##### Table of Contents



UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
 Washington, DC 20549
 
 FORM 10-Q
  þ
    
    Quarterly report pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934
 for the quarterly period ended September 30, 2007
 OR
 o
    
    Transition report pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934
 for the transition period from                    to
 Commission File Number: 000-31828
 LUMINENT MORTGAGE CAPITAL, INC.
  Maryland
(State or other jurisdiction of 
incorporation or organization)
    
    06-1694835
(I.R.S. Employer
Identification No.)101 California Street, Suite 1350, San Francisco, California
(Address of principal executive offices)
    
    94111
(Zip Code)
 (415) 217-4500
  
 þ o
  o þ o
 o þ




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##### 



INDEX
 PAGECAUTIONARY NOTE
    
    
    iiPART I            FINANCIAL INFORMATIONITEM 1. FINANCIAL STATEMENTS
    
    
    1ITEM 2. MANAGEMENTS DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
    
    
    26ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
    
    
    47ITEM 4. CONTROLS AND PROCEDURES
    
    
    51PART II OTHER INFORMATIONITEM 1. LEGAL PROCEEDINGS
    
    
    52ITEM 1A. RISK FACTORS
    
    
    52ITEM 2. UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS
    
    
    55ITEM 3. DEFAULTS UPON SENIOR SECURITIES
    
    
    55ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
    
    
    55ITEM 5. OTHER INFORMATION
    
    
    55ITEM 6. EXHIBITS
    
    
    55SIGNATURES
    
    
    56EXHIBIT INDEX
    
    
    57CERTIFICATION OF THE CHIEF EXECUTIVE OFFICER PURSUANT TO SECTION 302 OF THE SARBANES-OXLEY ACT OF 2002CERTIFICATION OF THE CHIEF FINANCIAL OFFICER PURSUANT TO SECTION 302 OF THE SARBANES-OXLEY ACT OF 2002CERTIFICATION PURSUANT TO 18 U.S.C. SECTION 1350, AS ADOPTED PURSUANT TO SECTION 906 OF THE SARBANES-OXLEY ACT OF 2002CERTIFICATION PURSUANT TO 18 U.S.C. SECTION 1350, AS ADOPTED PURSUANT TO SECTION 906 OF THE SARBANES-OXLEY ACT OF 2002
  i




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CAUTIONARY NOTE REGARDING FORWARD-LOOKING STATEMENTS
   
    
    our ability to meet margin calls on our repurchase agreement financing that may be
required due to further declines in the value of the mortgage-backed securities
collateralizing the agreements;
    
    our ability to obtain or renew sufficient funding to maintain our leverage strategies
and support our liquidity position;
    
    the continued creditworthiness of the holders of mortgages underlying our
mortgage-related assets;
    
    our ability to purchase sufficient mortgages for our securitization business;
    
    the effect of the flattening of, or other changes in, the yield curve on our investment
strategies;
    
    changes in interest rates and mortgage prepayment rates;
    
    the possible effect of negative amortization of mortgages on our financial condition
and REIT qualification;
    
    the possible impact of our failure to regain or maintain exemptions under the 1940 Act;
    
    potential impacts of our leveraging policies on our net income and cash available for
distribution;
    
    the power of our board of directors to change our operating policies and strategies
without stockholder approval;
    
    the effects of interest rate caps and or proposed federal legislation on our
adjustable-rate and hybrid adjustable-rate loans and mortgage-backed securities;
    
    the degree to which our hedging strategies may or may not protect us from interest rate
volatility;
    
    our ability to invest up to 10% of our investment portfolio in residuals, leveraged
mortgage derivative securities and shares of other REITs as well as other investments;
    
    our current inability to make cash distributions to our stockholders because of our
liquidity concerns; and
    
    the other factors described in this Form 10-Q, including those under the captions
Managements Discussion and Analysis of Financial Condition and Results of Operations,
Risk Factors and Quantitative and Qualitative Disclosures about Market Risk.
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INDEX TO FINANCIAL STATEMENTS
 Condensed Consolidated Financial Statements of Luminent Mortgage Capital, Inc.:Condensed Consolidated Balance Sheets at September 30, 2007 (unaudited) and December 31, 2006
    
    
    2Condensed Consolidated Statements of Operations (unaudited) for the three and nine months ended
September 30, 2007 and September 30, 2006
    
    
    3Condensed Consolidated Statement of Stockholders Equity (unaudited) for the nine months ended
September 30, 2007
    
    
    4Condensed Consolidated Statements of Cash Flows (unaudited) for the nine months ended
September 30, 2007 and September 30, 2006
    
    
    5Notes to the Condensed Consolidated Financial Statements (unaudited)
    
    
    7
 1




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LUMINENT MORTGAGE CAPITAL, INC.
 
 CONDENSED CONSOLIDATED BALANCE SHEETS
 September 30,
    
    
    December 31,2007
    
    
    2006(in thousands, except share and per share amounts)
    
    (Unaudited)Assets:Cash and cash equivalents
    
    $
    8,285
    
    
    $
    5,902Restricted cash
    
    
    8,396
    
    
    
    7,498Loans held-for-investment, net of allowance for loan losses of $21,282 at
September 30, 2007
and $5,020 at December 31, 2006
    
    
    4,369,019
    
    
    
    5,591,717Mortgage-backed securities, at fair value
    
    
    
    
    
    
    141,556Mortgage-backed securities pledged as collateral, at fair value
    
    
    907,005
    
    
    
    2,789,382Debt securities, at fair value
    
    
    1,006
    
    
    
    Equity securities, at fair value
    
    
    413
    
    
    
    1,098Interest receivable
    
    
    24,023
    
    
    
    36,736Principal receivable
    
    
    1,771
    
    
    
    1,029Derivatives, at fair value
    
    
    201
    
    
    
    13,021Other assets
    
    
    52,318
    
    
    
    25,856Total assets
    
    $
    5,372,437
    
    
    $
    8,613,795Liabilities:Mortgage-backed notes
    
    $
    4,030,643
    
    
    $
    3,917,677Repurchase agreements
    
    
    792,231
    
    
    
    2,707,915Warehouse lending facilities
    
    
    
    
    
    
    752,777Commercial paper
    
    
    
    
    
    
    637,677Collateralized debt obligations
    
    
    294,529
    
    
    
    Junior subordinated notes
    
    
    92,788
    
    
    
    92,788Convertible senior notes
    
    
    90,000
    
    
    
    Derivatives, at fair value
    
    
    2,623
    
    
    
    Revolving line of credit
    
    
    43,256
    
    
    
    Cash distributions payable
    
    
    13,857
    
    
    
    14,343Accrued interest expense
    
    
    14,231
    
    
    
    12,094Warrant liability, at fair value
    
    
    68,910
    
    
    
    Accounts payable and accrued expenses
    
    
    19,854
    
    
    
    6,969Total liabilities
    
    
    5,462,922
    
    
    
    8,142,240Stockholders Equity:Preferred stock, par value $0.001:10,000,000 shares authorized; no shares issued and outstanding at
September 30, 2007 and December 31, 2006
    
    
    
    
    
    
    Common stock, par value $0.001:100,000,000 shares authorized; 43,172,839 and 47,808,510 shares issued and
outstanding at September 30, 2007 and December 31, 2006, respectively
    
    
    43
    
    
    
    48Additional paid-in capital
    
    
    548,459
    
    
    
    583,492Accumulated other comprehensive income
    
    
    2,560
    
    
    
    3,842Accumulated distributions in excess of accumulated earnings
    
    
    (641,547
    )
    
    
    (115,827
    )Total stockholders equity (deficit)
    
    
    (90,485
    )
    
    
    471,555Total liabilities and stockholders equity (deficit)
    
    $
    5,372,437
    
    
    $
    8,613,795
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LUMINENT MORTGAGE CAPITAL, INC.
 
 CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
 (Unaudited)
 For the Three Months Ended
    
    
    For the Nine Months EndedSeptember 30,
    
    
    September 30,(in thousands, except share and per share amounts)
    
    2007
    
    
    2006
    
    
    2007
    
    
    2006Net interest income:Interest income:Mortgage loan and securitization portfolio
    
    $
    86,869
    
    
    $
    65,658
    
    
    $
    281,527
    
    
    $
    133,667Spread portfolio
    
    
    21,850
    
    
    
    18,947
    
    
    
    84,001
    
    
    
    69,757Credit sensitive bond portfolio
    
    
    25,268
    
    
    
    10,493
    
    
    
    60,495
    
    
    
    28,176Total interest income
    
    
    133,987
    
    
    
    95,098
    
    
    
    426,023
    
    
    
    231,600Interest expense
    
    
    112,392
    
    
    
    73,149
    
    
    
    349,819
    
    
    
    172,633Net interest income
    
    
    21,595
    
    
    
    21,949
    
    
    
    76,204
    
    
    
    58,967Other income (expenses):Gains (losses) on derivative instruments, net
    
    
    6,524
    
    
    
    (11,689
    )
    
    
    42,406
    
    
    
    4,087Gains (losses) on sales of mortgage-backed securities, net
    
    
    (137,959
    )
    
    
    167
    
    
    
    (153,409
    )
    
    
    990Losses on sales of loans held-for-investment
    
    
    (46,477
    )
    
    
    
    
    
    
    (46,477
    )
    
    
    Impairment losses on mortgage-backed securities
    
    
    (268,877
    )
    
    
    
    
    
    
    (287,622
    )
    
    
    (2,179
    )Mortgage-backed securities, trading change in fair value
    
    
    (18,209
    )
    
    
    
    
    
    
    (18,200
    )
    
    
    Warrants, change in fair value
    
    
    (46,569
    )
    
    
    
    
    
    
    (46,569
    )
    
    
    Other expense
    
    
    (49
    )
    
    
    
    
    
    
    (156
    )
    
    
    (608
    )Total other income (expenses)
    
    
    (511,616
    )
    
    
    (11,522
    )
    
    
    (510,027
    )
    
    
    2,290Operating Expenses:Servicing expense
    
    
    5,389
    
    
    
    3,526
    
    
    
    18,104
    
    
    
    7,546Provision for loan losses
    
    
    10,247
    
    
    
    1,779
    
    
    
    18,434
    
    
    
    3,304Salaries and benefits
    
    
    8,363
    
    
    
    2,934
    
    
    
    14,998
    
    
    
    7,375Professional services
    
    
    3,171
    
    
    
    1,088
    
    
    
    5,012
    
    
    
    2,181Management compensation expense to related party
    
    
    
    
    
    
    6,048
    
    
    
    
    
    
    
    7,712Other general and administrative expenses
    
    
    1,690
    
    
    
    1,242
    
    
    
    5,366
    
    
    
    3,334Total operating expenses
    
    
    28,860
    
    
    
    16,617
    
    
    
    61,914
    
    
    
    31,452Income (loss) before income taxes
    
    
    (518,881
    )
    
    
    (6,190
    )
    
    
    (495,737
    )
    
    
    29,805Income taxes
    
    
    1,755
    
    
    
    405
    
    
    
    1,709
    
    
    
    1,057Net income (loss)
    
    $
    (520,636
    )
    
    $
    (6,595
    )
    
    $
    (497,446
    )
    
    $
    28,748Net income (loss) per share  basic
    
    $
    (12.17
    )
    
    $
    (0.17
    )
    
    $
    (11.07
    )
    
    $
    0.74Net income (loss) per share  diluted
    
    $
    (12.17
    )
    
    $
    (0.17
    )
    
    $
    (11.07
    )
    
    $
    0.74Weighted-average number of shares outstanding  basic
    
    
    42,790,740
    
    
    
    38,695,800
    
    
    
    44,943,803
    
    
    
    38,937,454Weighted-average number of shares outstanding  diluted
    
    
    42,790,740
    
    
    
    38,695,800
    
    
    
    44,943,803
    
    
    
    39,066,406Dividends per share
    
    $
    
    
    
    $
    0.30
    
    
    $
    0.62
    
    
    $
    0.55
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LUMINENT MORTGAGE CAPITAL, INC.
 
