----

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**UNITED      STATES**

**SECURITIES      AND EXCHANGE COMMISSION**

**Washington,      DC 20549**

**FORM      10-Q**

**Quarterly      Report Pursuant to Section 13 or 15(d) of the**

**Securities      Exchange Act of 1934**

**For      the quarterly period September 30, 2006**

**Transition      Report Pursuant to Section 13 or 15(d) of the**

**Securities      Exchange Act of 1934**

| **Commission                File Number: 1-9819** |
|---------------------------------------------------|

**DYNEX      CAPITAL, INC.**

**(Exact      name of registrant as specified in its charter)**

| **Virginia**                                                                                                              | **52-1549373**                     |
|---------------------------------------------------------------------------------------------------------------------------|------------------------------------|
| (State                or other jurisdiction of                                                                            | (I.R.S.                Employer    |
| incorporation                or organization)                                                                             | Identification                No.) |
|                                                                                                                      |                               |
| **4551                Cox Road, Suite 300, Glen Allen, Virginia**                                                         | **23060-6740**                     |
| (Address                of principal executive offices)                                                                   | (Zip                Code)          |
|                                                                                                                      |                               |
| **(804)                217-5800**(Registrant’s                telephone number, including area                code) |

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**DYNEX      CAPITAL, INC.**

**FORM      10-Q**

**INDEX**

|                    |                                 |                                                                                                                                                                                                             | Page   |
|-------------------------|--------------------------------------|------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|--------|
| PART                I.  | FINANCIAL                INFORMATION |                                                                                                                                                                                                             |
|                    |                                 |                                                                                                                                                                                                             |   |
|                    | Item                1.               | Financial                Statements                                                                                                                                                                              |   |
|                    |                                 |                                                                                                                                                                                                             |   |
|                    |                                 | Condensed                Consolidated Balance Sheets at September 30, 2006 (unaudited) and                December                31, 2005                                                                       | 1      |
|                    |                                 |                                                                                                                                                                                                             |   |
|                    |                                 | Condensed                Consolidated Statements of Operations and Comprehensive Income for                the                three and nine months ended September 30, 2006 and 2005                (unaudited) | 2      |
|                    |                                 |                                                                                                                                                                                                             |   |
|                    |                                 | Condensed                Consolidated Statements of Cash Flows for the nine months ended September                30, 2006 and 2005 (unaudited)                                                                  | 3      |
|                    |                                 |                                                                                                                                                                                                             |   |
|                    |                                 | Notes                to Condensed Consolidated Financial Statements                (unaudited)                                                                                                                   | 4      |
|                    |                                 |                                                                                                                                                                                                             |   |
|                    | Item                2.               | Management’s                Discussion and Analysis of Financial Condition and Results of                Operations                                                                                        | 13     |
|                    |                                 |                                                                                                                                                                                                             |   |
|                    | Item                3.               | Quantitative                and Qualitative Disclosures about Market Risk                                                                                                                                        | 30     |
|                    |                                 |                                                                                                                                                                                                             |   |
|                    | Item                4.               | Controls                and Procedures                                                                                                                                                                           | 32     |
|                    |                                 |                                                                                                                                                                                                             |   |
| PART                II. | OTHER                INFORMATION     |                                                                                                                                                                                                             |
|                    |                                 |                                                                                                                                                                                                             |   |
|                    | Item                1.               | Legal                Proceedings                                                                                                                                                                            | 32     |
|                    |                                 |                                                                                                                                                                                                             |   |
|                    | Item                1A.              | Risk                Factors                                                                                                                                                                                      | 33     |
|                    |                                 |                                                                                                                                                                                                             |   |
|                    | Item                2.               | Unregistered                Sales of Equity Securities and Use of Proceeds                                                                                                                                       | 33     |
|                    |                                 |                                                                                                                                                                                                             |   |
|                    | Item                3.               | Defaults                Upon Senior Securities                                                                                                                                                                   | 34     |
|                    |                                 |                                                                                                                                                                                                             |   |
|                    | Item                4.               | Submission                of Matters to a Vote of Security Holders                                                                                                                                               | 34     |
|                    |                                 |                                                                                                                                                                                                             |   |
|                    | Item                5.               | Other                Information                                                                                                                                                                                 | 34     |
|                    |                                 |                                                                                                                                                                                                             |   |
|                    | Item                6.               | Exhibits                                                                                                                                                                                                         | 34     |
|                    |                                 |                                                                                                                                                                                                             |   |
| Signature               | 35                                   |

