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UNITED STATES SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549



FORM 10-Q



|x | QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
|- | ---------------------------------------------------------------------------------------



For the quarterly period ended: June 30, 2005



OR



| ̈ | 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: 001-11914



THORNBURG MORTGAGE, INC.

(Exact name
of Registrant as specified in its Charter)



|                                                              |  |                                    
|------------------------------------------------------------- |  | -----------------------------------
|Maryland                                                      |  | 85-0404134                         
|(State or other jurisdiction ofincorporation or organization) |  | (IRS EmployerIdentification Number)



|                                           |  |           
|------------------------------------------ |  | ----------
|150 Washington Avenue Santa Fe, New Mexico |  | 87501     
|(Address of principal executive offices)   |  | (Zip Code)



Registrants
telephone number, including area code: (505) 989-1900



Not applicable

(Former name, former address and former fiscal year, if changed since last report)



Indicate by check mark whether the Registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the Registrant was required to file such reports), and (2) has been subject to such filing
requirements for the past 90 days.



Yes  x    No ̈



Indicate by check mark whether the Registrant is an accelerated filer (as defined in Rule 12b-2 of the Securities Exchange
Act of 1934).



Yes  x    No ̈



APPLICABLE ONLY TO CORPORATE ISSUERS:



Indicate the number of shares outstanding of each of the issuers classes of common stock, as of the latest practicable
date.



Common Stock ($.01 par value) 102,571,637 as of August
3, 2005



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INDEX



In this quarterly report, we refer
to Thornburg Mortgage, Inc. and its subsidiaries as we, us, or the Company, unless we specifically state otherwise or the context indicates otherwise. Capitalized terms not otherwise defined in this quarterly
report and financial statements below shall have the definitive meanings assigned to them in the Glossary at the end of this report.



|              |  |                                                                                                                    |  |     
|------------- |  | ------------------------------------------------------------------------------------------------------------------ |  | ----
|              |  |                                                                                                                    |  | Page
|PART I.       |  | FINANCIAL INFORMATION                                                                                              |  |     
|              |  |                                                                                                                   
|Item 1.       |  | Financial Statements                                                                                               |  |     
|              |  |                                                                                                                   
|              |  | Consolidated Balance Sheets at June 30, 2005 and December 31, 2004                                                 |  | 3   
|              |  |                                                                                                                   
|              |  | Consolidated Income Statements for the three and six months ended June 30, 2005 and June 30, 2004                  |  | 4   
|              |  |                                                                                                                   
|              |  | Consolidated Statements of Comprehensive Income for the three and six months ended June 30, 2005 and June 30, 2004 |  | 5   
|              |  |                                                                                                                   
|              |  | Consolidated Statements of Shareholders Equity for the six months ended June 30, 2005 and June 30, 2004           |  | 6   
|              |  |                                                                                                                   
|              |  | Consolidated Statements of Cash Flows for the three and six months ended June 30, 2005 and June 30, 2004           |  | 7   
|              |  |                                                                                                                   
|              |  | Notes to Consolidated Financial Statements                                                                         |  | 8   
|              |  |                                                                                                                   
|Item 2.       |  | Managements Discussion and Analysis of Financial Condition and Results of Operations                              |  | 25  
|              |  |                                                                                                                   
|Item 3.       |  | Quantitative and Qualitative Disclosures About Market Risk                                                         |  | 60  
|              |  |                                                                                                                   
|Item 4.       |  | Controls and Procedures                                                                                            |  | 61  
|              |  |                                                                                                                   
|PART II.      |  | OTHER INFORMATION                                                                                                  |  |     
|              |  |                                                                                                                   
|Item 1.       |  | Legal Proceedings                                                                                                  |  | 61  
|              |  |                                                                                                                   
|Item 2.       |  | Unregistered Sales of Equity Securities and Use of Proceeds                                                        |  | 61  
|              |  |                                                                                                                   
|Item 3.       |  | Defaults Upon Senior Securities                                                                                    |  | 61  
|              |  |                                                                                                                   
|Item 4.       |  | Submission of Matters to a Vote of Security Holders                                                                |  | 61  
|              |  |                                                                                                                   
|Item 5.       |  | Other Information                                                                                                  |  | 61  
|              |  |                                                                                                                   
|Item 6.       |  | Exhibits                                                                                                           |  | 61  
|              | 
|SIGNATURES    |  | 62                                                                                                                
|              | 
|EXHIBIT INDEX |  | 63                                                                                                                
|              | 
|GLOSSARY      |  | 64                                                                                                                



2



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PART I. FINANCIAL INFORMATION



|Item 1. | FINANCIAL STATEMENTS
|------- | --------------------



THORNBURG MORTGAGE, INC. AND SUBSIDIARIES

CONSOLIDATED BALANCE SHEETS
(Unaudited)(In thousands, except share and per share data)



|                                                                                                                                                                                                                                   |  |               |            |   |                   |   |            |  
|---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------- |  | ------------- | ---------- | - | ----------------- | - | ---------- | -
|                                                                                                                                                                                                                                   |  | June 30, 2005 |            |   | December 31, 2004 |  
|ASSETS                                                                                                                                                                                                                             |  |               |            |   |                   |   |            |  
|                                                                                                                                                                                                                                   |  |              
|ARM assets:                                                                                                                                                                                                                        |  |               |            |   |                   |   |            |  
|ARM securities, net                                                                                                                                                                                                                |  | $             | 22,291,262 |   |                   | $ | 18,656,045 |  
|ARM Loans:                                                                                                                                                                                                                         |  |               |            |   |                   |   |            |  
|Securitized ARM loans, net                                                                                                                                                                                                         |  |               | 3,785,545  |   |                   |   | 2,899,985  |  
|ARM loans collateralizing CDOs, net                                                                                                                                                                                                |  |               | 7,473,032  |   |                   |   | 6,720,810  |  
|ARM loans held for securitization, net                                                                                                                                                                                             |  |               | 327,972    |   |                   |   | 466,221    |  
|                                                                                                                                                                                                                                   |  |               |            |   |                   |   |            |  
|ARM Loans                                                                                                                                                                                                                          |  |               | 11,586,549 |   |                   |   | 10,087,016 |  
|                                                                                                                                                                                                                                   |  |               |            |   |                   |   |            |  
|ARM assets                                                                                                                                                                                                                         |  |               | 33,877,811 |   |                   |   | 28,743,061 |  
|Cash and cash equivalents                                                                                                                                                                                                          |  |               | 170,745    |   |                   |   | 112,622    |  
|Restricted cash and cash equivalents                                                                                                                                                                                               |  |               | 33,794     |   |                   |   | 30,737     |  
|Hedging Instruments                                                                                                                                                                                                                |  |               | 225,517    |   |                   |   | 144,230    |  
|Accrued interest receivable                                                                                                                                                                                                        |  |               | 165,370    |   |                   |   | 118,273    |  
|Prepaid expenses and other                                                                                                                                                                                                         |  |               | 56,021     |   |                   |   | 40,695     |  
|                                                                                                                                                                                                                                   |  |               |            |   |                   |   |            |  
|                                                                                                                                                                                                                                   |  | $             | 34,529,258 |   |                   | $ | 29,189,618 |  
|                                                                                                                                                                                                                                   |  |               |            |   |                   |   |            |  
|LIABILITIES                                                                                                                                                                                                                        |  |               |            |   |                   |   |            |  
|                                                                                                                                                                                                                                   |  |              
|Reverse repurchase agreements                                                                                                                                                                                                      |  | $             | 19,430,541 |   |                   | $ | 14,248,939 |  
|Asset-backed CP                                                                                                                                                                                                                    |  |               | 4,990,000  |   |                   |   | 4,905,000  |  
|CDOs                                                                                                                                                                                                                               |  |               | 7,348,895  |   |                   |   | 6,623,641  |  
|Whole loan financing facilities                                                                                                                                                                                                    |  |               | 29,573     |   |                   |   | 285,555    |  
|Hedging Instruments                                                                                                                                                                                                                |  |               | 49,449     |   |                   |   | 26,027     |  
|Senior Notes                                                                                                                                                                                                                       |  |               | 304,231    |   |                   |   | 304,173    |  
|Payable for securities purchased                                                                                                                                                                                                   |  |               | 1,868      |   |                   |   | 815,915    |  
|Accrued interest payable                                                                                                                                                                                                           |  |               | 67,915     |   |                   |   | 44,109     |  
|Dividends payable                                                                                                                                                                                                                  |  |               | 1,885      |   |                   |   | 62,495     |  
|Accrued expenses and other                                                                                                                                                                                                         |  |               | 54,548     |   |                   |   | 84,580     |  
|                                                                                                                                                                                                                                   |  |               |            |   |                   |   |            |  
|                                                                                                                                                                                                                                   |  |               | 32,278,905 |   |                   |   | 27,400,434 |  
|                                                                                                                                                                                                                                   |  |               |            |   |                   |   |            |  
|COMMITMENTS AND CONTINGENCIES                                                                                                                                                                                                      |  |               |            |   |                   |   |            |  
|                                                                                                                                                                                                                                   |  |              
|SHAREHOLDERS EQUITY                                                                                                                                                                                                               |  |               |            |   |                   |   |            |  
|Preferred stock: par value $0.01 per share; 8% Series C Cumulative Redeemable shares, aggregate preference in liquidation
$113,125; 7,230,000 and 0 shares authorized, 4,525,000 and 0 shares issued and outstanding, respectively |  |               | 108,978    |   |                   |   |           |  
|Common stock: par value $0.01 per share; 492,748,000 and 499,978,000 shares authorized, 101,544,000 and 91,904,000 shares
issued and outstanding, respectively                                                                     |  |               | 1,015      |   |                   |   | 919        |  
|Additional paid-in-capital                                                                                                                                                                                                         |  |               | 2,149,281  |   |                   |   | 1,872,487  |  
|Accumulated other comprehensive loss                                                                                                                                                                                               |  |               | (84,951    | ) |                   |   | (90,715    | )
|Retained earnings                                                                                                                                                                                                                  |  |               | 76,030     |   |                   |   | 6,493      |  
|                                                                                                                                                                                                                                   |  |               |            |   |                   |   |            |  
|                                                                                                                                                                                                                                   |  |               | 2,250,353  |   |                   |   | 1,789,184  |  
|                                                                                                                                                                                                                                   |  |               |            |   |                   |   |            |  
|                                                                                                                                                                                                                                   |  | $             | 34,529,258 |   |                   | $ | 29,189,618 |  
|                                                                                                                                                                                                                                   |  |               |            |   |                   |   |            |  



See Notes to
Consolidated Financial Statements.



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THORNBURG MORTGAGE, INC. AND SUBSIDIARIES

CONSOLIDATED INCOME STATEMENTS (Unaudited)

(In thousands, except per share data)



|                                                     |  |                             |          |   |                           |   |          |      |  |   |          |   |  |   |          |  
|---------------------------------------------------- |  | --------------------------- | -------- | - | ------------------------- | - | -------- | ---- |  | - | -------- | - |  | - | -------- | -
|                                                     |  | Three Months Ended June 30, |          |   | Six Months Ended June 30, |  
|                                                     |  | 2005                        |          |   | 2004                      |   |          | 2005 |  |   | 2004     |  
|Interest income from ARM assets and cash equivalents |  | $                           | 331,037  |   |                           | $ | 217,487  |      |  | $ | 639,096  |   |  | $ | 413,300  |  
|Interest expense on borrowed funds                   |  |                             | (250,021 | ) |                           |   | (143,435 | )    |  |   | (474,913 | ) |  |   | (269,528 | )
|                                                     |  |                             |          |   |                           |   |          |      |  |   |          |   |  |   |          |  
|Net interest income                                  |  |                             | 81,016   |   |                           |   | 74,052   |      |  |   | 164,183  |   |  |   | 143,772  |  
|                                                     |  |                             |          |   |                           |   |          |      |  |   |          |   |  |   |          |  
|Servicing income, net                                |  |                             | 2,893    |   |                           |   | 1,370    |      |  |   | 5,408    |   |  |   | 2,192    |  
|Gain on sale of ARM assets, net                      |  |                             | 5,923    |   |                           |   |         |      |  |   | 7,568    |   |  |   | 3,162    |  
|Gain (loss) on Derivatives, net                      |  |                             | 1,776    |   |                           |   | (896     | )    |  |   | 3,098    |   |  |   | (514     | )
|                                                     |  |                             |          |   |                           |   |          |      |  |   |          |   |  |   |          |  
|Net non-interest income                              |  |                             | 10,592   |   |                           |   | 474      |      |  |   | 16,074   |   |  |   | 4,840    |  
|                                                     |  |                             |          |   |                           |   |          |      |  |   |          |   |  |   |          |  
|Hedging expense                                      |  |                             |         |   |                           |   | (149     | )    |  |   |         |   |  |   | (307     | )
|Provision for credit losses                          |  |                             | (180     | ) |                           |   | (391     | )    |  |   | (589     | ) |  |   | (823     | )
|Management fee                                       |  |                             | (5,045   | ) |                           |   | (3,936   | )    |  |   | (9,751   | ) |  |   | (7,563   | )
|Performance fee                                      |  |                             | (9,779   | ) |                           |   | (8,480   | )    |  |   | (19,814  | ) |  |   | (16,814  | )
|Long-term incentive awards                           |  |                             | (3,223   | ) |                           |   | 344      |      |  |   | (4,651   | ) |  |   | (4,151   | )
|Other operating expenses                             |  |                             | (4,851   | ) |                           |   | (4,015   | )    |  |   | (9,466   | ) |  |   | (7,692   | )
|                                                     |  |                             |          |   |                           |   |          |      |  |   |          |   |  |   |          |  
|NET INCOME                                           |  | $                           | 68,530   |   |                           | $ | 57,899   |      |  | $ | 135,986  |   |  | $ | 111,262  |  
|                                                     |  |                             |          |   |                           |   |          |      |  |   |          |   |  |   |          |  
|Net income                                           |  | $                           | 68,530   |   |                           | $ | 57,899   |      |  | $ | 135,986  |   |  | $ | 111,262  |  
|Dividends on Preferred Stock                         |  |                             | (1,414   | ) |                           |   |         |      |  |   | (1,514   | ) |  |   |         |  
|                                                     |  |                             |          |   |                           |   |          |      |  |   |          |   |  |   |          |  
|Net income available to common shareholders          |  | $                           | 67,116   |   |                           | $ | 57,899   |      |  | $ | 134,472  |   |  | $ | 111,262  |  
|                                                     |  |                             |          |   |                           |   |          |      |  |   |          |   |  |   |          |  
|Earnings per common share:                           |  |                             |          |   |                           |   |          |      |  |   |          |   |  |   |          |  
|Net income                                           |  | $                           | 0.70     |   |                           | $ | 0.71     |      |  | $ | 1.42     |   |  | $ | 1.41     |  
|                                                     |  |                             |          |   |                           |   |          |      |  |   |          |   |  |   |          |  
|Average number of shares outstanding                 |  |                             | 96,565   |   |                           |   | 81,373   |      |  |   | 94,869   |   |  |   | 79,002   |  
|                                                     |  |                             |          |   |                           |   |          |      |  |   |          |   |  |   |          |  
|Dividends declared per common share                  |  | $                           | 0.68     |   |                           | $ | 0.66     |      |  | $ | 1.36     |   |  | $ | 1.31     |  
|                                                     |  |                             |          |   |                           |   |          |      |  |   |          |   |  |   |          |  



See Notes to
Consolidated Financial Statements.



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THORNBURG MORTGAGE, INC. AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME (Unaudited)

(In thousands)



|                                                                      |  |                             |          |   |                           |   |          |      |  |   |         |   |  |   |          |  
|--------------------------------------------------------------------- |  | --------------------------- | -------- | - | ------------------------- | - | -------- | ---- |  | - | ------- | - |  | - | -------- | -
|                                                                      |  | Three Months Ended June 30, |          |   | Six Months Ended June 30, |  
|                                                                      |  | 2005                        |          |   | 2004                      |   |          | 2005 |  |   | 2004    |  
|Net income                                                            |  | $                           | 68,530   |   |                           | $ | 57,899   |      |  | $ | 135,986 |   |  | $ | 111,262  |  
|Other comprehensive income:                                           |  |                             |          |   |                           |   |          |      |  |   |         |   |  |   |          |  
|Unrealized gains (losses) on securities:                              |  |                             |          |   |                           |   |          |      |  |   |         |   |  |   |          |  
|Net unrealized holdings gains (losses) arising during the period      |  |                             | 101,709  |   |                           |   | (254,061 | )    |  |   | (44,255 | ) |  |   | (167,007 | )
|Reclassification adjustment for net (gains) losses included in income |  |                             | (5,945   | ) |                           |   | 149      |      |  |   | (7,590  | ) |  |   | (2,863   | )
|                                                                      |  |                             |          |   |                           |   |          |      |  |   |         |   |  |   |          |  
|Net change in unrealized gains (losses) on securities                 |  |                             | 95,764   |   |                           |   | (253,912 | )    |  |   | (51,845 | ) |  |   | (169,870 | )
|                                                                      |  |                             |          |   |                           |   |          |      |  |   |         |   |  |   |          |  
|Unrealized gains (losses) on Hedging Instruments:                     |  |                             |          |   |                           |   |          |      |  |   |         |   |  |   |          |  
|Net unrealized gains (losses) arising during the period               |  |                             | (153,042 | ) |                           |   | 230,264  |      |  |   | 20,682  |   |  |   | 52,812   |  
|Reclassification adjustment for net losses included in income         |  |                             | 10,105   |   |                           |   | 66,916   |      |  |   | 36,927  |   |  |   | 128,395  |  
|                                                                      |  |                             |          |   |                           |   |          |      |  |   |         |   |  |   |          |  
|Net change in unrealized gains (losses) on HedgingInstruments         |  |                             | (142,937 | ) |                           |   | 297,180  |      |  |   | 57,609  |   |  |   | 181,207  |  
|                                                                      |  |                             |          |   |                           |   |          |      |  |   |         |   |  |   |          |  
|Other comprehensive income                                            |  |                             | (47,173  | ) |                           |   | 43,268   |      |  |   | 5,764   |   |  |   | 11,337   |  
|                                                                      |  |                             |          |   |                           |   |          |      |  |   |         |   |  |   |          |  
|Total comprehensive income                                            |  | $                           | 21,357   |   |                           | $ | 101,167  |      |  | $ | 141,750 |   |  | $ | 122,599  |  
|                                                                      |  |                             |          |   |                           |   |          |      |  |   |         |   |  |   |          |  



See Notes to
Consolidated Financial Statements.



5



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THORNBURG MORTGAGE, INC. AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF SHAREHOLDERS EQUITY (Unaudited)

Six months ended June 30, 2005 and 2004

|(In | thousands, except per share data)
|--- | ---------------------------------



|                                                        |  |                |         |             |   |                          |  |                                        |           |  |                  |          |   |       |   |         |   |  |   |           |  
|------------------------------------------------------- |  | -------------- | ------- | ----------- | - | ------------------------ |  | -------------------------------------- | --------- |  | ---------------- | -------- | - | ----- | - | ------- | - |  | - | --------- | -
|                                                        |  | PreferredStock |         | CommonStock |   | AdditionalPaid-inCapital |  | Accum. OtherComprehensiveIncome (Loss) |           |  | RetainedEarnings |          |   | Total |  
|Balance, December 31, 2003                              |  | $              |        |             | $ | 740                      |  | $                                      | 1,376,879 |  | $                | (142,778 | ) |       | $ | 4,263   |   |  | $ | 1,239,104 |  
|Comprehensive income:                                   |  |                |         |             |   |                          |  |                                        |           |  |                  |          |   |       |   |         |   |  |   |           |  
|Net income                                              |  |                |         |             |   |                          |  |                                        |           |  |                  |          |   |       |   | 111,262 |   |  |   | 111,262   |  
|Other comprehensive income:                             |  |                |         |             |   |                          |  |                                        |           |  |                  |          |   |       |   |         |   |  |   |           |  
|Available-for-sale assets:                              |  |                |         |             |   |                          |  |                                        |           |  |                  |          |   |       |   |         |   |  |   |           |  
|Fair value adjustment                                   |  |                |         |             |   |                          |  |                                        |           |  |                  | (169,870 | ) |       |   |         |   |  |   | (169,870  | )
|Hedging Instruments:                                    |  |                |         |             |   |                          |  |                                        |           |  |                  |          |   |       |   |         |   |  |   |           |  
|Fair value adjustment, net ofamortization               |  |                |         |             |   |                          |  |                                        |           |  |                  | 181,207  |   |       |   |         |   |  |   | 181,207   |  
|Issuance of Common Stock                                |  |                |         |             |   | 90                       |  |                                        | 246,871   |  |                  |          |   |       |   |         |   |  |   | 246,961   |  
|Dividends declared on Common Stock - $0.65 per share    |  |                |         |             |   |                          |  |                                        |           |  |                  |          |   |       |   | (52,737 | ) |  |   | (52,737   | )
|                                                        |  |                |         |             |   |                          |  |                                        |           |  |                  |          |   |       |   |         |   |  |   |           |  
|Balance, June 30, 2004                                  |  | $              |        |             | $ | 830                      |  | $                                      | 1,623,750 |  | $                | (131,441 | ) |       | $ | 62,788  |   |  | $ | 1,555,927 |  
|                                                        |  |                |         |             |   |                          |  |                                        |           |  |                  |          |   |       |   |         |   |  |   |           |  
|Balance, December 31, 2004                              |  | $              |        |             | $ | 919                      |  | $                                      | 1,872,487 |  | $                | (90,715  | ) |       | $ | 6,493   |   |  | $ | 1,789,184 |  
|Comprehensive income:                                   |  |                |         |             |   |                          |  |                                        |           |  |                  |          |   |       |   |         |   |  |   |           |  
|Net income                                              |  |                |         |             |   |                          |  |                                        |           |  |                  |          |   |       |   | 135,986 |   |  |   | 135,986   |  
|Other comprehensive income:                             |  |                |         |             |   |                          |  |                                        |           |  |                  |          |   |       |   |         |   |  |   |           |  
|Available-for-sale assets:                              |  |                |         |             |   |                          |  |                                        |           |  |                  |          |   |       |   |         |   |  |   |           |  
|Fair value adjustment                                   |  |                |         |             |   |                          |  |                                        |           |  |                  | (51,845  | ) |       |   |         |   |  |   | (51,845   | )
|Hedging Instruments:                                    |  |                |         |             |   |                          |  |                                        |           |  |                  |          |   |       |   |         |   |  |   |           |  
|Fair value adjustment, net ofamortization               |  |                |         |             |   |                          |  |                                        |           |  |                  | 57,609   |   |       |   |         |   |  |   | 57,609    |  
|Issuance of Common Stock                                |  |                |         |             |   | 96                       |  |                                        | 276,794   |  |                  |          |   |       |   |         |   |  |   | 276,890   |  
|Issuance of Preferred Stock                             |  |                | 108,978 |             |   |                          |  |                                        |           |  |                  |          |   |       |   |         |   |  |   | 108,978   |  
|Dividends declared on Common Stock - $0.68 per share    |  |                |         |             |   |                          |  |                                        |           |  |                  |          |   |       |   | (64,935 | ) |  |   | (64,935   | )
|Dividends declared on Preferred Stock - $0.55 per share |  |                |         |             |   |                          |  |                                        |           |  |                  |          |   |       |   | (1,514  | ) |  |   | (1,514    | )
|                                                        |  |                |         |             |   |                          |  |                                        |           |  |                  |          |   |       |   |         |   |  |   |           |  
|Balance, June 30, 2005                                  |  | $              | 108,978 |             | $ | 1,015                    |  | $                                      | 2,149,281 |  | $                | (84,951  | ) |       | $ | 76,030  |   |  | $ | 2,250,353 |  
|                                                        |  |                |         |             |   |                          |  |                                        |           |  |                  |          |   |       |   |         |   |  |   |           |  



See Notes to
Consolidated Financial Statements.



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##### Table of Contents

THORNBURG MORTGAGE, INC. AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF CASH FLOWS (Unaudited)

(In thousands)



|                                                                                  |  |                             |            |   |                           |   |            |      |  |   |            |   |  |   |            |  
|--------------------------------------------------------------------------------- |  | --------------------------- | ---------- | - | ------------------------- | - | ---------- | ---- |  | - | ---------- | - |  | - | ---------- | -
|                                                                                  |  | Three Months Ended June 30, |            |   | Six Months Ended June 30, |  
|                                                                                  |  | 2005                        |            |   | 2004                      |   |            | 2005 |  |   | 2004       |  
|Operating activities:                                                             |  |                             |            |   |                           |   |            |      |  |   |            |   |  |   |            |  
|Net income                                                                        |  | $                           | 68,530     |   |                           | $ | 57,899     |      |  | $ | 135,986    |   |  | $ | 111,262    |  
|Adjustments to reconcile net income to net cash provided by operating activities: |  |                             |            |   |                           |   |            |      |  |   |            |   |  |   |            |  
|Amortization of ARM assets net premium                                            |  |                             | 23,818     |   |                           |   | 14,712     |      |  |   | 43,722     |   |  |   | 27,433     |  
|Gain on sale of ARM assets, net                                                   |  |                             | (5,923     | ) |                           |   |           |      |  |   | (7,568     | ) |  |   | (3,162     | )
|(Gain) loss on Derivatives, net                                                   |  |                             | (1,776     | ) |                           |   | 896        |      |  |   | (3,098     | ) |  |   | 514        |  
|Provision for credit losses                                                       |  |                             | 180        |   |                           |   | 391        |      |  |   | 589        |   |  |   | 823        |  
|Hedging expense                                                                   |  |                             |           |   |                           |   | 149        |      |  |   |           |   |  |   | 307        |  
|Change in assets and liabilities:                                                 |  |                             |            |   |                           |   |            |      |  |   |            |   |  |   |            |  
|Accrued interest receivable                                                       |  |                             | (22,025    | ) |                           |   | (6,633     | )    |  |   | (47,097    | ) |  |   | (15,024    | )
|Prepaid expenses and other                                                        |  |                             | (11,373    | ) |                           |   | (8,067     | )    |  |   | (15,326    | ) |  |   | (12,640    | )
|Accrued interest payable                                                          |  |                             | 2,818      |   |                           |   | (3,652     | )    |  |   | 23,806     |   |  |   | 951        |  
|Accrued expenses and other                                                        |  |                             | 9,763      |   |                           |   | 236        |      |  |   | (30,032    | ) |  |   | 3,771      |  
|                                                                                  |  |                             |            |   |                           |   |            |      |  |   |            |   |  |   |            |  
|Net cash provided by operating activities                                         |  |                             | 64,012     |   |                           |   | 55,931     |      |  |   | 100,982    |   |  |   | 114,235    |  
|                                                                                  |  |                             |            |   |                           |   |            |      |  |   |            |   |  |   |            |  
|Investing activities:                                                             |  |                             |            |   |                           |   |            |      |  |   |            |   |  |   |            |  
|ARM securities:                                                                   |  |                             |            |   |                           |   |            |      |  |   |            |   |  |   |            |  
|Purchases                                                                         |  |                             | (4,970,967 | ) |                           |   | (2,795,341 | )    |  |   | (8,458,030 | ) |  |   | (6,359,193 | )
|Proceeds on sales                                                                 |  |                             | 735,156    |   |                           |   |           |      |  |   | 1,014,652  |   |  |   | 348,709    |  
|Principal payments                                                                |  |                             | 1,519,150  |   |                           |   | 2,062,190  |      |  |   | 2,902,056  |   |  |   | 3,084,024  |  
|Securitized ARM loans:                                                            |  |                             |            |   |                           |   |            |      |  |   |            |   |  |   |            |  
|Principal payments                                                                |  |                             | 169,299    |   |                           |   | 195,370    |      |  |   | 307,673    |   |  |   | 324,839    |  
|ARM loans collateralizing CDOs:                                                   |  |                             |            |   |                           |   |            |      |  |   |            |   |  |   |            |  
|Principal payments                                                                |  |                             | 473,413    |   |                           |   | 320,251    |      |  |   | 786,252    |   |  |   | 437,047    |  
|ARM loans held for securitization:                                                |  |                             |            |   |                           |   |            |      |  |   |            |   |  |   |            |  
|Purchases and originations                                                        |  |                             | (1,428,324 | ) |                           |   | (1,129,828 | )    |  |   | (2,603,762 | ) |  |   | (2,127,699 | )
|Principal payments                                                                |  |                             | 14,593     |   |                           |   | 16,581     |      |  |   | 19,576     |   |  |   | 28,427     |  
|Termination of Swap Agreements                                                    |  |                             |           |   |                           |   | 2,144      |      |  |   |           |   |  |   | 2,144      |  
|                                                                                  |  |                             |            |   |                           |   |            |      |  |   |            |   |  |   |            |  
|Net cash used in investing activities                                             |  |                             | (3,487,680 | ) |                           |   | (1,328,633 | )    |  |   | (6,031,583 | ) |  |   | (4,261,702 | )
|                                                                                  |  |                             |            |   |                           |   |            |      |  |   |            |   |  |   |            |  
|Financing activities:                                                             |  |                             |            |   |                           |   |            |      |  |   |            |   |  |   |            |  
|Net borrowings from reverse repurchase agreements                                 |  |                             | 2,354,021  |   |                           |   | 1,095,910  |      |  |   | 5,181,602  |   |  |   | 3,415,560  |  
|Net borrowings from Asset-backed CP                                               |  |                             |           |   |                           |   |           |      |  |   | 85,000     |   |  |   |           |  
|CDO borrowings                                                                    |  |                             | 1,557,018  |   |                           |   | 1,079,189  |      |  |   | 1,557,018  |   |  |   | 2,185,896  |  
|CDO paydowns                                                                      |  |                             | (462,843   | ) |                           |   | (359,237   | )    |  |   | (831,764   | ) |  |   | (476,592   | )
|Net whole loan financing facilities (paydowns) borrowings                         |  |                             | (77,612    | ) |                           |   | 188,858    |      |  |   | (255,982   | ) |  |   | (74,580    | )
|Payments received (made) on Eurodollar contracts                                  |  |                             | 214        |   |                           |   | 1,031      |      |  |   | (1,860     | ) |  |   | (1,223     | )
|Proceeds from Common Stock issued, net                                            |  |                             | 201,431    |   |                           |   | 78,630     |      |  |   | 276,890    |   |  |   | 246,961    |  
|Proceeds from Preferred Stock issued, net                                         |  |                             | 60,634     |   |                           |   |           |      |  |   | 108,978    |   |  |   |           |  
|Dividends paid                                                                    |  |                             | (64,563    | ) |                           |   | (52,736    | )    |  |   | (127,058   | ) |  |   | (100,087   | )
|Purchase of Cap Agreements                                                        |  |                             | (1,043     | ) |                           |   | (4,895     | )    |  |   | (1,043     | ) |  |   | (4,894     | )
|Net increase in restricted cash                                                   |  |                             | (48        | ) |                           |   | (181,656   | )    |  |   | (3,057     | ) |  |   | (253,102   | )
|                                                                                  |  |                             |            |   |                           |   |            |      |  |   |            |   |  |   |            |  
|Net cash provided by financing activities                                         |  |                             | 3,567,209  |   |                           |   | 1,845,094  |      |  |   | 5,988,724  |   |  |   | 4,937,939  |  
|                                                                                  |  |                             |            |   |                           |   |            |      |  |   |            |   |  |   |            |  
|Net increase in cash and cash equivalents                                         |  |                             | 143,541    |   |                           |   | 572,392    |      |  |   | 58,123     |   |  |   | 790,472    |  
|Cash and cash equivalents at beginning of period                                  |  |                             | 27,204     |   |                           |   | 303,446    |      |  |   | 112,622    |   |  |   | 85,366     |  
|                                                                                  |  |                             |            |   |                           |   |            |      |  |   |            |   |  |   |            |  
|Cash and cash equivalents at end of period                                        |  | $                           | 170,745    |   |                           | $ | 875,838    |      |  | $ | 170,745    |   |  | $ | 875,838    |  
|                                                                                  |  |                             |            |   |                           |   |            |      |  |   |            |   |  |   |            |  



See noncash
disclosures in Note 2 and Note 4.



See Notes to Consolidated
Financial Statements



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##### Table of Contents

THORNBURG MORTGAGE, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS



In these financial statements, Thornburg Mortgage, Inc. and its
subsidiaries are referred to as the Company, unless specifically stated otherwise or the context indicates otherwise. Capitalized terms not otherwise defined in the financial statements below shall have the definitive meanings assigned
to them in the Glossary at the end of this report.