 CONDENSED CONSOLIDATED STATEMENT OF STOCKHOLDERS EQUITY (DEFICIT)
 (Unaudited)
 AccumulatedAccumulated
    
    
    DistributionsCommon Stock
    
    
    Additional
    
    
    Other
    
    
    in Excess ofPar
    
    
    Paid-in
    
    
    Comprehensive
    
    
    Accumulated
    
    
    Comprehensive(in thousands)
    
    Shares
    
    
    Value
    
    
    Capital
    
    
    Income/(Loss)
    
    
    Earnings
    
    
    Income/(Loss)
    
    
    TotalBalance, January 1, 2007
    
    
    47,809
    
    
    $
    48
    
    
    $
    583,492
    
    
    $
    3,842
    
    
    $
    (115,827
    )
    
    
    
    
    
    $
    471,555Net income (loss)
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    (497,446
    )
    
    $
    (497,446
    )
    
    
    (497,446
    )Securities available-for-sale,
fair value adjustment
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    (105
    )
    
    
    
    
    
    
    (105
    )
    
    
    (105
    )Amortization of derivative
gains
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    (1,177
    )
    
    
    
    
    
    
    (1,177
    )
    
    
    (1,177
    )Comprehensive income (loss)
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    $
    (498,728
    )Repurchases and retirement of
common stock
    
    
    (4,905
    )
    
    
    (5
    )
    
    
    (41,290
    )
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    (41,295
    )Distributions to stockholders
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    (28,274
    )
    
    
    
    
    
    
    (28,274
    )Issuance and amortization of
restricted common stock
    
    
    269
    
    
    
    
    
    
    
    6,257
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    6,257Balance, September 30, 2007
    
    
    43,173
    
    
    $
    43
    
    
    $
    548,459
    
    
    $
    2,560
    
    
    $
    (641,547
    )
    
    
    
    
    
    $
    (90,485
    )
  4




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LUMINENT MORTGAGE CAPITAL, INC.
 
 CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
 (Unaudited)
 For the Nine Months Ended September 30,(in thousands)
    
    2007
    
    
    2006Cash flows from operating activities:Net income (loss)
    
    $
    (497,446
    )
    
    $
    28,748Adjustments to reconcile net income (loss) to net cash provided by (used in) operating activities:Amortization of premium/(discount) on loans held-for-investment and mortgage-backed securities
and depreciation
    
    
    20,652
    
    
    
    (941
    )Impairment losses on securities
    
    
    287,622
    
    
    
    2,179Provision for loan losses
    
    
    18,434
    
    
    
    3,304Realized loss on real estate owned
    
    
    491
    
    
    
    Negative amortization of loans held-for-investment
    
    
    (86,531
    )
    
    
    (35,004
    )Share-based compensation
    
    
    6,257
    
    
    
    2,594Net realized and unrealized (gains) losses on derivative instruments
    
    
    7,156
    
    
    
    (3,459
    )Net losses on mortgage backed securities held as trading
    
    
    18,200
    
    
    
    Net change in the fair value of warrants
    
    
    46,569
    
    
    
    Net (gain) losses on sales of mortgage-backed-securities available-for-sale
    
    
    153,409
    
    
    
    (990
    )Net losses on the sales of loans held-for-investment
    
    
    46,477
    
    
    
    Changes in operating assets and liabilities:(Increase) decrease in interest receivable, net of purchased interest
    
    
    (16,048
    )
    
    
    73(Increase) decrease in other assets
    
    
    2,452
    
    
    
    (2,042
    )Increase in accounts payable and other liabilities
    
    
    12,304
    
    
    
    890Increase (decrease) in accrued interest expense
    
    
    2,742
    
    
    
    (13,183
    )Increase in management compensation payable, incentive compensation payable and other
related-party payable
    
    
    
    
    
    
    4,949Net cash provided by (used in) operating activities
    
    
    22,740
    
    
    
    (12,882
    )Cash flows from investing activities:Purchases of mortgage-backed securities
    
    
    (821,436
    )
    
    
    (1,849,595
    )Proceeds from sales of mortgage-backed securities
    
    
    1,863,969
    
    
    
    3,750,554Principal payments of mortgage-backed securities
    
    
    376,188
    
    
    
    364,781Purchases of loans held-for-investment, net
    
    
    (1,679,991
    )
    
    
    (3,949,480
    )Principal payments of loans held-for-investment
    
    
    1,295,362
    
    
    
    272,476Proceeds from the sale of loans held-for-investment
    
    
    957,150
    
    
    
    Purchases of derivative instruments
    
    
    (32,979
    )
    
    
    (2,792
    )Proceeds from derivative instruments
    
    
    40,184
    
    
    
    3,484Purchase of debt securities
    
    
    (1,271
    )
    
    
    Net change in restricted cash
    
    
    (8,437
    )
    
    
    671Other
    
    
    (129
    )
    
    
    Net cash provided by (used in) investing activities
    
    
    1,988,610
    
    
    
    (1,409,901
    )Cash flows from financing activities:Proceeds from issuance of common stock
    
    
    
    
    
    
    11,747Repurchases of common stock
    
    
    (41,295
    )
    
    
    (15,832
    )Capitalized financing costs
    
    
    (2,355
    )
    
    
    Borrowings under repurchase agreements
    
    
    31,313,807
    
    
    
    27,681,403Principal payments on repurchase agreements
    
    
    (33,021,207
    )
    
    
    (29,080,973
    )Borrowings under warehouse lending facilities
    
    
    2,069,957
    
    
    
    3,806,251Paydown of warehouse lending facilities
    
    
    (2,822,551
    )
    
    
    (3,806,251
    )Borrowings under commercial paper facility
    
    
    3,849,451
    
    
    
    Paydown of commercial paper facility
    
    
    (4,487,127
    )
    
    
    Distributions to stockholders
    
    
    (28,760
    )
    
    
    (11,014
    )Proceeds from issuance of mortgage-backed notes
    
    
    1,763,061
    
    
    
    3,062,397Principal payments on mortgage-backed notes
    
    
    (1,025,663
    )
    
    
    (214,187
    )Proceeds from issuance of collateralized debt obligations
    
    
    291,027
    
    
    
    Principal payments on collateralized debt obligations
    
    
    (568
    )
    
    
    Principal payments on margin debt
    
    
    
    
    
    
    (3,548
    )Proceeds from issuance of convertible senior notes
    
    
    90,000
    
    
    
    Proceeds from revolving line of credit
    
    
    43,256
    
    
    
    Net cash provided by (used in) financing activities
    
    
    (2,008,967
    )
    
    
    1,429,993Net increase in cash and cash equivalents
    
    
    2,383
    
    
    
    7,210Cash and cash equivalents, beginning of the period
    
    
    5,902
    
    
    
    11,466Cash and cash equivalents, end of the period
    
    $
    8,285
    
    
    $
    18,676
 5




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##### Table of Contents



LUMINENT MORTGAGE CAPITAL, INC.
 CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS (continued)
 (Unaudited)
 For the Nine Months Ended September 30,(in thousands)
    
    2007
    
    
    2006Supplemental disclosure of cash flow information:Interest paid
    
    $
    365,523
    
    
    $
    186,786Taxes paid
    
    
    4,665
    
    
    
    994Non-cash investing and financing activities:Issuance of warrants
    
    $
    22,343
    
    
    $
    Transfer of loans held-for-investment to real estate owned
    
    
    22,605
    
    
    
    Proceeds from the sale of mortgage-backed securities
    
    
    (18,982
    )
    
    
    Repayments of repurchase agreements
    
    
    18,982
    
    
    
    Acquisition of mortgage-backed securities available-for-sale through collateralized debt obligations
    
    
    (3,986
    )
    
    
    (Increase) decrease in principal receivable
    
    
    (742
    )
    
    
    12,478Increase (decrease) in cash distributions payable to stockholders
    
    
    (486
    )
    
    
    11,006Principal payments of mortgage-backed securities available-for-sale
    
    
    183
    
    
    
    Paydown of warehouse lending facilities
    
    
    (183
    )
    
    
    Increase in unsettled security purchases
    
    
    
    
    
    
    3,000
  6




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##### Table of Contents



LUMINENT MORTGAGE CAPITAL, INC.
 
 NOTES TO THE CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
 NOTE 1OVERVIEW
    Business Conditions and Going Concern
     7




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##### Table of Contents



As of September 30, 2007, progress in the stabilization of the Companys lending facilities
includes the following achievements.
    
    The Company has completed the sale of approximately $1.9 billion of mortgage-backed
securities to repay lenders and meet required margin calls.
    
    The Company has completed the sale or refinancing of assets financed by its asset-backed
commercial program, and it no longer has any outstanding commercial paper liabilities under
the asset-backed commercial paper program.
    
    The Company has sold approximately $1.0 billion of loans and has repaid all of its
warehouse lines of credit that were used to finance whole loan purchases. One warehouse line
for $1.0 billion was terminated prior to September 30, 2007, one warehouse line for $500.0
million expired in October 2007, and no balances are currently outstanding on the remaining
warehouse line totaling $1.0 billion. See Note 5 for additional information on the warehouse
facilities.
    
    The Company has stabilized approximately $781.5 million of repurchase agreement financing
with six repurchase agreement lenders by meeting all required margin calls.
    