----

**PART      I. FINANCIAL INFORMATION**

**Item      1. Finan****c****ial      Statements**

**DYNEX      CAPITAL, INC.**

**CONDENS****E****D      CONSOLIDATED**

**BALA****N****CE      SHEETS****      (UNAUDITED)**

|                                                                                                    |   | September                30, |     | December                31, |   |
|---------------------------------------------------------------------------------------------------------|--------|------------------------------|----------|-----------------------------|--------|
|                                                                                                    |   | 2006                         |     | 2005                        |   |
| ASSETS                                                                                                  |   |                         |     |                        |   |
| Cash                and cash equivalents                                                                |   | $                            | 52,285   |                        | $      | 45,235 |   |
| Securitized                finance receivables, net                                                     |   |                         | 362,629  |                        |   | 722,152 |   |
| Securities                                                                                              |   |                         | 14,968   |                        |   | 24,908 |   |
| Other                investments                                                                        |   |                         | 3,069    |                        |   | 4,067 |   |
| Other                mortgage loans                                                                     |   |                         | 4,289    |                        |   | 5,282 |   |
| Investment                in joint venture                                                              |   |                         | 36,618   |                        |   | - |   |
| Other                assets                                                                             |   |                         | 5,817    |                        |   | 4,332 |   |
|                                                                                                    |   |                         |     |                        |   |   |   |
|                                                                                                    |   | $                            | 479,675  |                        | $      | 805,976 |   |
|                                                                                                    |   |                         |     |                        |   |   |   |
| LIABILITIES                AND SHAREHOLDERS' EQUITY                                                     |   |                         |     |                        |   |   |   |
| LIABILITIES                                                                                             |   |                         |     |                        |   |   |   |
| Securitization                financing:                                                                |   |                         |     |                        |   |   |   |
| Non-recourse                securitization financing                                                    |   | $                            | 219,050  |                        | $      | 516,578 |   |
| Repurchase                agreements secured by securitization financing                                |   |                         | 103,253  |                        |   | 133,104 |   |
| Repurchase                agreements secured by securities                                              |   |                         | -        |                        |   | 211 |   |
| Obligation                under payment agreement                                                       |   |                         | 16,369   |                        |   | - |   |
| Other                liabilities                                                                        |   |                         | 5,982    |                        |   | 6,749 |   |
|                                                                                                    |   |                         | 344,654  |                        |   | 656,642 |   |
|                                                                                                    |   |                         |     |                        |   |   |   |
| Commitments                and Contingencies (Note 12)                                                  |   |                         |     |                        |   |   |   |
|                                                                                                    |   |                         |     |                        |   |   |   |
| SHAREHOLDERS'                EQUITY                                                                     |   |                         |     |                        |   |   |   |
| Preferred                stock, par value $0.01 per share, 50,000,000 shares                authorized, |   |                         |     |                        |   |   |   |
| 9.5%                Cumulative Convertible Series D,                                                    |   |                         |     |                        |   |   |   |
| 4,221,539                and 5,628,737 shares issued and outstanding, respectively,                     |   |                         |     |                        |   |   |   |
| ($43,218                and $57,624 aggregate liquidation                                               |   |                         |     |                        |   |   |   |
| preference,                respectively)                                                                |   |                         | 41,749   |                        |   | 55,666 |   |
| Common                stock, par value $0.01 per share, 100,000,000 shares                authorized,   |   |                         |     |                        |   |   |   |
| 12,131,262                and 12,163,391 shares issued and outstanding, respectively                    |   |                         | 121      |                        |   | 122 |   |
| Additional                paid-in capital                                                               |   |                         | 366,637  |                        |   | 366,903 |   |
| Accumulated                other comprehensive income                                                   |   |                         | 440      |                        |   | 140 |   |
| Accumulated                deficit                                                                      |   |                         | (273,926 | )                           |   | (273,497 | ) |
|                                                                                                    |   |                         | 135,021  |                        |   | 149,334 |   |
|                                                                                                    |   |                         |     |                        |   |   |   |
|                                                                                                    |   | $                            | 479,675  |                        | $      | 805,976 |   |
|                                                                                                    |   |                         |     |                        |   |   |   |
|                                                                                                    |   |                         |     |                        |   |   |   |
| *See                notes to unaudited condensed consolidated financial                statements.*     |   |                         |     |                        |   |   |   |