Note
1. Significant Accounting Policies



The accompanying
unaudited consolidated financial statements have been prepared in accordance with GAAP for interim financial information.



In the opinion of management, all material adjustments, consisting of normal recurring adjustments, considered necessary for a fair statement have been
included. The operating results for the quarter ended June 30, 2005 are not necessarily indicative of the results that may be expected for the calendar year ending December 31, 2005. The interim financial information should be read in conjunction
with Thornburg Mortgage, Inc.s 2004 Annual Report on Form 10-K.



Basis of presentation and principles of consolidation



The consolidated financial statements include the accounts of Thornburg Mortgage, Inc. (TMA), Thornburg Mortgage Depositor, LLC (TMD), Thornburg Mortgage Home Loans, Inc. (TMHL),
Thornburg Mortgage Capital Resources, LLC (TMCR) and TMHLs two wholly-owned special purpose finance subsidiaries, Thornburg Mortgage Funding Corporation II and Thornburg Mortgage Acceptance Corporation II. TMCR and TMD are
wholly-owned qualified REIT subsidiaries and are consolidated with the Company for financial statement and tax reporting purposes. As of the close of business on May 31, 2004, TMHL and its subsidiaries made the election to be taxable REIT
subsidiaries and are consolidated with the Company for financial statement purposes but are not consolidated with the Company for tax reporting purposes from that date forward. All material intercompany accounts and transactions are eliminated in
consolidation.



New accounting pronouncements



In June 2004, the FASB issued EITF
03-01, The Meaning of Other-Than-Temporary Impairment and Its Application to Certain Investments. EITF 03-01 requires an investor to determine when an investment is considered impaired, evaluate whether that impairment is other than
temporary, and, if the impairment is other than temporary, recognize an impairment loss equal to the difference between the investments cost and its fair value. The guidance also includes accounting considerations subsequent to the recognition
of an other-than-temporary impairment and requires certain disclosures about unrealized losses that have not been recognized as other-than-temporary impairments. The impairment loss recognition and measurement guidance was to be applicable to
other-than-temporary impairment evaluations in reporting periods beginning after June 15, 2004. In September 2004, the FASB proposed additional guidance related to debt securities that are impaired because of interest rate and/or sector spread
increases, and delayed the effective date of EITF 03-01. The Company does not expect the adoption of EITF 03-01 to have a material effect on the financial condition, results of operations, or liquidity of the Company. The Company has already adopted
the EITF 03-01 disclosure requirements for investments in an unrealized loss position for which other-than-temporary impairments have not been recognized.



In December 2004, the FASB published SFAS 123(R) entitled Share-Based Payment. It requires all public companies to report
share-based compensation expense at the grant date fair value of the related share-based awards. The Company is required to adopt the provisions of the standard effective for annual periods beginning after June 15, 2005. Management believes that the
Companys current method of accounting for share-based payments is consistent with SFAS 123(R).



In May 2005, the FASB issued SFAS 154, Accounting Changes and Error Corrections. SFAS 154 changes the requirements for the
accounting for and reporting of a change in accounting principle. Previous guidance required that most voluntary changes in accounting principle be recognized by including in net income of the period of the change the cumulative effect of changing
to the new accounting principle. SFAS 154 requires retrospective



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application to prior periods financial statements of changes in accounting
principle, unless it is impracticable to determine either the period-specific effects or the cumulative effect of the change. Management believes SFAS 154 will have no impact on the Companys financial statements.



Cash and cash equivalents



Cash and cash equivalents include cash on hand and highly
liquid investments with original maturities of three months or less. The carrying amounts of cash and cash equivalents approximate their respective fair values.



Restricted cash and cash equivalents



Restricted cash and cash equivalents include cash and highly liquid investments with original maturities of three months or less that are
held by counter-parties as collateral for reverse repurchase agreements, Asset-backed CP and Hedging Instruments. The carrying amounts of restricted cash and cash equivalents approximates their fair value.



ARM assets



The Companys ARM assets are comprised of ARM
securities and ARM Loans. All of the Companys ARM assets are either Traditional ARMs or Hybrid ARMs.



ARM securities are composed mainly of ARM securities purchased from third parties. The Company has designated all of its ARM securities as
available-for-sale. Therefore, they are reported at fair value, with unrealized gains and losses reported in accumulated other comprehensive income (loss) as a separate component of shareholders equity. Any unrealized loss deemed to be
other-than-temporary is recorded as a realized loss. Realized gains or losses on the sale of ARM securities are recorded in earnings at the time of sale and are determined by the difference between net sale proceeds and the amortized cost of the
securities.



Securitized ARM loans are loans
originated or acquired by the Company and securitized by the Company with the Company retaining 100% of the beneficial ownership interests.



ARM loans collateralizing CDOs are loans the Company has securitized into sequentially rated classes with the lower rated classes being
retained by the Company and providing credit support for higher rated classes issued to third-party investors in structured financing arrangements.



In accordance with SFAS 140, Accounting for Transfers and Servicing of Financial Assets and Extinguishments of Liabilities,
loan securitizations resulting in securitized ARM loans and ARM loans collateralizing CDOs are accounted for as secured borrowings under paragraphs 9(a)-9(c) of SFAS 140 because (1) the Company has the unilateral ability to cause the return of
transferred assets and, therefore, has maintained effective control over the transferred assets and (2) the transactions are completed through SPEs that do not meet the requirements of SFAS 140 to be considered QSPEs.



ARM loans held for securitization are loans the Company has
acquired or originated and are intended to be securitized and retained by the Company.



ARM Loans are designated as held-for-investment as the Company has the intent and ability to hold them for the foreseeable future, and until maturity or payoff. ARM Loans are carried at their
unpaid principal balances, including unamortized premium or discount, unamortized loan origination costs, unamortized deferred loan origination fees, net unrealized gain (loss) on purchase loan commitments and reserve for loan losses.In
accordance with SFAS 140, securitized ARM loans and ARM loans collateralizing CDOs are accounted for as loans and are not considered investments subject to classification under SFAS 115, Accounting for Certain Investments in Debt and Equity
Securities.



Interest income on ARM
assets is accrued based on the outstanding principal amount and contractual terms of the assets. Premiums and discounts associated with the purchase of the ARM assets are amortized through interest income over the estimated lives of the assets
considering the actual and future estimated prepayments of the assets using the interest method in determining an effective yield. Estimating future lifetime prepayments and estimating



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the remaining lives of the Companys ARM assets requires management judgment, which
involves consideration of possible future interest rate environments and an estimate of how borrowers will behave in those environments. The actual lives of the ARM assets could be longer or shorter than the lives estimated by management. Loan
origination fees, net of certain direct loan origination costs and the cost of securitizing ARM loans, are deferred and amortized as an interest income yield adjustment over the life of the related loans using the effective yield method.



MSRs



The Company does not purchase or capitalize any MSRs in
connection with any loan sale transaction. MSRs are capitalized upon the securitization of ARM loans as required by GAAP by allocating a portion of the cost basis of the securitized loans to the estimated value of the servicing asset related to the
loans retained by the Company as collateral in securitizations. MSRs are included in Prepaid expenses and other on the Consolidated Balance Sheets. The servicing revenue, net of servicing costs and MSR amortization, is recorded as Servicing income,
net on the Consolidated Income Statements.



MSRs are amortized in proportion to, and over the expected period of, the estimated future net servicing income. MSRs are carried at the lower of cost or fair value at the risk strata level and are periodically evaluated for impairment
based on fair value, which is determined using a discounted future cash flow model that considers portfolio characteristics and assumptions regarding prepayment speeds, delinquency rates and other economic factors. Estimating prepayments and
estimating the remaining lives of the Companys ARM assets requires management judgment, which involves consideration of possible future interest rate environments and an estimate of how borrowers will behave in those environments. The actual
lives could be longer or shorter than the amount estimated by management. For purposes of evaluating and measuring impairment of MSRs, the Company stratifies its portfolio on the basis of predominant risk characteristics, including loan type
(Traditional ARM or Hybrid ARM).



Credit risk and reserve
for loan losses



The Company limits
its exposure to credit losses on its portfolio of ARM securities by purchasing ARM securities that generally have at least an Investment Grade rating at the time of purchase and have some form of credit enhancement, or are Agency Securities. The
Company also purchases and originates A quality ARM loans.



The Company purchases ARM securities that comprise all classes of third-party ARM loan securitizations (including the classes rated less than Investment Grade). Like the Companys own loan originations and
acquisitions, these assets are Qualifying Interests for purposes of maintaining the Companys exemption from the Investment Company Act because the Company retains a 100% ownership interest in the underlying loans. When the Company acquires all
classes of third-party ARM loan securitizations, some of the classes are below Investment Grade and the purchase price of those securities generally includes a discount for probable credit losses. This discount is recorded as part of the purchase
price of that security. Based upon managements analysis and judgment, a portion of the purchase discount is subsequently accreted as interest income under the effective yield method while the remaining portion of the purchase discount is
treated as a non-accretable discount which reflects the estimated unrealized loss on the securities due to credit risk. If management ultimately concludes that the non-accretable discount will not represent realized losses, the balance is accreted
into earnings over the remaining life of the security through the effective yield method. In the event that management concludes that losses may exceed the non-accretable discount, the Company will revise its estimate of probable losses and the
change in the estimate of losses will be recorded as a reduction in earnings.



The Company also maintains a reserve for loan losses based on managements estimate of credit losses inherent in the Companys portfolio of ARM Loans. The estimation of the reserve is based on a variety of
factors including, but not limited to, current economic conditions, loan portfolio composition, delinquency trends, credit losses to date on underlying loans and remaining credit protection. If the credit performance of its ARM Loans is different
than expected, the Company adjusts the reserve for loan losses to a level deemed appropriate by management to provide for estimated losses inherent in its ARM Loan portfolio. Additionally, once a loan is 90 days or more delinquent, or a borrower
declares bankruptcy, the Company adjusts the value of its accrued interest receivable to what it believes to be collectible and stops accruing interest on that loan. The Company provides specific reserves for loan losses on loans that are considered
to be impaired when a significant permanent decline in value is identified.



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Provisions for credit losses do not reduce taxable income and thus do not affect the
dividends paid by the Company to shareholders in the period the provisions are taken. Actual losses realized by the Company do reduce taxable income in the period the actual loss is realized, thereby affecting taxable income available for
distribution and the amount of dividends that may be paid to shareholders for that tax year.



Valuation methods



The fair values of the Companys ARM securities, securitized ARM loans and ARM loans collateralizing CDOs are generally based on market prices provided by third-party pricing services or by broker/dealers who
make markets in these financial instruments. If the fair value of an ARM security, a securitized ARM loan or ARM loans collateralizing CDOs is not reasonably available from a dealer or a third-party pricing service, management estimates the fair
value based on characteristics of the security that the Company receives from the issuer and on available market information.



The fair values of ARM loans held for securitization are estimated by the Company using the same pricing models employed by the Company to
determine prices to purchase loans in the open market, taking into consideration the aggregated characteristics of groups of loans such as, but not limited to, collateral type, index, interest rate, margin, length of fixed interest rate period, life
cap, periodic cap, underwriting standards, age and credit.



The Company enters into commitments to purchase loans through its correspondent and bulk channels. Purchase commitments that will be held for investment purposes generally qualify as derivatives under SFAS 133,
Accounting for Derivative Instruments and Hedging Activities, and SFAS 149, Amendment of Statement 133 on Derivative Instruments and Hedging Activities, and are recorded at fair value. The fair value of the net unrealized
gain or loss on purchase commitments is calculated using the same methodologies that are used to price the Companys originated ARM Loans, adjusted for anticipated fallout for purchase commitments that will likely not be funded. The
Companys net unrealized gain (loss) on purchase commitments is recorded as a component of ARM Loans, net on the Consolidated Balance Sheets with the respective changes in fair value recorded in Gain (loss) on Derivatives, net on the
Consolidated Income Statements.



The fair
values of the Companys CDOs, Senior Notes, Swap Agreements and Cap Agreements are based on market values provided by dealers who are familiar with the terms of these instruments.



The fair value of Eurodollar Transactions is determined on a daily basis by the closing prices on the
Chicago Mercantile Exchange.



The fair values
reported reflect estimates and may not necessarily be indicative of the amounts the Company could realize if these instruments were sold. Cash and cash equivalents, restricted cash and cash equivalents, interest receivable, prepaid expenses and
other assets, reverse repurchase agreements, Asset-backed CP, other borrowings and other liabilities are reflected in the consolidated financial statements at their amortized cost, which approximates their fair value because of the short-term nature
of these instruments.



Hedging Instruments



All of the Companys Hedging
Instruments are carried on the Consolidated Balance Sheets at their fair value as an asset, if their fair value is positive, or as a liability, if their fair value is negative. In general, most of the Companys Hedging Instruments are
designated as cash flow hedges, and the effective amount of change in the fair value of the Derivative is recorded in accumulated other comprehensive income (loss) and transferred to earnings as the hedged item affects earnings. The ineffective
amount of all Hedging Instruments is recognized in earnings each quarter. Generally, a hedging strategy is effective under SFAS 133 if it achieves offsetting cash flows attributable to the risk being hedged and meets certain statistical measures
pursuant to SFAS 133. If the hedging strategy is not successful in achieving offsetting cash flows or meeting the statistical measures, it is ineffective.



As the Company enters into hedging transactions, it formally documents the relationship between the Hedging Instruments and the hedged
items. The Company has also documented its risk-management policies, including objectives and strategies, as they relate to its hedging activities. The Company assesses, both at the inception of a hedging activity and on an on-going basis, whether
or not the hedging activity is highly effective. If it is determined



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that a hedge has been highly effective, but will not be prospectively, the Company
discontinues hedge accounting prospectively.



Hybrid ARM Hedging Instruments



The Company enters into Hybrid ARM Hedging Instruments in order to manage its interest rate exposure when financing its Hybrid ARM assets. Though the Company generally borrows money based on short-term interest rates,
its Hybrid ARM assets have an initial fixed interest rate period of three to ten years. As a result, the Companys existing and forecasted borrowings reprice to a new rate on a more frequent basis than do the Hybrid ARM assets. Consequently,
the Company uses Hybrid ARM Hedging Instruments to fix the interest rate on its borrowings during the expected fixed interest rate period of the Hybrid ARM assets such that the combined Effective Duration of its borrowings and Hybrid ARM Hedging
Instruments closely matches the Effective Duration of the Hybrid ARM assets, the difference being Net Effective Duration. The notional balances of the Hybrid ARM Hedging Instruments generally decline over the life of these instruments approximating
the declining balance of the Hybrid ARM assets being financed.



Swap Agreements and Eurodollar Transactions have the effect of converting the Companys variable-rate debt into fixed-rate debt over the life of the Swap Agreements and Eurodollar Transactions. When the Company
enters into a Swap Agreement, it agrees to pay a fixed rate of interest and to receive a variable interest rate, generally based on LIBOR. The Company also enters into Eurodollar Transactions in order to fix the interest rate on its forecasted
three-month LIBOR-based liabilities. When the Company enters into a Eurodollar Transaction, it incurs a gain if the applicable interest rate index subsequently rises or a loss if the applicable interest rate index subsequently declines. The
amortization of the gain or loss over the hedged period when combined with the variable cost of the short-term debt is expected to result in a fixed interest cost over the life of the Eurodollar Transaction.



The Company enters into Cap Agreements in connection with
some of its CDO securitizations by incurring a one-time fee or premium. Pursuant to the terms of the respective Cap Agreements, the Company will receive cash payments if the interest rate index specified in any such Cap Agreement increases above
contractually specified levels. Therefore, such Cap Agreements have the effect of capping the interest rate on a portion of the Companys borrowings so as not to exceed the level specified by the Cap Agreement. The purchase price of these Cap
Agreements is expensed over the life of the Cap Agreements and the expense increases as the Cap Agreements approach maturity.



The Company designates its Hybrid ARM Hedging Instruments as cash flow hedges. All changes in the unrealized gains and losses on Hybrid
ARM Hedging Instruments have been recorded in accumulated other comprehensive income (loss) and are reclassified to earnings as interest expense when each of the forecasted financing transactions occurs. If it becomes probable that the forecasted
transaction, which in this case refers to interest payments to be made under the Companys short-term borrowing agreements or its debt obligations, will not occur by the end of the originally specified time period as documented at the inception
of the hedging relationship, or within an additional two-month time period thereafter, then the related gain or loss in accumulated other comprehensive income (loss) would be reclassified to income. The carrying value of these Hybrid ARM Hedging
Instruments is included in Hedging Instruments on the Consolidated Balance Sheets.



The unrealized gain (loss) on Swap Agreements is based on the discounted value of the remaining future net interest payments expected to be made over the remaining life of the Swap Agreements.
Therefore, over time, as the actual payments are made, the unrealized gain (loss) in accumulated other comprehensive income (loss) and the carrying value of the Swap Agreements adjust to zero and the Company realizes a fixed financing cost over the
life of the Hedging Instrument.



Pipeline Hedging Instruments



The Company enters into Pipeline Hedging Instruments to manage interest rate risk associated with commitments to purchase ARM loans. The Company does not currently apply hedge accounting to its Pipeline Hedging
Instruments and, therefore, the change in fair value and the realized gains (losses) on these Pipeline Hedging Instruments are recorded in current earnings. The net gain (loss) related to Pipeline Hedging Instruments is reflected in Gain (loss)



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on Derivatives, net, on the Consolidated Income Statements as an offset to the net gain
(loss) recorded for the change in fair value of the purchase commitments.



Long-term incentive awards



The Company has a long-term incentive plan which is more fully described in Note 8. Since inception of the Plan in 2002, the Company has accounted for all awards issued and future awards under the fair value
recognition provisions of SFAS 123, Accounting for Stock-Based Compensation. The PSRs issued under the Plan are variable in nature and are settled in cash. The liability for PSRs is measured each period based on the fair value of the
Common Stock. The effects of changes in the stock price during the vesting period, generally three years, are recognized as expense over the vesting period in accordance with FIN 28, Accounting for Stock Appreciation Rights and Other Variable
Stock Option or Award Plans. Dividend-equivalent payments on vested and unvested PSRs and DERs are recognized as compensation expense in the period in which they are declared.



Accumulated other comprehensive income (loss)



SFAS 130, Reporting Comprehensive Income, divides comprehensive income into net income and other
comprehensive income (loss), which includes unrealized gains and losses on marketable securities defined as available-for-sale and unrealized gains and losses on Derivatives that qualify for cash flow hedge accounting under SFAS 133.



The net unrealized gain on the Companys ARM Loans of
$56.9 million and $64.6 million at June 30, 2005 and December 31, 2004, respectively, is not included in accumulated other comprehensive income (loss) because, in accordance with GAAP, the ARM Loans are carried at their amortized cost basis.



Income taxes



The Company, excluding TMHL and its subsidiaries, elected to
be taxed as a REIT and believes it complies with the provisions of the Code with respect thereto. Accordingly, the Company will not be subject to federal income tax on that portion of its income that is distributed to shareholders as long as certain
asset, income and stock ownership tests are met. TMHL and each of its subsidiaries made the election to be taxable REIT subsidiaries as of the close of business on May 31, 2004 and, as such, are subject to both federal and state corporate income tax
after that date.



Income taxes are provided
under the asset and liability method. Deferred tax assets and liabilities are recognized for the future tax consequences attributable to differences between the financial statement carrying amounts of existing assets and liabilities and their
respective tax bases. Deferred tax assets and liabilities are measured using enacted rates expected to apply to taxable income in the years in which those temporary differences are expected to be recovered or settled. The effect on deferred taxes of
a change in tax rates is recognized in income in the period the change occurs. Subject to managements judgment, a valuation allowance is established if realization of deferred tax assets is not more likely than not.



Income taxes for the quarter ended June 30, 2005 were
immaterial and no provision is reflected on the Consolidated Income Statements. The primary difference between the financial statement carrying amount of existing assets and liabilities and their respective tax bases relates to MSRs capitalized for
financial statement purposes. The related deferred liability is immaterial at June 30, 2005 and is included in Accrued expenses and other on the Consolidated Balance Sheets.



Net earnings per share



EPS amounts are computed by dividing net income (adjusted for dividends declared on Preferred Stock) by the
weighted average number of common shares outstanding. The Company had no outstanding Common Stock equivalents during the periods presented.



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Following is information about the computation of the EPS data for the three- and six-
month periods ended June 30, 2005 and 2004 (in thousands except per share data):



|                                             |  |        |         |        |        |     |   |     
|-------------------------------------------- |  | ------ | ------- | ------ | ------ | --- | - | ----
|                                             |  | Income |         | Shares |        | EPS
|Three Months Ended June 30, 2005             |  |        |         |        |        |     |   |     
|EPS, income available to common shareholders |  | $      | 67,116  |        | 96,565 |     | $ | 0.70
|                                             |  |        |         |        |        |     |   |     
|Three Months Ended June 30, 2004             |  |        |         |        |        |     |   |     
|EPS, income available to common shareholders |  | $      | 57,899  |        | 81,373 |     | $ | 0.71
|                                             |  |        |         |        |        |     |   |     
|Six Months Ended June 30, 2005               |  |        |         |        |        |     |   |     
|EPS, income available to common shareholders |  | $      | 134,472 |        | 94,869 |     | $ | 1.42
|                                             |  |        |         |        |        |     |   |     
|Six Months Ended June 30, 2004               |  |        |         |        |        |     |   |     
|EPS, income available to common shareholders |  | $      | 111,262 |        | 79,002 |     | $ | 1.41
|                                             |  |        |         |        |        |     |   |     



Use of estimates



The preparation of financial
statements in conformity with GAAP requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities, the disclosure of contingent assets and liabilities at the date of the financial statements and the
reported amounts of revenues and expenses during the reporting period. Actual results could differ from those estimates.



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Note 2. ARM Assets



The following tables present the Companys ARM assets as of June 30, 2005 and December 31, 2004 (in thousands):



|                                                 |  |                |            |   |                      |   |           |                              |  |   |                                  |   |  |       |         |   |  |   |            |  
|------------------------------------------------ |  | -------------- | ---------- | - | -------------------- | - | --------- | ---------------------------- |  | - | -------------------------------- | - |  | ----- | ------- | - |  | - | ---------- | -
|June 30, 2005                                    |  | ARM securities |            |   | SecuritizedARM loans |   |           | ARM loanscollateralizingCDOs |  |   | ARM loans held forsecuritization |   |  | Total |        
|Principal balance outstanding                    |  | $              | 22,209,375 |   |                      | $ | 3,765,422 |                              |  | $ | 7,441,237                        |   |  | $     | 320,841 |   |  | $ | 33,736,875 |  
|Net unamortized premium                          |  |                | 300,079    |   |                      |   | 23,816    |                              |  |   | 34,127                           |   |  |       | 3,866   |   |  |   | 361,888    |  
|Loan loss reserves                               |  |                |           |   |                      |   | (7,441    | )                            |  |   | (2,332                           | ) |  |       | (250    | ) |  |   | (10,023    | )
|Non-accretable discounts                         |  |                | (7,996     | ) |                      |   |          |                              |  |   |                                 |   |  |       |        |   |  |   | (7,996     | )
|Net unrealized gain on purchase loan commitments |  |                |           |   |                      |   |          |                              |  |   |                                 |   |  |       | 3,515   |   |  |   | 3,515      |  
|Principal payment receivable                     |  |                | 18,986     |   |                      |   | 3,748     |                              |  |   |                                 |   |  |       |        |   |  |   | 22,734     |  
|                                                 |  |                |            |   |                      |   |           |                              |  |   |                                  |   |  |       |         |   |  |   |            |  
|Amortized cost, net                              |  |                | 22,520,444 |   |                      |   | 3,785,545 |                              |  |   | 7,473,032                        |   |  |       | 327,972 |   |  |   | 34,106,993 |  
|Gross unrealized gains                           |  |                | 13,915     |   |                      |   | 16,976    |                              |  |   | 81,561                           |   |  |       | 1,111   |   |  |   | 113,563    |  
|Gross unrealized losses                          |  |                | (243,097   | ) |                      |   | (42,503   | )                            |  |   |                                 |   |  |       | (205    | ) |  |   | (285,805   | )
|                                                 |  |                |            |   |                      |   |           |                              |  |   |                                  |   |  |       |         |   |  |   |            |  
|Fair value                                       |  | $              | 22,291,262 |   |                      | $ | 3,760,018 |                              |  | $ | 7,554,593                        |   |  | $     | 328,878 |   |  | $ | 33,934,751 |  
|                                                 |  |                |            |   |                      |   |           |                              |  |   |                                  |   |  |       |         |   |  |   |            |  
|Carrying value                                   |  | $              | 22,291,262 |   |                      | $ | 3,785,545 |                              |  | $ | 7,473,032                        |   |  | $     | 327,972 |   |  | $ | 33,877,811 |  
|                                                 |  |                |            |   |                      |   |           |                              |  |   |                                  |   |  |       |         |   |  |   |            |  
|                                                 |  |                |            |   |                     
|December 31, 2004                                |  | ARM securities |            |   | SecuritizedARM loans |   |           | ARM loanscollateralizingCDOs |  |   | ARM loansheld forsecuritization  |   |  | Total |        
|Principal balance outstanding                    |  | $              | 18,553,951 |   |                      | $ | 2,894,025 |                              |  | $ | 6,683,216                        |   |  | $     | 464,569 |   |  | $ | 28,595,761 |  
|Net unamortized premium                          |  |                | 275,592    |   |                      |   | 10,844    |                              |  |   | 39,351                           |   |  |       | 2,095   |   |  |   | 327,882    |  
|Loan loss reserves                               |  |                |           |   |                      |   | (7,427    | )                            |  |   | (1,757                           | ) |  |       | (250    | ) |  |   | (9,434     | )
|Non-accretable discounts                         |  |                | (6,478     | ) |                      |   |          |                              |  |   |                                 |   |  |       |        |   |  |   | (6,478     | )
|Net unrealized loss on purchase loan commitments |  |                |           |   |                      |   |          |                              |  |   |                                 |   |  |       | (193    | ) |  |   | (193       | )
|Principal payment receivable                     |  |                | 10,317     |   |                      |   | 2,543     |                              |  |   |                                 |   |  |       |        |   |  |   | 12,860     |  
|                                                 |  |                |            |   |                      |   |           |                              |  |   |                                  |   |  |       |         |   |  |   |            |  
|Amortized cost, net                              |  |                | 18,833,382 |   |                      |   | 2,899,985 |                              |  |   | 6,720,810                        |   |  |       | 466,221 |   |  |   | 28,920,398 |  
|Gross unrealized gains                           |  |                | 19,832     |   |                      |   | 8,367     |                              |  |   | 90,018                           |   |  |       | 1,062   |   |  |   | 119,279    |  
|Gross unrealized losses                          |  |                | (197,169   | ) |                      |   | (32,928   | )                            |  |   | (120                             | ) |  |       | (1,847  | ) |  |   | (232,064   | )
|                                                 |  |                |            |   |                      |   |           |                              |  |   |                                  |   |  |       |         |   |  |   |            |  
|Fair value                                       |  | $              | 18,656,045 |   |                      | $ | 2,875,424 |                              |  | $ | 6,810,708                        |   |  | $     | 465,436 |   |  | $ | 28,807,613 |  
|                                                 |  |                |            |   |                      |   |           |                              |  |   |                                  |   |  |       |         |   |  |   |            |  
|Carrying value                                   |  | $              | 18,656,045 |   |                      | $ | 2,899,985 |                              |  | $ | 6,720,810                        |   |  | $     | 466,221 |   |  | $ | 28,743,061 |  
|                                                 |  |                |            |   |                      |   |           |                              |  |   |                                  |   |  |       |         |   |  |   |            |  



The Company realized a
gain of $7.6 million on the sale of $1.0 billion of ARM assets during the six months ended June 30, 2005. The Company realized a gain of $3.2 million on the sale of $345.5 million of ARM assets during the six months ended June 30, 2004.



During the six months ended June 30, 2005, the Company securitized $2.9
billion of its ARM loans into a series of private-label multi-class ARM securities. While TMHL transferred substantially all of the ARM loans to a separate bankruptcy-remote legal entity, on a consolidated basis: (i) the Company did not account for
these securitizations as sales and, therefore, did not record any gain or loss in connection with the securitizations and (ii) the Company retained $1.3 billion of the resulting securities for its securitized ARM loan portfolio and placed $1.6
billion with third-party investors, thereby providing long-term collateralized financing for the Companys assets. Of the securities retained, 98.4% were rated Investment Grade and 1.6% were rated less than Investment Grade. As of June 30,
2005, the Company had $11.3 billion of ARM assets as a result of the Companys securitization efforts. As of December 31, 2004, the Company had $9.6 billion of ARM assets as a result of the Companys securitization efforts. All discussions
relating to securitizations in this Form 10-Q are on a consolidated basis and do not reflect the separate legal ownership of the loans by various bankruptcy-remote legal entities.



During the six months ended June 30, 2005, the Company purchased $2.1 billion of third-party loan securitizations in
transactions in which the Company purchased all classes of the securitizations, including the subordinated classes. At June 30, 2005 and December 31, 2004, the Companys ARM securities included $5.2 billion and $3.6 billion, respectively,
resulting from the Companys aggregate purchase of third-party loan securitizations. These assets are Qualifying Interests for



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purposes of maintaining the Companys exemption from the Investment Company Act because the Company
retains a 100% ownership interest in the underlying loans. Because the Company purchases all classes of these securitizations, the Company has credit exposure on the underlying loans. The purchase price of the classes that are less than Investment
Grade generally includes a discount for probable credit losses and, based on managements judgment, the portion of the purchase discount which reflects the estimated unrealized loss on the securities due to credit risk is treated as a
non-accretable discount. The Company recorded non-accretable discounts of $2.7 million related to securities purchased during the six months ended June 30, 2005. As of June 30, 2005 and December 31, 2004, the Company had total non-accretable
discounts of $8.0 million and $6.5 million, respectively, on its ARM securities due to estimated credit losses (other than temporary declines in fair value) related to ARM securities purchased at a discount. As of June 30, 2005, 16 of the underlying
loans in these third party loan securitizations were considered seriously delinquent (60 days or more delinquent) and had an aggregate balance of $3.1 million. During the six months ended June 30, 2005 and 2004, the Company reclassified $1.2 million
and $210,000, respectively, from non-accretable discount to accretable discount.



During the six months ended June 30, 2005 and 2004, the Company recorded loan loss provisions totaling $589,000 and $823,000, respectively, to reserve for estimated credit losses on ARM Loans bringing its total loan
loss reserve to $10.0 million and $8.8 million, respectively.



The following table shows the gross unrealized losses and fair value of ARM securities, aggregated by credit rating and length of time that the 584 individual securities have been in a continuous unrealized loss position, at June 30, 2005
(amounts in thousands):



Unrealized Losses on ARM Securities
as of June 30, 2005



|                       |  |                     |            |                 |                   |         |            |       |                 |           |  |            |          |                 |  |   |            |  |   |          |  
|---------------------- |  | ------------------- | ---------- | --------------- | ----------------- | ------- | ---------- | ----- | --------------- | --------- |  | ---------- | -------- | --------------- |  | - | ---------- |  | - | -------- | -
|                       |  | Less Than 12 Months |            |                 | 12 Months or More |         |            | Total |                
|                       |  | Fair Value          |            | Unrealized Loss |                   |         | Fair Value |       | Unrealized Loss |           |  | Fair Value |          | Unrealized Loss | 
|Agency Securities      |  | $                   | 1,308,636  |                 | $                 | (8,436  | )          |       | $               | 649,681   |  | $          | (12,247  | )               |  | $ | 1,958,317  |  | $ | (20,683  | )
|AAA/Aaa rating         |  |                     | 12,273,586 |                 |                   | (90,830 | )          |       |                 | 5,131,612 |  |            | (122,341 | )               |  |   | 17,405,198 |  |   | (213,171 | )
|AA/Aa rating           |  |                     | 61,330     |                 |                   | (172    | )          |       |                 | 72,141    |  |            | (7,868   | )               |  |   | 133,471    |  |   | (8,040   | )
|A rating               |  |                     | 27,476     |                 |                   | (174    | )          |       |                 | 3,692     |  |            | (72      | )               |  |   | 31,168     |  |   | (246     | )
|BBB/Baa rating         |  |                     | 18,956     |                 |                   | (174    | )          |       |                 | 7,957     |  |            | (614     | )               |  |   | 26,913     |  |   | (788     | )
|BB/Ba rating and below |  |                     | 8,311      |                 |                   | (169    | )          |       |                 |          |  |            |         |                 |  |   | 8,311      |  |   | (169     | )
|                       |  |                     |            |                 |                   |         |            |       |                 |           |  |            |          |                 |  |   |            |  |   |          |  
|Total                  |  | $                   | 13,698,295 |                 | $                 | (99,955 | )          |       | $               | 5,865,083 |  | $          | (143,142 | )               |  | $ | 19,563,378 |  | $ | (243,097 | )
|                       |  |                     |            |                 |                   |         |            |       |                 |           |  |            |          |                 |  |   |            |  |   |          |  



The unrealized losses
in the above table are temporary impairments due to changes in market interest rates and, based upon review of credit ratings, delinquency data and other information, are not reflective of credit deterioration. As the Company has the ability and
intent to hold its ARM securities until recovery, losses are not considered to be other than temporary impairments. As presented in Note 7, during the six-month period ended June 30, 2005, the net unrealized loss of $177.3 million on ARM securities
increased by $51.8 million to a net unrealized loss of $229.2 million. During the same six-month period in 2005, the net unrealized gain on Hedging Instruments of $86.6 million increased by $57.6 million to a net unrealized gain of $144.2 million,
for a combined decrease in the net unrealized loss on ARM securities and Hedging Instruments of $5.8 million. While the Companys ARM securities are designated as available-for-sale, the Company does not typically sell its ARM securities and
therefore does not expect to realize these gross unrealized losses.