    The Company is working with an additional repurchase
agreement lender, HSBC, to resolve a dispute on
the fair value of the underlying collateral for that agreement to settle an additional $32.2
million of repurchase agreement financing.
   NOTE 2 SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
 Accounting for Certain
Hybrid Financial Instruments  an Amendment of FASB Statement No. 133 and 140
 Recent Accounting Pronouncements
 Clarification of the Scope of the Audit and Accounting Guide and Accounting for Parent Companies and Equity Method Investors for
Investments in Investment Companies. Investment Companies
 8




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##### Table of Contents



The Fair Value Option for Financial Assets and
Financial Liabilities.
 Fair Value Measurements.
 . Accounting for
Derivative Instruments and Hedging Activities , Embedded Derivatives: Application of Paragraph 13(b) to Securitized Interests in
Prepayable Financial Assets (B40).
 Accounting for Uncertainty in
Income Taxes. Accounting for Income Taxes.
 NOTE 3SECURITIES
   9




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Unrealized Gains and Losses on Available-for-Sale Securities
 Gross
    
    
    GrossAmortized
    
    
    Unrealized
    
    
    UnrealizedCost
    
    
    Gains
    
    
    Losses
    
    
    Fair ValueDecember 31, 2006Mortgage-backed securities,
available-for-sale
    
    $
    2,930,878
    
    
    $
    7,549
    
    
    $
    (7,489
    )
    
    $
    2,930,938
   Holding Period of Gross Unrealized Losses on Available-for-Sale Securities
 Less than 12 Months
    
    
    12 Months or More
    
    
    TotalGross
    
    
    
    
    
    
    Gross
    
    
    
    
    
    
    GrossFair
    
    
    Unrealized
    
    
    Fair
    
    
    Unrealized
    
    
    Fair
    
    
    UnrealizedValue
    
    
    Losses
    
    
    Value
    
    
    Losses
    
    
    Value
    
    
    LossesDecember 31, 2006Agency-backed
mortgage-backed securities
    
    $
    8,850
    
    
    $
    (66
    )
    
    $
    
    
    
    $
    
    
    
    $
    8,850
    
    
    $
    (66
    )Non-agency-backed
mortgage-backed securities
    
    
    971,034
    
    
    
    (3,058
    )
    
    
    138,210
    
    
    
    (4,365
    )
    
    
    1,109,244
    
    
    
    (7,423
    )Total temporarily impaired
mortgage-backed securities
    
    $
    979,884
    
    
    $
    (3,124
    )
    
    $
    138,210
    
    
    $
    (4,365
    )
    
    $
    1,118,094
    
    
    $
    (7,489
    )
    10




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##### Table of Contents



Recognition of
interest Income and Impairment on Purchased and Retained Beneficial Interests in Securitized
Financial Assets
   Weighted-Average Life of Mortgage-Backed Securities
 Weighted-AverageWeighted-Average Life
    
    Fair Value
    
    
    Amortized Cost
    
    
    CouponLess than one year
    
    $
    49,828
    
    
    $
    50,383
    
    
    
    7.05
    %Greater than one year and less than five years
    
    
    814,094
    
    
    
    814,091
    
    
    
    6.42Greater than five years
    
    
    43,083
    
    
    
    60,793
    
    
    
    7.00Total
    
    $
    907,005
    
    
    $
    925,267
    
    
    
    6.49
    %
 11




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##### Table of Contents



NOTE 4LOANS HELD-FOR-INVESTMENT
  Components of Residential Mortgage Loans Held-for-Investment
 September 30,
    
    
    December 31,2007
    
    
    2006Principal
    
    $
    4,287,143
    
    
    $
    5,472,325Unamortized premium
    
    
    103,158
    
    
    
    124,412Amortized cost
    
    
    4,390,301
    
    
    
    5,596,737Allowance for loan losses
    
    
    (21,282
    )
    
    
    (5,020
    )Total residential
mortgage loans, net of
allowance for loan
losses
    
    $
    4,369,019
    
    
    $
    5,591,717
  Geographic Concentrations of Loans Held-for-Investment
 Top five geographic concentrations (% exposure):
    
    September 30, 2007
    

December 31, 2006California
    
    
    52.7
    %
    
    
    57.4
    %Florida
    
    
    11.9
    %
    
    
    8.6
    %Arizona
    
    
    4.3
    %
    
    
    4.1
    %Virginia
    
    
    3.8
    %
    
    
    3.7
    %Nevada
    
    
    3.5
    %
    
    
    3.4
    %
 ), Consolidation
of Variable Interest Entities,
 Allowance for Loan Losses
 For the Three Months Ended
    
    
    For the Nine Months EndedSeptember 30,
    
    
    September 30,
    
    
    September 30,
    
    
    September 30,2007
    
    
    2006
    
    
    2007
    
    
    2006Balance, beginning of period
    
    $
    12,297
    
    
    $
    1,525
    
    
    $
    5,020
    
    
    $
    Provision for loan losses
    
    
    10,247
    
    
    
    1,779
    
    
    
    18,434
    
    
    
    3,304Charge-offs
    
    
    (1,262
    )
    
    
    (15
    )
    
    
    (2,172
    )
    
    
    (15
    )Balance, end of period
    
    $
    21,282
    
    
    $
    3,289
    
    
    $
    21,282
    
    
    $
    3,289
  12




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NOTE 5BORROWINGS
  Borrowings
 Weighted-Borrowings
    
    
    Average
    
    
    Fair Value of
    
    
    Final StatedOutstanding
    
    
    Interest Rate
    
    
    Collateral(4)
    
    
    Maturities (6)September 30, 2007Mortgage-backed notes (1) (2)
    
    $
    4,014,145
    
    
    
    5.37
    %
    
    $
    3,992,911
    
    
    
    2046Repurchase agreements (3)
    
    
    813,681
    
    
    
    6.21
    
    
    
    954,046
    
    
    
    2007Collateralized debt obligations (1)
    
    
    295,432
    
    
    
    6.37
    
    
    
    245,696
    
    
    
    2047Junior subordinated notes
    
    
    92,788
    
    
    
    8.73
    
    
    

    none
    

    
    
    2035Convertible senior notes
    
    
    90,000
    
    
    
    8.38
    
    

    
    none
    

    
    
    2027Revolving line of credit
    
    
    43,256
    
    
    
    9.13
    
    
    

    none
    

    
    
    2012Total
    
    $
    5,349,302
    
    
    
    5.69
    %
    
    $
    5,092,921December 31, 2006Mortgage-backed notes (1) (2)
    
    $
    3,914,932
    
    
    
    5.60
    %
    
    $
    3,919,354
    
    
    
    2046Repurchase agreements
    
    
    2,707,915
    
    
    
    5.45
    
    
    
    2,909,895
    
    
    
    2008Commercial paper facility
    
    
    639,871
    
    
    
    5.36
    
    
    
    643,823
    
    
    
    2007Warehouse lending facilities
    
    
    752,777
    
    
    
    5.80
    
    
    
    794,420
    
    
    
    (5
    )Junior subordinated notes
    
    
    92,788
    
    
    
    8.58
    
    
    
    none
    

    
    
    2035Total
    
    $
    8,108,283
    
    
    
    5.58
    %
    
    $
    8,267,492
 
 (1)
    
    Outstanding balances for mortgage-backed notes exclude $16.5 million in unamortized premium at September 30, 2007 and $2.7 million at December 31, 2006,
$0.9 million for collateralized debt obligations at September 30, 2007 and zero and $2.2 million at September 30, 2007 and December 31, 2006,
respectively, for commercial paper. The maturity of each class of securities is directly affected by the rate of principal repayments on the associated
residential mortgage loan collateral. As a result, the actual maturity of each series of mortgage-backed notes may be shorter than the stated maturity.(2)
    
    The carrying amount of loans pledged as collateral is $4.4 billion and $3.9 billion at September 30, 2007 and December 31, 2006.(3)
    
    Outstanding balances for repurchase agreements include $21.5 million of unamortized debt discounts for the issuance of warrants in conjunction obtaining
certain repurchase agreement financing.(4)
    
    Collateral for borrowings consists of mortgage-backed securities and loans held-for-investment.(5)
    
    Borrowing has no stated maturity.(6)
    
    Mortgage-backed notes, repurchase agreements and collateralized debt obligations mature at various dates. The date above is the last maturity date for
each type of borrowing.  Mortgage-backed notes
  13




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Repurchase Agreements
  Repurchase Agreement Maturities
 September 30, 2007
    
    
    December 31, 2006Overnight 1 day or less
    
    $
    252,235
    
    
    $
    Between 2 and 30 days
    
    
    389,037
    
    
    
    2,070,939Between 31 and 90 days
    
    
    172,409
    
    
    
    201,976Between 91 and 636 days
    
    
    
    
    
    
    435,000Total
    
    $
    813,681
    
    
    $
    2,707,915
  Warehouse Lending Facilities
 Mortgage Loan Financing.
 Asset-backed Securities Financing.
 14




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##### Table of Contents



Warehouse Lending Facilities
 At September 30, 2007
    
    
    At December 31, 2006Weighted-
    
    
    
    
    
    
    
    
    
    
    Weighted-Borrowing
    
    
    Borrowings
    
    
    Average
    
    
    Borrowing
    
    
    Borrowings
    
    
    AverageCounterparty
    
    Capacity
    
    
    Outstanding
    
    
    Interest Rate
    
    
    Capacity
    
    
    Outstanding
    
    
    Interest RateMortgage loan financing:Greenwich Capital Financial Products, Inc.
    
    $
    1,000.0
    
    
    $
    
    
    
    
    
    
    
    $
    1,000.0
    
    
    $
    455.2
    
    
    
    5.80
    %Barclays Bank plc
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    1,000.0
    
    
    
    290.1
    
    
    
    5.78Bear Stearns Mortgage Capital Corp.
    
    
    500.0
    
    
    
    
    
    
    
    
    
    
    
    500.0
    
    
    
    7.5
    
    
    
    5.77Asset-backed securities financing:Greenwich Capital Financial Products, Inc.
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    500.0
    
    
    
    
    
    
    
    Total
    
    $
    1,500.0
    
    
    $
    
    
    
    
    
    
    
    $
    3,000.0
    
    
    $
    752.8
    
    
    
    5.80
    %
  Commercial Paper Facility
  Collateralized Debt Obligations
   Junior Subordinated Notes
  15




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16




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Convertible Senior Notes
       Revolving Line of Credit
  NOTE 6CAPITAL STOCK AND EARNINGS PER SHARE
  17




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Warrants Pricing Assumptions
 August 14,
    
    September 30,2007
    
    2007Risk-free interest rate
    
    
    4.35
    %
    
    
    4.23
    %Expected life in years
    
    
    5.04
    
    
    
    4.92Expected volatility (1)
    
    
    30.0
    %
    
    
    30.0
    %Dividend yield (2)
    
    
    0.0
    %
    
    
    0.0
    %
 
 (1)
    
    The Companys stock price volatility increased dramatically subsequent to
July 31, 2007 due to unprecedented events in the mortgage industry and the
Companys liquidity concerns. That level of volatility is not considered to be
indicative of volatility over the life of the warrants and therefore, expected
volatility was calculated based on the Companys stock price prior to July 31,
2007.(2)
    
    The Company has suspended the payment of its second quarter dividend and is
not expecting to declare a dividend over the life of the warrants; therefore
the dividend yield is estimated to be zero.  18




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Reconciliation of Basic and Diluted Earnings Per Share
 For the Three Months Ended
    
    
    For the Three Months EndedSeptember 30, 2007
    
    
    September 30, 2006Basic
    
    
    Diluted
    
    
    Basic
    
    
    DilutedNet income (loss) (in thousands)
    
    $
    (520,636
    )
    
    $
    (520,636
    )
    
    $
    (6,595
    )
    
    $
    (6,595
    )Weighted-average number of
common shares outstanding
    
    
    42,790,740
    
    
    
    42,790,740
    
    
    
    38,695,800
    
    
    