----

**DYNEX      CAPITAL, INC.**

**COND****E****N****S****E****D**** ****C****O****NSOLIDATED      STATEMENTS**

**OF      OPERATIONS AND COMPREHENSIVE INCOM****E**** ****(UNAUDITED)**

*(amounts      in thousands except share and per share data)*

|                                                                                                |   | Three                Months Ended |   | Nine                Months Ended |   |
|-----------------------------------------------------------------------------------------------------|--------|-----------------------------------|--------|----------------------------------|--------|
|                                                                                                |   | September                30,      |   | September                30,     |   |
|                                                                                                |   | 2006                              |   | 2005                             |   | 2006 |   | 2005 |   |
| Interest                income:                                                                     |   |                              |   |                             |   |   |   |   |   |
| Securitized                finance receivables                                                      |   | $                                 | 11,863 |                             | $      | 14,470 |   | $ | 38,888 |   | $ | 53,394 |   |
| Securities                                                                                          |   |                              | 330    |                             |   | 974 |   |   | 1,303 |   |   | 3,038 |   |
| Other                investments                                                                    |   |                              | 613    |                             |   | 124 |   |   | 1,303 |   |   | 1,255 |   |
| Other                loans                                                                          |   |                              | 194    |                             |   | 149 |   |   | 464 |   |   | 616 |   |
|                                                                                                |   |                              | 13,000 |                             |   | 15,717 |   |   | 41,958 |   |   | 58,303 |   |
|                                                                                                |   |                              |   |                             |   |   |   |   |   |   |   |   |   |
| Interest                and related expenses:                                                       |   |                              |   |                             |   |   |   |   |   |   |   |   |   |
| Non-recourse                securitization financing                                                |   |                              | 8,236  |                             |   | 12,716 |   |   | 29,425 |   |   | 47,226 |   |
| Repurchase                agreements                                                                |   |                              | 1,533  |                             |   | 365 |   |   | 4,567 |   |   | 1,256 |   |
| Obligation                under payment agreement                                                   |   |                              | 121    |                             |   | - |   |   | 121 |   |   | - |   |
| Other                                                                                               |   |                              | (59    | )                                |   | 22 |   |   | (155 | ) |   | 18 |   |
|                                                                                                |   |                              | 9,831  |                             |   | 13,103 |   |   | 33,958 |   |   | 48,500 |   |
|                                                                                                |   |                              |   |                             |   |   |   |   |   |   |   |   |   |
| Net                interest income                                                                  |   |                              | 3,169  |                             |   | 2,614 |   |   | 8,000 |   |   | 9,803 |   |
| (Provision                for) recapture of loan losses                                             |   |                              | (67    | )                                |   | (1,622 | ) |   | 52 |   |   | (4,547 | ) |
|                                                                                                |   |                              |   |                             |   |   |   |   |   |   |   |   |   |
| Net                interest income after provision for loan losses                                  |   |                              | 3,102  |                             |   | 992 |   |   | 8,052 |   |   | 5,256 |   |
|                                                                                                |   |                              |   |                             |   |   |   |   |   |   |   |   |   |
| Equity                in loss of joint venture                                                      |   |                              | (1,661 | )                                |   | - |   |   | (1,661 | ) |   | - |   |
| Loss                on capitalization of joint venture                                              |   |                              | (1,194 | )                                |   | - |   |   | (1,194 | ) |   | - |   |
| Gain                (loss) on sale of investments, net                                              |   |                              | 85     |                             |   | (48 | ) |   | 226 |   |   | 9,802 |   |
| Impairment                charges                                                                   |   |                              | -      |                             |   | (207 | ) |   | - |   |   | (2,259 | ) |
| Other                income (expense)                                                               |   |                              | 433    |                             |   | (1,026 | ) |   | 662 |   |   | 331 |   |
| General                and administrative expenses                                                  |   |                              | (980   | )                                |   | (1,610 | ) |   | (3,473 | ) |   | (4,500 | ) |
|                                                                                                |   |                              |   |                             |   |   |   |   |   |   |   |   |   |
| Net                (loss) income                                                                    |   |                              | (215   | )                                |   | (1,899 | ) |   | 2,612 |   |   | 8,630 |   |
| Preferred                stock charge                                                               |   |                              | (1,003 | )                                |   | (1,336 | ) |   | (3,041 | ) |   | (4,010 | ) |
|                                                                                                |   |                              |   |                             |   |   |   |   |   |   |   |   |   |
| Net                (loss) income to common shareholders                                             |   | $                                 | (1,218 | )                                | $      | (3,235 | ) | $ | (429 | ) | $ | 4,620 |   |
|                                                                                                |   |                              |   |                             |   |   |   |   |   |   |   |   |   |
| Change                in net unrealized gain/(loss) on:                                             |   |                              |   |                             |   |   |   |   |   |   |   |   |   |
| Investments                classified as available-for-sale                                         |   |                              | (148   | )                                |   | (116 | ) |   | 300 |   |   | (4,464 | ) |
| Hedge                instruments                                                                    |   |                              | -      |                             |   | 21 |   |   | - |   |   | 605 |   |
|                                                                                                |   |                              |   |                             |   |   |   |   |   |   |   |   |   |
| Comprehensive                (loss) income                                                          |   | $                                 | (363   | )                                | $      | (1,994 | ) | $ | 2,912 |   | $ | 4,771 |   |
|                                                                                                |   |                              |   |                             |   |   |   |   |   |   |   |   |   |
| Net                (loss) income per common share:                                                  |   |                              |   |                             |   |   |   |   |   |   |   |   |   |
| Basic                and diluted                                                                    |   | $                                 | (0.10  | )                                | $      | (0.27 | ) | $ | (0.04 | ) | $ | 0.38 |   |
|                                                                                                |   |                              |   |                             |   |   |   |   |   |   |   |   |   |
|                                                                                                |   |                              |   |                             |   |   |
| *See                notes to unaudited condensed consolidated financial                statements.* |   |                              |   |                             |   |   |

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**DYNEX      CAPITAL, INC.**