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The Company has credit exposure on its ARM Loans. The following tables summarize ARM Loan delinquency
information as of June 30, 2005 and December 31, 2004 (dollar amounts in thousands):



|                              |  |           |  |             |       |                    |      |   |                        |      |  
|----------------------------- |  | --------- |  | ----------- | ----- | ------------------ | ---- | - | ---------------------- | ---- | -
|June 30, 2005                 |  |           |  |             |       |                    |      |   |                        |      |  
|Delinquency Status            |  | LoanCount |  | LoanBalance |       | Percent ofARMLoans |      |   | Percent of TotalAssets |     
|60 to 89 days                 |  | 0         |  |             |      |                    |     |   |                        |     |  
|90 days or more               |  | 0         |  |             |      |                    |     |   |                        |     |  
|In bankruptcy and foreclosure |  | 8         |  | $           | 8,844 |                    | 0.08 | % |                        | 0.03 | %
|                              |  |           |  |             |       |                    |      |   |                        |      |  
|                              |  | 8         |  | $           | 8,844 |                    | 0.08 | % |                        | 0.03 | %
|                              |  |           |  |             |       |                    |      |   |                        |      |  
|                              |  |           |  |            
|December 31, 2004             |  |           |  |             |       |                    |      |   |                        |      |  
|Delinquency Status            |  | LoanCount |  | LoanBalance |       | Percent ofARMLoans |      |   | Percent of TotalAssets |     
|60 to 89 days                 |  | 1         |  | $           | 5,000 |                    | 0.05 | % |                        | 0.02 | %
|90 days or more               |  | 2         |  |             | 517   |                    | 0.01 |   |                        | 0.00 |  
|In bankruptcy and foreclosure |  | 5         |  |             | 2,165 |                    | 0.02 |   |                        | 0.01 |  
|                              |  |           |  |             |       |                    |      |   |                        |      |  
|                              |  | 8         |  | $           | 7,682 |                    | 0.08 | % |                        | 0.03 | %
|                              |  |           |  |             |       |                    |      |   |                        |      |  



As of June 30, 2005,
the Company owned one real estate property as a result of foreclosing on a delinquent loan in the amount of $455,000 (not included in the table above.) The Company believes that its current level of loan loss reserves is adequate to cover estimated
losses from this loan as well as losses inherent in the ARM loan portfolio at June 30, 2005.



MSRs capitalized upon the securitization of $2.9 billion and $2.2 billion of ARM loans during the six months ended June 30, 2005 and 2004, respectively, totaled $15.2 million and $7.7 million, respectively. MSRs of
$33.6 million, net of amortization of $2.2 million during the six months ended June 30, 2005, are included in Prepaid expenses and other on the Consolidated Balance Sheets at June 30, 2005. MSRs of $20.6 million are included in Prepaid expenses and
other on the Consolidated Balance Sheets at December 31, 2004. At June 30, 2005, the fair value of the MSRs of $47.6 million exceeded their cost basis in each risk stratum.



As of June 30, 2005, the Company had commitments to purchase or originate the following amounts of ARM assets (amounts in
thousands):



|                                       |  |   |          
|-------------------------------------- |  | - | ---------
|ARM securities  private high quality  |  | $ | 392,093  
|ARM loans  correspondent originations |  |   | 603,566  
|ARM loans  direct originations        |  |   | 73,949   
|                                       |  |   |          
|                                       |  | $ | 1,069,608
|                                       |  |   |          



The Company has
entered into transactions whereby the Company expects to acquire the remaining balance of certain AAA-rated Hybrid ARM securities, at a price of par, between 2007 and 2008, when the fixed-rate period of the Hybrid ARM securities terminates and the
securities convert into Traditional ARM securities with characteristics similar to the Traditional ARM securities held in the current portfolio. The Company views these transactions as an alternative source of Traditional ARM assets. At June 30,
2005, the balance of the Hybrid ARM securities was approximately $1.2 billion, but is expected to be less than 60% of that, and could be zero, at the time they convert into Traditional ARM securities. If the Company decides not to acquire the Hybrid
ARM securities when they convert into Traditional ARM securities, then it is committed to pay or receive the difference between par and the fair value of the Traditional ARM securities at that time, as determined by an auction of the Traditional ARM
securities. As of June 30, 2005, the Company had delivered ARM assets with a carrying value of $2.7 million and $3.2 million in cash as collateral in connection with these transactions.



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Note 3. Hedging Instruments



Hybrid ARM Hedging Instruments



As of June 30, 2005 and December 31, 2004, the Company was counterparty to Hybrid ARM Hedging Instruments
that consist of Swap Agreements and Eurodollar Transactions having aggregate notional balances of $24.2 billion and $19.6 billion, respectively. In addition, as of June 30, 2005, the Company had entered into delayed Swap Agreements with notional
balances totaling $800 million that become effective between July 2005 and October 2006 and are also accounted for as cash flow hedges as of June 30, 2005. These delayed Swap Agreements have been entered into to hedge the forecasted financing of the
Companys ARM assets. As of June 30, 2005, these Swap Agreements and Eurodollar Transactions had a weighted average maturity of 2.7 years. In accordance with the Swap Agreements, the Company will pay a fixed rate of interest during the term of
these Swap Agreements and receive a payment that varies monthly with the one-month LIBOR rate. The combined weighted average fixed rate payable of the Swap Agreements and Eurodollar Transactions was 3.28% and 3.04% at June 30, 2005 and December 31,
2004, respectively. As of June 30, 2005, ARM assets with a carrying value of $2.0 million, including accrued interest, collateralized the Swap Agreements. The Company held net cash collateral from Swap Agreement counterparties totaling $42.0 million
at June 30, 2005.



The net unrealized gain on
Swap Agreements at June 30, 2005 of $166.0 million included Swap Agreements with gross unrealized gains of $201.9 million and gross unrealized losses of $35.9 million and is included in Hedging Instruments on the Consolidated Balance Sheets. As of
December 31, 2004, the net unrealized gain of $108.1 million included Swap Agreements with gross unrealized gains of $129.4 million and gross unrealized losses of $21.3 million. As of June 30, 2005, the net unrealized gain on Swap Agreements and
deferred gains and losses on Eurodollar Transactions recorded in accumulated other comprehensive income (loss) totaled a net gain of $144.2 million. Over the next twelve months, $126.4 million of these net unrealized gains are expected to be
realized.



As of June 30, 2005 and December
31, 2004, the Companys Cap Agreements used to manage the interest rate risk exposure on the financing of Hybrid ARM loans collateralizing CDOs had remaining notional amounts of $1.1 billion and $1.3 billion, respectively. The Company has also
entered into Cap Agreements that have start dates ranging from 2006 to 2010. The notional balance at the start date will be the lesser of the scheduled amount of $371.1 million or the balance of Hybrid ARM loans associated with these Cap Agreements.
The fair value of all of these Cap Agreements at June 30, 2005 and December 31, 2004 was $12.5 million and $14.8 million, respectively, and is included in Hedging Instruments on the Consolidated Balance Sheets. As of June 30, 2005 and December 31,
2004, the unrealized losses on these Cap Agreements of $21.3 million and $21.1 million, respectively, are included in accumulated other comprehensive income (loss). In the twelve month period following June 30, 2005, $3.6 million of this unrealized
loss is expected to be realized. Pursuant to the terms of these Cap Agreements and subject to future prepayment behavior, the notional amount of the Cap Agreements declines such that it is expected to equal the balance of the Hybrid ARM loans
collateralizing CDOs. Under these Cap Agreements, the Company will receive cash payments should the one-month LIBOR increase above the contract rates of these Hedging Instruments, which range from 3.25% to 11.50% and average 5.31%. The Cap
Agreements had an average maturity of 3.4 years as of June 30, 2005 and will expire between 2006 and 2013.



The Company hedges the funding of its Hybrid ARM assets such that the Net Effective Duration is less than one year. At June 30, 2005, the
financing and hedging of the Companys Hybrid ARM assets resulted in a Net Effective Duration of approximately 0.23 years while the financing and hedging of all of the Companys ARM assets resulted in a Net Effective Duration of
approximately 0.22 years. This suggests a low degree of portfolio price change given small changes in interest rates, and implies that the Companys cash flow and earning characteristics should be relatively stable as interest rates change.



Interest expense for the three- and six-month
periods ended June 30, 2005 includes net payments on Hybrid ARM Hedging Instruments of $8.8 million and $34.6 million, respectively. Interest expense for the same periods in 2004 includes net payments on Hybrid ARM Hedging Instruments of $66.8
million and $128.3 million, respectively.



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Pipeline Hedging Instruments



The Company enters into commitments to purchase loans through its correspondent and bulk channels. Purchase
commitments that will be held for investment purposes generally qualify as derivatives under SFAS 133 and SFAS 149 and are recorded at fair value. The Company hedges these purchase commitments with Pipeline Hedging Instruments. The change in fair
value of the Pipeline Hedging Instruments is included in Gain (loss) on Derivatives, net in the Consolidated Income Statements. The fair value of the Pipeline Hedging Instruments at June 30, 2005 and December 31, 2004 was a net unrealized loss of
$2.0 million and is included in Hedging Instruments on the Consolidated Balance Sheets. Pipeline Hedging Instruments had remaining notional balances of $536.0 million and $688.0 million at June 30, 2005 and December 31, 2004, respectively.



The Company recorded a gain of $3.1 million
on Derivatives during the six months ended June 30, 2005. This gain consisted of a net gain of $3.4 million on commitments to purchase loans from correspondent lenders and bulk sellers and a net loss of $298,000 on Pipeline Hedging Instruments. The
Company recorded a loss of $514,000 on Derivatives during the six months ended June 30, 2004. This loss consisted of a net loss of $9.1 million on commitments to purchase loans from correspondent lenders and bulk sellers, partially offset by a net
gain of $6.5 million on Pipeline Hedging Instruments and a $2.1 million realized gain on the termination of three Swap Agreements.



Note 4. Borrowings



Reverse Repurchase Agreements



The Company has arrangements to enter into reverse repurchase agreements, a form of collateralized short-term borrowing, with 23 different
financial institutions, and as of June 30, 2005, had borrowed funds from 17 of these firms. Because the Company borrows money under these agreements based on the fair value of its ARM assets, and because changes in interest rates can negatively
impact the valuation of ARM assets, the Companys borrowing ability under these agreements could be limited and lenders could initiate margin calls in the event interest rates change or the value of the Companys ARM assets declines for
other reasons.



As of June 30, 2005, the
Company had $19.4 billion of reverse repurchase agreements outstanding with a weighted average borrowing rate of 3.38% and a weighted average remaining maturity of 3.8 months. As of December 31, 2004, the Company had $14.2 billion of reverse
repurchase agreements outstanding with a weighted average borrowing rate of 2.49% and a weighted average remaining maturity of 3.6 months. As of June 30, 2005, $18.8 billion of the Companys borrowings were variable-rate term reverse repurchase
agreements with original maturities that range from four to fifteen months. The interest rates of these term reverse repurchase agreements are indexed to either the one- or three-month LIBOR rate and reprice accordingly. ARM assets with a carrying
value of $20.4 billion, including accrued interest, collateralized the reverse repurchase agreements at June 30, 2005.



At June 30, 2005, the reverse repurchase agreements had the following remaining maturities (in thousands):



|               |  |   |           
|-------------- |  | - | ----------
|Within 30 days |  | $ | 3,054,194 
|31 to 89 days  |  |   | 3,634,064 
|90 to 365 days |  |   | 12,742,283
|               |  |   |           
|               |  | $ | 19,430,541
|               |  |   |           



Asset-backed CP



On June 30, 2004, the Company established
a $5 billion Asset-backed CP facility, which provides an alternative way to finance the Companys high quality ARM securities portfolio. The Company issues Asset-backed CP to investors in the form of secured liquidity notes that are recorded as
borrowings on the Companys Consolidated Balance Sheets and are rated P-1 by Moodys Investors Services and F1+ by Fitch Ratings. As of June 30, 2005, the Company had $5.0 billion of Asset-backed CP outstanding with a weighted average
interest rate of 3.32% and a weighted average remaining maturity of 18 days.



As of June 30, 2005, these notes were collateralized by AAA-rated MBS from the Companys ARM asset portfolio with a carrying value of $5.3 billion, including accrued interest.



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CDOs



All of the Companys CDOs are secured by ARM loans. For financial reporting purposes, the ARM loans held as collateral are recorded
as assets of the Company and the CDOs are recorded as the Companys debt. In some transactions, Hedging Instruments are held by the trusts and recorded as assets or liabilities of the Company. The Hedging Instruments either fix the interest
rates of the pass-through certificates or cap the interest rate exposure on these transactions. As of June 30, 2005, the following CDOs were outstanding (dollar amounts in thousands):



|                            |  |                   |           |                            |      |  
|--------------------------- |  | ----------------- | --------- | -------------------------- | ---- | -
|Description                 |  | Principal Balance |           | EffectiveInterest Rate (1) |     
|Floating-rate financing (2) |  | $                 | 4,336,044 |                            | 3.89 | %
|Fixed-rate financing (3)    |  |                   | 3,012,851 |                            | 4.15 | %
|                            |  |                   |           |                            |      |  
|Total                       |  | $                 | 7,348,895 |                            | 4.00 | %
|                            |  |                   |           |                            |      |  



|(1) | Effective interest rate includes the impact of issuance costs and Hedging Instruments.
|--- | --------------------------------------------------------------------------------------



|(2) | Includes financing hedged with Cap Agreements with a notional balance of $1.1 billion and a weighted average strike price of 5.31% as of June 30, 2005.
|--- | -------------------------------------------------------------------------------------------------------------------------------------------------------



|(3) | Includes floating-rate financing hedged with Swap Agreements with a notional balance of $1.8 billion.
|--- | -----------------------------------------------------------------------------------------------------



As of June 30, 2005, the CDOs were collateralized by ARM
loans with a principal balance of $7.4 billion. The debt matures between 2033 and 2045 and is callable by the Company at par once the total balance of the loans collateralizing the debt is reduced to 20% of their original balance. The balance of
this debt is reduced as the underlying loan collateral is paid down and is expected to have an average life of approximately four years.



Whole Loan Financing Facilities



As of June 30, 2005, the Company had entered into two committed whole loan financing facilities with a total borrowing capacity of $600
million that expire between February 2006 and December 2006. The Company had uncommitted facilities of $650 million at June 30, 2005. The interest rates on these facilities are indexed to one-month LIBOR and reprice accordingly. The Company expects
to renew these facilities when they expire or replace them with new facilities with similar terms. As of June 30, 2005, the Company had $29.6 million borrowed against these whole loan financing facilities at an effective rate of 3.81%. As of
December 31, 2004, the Company had $285.6 million borrowed against whole loan financing facilities at an effective cost of 3.36%. The amount borrowed on the whole loan financing facilities at June 30, 2005 was collateralized by ARM loans with a
carrying value of $30.6 million, including accrued interest. These facilities have covenants that are standard for industry practice and the Company was in compliance with all such covenants at June 30, 2005.



Senior Notes



The Company had $305.0 million in Senior Notes outstanding
at June 30, 2005. The Senior Notes bear interest at 8.0%, payable each May 15 and November 15, and mature on May 15, 2013. The Senior Notes are redeemable at a declining premium, in whole or in part, beginning on May 15, 2008, and at par beginning
on May 15, 2011. The Senior Notes may also be redeemed under limited circumstances on or before May 15, 2006. In connection with the issuance of the Senior Notes, the Company incurred costs of $5.4 million, which are being amortized to interest
expense over the expected life of the Senior Notes. The Company received a premium of $3.6 million related to the notes offering, which is being amortized over the remaining expected life of the Senior Notes. At June 30, 2005 and December 31, 2004,
the balance of the Senior Notes outstanding, net of unamortized issuance costs and premium, was $304.2 million and had an effective cost of 8.07% and 8.06%, respectively, which reflects the effect of issuance cost and premium received at issuance.



The Companys Senior Note obligations
contain both financial and non-financial covenants. Significant financial covenants include limitations on the Companys ability to incur indebtedness beyond specified levels, restrictions on



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the Companys ability to incur liens on assets and limitations on the amount and
type of restricted payments, such as repurchases of its own equity securities, that the Company makes. As of June 30, 2005, the Company was in compliance with all financial and non-financial covenants on its Senior Note obligations.



Other



The total cash paid for interest was $243.4 million and $145.7 million for the quarters ended June 30, 2005
and 2004, respectively, and $446.4 million and $266.1 million for the six months ended June 30, 2005 and 2004, respectively.



Contractual Obligations



As of June 30, 2005, the Company had the following contractual obligations (in thousands):



|                                |  |                        |            |                 |   |            |  |            |        |                  |   |        |  |   |          
|------------------------------- |  | ---------------------- | ---------- | --------------- | - | ---------- |  | ---------- | ------ | ---------------- | - | ------ |  | - | ---------
|                                |  | Payments Due by Period
|                                |  | Total                  |            | Less than 1year |   | 1  3years |  | 3  5years |        | More than 5years
|Reverse repurchase agreements   |  | $                      | 19,430,541 |                 | $ | 19,430,541 |  | $          |       |                  | $ |       |  | $ |         
|Asset-backed CP                 |  |                        | 4,990,000  |                 |   | 4,990,000  |  |            |        |                  |   |        |  |   |          
|CDOs (1)                        |  |                        | 7,348,895  |                 |   | 14,966     |  |            | 36,914 |                  |   | 66,539 |  |   | 7,230,476
|Whole loan financing facilities |  |                        | 29,573     |                 |   | 29,573     |  |            |       |                  |   |       |  |   |         
|Senior Notes                    |  |                        | 304,231    |                 |   |           |  |            |       |                  |   |       |  |   | 304,231  
|ARM asset purchase commitments  |  |                        | 1,069,608  |                 |   | 1,069,608  |  |            |       |                  |   |       |  |   |         
|                                |  |                        |            |                 |   |            |  |            |        |                  |   |        |  |   |          
|Total (2)                       |  | $                      | 33,172,848 |                 | $ | 25,534,688 |  | $          | 36,914 |                  | $ | 66,539 |  | $ | 7,534,707
|                                |  |                        |            |                 |   |            |  |            |        |                  |   |        |  |   |          



|(1) | Maturities of the Companys CDOs are dependent upon cash flows received from the underlying loans receivable. The estimate of their repayment is based on
scheduled principal payments on the underlying loans receivable. This estimate will differ from actual amounts to the extent prepayments and/or loan losses are experienced.
|--- | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



|(2) | The Consolidated Balance Sheets include a liability for Hedging Instruments with negative market values, which are not reflected in this table.
|--- | -----------------------------------------------------------------------------------------------------------------------------------------------



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Note 5. Fair Value of Financial Instruments and Off-Balance Sheet Credit Risk



The following table presents the carrying amounts and estimated fair values
of the Companys financial instruments at June 30, 2005 and December 31, 2004 (in thousands):



|                                  |  |                 |            |                   |   |                 |  |            |            |  |   |           
|--------------------------------- |  | --------------- | ---------- | ----------------- | - | --------------- |  | ---------- | ---------- |  | - | ----------
|                                  |  | June 30, 2005   |            | December 31, 2004
|                                  |  | Carrying Amount |            | Fair Value        |   | Carrying Amount |  | Fair Value
|Assets:                           |  |                 |            |                   |   |                 |  |            |            |  |   |           
|ARM securities                    |  | $               | 22,291,262 |                   | $ | 22,291,262      |  | $          | 18,656,045 |  | $ | 18,656,045
|Securitized ARM loans             |  |                 | 3,785,545  |                   |   | 3,760,018       |  |            | 2,899,985  |  |   | 2,875,424 
|ARM loans collateralizing CDOs    |  |                 | 7,473,032  |                   |   | 7,554,593       |  |            | 6,720,810  |  |   | 6,810,708 
|ARM loans held for securitization |  |                 | 327,972    |                   |   | 328,878 7       |  |            | 466,221    |  |   | 465,436   
|Hedging Instruments               |  |                 | 225,517    |                   |   | 225,517         |  |            | 144,230    |  |   | 144,230   
|Liabilities:                      |  |                 |            |                   |   |                 |  |            |            |  |   |           
|Reverse repurchase agreements     |  |                 | 19,430,541 |                   |   | 19,430,541      |  |            | 14,248,939 |  |   | 14,248,939
|Asset-backed CP                   |  |                 | 4,990,000  |                   |   | 4,990,000       |  |            | 4,905,000  |  |   | 4,905,000 
|CDOs                              |  |                 | 7,348,895  |                   |   | 7,361,738       |  |            | 6,623,641  |  |   | 6,640,932 
|Whole loan financing facilities   |  |                 | 29,573     |                   |   | 29,573          |  |            | 285,555    |  |   | 285,555   
|Senior Notes                      |  |                 | 304,231    |                   |   | 311,100         |  |            | 304,173    |  |   | 324,825   
|Hedging Instruments               |  |                 | 49,449     |                   |   | 49,449          |  |            | 26,027     |  |   | 26,027    



As of June 30, 2005,
the Company had no off-balance sheet credit risk.



Note 6.
Common and Preferred Stock



In March 2005, the Company
completed a public offering of 2,000,000 shares of 8% Series C Cumulative Redeemable Preferred Stock and received net proceeds of $48.3 million. The Preferred Stock is redeemable, in whole or in part, beginning on March 22, 2010 at a price of $25.00
per share, plus accumulated unpaid dividends, if any. The Preferred Stock may also be redeemed under limited circumstances to preserve the Companys REIT status prior to March 22, 2010. The Company is not required to redeem the shares. The
Preferred Stock has no stated maturity date and is not convertible into Common Stock.



During the quarter ended June 30, 2005, the Company issued an additional 2,525,000 shares of Preferred Stock and received net proceeds of $60.6 million.



During June 2005, the Company completed a public offering of 4,000,000 shares of Common Stock and received net proceeds of
$117.3 million.



During the three- and six-month periods ended
June 30, 2005, the Company issued 586,300 and 1,649,900 shares, respectively, of Common Stock through at-market transactions and received net proceeds of $16.8 million and $46.6 million, respectively, under a controlled equity offering program.



During the three- and six-month periods ended June 30, 2005,
the Company issued 2,320,018 and 3,990,479 shares, respectively, of Common Stock under the DRSPP and received net proceeds of $67.3 million and $113.0 million, respectively.



As of June 30, 2005, $114.0 million of the Companys registered securities remained available for future issuance and
sale under its shelf registration statement, declared effective on January 21, 2004, and $1.5 billion of the Companys registered securities remained available for future issuance and sale under its shelf registration statement, declared
effective on June 16, 2005.



On April 19, 2005, the Company
declared the first quarter 2005 dividend of $0.68 per share of Common Stock, which was paid on May 13, 2005 to shareholders of record as of May 3, 2005.



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On June 15, 2005, the Company declared a second quarter dividend of $0.50 per share to the shareholders
of the Preferred Stock, which was paid on July 15, 2005 to preferred shareholders of record as of June 30, 2005.



For federal income tax purposes, all dividends are expected to be ordinary income to the Companys common shareholders, subject to year-end allocations of the dividend between ordinary
income, capital gain income and non-taxable income as return of capital, depending on the amount and character of the Companys full year taxable income.



Note 7. Comprehensive Income (Loss)



Comprehensive income (loss) is composed of net income and OCI, which includes the change in unrealized gains and losses on available-for-sale ARM
securities and Hedging Instruments designated as cash flow hedges. The following table presents OCI balances (in thousands):



|                           |  |                                  |          |   |                                              |   |         |                                          |  |   |          |  
|-------------------------- |  | -------------------------------- | -------- | - | -------------------------------------------- | - | ------- | ---------------------------------------- |  | - | -------- | -
|                           |  | Unrealizedlosses onARMsecurities |          |   | Unrealized(losses)gains onHedgingInstruments |   |         | Accumulatedothercomprehensive(loss) gain | 
|Balance, December 31, 2003 |  | $                                | (43,314  | ) |                                              | $ | (99,464 | )                                        |  | $ | (142,778 | )
|Net change                 |  |                                  | (169,870 | ) |                                              |   | 181,207 |                                          |  |   | 11,337   |  
|                           |  |                                  |          |   |                                              |   |         |                                          |  |   |          |  
|Balance, June 30, 2004     |  | $                                | (213,184 | ) |                                              | $ | 81,743  |                                          |  | $ | (131,441 | )
|                           |  |                                  |          |   |                                              |   |         |                                          |  |   |          |  
|Balance, December 31, 2004 |  | $                                | (177,337 | ) |                                              | $ | 86,622  |                                          |  | $ | (90,715  | )
|Net change                 |  |                                  | (51,845  | ) |                                              |   | 57,609  |                                          |  |   | 5,764    |  
|                           |  |                                  |          |   |                                              |   |         |                                          |  |   |          |  
|Balance, June 30, 2005     |  | $                                | (229,182 | ) |                                              | $ | 144,231 |                                          |  | $ | (84,951  | )
|                           |  |                                  |          |   |                                              |   |         |                                          |  |   |          |  



The net unrealized
gain on the Companys ARM Loans of $56.9 million and $64.6 million at June 30, 2005 and December 31, 2004, respectively, is not included in accumulated other comprehensive income (loss) because, in accordance with GAAP, the ARM Loans are
carried at their amortized cost basis.



Note 8. Long-Term
Incentive Awards



The Board of Directors adopted the Plan,
effective September 29, 2002. The Plan authorizes the Companys Compensation Committee to grant DERs, SARs and PSRs.



As of June 30, 2005, there were 1,568,772 DERs outstanding, all of which were vested, and 1,060,484 PSRs outstanding, of which 907,871 were vested. The
Company recorded an expense associated with DERs and PSRs of $3.2 million for the quarter ended June 30, 2005 and income of $344,000 for the quarter ended June 30, 2004. The expense recorded in the second quarter of 2005 consists of $1.7 million
associated with dividend equivalents paid on DERs and PSRs, $481,000 related to the amortization of unvested PSRs, and $1.0 million resulting from the impact of the increase in the Common Stock price on the value of the PSRs which was recorded as a
fair value adjustment. Of the income recorded in the second quarter of 2004, $2.3 million was the impact of the decrease in the Common Stock price on the value of the PSRs which was recorded as a fair value adjustment, partially offset by a $1.4
million expense associated with dividend equivalents paid on DERs and PSRs and a $511,000 expense related to the amortization of unvested PSRs. During the six-month periods ended June 30, 2005 and 2004, the Company recorded an expense associated
with DERs and PSRs in the amount of $4.7 million and $4.2 million, respectively.



Note 9. Transactions with Related Parties



The Company is managed externally by the Manager under the terms of the Management Agreement. The Manager receives an annual base management fee of 1.27% on the first $300 million of Average Historical Equity, plus
0.93% on Average Historical Equity above $300 million. The fee earned on Average Historical Equity over $1.5 billion is limited to 0.82%, decreasing an additional 0.05% for each additional $0.5 billion in Average Historical Equity thereafter until
reaching a fee of



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0.67% on any Average Historical Equity greater than $3.0 billion. These percentages are subject to an
inflation adjustment each July based on changes to the Consumer Price Index over the prior twelve month period. The Manager earns a performance-based incentive fee of 20% of the Companys annualized net income, before performance-based
compensation, above an annualized Return on Equity equal to the Ten Year U.S. Treasury Rate plus 1%, with the fee limited such that once the Manager has earned a performance fee of $30 million, the performance fee percentage of 20% is reduced by 1%
for each additional $5 million earned in performance fees until reaching a performance fee percentage of 15% for any amount greater than $50 million.



The Management Agreement provides for an annual review of the Managers performance under the Management Agreement by the independent directors of
the Board of Directors. In July 2005, the Board of Directors performed its annual review of the Managers performance and approved the Managers performance over the previous year. In addition, the Board of Directors reviews the
Companys financial results, policy compliance and strategic direction on a quarterly basis. If the Company terminated the Management Agreement for a reason other than for cause, a substantial cancellation fee would be activated.



During the quarters ended June 30, 2005 and 2004, the Company reimbursed the
Manager $1.8 million and $1.5 million, respectively, for expenses in accordance with the terms of the Management Agreement. During the six months ended June 30, 2005 and 2004, the Company reimbursed the Manager $3.4 million and $2.8 million,
respectively, for expenses. As of June 30, 2005 and 2004, $2.7 million and $2.0 million, respectively, was payable by the Company to the Manager for these reimbursable expenses.



For the quarters ended June 30, 2005 and 2004, the Company incurred base management fees of $5.0 million and $3.9 million,
respectively, in accordance with the terms of the Management Agreement. For the six-month periods ended June 30, 2005 and 2004, the Company incurred base management fees of $9.7 million and $7.6 million, respectively. As of June 30, 2005 and 2004,
$1.8 million and $1.3 million, respectively, was payable by the Company to the Manager for the base management fee.



For the quarters ended June 30, 2005 and 2004, the Manager earned performance-based compensation in the amount of $9.8 million and $8.5 million, respectively. For the six-month periods ended June
30, 2005 and 2004, the Manager earned performance-based compensation in the amount of $19.8 million and $16.8 million, respectively. As of June 30, 2005 and 2004, $9.8 million and $8.5 million, respectively, was payable by the Company to the Manager
for performance-based compensation.



Pursuant to an employee
residential mortgage loan program approved by the Board of Directors as part of the Companys residential loan mortgage origination activities, certain of the directors and officers of the Company and employees of the Manager and of other
affiliates of the Company have obtained residential first lien mortgage loans from the Company. In general, the terms of the loans and the underwriting requirements are identical to the loan programs that the Company offers to unaffiliated third
parties, except that participants in the program qualify for an employee discount on the interest rate and on lender fees. At the time each participant enters into a loan agreement, such participant executes an addendum that provides for the
discount on the interest rate being subject to cancellation at the time such participants employment is terminated for any reason. Effective with the enactment of the Sarbanes-Oxley Act of 2002 on July 30, 2002, any new loans made to directors
or executive officers of the Company are not eligible for the employee discount. As of June 30, 2005, the aggregate balance of mortgage loans outstanding to directors and officers of the Company, employees of the Manager and other affiliates
amounted to $42.8 million, had a weighted average interest rate of 4.31%, and maturities ranging between 2030 and 2035.



Note 10. Subsequent Events



On July 21, 2005, the Company declared the second quarter 2005 dividend of $0.68 per share of Common Stock, which is payable on August 16, 2005 to
shareholders of record as of August 4, 2005.



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In this quarterly report, we refer to Thornburg Mortgage, Inc. and its subsidiaries as we,
us, or the Company, unless we specifically state otherwise or the context indicates otherwise. Capitalized terms not otherwise defined in this quarterly report shall have the definitive meanings assigned to them in the
Glossary at the end of this report.



|Item 2. | MANAGEMENTS DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
|------- | -------------------------------------------------------------------------------------



Executive Overview



Our goal is to acquire or originate ARM assets for our portfolio and manage
them to achieve earnings and dividend stability as our primary objective and earnings and dividend growth as our secondary objective. In order to achieve these objectives, we must mitigate key risks inherent in the mortgage portfolio lending
business, principally credit risk and interest rate risk, while simultaneously pursuing earnings growth strategies. Our three primary earnings growth strategies are (i) to increase our more profitable, higher margin mortgage loan origination
business; (ii) to raise new equity capital at a premium to book value in order to grow our assets and book value over time; and (iii) to better use our existing capital base by pursuing non-recourse funding sources, relying less on reverse
repurchase agreements and more on CDOs to finance our balance sheet.