    38,695,800Additional shares due to
assumed conversion of dilutive
instruments
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    Adjusted weighted-average
number of common shares
outstanding
    
    
    42,790,740
    
    
    
    42,790,740
    
    
    
    38,695,800
    
    
    
    38,695,800Net income (loss) per share
    
    $
    (12.17
    )
    
    $
    (12.17
    )
    
    $
    (0.17
    )
    
    $
    (0.17
    )
 For the Nine Months
    
    
    For the Nine MonthsEnded September 30, 2007
    
    
    Ended September 30, 2006Basic
    
    
    Diluted
    
    
    Basic
    
    
    DilutedNet income (loss) (in thousands)
    
    $
    (497,446
    )
    
    $
    (497,446
    )
    
    $
    28,748
    
    
    $
    28,748Weighted-average number of
common shares outstanding
    
    
    44,943,803
    
    
    
    44,943,803
    
    
    
    38,937,454
    
    
    
    38,937,454Additional shares due to
assumed conversion of dilutive
instruments
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    128,952Adjusted weighted-average
number of common shares
outstanding
    
    
    44,943,803
    
    
    
    44,943,803
    
    
    
    38,937,454
    
    
    
    39,066,406Net income (loss) per share
    
    $
    (11.07
    )
    
    $
    (11.07
    )
    
    $
    0.74
    
    
    $
    0.74
  NOTE 72003 STOCK INCENTIVE PLANS
  19




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Common Stock Available for Grant
 2003 Outside2003 Stock
    
    
    Advisors StockIncentive Plan
    
    
    Incentive Plan
    
    
    TotalSeptember 30, 2007Shares reserved for issuance
    
    
    1,850,000
    
    
    
    150,000
    
    
    
    2,000,000Granted
    
    
    (1,029,500
    )
    
    
    (20,760
    )
    
    
    (1,050,260
    )Forfeited
    
    
    
    
    
    
    
    
    
    
    Expired
    
    
    
    
    
    
    
    
    
    
    Total available for grant
    
    
    820,500
    
    
    
    129,240
    
    
    
    949,740
 Outstanding Stock Options
 September 30, 2007Stock options outstanding (shares)
    
    
    55,000Weighted-average exercise price
    
    $
    14.82Weighted-average remaining life (years)
    
    
    5.9
  Common Stock Awards
 Number of
    
    
    Weighted-AverageCommon Shares
    
    
    Issue PriceOutstanding, January 1, 2007
    
    
    721,329
    
    
    $
    9.13Issued
    
    
    269,094
    
    
    
    9.32Forfeited
    
    
    
    
    
    
    Outstanding, September 30, 2007
    
    
    990,423
    
    
    $
    9.18
 Non-vested Common Stock Awards
 Number of Common
    
    
    Weighted-AverageShares
    
    
    Grant-Date Fair ValueNonvested, January 1, 2007
    
    
    555,923
    
    
    $
    9.20Granted
    
    
    269,094
    
    
    
    9.32Vested
    
    
    (804,257
    )
    
    
    9.25Forfeited
    
    
    
    
    
    
    Nonvested, September 30, 2007
    
    
    20,760
    
    
    $
    8.67
   20




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NOTE 8FAIR VALUE OF FINANCIAL INSTRUMENTS
 Disclosures About Fair Value of Financial Instruments
  Fair Value of Financial Instruments
 September 30, 2007
    
    December 31, 2006Carrying
    
    
    
    CarryingValue
    
    Fair Value
    
    Value
    
    Fair ValueLoans held-for-investment
    
    $
    4,369,019
    
    
    $
    3,992,911
    
    
    $
    5,591,717
    
    
    $
    5,586,872Mortgage-backed notes
    
    
    4,030,643
    
    
    
    3,781,117
    
    
    
    3,917,677
    
    
    
    3,919,353CDOs
    
    
    294,529
    
    
    
    150,601
    
    
    
    
    
    
    
    Convertible senior notes
    
    
    90,000
    
    
    
    67,500
    
    
    
    
    
    
    
    Junior subordinated notes
    
    
    92,788
    
    
    
    91,738
    
    
    
    92,788
    
    
    
    91,325
 NOTE 9ACCUMULATED OTHER COMPREHENSIVE INCOME
 Components of Accumulated Other Comprehensive Income
 September 30,
    
    
    December 31,2007
    
    
    2006Unrealized holding losses on securities available-for-sale
    
    $
    (441,028
    )
    
    $
    (5,957
    )Reclassification adjustment for net losses (gains) on securities
available-for-sale included in net income
    
    
    153,409
    
    
    
    (993
    )Impairment losses on securities
    
    
    287,622
    
    
    
    7,010Net unrealized gain on securities available-for-sale
    
    
    3
    
    
    
    60Net deferred realized and unrealized gains on cash flow hedges
    
    
    2,557
    
    
    
    3,734Net unrealized losses (gains) on equity securities available-for-sale
    
    
    
    
    
    
    48Accumulated other comprehensive income
    
    $
    2,560
    
    
    $
    3,842
 NOTE 10DERIVATIVE INSTRUMENTS AND HEDGING ACTIVITIES
  21




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Derivative Contracts
 Estimated Fair ValueSeptember 30,
    
    December 31,2007
    
    2006Eurodollar futures contracts sold short
    
    $
    
    
    
    $
    149Interest rate swap contracts
    
    
    (4,149
    )
    
    
    4,383Interest rate cap contracts
    
    
    1,727
    
    
    
    1,531Credit default swaps
    
    
    
    
    
    
    6,958
 Realized and Unrealized Gains and Losses on Derivative Contracts
 For the Three Months Ended
    
    For the Nine Months EndedSeptember 30,
    
    September 30,2007
    
    2006
    
    2007
    
    2006Free standing derivatives:Realized gains
    
    $
    34,673
    
    
    $
    477
    
    
    $
    50,133
    
    
    $
    4,417Unrealized gains (losses)
    
    
    (28,610
    )
    
    
    (11,994
    )
    
    
    (6,743
    )
    
    
    306Purchase commitment derivatives:Realized gains (losses)
    
    
    43
    
    
    
    (172
    )
    
    
    (984
    )
    
    
    (636
    )Unrealized gains (losses)
    
    
    418
    
    
    
    
    
    
    
    
    
    
    
    
  Cash Flow Hedging Strategies
  NOTE 11INCOME TAXES
  22




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NOTE 12LEGAL MATTERS
 Class Action Lawsuits
    23




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NOTE 13RELATED PARTY TRANSACTIONS
     NOTE 14SUBSEQUENT EVENTS
      24




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The following discussion of our financial condition and results of operations should be read
in conjunction with the financial statements and notes to those statements included in Item 1 of
this Form 10-Q. This discussion
may contain certain forward-looking statements that involve risks and uncertainties.
Forward-looking statements are those that are not historical in nature. See Cautionary Note
Regarding Forward-looking Statements. As a result of many factors, such as those set forth under
Risk Factors in Item 1A of this Form 10-Q, Item 1A of our 2006 Form 10-K, elsewhere in this
Quarterly Report or incorporated by reference herein, our actual results may differ materially from
those anticipated in such forward-looking statements.
 Overview
 Business Conditions and Going Concern
      
    
    We have completed the sale of approximately $1.9 billion of mortgage-backed securities to
repay lenders and meet required margin calls.
    
    We have completed the sale or refinancing of assets financed by our asset-backed
commercial program, and we no longer have any outstanding commercial paper liabilities under
our asset-backed commercial paper program.
    
    We have sold approximately $1.0 billion of loans and have repaid all of our warehouse
lines of credit that were used to finance whole loan purchases. One warehouse line for $1.0
billion was terminated prior to September 30, 2007, and additional warehouse line for $500.0
million expired in October 2007, and no balances are currently outstanding on the remaining
warehouse line totaling $1.0 billion. See Note 5 to the Consolidated Financial Statements
for additional information on our warehouse facilities.
 25




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##### Table of Contents




    
    We have stabilized $781.5 million of repurchase agreement financing with six repurchase
agreement lenders by meeting all required margin calls.
    
    We are working with an additional repurchase agreement
lender, HSBC, to resolve a dispute on the fair
value of the underlying collateral for that agreement to settle an additional $32.2 million
of repurchase agreement financing.
   Investment Activities
    26




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Critical Accounting Policies
  Interest Income Recognition
   27




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Classifications of Investment Securities
  Accounting for
Certain Hybrid Financial Instruments  an Amendment of FASB Statements No. 133 and 140
 Valuations of Mortgage-backed Securities
     28




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Allowance and Provision for Loan Losses
     Accounting for Derivative Financial Instruments and Hedging Activities
  29




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Accounting for Warrants
 ,
Accounting for Certain Financial Instruments with Characteristics of both Liabilities and Equ
  Results of Operations
     30




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Components of Interest Expense
 Percentage
    
    
    
    
    
    
    Percentageof Weighted
    
    
    
    
    
    
    of WeightedThree Months
    
    
    Average
    
    
    Three Months
    
    
    AverageEnded
    
    
    Cost of
    
    
    Ended
    
    
    Cost ofSeptember 30,
    
    
    Financing
    
    
    September 30,
    
    
    Financing2007
    
    
    Liabilities
    
    
    2006
    
    
    LiabilitiesInterest expense on mortgage-backed notes
    
    $
    62,835
    
    
    
    3.38
    %
    
    $
    38,372
    
    
    
    2.83
    %Interest expense on repurchase agreement liabilities
    
    
    24,154
    
    
    
    1.30
    
    
    
    31,043
    
    
    
    2.29Interest expense on commercial paper facility
    
    
    12,117
    
    
    
    0.65
    
    
    
    
    
    
    
    Interest expense on warehouse lending facilities
    
    
    4,161
    
    
    
    0.22
    
    
    
    3,378
    
    
    
    0.25Interest expense on junior subordinated notes
    
    
    1,984
    
    
    
    0.11
    
    
    
    1,973
    
    
    
    0.15Interest expense on CDOs
    
    
    5,263
    
    
    
    0.28
    
    
    
    
    
    
    
    Interest expense on convertible senior notes
    
    
    1,876
    
    
    
    0.10
    
    
    
    
    
    
    
    Interest expense on revolving line of credit
    
    
    261
    
    
    
    0.01
    
    
    
    
    
    
    
    Amortization of net realized gains on futures and interest
rate swap contracts
    
    
    (341
    )
    
    
    (0.02
    )
    
    
    (580
    )
    
    
    (0.04
    )Net interest income on interest rate swap contracts
    
    
    
    
    
    
    
    
    
    
    (1,087
    )
    
    
    (0.08
    )Other
    
    
    82
    
    
    

    nm
    
    

    
    50
    
    
    
    nmTotal interest expense
    
    $
    112,392
    
    
    
    6.05
    %
    
    $
    73,149
    
    
    
    5.40
    %
 Percentage
    
    
    
    
    
    
    Percentageof Weighted
    
    
    
    
    
    
    of WeightedNine Months
    
    
    Average
    
    
    Nine Months
    
    
    AverageEnded
    
    
    Cost of
    
    
    Ended
    
    
    Cost ofSeptember 30,
    
    
    Financing
    
    
    September 30,
    
    
    Financing2007
    
    
    Liabilities
    
    
    2006
    
    
    LiabilitiesInterest expense on mortgage-backed notes
    
    $
    188,544
    
    
    