**C****O****NDENS****E****D      CON****S****OLIDATED      STATEMENTS**

**OF      CAS****H****FLOWS**** **
**(UNAUDITED)**

*(amounts      in thousands)*

|                                                                                                |   | Nine                Months Ended |    |
|-----------------------------------------------------------------------------------------------------|--------|----------------------------------|---------|
|                                                                                                |   | September                30,     |    |
|                                                                                                |   | 2006                             |    | 2005 |   |
| Operating                activities:                                                                |   |                             |    |   |   |
| Net                income                                                                           |   | $                                | 2,612   |   | $ | 8,630 |   |
| Adjustments                to reconcile net income to cash                                          |   |                             |    |   |   |   |   |
| provided                by operating activities:                                                    |   |                             |    |   |   |   |   |
| (Recapture                of) provision for loan loss                                               |   |                             | (52     | ) |   | 4,547 |   |
| Equity                in loss of joint venture                                                      |   |                             | 1,661   |   |   |   |   |
| Impairment                charges                                                                   |   |                             | -       |   |   | 2,259 |   |
| Loss                on capitalization of joint venture                                              |   |                             | 1,194   |   |   | - |   |
| Gain                on sale of investments                                                          |   |                             | (226    | ) |   | (9,802 | ) |
| Amortization                and depreciation                                                        |   |                             | 246     |   |   | 1,425 |   |
| Compensation                expense for stock options                                               |   |                             | 104     |   |   | - |   |
| Net                change in other assets and other liabilities                                     |   |                             | (576    | ) |   | 164 |   |
| Net                cash and cash equivalents provided by operating activities                       |   |                             | 4,963   |   |   | 7,223 |   |
|                                                                                                |   |                             |    |   |   |   |   |
|                                                                                                |   |                             |    |   |   |   |   |
| Investing                activities:                                                                |   |                             |    |   |   |   |   |
| Principal                payments received on investments                                           |   |                             | 77,776  |   |   | 106,593 |   |
| Purchase                of securities and other investments                                         |   |                             | (17,221 | ) |   | (45,572 | ) |
| Payments                received on securities, other investments and loans                         |   |                             | 27,816  |   |   | 51,767 |   |
| Proceeds                from sales of securities and other investments                              |   |                             | 2,129   |   |   | 20,297 |   |
| Other                                                                                               |   |                             | 886     |   |   | 171 |   |
| Net                cash and cash equivalents provided by investing activities                       |   |                             | 91,386  |   |   | 133,256 |   |
|                                                                                                |   |                             |    |   |   |   |   |
| Financing                activities:                                                                |   |                             |    |   |   |   |   |
| Principal                payments on non-recourse securitization financing                          |   |                             | (41,573 | ) |   | (81,309 | ) |
| Net                (repayment of) borrowings under repurchase agreement                             |   |                             | (30,062 | ) |   | 107,185 |   |
| Redemption                of securitization financing bonds                                         |   |                             | -       |   |   | (195,653 | ) |
| Retirement                of common stock                                                           |   |                             | (216    | ) |   | - |   |
| Retirement                of preferred stock                                                        |   |                             | (14,072 | ) |   | - |   |
| Dividends                paid                                                                       |   |                             | (3,376  | ) |   | (4,010 | ) |
| Net                cash and cash equivalents used for financing activities                          |   |                             | (89,299 | ) |   | (173,787 | ) |
| Net                increase (decrease) in cash and cash equivalents                                 |   |                             | 7,050   |   |   | (33,308 | ) |
| Cash                and cash equivalents at beginning of period                                     |   |                             | 45,235  |   |   | 52,522 |   |
| Cash                and cash equivalents at end of period                                           |   | $                                | 52,285  |   | $ | 19,214 |   |
|                                                                                                |   |                             |    |   |   |   |   |
| Supplemental                information:                                                            |   |                             |    |   |   |   |   |
| Interest                paid during the period                                                      |   |                             | 35,383  |   |   | 48,189 |   |
| Non-cash                transactions:                                                               |   |                             |    |   |   |   |   |
| Acquisition                of investment in joint venture                                           |   |                             | 38,248  |   |   | - |   |
|                                                                                                |   |                             |    |   |   |   |   |
|                                                                                                |   |                             |    |   |   |   |   |
| *See                notes to unaudited condensed consolidated financial                statements.* |   |                             |    |   |   |   |   |

----

**DYNEX      CAPITAL, INC.**

**NOTES      T****O****CONDENSED CONSOLIDATED FINANCIAL STATEMENTS****      (UNAUDITED)**

*(amounts      in thousands except share and per share data)*

**NOTE      1 - BASIS OF PRESENTATION**

----

**NOTE      2 - NET INCOME PER COMMON SHARE**

|                                                                                                                                 |   | Three                Months Ended September 30, |   | Nine                Months Ended September 30, |   |
|--------------------------------------------------------------------------------------------------------------------------------------|--------|-------------------------------------------------|--------|------------------------------------------------|--------|
|                                                                                                                                 |   | 2006                                            |   | 2005                                           |   | 2006 |   | 2005 |   |
|                                                                                                                                 |   | Income                                          |   | Weighted-AverageNumberOf                Shares |   | Income |   | Weighted-AverageNumberOf                Shares |   | Income |   | Weighted-AverageNumberOf                Shares |   | Income |   | Weighted-AverageNumberOf                Shares |   |
| Net                (loss) income                                                                                                     |   | $                                               | (215   | )                                              |   |   |   | $ | (1,899 | ) |   |   |   | $ | 2,612 |   |   |   |   | $ | 8,630 |   |   |   |   |
| Preferred                stock charge                                                                                                |   |                                            | (1,003 | )                                              |   |   |   |   | (1,336 | ) |   |   |   |   | (3,041 | ) |   |   |   |   | (4,010 | ) |   |   |   |
| Net                (loss) income to common shareholders                                                                              |   | $                                               | (1,218 | )                                              |   | 12,130,836 |   | $ | (3,235 | ) |   | 12,163,391 |   | $ | (429 | ) |   | 12,143,549 |   | $ | 4,620 |   |   | 12,162,951 |   |
|                                                                                                                                 |   |                                            |   |                                           |   |   |   |   |   |   |   |   |   |   |   |   |   |   |   |   |   |   |   |   |   |
| Net                (loss) income per share:                                                                                          |   |                                            |   |                                           |   |   |   |   |   |   |   |   |   |   |   |   |   |   |   |   |   |   |   |   |   |
| Basic                and diluted                                                                                                     |   |                                            |   |                                           | $      | (0.10 | ) |   |   |   | $ | (0.27 | ) |   |   |   | $ | (0.04 | ) |   |   |   | $ | 0.38 |   |
|                                                                                                                                 |   |                                            |   |                                           |   |   |   |   |   |   |   |   |   |   |   |   |   |   |   |   |   |   |   |   |   |
| Reconciliation                of shares not included in calculation of earnings per share due to                anti-dilutive effect |
| Series                D preferred stock                                                                                              |   | $                                               | 1,003  |                                           |   | 4,221,539 |   | $ | (1,336 | ) |   | 5,628,737 |   | $ | 3,041 |   |   | 4,267,930 |   | $ | (4,010 | ) |   | 5,628,737 |   |
| Expense                and incremental shares of stock appreciation rights                                                           |   |                                            | -      |                                           |   | (63,902 | ) |   | - |   |   | - |   |   | - |   |   | (70,615 | ) |   | - |   |   | 86 |   |
|                                                                                                                                 |   | $                                               | 1,003  |                                           |   | 4,157,637 |   | $ | (1,336 | ) |   | 5,628,737 |   | $ | 3,041 |   |   | 4,197,315 |   | $ | (4,010 | ) |   | 5,628,823 |   |