Earnings Growth Strategies



Higher Margin
Loan Originations.Our goal remains to increase our loan originations as a percentage of our annual portfolio acquisitions due to the higher margin potential of those assets. Our goal in 2005 is to originate $4.2 billion in mortgage loans.
Despite continued highly competitive pricing and a more aggressive approach to granting credit by other mortgage lenders, our loan originations of $2.3 billion in the first half of 2005 increased 11% over the year-ago period, and accounted for 22%
of total portfolio acquisitions. Our mortgage origination volumes remain stable with $677.5 million of loans in the pipeline at June 30, 2005, most of which we expect will close in the next quarter. Our correspondent relationships have increased 31%
year-over-year and we now have 191 correspondent partners across the country, including new entrants in the Midwest and South Central United States. Additionally, our newly initiated broker channel is now in its test phase. This new origination
channel has considerable potential, and based on our preliminary research, we believe we can partner effectively with select, high quality mortgage brokers to enhance our origination efforts without compromising the credit quality and performance
characteristics of our loan origination portfolio. Our ability to provide competitive rates, common sense underwriting, financially sensible ARM products  including our loan modification feature  and ongoing exceptional customer service
should allow us to further grow our loan origination business across multiple channels.



Accretive Capital Raises.Our ability to raise new equity capital at a premium to book value resulted in improvement in book value and asset acquisition activity and also helped us maintain our earnings during
the quarter. We raised $201.4 million of new common equity capital during the second quarter by issuing 6.9 million common shares at an average net price of $29.17 per share. We also issued 2.5 million shares of Preferred Stock for net proceeds of
$117.3 million during the second quarter. Primarily as a result of raising this new equity, our book value per common share rose 13% from $18.74 per share at June 30, 2004 to $21.09 per share at June 30, 2005. As a result these capital-raising
activities, our net earnings were stable at $0.70 per share for the second quarter of 2005 versus $0.71 per share for the second quarter of 2004.



Capital Efficient CDO Transactions.Since CDOs represent permanent financing and have no margin call risk, they reduce our financing capital
requirements and provide an additional source of balance sheet and earnings growth. Our financing capital requirement is lowered to approximately 2% versus our customary 8% to 10% capital policy requirement for reverse repurchase agreement and
Asset-backed CP financing. This more efficient use of capital allows us to invest in additional assets. As of June 30, 2005, the eight CDOs we completed over the past two years had freed up approximately $514 million of capital, enabling us to hold
approximately $3.6 billion in additional ARM assets.



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Consistent Profitability



We believe we possess a number of strategic advantages that allow us to generate consistent profitability. One of these
strategic advantages is our low operating expense structure. During the second quarter of 2005, our operating expenses as a percent of average assets were 0.29%, compared to 0.28% for the same quarter of 2004. We are able to operate at this low
level of operating expenses relative to the size of our portfolio because we do not operate like a traditional mortgage lender. We acquire many of our assets through MBS purchases and originate loans by developing strategic partnerships with
correspondent lenders, mortgage brokers, financial planners and other sources. As a result, we generally avoid the fixed cost infrastructure and high overhead associated with retail branch networks and commissioned loan officers. In addition, we
have developed other outsourced strategic partnerships that provide loan fulfillment services on a variable cost basis to our customers. We believe that this low, variable-cost model has allowed us to operate profitably with a lower interest rate
spread on our portfolio, enabling us to mitigate certain cyclical risks frequently associated with mortgage banking and portfolio lending activities. One of the strategic decisions we have been able to make as a result of our low-cost operating
model is to elect either to securitize our acquired and originated ARM loans or invest primarily in AAA- or AA-rated securities, Agency Securities or A quality ARM loans. This strategy has resulted in very low credit losses. It has also
created a very liquid and readily financeable portfolio that has had low price volatility as compared to a portfolio of 30-year, fixed-rate mortgage assets, particularly when interest rates rise. Additionally, we have been able to mitigate interest
rate risk by entering into hedging transactions and still achieve acceptable returns for our shareholders. Finally, by employing a portfolio lending strategy and retaining all of our ARM loans, we do not depend on gain on sale income, which can
fluctuate significantly with loan origination volume and market conditions.



Exceptional Credit Quality and Securitization



Our strategic focus is high credit quality assets. This strategy keeps our credit losses and financing costs low. It also creates significant portfolio liquidity and low portfolio price volatility, which ensures we
have access to financing through the credit cycle and contributes to maintaining consistent profitability. As of June 30, 2005, 98.0% of our ARM asset portfolio was High Quality, compared to 97.6% at March 31, 2005. Many of our High Quality ARM
assets consist of A quality ARM loans that we have either originated and securitized into ARM pass-through certificates or into CDO financings for our own portfolio. Additionally, our High Quality ARM assets include A quality
ARM loans originated and securitized by third parties which we have acquired for our portfolio. We retain the risk of potential credit losses on all of these loans. We did not experience any credit losses on ARM Loans during the first six months of
2005 and have only experienced $174,000 in credit losses since we began acquiring ARM loans in 1997. Although we believe our credit performance is reflective of the high credit quality of our borrowers, our prudent underwriting, property appraisal
methods and policies and prudent management of our delinquent loan portfolio, we also recognize that our ARM Loan portfolio was, on average, only approximately 19 months old at June 30, 2005. Due to this lack of seasoning and, therefore, lack of
relevant historical data, we have recorded a loan loss reserve of $10.0 million as of June 30, 2005, based on managements expectations and given industry loss experience on similar loans.



Interest Rate Risk Management



Interest rate changes affect our short-term borrowing costs, which as a
spread lender can pose a risk to our profitability if not responsibly managed. To counter this potential risk, when we purchase or originate Hybrid ARM assets, we adhere to a matched funding or duration matching strategy which means we use Hybrid
ARM Hedging Instruments to fix, or cap, the interest rates on the short-term borrowings and CDOs that finance our Hybrid ARM assets. We hedge our financing cost such that we maintain a Net Effective Duration of less than one year. The lower the
Effective Duration gap, the less impact interest rate changes should have on earnings and on the market value of our balance sheet. As of June 30, 2005, we had $30.2 billion of Hybrid ARM assets and had entered into Swap Agreements and Eurodollar
Transactions with notional balances totaling $24.2 billion and delayed Swap Agreements with notional balances totaling $800 million that become effective between July 2005 and October 2006. These delayed Swap Agreements have been entered into to
hedge the forecasted financing of our ARM assets. Additionally, at June 30, 2005, we had Cap Agreements with a notional balance of $1.1 billion. These Cap Agreements do not receive any payments unless one-month LIBOR rises above a range of 3.25% to
11.50%, and on average 5.31%. As of June 30, 2005, we measured the Net Effective Duration applicable to our Hybrid ARM portfolio, related borrowings and Hybrid ARM Hedging Instruments at approximately 0.23 years while the financing and hedging of
all of our ARM assets resulted in a Net Effective Duration of approximately 0.22 years.



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We continue to employ a duration matching funding strategy as we acquire Hybrid ARM assets in order to
stabilize earnings during periods of rising interest rates. As we acquire ARM assets, we attempt to lock-in a spread that is expected to provide a rate of return at or above our threshold requirement. In order to stabilize the spread
over the expected life of our ARM assets, we use Hedging Instruments in conjunction with our borrowings to approximate the repricing characteristics of our ARM assets. Given the prepayment uncertainties on our ARM assets, there is no guaranteed way
to lock-in a spread between the yield on our ARM assets and the related borrowing that would produce an acceptable rate of return. However, through active management, we believe we can continue to mitigate a significant amount of net
interest income volatility. See the discussion of Effects of Interest Rate Changes on page 59.



Funding Diversification



Another long-term objective is to achieve a more balanced funding mix between Asset-backed CP, CDOs and reverse repurchase agreements in order to reduce our reliance on any one funding source. Historically, we have relied principally on
reverse repurchase agreements for our funding needs. Since year end 2002, we have been actively working towards diversifying our financing sources. At that time, 91% of our financing was provided through reverse repurchase agreements. At June 30,
2005, reverse repurchase agreements accounted for only 60% of our borrowings, while CDOs represented 23% and our Asset-backed CP facility accounted for 16%. Given the success of the Asset-backed CP facility established in June 2004, we are now
working towards increasing the size of the facility from $5 billion to $10 billion. We anticipate that CDOs and Asset-backed CP will continue to grow as a percentage of our financing sources in the quarters to come.



Forward-Looking Statements



Certain information contained in this Quarterly Report on Form 10-Q
constitutes forward-looking statements within the meaning of Section 27A of the Securities Act of 1933 and Section 21E of the Securities Exchange Act of 1934 that are based on our current expectations, estimates and projections. Pursuant
to those sections, we may obtain a safe harbor for forward-looking statements by identifying those statements and by accompanying those statements with cautionary statements, which identify factors that could cause actual results to
differ from those expressed in the forward-looking statements. Statements that are not historical facts, including statements about our beliefs and expectations, are forward-looking statements. The words believe, anticipate,
intend, aim, expect, will, strive, target and project and similar words identify forward-looking statements. Such statements are not guarantees of future
performance, events or results and involve potential risks and uncertainties. Accordingly, our actual results may differ from our current expectations, estimates and projections. Important factors that may impact our actual results or may cause our
actual results to differ materially from those expressed in any forward-looking statements made by us or on our behalf include, but are not limited to, changes in interest rates, changes in yields available for purchase on adjustable and variable
rate mortgage assets, changes in the yield curve, changes in prepayment rates, changes in the supply of mortgage-backed securities and loans, our ability to obtain financing and the terms of any financing that we do obtain. Other factors that may
impact our actual results are discussed in our 2004 Annual Report on Form 10-K under the section entitled Risk Factors. We do not undertake, and specifically disclaim, any obligation to publicly release the result of any revisions that
may be made to any forward-looking statements to reflect the occurrence of anticipated or unanticipated events or circumstances after the date of such statements.



Corporate Governance



We pride ourselves on maintaining an ethical workplace in which the highest standards of professional conduct are practiced. Accordingly, we would like to
highlight the following facts relating to corporate governance:



| |  |  | The Board of Directors is, and always has been, composed of a majority of independent directors. The Audit, Nominating/Corporate Governance and Compensation
Committees of the Board of Directors are, and always have been, composed exclusively of independent directors. The Board of Directors 1) reviews our financial results, policy compliance and strategic direction on a quarterly basis, 2) reviews our
budget and five-year strategic plan annually and 3) performs an annual review of the Managers performance and implementation of our strategic plan.
| | - |  | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



| |  |  | We have a Code of Conduct and Corporate Governance Guidelines that cover a wide range of business practices and procedures that apply to all of our employees,
officers and directors and the Manager that foster the highest standards of ethics and conduct in all of our business relationships. In addition, we have instituted a Nonretaliation Policy and Procedure for Whistleblowers that sets forth procedures
by which any officer or employee of the
| | - |  | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



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Company or the Manager may raise concerns regarding alleged violations of federal fraud
or securities laws, which may involve financial matters, such as accounting, auditing or financial reporting, as well as non-financial matters, with the appropriate supervisors, officers or committees of the Board of Directors.



| |  |  | We have an Insider Trading Policy that prohibits any of the directors, officers or employees of the Company or the Manager from buying or selling our stock on
the basis of material nonpublic information, and prohibits communicating material nonpublic information to others.
| | - |  | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



| |  |  | We are managed externally by the Manager under the terms of the Management Agreement, subject to the supervision of the Board of Directors. The Managers
compensation is based on formulas tied to our success in increasing equity capitalization and generating net income above defined targets. The Compensation Committee and the independent directors annually evaluate the Managers performance and
determine whether the compensation paid to the Manager is reasonable in relation to the nature and quality of services performed.
| | - |  | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



| |  |  | We have a formal internal audit function to further the effective functioning of our internal controls and procedures. Our internal audit plan is approved
annually by the Audit Committee of the Board of Directors and is based on a formal risk assessment and is intended to provide management and the Audit Committee with an effective tool to identify and address areas of financial or operational
concerns and ensure that appropriate controls and procedures are in place. We have implemented Section 404 of the Sarbanes-Oxley Act of 2002, which requires an evaluation of internal control over financial reporting in association with our financial
statements. See Controls and Procedures  Managements Annual Report on Internal Control over Financial Reporting on page 49 of our 2004 Annual Report on Form 10-K.
| | - |  | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



Our internet website address is www.thornburgmortgage.com. We make available
free of charge, through our internet website, our annual report on Form 10-K, our quarterly reports on Form 10-Q, our current reports on Form 8-K and any amendments to those reports that we file or furnish pursuant to Section 13(a) or 15(d) of the
Securities Exchange Act of 1934 as soon as reasonably practicable after we electronically file such material with, or furnish it to, the SEC.



You may also find the Code of Conduct, the Corporate Governance Guidelines and the charters of the Audit Committee, Nominating/Corporate Governance
Committee and Compensation Committee of the Board of Directors at our website under the Investors  Corporate Governance section. These documents are also available in print to anyone who requests them by writing to us at the
following address: 150 Washington Avenue, Suite 302, Santa Fe, New Mexico, 87501, or by phoning us at (505) 989-1900.



Critical Accounting Policies and Estimates



Our financial statements are prepared in conformity with GAAP, which requires the use of estimates and assumptions. In accordance with SEC guidance, those
material accounting policies and estimates that we believe are the most critical to an investors understanding of our financial results and condition and require complex management judgment are discussed below.



| |  |  | Revenue Recognition. Interest income on ARM assets is a combination of the interest earned based on the outstanding balance and contractual terms of the assets
and the amortization of yield adjustments using generally accepted interest methods, principally the amortization of purchase premiums and discounts. Premiums and discounts associated with the purchase of ARM assets are amortized into interest
income over the lives of the assets using the interest method in determining an effective yield adjusted for the effects of actual and future estimated prepayments. Estimating prepayments and estimating the remaining lives of our ARM assets requires
management judgment, which involves consideration of possible future interest rate environments and an estimate of how borrowers will behave in those environments. The actual lives could be more or less than the amount estimated by management at the
time of purchase of the ARM assets or at each reporting period.
| | - |  | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



The following table presents a sensitivity analysis to show the adjustment we would make to our net purchase premium at June 30, 2005 for 5% and 10% increases and decreases to our lifetime
prepayment assumptions (in thousands). The purpose of this analysis is to provide an indication of the impact that changes to the lifetime prepayment assumptions



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have on our purchase premium. It is not intended to imply our expectation of future
prepayment levels or estimated remaining lives. We believe the current lifetime assumptions used are appropriate.



|                                       |  |                                             |        |  
|-------------------------------------- |  | ------------------------------------------- | ------ | -
|Changed Assumption                     |  | Increase (Decrease) in Net Purchase Premium |       
|Prepayment assumption increased by 5%  |  | $                                           | (4,679 | )
|Prepayment assumption increased by 10% |  | $                                           | (9,145 | )
|Prepayment assumption decreased by 5%  |  | $                                           | 4,138  |  
|Prepayment assumption decreased by 10% |  | $                                           | 8,190  |  



| |  |  | Fair Value. We record our ARM securities, commitments to purchase ARM loans and Hybrid ARM Hedging Instruments at fair value. The fair values of our ARM
securities and Hybrid ARM Hedging Instruments are generally based on market prices provided by third-party pricing services or certain dealers which make markets in these financial instruments. If the fair value of an ARM security, Hybrid ARM
Hedging Instrument or other financial instrument is not reasonably available from a third-party pricing service or dealer, management estimates the fair value. This requires management judgment in determining how the market would value a particular
ARM security, Hybrid ARM Hedging Instrument or other financial instrument, based on characteristics of the security we receive from the issuer and available market information. The net unrealized gain or loss on loans expected to be purchased from
correspondent lenders and bulk sellers is calculated using the same methodologies that are used to value our ARM Loans, adjusted for anticipated fallout of purchase loan commitments that will likely not be funded. The fair values reported reflect
estimates and may not necessarily be indicative of the amounts we could realize in a current market exchange.
| | - |  | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



| |  |  | Impairment of ARM Securities and Non-Accretable Discounts on ARM Securities. ARM securities are evaluated for impairment on a quarterly basis, or more frequently
if events or changes in circumstances indicate that these investments may be impaired. We evaluate whether our ARM securities are considered impaired, evaluate whether the impairment is other than temporary, and, if the impairment is other than
temporary, recognize an impairment loss equal to the difference between the ARM securitys amortized cost basis and its fair value. These evaluations require management to make estimates and judgments based on changes in market interest rates,
changes in credit ratings, delinquency data and other information to determine whether unrealized losses are reflective of credit deterioration and to evaluate managements ability and intent to hold the investment to maturity or recovery.
Because the estimate for other-than-temporary impairment requires management judgment, we consider this to be a critical accounting estimate. We have determined that the unrealized losses on ARM securities of $243.1 million at June 30, 2005 are not
reflective of credit deterioration and because we have the ability and intent to hold the ARM securities until recovery, the losses are not other-than-temporary impairments.
| | - |  | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



Certain of our ARM securities are rated less than Investment
Grade and represent subordinated interests in High-Quality, first lien residential mortgage loans where we own all of the securitized classes. We generally purchase the less than Investment Grade classes at a discount. Based upon managements
use of analysis and judgment, a portion of the purchase discount is subsequently accreted as interest income under the effective yield method while the remaining portion of the purchase discount is treated as a non-accretable discount which reflects
the estimated unrealized loss on the securities due to credit loss and interest rate exposure. We review ARM securities periodically for impairment and record or adjust non-accretable discounts accordingly. Non-accretable discounts are increased by
recognizing an impairment loss when management determines that there is a decline in the fair value of an ARM security that is considered other than temporary and decreased when there is improvement in the risk exposures. Any such determinations are
based on managements assessment of numerous factors affecting the fair value of ARM securities, including, but not limited to, current economic conditions, delinquency trends, credit losses to date on underlying mortgages and remaining credit
protection. If management ultimately concludes that the non-accretable discounts will not represent realized losses, the balances are accreted into earnings over the remaining life of the security under the effective yield method.



| |  |  | Loan Loss Reserves on ARM Loans. We maintain a reserve for loan losses based on managements estimate of credit losses inherent in our portfolio of ARM
Loans. The estimation of the reserve is based on a variety of factors including, but not limited to, industry statistics, current economic conditions, loan portfolio composition, delinquency trends, credit
| | - |  | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



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losses to date on underlying loans and remaining credit protection. If the credit
performance of our ARM Loans is different than expected, we adjust the reserve for loan losses to a level deemed appropriate by management to provide for estimated losses inherent in our ARM Loan portfolio. Two critical assumptions used in
estimating the loan loss reserves are an assumed rate of default, which is the expected rate at which loans go into foreclosure over the life of the loans, and an assumed rate of loss severity, which represents the expected rate of realized loss
upon disposition of the properties that have gone into foreclosure.



The following table presents a sensitivity analysis to show the impact on our loan loss reserves at June 30, 2005 of using 5% increases and decreases in the borrowers propensity to default and the loss severity
if there is a default (in thousands). The purpose of this analysis is to provide an indication of the impact that defaults and loss severity assumptions have on our estimate of loan loss reserves. It is not intended to imply our expectation of
future default levels or changes in loss severity. We believe the current assumptions used for defaults and loss severity are appropriate.



|                                         |  |                                          |        |  
|---------------------------------------- |  | ---------------------------------------- | ------ | -
|Changed Assumption                       |  | Increase (Decrease)in Loan Loss Reserves |       
|Default assumption increased by 5%       |  | $                                        | 849    |  
|Default assumption decreased by 5%       |  | $                                        | (850   | )
|Loss severity assumption increased by 5% |  | $                                        | 1,877  |  
|Loss severity assumption decreased by 5% |  | $                                        | (1,877 | )



For additional
information on our significant accounting policies, see Note 1 to the Consolidated Financial Statements.



New Accounting Pronouncements



In June 2004, the FASB issued EITF 03-01, The Meaning of Other-Than-Temporary Impairment and Its Application to Certain Investments. EITF 03-01 requires an investor to determine when an investment is
considered impaired, evaluate whether that impairment is other than temporary, and, if the impairment is other than temporary, recognize an impairment loss equal to the difference between the investments cost and its fair value. The guidance
also includes accounting considerations subsequent to the recognition of an other-than-temporary impairment and requires certain disclosures about unrealized losses that have not been recognized as other-than-temporary impairments. The impairment
loss recognition and measurement guidance was to be applicable to other-than-temporary impairment evaluations in reporting periods beginning after June 15, 2004. In September 2004, the FASB proposed additional guidance related to debt securities
that are impaired because of interest rate and/or sector spread increases, and delayed the effective date of EITF 03-01. We do not expect the adoption of EITF 03-01 to have a material effect on our financial condition, results of operations, or
liquidity. We have already adopted the EITF 03-01 disclosure requirements for investments in an unrealized loss position for which other-than-temporary impairments have not been recognized.



In December 2004, the FASB published SFAS 123(R) entitled Share-Based
Payment. It requires all public companies to report share-based compensation expense at the grant date fair value of the related share-based awards. We are required to adopt the provisions of the standard effective for annual periods beginning
after June 15, 2005. We believe that our current method of accounting for share-based payments is consistent with SFAS 123(R).



In May 2005, the FASB issued SFAS 154, Accounting Changes and Error Corrections. SFAS 154 changes the requirements for the accounting for and
reporting of a change in accounting principle. Previous guidance required that most voluntary changes in accounting principle be recognized by including in net income of the period of the change the cumulative effect of changing to the new
accounting principle. SFAS 154 requires retrospective application to prior periods financial statements of changes in accounting principle, unless it is impracticable to determine either the period-specific effects or the cumulative effect of
the change. We believe SFAS 154 will have no impact on our financial statements.



General



We are a
single-family residential mortgage lender that originates, acquires and retains investments in ARM assets, thereby providing capital to the single-family residential housing market. Our ARM assets consist of ARM securities and ARM loans and are
comprised of Traditional ARM assets and Hybrid ARM assets. ARM securities represent interests in pools of ARM



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loans, which are publicly rated and issued by third parties and may include guarantees or other
third-party credit enhancements against losses from loan defaults. ARM loans are either loans that we have securitized from our own origination or loan acquisition activities, loans that we use as collateral to support the issuance of CDOs or loans
pending securitization. Like traditional banking institutions, our income is generated primarily from the net spread or difference between the interest income we earn on our ARM assets and the cost of our borrowings. Our strategy is to maximize the
long-term sustainable difference between the yield on our ARM assets and the cost of financing these assets, and to maintain that difference through interest rate and credit cycles.



While we are not a bank or savings and loan institution, our business purpose, strategy, method of operation and risk
profile are best understood in comparison to such institutions. We finance the purchases and originations of our ARM assets with equity capital, unsecured debt, CDOs and short-term borrowings such as reverse repurchase agreements, Asset-backed CP,
whole loan financing facilities, and other collateralized financings that we may establish in the future. When we borrow short-term or floating-rate funds to finance our Hybrid ARM assets, we also enter into interest rate hedging transactions, which
are intended to fix, or cap, our borrowing costs during the fixed-rate period of the Hybrid ARM asset. We believe our exposure to changes in interest rates is minimal since the assets we hold are primarily ARM assets and we generally match the
Effective Duration, which is a calculation expressed in months or years that is a measure of the expected price change of financial instruments based on changes in interest rates, of those assets with funding of comparable Effective Duration. We
have a policy to operate with an Adjusted Equity-to-Assets Ratio, a non-GAAP measurement, of at least 8% and we typically operate with a 9% to 10% Adjusted Equity-to-Assets Ratio. See Capital Utilization and Leverage on page 44 for a
calculation of our Adjusted Equity-to-Assets Ratio. Moreover, we focus on acquiring high quality assets to minimize potential credit losses and to ensure our access to financing. Similarly, we maintain strict credit underwriting standards and have
experienced cumulative credit losses of only $174,000 on our loan portfolio since we began acquiring loans in 1997. We believe our operating structure has resulted in operating costs well below those of other mortgage originators. We believe our
corporate structure differs from most lending institutions in that we are organized for tax purposes as a REIT and, therefore, pay substantially all of our earnings in the form of dividends to shareholders.



We are an externally advised REIT and are managed under the Management
Agreement with Thornburg Mortgage Advisory Corporation, which manages our operations, subject to the supervision of the Board of Directors.



Portfolio Strategies



Our business strategy is to acquire and originate primarily ARM assets to hold in our portfolio, fund them using equity capital and borrowed funds, and
generate earnings from the difference, or spread, between the yield on our assets and our cost of borrowings.



We acquire ARM assets from investment banking firms, broker-dealers and similar financial institutions that regularly make markets in these assets. We also acquire ARM assets from other mortgage
providers, including mortgage bankers, banks, savings and loan institutions, home builders and other firms involved in originating, packaging and selling mortgage loans. We believe we have a competitive advantage in acquiring and investing in ARM
assets due to the low cost of our operations relative to traditional mortgage investors and originators.



We originate ARM loans for our portfolio through our correspondent lending program, which currently includes approximately 191 approved correspondents, and we originate ARM loans directly to
consumers. Additionally, our newly initiated broker channel is now in its test phase. This new origination channel has considerable potential, and based on our preliminary research, we believe we can partner effectively with select high quality
mortgage brokers to enhance our direct retail origination efforts without compromising the credit quality and performance characteristics of our loan origination portfolio. We are authorized to lend in all 50 states and the District of Columbia. We
believe that diversifying our sources for ARM loans and ARM securities will enable us to consistently find attractive opportunities to acquire or create high quality assets at attractive yields and spreads for our portfolio.



We have a focused portfolio lending investment policy designed to minimize
credit risk and interest rate risk. Our mortgage assets portfolio may consist of Ginnie Mae, Fannie Mae or Freddie Mac securities, or privately issued (generally publicly registered) ARM pass-through securities, multi-class pass-through securities,
CMOs, A quality ARM loans that we intend to securitize, securities issued by others that are backed by A quality loans where we have purchased all of the resulting classes, fixed-rate MBS with an expected Effective Duration
of one year or less or other short-term investments that either mature within one year or have an interest rate that reprices within one year.



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Our investment policy requires that we invest at least 70% of our total assets in High Quality ARM assets
and short-term investments. The remainder of our ARM portfolio, comprising not more than 30% of total assets, may consist of Other Investment assets.



Our ARM assets include investments in Hybrid ARM assets. We limit our ownership of Hybrid ARM assets with fixed-rate periods of greater than five years to
no more than 40% of our total assets. We recently obtained the authority from our Board of Directors to invest up to 5% of total assets in fifteen year fixed-rate assets so long as we continue to maintain our Effective Duration under one year. We
use Hybrid ARM Hedging Instruments to fix, or cap, the interest rates on the short-term borrowings and floating-rate CDOs financing our Hybrid ARM assets. We have a policy that requires us to maintain a Hybrid ARM portfolio Net Effective Duration of
less than one year. We use a financial model that simulates interest rate changes and calculates the impact of those changes on the fair value of our Hybrid ARM portfolio. By maintaining a Net Effective Duration of less than one year, we believe
that we can maintain relatively stable earnings and dividends given changing interest rates.



To mitigate the adverse effect of an increase in prepayments on our ARM assets, we emphasize the purchase of ARM assets at prices close to or below par. We amortize any premiums paid for our assets over their expected
lives using the effective yield method of accounting. To the extent that the prepayment rate on our ARM assets differs from expectations, our net interest income will be affected. Prepayments generally increase when current mortgage interest rates
fall below the interest rates on existing ARM loans. To the extent there is an increase in prepayment rates, resulting in a shortening of the expected lives of our ARM assets, our net income and, therefore, the taxable income available for
distribution and dividends paid to shareholders could be adversely affected.



We believe that our status as a mortgage REIT makes an investment in our equity securities attractive for tax-exempt investors, such as pension plans, profit sharing plans, 401(k) plans, Keogh plans and IRAs. We do
not invest in REMIC residuals or other CMO residuals that would result in the creation of excess inclusion income or unrelated business taxable income.



Acquisition, Securitization and Retention of Traditional ARM and Hybrid ARM Loans



We acquire and originate A quality mortgage loans through TMHL, our wholly-owned mortgage loan origination
subsidiary, from four sources: (i) correspondent lending, (ii) direct retail loan originations, (iii) high quality mortgage brokers, a channel which is in its initial test phase, and (iv) bulk acquisitions. Correspondent lending involves acquiring
individual loans from lending partners which we have approved and which originate the individual loans using our product pricing, underwriting criteria and guidelines, or other approved criteria and guidelines. Direct retail loan originations are
loans that we originate through financial intermediaries or directly to consumers via the internet or by telephone. Bulk acquisitions involve acquiring pools of whole loans, which are originated using the sellers guidelines and underwriting
criteria. The loans we acquire or originate are financed through warehouse borrowing arrangements pending securitization for our portfolio.



The loans acquired or originated by TMHL are first lien, single-family residential Traditional ARM and Hybrid ARM loans with original terms to maturity of
not more than forty years and are either fully amortizing or are interest-only for up to ten years, and fully amortizing thereafter.



All ARM loans that we acquire or originate for our portfolio bear an interest rate tied to an interest rate index. Most loans have periodic and lifetime
constraints on how much the loan interest rate can change on any predetermined interest rate reset date. The interest rate on each Traditional ARM loan resets monthly, semi-annually or annually. The Traditional ARM loans generally adjust to a margin
over a U.S. Treasury index or a LIBOR index. The Hybrid ARM loans have a fixed rate for an initial period, generally 3 to 10 years, and then convert to Traditional ARM loans for their remaining term to maturity.



We acquire and originate ARM loans for our portfolio with the intention of
securitizing them to create High Quality ARM securities and retaining them in our portfolio as securitized ARM loans. Alternatively, we may also use our loans as collateral for CDOs. In order to facilitate the securitization or financing of our
loans, we generally create subordinate certificates, which provide a specified amount of credit enhancement and which we retain in our portfolio. Our investment policy limits the amount we may retain of below Investment Grade subordinate
certificates created as a result of our loan acquisition and securitization efforts, and subordinate classes that we purchase in connection with a whole pool securitization effected by third parties, to 17.5% of shareholders equity, measured
on a historical cost basis.



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We believe acquiring or originating ARM loans and then securitizing them benefits us by providing: (i)
greater control over the quality and types of ARM assets acquired; (ii) the ability to acquire ARM assets at lower prices, so that the amount of the premium to be amortized will be reduced in the event of prepayment; (iii) additional sources of new
whole-pool ARM assets; and (iv) generally higher yielding investments in our portfolio.



We offer a loan modification program on all loans we originate or service. We believe this program promotes customer retention and reduces loan prepayments. Under the terms of this program, a borrower pays a fee to
modify the mortgage loan to any then-available Hybrid or Traditional ARM product that we offer at the offered retail interest rate plus 1/8%. During the second quarter of 2005, we modified 149 loans with balances totaling $81.8 million. At June 30,
2005, the pipeline of loans to be modified totaled $78.8 million.



Financing Strategies



We finance our ARM assets using Common and Preferred Stock equity capital, unsecured debt, CDOs and short-term borrowings such as reverse repurchase agreements, Asset-backed CP, whole loan financing facilities and other collateralized
financings that we may establish in the future. See Hedging Strategies below for a discussion of how we convert short-term borrowings into the equivalent of long-term fixed-rate financing for purposes of managing our interest rate
risk. Our long-term objective is to achieve a balanced funding mix including Asset-backed CP, CDOs and reverse repurchase agreements.



Reverse repurchase agreements involve a simultaneous sale of pledged assets to a lender at an agreed-upon price in return for the lenders agreement
to resell the same assets back to us at a future date (the maturity of the borrowing) at a higher price. The price difference is the cost of borrowing under these agreements. Because we borrow money under these agreements based on the fair value of
our ARM assets, our borrowing ability under these agreements could be limited and lenders could initiate margin calls in the event of interest rate changes or if the value of our ARM assets declines for other reasons. We have established lines of
credit and collateralized financing agreements with 23 different financial institutions.



We enter into two types of reverse repurchase agreements: variable rate term reverse repurchase agreements and fixed-rate reverse repurchase agreements. Our variable rate term reverse repurchase
agreements are financings with original maturities ranging from four to fifteen months. The interest rates on these variable rate term reverse repurchase agreements are generally indexed to either the one-month or three-month LIBOR rate, and reprice
accordingly. The fixed-rate reverse repurchase agreements have original maturities generally ranging from 30 to 180 days. Generally, upon repayment of each reverse repurchase agreement, we immediately pledge the ARM assets used to collateralize the
financing to secure a new reverse repurchase agreement.