    3.12
    %
    
    $
    84,119
    
    
    
    2.41
    %Interest expense on repurchase agreement liabilities
    
    
    98,240
    
    
    
    1.63
    
    
    
    81,547
    
    
    
    2.33Interest expense on commercial paper facility
    
    
    29,941
    
    
    
    0.50
    
    
    
    
    
    
    
    Interest expense on warehouse lending facilities
    
    
    12,815
    
    
    
    0.21
    
    
    
    8,849
    
    
    
    0.25Interest expense on junior subordinated notes
    
    
    5,902
    
    
    
    0.10
    
    
    
    5,790
    
    
    
    0.17Interest expense on CDOs
    
    
    12,590
    
    
    
    0.21
    
    
    
    
    
    
    
    Interest expense on convertible senior notes
    
    
    2,415
    
    
    
    0.04
    
    
    
    
    
    
    
    Interest expense on revolving line of credit
    
    
    261
    
    
    
    nm
    

    
    
    
    
    
    
    Amortization of net realized gains on futures and interest
rate swap contracts
    
    
    (1,177
    )
    
    
    (0.02
    )
    
    
    (6,924
    )
    
    
    (0.20
    )Net interest expense on interest rate swap contracts
    
    
    
    
    
    
    
    
    
    
    (798
    )
    
    
    0.02Other
    
    
    288
    
    
    

    nm
    

    
    
    50
    
    
    

    nmTotal interest expense
    
    
    349,819
    
    
    
    5.79
    %
    
    $
    172,633
    
    
    
    4.94
    %
 
 nm  not meaningful  31




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##### Table of Contents



Components of Other Income
 Three Months Ended
    
    
    Nine Months EndedSeptember 30,
    
    
    September 30,2007
    
    
    2006
    
    
    2007
    
    
    2006Realized gains on derivative instruments, net
    
    $
    33,947
    
    
    $
    2,076
    
    
    $
    46,843
    
    
    $
    2,076Unrealized gains (losses) on derivative
instruments, net
    
    
    (28,193
    )
    
    
    (13,765
    )
    
    
    (6,743
    )
    
    
    2,011Net interest income on interest rate swaps
    
    
    955
    
    
    
    
    
    
    
    3,178
    
    
    
    Other derivative related expenses
    
    
    (185
    )
    
    
    
    
    
    
    (872
    )
    
    
    Gains (losses) on derivatives, net
    
    
    6,524
    
    
    
    (11,689
    )
    
    
    42,406
    
    
    
    4,087Impairment losses on mortgage-backed securities
    
    
    (268,877
    )
    
    
    
    
    
    
    (287,622
    )
    
    
    (2,179)
    )Sales of mortgage-backed securities:Gains
    
    
    560
    
    
    
    273
    
    
    
    564
    
    
    
    9,962Losses
    
    
    (138,519
    )
    
    
    (106
    )
    
    
    (153,973
    )
    
    
    (8,972)
    )Sub-total
    
    
    (137,959
    )
    
    
    167
    
    
    
    (153,409
    )
    
    
    990Loss on sale of loans held-for-investment
    
    
    (46,477
    )
    
    
    
    
    
    
    (46,477
    )
    
    
    Mortgage-backed securities, trading change in
fair value
    
    
    (18,209
    )
    
    
    
    
    
    
    (18,200
    )
    
    
    Warrants, change in fair value
    
    
    (46,569
    )
    
    
    
    
    
    
    (46,569
    )
    
    
    Other expense
    
    
    (49
    )
    
    
    
    
    
    
    (156
    )
    
    
    (608
    )Total
    
    $
    (511,616
    )
    
    $
    (11,522
    )
    
    $
    (510,027
    )
    
    $
    2,290
   Components of Operating Expenses
 Three Months Ended
    
    
    Nine Months EndedSeptember 30,
    
    
    September 30,2007
    
    
    2006
    
    
    2007
    
    
    2006Servicing expense
    
    $
    5,389
    
    
    $
    3,526
    
    
    $
    18,104
    
    
    $
    7,546Provision for loan losses
    
    
    10,247
    
    
    
    1,779
    
    
    
    18,434
    
    
    
    3,304Salaries and benefits
    
    
    8,363
    
    
    
    2,934
    
    
    
    14,998
    
    
    
    7,375Professional services
    
    
    3,171
    
    
    
    1,088
    
    
    
    5,012
    
    
    
    2,181Management compensation
expense to related party
    
    
    
    
    
    
    6,048
    
    
    
    
    
    
    
    7,712Other general and
administrative expenses
    
    
    1,690
    
    
    
    1,242
    
    
    
    5,366
    
    
    
    3,334Total expenses
    
    $
    28,860
    
    
    $
    16,617
    
    
    $
    61,914
    
    
    $
    31,452
 32




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##### Table of Contents



REIT taxable income
   33




---



##### Table of Contents



Reconciliation of GAAP Net Income to REIT Taxable Income
 Nine Months EndedSeptember 30,2007
    
    
    2006GAAP net
income (loss)
    
    $
    (497,446
    )
    
    $
    28,748Adjustments to GAAP net income:Interest income and interest expense, net
    
    
    (23,066
    )
    
    
    (11,610
    )Impairment losses on mortgage-backed securities
    
    
    287,622
    
    
    
    2,179Provision for loan losses
    
    
    18,333
    
    
    
    3,304Servicing expense
    
    
    17,126
    
    
    
    6,231Warrants expense
    
    
    46,569
    
    
    
    Losses (gains) on mortgage-backed securities
and loans, net
    
    
    218,086
    
    
    
    990Unrealized gains on derivative instruments, net
    
    
    (42,206
    )
    
    
    (2,011
    )Other, net
    
    
    16,927
    
    
    
    432Net adjustments to GAAP net income
    
    
    539,191
    
    
    
    (485
    )REIT taxable income
    
    
    41,745
    
    
    
    28,263REIT taxable income per share
    
    $
    0.92
    
    
    $
    0.71Average shares outstanding on dividend record
date during the quarter
    
    
    45,347,747
    
    
    
    39,652,028
 Estimated Undistributed REIT Taxable Income
 Nine Months EndedSeptember 30,2007
    
    
    2006Undistributed REIT taxable income, beginning of period
    
    $
    4,429
    
    
    $
    3,154REIT taxable income earned during period
    
    
    41,745
    
    
    
    28,263Distributions declared during period, net of dividend
equivalent rights on restricted stock
    
    
    (27,858
    )
    
    
    (21,742
    )Other adjustments
    
    
    5,157
    
    
    
    (214
    )Undistributed REIT taxable income, end of period
    
    $
    23,473
    
    
    $
    9,461Cash distributions per share that were declared during period
    
    $
    0.62
    
    
    $
    0.55Percentage of current year REIT taxable income distributed
    
    
    43.8
    %
    
    
    76.9
    %
   34




---



##### Table of Contents



Financial Condition
 Mortgage-backed securities
   Asset Quality
 September 30, 2007
    
    
    December 31, 2006Percentage of
    
    
    
    
    
    
    Percentage ofTotal
    
    
    
    
    
    
    TotalMortgage-
    
    
    
    
    
    
    Mortgage-backed
    
    
    
    
    
    
    backedFair Value
    
    
    Securities
    
    
    Fair Value
    
    
    SecuritiesResidential Mortgage Credit PortfolioInvestment-grade MBS:AA/Aa rating
    
    $
    73,714
    
    
    
    8.1
    %
    
    $
    129,096
    
    
    
    4.4
    %A/A rating
    
    
    151,776
    
    
    
    16.7
    
    
    
    238,623
    
    
    
    8.1BBB/Baa rating
    
    
    113,313
    
    
    
    12.5
    
    
    
    273,359
    
    
    
    9.3Total Investment-grade MBS
    
    
    338,803
    
    
    
    37.3
    
    
    
    641,078
    
    
    
    21.8Weighted-average credit rating
    
    
    A
    
    
    
    
    
    
    
    A-Non-investment-grade MBS:BB/Ba rating
    
    
    82,786
    
    
    
    9.1
    
    
    
    145,741
    
    
    
    5.0B/B2 rating
    
    
    16,840
    
    
    
    1.9
    
    
    
    
    
    
    
    CCC/Caa and below
    
    
    17,692
    
    
    
    2.0
    
    
    
    
    
    
    
    Not rated
    
    
    7,905
    
    
    
    0.9
    
    
    
    11,196
    
    
    
    0.4Total non-investment-grade MBS
    
    
    125,223
    
    
    
    13.9
    
    
    
    156,937
    
    
    
    5.4Weighted-average credit rating (1)
    
    BB
    
    
    
    
    
    
    BBTotal Residential Mortgage Credit portfolio
    
    
    464,026
    
    
    
    51.2
    
    
    
    798,015
    
    
    
    27.2Weighted-average credit rating (1)
    
    BBB
    

    
    
    
    
    
    BBB+Spread PortfolioAgency MBS
    
    
    617
    
    
    
    0.0
    
    
    
    106,648
    
    
    
    3.7AAA/Aaa rating
    
    
    442,362
    
    
    
    48.8
    
    
    
    2,026,275
    
    
    
    69.1Total Spread portfolio
    
    
    442,979
    
    
    
    48.8
    
    
    
    2,132,923
    
    
    
    72.8Weighted-average credit rating
    
    AAA
    

    
    
    
    
    
    AAATotal mortgage-backed securities
    
    $
    907,005
    
    
    
    100.0
    %
    
    $
    2,930,938
    
    
    
    100.0
    %Weighted-average credit rating
    
    

    AA
    
    
    
    
    
    
    

    AA
 
 (1)
    
    Weighted-average credit rating excludes non-rated mortgage-backed securities of $7.9 million and $11.2 million at September 30,
2007 and December 31, 2006, respectively, and includes the effect of credit-related derivative instruments that are a direct economic
hedge of a specific security. 35




---



##### Table of Contents



Loans held-for-investment
 Residential Loans Held-For Investment Product Data
 Weighted-AverageMonths toReset of
    
    
    
    
    
    
    
    
    
    
    Seriously
    
    
    
    
    
    
    Number ofLoans After
    
    
    
    
    
    
    Principal
    
    
    Delinquent
    
    
    
    
    
    
    SeriouslyWeighted-
    
    
    Weighted-
    
    
    Weighted-
    
    
    Effect of
    
    
    
    
    
    
    Amount of
    
    
    Loans as a
    
    
    Number of
    
    
    DelinquentAverage
    
    
    Average
    
    
    Average
    
    
    Cost of
    
    
    
    
    
    
    Seriously
    
    
    Percentage of
    
    
    Seriously
    
    
    Loans as aInterest
    
    
    Maturity
    
    
    Months to
    
    
    Fundsa
    
    
    Principal
    
    
    Delinquent
    
    
    Total
    
    
    Delinquent
    
    
    Percentage ofRate
    
    
    Date
    
    
    Reset
    
    
    Hedging (1)
    
    
    Balance
    
    
    Loans (2)
    