**NOTE      3 - SECURITIZED FINANCE RECEIVABLES**

|                                                                       |   | September                30,2006 |    | December                31, 2005 |   |
|----------------------------------------------------------------------------|--------|----------------------------------|---------|----------------------------------|--------|
| Collateral:                                                                |   |                             |    |                             |   |
| Commercial                mortgage loans                                   |   | $                                | 232,118 |                             | $      | 570,199 |   |
| Single-family                mortgage loans                                |   |                             | 125,621 |                             |   | 161,058 |   |
|                                                                       |   |                             | 357,739 |                             |   | 731,257 |   |
| Funds                held by trustees, including funds held for defeasance |   |                             | 7,404   |                             |   | 6,648 |   |
| Accrued                interest receivable                                 |   |                             | 2,430   |                             |   | 5,114 |   |
| Unamortized                discounts and premiums, net                     |   |                             | (455    | )                                |   | (1,832 | ) |
| Loans,                at amortized cost                                    |   |                             | 367,118 |                             |   | 741,187 |   |
| Allowance                for loan losses                                   |   |                             | (4,489  | )                                |   | (19,035 | ) |
|                                                                       |   | $                                | 362,629 |                             | $      | 722,152 |   |

----

**NOTE      4 - ALLOWANCE FOR LOAN LOSSES**

|                                                    |   | Three                Months Ended September                30, |    | Nine                Months Ended September                30, |   |
|---------------------------------------------------------|--------|----------------------------------------------------------------|---------|---------------------------------------------------------------|--------|
|                                                    |   | 2006                                                           |    | 2005                                                          |   | 2006 |   | 2005 |   |
| Allowance                at beginning of period         |   | $                                                              | 14,869  |                                                          | $      | 16,536 |   | $ | 19,035 |   | $ | 28,014 |   |
| Provision                for (recapture of) loan losses |   |                                                           | 67      |                                                          |   | 1,622 |   |   | (52 | ) |   | 4,547 |   |
| Charge-offs,                net of recoveries           |   |                                                           | (94     | )                                                             |   | (357 | ) |   | (4,141 | ) |   | (3,450 | ) |
| Portfolio                sold/transferred               |   |                                                           | (10,353 | )                                                             |   | - |   |   | (10,353 | ) |   | (11,310 | ) |
| Allowance                at end of period               |   | $                                                              | 4,489   |                                                          | $      | 17,801 |   | $ | 4,489 |   | $ | 17,801 |   |

**NOTE      5 - OTHER INVESTMENTS**

|                                                         |   | September                30,2006 |   | December                31,2005 |   |
|--------------------------------------------------------------|--------|----------------------------------|--------|---------------------------------|--------|
| Delinquent                property tax receivable securities |   | $                                | 2,528  |                            | $      | 3,220 |   |
| Real                estate owned                             |   |                             | 541    |                            |   | 847 |   |
|                                                         |   | $                                | 3,069  |                            | $      | 4,067 |   |

----

**NOTE      6 - SECURITIES**

|                                           |   | **September                30, 2006** |   | **December                31, 2005**       |   |
|------------------------------------------------|--------|---------------------------------------|--------|--------------------------------------------|--------|
|                                           |   | **Fair****Value**                     |   | **Effective                Interest Rate** |   | **Fair****Value** |   | **Effective                Interest Rate** |   |
| Securities,                available-for-sale: |   |                                  |   |                                       |   |   |   |   |   |
| Fixed-rate                mortgage securities  |   | $                                     | 12,246 |                                       |   | 7.27 | % | $ | 22,900 |   |   | 6.14 | % |
| Equity                securities               |   |                                  | 2,512  |                                       |   |   |   |   | 1,602 |   |   |   |   |
| Other                securities                |   |                                  | -      |                                       |   |   |   |   | 320 |   |   |   |   |
|                                           |   |                                  | 14,758 |                                       |   |   |   |   | 24,822 |   |   |   |   |
| Gross                unrealized gains          |   |                                  | 409    |                                       |   |   |   |   | 332 |   |   |   |   |
| Gross                unrealized losses         |   |                                  | (199   | )                                          |   |   |   |   | (246 | ) |   |   |   |
|                                           |   | $                                     | 14,968 |                                       |   |   |   | $ | 24,908 |   |   |   |   |

**NOTE      7 - OTHER LOANS**

|                                                                   |   | September                30, 2006 |   | December                31, 2005 |   |
|------------------------------------------------------------------------|--------|-----------------------------------|--------|----------------------------------|--------|
| Single-family                mortgage loans                            |   | $                                 | 3,761  |                             | $      | 4,825 |   |
| Multifamily                and commercial mortgage loan participations |   |                              | 971    |                             |   | 995 |   |
|                                                                   |   |                              | 4,732  |                             |   | 5,820 |   |
| Unamortized                discounts                                   |   |                              | (443   | )                                |   | (538 | ) |
|                                                                   |   | $                                 | 4,289  |                             | $      | 5,282 |   |