We
also have a $5 billion Asset-backed CP facility, which provides us with an alternative way to finance our high quality ARM securities portfolio. We issue Asset-backed CP in the form of secured liquidity notes that have been rated P-1 by Moodys
Investors Service and F1+ by Fitch Ratings to money market investors. The notes can be collateralized by Agency Securities and AAA-rated, adjustable-rate MBS that we have either purchased or created through our loan securitization process.
Importantly, we have diversified our funding sources by replacing a portion of our reverse repurchase agreement borrowings with the issuance of Asset-backed CP under terms that are comparable to our existing reverse repurchase agreement funding. As
of June 30, 2005, we had $5.0 billion of Asset-backed CP outstanding.



We have also financed the purchase of ARM assets by issuing floating-rate and fixed-rate CDOs in the capital markets, which are collateralized by ARM loans that are placed in a trust. The trust pays the principal and interest payments on
the debt out of the cash flows received on the collateral. This structure enables us to make more efficient use of our capital because the capital requirement to support these financings is less than the amount our policy requires to support the
same amount of financings in the reverse repurchase agreement or Asset-backed CP markets. These transactions are a permanent form of financing and are not subject to margin calls.



We also have financing facilities, or credit lines, for whole loans. A whole loan is the actual mortgage loan evidenced by a
note and secured by a mortgage or deed of trust. We use these financing facilities to finance our acquisition of whole loans while we are accumulating loans for securitization.



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We have issued Senior Notes in the amount of $305 million as an alternative form of long-term capital.
The Senior Notes bear interest at 8.0%, payable each May 15 and November 15, and mature on May 15, 2013. The Senior Notes are unsecured and are redeemable at a declining premium, in whole or in part, beginning on May 15, 2008, and at par beginning
on May 15, 2011. The Senior Notes may also be redeemed under limited circumstances on or before May 15, 2006.



Capital Utilization



The Board of Directors has approved a policy that limits our capacity to borrow funds to finance mortgage assets based on our equity capital and unsecured debt (collectively, long-term capital). We monitor the
relationship between our assets, borrowings and long-term capital using a variety of different measures. However, the primary operating policy that limits our borrowings and leverage is a requirement to maintain our Adjusted Equity-to-Assets Ratio,
a non-GAAP measurement, at a minimum of 8%. Broadly speaking, this ratio reflects the relationship between those assets financed with borrowings that are subject to margin calls and our long term capital position. See further discussion of capital
utilization and leverage beginning on page 44 and the calculation of our Adjusted Equity-to-Assets Ratio on page 45.



Liquidity Management



Our primary focus is to acquire and originate high quality, highly liquid assets such that sufficient assets could be readily converted to cash, if necessary, in order to meet our financial obligations. We have a
Liquidity Management Policy, which is designed to minimize potential shortfalls in liquidity resulting from adverse changes in interest rates or market conditions. The Liquidity Management Policy requires the frequent measurement of the potential
market value exposure of the portfolio to a 100 BP instantaneous parallel increase in interest rates over expected future interest rates. The calculated potential mark-to-market exposure resulting from this scenario is probability weighted and
compared to recent minimum liquidity levels in order to determine whether management needs to take specific actions to improve liquidity or further reduce interest rate risk.



Hedging Strategies



We attempt to mitigate our interest rate risk by funding our ARM assets with a combination of short-term borrowings and Hedging Instruments whose combined
Effective Durations approximately match the Effective Durations on our ARM assets. Therefore, some of our borrowings bear variable or short-term (one year or less) fixed interest rates because a portion of our ARM assets, the Traditional ARM assets,
have interest rates that adjust within one year. However, we finance our Hybrid ARM portfolio with borrowings hedged with Hybrid ARM Hedging Instruments that fix the interest rate on the borrowings such that the Net Effective Duration is less than
one year. A shorter Effective Duration indicates a lower expected volatility of earnings when interest rates change during future periods. When we enter into a Swap Agreement, we agree to pay a fixed rate of interest and to receive a variable
interest rate, generally based on LIBOR. We also enter into Eurodollar Transactions in order to fix the interest rate changes on our forecasted three-month LIBOR-based liabilities. Each Eurodollar futures contract is a three-month contract with a
price that represents the forecasted three-month LIBOR rate. Selling Eurodollar futures contracts locks in a future interest rate. The difference between these two values results in a gain or loss that offsets the change in the three-month LIBOR
rate and locks-in the forecasted three-month LIBOR rate for financing purposes. We purchase Cap Agreements by incurring a one-time fee or premium. Pursuant to the terms of the Cap Agreements, we will receive cash payments if the interest
rate index specified in any such Cap Agreement increases above contractually specified levels. Therefore, such Cap Agreements have the effect of capping the interest rate on a portion of our borrowings above a specified level as opposed to fixing
our cost of funds as in a swap transaction. The notional balances of the Hybrid ARM Hedging Instruments generally decline over the life of these instruments. As of June 30, 2005, our Hybrid ARM Hedging Instruments had a remaining average term to
maturity of 2.8 years before considering the effects of prepayments and when combined with our Hybrid ARM assets and related borrowings had a Net Effective Duration of approximately 0.23 years, including the effects of prepayments.



We enter into Pipeline Hedging Instruments to manage interest rate risk
associated with commitments to purchase ARM loans. The gain (loss) on the Pipeline Hedging Instruments is expected to offset the gain (loss) recorded for the change in fair value of the loan commitments.



We may enter into additional hedging transactions designed to protect our
borrowing costs or portfolio yields from interest rate changes. We may purchase interest-only or principal-only mortgage derivative assets or other mortgage derivative products for purposes of mitigating risk from interest
rate changes. We may also use, from time to time, futures contracts and



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options on futures contracts on the Eurodollar, Federal Funds, Treasury bills and Treasury notes and
similar financial instruments to mitigate risk from changing interest rates.



The hedging transactions that we currently use generally are designed to protect our income during periods of changing market interest rates. We do not hedge for speculative purposes. Further, no hedging strategy can
completely insulate us from risk and certain of the federal income tax requirements that we must satisfy to qualify as a REIT may limit our ability to hedge. We carefully monitor and may have to limit our hedging strategies to ensure that we do not
realize excessive hedging income or hold hedging assets having excess value in relation to total assets.



Financial Condition



Asset Quality



At June 30, 2005, we held total assets of $34.5 billion, $33.9 billion of which consisted of ARM assets. That compares to $29.2 billion in total assets and $28.7 billion of ARM assets at December 31, 2004. Since
commencing operations, we have purchased either ARM securities (Agency Securities or privately-issued MBS) or ARM loans generally originated to A quality underwriting standards. At June 30, 2005, 97.6% of the assets we held, including
cash and cash equivalents, were High Quality assets, far exceeding our investment policy minimum requirement of investing at least 70% of our total assets in High Quality ARM assets and cash and cash equivalents.



The following tables present schedules of ARM assets owned at June 30, 2005
and December 31, 2004 classified by High Quality and Other Investment assets and further classified by type of issuer and by ratings categories. All ARM securities included in the tables have been rated by the Rating Agencies. ARM Loans include
securitized ARM loans that have been rated by the Rating Agencies, ARM loans collateralizing CDOs that have been stratified by credit rating based on the ratings received from the Rating Agencies on the respective CDOs and ARM loans held for
securitization that have not been rated by the Rating Agencies.



ARM Assets by Issuer and Credit Rating

(dollar amounts in thousands)



|                                 |  |                |            |              |           |   |               |       |            |   |  |    |              |  |       |               |  |   |            |   |  |              |   |  |       |  
|-------------------------------- |  | -------------- | ---------- | ------------ | --------- | - | ------------- | ----- | ---------- | - |  | -- | ------------ |  | ----- | ------------- |  | - | ---------- | - |  | ------------ | - |  | ----- | -
|                                 |  | June 30, 2005  |           
|                                 |  | ARM Securities |            |              | ARM Loans |   |               | Total |           
|                                 |  | CarryingValue  |            | PortfolioMix |           |   | CarryingValue |       |            |   |  |    | PortfolioMix |  |       | CarryingValue |  |   |            |   |  | PortfolioMix |  
|High Quality                     |  |                |            |              |           |   |               |       |            |   |  |    |              |  |       |               |  |   |            |   |  |              |   |  |       |  
|Agency Securities                |  | $              | 2,277,778  |              | 10.2      | % |               | $     | 1,205      |   |  |    |              |  | 0.0   | %             |  | $ | 2,278,983  |   |  |              |   |  | 6.7   | %
|Non-Agency ARM Assets:           |  |                |            |              |           |   |               |       |            |   |  |    |              |  |       |               |  |   |            |   |  |              |   |  |       |  
|AAA/Aaa Rating                   |  |                | 19,512,455 |              | 87.5      |   |               |       | 11,087,457 |   |  | (1 | )            |  | 95.7  |               |  |   | 30,599,912 |   |  | (1           | ) |  | 90.3  |  
|AA/Aa Rating                     |  |                | 294,305    |              | 1.3       |   |               |       | 67,052     |   |  |    |              |  | 0.6   |               |  |   | 361,357    |   |  |              |   |  | 1.0   |  
|                                 |  |                |            |              |           |   |               |       |            |   |  |    |              |  |       |               |  |   |            |   |  |              |   |  |       |  
|Total Non-Agency ARM Assets      |  |                | 19,806,760 |              | 88.8      |   |               |       | 11,154,509 |   |  |    |              |  | 96.3  |               |  |   | 30,961,269 |   |  |              |   |  | 91.3  |  
|                                 |  |                |            |              |           |   |               |       |            |   |  |    |              |  |       |               |  |   |            |   |  |              |   |  |       |  
|Total High Quality               |  |                | 22,084,538 |              | 99.0      |   |               |       | 11,155,714 |   |  |    |              |  | 96.3  |               |  |   | 33,240,252 |   |  |              |   |  | 98.0  |  
|                                 |  |                |            |              |           |   |               |       |            |   |  |    |              |  |       |               |  |   |            |   |  |              |   |  |       |  
|Other Investments                |  |                |            |              |           |   |               |       |            |   |  |    |              |  |       |               |  |   |            |   |  |              |   |  |       |  
|Non-Agency ARM Assets:           |  |                |            |              |           |   |               |       |            |   |  |    |              |  |       |               |  |   |            |   |  |              |   |  |       |  
|A Rating                         |  |                | 114,691    |              | 0.5       |   |               |       | 39,626     |   |  |    |              |  | 0.3   |               |  |   | 154,317    |   |  |              |   |  | 0.5   |  
|BBB/Baa Rating                   |  |                | 56,388     |              | 0.3       |   |               |       | 23,176     |   |  |    |              |  | 0.2   |               |  |   | 79,564     |   |  |              |   |  | 0.2   |  
|BB/Ba Rating and Below           |  |                | 35,645     |              | 0.2       |   |               |       | 49,835     |   |  | (1 | )            |  | 0.4   |               |  |   | 85,480     |   |  | (1           | ) |  | 0.3   |  
|ARM loans pending securitization |  |                |           |              | 0.0       |   |               |       | 328,222    |   |  |    |              |  | 2.8   |               |  |   | 328,222    |   |  |              |   |  | 1.0   |  
|                                 |  |                |            |              |           |   |               |       |            |   |  |    |              |  |       |               |  |   |            |   |  |              |   |  |       |  
|Total Other Investments          |  |                | 206,724    |              | 1.0       |   |               |       | 440,859    |   |  |    |              |  | 3.7   |               |  |   | 647,583    |   |  |              |   |  | 2.0   |  
|                                 |  |                |            |              |           |   |               |       |            |   |  |    |              |  |       |               |  |   |            |   |  |              |   |  |       |  
|Loan Loss Reserves               |  |                |           |              | 0.0       |   |               |       | (10,024    | ) |  |    |              |  | 0.0   |               |  |   | (10,024    | ) |  |              |   |  | 0.0   |  
|                                 |  |                |            |              |           |   |               |       |            |   |  |    |              |  |       |               |  |   |            |   |  |              |   |  |       |  
|Total ARM Portfolio              |  | $              | 22,291,262 |              | 100.0     | % |               | $     | 11,586,549 |   |  |    |              |  | 100.0 | %             |  | $ | 33,877,811 |   |  |              |   |  | 100.0 | %
|                                 |  |                |            |              |           |   |               |       |            |   |  |    |              |  |       |               |  |   |            |   |  |              |   |  |       |  



|(1) | As of June 30, 2005, the Investment Grade classes of ARM loans collateralizing CDOs have been credit-enhanced through overcollateralization in the amount of
$62.1 million, which is included in the BB/Ba Rating and below category.
|--- | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



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|                                 |  |                   |            |              |           |   |               |       |            |   |  |    |              |  |       |               |  |   |            |   |  |              |   |  |       |  
|-------------------------------- |  | ----------------- | ---------- | ------------ | --------- | - | ------------- | ----- | ---------- | - |  | -- | ------------ |  | ----- | ------------- |  | - | ---------- | - |  | ------------ | - |  | ----- | -
|                                 |  | December 31, 2004 |           
|                                 |  | ARM Securities    |            |              | ARM Loans |   |               | Total |           
|                                 |  | CarryingValue     |            | PortfolioMix |           |   | CarryingValue |       |            |   |  |    | PortfolioMix |  |       | CarryingValue |  |   |            |   |  | PortfolioMix |  
|High Quality                     |  |                   |            |              |           |   |               |       |            |   |  |    |              |  |       |               |  |   |            |   |  |              |   |  |       |  
|Agency Securities                |  | $                 | 2,720,307  |              | 14.6      | % |               | $     | 1,523      |   |  |    |              |  | 0.0   | %             |  | $ | 2,721,830  |   |  |              |   |  | 9.5   | %
|Non-Agency ARM Assets:           |  |                   |            |              |           |   |               |       |            |   |  |    |              |  |       |               |  |   |            |   |  |              |   |  |       |  
|AAA/Aaa Rating                   |  |                   | 15,659,634 |              | 83.9      |   |               |       | 9,319,573  |   |  |    |              |  | 92.4  |               |  |   | 24,979,207 |   |  |              |   |  | 86.9  |  
|AA/Aa Rating                     |  |                   | 172,234    |              | 1.0       |   |               |       | 144,795    |   |  |    |              |  | 1.4   |               |  |   | 317,029    |   |  |              |   |  | 1.1   |  
|                                 |  |                   |            |              |           |   |               |       |            |   |  |    |              |  |       |               |  |   |            |   |  |              |   |  |       |  
|Total Non-Agency ARM Assets      |  |                   | 15,831,868 |              | 84.9      |   |               |       | 9,464,368  |   |  |    |              |  | 93.8  |               |  |   | 25,296,236 |   |  |              |   |  | 88.0  |  
|                                 |  |                   |            |              |           |   |               |       |            |   |  |    |              |  |       |               |  |   |            |   |  |              |   |  |       |  
|Total High Quality               |  |                   | 18,552,175 |              | 99.5      |   |               |       | 9,465,891  |   |  |    |              |  | 93.8  |               |  |   | 28,018,066 |   |  |              |   |  | 97.5  |  
|                                 |  |                   |            |              |           |   |               |       |            |   |  |    |              |  |       |               |  |   |            |   |  |              |   |  |       |  
|Other Investments                |  |                   |            |              |           |   |               |       |            |   |  |    |              |  |       |               |  |   |            |   |  |              |   |  |       |  
|Non-Agency ARM Assets:           |  |                   |            |              |           |   |               |       |            |   |  |    |              |  |       |               |  |   |            |   |  |              |   |  |       |  
|A Rating                         |  |                   | 48,854     |              | 0.3       |   |               |       | 81,172     |   |  |    |              |  | 0.8   |               |  |   | 130,026    |   |  |              |   |  | 0.4   |  
|BBB/Baa Rating                   |  |                   | 26,920     |              | 0.1       |   |               |       | 20,450     |   |  |    |              |  | 0.2   |               |  |   | 47,370     |   |  |              |   |  | 0.2   |  
|BB/Ba Rating and Below           |  |                   | 28,096     |              | 0.1       |   |               |       | 62,466     |   |  | (2 | )            |  | 0.5   |               |  |   | 90,562     |   |  | (2           | ) |  | 0.3   |  
|ARM loans pending securitization |  |                   |           |              | 0.0       |   |               |       | 466,471    |   |  |    |              |  | 4.7   |               |  |   | 466,471    |   |  |              |   |  | 1.6   |  
|                                 |  |                   |            |              |           |   |               |       |            |   |  |    |              |  |       |               |  |   |            |   |  |              |   |  |       |  
|Total Other Investments          |  |                   | 103,870    |              | 0.5       |   |               |       | 630,559    |   |  |    |              |  | 6.2   |               |  |   | 734,429    |   |  |              |   |  | 2.5   |  
|                                 |  |                   |            |              |           |   |               |       |            |   |  |    |              |  |       |               |  |   |            |   |  |              |   |  |       |  
|Loan Loss Reserves               |  |                   |           |              | 0.0       |   |               |       | (9,434     | ) |  |    |              |  | 0.0   |               |  |   | (9,434     | ) |  |              |   |  | 0.0   |  
|                                 |  |                   |            |              |           |   |               |       |            |   |  |    |              |  |       |               |  |   |            |   |  |              |   |  |       |  
|Total ARM Portfolio              |  | $                 | 18,656,045 |              | 100.0     | % |               | $     | 10,087,016 |   |  |    |              |  | 100.0 | %             |  | $ | 28,743,061 |   |  |              |   |  | 100.0 | %
|                                 |  |                   |            |              |           |   |               |       |            |   |  |    |              |  |       |               |  |   |            |   |  |              |   |  |       |  



|(2) | As of December 31, 2004, the Investment Grade classes of ARM loans collateralizing CDOs have been credit-enhanced through overcollateralization in the amount of
$51.0 million, which is included in the BB/Ba Rating and below category.
|--- | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



As of June 30, 2005, eight of the 23,890 loans in our ARM loan portfolio were considered seriously delinquent (60 days or more delinquent) and had an aggregate balance of $8.8 million. At June 30, 2005, we owned one
real estate-owned property as a result of foreclosing on a delinquent loan in the amount of $455,000. We believe that our current level of reserves for loan losses is adequate to cover estimated losses from this loan as well as losses inherent in
the ARM loan portfolio at June 30, 2005.



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ARM Loan Portfolio Characteristics



The following table presents various characteristics of our ARM Loan
portfolio as of June 30, 2005. This information pertains to ARM loans held for securitization, ARM loans held as collateral for CDOs and ARM loans securitized for our own portfolio for which we retained credit loss exposure. The combined unpaid
principal balance of the loans included in this information is $11.5 billion.



ARM Loan Portfolio Characteristics



|                         |  |         |         |   |      |   |            |     |  |   |        |  
|------------------------ |  | ------- | ------- | - | ---- | - | ---------- | --- |  | - | ------ | -
|                         |  | Average |         |   | High |   |            | Low | 
|Original loan balance    |  | $       | 496,547 |   |      | $ | 12,500,000 |     |  | $ | 25,100 |  
|Unpaid principal balance |  | $       | 482,933 |   |      | $ | 12,500,000 |     |  | $ | 884    |  
|Coupon rate on loans     |  |         | 4.88    | % |      |   | 9.13       | %   |  |   | 2.38   | %
|Pass-through rate        |  |         | 4.77    | % |      |   | 8.60       | %   |  |   | 2.36   | %
|Pass-through margin      |  |         | 1.95    | % |      |   | 4.73       | %   |  |   | 0.23   | %
|Lifetime cap             |  |         | 10.42   | % |      |   | 18.00      | %   |  |   | 7.13   | %
|Original term (months)   |  |         | 360     |   |      |   | 480        |     |  |   | 120    |  
|Remaining term (months)  |  |         | 341     |   |      |   | 478        |     |  |   | 12     |  



|                                                   |  |      |   |  |                                                 |  |           |  
|-------------------------------------------------- |  | ---- | - |  | ----------------------------------------------- |  | --------- | -
|Geographic distribution (top 5 states):            |  |      |   |  | Property type:                                  |  |           |  
|California                                         |  | 28.0 | % |  | Single-family                                   |  | 82.6      | %
|Georgia                                            |  | 8.8  |   |  | Condominium                                     |  | 14.4      |  
|Florida                                            |  | 8.1  |   |  | Other residential                               |  | 3.0       |  
|New York                                           |  | 7.8  |   |  |                                                 |  |           |  
|Colorado                                           |  | 7.3  |   |  | ARM Loan type:                                  |  |           |  
|                                                   |  |      |   |  | Traditional ARM loans                           |  | 26.3      | %
|Occupancy status:                                  |  |      |   |  | Hybrid ARM loans                                |  | 73.7      |  
|Owner occupied                                     |  | 76.8 | % |  |                                                 |  |           |  
|Second home                                        |  | 14.7 |   |  | ARM interest rate caps:                         |  |           |  
|Investor                                           |  | 8.5  |   |  | Initial cap on Hybrid ARM loans:                |  |           |  
|                                                   |  |      |   |  | 3.00% or less                                   |  | 0.7       | %
|Documentation type:                                |  |      |   |  | 3.01%-4.00%                                     |  | 12.4      |  
|Full/alternative                                   |  | 92.8 | % |  | 4.01%-5.00%                                     |  | 47.6      |  
|Stated income/no ratio                             |  | 7.2  |   |  | 5.01%-6.00%                                     |  | 13.1      |  
|                                                   |  |      |  
|Loan purpose:                                      |  |      |   |  | Periodic cap on Traditional ARM loans:          |  |           |  
|Purchase                                           |  | 46.7 | % |  | None                                            |  | 9.6       | %
|Cash out refinance                                 |  | 28.0 |   |  | 1.00% or less                                   |  | 8.3       |  
|Rate & term refinance                              |  | 25.3 |   |  | Over 1.00%                                      |  | 8.3       |  
|                                                   |  |      |   |  | Percent of interest-only loan balances          |  | 90.3      | %
|                                                   |  |      |  
|Original effective loan-to-value:                  |  |      |   |  | Weighted average length of interest-only period |  | 8.0 years |  
|80.01% and over (1)                                |  | 1.8  | % |  |                                                 |  |           |  
|70.01%-80.00%                                      |  | 45.1 |   |  | FICO scores:                                    |  |           |  
|60.01%-70.00%                                      |  | 25.0 |   |  | 801 and over                                    |  | 3.2       | %
|50.01%-60.00%                                      |  | 12.9 |   |  | 751 to 800                                      |  | 43.7      |  
|50.00% or less                                     |  | 15.2 |   |  | 701 to 750                                      |  | 32.8      |  
|                                                   |  |      |   |  | 651 to 700                                      |  | 17.6      |  
|Weighted average effective original loan-to-value: |  | 66.3 | % |  | 650 or less                                     |  | 2.7       |  
|                                                   |  |      |  
|                                                   |  |      |   |  | Weighted average FICO score:                    |  | 738       |  



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|(1) | All loans with an effective original loan-to-value ratio over 80% have mortgage insurance. This ratio includes the effect of pledged assets, but not the impact
of mortgage insurance.
|--- | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



As of June 30, 2005
and December 31, 2004, we serviced $8.1 billion and $7.2 billion of our loans, respectively, and had 17,109 and 15,998 customer relationships, respectively. We hold all of the loans that we service in our portfolio in the form of ARM securities or
loans that are pending securitization.



Asset Repricing Characteristics



The following
table classifies our ARM portfolio by type of interest rate index and frequency of repricing.



ARM Assets by Index and Repricing Frequency

(Dollar amounts in thousands)



|                                    |  |               |            |   |                   |       |   |               |   |            |               |  |       |  
|----------------------------------- |  | ------------- | ---------- | - | ----------------- | ----- | - | ------------- | - | ---------- | ------------- |  | ----- | -
|                                    |  | June 30, 2005 |            |   | December 31, 2004 |      
|                                    |  | CarryingValue |            |   | PortfolioMix      |       |   | CarryingValue |   |            | Portfolio Mix | 
|Traditional ARM assets:             |  |               |            |   |                   |       |   |               |   |            |               |  |       |  
|Index:                              |  |               |            |   |                   |       |   |               |   |            |               |  |       |  
|One-month LIBOR                     |  | $             | 805,849    |   |                   | 2.4   | % |               | $ | 1,020,954  |               |  | 3.6   | %
|Six-month LIBOR                     |  |               | 1,383,961  |   |                   | 4.1   |   |               |   | 1,752,298  |               |  | 6.1   |  
|One-year LIBOR                      |  |               | 926,204    |   |                   | 2.7   |   |               |   | 704,844    |               |  | 2.4   |  
|One-year Constant Maturity Treasury |  |               | 511,000    |   |                   | 1.5   |   |               |   | 548,269    |               |  | 1.9   |  
|Other                               |  |               | 102,640    |   |                   | 0.3   |   |               |   | 157,361    |               |  | 0.5   |  
|                                    |  |               |            |   |                   |       |   |               |   |            |               |  |       |  
|                                    |  |               | 3,729,654  |   |                   | 11.0  |   |               |   | 4,183,726  |               |  | 14.5  |  
|                                    |  |               |            |   |                   |       |   |               |   |            |               |  |       |  
|Hybrid ARM assets:                  |  |               |            |   |                   |       |   |               |   |            |               |  |       |  
|Remaining fixed period:             |  |               |            |   |                   |       |   |               |   |            |               |  |       |  
|3 years or less                     |  |               | 6,137,762  |   |                   | 18.1  |   |               |   | 4,947,963  |               |  | 17.2  |  
|Over 3 years  5 years              |  |               | 15,046,775 |   |                   | 44.4  |   |               |   | 14,824,132 |               |  | 51.6  |  
|Over 5 years                        |  |               | 8,973,644  |   |                   | 26.5  |   |               |   | 4,796,674  |               |  | 16.7  |  
|                                    |  |               |            |   |                   |       |   |               |   |            |               |  |       |  
|                                    |  |               | 30,158,181 |   |                   | 89.0  |   |               |   | 24,568,769 |               |  | 85.5  |  
|Loan Loss Reserves                  |  |               | (10,024    | ) |                   | (0.0  | ) |               |   | (9,434     | )             |  | (0.0  | )
|                                    |  |               |            |   |                   |       |   |               |   |            |               |  |       |  
|                                    |  | $             | 33,877,811 |   |                   | 100.0 | % |               | $ | 28,743,061 |               |  | 100.0 | %
|                                    |  |               |            |   |                   |       |   |               |   |            |               |  |       |  



The ARM portfolio had
a weighted average coupon of 4.75% at June 30, 2005. This consisted of a weighted average coupon of 4.77% on the Hybrid ARM assets and a weighted average coupon of 4.39% on the Traditional ARM assets. If the portfolio had been Fully Indexed, the
weighted average coupon of the portfolio would have been 4.80%, based upon the composition of the portfolio and the applicable indices at June 30, 2005. Additionally, if the Traditional ARM portion of the portfolio had been Fully Indexed, the
weighted average coupon of that portion of the portfolio would have been 5.36%, also based upon the composition of the portfolio and the applicable indices at that time.



As of December 31, 2004, the ARM portfolio had a weighted average coupon of 4.47%. This consisted of a weighted average
coupon of 4.52% on the Hybrid ARM assets and a weighted average coupon of 3.74% on the Traditional ARM assets. If the portfolio had been Fully Indexed, the weighted average coupon of the portfolio would have been 4.52%, based upon the composition of
the portfolio and the applicable indices at December 31, 2004. Additionally, if the Traditional ARM portion of the portfolio had been Fully Indexed, the weighted average coupon of that portion of the portfolio would have been 4.45%, also based upon
the composition of the portfolio and the applicable indices at that time.



At June 30, 2005, the current yield of the ARM assets portfolio was 4.35%, up from 4.13% as of December 31, 2004. The increase in the yield of 22 basis points as of June 30, 2005, compared to December 31, 2004, is
primarily due to a 28 basis point increase in the weighted average coupon, partially offset by higher net premium amortization.



38



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##### Table of Contents

Interest Rate Risk Management



The Hybrid ARM portfolio comprised 89.0% of the total ARM portfolio, or
$30.2 billion, compared to 85.5%, or $24.6 billion as of December 31, 2004. We attempt to mitigate our interest rate risk by funding our ARM portfolio with borrowings and Hedging Instruments with an Effective Duration approximately matching the
Effective Duration on our ARM assets. Some of our borrowings bear variable or short-term (one year or less) fixed interest rates because our Traditional ARM assets have interest rates that adjust within one year. However, most of our Hybrid ARM
assets are financed with short-term borrowings that are hedged with Hybrid ARM Hedging Instruments that fix the interest rate on those borrowings such that the Net Effective Duration is less than one year. By maintaining a Net Effective Duration of
less than one year, which is our maximum Effective Duration policy limit, the combined price change of our Hybrid ARM assets, associated Hybrid ARM Hedging Instruments and other borrowings is expected to be a maximum of 1% for a 1% parallel shift in
interest rates. A lower Effective Duration indicates a lower expected volatility of earnings given future changes in interest rates. As of June 30, 2005, the Net Effective Duration applicable to our Hybrid ARM assets was approximately 0.23 years
while the Net Effective Duration applicable to the ARM portfolio was approximately 0.22 years.



As of June 30, 2005 and December 31, 2004, we were counterparty to Swap Agreements and Eurodollar Transactions having an aggregate notional balance of $24.2 billion and $19.6 billion, respectively. In addition, as of
June 30, 2005, we had entered into delayed Swap Agreements with notional balances totaling $800 million that will become effective between July 2005 and October 2006. We entered into these delayed Swap Agreements to hedge the forecasted financing of
our ARM assets. As of June 30, 2005, our Swap Agreements and Eurodollar Transactions had a weighted average maturity of 2.7 years. In accordance with the Swap Agreements, we will pay a fixed rate of interest during the term of these Swap Agreements
and receive a payment that varies monthly with the one-month LIBOR rate. The combined weighted average fixed rate payable of the Swap Agreements and Eurodollar Transactions was 3.28% and 3.04% at June 30, 2005 and December 31, 2004, respectively. As
of June 30, 2005, ARM assets with a carrying value of $2.0 million, including accrued interest, collateralized the Swap Agreements. We held net cash collateral from Swap Agreement counterparties totaling $42.0 million at June 30, 2005. The net
unrealized gain on Swap Agreements at June 30, 2005 of $166.0 million included Swap Agreements with gross unrealized gains of $201.9 million and gross unrealized losses of $35.9 million and is included in Hedging Instruments on the Consolidated
Balance Sheets. As of December 31, 2004, the net unrealized loss on Swap Agreements of $108.1 million included Swap Agreements with gross unrealized gains of $129.4 million and gross unrealized losses of $21.3 million. As of June 30, 2005, the net
unrealized gain on Swap Agreements and deferred gains and losses on Eurodollar Transactions recorded in accumulated other comprehensive income (loss) was a net gain of $144.2 million. Over the next twelve months, $126.4 million of these net
unrealized gains are expected to be realized as a component of net interest income.



As of June 30, 2005 and December, 31, 2004, our Cap Agreements, used to manage our interest rate risk exposure on the financing of the Hybrid ARM loans collateralizing our CDOs, had remaining notional amounts of $1.1
billion and $1.3 billion, respectively. We have also entered into Cap Agreements that have start dates ranging from 2006 to 2010. The notional balance at the start date will be the lesser of the scheduled amount of $371.1 million or the balance of
Hybrid ARM loans associated with these Cap Agreements. The fair value of all of our Cap Agreements at June 30, 2005 and December, 31, 2004 was $12.5 million and $14.8 million, respectively, and is included in Hedging Instruments on the Consolidated
Balance Sheets. As of June 30, 2005 and December, 31, 2004, the unrealized loss on these Cap Agreements of $21.3 million and $21.1 million, respectively, is included in accumulated other comprehensive income (loss). In the twelve month period
following June 30, 2005, $3.6 million of this unrealized loss is expected to be realized. Pursuant to the terms of these Cap Agreements, the notional amount of the Cap Agreements declines such that it is expected to equal the balance of the Hybrid
ARM loans collateralizing our CDOs. Under these Cap Agreements, we will receive cash payments should the one-month LIBOR increase above the contract rates of these Hedging Instruments, which range from 3.25% to 11.50% and average 5.31%. The Cap
Agreements had an average maturity of 3.4 years as of June 30, 2005 and will expire between 2006 and 2013.