    
    Principal
    
    
    Loans (2)
    
    
    Total LoansSeptember 30, 2007Floating rate
mortgage
    
    
    8.21
    %
    
    
    2038
    
    
    
    1
    
    
    
    1
    
    
    $
    3,191,142
    
    
    $
    105,985
    
    
    
    2.47
    %
    
    
    241
    
    
    
    2.20
    %Hybrid mortgage
    
    
    6.51
    %
    
    
    2036
    
    
    
    44
    
    
    
    22
    
    
    
    1,096,001
    
    
    
    37,038
    
    
    
    0.86
    
    
    
    99
    
    
    
    0.91Total
    
    
    7.82
    %
    
    
    2037
    
    
    
    12
    
    
    
    4
    
    
    $
    4,287,143
    
    
    $
    143,023
    
    
    
    3.33
    %
    
    
    340
    
    
    
    3.11
    %December 31, 2006Floating rate
mortgage
    
    
    8.02
    %
    
    
    2037
    
    
    
    1
    
    
    
    1
    
    
    $
    4,089,015
    
    
    $
    20,830
    
    
    
    0.38
    %
    
    
    45
    
    
    
    0.33
    %Hybrid mortgage
    
    
    6.57
    %
    
    
    2036
    
    
    
    54
    
    
    
    33
    
    
    
    1,383,310
    
    
    
    13,053
    
    
    
    0.24
    
    
    
    30
    
    
    
    0.21Total
    
    
    7.65
    %
    
    
    2037
    
    
    
    14
    
    
    
    9
    
    
    $
    5,472,325
    
    
    $
    33,883
    
    
    
    0.62
    %
    
    
    75
    
    
    
    0.54
    %
 
 (1)
    
    We attempt to mitigate our interest rate risk by hedging the cost of liabilities related to our hybrid residential mortgage loans. Amounts reflect the effect of these hedges on the
months to reset of our residential mortgage loans. In addition at September 30, 2007 and December 31, 2006, the financing for $0.2 billion and $0.3 billion of our hybrid residential
mortgage loans, respectively is, like the underlying collateral, fixed for a period of three to five years and then becomes variable based upon the average rates of the underlying loans
which will adjust based on LIBOR. The weighted-average period to
reset of the debt we use to acquire residential mortgage loans was
match funded approximately six months and nine months
at September 30, 2006 and December 31, 2006, respectively.(2)
    
    Seriously delinquent loans are loans 90 or more days past due and loans in foreclosure.  36




---



##### Table of Contents



Residential Mortgage Loans Key Metrics
 September 30, 2007
    
    December 31, 2006Unpaid principal balance
    
    $
    4,287,143
    
    
    $
    5,472,325Number of loans
    
    
    10,935
    
    
    
    13,942Average loan balance
    
    $
    392
    
    
    $
    393Weighted-average coupon rate
    
    
    7.82
    %
    
    
    7.65
    %Weighted-average lifetime cap
    
    
    10.65
    %
    
    
    10.64
    %Weighted-average original term, in months
    
    
    376
    
    
    
    375Weighted-average remaining term, in months
    
    
    360
    
    
    
    366Weighted-average effective loan-to-value ratio (LTV)(1)
    
    
    71.6
    %
    
    
    72.6
    %Weighted-average FICO score
    
    
    711
    
    
    
    713Number of loans with FICO scores below 620
    
    
    10
    
    
    
    11Percentage of loans with FICO scores above 700
    
    
    55.8
    %
    
    
    58.5
    %Percentage of loans with LTV greater than 80%
    
    
    7.2
    %
    
    
    6.8
    %Percentage of loans with LTV greater than 90%
    
    
    1.3
    %
    
    
    1.3
    %Percentage of loans with effective LTV greater than 80% (1)
    
    
    0
    %
    
    
    0
    %Percentage of no documentation loans
    
    
    2.3
    %
    
    
    2.5
    %Percentage of loans originated for refinancing purposes
    
    
    58.3
    %
    
    
    58.0
    %Top five geographic concentrations (% exposure):California
    
    
    52.7
    %
    
    
    57.4
    %Florida
    
    
    11.9
    %
    
    
    8.6
    %Arizona
    
    
    4.3
    %
    
    
    4.1
    %Virginia
    
    
    3.8
    %
    
    
    3.7
    %Nevada
    
    
    3.5
    %
    
    
    3.4
    %Occupancy status:Owner-occupied
    
    
    85.8
    %
    
    
    86.5
    %Investor
    
    
    14.2
    %
    
    
    13.5
    %Property type:Single-family
    
    
    83.1
    %
    
    
    83.6
    %Condominium
    
    
    10.2
    %
    
    
    9.7
    %Other residential
    
    
    6.7
    %
    
    
    6.7
    %Collateral type:Alt A  first lien
    
    
    100.0
    %
    
    
    100.0
    %
 
 (1)
    
    Including the effect of mortgage insurance purchased to cover an additional $1.2 billion of loan principal
at September 30, 2007. 37




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##### Table of Contents



Residential Mortgage Loan Quality
 FICO ScoresSeptember 30, 2007
    
    <620
    
    620-659
    
    660-699
    
    700-739
    
    740+
    
    TotalFull Documentation:(1)LTV:£60%
    
    
    0.0
    %
    
    
    0.2
    %
    
    
    0.2
    %
    
    
    0.2
    %
    
    
    0.2
    %
    
    
    0.8
    %60.01 - 70%
    
    
    0.0
    
    
    
    1.1
    
    
    
    1.9
    
    
    
    1.9
    
    
    
    2.3
    
    
    
    7.270.01 - 80%
    
    
    0.0
    
    
    
    1.5
    
    
    
    2.4
    
    
    
    1.9
    
    
    
    2.2
    
    
    
    8.0> 80%
    
    
    0.0
    
    
    
    0.0
    
    
    
    0.0
    
    
    
    0.0
    
    
    
    0.0
    
    
    
    0.0Total Full Documentation
    
    
    0.0
    %
    
    
    2.8
    %
    
    
    4.5
    %
    
    
    4.0
    %
    
    
    4.7
    %
    
    
    16.0
    %Reduced Documentation:(2)LTV:£60%
    
    
    0.0
    %
    
    
    0.5
    %
    
    
    1.3
    %
    
    
    1.4
    %
    
    
    2.2
    %
    
    
    5.4
    %60.01 - 70%
    
    
    0.0
    
    
    
    2.1
    
    
    
    10.5
    
    
    
    9.3
    
    
    
    8.0
    
    
    
    29.970.01 - 80%
    
    
    0.1
    
    
    
    3.7
    
    
    
    16.4
    
    
    
    14.6
    
    
    
    11.6
    
    
    
    46.4> 80%
    
    
    0.0
    
    
    
    0.0
    
    
    
    0.0
    
    
    
    0.0
    
    
    
    0.0
    
    
    
    0.0Total Reduced Documentation
    
    
    0.1
    %
    
    
    6.3
    %
    
    
    28.2
    %
    
    
    25.3
    %
    
    
    21.8
    %
    
    
    81.7
    %No Documentation:(3)LTV:£60%
    
    
    0.0
    %
    
    
    0.0
    %
    
    
    0.2
    %
    
    
    0.2
    %
    
    
    0.3
    %
    
    
    0.7
    %60.01 - 70%
    
    
    0.0
    
    
    
    0.1
    
    
    
    0.3
    
    
    
    0.4
    
    
    
    0.5
    
    
    
    1.370.01 - 80%
    
    
    0.0
    
    
    
    0.0
    
    
    
    0.1
    
    
    
    0.1
    
    
    
    0.1
    
    
    
    0.3> 80%
    
    
    0.0
    
    
    
    0.0
    
    
    
    0.0
    
    
    
    0.0
    
    
    
    0.0
    
    
    
    0.0Total No Documentation
    
    
    0.0
    %
    
    
    0.1
    %
    
    
    0.6
    %
    
    
    0.7
    %
    
    
    0.9
    %
    
    
    2.3
    %Total Portfolio:LTV:£60%
    
    
    0.0
    %
    
    
    0.7
    %
    
    
    1.7
    %
    
    
    1.8
    %
    
    
    2.7
    %
    
    
    6.9
    %60.01 - 70%
    
    
    0.0
    
    
    
    3.3
    
    
    
    12.7
    
    
    
    11.6
    
    
    
    10.8
    
    
    
    38.470.01 - 80%
    
    
    0.1
    
    
    
    5.2
    
    
    
    18.9
    
    
    
    16.6
    
    
    
    13.9
    
    
    
    54.7> 80%
    
    
    0.0
    
    
    
    0.0
    
    
    
    0.0
    
    
    
    0.0
    
    
    
    0.0
    
    
    
    0.0Total Portfolio
    
    
    0.1
    %
    
    
    9.2
    %
    
    
    33.3
    %
    
    
    30.0
    %
    
    
    27.4
    %
    
    
    100.0
    %
 38




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##### Table of Contents



FICO ScoresDecember 31, 2006
    
    <620
    
    620-659
    
    660-699
    
    700-739
    
    740+
    
    TotalFull Documentation:(1)LTV:£60%
    
    
    0.0
    %
    
    
    0.2
    %
    
    
    0.2
    %
    
    
    0.2
    %
    
    
    0.5
    %
    
    
    1.1
    %60.01 - 70%
    
    
    0.0
    
    
    
    0.8
    
    
    
    1.2
    
    
    
    1.2
    
    
    
    1.5
    
    
    
    4.770.01 - 80%
    
    
    0.0
    
    
    
    1.6
    
    
    
    3.1
    
    
    
    2.5
    
    
    
    3.1
    
    
    
    10.3> 80%
    
    
    0.0
    
    
    
    0.0
    
    
    
    0.0
    
    
    
    0.0
    
    
    
    0.0
    
    
    
    0.0Total Full Documentation
    
    
    0.0
    %
    
    
    2.6
    %
    
    
    4.5
    %
    
    
    3.9
    %
    
    
    5.1
    %
    
    
    16.1
    %Reduced Documentation:(2)LTV:£60%
    
    
    0.0
    %
    
    
    0.6
    %
    
    
    1.3
    %
    
    
    1.5
    %
    
    
    2.4
    %
    
    
    5.8
    %60.01 - 70%
    
    
    0.0
    
    
    
    2.0
    
    
    
    7.9
    
    
    
    7.3
    
    
    
    6.7
    
    
    
    23.970.01 - 80%
    
    
    0.1
    
    
    
    3.7
    
    
    
    18.1
    
    
    
    16.0
    
    
    
    13.8
    
    
    
    51.7> 80%
    
    
    0.0
    
    
    
    0.0
    
    
    
    0.0
    
    
    
    0.0
    
    
    
    0.0
    
    
    
    0.0Total Reduced Documentation
    
    
    0.1
    %
    
    
    6.3
    %
    
    
    27.3
    %
    
    
    24.8
    %
    
    
    22.9
    %
    
    
    81.4
    %No Documentation:(3)LTV:£60%
    
    
    0.0
    %
    
    
    0.0
    %
    
    
    0.2
    %
    
    
    0.2
    %
    
    
    0.4
    %
    
    
    0.8
    %60.01 - 70%
    
    
    0.0
    
    
    