**NOTE      **
**8      - INVESTMENT IN JOINT VENTURE**

----

**NOTE      **
**9      - NON-RECOURSE SECURITIZATION FINANCING**

|                                        |   | **September                30, 2006** |      | **December                31, 2005**       |   |
|---------------------------------------------|--------|---------------------------------------|-----------|--------------------------------------------|--------|
|                                        |   | **Bonds                Outstanding**  |      | **Range                of Interest Rates** |   | **Bonds                Outstanding** |   | **Range                of Interest Rates** |   |
| Fixed-rate                classes           |   | $                                     | 213,188   |                                       |   | 6.6%                - 8.8 | % | $ | 509,923 |   |   | 6.6%                - 8.8 | % |
| Accrued                interest payable     |   |                                  | 1,480     |                                       |   |   |   |   | 3,438 |   |   |   |   |
| Deferred                costs               |   |                                  | (2,972    | )                                          |   |   |   |   | (16,912 | ) |   |   |   |
| Unamortized                net bond premium |   |                                  | 7,354     |                                       |   |   |   |   | 20,129 |   |   |   |   |
|                                        |   | $                                     | 219,050   |                                       |   |   |   | $ | 516,578 |   |   |   |   |
|                                        |   |                                  |      |                                       |   |   |   |   |   |   |   |   |   |
| Range                of stated maturities   |   |                                  | 2024-2027 |                                       |   |   |   |   | 2009-2028 |   |   |   |   |
| Number                of series             |   |                                  | 2         |                                       |   |   |   |   | 3 |   |   |   |   |

----

**NOTE      10 - REPURCHASE AGREEMENTS **

**NOTE      1**
**1      - PREFERRED STOCK**

**NOTE      1**
**2      - COMMITMENTS AND CONTINGENCIES**

----

**NOTE      1**
**3      - **
**STOCK      BASED COMPENSATION**

----

|                                                              |   | Three                Months EndedSeptember                30, 2005 |   | Nine                Months Ended September                30,2005 |   |
|-------------------------------------------------------------------|--------|--------------------------------------------------------------------|--------|-------------------------------------------------------------------|--------|
| Net                (loss) income to common shareholders           |   | $                                                                  | (3,235 | )                                                                 | $      | 4,620 |   |
| Fair                value method stock based compensation expense |   |                                                               | 2      |                                                              |   | (98 | ) |
| Pro                forma net (loss) income to common shareholders |   | $                                                                  | (3,233 | )                                                                 | $      | 4,522 |   |
|                                                              |   |                                                               |        |                                                              |   |  |   |
| Net                (loss) income per common share:                |   |                                                               |        |                                                              |   |  |   |
| Basic                and diluted - as reported                    |   | $                                                                  | (0.27  | )                                                                 | $      | 0.38 |   |
| Basic                and diluted - pro forma                      |   | $                                                                  | (0.27  | )                                                                 | $      | 0.37 |   |

|                                                   |   | Three                Months Ended |    | Nine                Months Ended               |   |
|--------------------------------------------------------|--------|-----------------------------------|---------|------------------------------------------------|--------|
|                                                   |   | September                30, 2006 |    | September                30, 2006              |   |
|                                                   |   | Number                of Shares   |    | Weighted-Average                Exercise Price |   | Number                of Shares |   | Weighted-AverageExercisePrice |   |
| SARs                outstanding at beginning of period |   |                              | 203,297 |                                           | $      | 7.36 |   |   | 126,297 |   | $ | 7.81 |   |
| SARs                granted                            |   |                              | -       |                                           |   | - |   |   | 77,000 |   |   | 6.61 |   |
| SARs                forfeited or redeemed              |   |                              | -       |                                           |   | - |   |   | - |   |   | - |   |
| SARs                exercised                          |   |                              | -       |                                           |   | - |   |   | - |   |   | - |   |
| SARs                outstanding at end of period       |   |                              | 203,297 |                                           | $      | 7.36 |   |   | 203,297 |   | $ | 7.36 |   |
| SARs                vested and exercisable             |   |                              | 31,574  |                                           | $      | 7.81 |   |   | 31,574 |   | $ | 7.81 |   |

|                                                      |   | Three                Months Ended |   | Nine                Months Ended               |   |
|-----------------------------------------------------------|--------|-----------------------------------|--------|------------------------------------------------|--------|
|                                                      |   | September                30, 2006 |   | September                30, 2006              |   |
|                                                      |   | Number                of Shares   |   | Weighted-Average                Exercise Price |   | Number                of Shares |   | Weighted-AverageExercisePrice |   |
| Options                outstanding at beginning of period |   |                              | 75,000 |                                           | $      | 7.98 |   |   | 40,000 |   | $ | 8.46 |   |
| Options                granted                            |   |                              | -      |                                           |   | - |   |   | 35,000 |   |   | 7.43 |   |
| Options                forfeited or redeemed              |   |                              | -      |                                           |   | - |   |   | - |   |   | - |   |
| Options                exercised                          |   |                              | -      |                                           |   | - |   |   | - |   |   | - |   |
| Options                outstanding at end of period       |   |                              | 75,000 |                                           | $      | 7.98 |   |   | 75,000 |   | $ | 7.98 |   |
| Options                vested and exercisable             |   |                              | 75,000 |                                           | $      | 7.98 |   |   | 75,000 |   | $ | 7.98 |   |

**NOTE      1**
**4      - RECENT ACCOUNTING PRONOUNCEMENTS**

----

*      Accounting for Transfers and Servicing of Financial Assets and Extinguishments      of Liabilities,*