39



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##### Table of Contents

The following table presents the outstanding notional balance of our Hybrid ARM Hedging Instruments as of
June 30, 2005 and the balance of these same Hybrid ARM Hedging Instruments as of June 30 for each of the following five years, without any assumption that additional Hybrid ARM Hedging Instruments are added to the portfolio in the future periods
(amounts in thousands):



|                            |  |                |            |      |   |            |  |      |           |      |   |           |  |   |           |  |   |          
|--------------------------- |  | -------------- | ---------- | ---- | - | ---------- |  | ---- | --------- | ---- | - | --------- |  | - | --------- |  | - | ---------
|                            |  | As of June 30,
|                            |  | 2005           |            | 2006 |   | 2007       |  | 2008 |           | 2009 |   | 2010     
|Swap Agreements:            |  |                |            |      |   |            |  |      |           |      |   |           |  |   |           |  |   |          
|Balance-guaranteed (1) (3)  |  | $              | 1,759,267  |      | $ | 1,407,413  |  | $    | 1,030,845 |      | $ | 482,050   |  | $ | 293,853   |  | $ | 124,268  
|Other (2)                   |  |                | 22,083,540 |      |   | 14,185,207 |  |      | 6,329,350 |      |   | 2,579,113 |  |   | 1,656,270 |  |   | 1,076,128
|                            |  |                |            |      |   |            |  |      |           |      |   |           |  |   |           |  |   |          
|                            |  |                | 23,842,807 |      |   | 15,592,620 |  |      | 7,360,195 |      |   | 3,061,163 |  |   | 1,950,123 |  |   | 1,200,396
|                            |  |                |            |      |   |            |  |      |           |      |   |           |  |   |           |  |   |          
|Eurodollar Transactions (2) |  |                | 356,000    |      |   | 35,000     |  |      |          |      |   |          |  |   |          |  |   |         
|Cap Agreements (1) (3)      |  |                | 1,093,317  |      |   | 852,350    |  |      | 701,207   |      |   | 482,808   |  |   | 320,544   |  |   | 218,425  
|                            |  |                |            |      |   |            |  |      |           |      |   |           |  |   |           |  |   |          
|                            |  | $              | 25,292,124 |      | $ | 16,479,970 |  | $    | 8,061,402 |      | $ | 3,543,971 |  | $ | 2,270,667 |  | $ | 1,418,821
|                            |  |                |            |      |   |            |  |      |           |      |   |           |  |   |           |  |   |          



|(1) | These Swap Agreements and Cap Agreements have been entered into in connection with our CDO transactions. The notional balances of these agreements are guaranteed
to match the balance of the Hybrid ARM collateral in the respective CDO transactions, subject to a maximum notional balance over the term of those agreements. The notional balances presented in the table above for these balance-guaranteed agreements
represent forward-looking statements which are calculated based on a CPR assumption of 20%. The actual balances will likely be different based on the actual prepayment performance of the applicable Hybrid ARM collateral. The final maturity of these
agreements is 2015.
|--- | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



|(2) | These hedging instruments have a pre-determined schedule of notional balances over the term of the respective instruments, based on the expected decline in the
balance of our short-term borrowings used to finance our Hybrid ARM portfolio. The final maturity of these agreements is 2013.
|--- | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



|(3) | The following table presents the maximum outstanding notional balance of our balance-guaranteed Hybrid ARM Hedging Instruments as of June 30, 2005 and as of June
30 for each of the following five years (in thousands):
|--- | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



|                |  |                |           |      |   |           |  |      |           |      |   |           |  |   |         |  |   |        
|--------------- |  | -------------- | --------- | ---- | - | --------- |  | ---- | --------- | ---- | - | --------- |  | - | ------- |  | - | -------
|                |  | As of June 30,
|                |  | 2005           |           | 2006 |   | 2007      |  | 2008 |           | 2009 |   | 2010     
|Swap Agreements |  | $              | 1,759,267 |      | $ | 1,541,684 |  | $    | 1,154,552 |      | $ | 551,810   |  | $ | 328,352 |  | $ | 149,149
|Cap Agreements  |  |                | 1,093,317 |      |   | 977,599   |  |      | 794,136   |      |   | 499,415   |  |   | 337,864 |  |   | 244,389
|                |  |                |           |      |   |           |  |      |           |      |   |           |  |   |         |  |   |        
|                |  | $              | 2,852,584 |      | $ | 2,519,283 |  | $    | 1,948,688 |      | $ | 1,051,225 |  | $ | 666,216 |  | $ | 393,538
|                |  |                |           |      |   |           |  |      |           |      |   |           |  |   |         |  |   |        



The fair value of the
Pipeline Hedging Instruments at June 30, 2005 and December 31, 2004 was a net unrealized gain of $2.0 million and a net unrealized loss of $2.0 million, respectively, and is included in Hedging Instruments on the Consolidated Balance Sheets.
Pipeline Hedging Instruments had remaining notional balances of $536.0 million and $688.0 million at June 30, 2005 and December 31, 2004, respectively. During the three- and six-month periods ended June 30, 2005 we recognized a $7.4 million loss and
a $298,000 loss, respectively, on Pipeline Hedging Instruments, which is included in Gain (loss) on Derivatives, net, in our Consolidated Income Statements along with a $9.2 million gain and a $3.4 million gain recorded on loan commitments for the
three-and six-month periods ended June 30, 2005, respectively.



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##### Table of Contents

Asset Acquisitions



During the quarter ended June 30, 2005, we purchased $5.0 billion of ARM securities, 98.9% of which were High Quality assets
and $1.4 billion of ARM loans, generally originated to A quality underwriting standards. Of the ARM assets acquired during the second quarter of 2005, 99.4% were Hybrid ARM assets and 0.6% were Traditional ARM assets generally indexed to
LIBOR. The following table compares our ARM asset acquisition and origination activity for the three-month periods ended June 30, 2005 and 2004 (dollar amounts in thousands):



|                           |  |                             |           |                           |   |               |  |               |            |  |   |          
|-------------------------- |  | --------------------------- | --------- | ------------------------- | - | ------------- |  | ------------- | ---------- |  | - | ---------
|                           |  | For the three months ended: |           | For the six months ended:
|                           |  | June 30, 2005               |           | June 30, 2004             |   | June 30, 2005 |  | June 30, 2004
|ARM securities:            |  |                             |           |                           |   |               |  |               |            |  |   |          
|Agency Securities          |  | $                           |          |                           | $ | 271,023       |  | $             |           |  | $ | 1,054,570
|High Quality, non-Agency   |  |                             | 4,921,678 |                           |   | 2,690,302     |  |               | 7,540,298  |  |   | 5,460,055
|Other non-Agency           |  |                             | 53,026    |                           |   | 7,658         |  |               | 105,554    |  |   | 18,210   
|                           |  |                             |           |                           |   |               |  |               |            |  |   |          
|                           |  |                             | 4,974,704 |                           |   | 2,968,983     |  |               | 7,645,852  |  |   | 6,532,835
|                           |  |                             |           |                           |   |               |  |               |            |  |   |          
|ARM loans:                 |  |                             |           |                           |   |               |  |               |            |  |   |          
|Bulk acquisitions          |  |                             | 332,235   |                           |   |              |  |               | 332,235    |  |   | 88,959   
|Correspondent originations |  |                             | 1,029,157 |                           |   | 990,893       |  |               | 2,143,720  |  |   | 1,803,923
|Direct retail originations |  |                             | 66,932    |                           |   | 138,935       |  |               | 127,807    |  |   | 234,817  
|                           |  |                             |           |                           |   |               |  |               |            |  |   |          
|                           |  |                             | 1,428,324 |                           |   | 1,129,828     |  |               | 2,603,762  |  |   | 2,127,699
|                           |  |                             |           |                           |   |               |  |               |            |  |   |          
|Total acquisitions         |  | $                           | 6,403,028 |                           | $ | 4,098,811     |  | $             | 10,249,614 |  | $ | 8,660,534
|                           |  |                             |           |                           |   |               |  |               |            |  |   |          



As of June 30, 2005,
we had commitments to purchase $392.1 million of ARM securities and $677.5 million of ARM loans through origination channels. At June 30, 2005, we used a 24.0% fallout assumption in the determination of our ARM loan commitments based on our
historical experience with the conversion of loan commitments to funded loans.



Securitization Activity



On June 29, 2005, we securitized $1.6 billion of ARM loans into a series of private-label multi-class ARM securities. While TMHL transferred substantially all of the ARM loans to a separate bankruptcy-remote legal entity, on a consolidated
basis: (i) we did not account for this securitization as a sale and, therefore, did not record any gain or loss in connection with the securitization and (ii) we retained $52.3 million of the resulting securities for our securitized ARM loan
portfolio and placed $1.6 billion with third-party investors, thereby providing long-term collateralized financing for our assets. Of the securities retained, 76.9% were rated Investment Grade and 23.1% were rated less than Investment Grade. As of
June 30, 2005, we had $11.3 billion of ARM assets as a result of our securitization efforts. As of December 31, 2004, we had $9.6 billion of ARM assets as a result of our securitization efforts. All discussions relating to securitizations in this
Form 10-Q are on a consolidated basis and do not reflect the separate legal ownership of the loans by various bankruptcy-remote legal entities.



Prepayment Experience



For the quarter ended June 30, 2005, our mortgage assets paid down at an approximate average annualized CPR of 25%, compared to 22% for the quarter ended
December 31, 2004 and 35% for the quarter ended June 30, 2004. When prepayment expectations over the remaining life of the assets increase, we have to amortize our premiums over a shorter time period, resulting in a reduced yield to maturity on our
ARM assets. Conversely, if prepayment expectations decrease, we would amortize the premium over a longer time period, resulting in a higher yield to maturity. We monitor our prepayment experience on a monthly basis and adjust the amortization of the
net premium to reflect actual and future estimated prepayments.



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##### Table of Contents

Liquidity and Capital Resources



We manage liquidity to ensure that we have the continuing ability to maintain cash flows that are adequate to fund
operations and meet commitments on a timely and cost-effective basis. At June 30, 2005, we had unencumbered assets of $1.3 billion, consisting of unpledged ARM assets, cash and cash equivalents, and other assets. We had unencumbered assets of $1.1
billion at December 31, 2004. We believe that our liquidity level is in excess of that necessary to satisfy our operating requirements and we expect to continue to use diverse funding sources to maintain our financial flexibility.



We had adequate liquidity throughout the quarter ended June 30, 2005. We
believe we will continue to have sufficient liquidity to meet our future cash requirements from our primary sources of funds for the foreseeable future, without needing to sell assets.



Sources of Funds



Our primary sources of funds for the quarter ended June 30, 2005 consisted of reverse repurchase agreements, Asset-backed
CP, CDOs and whole loan financing facilities, as well as new equity proceeds and principal and interest payments from ARM assets. The reverse repurchase agreement market is approximately a $4 trillion market, the Asset-backed CP market is
approximately an $830 billion market and the AAA-rated mortgage- and asset- backed securities market is approximately a $10 trillion market, all of which have been readily available sources of financing for mortgage assets, particularly those rated
AA or better. Using CDOs as financing effectively eliminates rollover and margin call risk for the related portion of our balance sheet. To supplement our funding sources, we also issue equity securities and unsecured long-term debt.



We have arrangements to enter into reverse repurchase agreements with 23
different financial institutions and on June 30, 2005, had borrowed funds from 17 of these firms. Reverse repurchase agreement borrowings outstanding at June 30, 2005 had a weighted average borrowing rate of 3.38% and a weighted average remaining
term to maturity of 3.8 months.



We also have a $5 billion
Asset-backed CP facility, which provides an alternative way to finance a portion of our ARM portfolio. We issue Asset-backed CP to investors in the form of secured liquidity notes that are recorded as borrowings on our Consolidated Balance Sheets
and are rated P-1 by Moodys Investors Service and F1+ by Fitch Ratings. As of June 30, 2005, we had $5.0 billion of Asset-backed CP outstanding with a weighted average interest rate of 3.32% and a weighted average remaining maturity of 18
days.



Because we borrow money under reverse repurchase and
Asset-backed CP agreements based on the fair value of our ARM assets, and because changes in interest rates can negatively impact the valuation of ARM assets, our borrowing ability under these agreements may be limited and lenders may initiate
margin calls in the event interest rates change or the value of our ARM assets declines for other reasons. External disruptions to credit markets might also impair access to additional liquidity and, therefore, we might be required to sell certain
mortgage assets in order to maintain liquidity. If required, such sales might be at prices lower than the carrying value of the assets, which would result in losses. However, since inception of our operations, we have never had to sell assets to
maintain liquidity.



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##### Table of Contents

All of our CDOs are secured by ARM loans. For financial reporting purposes, the ARM loans held as
collateral are recorded as our assets and the CDOs are recorded as our debt. In some transactions, Hedging Instruments are also recorded as our assets or liabilities. The Hedging Instruments either fix the interest rates of the pass-through
certificates or cap the interest rate exposure on these transactions. As of June 30, 2005, the following CDOs were outstanding (dollar amounts in thousands):



|                            |  |                   |           |                             |      |  
|--------------------------- |  | ----------------- | --------- | --------------------------- | ---- | -
|Description                 |  | Principal Balance |           | Effective Interest Rate (1) |     
|Floating-rate financing (2) |  | $                 | 4,336,044 |                             | 3.89 | %
|Fixed-rate financing (3)    |  |                   | 3,012,851 |                             | 4.15 | %
|                            |  |                   |           |                             |      |  
|Total                       |  | $                 | 7,348,895 |                             | 4.00 | %
|                            |  |                   |           |                             |      |  



|(1) | Effective interest rate includes the impact of issuance costs and Hedging Instruments.
|--- | --------------------------------------------------------------------------------------



|(2) | Includes financing hedged with Cap Agreements with a notional balance of $1.1 billion and a weighted average strike price of 5.31% as of June 30, 2005.
|--- | -------------------------------------------------------------------------------------------------------------------------------------------------------



|(3) | Includes floating-rate financing hedged with Swap Agreements with a notional balance of $1.8 billion.
|--- | -----------------------------------------------------------------------------------------------------



As of June 30, 2005, the CDOs were collateralized by ARM loans with a
principal balance of $7.4 billion. The debt matures between 2033 and 2045 and is callable at par once the total balance of the loans collateralizing the debt is reduced to 20% of their original balance. The balance of this debt is reduced as the
underlying loan collateral is paid down and is expected to have an average life of approximately four years.



As of June 30, 2005, we had entered into two committed whole loan financing facilities with a total borrowing capacity of $600 million that expire between February 2006 and December 2006. We had
uncommitted facilities of $650 million at June 30, 2005. The interest rates on these facilities are indexed to one-month LIBOR and reprice accordingly. We expect to renew these facilities when they expire or replace them with new facilities with
similar terms. As of June 30, 2005, we had $29.6 million borrowed against these whole loan financing facilities at an effective cost of 3.81%.



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##### Table of Contents

Capital Utilization and Leverage



The Board of Directors has approved a policy that limits our capacity to
borrow funds to finance ARM assets based on our available equity capital and unsecured debt (collectively, long-term capital). We monitor the relationship between our ARM assets, borrowings and long-term capital using a variety of different
measures. However, the primary operating policy that limits our borrowings and leverage is a requirement to maintain our Adjusted Equity-to-Assets Ratio, a non-GAAP measurement, at a minimum of 8%. Broadly speaking, this ratio reflects the
relationship between those ARM assets financed with borrowings that are subject to margin calls and our long-term capital position. See the table below for the calculation of this ratio.



Recourse or marginable debt generally consists of reverse repurchase agreements, Asset-backed CP and whole loan financing
facilities. These borrowings are based on the current market value of our ARM assets, are short-term in nature, mature on a frequent basis (weighted average maturity of 3.1 months as of June 30, 2005), need to be rolled over at each maturity and are
subject to margin calls based on collateral value changes or changes in margin requirements. For these reasons, our policy requires that we maintain significant excess capital and liquidity above the initial margin requirement to meet future margin
calls as a result of unexpected changes in margin requirements and collateral value. Our initial margin requirements typically average between 4% and 5% for these borrowings, so our policy requires that we maintain an Adjusted Equity-to-Assets Ratio
of at least 8%, though we typically maintain a ratio of 9% to 10%, against the financing of these ARM assets. The 8% minimum policy requirement provides a capital cushion that we feel confident will be sufficient to fund future margin requirements
that might result from changes in the value of our assets or changes in margin requirements. Historically, this capital cushion has proved to be more than adequate to support our borrowing arrangements through a variety of interest rate and credit
cycles.



We use the Adjusted Equity-to-Assets Ratio as a way to
ensure that we always have an adequate capital cushion relative to those recourse borrowings subject to margin call. If we did not maintain a sufficient capital cushion to meet initial and ongoing margin requirements, we could be forced to liquidate
ARM assets, potentially at a loss, at a time when our ARM assets had declined in value or when margin requirements had changed. The potential limitation that may result from the use of the non-GAAP measurement is that, in an economic environment
where the market value of the investment portfolio is increasing, the amount of capital that we can invest will be less than the amount then available for investment under a comparable GAAP measurement. Although we acknowledge this limitation, we
believe that it is not prudent to factor these market gains into the calculation of leveragable capital because the gains may be short-term in nature. The potential volatility in market prices could result in subsequent reversal of the gains that
would require subsequent disposition of ARM assets in unfavorable market conditions.



As we increase our use of CDOs, the risk of margin calls, changes in margin requirements and potential rollover risk is reduced because CDOs represent permanent non-recourse financing whose terms are established at
the time of the financing and are not subject to change. As a result, the need to maintain a capital cushion comparable to what we maintain on our recourse borrowings is eliminated. For purposes of maintaining an adequate capital cushion, our policy
allows us to eliminate all assets (and the associated long-term equity capital) associated with CDOs from our operating capital ratio. Because the CDOs only require approximately 2% of equity capital to support the transactions, versus the minimum
8% policy requirement on our recourse borrowings, we are able to use this freed-up capital to acquire additional ARM assets. We expect that we will be able to retain and carry an increased amount of assets in the future as a percentage of our equity
capital base. Additionally, we eliminate from our Adjusted Equity-to-Assets Ratio any unrealized market value adjustments, recorded as accumulated other comprehensive income (loss), from our equity accounts and we include our Senior Notes as an
additional form of long-term capital as if the notes were equity capital.



44



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##### Table of Contents

The following table presents the calculation of our Adjusted Equity-to-Assets ratio, a non-GAAP
measurement:



|                                                                  |  |               |            |   |                   |   |            |  
|----------------------------------------------------------------- |  | ------------- | ---------- | - | ----------------- | - | ---------- | -
|(dollar amounts in thousands)                                     |  | June 30, 2005 |            |   | December 31, 2004 |  
|Assets                                                            |  | $             | 34,529,258 |   |                   | $ | 29,189,618 |  
|Adjustments:                                                      |  |               |            |   |                   |   |            |  
|Net unrealized loss on ARM securities                             |  |               | 229,182    |   |                   |   | 177,337    |  
|Net unrealized gain on Hedging Instruments                        |  |               | (181,556   | ) |                   |   | (108,278   | )
|ARM loans collateralizing CDOs                                    |  |               | (7,473,032 | ) |                   |   | (6,720,810 | )
|Cap Agreements                                                    |  |               | (37,877    | ) |                   |   | (35,952    | )
|                                                                  |  |               |            |   |                   |   |            |  
|Adjusted assets                                                   |  | $             | 27,065,975 |   |                   | $ | 22,501,915 |  
|                                                                  |  |               |            |   |                   |   |            |  
|Shareholders equity                                              |  | $             | 2,250,353  |   |                   | $ | 1,789,184  |  
|Adjustments:                                                      |  |               |            |   |                   |   |            |  
|Accumulated other comprehensive loss                              |  |               | 84,951     |   |                   |   | 90,715     |  
|Equity supporting CDOs:                                           |  |               |            |   |                   |   |            |  
|CDOs                                                              |  |               | 7,348,895  |   |                   |   | 6,623,641  |  
|ARM loans collateralizing CDOs                                    |  |               | (7,473,032 | ) |                   |   | (6,720,810 | )
|Cap Agreements                                                    |  |               | (37,877    | ) |                   |   | (35,952    | )
|                                                                  |  |               |            |   |                   |   |            |  
|                                                                  |  |               | (162,014   | ) |                   |   | (133,121   | )
|Senior Notes                                                      |  |               | 304,231    |   |                   |   | 304,173    |  
|                                                                  |  |               |            |   |                   |   |            |  
|Adjusted shareholders equity                                     |  | $             | 2,477,521  |   |                   | $ | 2,050,951  |  
|                                                                  |  |               |            |   |                   |   |            |  
|Adjusted equity-to-assets ratio                                   |  |               | 9.15       | % |                   |   | 9.11       | %
|                                                                  |  |               |            |   |                   |   |            |  
|GAAP equity-to-assets ratio                                       |  |               | 6.52       | % |                   |   | 6.13       | %
|                                                                  |  |               |            |   |                   |   |            |  
|Ratio of historical equity-to-historical assets                   |  |               | 6.75       | % |                   |   | 6.43       | %
|                                                                  |  |               |            |   |                   |   |            |  
|Ratio of historical equity plus Senior Notes to historical assets |  |               | 7.63       | % |                   |   | 7.46       | %
|                                                                  |  |               |            |   |                   |   |            |  
|Estimated total risk-based capital /risk-weighted assets          |  |               | 22.93      | % |                   |   | 21.69      | %
|                                                                  |  |               |            |   |                   |   |            |  



The above table also
presents four alternative capital utilization measurements to our Adjusted Equity-to-Assets ratio. The first capital utilization measurement is the GAAP equity-to-assets ratio, a calculation that simply divides total GAAP equity by total assets.
While the simplest of all equity-to-assets calculations, it is not used by management to manage our balance sheet because it includes factors such as unrealized gains and losses on assets and Hedging Instruments deemed to be less important to the
long-term operating nature of our business, since our assets are not held for sale and since the unrealized gains and losses are not permanent impairments of our equity or of these assets and Hedging Instruments. If we did use the GAAP measurement
as a basis for our leverage limitation and if our Board of Directors-approved policy limited our GAAP equity-to-assets to a minimum of 8%, our total assets would have been reduced to $28.1 billion instead of the $34.5 billion of assets owned as of
June 30, 2005. In part, we are able to carry those additional assets by financing a portion of our ARM assets with CDO financings, which have an initial fixed capital requirement of approximately 2% of the assets financed in this



45



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way. The GAAP measurement ignores changes in the level of equity required to support various forms of
financing as the mix of our financing of ARM assets changes between financing subject to margin requirements and CDO financings which are not subject to margin requirements. This is another reason why we do not use the GAAP measurement to make
leverage or capital utilization decisions.



The second
alternative capital utilization measurement is the ratio of historical equity to historical assets. This is a non-GAAP measurement that eliminates the market value adjustment of our assets and Hedging Instruments included in accumulated other
comprehensive income (loss). This measurement is calculated by dividing the sum of the assets, net unrealized gain (loss) on ARM securities and net unrealized gain (loss) on Hedging Instruments in the table above by shareholders equity.



The third alternative capital utilization measurement is the
ratio of historical equity plus Senior Notes to historical assets. This is a non-GAAP measurement that eliminates the market value adjustment of our assets and Hedging Instruments included in accumulated other comprehensive income (loss). This
calculation also includes Senior Notes as a component of our long-term capital base. This measurement is calculated by dividing the sum of the assets, net unrealized gain (loss) on ARM securities and net unrealized gain (loss) on Hedging Instruments
in the table above by the sum of shareholders equity and Senior Notes in the table above. We monitor these ratios in order to have a complete picture of the relationship between our total assets and long-term capital position.



The fourth alternative capital utilization measurement is a calculation of
estimated total risk-based capital divided by risk-weighted assets, a regulatory calculation required to be made by banks and savings and loan institutions that complies with Federal Reserve Board capital requirements. Risk-based capital measures
capital requirements for assets based on their credit exposure as defined by the regulation, with lower credit risk assets requiring less capital and higher credit risk assets requiring more capital. Although we are not subject to these regulatory
requirements, we focus our efforts on only high quality assets. Therefore, our risk-based capital ratio tends to be quite high when compared to banking institutions, and well in excess of the regulatory minimum of 10% required for banks and savings
and loan institutions to qualify as well-capitalized.



Equity Transactions



In
March 2005, we completed a public offering of 2,000,000 shares of Preferred Stock and received net proceeds of $48.3 million. During the quarter ended June 30, 2005, we issued an additional 2,525,000 shares of Preferred Stock and received net
proceeds of $60.6 million.



During June 2005, we completed a
public offering of 4,000,000 shares of common stock and received net proceeds of $117.3 million.



During the quarter ended June 30, 2005, we issued 2,320,018 shares of Common Stock under the DRSPP and received net proceeds of $67.3 million, and we issued 586,300 shares of Common Stock through
a controlled equity offering program and received net proceeds of $16.8 million.



Off-Balance Sheet Commitments



As of June 30, 2005, we had commitments in the ordinary course of business to purchase or originate the following amounts of ARM assets (in thousands):



|                                       |  |   |          
|-------------------------------------- |  | - | ---------
|ARM securities  private high quality  |  | $ | 392,093  
|ARM loans  correspondent originations |  |   | 603,566  
|ARM loans  direct originations        |  |   | 73,949   
|                                       |  |   |          
|                                       |  | $ | 1,069,608
|                                       |  |   |          



We also have entered
into transactions whereby we expect to acquire the remaining balance of certain AAA-rated Hybrid ARM securities, at a price of par, between 2007 and 2008, when the fixed-rate period of the Hybrid ARM securities terminates and the securities convert
into Traditional ARM securities with characteristics similar to the Traditional ARM securities held in the current portfolio. We view these transactions as an alternative source of Traditional ARM assets. At June 30, 2005, the balance of the Hybrid



46



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ARM securities was approximately $1.2 billion, but is expected to be less than 60% of that, and could be
zero, at the time they convert into Traditional ARM securities. If we decide not to acquire the Hybrid ARM securities when they convert into Traditional ARM securities, then we are committed to pay or receive the difference between par and the fair
value of the Traditional ARM securities at that time, as determined by an auction of the Traditional ARM securities. As of June 30, 2005, we had delivered ARM assets with a carrying value of $2.7 million and $3.2 million in cash as collateral in
connection with these transactions.



Contractual Obligations



As of June 30, 2005,
we had the following contractual obligations (in thousands):



|                                |  |                        |            |                 |   |            |  |            |        |                  |   |        |  |   |          
|------------------------------- |  | ---------------------- | ---------- | --------------- | - | ---------- |  | ---------- | ------ | ---------------- | - | ------ |  | - | ---------
|                                |  | Payments Due by Period
|                                |  | Total                  |            | Less than 1year |   | 1  3years |  | 3  5years |        | More than 5years
|Reverse repurchase agreements   |  | $                      | 19,430,541 |                 | $ | 19,430,541 |  | $          |       |                  | $ |       |  | $ |         
|Asset-backed CP                 |  |                        | 4,990,000  |                 |   | 4,990,000  |  |            |        |                  |   |        |  |   |          
|CDOs (1)                        |  |                        | 7,348,895  |                 |   | 14,966     |  |            | 36,914 |                  |   | 66,539 |  |   | 7,230,476
|Whole loan financing facilities |  |                        | 29,573     |                 |   | 29,573     |  |            |       |                  |   |       |  |   |         
|Senior Notes                    |  |                        | 304,231    |                 |   |           |  |            |       |                  |   |       |  |   | 304,231  
|ARM asset purchase commitments  |  |                        | 1,069,608  |                 |   | 1,069,608  |  |            |       |                  |   |       |  |   |         
|                                |  |                        |            |                 |   |            |  |            |        |                  |   |        |  |   |          
|Total (2)                       |  | $                      | 33,172,848 |                 | $ | 25,534,688 |  | $          | 36,914 |                  | $ | 66,539 |  | $ | 7,534,707
|                                |  |                        |            |                 |   |            |  |            |        |                  |   |        |  |   |          



|(1) | Maturities of our CDOs are dependent upon cash flows received from the underlying loans receivable. Our estimate of their repayment is based on scheduled
principal payments on the underlying loans receivable. This estimate will differ from actual amounts to the extent we experience prepayments and/or loan losses.
|--- | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



|(2) | Our Consolidated Balance Sheets include a liability for Hedging Instruments with negative market values, which are not reflected in this table.
|--- | -----------------------------------------------------------------------------------------------------------------------------------------------



47



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Results of Operations For the Three Months Ended June 30, 2005



For the quarter ended June 30, 2005, our net income was $68.5 million, or
$0.70 EPS, based on weighted average shares outstanding of 96,565,000. That compares to $57.9 million, or $0.71 EPS for the quarter ended June 30, 2004, based on weighted average shares outstanding of 81,373,000, a 1.4% decrease in our EPS.



The table below highlights the historical trend in the
components of return on average common equity (annualized) during each respective quarter:



Components of Return on Average Common Equity



|                      |  |                          |   |  |                             |   |  |                  |   |  |                        |   |  |                   |    |  |                          |   |  |                       |  
|--------------------- |  | ------------------------ | - |  | --------------------------- | - |  | ---------------- | - |  | ---------------------- | - |  | ----------------- | -- |  | ------------------------ | - |  | --------------------- | -
|For the Quarter Ended |  | NetInterestIncome/Equity |   |  | G & AExpense,net (1)/Equity |   |  | Mgmt Fee/ Equity |   |  | PerformanceFee/ Equity |   |  | Other (2)/ Equity |    |  | PreferredDividend/Equity |   |  | NetIncome/Equity(ROE) |  
|Jun 30, 2003          |  | 23.93                    | % |  | 2.31                        | % |  | 1.17             | % |  | 3.03                   | % |  | (1.03             | )% |  | 0.73                     | % |  | 17.72                 | %
|Sep 30, 2003          |  | 21.97                    | % |  | 1.70                        | % |  | 1.13             | % |  | 2.62                   | % |  | (0.27             | )% |  | 0.00                     | % |  | 16.79                 | %
|Dec 31, 2003          |  | 22.79                    | % |  | 2.10                        | % |  | 1.11             | % |  | 2.59                   | % |  | 0.23              | %  |  | 0.00                     | % |  | 16.76                 | %
|Mar 31, 2004          |  | 21.35                    | % |  | 2.25                        | % |  | 1.11             | % |  | 2.55                   | % |  | (0.90             | )% |  | 0.00                     | % |  | 16.34                 | %
|Jun 30, 2004          |  | 19.98                    | % |  | 0.62                        | % |  | 1.06             | % |  | 2.29                   | % |  | 0.39              | %  |  | 0.00                     | % |  | 15.62                 | %
|Sep 30, 2004          |  | 18.81                    | % |  | 1.48                        | % |  | 1.09             | % |  | 2.23                   | % |  | (1.16             | )% |  | 0.00                     | % |  | 15.17                 | %
|Dec 31, 2004          |  | 18.86                    | % |  | 1.23                        | % |  | 1.06             | % |  | 2.23                   | % |  | (0.85             | )% |  | 0.00                     | % |  | 15.19                 | %
|Mar 31, 2005          |  | 17.93                    | % |  | 0.76                        | % |  | 1.01             | % |  | 2.16                   | % |  | (0.54             | )% |  | 0.02                     | % |  | 14.52                 | %
|Jun 30, 2005          |  | 16.55                    | % |  | 1.06                        | % |  | 1.03             | % |  | 2.00                   | % |  | (1.54             | )% |  | 0.29                     | % |  | 13.71                 | %

---

|(1) | G & A expense excludes management and performance fees and is net of servicing income.
|--- | --------------------------------------------------------------------------------------



|(2) | Other includes gain on ARM assets and Hedging Instruments, hedging expense and provision for credit losses.
|--- | -----------------------------------------------------------------------------------------------------------



Our ROE declined in the second quarter of 2005 compared to the same period in
2004 primarily due to a decline in our Portfolio Margin. While a range of factors influence Portfolio Margin, the recent decline resulted from tighter spreads on both acquisition and origination investment opportunities, accelerated prepayment
speeds, spread compression related to our Traditional ARM Assets and the hedging of a portion of our Hybrid ARM assets with Cap Agreements which are not currently providing cash flow benefits. This ROE decline was partially offset by growing our
balance sheet and better utilizing our existing capital base.