    0.1
    
    
    
    0.3
    
    
    
    0.3
    
    
    
    0.4
    
    
    
    1.170.01 - 80%
    
    
    0.0
    
    
    
    0.0
    
    
    
    0.1
    
    
    
    0.3
    
    
    
    0.2
    
    
    
    0.6> 80%
    
    
    0.0
    
    
    
    0.0
    
    
    
    0.0
    
    
    
    0.0
    
    
    
    0.0
    
    
    
    0.0Total No Documentation
    
    
    0.0
    %
    
    
    0.1
    %
    
    
    0.6
    %
    
    
    0.8
    %
    
    
    1.0
    %
    
    
    2.5
    %Total Portfolio:LTV:£60%
    
    
    0.0
    %
    
    
    0.8
    %
    
    
    1.7
    %
    
    
    1.9
    %
    
    
    3.3
    %
    
    
    7.7
    %60.01 - 70%
    
    
    0.0
    
    
    
    2.9
    
    
    
    9.4
    
    
    
    8.8
    
    
    
    8.6
    
    
    
    29.770.01 - 80%
    
    
    0.1
    
    
    
    5.3
    
    
    
    21.3
    
    
    
    18.8
    
    
    
    17.1
    
    
    
    62.6> 80%
    
    
    0.0
    
    
    
    0.0
    
    
    
    0.0
    
    
    
    0.0
    
    
    
    0.0
    
    
    
    0.0Total Portfolio
    
    
    0.1
    %
    
    
    9.0
    %
    
    
    32.4
    %
    
    
    29.5
    %
    
    
    29.0
    %
    
    
    100.0
    %
 
 (1)
    
    Full documentation includes verification of the borrowers income, employment, assets and liabilities.(2)
    
    Reduced documentation, sometimes referred to as Alt-A, includes mortgages that comply with most, but
not all, of the Federal National Mortgage Association and Federal Home Loan Mortgage Corporation
criteria for a conforming mortgage. Alt-A mortgages are generally high quality, with less than full
documentation verified.(3)
    
    No documentation excludes verification of borrowers income, employment or assets. Delinquencies and Allowance for loan losses
 Residential Mortgage Loan Delinquency Status
 September 30, 2007
    
    
    December 31, 2006Number of
    
    
    Principal
    
    
    Number of
    
    
    PrincipalLoans
    
    
    Amount
    
    
    Loans
    
    
    AmountDelinquency status:30 to 59 days
    
    
    362
    
    
    $
    140,547
    
    
    
    248
    
    
    $
    100,71060 to 90 days
    
    
    165
    
    
    
    67,116
    
    
    
    46
    
    
    
    17,38990 days or more
    
    
    160
    
    
    
    67,892
    
    
    
    42
    
    
    
    17,175Total
    
    
    687
    
    
    
    275,555
    
    
    
    336
    
    
    
    135,274Foreclosures
    
    
    180
    
    
    
    75,131
    
    
    
    28
    
    
    
    15,387Total Delinquencies
    
    
    867
    
    
    $
    350,686
    
    
    
    364
    
    
    $
    150,661
  39




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##### Table of Contents



Asset Repricing Characteristics
 Asset Repricing Characteristics
 September 30, 2007
    
    
    December 31, 2006Carrying
    
    
    Portfolio
    
    
    Carrying
    
    
    PortfolioValue
    
    
    Mix
    
    
    Value
    
    
    MixResidential Mortgage Credit PortfolioARM residential loans:Reset 1 month or less
    
    $
    3,160,911
    
    
    
    60.0
    %
    
    $
    4,089,015
    
    
    
    48.0
    %Reset >1 month but < 12 months
    
    
    12,432
    
    
    
    0.2
    
    
    
    284
    
    
    nmReset >12 months but < 60 months
    
    
    955,604
    
    
    
    18.1
    
    
    
    1,180,727
    
    
    
    13.9Reset > 60 months
    
    
    158,196
    
    
    
    3.0
    
    
    
    202,299
    
    
    
    2.4Unamortized premium
    
    
    103,158
    
    
    
    2.0
    
    
    
    124,412
    
    
    
    1.5Allowance for loan losses
    
    
    (21,282
    )
    
    
    (0.4
    )
    
    
    (5,020
    )
    
    
    (0.1
    )Sub-total
    
    
    4,369,019
    
    
    
    82.9
    
    
    
    5,591,717
    
    
    
    65.7ARM residential mortgage-backed securities:Reset 1 month or less
    
    
    443,465
    
    
    
    8.4
    
    
    
    796,539
    
    
    
    9.3Reset >1 month but < 12 months
    
    
    720
    
    
    nm
    
    
    
    
    
    
    
    Reset >12 months but < 60 months
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    Reset > 60 months
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    Sub-total
    
    
    444,185
    
    
    
    8.4
    
    
    
    796,539
    
    
    
    9.3Fixed-rate residential mortgage-backed securities:
    
    
    19,842
    
    
    
    0.4
    
    
    
    1,476
    
    
    nmSpread PortfolioResidential mortgage-backed securities:Reset 1 month or less
    
    
    442,979
    
    
    
    8.3
    
    
    
    2,024,275
    
    
    
    23.7Reset >1 month but < 12 months
    
    
    
    
    
    
    
    
    
    
    108,648
    
    
    
    1.3Reset >12 months but < 60 months
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    Reset > 60 months
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    Sub-total
    
    
    442,979
    
    
    
    8.3
    
    
    
    2,132,923
    
    
    
    25.0Total mortgage assets
    
    $
    5,276,025
    
    
    
    100.0
    %
    
    $
    8,522,655
    
    
    
    100.0
    %
 
 nm = not meaningful  40




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##### Table of Contents



Index rates
 FixedRate orLIBOR
    
    Treasury
    
    MTA
    
    COFI
    
    OtherSeptember 30, 2007Mortgage-backed securities
    
    
    99
    %
    
    nm%
    
    
    
    %
    
    
    
    %
    
    
    1
    %Loans held-for-investment
    
    
    35
    
    
    
    
    
    
    
    65
    
    
    nm
    
    
    December 31, 2006Mortgage-backed securities
    
    
    98
    %
    
    
    2
    %
    
    
    
    %
    
    
    
    %
    
    
    
    %Loans held-for-investment
    
    
    26
    
    
    
    
    
    
    
    74
    
    
    nm
    
    
    
 
 nm = not meaningful  Securitizations
  41




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##### Table of Contents



Mortgage-Backed Notes
    Loan Securitization Highlights
 Total2005
    
    2006
    
    2007
    
    PortfolioNumber of securitizations
    
    
    1
    
    
    
    7
    
    
    
    2
    
    
    
    10Loans, unpaid principal balance
    
    $
    520,568
    
    
    $
    4,638,527
    
    
    $
    1,369,009
    
    
    $
    6,528,104Mortgage-backed notes issued to
third parties
    
    
    500,267
    
    
    
    3,823,913
    
    
    
    1,332,474
    
    
    
    5,656,654Debt retained
    
    
    20,301
    
    
    
    814,614
    
    
    
    36,535
    
    
    
    871,450Retained investment grade %(1)
    
    
    3.1
    %
    
    
    15.4
    %
    
    
    2.0
    %
    
    
    11.3
    %Retained non-investment grade %(1)
    
    
    0.8
    %
    
    
    2.1
    %
    
    
    0.3
    %
    
    
    1.6
    %Cost of debt on AAA-rated
mortgage-backed notes  spread to
LIBOR(2)
    
    
    0.27
    %
    
    
    0.22
    %
    
    
    0.19
    %
    
    
    0.22
    %Loans, unpaid principal balance
at September 30, 2007
    
    $
    325,605
    
    
    $
    3,381,940
    
    
    $
    1,229,256
    
    
    $
    4,936,802
 
 (1)
    
    Retained tranches as a percentage of total mortgage-backed notes issued.(2)
    
    LUM 2006-3 cost of debt excludes $0.3 billion of AAA mortgage-backed
notes which, like the underlying loan collateral, are fixed for three
to five years and then become variable based upon the average rates of
the underlying loans which will adjust based on LIBOR. 42




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##### Table of Contents



Loan Securitizations Mortgage-Backed Notes Ratings
 Total2005
    
    
    2006
    
    
    2007
    
    
    PortfolioNumber of securitizations
    
    
    1
    
    
    
    7
    
    
    
    2
    
    
    
    10Mortgage-backed notes issued
to third-party investorsAAA/Aaa rating
    
    $
    482,307
    
    
    $
    3,646,372
    
    
    $
    1,294,726
    
    
    $
    5,423,405AA/Aa rating
    
    
    17,960
    
    
    
    155,772
    
    
    
    35,135
    
    
    
    208,867A/A rating
    
    
    
    
    
    
    19,128
    
    
    
    2,613
    
    
    
    21,741BBB/Baa rating
    
    
    
    
    
    
    2,641
    
    
    
    
    
    
    
    2,641Total mortgage-backed notes
issued to third-party
investors
    
    $
    500,267
    
    
    $
    3,823,913
    
    
    $
    1,332,474
    
    
    $
    5,656,654Percentage of total collateral
    
    
    96.1
    %
    
    
    82.4
    %
    
    
    97.3
    %
    
    
    86.7
    %Debt retainedAAA/Aaa rating
    
    $
    
    
    
    $
    551,441
    
    
    $
    
    
    
    $
    551,441AA/Aa rating
    
    
    6,767
    
    
    
    42,346
    
    
    
    8,518
    
    
    
    57,631A/A rating
    
    
    4,165
    
    
    
    68,856
    
    
    
    7,375
    
    
    
    80,396BBB/Bbb rating
    
    
    5,206
    
    
    
    52,579
    
    
    
    10,885
    
    
    
    68,670BB/Ba rating
    
    
    1,301
    
    
    
    39,283
    
    
    
    
    
    
    
    40,584B/B rating
    
    
    
    
    
    
    24,630
    
    
    
    
    
    
    
    24,630Not rated
    
    
    
    
    
    
    31,420
    
    
    
    4,635
    
    
    
    36,055Total mortgage- backed notes
retained
    
    
    17,439
    
    
    
    810,555
    
    
    
    31,413
    
    
    
    859,407Overcollateralization
    
    
    2,862
    
    
    
    4,059
    
    
    
    5,122
    
    
    
    12,043Total debt retained
    
    $
    20,301
    
    
    $
    814,614
    
    
    $
    36,535
    
    
    $
    871,450Percentage of total collateral
    
    
    3.9
    %
    
    
    17.6
    %
    
    
    2.7
    %
    
    
    13.3
    %
 Collateralized Debt Obligations
  Exemption from the Investment Company Act of 1940
  
 
 43




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##### Table of Contents



Liquidity and Capital Resources
    .
  44




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##### Table of Contents



Contractual Obligations and Commitments
  Contractual Obligations
 Payments Due by PeriodLess than 1
    
    
    
    
    
    
    3 - 5
    
    
    More thanTotal
    
    
    year
    
    
    1 - 3 years
    
    
    years
    
    
    5 yearsSeptember 30, 2007Mortgage-backed notes (1)
    