----

**Item      2.** **Mana****g****e****m****e****nt’s      Discussio****n****and Analy****s****is      of Fina****n****cial      Condition and Results of Operations**

----

**CRITICAL      ACCOUNTING POLICIES**

*Consolidation      of Subsidiaries.*

*Impairments.*

*Allowance      for Loan Losses.*

----

**FINANCIAL      CONDITION**

| *(amounts                in thousands except per share data)*                                 |   | September                30, 2006 |    | December                31, 2005 |   |
|-----------------------------------------------------------------------------------------------|--------|-----------------------------------|---------|----------------------------------|--------|
|                                                                                          |   |                              |    |                             |   |
| Securitized                finance receivables, net                                           |   | $                                 | 362,629 |                             | $      | 722,152 |   |
| Securities                                                                                    |   |                              | 14,968  |                             |   | 24,908 |   |
| Other                mortgage loans                                                           |   |                              | 4,289   |                             |   | 5,282 |   |
| Other                investments                                                              |   |                              | 3,069   |                             |   | 4,067 |   |
| Investment                in joint venture                                                    |   |                              | 36,618  |                             |   | - |   |
|                                                                                          |   |                              |    |                             |   |   |   |
| Non-recourse                securitization financing                                          |   |                              | 219,050 |                             |   | 516,578 |   |
| Repurchase                agreements secured                by securitization financing bonds |   |                              | 103,253 |                             |   | 133,104 |   |
| Obligation                under payment agreement                                             |   |                              | 16,369  |                             |   | - |   |
|                                                                                          |   |                              |    |                             |   |   |   |
| Shareholders’                equity                                                     |   |                              | 135,021 |                             |   | 149,334 |   |
| Common                book value per share                                                    |   |                              | 7.65    |                             |   | 7.65 |   |

*Securitized      finance receivables.*

*Securities.*

*Other      investments*

*Other      motgage loans*

*Investment      in joint venture*

----

*Non-recourse      s*
*ecuritization      financing. *

*Repurchase      Agreements. *

*Obligation      under payment agreement*

*Shareholders’      equity*

**Supplemental      Discussion of Investments**

----

| **Estimated                Fair Value of Net Investment** |   |
|-----------------------------------------------------------|--------|
| *(amounts                in thousands)*                   |   | September                30, 2006 |   |
|                                                      |   | Amortized                cost basis |   | Financing |   | Net                investment basis |   | Fair                value of net investment basis                (1) |   |
| Securitized                finance receivables:           |   |   |   |   |   |   |   |   |   |
| Single                family mortgage loans               |   | $ | 127,951 |   | $ | 103,253 |   | $ | 24,698 |   | $ | 25,689 |   |
| Commercial                mortgage loans                  |   |   | 239,167 |   |   | 235,419 |   |   | 3,748 |   |   | 3,610 |   |
| Allowance                for loan losses                  |   |   | (4,489 | ) |   | - |   |   | (4,489 | ) |   | - |   |
|                                                      |   |   | 362,629 |   |   | 338,672 |   |   | 23,957 |   |   | 29,299 |   |
| Securities:                                               |   |   |  |   |   |  |   |   |  |   |   |  |   |
| Investment                grade single-family             |   |   | 11,624 |   |   | - |   |   | 11,624 |   |   | 11,819 |   |
| Non-investment                grade single-family         |   |   | 452 |   |   | - |   |   | 452 |   |   | 608 |   |
| Equity                and other                           |   |   | 2,683 |   |   | - |   |   | 2,683 |   |   | 2,541 |   |
|                                                      |   |   | 14,759 |   |   | - |   |   | 14,759 |   |   | 14,968 |   |
|                                                      |   |   |  |   |   |  |   |   |  |   |   |  |   |
| Investment                in joint venture                |   |   | 36,618 |   |   | - |   |   | 36,618 |   |   | 35,651 |   |
| Other                investments and loans                |   |   | 7,145 |   |   | - |   |   | 7,145 |   |   | 8,232 |   |
| Net                unrealized gain                        |   |   | 422 |   |   | - |   |   | 422 |   |   | - |   |
|                                                      |   |   |  |   |   |  |   |   |  |   |   |  |   |
| Total                portfolio assets                     |   | $ | 421,573 |   | $ | 338,672 |   | $ | 82,901 |   | $ | 88,150 |   |
|                                                      |   |   |  |   |   |  |   |   |  |   |   |  |   |

| *(1)*  | *Fair                values are based on dealer quotes or bids from independent third                parties,                and where dealer quotes are not available fair values are calculated                as                the net present value of expected future cash flows, discounted at                16%.                Expected future cash flows were based on the forward LIBOR curve                as of                September 30, 2006, and incorporate the resetting of the interest                rates on                the adjustable rate assets to a level consistent with projected prevailing                rates. Expected cash flows were also based on estimated prepayment                speeds                and credit losses on the underlying loans set forth in the table                below.                Increases or decreases in interest rates and index levels from those                used                would impact the calculation of fair value, as would differences                in actual                prepayment speeds and credit losses versus the assumptions set forth                above.  The fair value of the investment in joint venture represents                the Company’s proportionate share of the net assets of the joint venture,                which are recorded at estimated fair value on the joint venture’s                books.*  |
|-------------|------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|