48



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##### Table of Contents

The following table presents the components of our net interest income:



Comparative Net Interest Income Components

(in thousands)



|                                                  |  |                                 |         |   |      |   |         |  
|------------------------------------------------- |  | ------------------------------- | ------- | - | ---- | - | ------- | -
|                                                  |  | For the quarters ended June 30, |        
|                                                  |  | 2005                            |         |   | 2004 |  
|Coupon interest income on ARM assets              |  | $                               | 353,027 |   |      | $ | 228,826 |  
|Amortization of net premium                       |  |                                 | (22,402 | ) |      |   | (12,204 | )
|Cash and cash equivalents                         |  |                                 | 412     |   |      |   | 865     |  
|                                                  |  |                                 |         |   |      |   |         |  
|Interest income                                   |  |                                 | 331,037 |   |      |   | 217,487 |  
|                                                  |  |                                 |         |   |      |   |         |  
|Reverse repurchase agreements and Asset-backed CP |  |                                 | 173,844 |   |      |   | 49,192  |  
|CDOs                                              |  |                                 | 55,659  |   |      |   | 18,686  |  
|Whole loan financing facilities                   |  |                                 | 5,617   |   |      |   | 3,468   |  
|Senior Notes                                      |  |                                 | 6,134   |   |      |   | 5,237   |  
|Hedging Instruments                               |  |                                 | 8,767   |   |      |   | 66,852  |  
|                                                  |  |                                 |         |   |      |   |         |  
|Interest expense                                  |  |                                 | 250,021 |   |      |   | 143,435 |  
|                                                  |  |                                 |         |   |      |   |         |  
|Net interest income                               |  | $                               | 81,016  |   |      | $ | 74,052  |  
|                                                  |  |                                 |         |   |      |   |         |  



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The following table presents the average balances for each category of our interest-earning assets as
well as our interest-bearing liabilities, with the corresponding annualized effective rate of interest and the related interest income or expense:



Average Balance, Rate and Interest Income/Expense Table

(Dollar amounts in thousands)



|                                                        |  |                                 |            |               |      |   |                          |   |                |  |               |            |  |                          |   |  |   |        
|------------------------------------------------------- |  | ------------------------------- | ---------- | ------------- | ---- | - | ------------------------ | - | -------------- |  | ------------- | ---------- |  | ------------------------ | - |  | - | -------
|                                                        |  | For the quarters ended June 30,
|                                                        |  | 2005                            |            | 2004         
|                                                        |  | AverageBalance                  |            | EffectiveRate |      |   | InterestIncomeandExpense |   | AverageBalance |  | EffectiveRate |            |  | InterestIncomeandExpense
|Interest-Earning Assets:                                |  |                                 |            |               |      |   |                          |   |                |  |               |            |  |                          |   |  |   |        
|ARM assets (1)                                          |  | $                               | 30,808,627 |               | 4.29 | % |                          | $ | 330,625        |  | $             | 22,273,339 |  | 3.89                     | % |  | $ | 216,622
|Cash and cash equivalents                               |  |                                 | 45,721     |               | 3.60 |   |                          |   | 412            |  |               | 354,455    |  | 0.98                     |   |  |   | 865    
|                                                        |  |                                 |            |               |      |   |                          |   |                |  |               |            |  |                          |   |  |   |        
|                                                        |  |                                 | 30,854,348 |               | 4.29 |   |                          |   | 331,037        |  |               | 22,627,794 |  | 3.84                     |   |  |   | 217,487
|                                                        |  |                                 |            |               |      |   |                          |   |                |  |               |            |  |                          |   |  |   |        
|Interest-Bearing Liabilities:                           |  |                                 |            |               |      |   |                          |   |                |  |               |            |  |                          |   |  |   |        
|Reverse repurchase agreements and Asset-backedCP        |  |                                 | 22,053,415 |               | 3.15 |   |                          |   | 173,844        |  |               | 16,109,269 |  | 1.22                     |   |  |   | 49,192 
|Plus: Cost of Hedging Instruments (2)                   |  |                                 |            |               | 0.07 |   |                          |   | 3,921          |  |               |            |  | 1.54                     |   |  |   | 61,877 
|                                                        |  |                                 |            |               |      |   |                          |   |                |  |               |            |  |                          |   |  |   |        
|Hedged reverse repurchase agreements andAsset-backed CP |  |                                 |            |               | 3.22 |   |                          |   | 177,765        |  |               |            |  | 2.76                     |   |  |   | 111,069
|                                                        |  |                                 |            |               |      |   |                          |   |                |  |               |            |  |                          |   |  |   |        
|CDOs                                                    |  |                                 | 6,109,865  |               | 3.64 |   |                          |   | 55,659         |  |               | 4,008,660  |  | 1.86                     |   |  |   | 18,686 
|Plus: Cost of Hedging Instruments (2)                   |  |                                 |            |               | 0.32 |   |                          |   | 4,846          |  |               |            |  | 0.50                     |   |  |   | 4,975  
|                                                        |  |                                 |            |               |      |   |                          |   |                |  |               |            |  |                          |   |  |   |        
|Hedged CDOs                                             |  |                                 |            |               | 3.96 |   |                          |   | 60,505         |  |               |            |  | 2.36                     |   |  |   | 23,661 
|                                                        |  |                                 |            |               |      |   |                          |   |                |  |               |            |  |                          |   |  |   |        
|Whole loan financing facilities                         |  |                                 | 594,922    |               | 3.78 |   |                          |   | 5,617          |  |               | 741,542    |  | 1.87                     |   |  |   | 3,468  
|Senior Notes                                            |  |                                 | 304,209    |               | 8.07 |   |                          |   | 6,134          |  |               | 251,174    |  | 8.34                     |   |  |   | 5,237  
|                                                        |  |                                 |            |               |      |   |                          |   |                |  |               |            |  |                          |   |  |   |        
|                                                        |  |                                 | 29,062,411 |               | 3.44 |   |                          |   | 250,021        |  |               | 21,110,645 |  | 2.72                     |   |  |   | 143,435
|                                                        |  |                                 |            |               |      |   |                          |   |                |  |               |            |  |                          |   |  |   |        
|Net Interest-Earning Assets and Spread                  |  | $                               | 1,791,937  |               | 0.85 | % |                          | $ | 81,016         |  | $             | 1,517,149  |  | 1.12                     | % |  | $ | 74,052 
|                                                        |  |                                 |            |               |      |   |                          |   |                |  |               |            |  |                          |   |  |   |        
|Yield on Net Interest-Earning Assets (3)                |  |                                 |            |               | 1.05 | % |                          |   |                |  |               |            |  | 1.31                     | % |  |   |        
|                                                        |  |                                 |            |               |      |   |                          |   |                |  |               |            |  |                          |   |  |   |        



|(1) | Effective rate includes impact of amortizing ARM assets net premium.
|--- | --------------------------------------------------------------------



|(2) | Includes Swap Agreements and Eurodollar Transactions with notional balances of $24.2 billion and $15.7 billion as of June 30, 2005 and 2004, respectively, and
Cap Agreements with notional balances of $1.1 billion and $1.4 billion as of June 30, 2005 and 2004, respectively.
|--- | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



|(3) | Yield on Net Interest-Earning Assets is computed by dividing annualized net interest income by the average daily balance of interest-earning assets.
|--- | ----------------------------------------------------------------------------------------------------------------------------------------------------



50



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The following table presents the total amount of change in interest income/expense from the table above
and presents the amount of change due to changes in interest rates versus the amount of change due to changes in volume (amounts in thousands):



|                                                  |  |                                              |         |   |        |   |        |       |  |   |         |  
|------------------------------------------------- |  | -------------------------------------------- | ------- | - | ------ | - | ------ | ----- |  | - | ------- | -
|                                                  |  | Rate/Volume Variance                         |        
|                                                  |  | Three Months ended June 30, 2005 versus 2004 |        
|                                                  |  | Rate                                         |         |   | Volume |   |        | Total | 
|Interest Income:                                  |  |                                              |         |   |        |   |        |       |  |   |         |  
|ARM assets                                        |  | $                                            | 22,406  |   |        | $ | 91,597 |       |  | $ | 114,003 |  
|Cash and cash equivalents                         |  |                                              | 2,329   |   |        |   | (2,782 | )     |  |   | (453    | )
|                                                  |  |                                              |         |   |        |   |        |       |  |   |         |  
|                                                  |  |                                              | 24,735  |   |        |   | 88,815 |       |  |   | 113,550 |  
|                                                  |  |                                              |         |   |        |   |        |       |  |   |         |  
|Interest Expense:                                 |  |                                              |         |   |        |   |        |       |  |   |         |  
|Reverse repurchase agreements and Asset-backed CP |  |                                              | 18,783  |   |        |   | 47,913 |       |  |   | 66,696  |  
|CDOs                                              |  |                                              | 16,036  |   |        |   | 20,808 |       |  |   | 36,844  |  
|Whole loan financing facilities                   |  |                                              | 3,533   |   |        |   | (1,384 | )     |  |   | 2,149   |  
|Senior Notes                                      |  |                                              | (173    | ) |        |   | 1,070  |       |  |   | 897     |  
|                                                  |  |                                              |         |   |        |   |        |       |  |   |         |  
|                                                  |  |                                              | 38,179  |   |        |   | 68,407 |       |  |   | 106,586 |  
|                                                  |  |                                              |         |   |        |   |        |       |  |   |         |  
|Net interest income                               |  | $                                            | (13,444 | ) |        | $ | 20,408 |       |  | $ | 6,964   |  
|                                                  |  |                                              |         |   |        |   |        |       |  |   |         |  



Net interest income
increased $7.0 million in the second quarter of 2005, compared to the same quarter of the prior year. This increase in net interest income is composed of an unfavorable rate variance and a favorable volume variance. The increased average size of our
portfolio during the second quarter of 2005 compared to the same period of 2004 increased net interest income in the amount of $20.4 million. The average balance of our interest-earning assets was $30.9 billion during the quarter ended June 30,
2005, compared to $22.6 billion during the same period of 2004  an increase of 36.4%. As a result of the yield on our interest-earning assets increasing to 4.29% during the second quarter of 2005 from 3.84% during the same quarter of 2004, an
increase of 45 BPs, and our cost of funds increasing to 3.44% from 2.72% during the same period, an increase of 72 BPs, there was a net unfavorable rate variance of $13.4 million.



The following table highlights the components of net interest spread and the annualized yield on net interest-earning assets
for each applicable quarter:



Components of Net Interest
Spread and Yield on Net Interest-Earning Assets (1)

(Dollar amounts in millions)



|                      |  |                               |        |                                 |      |   |                      |      |   |                               |      |   |              |      |   |                   |      |   |                                    |      |  
|--------------------- |  | ----------------------------- | ------ | ------------------------------- | ---- | - | -------------------- | ---- | - | ----------------------------- | ---- | - | ------------ | ---- | - | ----------------- | ---- | - | ---------------------------------- | ---- | -
|For the Quarter Ended |  | AverageInterest-EarningAssets |        | HistoricalWeightedAverageCoupon |      |   | Yield Adjustment (2) |      |   | Yield onInterestEarningAssets |      |   | Cost ofFunds |      |   | NetInterestSpread |      |   | Yield onNetInterest- EarningAssets |     
|Jun 30, 2003          |  | $                             | 13,144 |                                 | 4.68 | % |                      | 0.51 | % |                               | 4.17 | % |              | 2.73 | % |                   | 1.44 | % |                                    | 1.67 | %
|Sep 30, 2003          |  | $                             | 15,701 |                                 | 4.41 | % |                      | 0.56 | % |                               | 3.85 | % |              | 2.53 | % |                   | 1.32 | % |                                    | 1.53 | %
|Dec 31, 2003          |  | $                             | 18,327 |                                 | 4.35 | % |                      | 0.46 | % |                               | 3.89 | % |              | 2.62 | % |                   | 1.27 | % |                                    | 1.47 | %
|Mar 31, 2004          |  | $                             | 19,911 |                                 | 4.29 | % |                      | 0.36 | % |                               | 3.93 | % |              | 2.73 | % |                   | 1.20 | % |                                    | 1.40 | %
|Jun 30, 2004          |  | $                             | 22,628 |                                 | 4.25 | % |                      | 0.41 | % |                               | 3.84 | % |              | 2.72 | % |                   | 1.12 | % |                                    | 1.31 | %
|Sep 30, 2004          |  | $                             | 24,450 |                                 | 4.30 | % |                      | 0.37 | % |                               | 3.93 | % |              | 2.93 | % |                   | 1.00 | % |                                    | 1.18 | %
|Dec 31, 2004          |  | $                             | 27,193 |                                 | 4.42 | % |                      | 0.35 | % |                               | 4.07 | % |              | 3.11 | % |                   | 0.96 | % |                                    | 1.16 | %
|Mar 31, 2005          |  | $                             | 29,414 |                                 | 4.55 | % |                      | 0.36 | % |                               | 4.19 | % |              | 3.25 | % |                   | 0.94 | % |                                    | 1.13 | %
|Jun 30, 2005          |  | $                             | 30,854 |                                 | 4.65 | % |                      | 0.36 | % |                               | 4.29 | % |              | 3.44 | % |                   | 0.85 | % |                                    | 1.05 | %

---

|(1) | Yield on Net Interest-Earning Assets is computed by dividing net interest income by the average daily balance of interest-earning assets during the quarter.
|--- | ------------------------------------------------------------------------------------------------------------------------------------------------------------



|(2) | Yield adjustments include the impact of amortizing premiums and discounts, the impact of principal payment receivables and the impact of interest-earning non-ARM
assets.
|--- | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------



51



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The following table presents these components of the yield adjustments for the dates presented in the
table above.



Components of the Yield Adjustments on ARM
Assets



|                      |  |                              |   |  |                                      |   |  |           |    |  |                        |  
|--------------------- |  | ---------------------------- | - |  | ------------------------------------ | - |  | --------- | -- |  | ---------------------- | -
|For the Quarter Ended |  | Premium/DiscountAmortization |   |  | Impact ofPrincipalPaymentsReceivable |   |  | Other (1) |    |  | Total Yield Adjustment |  
|Jun 30, 2003          |  | 0.32                         | % |  | 0.13                                 | % |  | 0.06      | %  |  | 0.51                   | %
|Sep 30, 2003          |  | 0.34                         | % |  | 0.14                                 | % |  | 0.08      | %  |  | 0.56                   | %
|Dec 31, 2003          |  | 0.28                         | % |  | 0.11                                 | % |  | 0.07      | %  |  | 0.46                   | %
|Mar 31, 2004          |  | 0.27                         | % |  | 0.06                                 | % |  | 0.03      | %  |  | 0.36                   | %
|Jun 30, 2004          |  | 0.29                         | % |  | 0.10                                 | % |  | 0.02      | %  |  | 0.41                   | %
|Sep 30, 2004          |  | 0.30                         | % |  | 0.05                                 | % |  | 0.02      | %  |  | 0.37                   | %
|Dec 31, 2004          |  | 0.30                         | % |  | 0.04                                 | % |  | 0.01      | %  |  | 0.35                   | %
|Mar 31, 2005          |  | 0.32                         | % |  | 0.04                                 | % |  | 0.00      | %  |  | 0.36                   | %
|Jun 30. 2005          |  | 0.35                         | % |  | 0.02                                 | % |  | (0.01     | )% |  | 0.36                   | %



|(1) | Other includes the impact of interest-earning cash and cash equivalents and restricted cash and cash equivalents.
|--- | -----------------------------------------------------------------------------------------------------------------



Since we began acquiring whole loans in 1997, we have only experienced losses
on three loans, for a total amount of $174,000. We continue to evaluate our estimated credit losses on loans prior to their securitization and we may readjust our current policy if the circumstances warrant. As of June 30, 2005, our ARM loans,
including those that we have securitized, but with respect to which we have retained credit loss exposure, accounted for 34.2% of our portfolio of ARM assets or $11.6 billion. During the quarters ended June 30, 2005 and 2004, we recorded loan loss
provisions totaling $180,000 and $391,000, respectively, to reserve for estimated credit losses on loans.



During the quarter ended June 30, 2005, we purchased $722.0 million of third party loan securitizations in transactions in which we purchased all classes of the securitizations, including the
subordinated classes. At June 30, 2005 and December 31, 2004, our ARM securities included $5.2 billion and $3.6 billion, respectively, resulting from our aggregate purchase of third party loan securitizations. Like our own loan originations and
acquisitions, these assets are Qualifying Interests for purposes of maintaining our exemption from the Investment Company Act because we retain a 100% ownership interest in the underlying loans. Because we purchase all classes of these
securitizations, we have credit exposure on the underlying loans. The purchase price of the classes that are less than Investment Grade generally includes a discount for probable credit losses and, based on managements judgment, the portion of
the purchase discount which reflects the estimated unrealized loss on the securities due to credit risk is treated as a non-accretable discount. We recorded non-accretable discounts of $865,000 related to securities purchased during the second
quarter of 2005. As of June 30, 2005 and December 31, 2004, we had total non-accretable discounts of $8.0 million and $6.5 million, respectively, on our ARM securities due to estimated credit losses (other than temporary declines in fair value)
related to ARM securities purchased at a discount. As of June 30, 2005, 16 of the underlying loans in these third party loan securitizations were considered seriously delinquent (60 days or more delinquent) and had an aggregate balance of $3.1
million.



We recorded a gain of $5.9 million on the sale of
$729.2 million of ARM assets and a net gain of $1.8 million on Derivatives during the second quarter of 2005. The net gain on Derivatives consisted of a gain of $9.2 million on commitments to purchase loans from correspondent lenders and bulk
sellers and a loss of $7.4 million on Pipeline Hedging Instruments. We realized a net loss on Derivatives of $896,000 during the three months ended June 30, 2004. This loss consisted of a $13.0 million loss on commitments to purchase loans from
correspondent lenders and bulk sellers, partially offset by a net gain of $10.0 million on Pipeline Hedging Instruments and a $2.1 million gain on the termination of Swap Agreements.



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The following table highlights the quarterly trend of operating expenses as a percent of average assets:



Annualized Operating Expense Ratios



|                      |  |                              |   |  |                               |   |  |                             |   |  |                                        |  
|--------------------- |  | ---------------------------- | - |  | ----------------------------- | - |  | --------------------------- | - |  | -------------------------------------- | -
|For the Quarter Ended |  | ManagementFee/ AverageAssets |   |  | PerformanceFee/ AverageAssets |   |  | OtherExpenses/AverageAssets |   |  | TotalOperating Expenses/ AverageAssets |  
|Jun 30, 2003          |  | 0.08                         | % |  | 0.21                          | % |  | 0.18                        | % |  | 0.47                                   | %
|Sep 30, 2003          |  | 0.08                         | % |  | 0.18                          | % |  | 0.13                        | % |  | 0.39                                   | %
|Dec 31, 2003          |  | 0.07                         | % |  | 0.17                          | % |  | 0.14                        | % |  | 0.38                                   | %
|Mar 31, 2004          |  | 0.07                         | % |  | 0.17                          | % |  | 0.16                        | % |  | 0.40                                   | %
|Jun 30, 2004          |  | 0.07                         | % |  | 0.15                          | % |  | 0.06                        | % |  | 0.28                                   | %
|Sep 30, 2004          |  | 0.07                         | % |  | 0.14                          | % |  | 0.12                        | % |  | 0.33                                   | %
|Dec 31, 2004          |  | 0.06                         | % |  | 0.14                          | % |  | 0.10                        | % |  | 0.30                                   | %
|Mar 31, 2005          |  | 0.06                         | % |  | 0.14                          | % |  | 0.08                        | % |  | 0.28                                   | %
|Jun 30, 2005          |  | 0.06                         | % |  | 0.13                          | % |  | 0.10                        | % |  | 0.29                                   | %



The most significant
increases to our operating expenses for the quarter ended June 30, 2005 compared to June 30, 2004 were the $3.6 million increase in the expenses associated with our long-term incentive awards due to the increase in our stock price, the $1.3 million
increase in the performance-based fee that the Manager earned as a result of our achieving a Return on Equity in excess of the threshold as defined in the Management Agreement, the $1.1 million increase in base management fees and the $691,000
increase in expenses related to expanded operations of TMHL. Our ROE prior to the effect of the performance-based fee of $9.8 million for the second quarter of 2005 was 15.71%, whereas the threshold, the average Ten Year U.S. Treasury Rate plus 1%,
was 5.16%.



We believe our expense ratios are among the lowest
of any company originating and investing in mortgage assets, giving us a significant competitive advantage over more traditional mortgage portfolio lending institutions such as banks and savings and loan institutions. This competitive advantage
enables us to operate with less risk, such as credit and interest rate risk, and still generate an attractive long-term ROE when compared to more traditional mortgage portfolio lending institutions.



The Manager receives an annual base management fee of 1.27% on the first $300
million of Average Historical Equity, plus 0.93% on Average Historical Equity above $300 million with the fee earned on Average Historical Equity over $1.5 billion limited to 0.82% with the fee decreasing an additional 0.05% for each additional $0.5
billion in Average Historical Equity thereafter until reaching a fee of 0.67% on any Average Historical Equity greater than $3.0 billion. These percentages are subject to an inflation adjustment each July based on changes to the Consumer Price Index
over the prior twelve month period. The Manager earns a performance-based incentive fee of 20% of our annualized net income, before performance-based compensation, above an annualized ROE equal to the Ten Year U.S. Treasury Rate plus 1% with the fee
limited such that once the Manager has earned a performance fee of $30 million, the performance fee percentage of 20% is reduced by 1% for each additional $5 million earned in performance fees until reaching a performance fee percentage of 15% for
any amount greater than $50 million.



Results of Operations
For the Six Months Ended June 30, 2005



For the six months
ended June 30, 2005, our net income was $136.0 million, or $1.42 EPS, based on weighted average shares outstanding of 94,869,000. That compares to $111.3 million, or $1.41 EPS for the six months ended June 30, 2004, based on weighted average shares
outstanding of 79,002,000, a 0.7% increase in our EPS.



Our
return on average common equity was 14.11% for the six months ended June 30, 2005 compared to 15.96% for the same period in 2004.



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The following table presents the components of our net interest income:



Comparative Net Interest Income Components

(in thousands)



|                                                  |  |                                   |         |   |      |   |         |  
|------------------------------------------------- |  | --------------------------------- | ------- | - | ---- | - | ------- | -
|                                                  |  | For the six months ended June 30, |        
|                                                  |  | 2005                              |         |   | 2004 |  
|Coupon interest income on ARM assets              |  | $                                 | 679,290 |   |      | $ | 434,574 |  
|Amortization of net premium                       |  |                                   | (41,314 | ) |      |   | (22,520 | )
|Cash and cash equivalents                         |  |                                   | 1,120   |   |      |   | 1,246   |  
|                                                  |  |                                   |         |   |      |   |         |  
|Interest income                                   |  |                                   | 639,096 |   |      |   | 413,300 |  
|                                                  |  |                                   |         |   |      |   |         |  
|Reverse repurchase agreements and Asset-backed CP |  |                                   | 309,607 |   |      |   | 93,305  |  
|CDOs                                              |  |                                   | 107,279 |   |      |   | 30,591  |  
|Whole loan financing facilities                   |  |                                   | 11,166  |   |      |   | 6,846   |  
|Senior Notes                                      |  |                                   | 12,268  |   |      |   | 10,472  |  
|Hedging Instruments                               |  |                                   | 34,593  |   |      |   | 128,314 |  
|                                                  |  |                                   |         |   |      |   |         |  
|Interest expense                                  |  |                                   | 474,913 |   |      |   | 269,528 |  
|                                                  |  |                                   |         |   |      |   |         |  
|Net interest income                               |  | $                                 | 164,183 |   |      | $ | 143,772 |  
|                                                  |  |                                   |         |   |      |   |         |  



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The following table presents the average balances for each category of our interest-earning assets as
well as our interest-bearing liabilities, with the corresponding annualized effective rate of interest and the related interest income or expense:



Average Balance, Rate and Interest Income/Expense Table

(Dollar amounts in thousands)



|                                                        |  |                                   |            |               |      |   |                          |   |                |  |               |            |  |                          |   |  |   |        
|------------------------------------------------------- |  | --------------------------------- | ---------- | ------------- | ---- | - | ------------------------ | - | -------------- |  | ------------- | ---------- |  | ------------------------ | - |  | - | -------
|                                                        |  | For the six months ended June 30,
|                                                        |  | 2005                              |            | 2004         
|                                                        |  | AverageBalance                    |            | EffectiveRate |      |   | InterestIncomeandExpense |   | AverageBalance |  | EffectiveRate |            |  | InterestIncomeandExpense
|Interest-Earning Assets:                                |  |                                   |            |               |      |   |                          |   |                |  |               |            |  |                          |   |  |   |        
|ARM assets (1)                                          |  | $                                 | 30,068,357 |               | 4.24 | % |                          | $ | 637,976        |  | $             | 20,986,617 |  | 3.93                     | % |  | $ | 412,054
|Cash and cash equivalents                               |  |                                   | 65,639     |               | 3.41 |   |                          |   | 1,120          |  |               | 282,644    |  | 0.88                     |   |  |   | 1,246  
|                                                        |  |                                   |            |               |      |   |                          |   |                |  |               |            |  |                          |   |  |   |        
|                                                        |  |                                   | 30,133,996 |               | 4.24 |   |                          |   | 639,096        |  |               | 21,269,261 |  | 3.89                     |   |  |   | 413,300
|                                                        |  |                                   |            |               |      |   |                          |   |                |  |               |            |  |                          |   |  |   |        
|Interest-Bearing Liabilities:                           |  |                                   |            |               |      |   |                          |   |                |  |               |            |  |                          |   |  |   |        
|Reverse repurchase agreements and Asset-backedCP        |  |                                   | 21,136,011 |               | 2.93 |   |                          |   | 309,607        |  |               | 15,247,161 |  | 1.22                     |   |  |   | 93,305 
|Plus: Cost of Hedging Instruments (2)                   |  |                                   |            |               | 0.20 |   |                          |   | 21,582         |  |               |            |  | 1.55                     |   |  |   | 118,181
|                                                        |  |                                   |            |               |      |   |                          |   |                |  |               |            |  |                          |   |  |   |        
|Hedged reverse repurchase agreements andAsset-backed CP |  |                                   |            |               | 3.13 |   |                          |   | 331,189        |  |               |            |  | 2.77                     |   |  |   | 211,486
|                                                        |  |                                   |            |               |      |   |                          |   |                |  |               |            |  |                          |   |  |   |        
|CDOs                                                    |  |                                   | 6,304,129  |               | 3.40 |   |                          |   | 107,279        |  |               | 3,547,859  |  | 1.72                     |   |  |   | 30,591 
|Plus: Cost of Hedging Instruments (2)                   |  |                                   |            |               | 0.41 |   |                          |   | 13,011         |  |               |            |  | 0.58                     |   |  |   | 10,133 
|                                                        |  |                                   |            |               |      |   |                          |   |                |  |               |            |  |                          |   |  |   |        
|Hedged CDOs                                             |  |                                   |            |               | 3.81 |   |                          |   | 120,290        |  |               |            |  | 2.30                     |   |  |   | 40,724 
|                                                        |  |                                   |            |               |      |   |                          |   |                |  |               |            |  |                          |   |  |   |        
|Whole loan financing facilities                         |  |                                   | 639,033    |               | 3.49 |   |                          |   | 11,166         |  |               | 746,191    |  | 1.83                     |   |  |   | 6,846  
|Senior Notes                                            |  |                                   | 304,194    |               | 8.07 |   |                          |   | 12,268         |  |               | 251,135    |  | 8.34                     |   |  |   | 10,472 
|                                                        |  |                                   |            |               |      |   |                          |   |                |  |               |            |  |                          |   |  |   |        
|                                                        |  |                                   | 28,383,367 |               | 3.35 |   |                          |   | 474,913        |  |               | 19,792,346 |  | 2.72                     |   |  |   | 269,528
|                                                        |  |                                   |            |               |      |   |                          |   |                |  |               |            |  |                          |   |  |   |        
|Net Interest-Earning Assets and Spread                  |  | $                                 | 1,750,629  |               | 0.89 | % |                          | $ | 164,183        |  | $             | 1,476,915  |  | 1.17                     | % |  | $ | 143,772
|                                                        |  |                                   |            |               |      |   |                          |   |                |  |               |            |  |                          |   |  |   |        
|Yield on Net Interest-Earning Assets (3)                |  |                                   |            |               | 1.09 | % |                          |   |                |  |               |            |  | 1.35                     | % |  |   |        
|                                                        |  |                                   |            |               |      |   |                          |   |                |  |               |            |  |                          |   |  |   |        



|(1) | Effective rate includes impact of amortizing ARM assets net premium.
|--- | --------------------------------------------------------------------



|(2) | Includes Swap Agreements and Eurodollar Transactions with notional balances of $24.2 billion and $15.7 billion as of June 30, 2005 and 2004, respectively, and
Cap Agreements with notional balances of $1.1 billion and $1.4 billion as of June 30, 2005 and 2004, respectively.
|--- | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



|(3) | Yield on Net Interest-Earning Assets is computed by dividing annualized net interest income by the average daily balance of interest-earning assets.
|--- | ----------------------------------------------------------------------------------------------------------------------------------------------------



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##### Table of Contents

The following table presents the total amount of change in interest income/expense from the table above
and presents the amount of change due to changes in interest rates versus the amount of change due to changes in volume (amounts in thousands):



|                                                  |  |                                            |         |   |        |   |         |       |  |   |         |  
|------------------------------------------------- |  | ------------------------------------------ | ------- | - | ------ | - | ------- | ----- |  | - | ------- | -
|                                                  |  | Rate/Volume Variance                       |        
|                                                  |  | Six Months ended June 30, 2005 versus 2004 |        
|                                                  |  | Rate                                       |         |   | Volume |   |         | Total | 
|Interest Income:                                  |  |                                            |         |   |        |   |         |       |  |   |         |  
|ARM assets                                        |  | $                                          | 33,230  |   |        | $ | 192,692 |       |  | $ | 225,922 |  
|Cash and cash equivalents                         |  |                                            | 3,577   |   |        |   | (3,703  | )     |  |   | (126    | )
|                                                  |  |                                            |         |   |        |   |         |       |  |   |         |  
|                                                  |  |                                            | 36,807  |   |        |   | 188,989 |       |  |   | 225,796 |  
|                                                  |  |                                            |         |   |        |   |         |       |  |   |         |  
|Interest Expense:                                 |  |                                            |         |   |        |   |         |       |  |   |         |  
|Reverse repurchase agreements and Asset-backed CP |  |                                            | 27,428  |   |        |   | 92,275  |       |  |   | 119,703 |  
|CDOs                                              |  |                                            | 26,974  |   |        |   | 52,592  |       |  |   | 79,566  |  
|Whole loan financing facilities                   |  |                                            | 6,192   |   |        |   | (1,872  | )     |  |   | 4,320   |  
|Senior Notes                                      |  |                                            | (344    | ) |        |   | 2,140   |       |  |   | 1,796   |  
|                                                  |  |                                            |         |   |        |   |         |       |  |   |         |  
|                                                  |  |                                            | 60,250  |   |        |   | 145,135 |       |  |   | 205,385 |  
|                                                  |  |                                            |         |   |        |   |         |       |  |   |         |  
|Net interest income                               |  | $                                          | (23,443 | ) |        | $ | 43,854  |       |  | $ | 20,411  |  
|                                                  |  |                                            |         |   |        |   |         |       |  |   |         |  



Net interest income
increased $20.4 million in the six months ended June 30, 2005, compared to the same period of the prior year. This increase in net interest income is composed of an unfavorable rate variance and a favorable volume variance. The increased average
size of our portfolio during the first six months of 2005 compared to the same period of 2004 increased net interest income in the amount of $43.9 million. The average balance of our interest-earning assets was $30.1 billion during the six months
ended June 30, 2005, compared to $21.3 billion during the same period of 2004  an increase of 41.7%. As a result of the yield on our interest-earning assets increasing to 4.24% during the first six months of 2005 from 3.89% during the same
period of 2004, an increase of 35 BPs, and our cost of funds increasing to 3.35% from 2.72% during the same period, an increase of 63 BPs, there was a net unfavorable rate variance of $23.4 million.



For the six months ended June 30, 2005, our ratio of operating expenses to
average assets was 0.29%, compared to 0.34% for the same period in 2004. The most significant increases to our operating expenses for the six months ended June 30, 2005 compared to June 30, 2004 were the $3.0 million increase in the
performance-based fee that the Manager earned as a result of our achieving a Return on Equity in excess of the threshold as defined in the Management Agreement, the $2.2 million increase in base management fees and the $1.8 million increase in
expenses related to expanded operations of TMHL. Our ROE prior to the effect of the performance-based fee of $19.8 million for the first six months of 2005 was 16.19%, whereas the threshold, the average Ten Year U.S. Treasury Rate plus 1%, was
5.23%.



