is no assurance that the Company's expectations will be realized. Except as otherwise required by the federal securities laws, the Company disclaims any obligation or undertaking to publicly release any updates or revisions to any forward-looking statement contained herein (or elsewhere) to reflect any change in the Company’s expectations with regard thereto or any change in events, conditions or circumstances on which any such statement is based.