    $
    4,014.1
    
    
    $
    1,083.9
    
    
    $
    1,828.4
    
    
    $
    983.6
    
    
    $
    118.2Repurchase agreements
    
    
    813.7
    
    
    
    813.7
    
    
    
    
    
    
    
    
    
    
    
    CDOs (1)
    
    
    295.4
    
    
    
    8.7
    
    
    
    143.9
    
    
    
    142.8
    
    
    
    Junior subordinated notes
    
    
    92.8
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    92.8Convertible senior notes
    
    
    90.0
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    90.0Revolving credit facility (2)
    
    
    43.2
    
    
    
    
    
    
    
    
    
    
    
    43.2
    
    
    
    Facilities leases
    
    
    0.9
    
    
    
    0.3
    
    
    
    0.3
    
    
    
    0.3
    
    
    
    Total
    
    $
    5,350.1
    
    
    $
    1,906.6
    
    
    $
    1,972.6
    
    
    $
    1,169.9
    
    
    $
    301.0
 
 (1)
    
    The mortgage-backed notes and CDOs have stated maturities through 2047; however, the expected maturity is subject to
change based on the prepayments and loan losses of the underlying mortgage loans or mortgage-backed securities. In
addition, we may exercise a redemption option and thereby effect termination and early retirement of the debt. The payments
represented reflect our assumptions for prepayment and credit losses at September 30, 2007 and assume we will exercise our
redemption option.(2)
    
    The revolving credit facility has a stated maturity of 2012. The terms of the facility require repayment from the sale
of assets and excess cash flows as defined in the agreement. Off-Balance Sheet Arrangements
 ), Consolidation of Variable Interest Entities,
 45




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Recent Accounting and Reporting Developments
  
   Short-Term Financing Risks
  Credit Risk
   46




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##### Table of Contents



Concentration Risk
  Interest Rate Risk
  Effect on Net Interest Income
   47




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##### Table of Contents



Interest Rate Sensitivity
(dollars in millions)
 Interest Rates
    
    
    
    
    
    Interest Rates
    
    Interest RatesFall 100
    
    
    
    
    
    Rise 100
    
    Rise 200Basis Points
    
    Unchanged
    
    Basis Points
    
    Basis PointsSeptember 30, 2007:Mortgage-Backed SecuritiesFair value
    
    $
    907.8
    
    
    $
    907.0
    
    
    $
    906.2
    
    
    $
    905.5Change in fair value
    
    
    0.8
    
    
    
    
    
    
    
    (0.8
    )
    
    
    (1.5
    )Change as a percent of fair value
    
    
    0.1
    %
    
    
    
    
    
    
    (0.1
    )%
    
    
    (0.2
    )%Hedge InstrumentsFair value
    
    $
    (14.0
    )
    
    $
    (2.4
    )
    
    $
    12.2
    
    
    $
    29.6Change in fair value
    
    
    (11.6
    )
    
    
    
    
    
    
    14.6
    
    
    
    32.0Change as a percent of fair value
    
    
    (478.5
    )%
    
    
    
    
    
    
    603.6
    %
    
    
    1321.1
    %Mortgage Loans Held-for-Investment(1)Fair value
    
    $
    4,034.0
    
    
    $
    3,992.9
    
    
    $
    3,951.8
    
    
    $
    3,910.7Change in fair value
    
    
    41.1
    
    
    
    
    
    
    
    (41.1
    )
    
    
    (82.3
    )Change as a percent of fair value
    
    
    1.0
    %
    
    
    
    
    
    
    (1.0
    )%
    
    
    (2.0
    )%Mortgage-backed Notes (1)Fair value
    
    $
    3,787.9
    
    
    $
    3,781.1
    
    
    $
    3,776.2
    
    
    $
    3,770.7Change in fair value
    
    
    6.8
    
    
    
    
    
    
    
    (4.9
    )
    
    
    (10.4
    )Change as a percent of fair value
    
    
    0.2
    %
    
    
    
    
    
    
    (0.1
    )%
    
    
    (0.3
    )%Senior convertible notesFair value
    
    $
    70.2
    
    
    $
    67.5
    
    
    $
    65.1
    
    
    $
    62.7Change in fair value
    
    
    2.7
    
    
    
    
    
    
    
    (2.4
    )
    
    
    (4.8
    )Change as a percent of fair value
    
    
    4.0
    %
    
    
    
    
    
    
    (3.6
    )%
    
    
    (7.1
    )%Junior Subordinated Notes(1)Fair value
    
    $
    95.5
    
    
    $
    91.7
    
    
    $
    88.1
    
    
    $
    84.7Change in fair value
    
    
    3.8
    
    
    
    
    
    
    
    (3.6
    )
    
    
    (7.0
    )Change as a percent of fair value
    
    
    4.1
    %
    
    
    
    
    
    
    (3.9
    )%
    
    
    (7.6
    )%
 
 (1)
    
    This asset or liability is carried on our consolidated balance sheet
at amortized cost and therefore a change in interest rates would not
affect the carrying value of the asset or liability.    
    
    monitoring and adjusting, if necessary, the reset index and interest rate related to our
mortgage-backed securities and our borrowings;
    
    attempting to structure our borrowing agreements to have a range of different maturities,
terms, amortizations and interest rate adjustment periods;
    
    using derivatives, financial futures, swaps, options, caps, floors and forward sales to
adjust the interest rate- sensitivity of our mortgage-backed securities and our
borrowings; and
    
    actively managing, on an aggregate basis, the interest rate indices, interest rate
adjustment periods and gross reset margins of our mortgage-backed securities and the interest
rate indices and adjustment periods of our borrowings.
 
 48




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Extension Risk
  Interest Rate Cap Risk
   Prepayment Risk
  49




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##### Table of Contents



Inflation
  
  Conclusion Regarding Disclosure Controls and Procedures
  Changes in Internal Control Over Financial Reporting
  50




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##### Table of Contents



Class Action Lawsuits
    
   A decline in our stock price below $1.00 may result in the delisting of our common stock by the New
York Stock Exchange.
  51




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##### Table of Contents



The current dislocations in the sub-prime mortgage sector, and the current weakness in the
broader mortgage market, have adversely affected our business and could result in further increases
in our borrowing costs, reductions in our liquidity, reductions in the value of our investment
portfolio and the possible loss of REIT status.
   Due to recent market disruptions that resulted in our need to sell assets to satisfy margin calls
on our financing agreements, we are relying on a safe harbor exemption from the Investment Company
Act of 1940 in order to not become regulated as an investment company. Failure to maintain an
exemption from the Investment Company Act would harm our results of
operations.
  
 
  52




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##### Table of Contents



53




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54




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SIGNATURES
  LUMINENT CAPITAL, INC.By:
    /s/ S. Trezevant Moore, Jr.S. Trezevant Moore, Jr.Chief Executive Officer
(Principal Executive Officer)Date: December 27, 2007 By:
    /s/ Christopher J. ZydaChristopher J. ZydaChief Financial Officer
(Principal Financial and Accounting Officer)Date: December 27, 2007 55




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EXHIBIT INDEX
   ExhibitNumber
    
    Description10.1
    
    Capital Stock Warrant Agreement dated August 17, 2007 (1)10.2
    
    Letter of Intent between the Registrant and Arco Capital Corporation Ltd., dated
August 16, 2007 (1)10.3
    
    Credit Agreement, dated August 21, 2007 between the Registrant and Arco Capital Corporation
Ltd. (2)10.4
    
    Security and Pledge Agreement, dated August 21, 2007, among the Registrant and its
subsidiaries of the party hereto, as grantors and Arco Capital Corporation Ltd., as secured
party (2)10.5
    
    Subsidiary Guarantee Agreement, dated August 21, 2007 (2)10.6
    
    Retention Agreement between the Registrant and S. Trezevant Moore, Jr., dated August 31,
2007 (3)10.7
    
    Retention Agreement between the Registrant and Christopher J. Zyda, dated August 31, 2007 (3)10.8
    
    Severance Agreement between Proserpine, LLC and Eleanor Melton, dated August 31, 2007 (3)10.9
    
    Amendment to Credit Agreement, dated September 12, 2007 between the Registrant and Arco
Capital Corporation Ltd. (4)10.10
    
    Amended and Restated Credit Agreement, dated September 26, 2007 between the Registrant and
Arco Capital Corporation Ltd. (5)10.11
    
    Amended and Restated Security and Pledge Agreement, dated September 26,, 2007, among the
Registrant and its subsidiaries of the party hereto, as grantors and Arco Capital
Corporation Ltd., as secured party (5)10.12
    
    Amended and Restated Subsidiary Guarantee Agreement, dated September 26, 2007 (5)10.13
    
    Retention and Separation Agreement between Proserpine, LLC and Ron Viera, dated September
25, 2007 (5)10.14
    
    Separation Agreement between Proserpine, LLC and Eleanor Melton, dated September 28, 2007 (5)10.15
    
    Consulting Agreement between the Registrant and Eleanor Melton, dated September 28, 2007 (5)10.16
    
    Employment Agreement between the Registrant and Karen Chang, dated October 17, 2007 (6)10.17
    
    Amendment No. 1 to Employment Agreement between the Registrant and S. Trezevant Moore Jr. ,
dated October 22, 2007 (6)10.18
    
    First Amendment to Amended and Restated Credit Agreement, dated December 7, 2007 between the
Registrant and Arco Capital Corporation (7)
 56




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##### Table of Contents



ExhibitNumber
    
    Description10.19
    
    Collateral Security Setoff and Netting Agreement dated December 7, 2007 among the Registrant
and its subsidiaries of the party hereto, Arco Capital Corporation Ltd., its parent,
subsidiaries and affiliates (7)31.1 *
    
    Certification of S. Trezevant Moore, Jr., Chief Executive Officer of the Registrant,
pursuant to Rules 13a-14(a) and 15d-14(a), as adopted pursuant to Section 302 of the
Sarbanes-Oxley Act of 2002.31.2 *
    
    Certification of Christopher J. Zyda, Chief Financial Officer of the Registrant, pursuant to
Rules 13a-14(a) and 15d-14(a), as adopted pursuant to Section 302 of the Sarbanes-Oxley Act
of 2002.32.1 *
    
    Certification of S. Trezevant Moore, Jr., Chief Executive Officer of the Registrant,
pursuant 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley
Act of 2002.32.2 *
    
    Certification of Christopher J. Zyda, Chief Financial Officer of the Registrant, pursuant 18
U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.
 
 *
    
    Filed herewith(1)
    
    Incorporated by reference to our Form 8-K filed August 22, 2007.(2)
    
    Incorporated by reference to our Form 8-K filed August 27, 2007.(3)
    
    Incorporated by reference to our Form 8-K filed September 7, 2007.(4)
    
    Incorporated by reference to our Form 8-K filed September 18, 2007.(5)
    
    Incorporated by reference to our Form 8-K filed October 1, 2007.(6)
    
    Incorporated by reference to our Form 8-K filed October 22, 2007.(7)
    
    Incorporated by reference to our Form 8-K filed December 13, 2007. 57