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##### Table of Contents

Market Risks



The market risk management discussion and the amounts estimated from the analysis that follows are forward-looking
statements that assume that certain market conditions occur. Actual results may differ materially from these projected results due to changes in our ARM portfolio and borrowings mix and due to developments in the domestic and global financial and
real estate markets. Developments in the financial markets include the likelihood of changes in interest rates and in the relationship of various interest rates and their impact on our ARM portfolio yield, cost of funds and cash flows.



As a financial institution that has only U.S.-dollar denominated assets,
liabilities and Hedging Instruments, we are not subject to foreign currency exchange or commodity price risk. Our market risk exposure is largely due to interest rate risk. Interest rate risk is defined as the sensitivity of our current and future
earnings to interest rate volatility, variability of spread relationships, the difference in repricing intervals between our assets and liabilities and the effect that interest rates may have on our cash flows, especially ARM portfolio prepayments.
Interest rate risk impacts our interest income, interest expense and the market value on a large portion of our assets and liabilities. The management of interest rate risk attempts to maximize earnings and to preserve capital by minimizing the
negative impacts of changing interest rates, asset and liability mix, and prepayment activity.



The table below presents an approximation of the sensitivity of the market value of our ARM portfolio, including purchase commitments, using a discounted cash flow simulation model. Application of this method results
in an estimation of the percentage change in the market value of our assets, liabilities and Hedging Instruments per 100 BP shift in interest rates expressed in yearsa measure commonly referred to as Effective Duration. Positive portfolio
Effective Duration indicates that the market value of the total portfolio will decline if interest rates rise and increase if interest rates decline. The closer Effective Duration is to zero, the less interest rate changes are expected to affect
earnings. Included in the table is a base case Effective Duration calculation for an interest rate scenario that assumes future rates are those implied by the yield curve as of June 30, 2005. The other three scenarios assume interest rates are
instantaneously 100, 200 and 300 BPs higher than those implied by interest rates as of June 30, 2005.



The use of Hybrid ARM Hedging Instruments is a critical part of our interest rate risk management strategies, and the effects of these Hybrid ARM Hedging Instruments on the market value of the
portfolio are reflected in the models output. This analysis also takes into consideration the value of options embedded in our mortgage assets including constraints on the repricing of the interest rates of ARM assets resulting from periodic
and lifetime cap features, as well as prepayment options. Assets and liabilities that are not interest rate-sensitive, such as cash, payment receivables, prepaid expenses, payables and accrued expenses, are excluded. The Effective Duration
calculated from this model is a key measure of the effectiveness of our interest rate risk management strategies.



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##### Table of Contents

Net Portfolio Effective Duration

June 30, 2005



|                                 |  |           |   |                   |       |                   |       |                   |  |       |  |       |   |  |       |  |       |   |  |      
|-------------------------------- |  | --------- | - | ----------------- | ----- | ----------------- | ----- | ----------------- |  | ----- |  | ----- | - |  | ----- |  | ----- | - |  | -----
|                                 |  | Base Case |   | Parallel +100 BPs |       | Parallel +200 BPs |       | Parallel +300 BPs
|Assets:                          |  |           |   |                   |       |                   |       |                   |  |       |  |       |   |  |       |  |       |   |  |      
|Traditional ARMs                 |  | 0.30      |   |                   | Years |                   | 0.42  |                   |  | Years |  | 0.55  |   |  | Years |  | 0.70  |   |  | Years
|Hybrid ARMs                      |  | 1.98      |   |                   |       |                   | 2.52  |                   |  |       |  | 2.89  |   |  |       |  | 3.11  |   |  |      
|                                 |  |           |   |                   |       |                   |       |                  
|Total ARM assets                 |  | 1.82      |   |                   |       |                   | 2.32  |                   |  |       |  | 2.67  |   |  |       |  | 2.89  |   |  |      
|                                 |  |           |   |                   |       |                   |       |                  
|Borrowings and hedges            |  | (1.50     | ) |                   |       |                   | (1.52 | )                 |  |       |  | (1.52 | ) |  |       |  | (1.50 | ) |  |      
|                                 |  |           |   |                   |       |                   |       |                  
|Net Portfolio Effective Duration |  | 0.22      |   |                   | Years |                   | 0.47  |                   |  | Years |  | 0.66  |   |  | Years |  | 0.78  |   |  | Years
|                                 |  |           |   |                   |       |                   |       |                  



Based on the
assumptions used, the model output suggests a very low degree of portfolio price change given increases in interest rates, which implies that our cash flow and earning characteristics should be relatively stable for comparable changes in interest
rates. As a comparison, the approximate base case Effective Duration of an unhedged mortgage tied to the Ten Year U.S. Treasury Rate, a conforming 30-year fixed mortgage and a conforming 5/1 Hybrid ARM are 8.0, 3.4 and 1.5 years respectively.



Changes in assumptions including, but not limited to,
volatility, mortgage and financing spreads, prepayment behavior and defaults, as well as the timing and level of interest rate changes, will affect the results of the model. Therefore, actual results are likely to vary from modeled results.



Although market value sensitivity analysis is widely accepted
in identifying interest rate risk, it does not take into consideration changes that may occur such as, but not limited to, changes in investment and financing strategies, changes in market spreads, and changes in business volumes. Accordingly, we
make extensive use of an earnings simulation model to further analyze our level of interest rate risk.



There are a number of key assumptions in our earnings simulation model. These key assumptions include changes in market conditions that affect interest rates, the pricing of ARM products, the
availability of ARM products, and the availability and the cost of financing for ARM products. Other key assumptions made in using the simulation model include prepayment speeds and managements investment, financing and hedging strategies, and
the issuance of new equity. We typically run the simulation model under a variety of hypothetical business scenarios that may include different interest rate scenarios, different investment strategies, different prepayment possibilities and other
scenarios that provide us with a range of possible earnings outcomes in order to assess potential interest rate risk. The assumptions used represent our estimate of the likely effect of changes in interest rates and do not necessarily reflect actual
results. The earnings simulation model takes into account periodic and lifetime caps embedded in our ARM assets in determining the earnings at risk.



At June 30, 2005, based on the earnings simulation model, our potential earnings increase (decrease) from our base case earnings forecast for a parallel
100, 200 and 300 BP rise in market interest rates over the next twelve months and a commensurate slowdown in prepayment speeds as interest rates rise, was (2.2)%, (6.1)% and (9.1)%, respectively, of projected net income for the twelve months ended
June 30, 2006. All of these earnings projections result in earnings that provide sufficient coverage of dividends at their current level. The assumptions used in the earnings simulation model are inherently uncertain and, as a result, the analysis
cannot precisely predict the impact of higher interest rates on net income. Actual results could differ from simulated results due to timing, magnitude and frequency of interest rate changes, changes in prepayment speed other than what was assumed
in the model, and changes in other market conditions and management strategies to offset our potential exposure, among other factors. This measure of risk represents our exposure to higher interest rates at a particular point in time. Our actual
risk is always changing. We continuously monitor our risk profile and alter our strategies as appropriate based on our view of interest rates and other developments in our business.



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##### Table of Contents

Effects of Interest Rate Changes



Changes in interest rates impact our earnings in various ways. While we invest primarily in ARM assets, rising short-term
interest rates may temporarily negatively affect our earnings, and, conversely, falling short-term interest rates may temporarily increase our earnings. This impact can occur for several reasons and may be mitigated by portfolio prepayment activity
and portfolio funding and hedging strategies. For example, our borrowings may react to changes in interest rates sooner than our ARM assets because the weighted average next repricing date of our borrowings may be sooner than that of our ARM assets.
Additionally, interest rates on Traditional ARM assets may be limited to an increase of either 1% or 2% per adjustment period (commonly referred to as the periodic cap), while our borrowings do not have similar limitations. At June 30, 2005, 7.5% of
our ARM assets were Traditional ARM assets subject to periodic caps. Our ARM assets also typically lag changes in the applicable interest rate indices by 45 days, due to the notice period provided to ARM borrowers when the interest rates on their
loans are scheduled to change.



Interest rates can also affect
our net return on Hybrid ARM assets (net of the cost of financing Hybrid ARM assets). We estimate the Effective Duration of our Hybrid ARM assets and have a policy to hedge the financing of the Hybrid ARM assets such that the Net Effective Duration
is less than one year. During a declining interest rate environment, the prepayment of Hybrid ARM assets may accelerate causing the amount of fixed-rate financing to increase relative to the amount of Hybrid ARM assets, possibly resulting in a
decline in our net return on Hybrid ARM assets as replacement Hybrid ARM assets may have lower yields than the ones paying off. In contrast, during a rising interest rate environment, Hybrid ARM assets may prepay slower than expected, requiring us
to finance more Hybrid ARM assets in a higher interest rate environment than was originally anticipated, resulting in a decline in our net return on Hybrid ARM assets. In order to manage our exposure to changes in the prepayment speed of Hybrid ARM
assets, we regularly monitor the balance of Hybrid ARM assets and make adjustments to the amounts anticipated to be outstanding in future periods and, on a regular basis, make adjustments to the amount of our fixed-rate borrowing obligations in
future periods.



Interest rate changes can also affect the
availability and pricing of ARM assets, which affects our investment opportunities. During a rising interest rate environment, there may be less total loan origination and refinance activity, but a larger percentage of ARM products being originated,
mitigating the impact of lower overall loan origination and refinance activity. Conversely, during a declining interest rate environment, consumers, in general, may favor fixed-rate mortgage products, but because there will likely be above average
loan origination and refinancing volume in the industry, even a small percentage of ARM product volume may provide sufficient investment opportunities. Additionally, a flat yield curve may be an adverse environment for ARM products because there may
be little incentive for a consumer to choose an ARM product over a 30 year fixed-rate mortgage loan. Conversely, in a steep yield curve environment, ARM products may enjoy an above average advantage over 30-year fixed-rate mortgage loans, increasing
our investment opportunities. The volume of ARM loans being originated industry-wide can also affect their investment yield. During periods when there is a shortage of ARM products, yields may decline due to market forces and conversely, when there
is an above average supply of ARM products, yields may improve due to the same market forces. To date, regardless of the interest rate environment, we have always been able to find sufficient acquisition and loan origination opportunities at
attractive prices, enabling us to generate positive earnings and grow our portfolio as appropriate.



The prepayment rate on our ARM assets may increase if interest rates decline or if the difference between long-term and short-term interest rates diminishes. An increase in prepayments would
cause us to amortize the premiums paid for our ARM assets faster, resulting in a lower yield on our ARM assets. Additionally, if prepayments proceeds cannot be reinvested in ARM assets having similar yields to those being replaced, our earnings may
be adversely affected. Conversely, the prepayment rate on our ARM assets may decrease if interest rates rise or if the difference between long-term and short-term interest rates increases. Decreased prepayments would cause us to amortize the
premiums paid for our ARM assets over a longer time period, resulting in an increased yield on our ARM assets. Therefore, in rising interest rate environments where prepayments are declining, not only would the interest rate on the ARM portfolio
reset to reflect higher interest rates, but the yield would also rise due to slower prepayments. The combined effect could significantly mitigate other negative effects that rising short-term interest rates might have on earnings.



Lastly, because we invest primarily in ARM assets, and a portion of such
assets are purchased with shareholders equity, our earnings, over time, will tend to increase, after an initial short-term decline, following periods when short-term interest rates have risen, and decrease after an initial short-term increase,
following periods when short-term interest rates have declined. This is because the financed portion of our ARM portfolio will, over time, reprice to a spread over our cost of funds, while the



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portion of our ARM portfolio purchased with shareholders equity will generally have a higher yield
in a higher interest rate environment and a lower yield in a lower interest rate environment.



Taxable income per share



As a REIT, we pay substantially all of our taxable earnings in the form of dividends to shareholders. Therefore, taxable income per share, a non-GAAP financial measurement, is a meaningful measurement for both management and investors. A
reconciliation of our REIT taxable income per common share to GAAP EPS follows:



Reconciliation of REIT Taxable Income Per Share to GAAP EPS



|                                                                        |  |                             |       |   |                           |   |       |      |  |   |       |   |  |   |       |  
|----------------------------------------------------------------------- |  | --------------------------- | ----- | - | ------------------------- | - | ----- | ---- |  | - | ----- | - |  | - | ----- | -
|                                                                        |  | Three Months Ended June 30, |       |   | Six Months Ended June 30, |  
|                                                                        |  | 2005                        |       |   | 2004                      |   |       | 2005 |  |   | 2004  |  
|Taxable income per share                                                |  | $                           | 0.70  |   |                           | $ | 0.73  |      |  | $ | 1.40  |   |  | $ | 1.53  |  
|Gain on purchase loan commitments                                       |  |                             |      |   |                           |   | (0.17 | )    |  |   |      |   |  |   | (0.12 | )
|Payments under long-term incentive plan                                 |  |                             | (0.01 | ) |                           |   |      |      |  |   |      |   |  |   |      |  
|Taxable REIT subsidiary income                                          |  |                             | 0.03  |   |                           |   | 0.01  |      |  |   | 0.06  |   |  |   | 0.02  |  
|Conversion of taxable REIT subsidiary to qualified REIT subsidiary, net |  |                             |      |   |                           |   |      |      |  |   |      |   |  |   | 0.01  |  
|Hedging Instruments, net                                                |  |                             |      |   |                           |   | 0.14  |      |  |   |      |   |  |   | 0.11  |  
|Provision for credit losses, net                                        |  |                             |      |   |                           |   |      |      |  |   | (0.01 | ) |  |   | (0.01 | )
|Long-term incentive plan expense                                        |  |                             | (0.02 | ) |                           |   |      |      |  |   | (0.02 | ) |  |   | (0.05 | )
|Issuance of CDOs                                                        |  |                             |      |   |                           |   |      |      |  |   |      |   |  |   | (0.06 | )
|Other                                                                   |  |                             |      |   |                           |   |      |      |  |   | (0.01 | ) |  |   | (0.02 | )
|                                                                        |  |                             |       |   |                           |   |       |      |  |   |       |   |  |   |       |  
|Earnings per share (basic)                                              |  | $                           | 0.70  |   |                           | $ | 0.71  |      |  | $ | 1.42  |   |  | $ | 1.41  |  
|                                                                        |  |                             |       |   |                           |   |       |      |  |   |       |   |  |   |       |  



We estimate that our
undistributed taxable income as of June 30, 2005, after deducting the second quarter dividend declared on July 21, 2005, was $34.7 million, or $0.34 per share, based on outstanding common shares at June 30, 2005 of 101,544,262.



Other Matters



The Code requires that at least 75% of our total assets must be qualified
REIT assets, as defined by the Code. The Code also requires that we meet a defined 75% source of income test and a 95% source of income test. As of June 30, 2005, we calculated that we were in compliance with all of these requirements. We also met
all REIT requirements regarding the ownership of our Common Stock and the distributions of our net income. Therefore, as of June 30, 2005, we believe that we continued to qualify as a REIT under the provisions of the Code.



We intend to conduct our business so as not to become regulated as an
investment company under the Investment Company Act. If we were to become regulated as an investment company, our use of leverage would be substantially reduced. The Investment Company Act exempts entities that are primarily engaged in the
business of purchasing or otherwise acquiring Qualifying Interests. Under current interpretation of the staff of the SEC, in order to qualify for this exemption, we must maintain at least 55% of our assets directly in Qualifying Interests as
defined in the Code. In addition, unless certain mortgage securities represent all the certificates issued with respect to an underlying pool of mortgages, such mortgage securities may be treated as securities separate from the underlying mortgage
loans and, thus, may not be considered Qualifying Interests for purposes of the 55% requirement. As of June 30, 2005, we calculated that we were in compliance with this requirement.



|Item 3. | QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
|------- | ----------------------------------------------------------



The information called for by Item 3 is incorporated by reference from the information in Part I, Item 2 under the captions
General-Hedging Strategies, Interest Rate Risk Management and Market Risks.



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|Item 4. | CONTROLS AND PROCEDURES
|------- | -----------------------



Our Chief Executive Officer, Chief Operating Officer and Chief Financial Officer, after evaluating the effectiveness of our disclosure
controls and procedures, as defined in Rules 13a-15(e) and 15d-15(e) of the Securities Exchange Act of 1934, as amended, have concluded that, as of the end of the period covered by this report, our disclosure controls and procedures were effective
to provide reasonable assurances that information required to be disclosed in the reports filed or submitted under such Act is recorded, processed, summarized and reported within the time periods specified in the SECs rules and forms. In
addition, during the quarter ended June 30, 2005, there has been no significant change in our internal control over financial reporting that has materially affected, or is reasonably likely to materially affect, our internal control over financial
reporting.



PART II OTHER INFORMATION



|Item 1. | LEGAL PROCEEDINGS
|------- | -----------------



At June 30, 2005, there were no material pending legal proceedings to which we were a party or of which any of our property was subject.



|Item 2. | UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS
|------- | -----------------------------------------------------------



Not applicable



|Item 3. | DEFAULTS UPON SENIOR SECURITIES
|------- | -------------------------------



Not applicable



|Item 4. | SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
|------- | ---------------------------------------------------



| | (a) | Our Annual Meeting of Shareholders was held on April 19, 2005.
| | --- | --------------------------------------------------------------



| | (b) | Election of Class II Directors
| | --- | ------------------------------



|                       |  |            |  |          
|---------------------- |  | ---------- |  | ---------
|                       |  | Votes     
|Nominee                |  | For        |  | Withheld 
|Owen M. Lopez          |  | 83,865,926 |  | 5,534,472
|Francis I. Mullin, III |  | 83,776,849 |  | 5,623,549



|Item 5. | OTHER INFORMATION
|------- | -----------------



None



|Item 6. | EXHIBITS
|------- | --------



See Exhibit Index



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SIGNATURES



Pursuant to the
requirements of the Securities Exchange Act of 1934, the Registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized.



|                      |  |                                                            
|--------------------- |  | -----------------------------------------------------------
|                      |  | THORNBURG MORTGAGE, INC.                                   
|                      |  | (Registrant)                                               
|                      | 
|Dated: August 8, 2005 |  | /s/    GARRETT
THORNBURG                                   
|                      |  | Garrett Thornburg                                          
|                      |  | Chairman of the Board and Chief Executive Officer          
|                      |  | (Principal Executive Officer)                              
|                      | 
|Dated: August 8, 2005 |  | /s/    LARRY A.
GOLDSTONE                                  
|                      |  | Larry A. Goldstone                                         
|                      |  | President and Chief Operating Officer                      
|                      |  | (authorized officer of registrant)                         
|                      | 
|Dated: August 8, 2005 |  | /s/    CLARENCE G. SIMMONS,
III                            
|                      |  | Clarence G. Simmons, III                                   
|                      |  | Senior Executive Vice President and Chief Financial Officer
|                      |  | (Principal Financial and Accounting Officer)               



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Exhibit Index



|               |  |                                                                                                                                                                                       
|-------------- |  | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|Exhibit Number |  | Exhibit Description                                                                                                                                                                   
|31.1           |  | Certification of Chief Executive Officer pursuant to Rule 13a-14(a) and 15d-14(a) of the Securities Exchange Act of 1934*                                                             
|               | 
|31.2           |  | Certification of President and Chief Operating Officer pursuant to Rule 13a-14(a) and 15d-14(a) of the Securities Exchange Act of 1934*                                               
|               | 
|31.3           |  | Certification of Senior Executive Vice President and Chief Financial Officer pursuant to Rule 13a-14(a) and 15d-14(a) of the Securities Exchange Act of
1934*                         
|               | 
|32.1           |  | Certification of Chief Executive Officer pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002*                                    
|               | 
|32.2           |  | Certification of President and Chief Operating Officer pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of
2002*                      
|               | 
|32.3           |  | Certification of Senior Executive Vice President and Chief Financial Officer pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley
Act of 2002*



|* | Being filed herewith.
|- | ---------------------



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GLOSSARY



There follows a
definition of certain capitalized and other terms and abbreviations used in this Quarterly Report on Form 10-Q.



Adjusted Equity-to-Assets Ratio means a ratio that reflects the relationship between assets financed with
recourse debt that is subject to margin calls and our long-term capital position (which includes both equity and Senior Notes). The ratio is a non-GAAP measurement that we have adopted and that the Board of Directors has approved as an internal
policy. Our policy requires us to maintain this ratio at a minimum of 8%, which represents approximately twice the initial margin requirement for our recourse debt.



Agency Securities means ARM securities that are guaranteed by Ginnie Mae,
Fannie Mae or Freddie Mac.



Agent means American Stock Transfer & Trust Company, TMAs transfer agent.



ARM means adjustable-rate and variable-rate mortgage, which signifies that adjustments of the underlying
interest rate are made at predetermined times based on an agreed margin to an established index.



ARM Loans means securitized ARM loans, ARM loans collateralizing CDOs and ARM loans held for securitization.



Asset-backed CP
means asset-backed commercial paper, which provides an alternative way to finance our high quality ARM securities portfolio. We issue Asset-backed CP to investors in the form of secured liquidity notes that are recorded as borrowings on our
Consolidated Balance Sheets and are rated P-1 by Moodys Investors Service and F1+ by Fitch Ratings.



Average Historical Equity means for any period the difference between our total assets and total liabilities
calculated on a consolidated basis in accordance with GAAP, excluding (i) OCI, (ii) goodwill and (iii) other intangibles, computed by taking the average of such values at the end of each month during such period, adjusted for equity sold during the
period on a pro rata basis.



Average Net Worth means for any period the average of the sum of the gross proceeds from any offering of our equity securities, before deducting any underwriting discounts and commissions and other expenses and costs relating to
the offering, plus our retained earnings (without taking into account any losses incurred in prior periods) computed by taking the average of such values at the end of each month during such period, and shall be reduced by any amount that we pay for
the repurchases of Common Stock.



Board of Directors means the board of directors of TMA.



BP means basis point, a hundredth of a percent.



Cap Agreements means interest rate cap agreements, pursuant to which we receive cash payments if the interest
rate index specified in any such agreement increases above contractually specified levels, thus effectively capping the interest rate on a specified amount of borrowings at a level specified by the agreement.



CDOs means collateralized debt
obligations, which can be either floating-rate or fixed-rate non-recourse financing, all of which is issued by trusts and secured by ARM loans and may also include Hedging Instruments. CDOs represent long-term financing that is not subject to margin
calls. Approximately 2% of equity capital is required to support CDO financing.



CMOs means collateralized mortgage obligations which are debt obligations ordinarily issued in series and backed by a pool of fixed-rate mortgage loans, Hybrid ARM loans, Traditional
ARM loans or ARM securities, each of which consists of several serially maturing classes. Generally, principal and interest payments received on the underlying mortgage-related assets securing a series of CMOs are applied to principal and interest
due on one or more classes of the CMOs of such series.



Code means the Internal Revenue Code of 1986, as amended.



Code of Conduct means the Code of Business Conduct and Ethics adopted by TMA.



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Common Stock means shares of TMAs common stock, $.01
par value per share.



Company means TMA and its subsidiaries, unless specifically stated otherwise or the context indicates otherwise.



Corporate Governance Guidelines means the Corporate Governance Guidelines adopted by TMA.



CPR means constant prepayment
rate, which refers to the annualized rate at which the mortgage assets in our portfolio are prepaid. The CPR typically increases as interest rates decrease and, conversely, the CPR typically decreases as interest rates increase.



Derivative means a contract or
agreement whose value is derived from changes in interest rates, prices of securities or commodities, or financial or commodity indices. The Companys Derivatives include commitments to purchase loans from correspondent and bulk sellers,
Pipeline Hedging Instruments and Hybrid ARM Hedging Instruments.



DERs means dividend equivalent rights, which may be granted under the Plan. A DER consists of the right to receive either cash or PSRs in an amount equal to the value of the cash
dividends paid on a share of Common Stock.



DRSPP means the Dividend Reinvestment and Stock Purchase Plan adopted by TMA.



Effective Duration is a calculation expressed in months or years that is a measure of the expected price
change of financial instruments based on changes in interest rates. For example, a duration of 4.4 months implies that a 1% change in interest rates would cause a .37% change in the opposite direction in the value of our portfolio (i.e., 4.4 months
equals 37% of twelve months.)



EITF means Emerging Issues Task Force Abstract which is an authoritative GAAP pronouncement issued by the FASB.



EPS means earnings per share calculated by dividing net income available to common shareholders by the
average common shares outstanding during the period.



Eurodollar Transactions means Eurodollar futures contracts, which are three month contracts with a price that represents the forecasted three-month LIBOR rate. The sale of these contracts locks in a future
interest rate.



Fannie
Mae means the Federal National Mortgage Association, a government-sponsored private corporation that operates under a federal charter.



FASB means the Financial Accounting Standards Board.



Federal Funds means the
overnight intrabank lending rate.



FICO means a credit score, ranging from 300 to 850, with 850 being the best score, based upon the credit evaluation methodology developed by Fair, Isaac and Company, a consulting firm specializing in creating credit evaluation
models.



FIN means
Financial Accounting Standards Board Interpretation.



Freddie Mac means the Federal Home Loan Mortgage Corporation, a federally-chartered private corporation.



Fully Indexed means an ARM asset that has an interest rate currently equal to its applicable index plus a
margin to the index that is specified by the terms of the ARM asset.



G & A means general and administrative.



GAAP means generally accepted accounting principles set forth in the statements, opinions and pronouncements
of the Accounting Principles Board of the American Institute of Certified Public Accountants and the FASB or in such other



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statements by such other entity as may be approved by a significant segment of the accounting profession of the United States.



Ginnie Mae means the Government
National Mortgage Association, a government-owned corporation within the United States Department of Housing and Urban Development.



Hedging Instruments means Cap Agreements, Swap Agreements and Eurodollar Transactions which are Derivatives
that we use to manage our interest rate exposure when financing the purchase of ARM assets.



High Quality means (i) Agency Securities, (ii) ARM securities and securitized ARM loans which are rated
within one of the two highest rating categories by at least one of the Rating Agencies, (iii) ARM securities and securitized loans that are unrated or whose ratings have not been updated but are determined to be of comparable quality (by the rating
standards of at least one of the Rating Agencies) to a High Quality-rated mortgage security, as determined by the Manager and approved by the Board of Directors, or (iv) the portion of ARM loans that have been deposited into a trust and have
received a credit rating of AA or better from at least one Rating Agency. Our investment policy requires that we invest at least 70% of total assets in High Quality ARM assets and short-term investments.



Hybrid ARM Hedging Instruments
means Hedging Instruments, including Swap Agreements, Eurodollar Transactions and Cap Agreements, that we use to manage our interest rate exposure when financing the purchase of Hybrid ARMs.



Hybrid ARMs means ARM securities
and loans that have a fixed interest rate for an initial period of three to ten years, after which they convert to Traditional ARMs for their remaining terms to maturity.



Insider Trading Policy means the Insider Trading Policy adopted by TMA.



Investment Company
Act means the Investment Company Act of 1940, as amended.



Investment Grade generally means a security rating of BBB or better by Standard & Poors Corporation or Baa or better by Moodys Investors Service, Inc.



IRA means Individual Retirement
Account.



LIBOR
means the London InterBank Offer Rate, which is fixed each morning at 11 a.m. London time, by the British Bankers Association. The rate is an average derived from sixteen quotations provided by banks determined by the British Bankers
Association, the four highest and lowest are then eliminated and an average of the remaining eight is calculated to arrive at the fixed rate.



Liquidity Management Policy means the Liquidity Management Policy adopted by TMA.



Management Agreement means the
management agreement by and between TMA and the Manager whereby the Manager performs certain services for TMA in exchange for certain fees.



Manager means Thornburg Mortgage Advisory Corporation, a Delaware corporation.



MBA means the Mortgage Bankers
Association.



MBS
means mortgage-backed securities, which are pools of mortgages used as collateral for the issuance of securities in the secondary market. MBS are commonly referred to as pass-through certificates because the principal and interest of the
underlying loans is passed through to investors. The interest rate of the security is lower than the interest rate of the underlying loan to allow for payment of servicing and guaranty fees.



MSRs means mortgage servicing
rights.



Net Effective
Duration means the Effective Duration of ARM assets minus the Effective Duration of borrowings and Hedging Instruments.



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OCI means the Companys accumulated other comprehensive
income or loss calculated on a consolidated basis in accordance with GAAP.



Other Investments means assets that are (i) adjustable or variable rate pass-through certificates, multi-class pass-through certificates or CMOs backed by loans that are rated at
least Investment Grade at the time of purchase, (ii) ARM loans collateralized by first liens on single-family residential properties, generally underwritten to A quality standards and acquired for the purpose of future securitization,
(iii) fixed-rate mortgage loans collateralized by first liens on single-family residential properties originated for sale to third parties, (iv) real estate properties acquired as a result of foreclosing on our ARM Loans, or (v) as authorized by the
Board of Directors, ARM securities rated less than Investment Grade that are created as a result of our loan acquisition and securitization efforts or are acquired as part of a loan securitization effected by third parties in which we purchase all
of the classes of the loan securitization, and that equal an amount no greater than 17.5% of shareholders equity, measured on a historical cost basis. Other Investments may not comprise more than 30% of our total assets.



Pipeline Hedging Instruments
means Eurodollar Transactions that we use to limit interest rate risk associated with commitments to purchase ARM loans.



Plan means TMAs Amended and Restated 2002 Long-Term Incentive Plan, as amended.



Preferred Stock means the 8%
Series C Cumulative Redeemable Preferred Stock issued by TMA.



Portfolio Margin means yield on net interest earning assets.



PSRs means phantom stock rights, which may be granted under the Plan. A PSR consists of (i) the unfunded
deferred obligation of TMA to pay the recipient of a PSR, upon exercise, an amount of cash equal to the fair market value of a share of Common Stock at the time of exercise, and (ii) the recipients right to receive distributions, either in the
form of cash or additional PSRs, in an amount equal to the value of the cash dividends that are paid on a share of Common Stock.



QSPE means qualifying special purpose entity.



Qualified REIT Assets means real estate assets as defined by the Code.
Substantially all the assets that we have acquired and will acquire for investment are expected to be Qualified REIT Assets.



Qualifying Interests means mortgages and other liens on and interests in real estate, as defined
in Section 3(c)(5)(C) under the Investment Company Act. Under current SEC staff interpretations, we must maintain at least 55% of our assets directly in Qualifying Interests as defined in the Code.



Rating Agencies means Standard
& Poors Corporation and Moodys Investors Service, Inc.



REIT means real estate investment trust as defined in the Code.



REMIC means real estate mortgage investment conduit which is an entity that holds a fixed pool of mortgages
and issues multiple classes of interests in itself to investors as defined in the Code.



Return on Equity or ROE means for any quarter the quotient obtained by dividing our annualized
net income for the quarter by our Average Net Worth for the quarter.



SEC means the United States Securities and Exchange Commission.



Senior Notes means the 8% senior unsecured notes due May 15, 2013, issued by TMA.



SFAS means Statement of
Financial Accounting Standards which is an authoritative GAAP pronouncement issued by the FASB.



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SPE means special purpose entity.



Swap Agreements means interest
rate swap agreements, pursuant to which we agree to pay a fixed rate of interest and to receive a variable interest rate, thus effectively fixing the cost of funds.



Ten Year U.S. Treasury Rate means the arithmetic average of the weekly average
yield to maturity for actively traded current coupon U.S. Treasury fixed interest rate securities (adjusted to a constant maturity of ten years) published by the Federal Reserve Board during a quarter, or, if such rate is not published by the
Federal Reserve Board, any Federal Reserve Bank or agency or department of the federal government that we select. If we determine in good faith that the Ten Year U.S. Treasury Rate cannot be calculated as provided above, then the rate shall be the
arithmetic average of the per annum average yields to maturities, based upon closing asked prices on each business day during a quarter, for each actively traded marketable U.S. Treasury fixed interest rate security with a final maturity date not
less than eight nor more than twelve years from the date of the closing asked prices as chosen and quoted for each business day in each such quarter in New York City by at least three recognized dealers in U.S. Government securities that we select.



TMA means
Thornburg Mortgage, Inc., a Maryland corporation.



TMCR means Thornburg Mortgage Capital Resources, LLC, a wholly-owned special purpose finance subsidiary of TMD.



TMD means Thornburg Mortgage Depositor, LLC, a wholly-owned special purpose finance subsidiary of TMA.



TMHL means
Thornburg Mortgage Home Loans, Inc., a wholly-owned mortgage loan origination subsidiary of TMA.



Traditional ARMs means ARM securities and loans that have interest rates that reprice in a year or less.



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