----

| * (amounts                in thousands)*               | Fair                Value Assumptions             |                    |
|-------------------------------------------------------------|---------------------------------------------------|-------------------------|
| Loan                type                                    | Weighted-average                prepayment speeds | Annual Losses      | Weighted-AverageDiscount                Rate | Projected                cash flow termination date | Cash                flows received in 2006                (1) |
|                                                        |                                              |                    |   |   |   |
| Single-family                mortgage loans                 | 30%                CPR                            | 0.2%                    | 16% | Anticipated                final maturity 2024 | $                7,869 |
|                                                        |                                              |                    |   |   |   |
| Commercial                mortgage loans                (2) | (3)                                               | 0.8%                (5) | 16% | (4) | $                286 |

| *(1)*  | *Represents                the excess of the cash flows received on the collateral pledged over                the                cash flow requirements of the securitization financing* *bond security.* |
|-------------|-----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|

| *(2)*  | *Includes                loans pledged to a securitization                trust.* |
|-------------|-----------------------------------------------------------------------------------|

| *(3)*  | *Assumed                constant prepayment rates (CPR) speeds generally are governed by                underlying pool characteristics, prepayment lock-out provisions,                and yield                maintenance provisions. Loans currently delinquent in excess of 30                days                are assumed liquidated in month                six.* |
|-------------|-----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|

| *(4)* | *Cash                flow termination dates are modeled based on the repayment dates of                the                loans or optional redemption dates of the underlying securitization                financing bonds.* |
|-------|--------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|

| *(5)* | *In                addition to the constant default rate of 0.8%, loans which are currently                greater than 30 days delinquent are assumed to take a 35% loss within                six                months.** * |
|-------|-------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|

| *(amounts                in thousands)*                         |   | September                30, 2006 |   |
|-----------------------------------------------------------------|--------|-----------------------------------|--------|
|                                                            |   |                              |   |
| Cash                and cash equivalents                        |   | $                                 | 52,285 |   |
| Investments:                                                    |   |                              |   |   |
| AAA                rated and agency MBS fixed income securities |   |                              | 21,611 |   |
| AA                and A rated fixed income securities           |   |                              | 4,997  |   |
| Unrated                and non-investment grade                 |   |                              | 10,705 |   |
| Securitization                over-collateralization            |   |                              | 8,970  |   |
| Investment                in joint venture                      |   |                              | 36,618 |   |
|                                                            |   | $                                 | 82,901 |   |

**Supplemental      Discussion of Common Equity Book Value**

----

|                                                                                               |   | September                30, 2006 |    |
|----------------------------------------------------------------------------------------------------|--------|-----------------------------------|---------|
| *(amounts                in thousands)*                                                            |   | Book                Value         |    | Adjusted                Book Value |   |
|                                                                                               |   |                              |    |   |   |
| Total                portfolio assets (per table above)                                            |   | $                                 | 82,901  |   | $ | 88,150 |   |
| Cash                and cash equivalents                                                           |   |                              | 52,285  |   |   | 52,285 |   |
| Other                assets and liabilities, net                                                   |   |                              | (165    | ) |   | (165 | ) |
|                                                                                               |   |                              | 135,021 |   |   | 140,270 |   |
| Less:                Preferred stock liquidation preference                                        |   |                              | (42,215 | ) |   | (42,215 | ) |
| Common                equity book value and adjusted book value                                    |   | $                                 | 92,806  |   | $ | 98,015 |   |
|                                                                                               |   |                              |    |   |   |   |   |
| Common                equity book value per share and adjusted book value per                share |   | $                                 | 7.65    |   | $ | 8.08 |   |

----

**RESULTS      OF OPERATIONS**

| *(amounts                in thousands except per share information)* |   | Three                Months EndedSeptember                30, |   | Nine                Months EndedSeptember                30, |   |
|----------------------------------------------------------------------|--------|---------------------------------------------------------------|--------|--------------------------------------------------------------|--------|
|                                                                 |   | 2006                                                          |   | 2005                                                         |   | 2006 |   | 2005 |   |
|                                                                 |   |                                                          |   |                                                         |   |   |   |   |   |
| Net                interest income                                   |   | $                                                             | 3,169  |                                                         | $      | 2,614 |   | $ | 8,000 |   | $ | 9,803 |   |
| (Provision                for) recapture of loan losses              |   |                                                          | (67    | )                                                            |   | (1,622 | ) |   | 52 |   |   | (4,547 | ) |
| Net                interest income after provision for losses        |   |                                                          | 3,102  |                                                         |   | 992 |   |   | 8,052 |   |   | 5,256 |   |
| Equity                in loss of joint venture                       |   |                                                          | (1,661 | )                                                            |   | - |   |   | (1,661 | ) |   | - |   |
| Loss                on capitalization of joint venture               |   |                                                          | (1,194 | )                                                            |   | - |   |   | (1,194 | ) |   | - |   |
| Gain                (loss) on sale of investments, net               |   |                                                          | 85     |                                                         |   | (48 | ) |   | 226 |   |   | 9,802 |   |
| Impairment                charges                                    |   |                                                          | -      |                                                         |   | (207 | ) |   | - |   |   | (2,259 | ) |
| Other                income (expense)                                |   |                                                          | 433    |                                                         |   | (1,026 | ) |   | 662 |   |   | 331 |   |
| General                and administrative expenses                   |   |                                                          | (980   | )                                                            |   | (1,610 | ) |   | (3,473 | ) |   | (4,500 | ) |
| Net                (loss) income                                     |   |                                                          | (215   | )                                                            |   | (1,899 | ) |   | 2,612 |   |   | 8,630 |   |
| Preferred                stock charge                                |   |                                                          | (1,003 | )                                                            |   | (1,336 | ) |   | (3,041 | ) |   | (4,010 | ) |
| Net                (loss) income to common shareholders              |   |                                                          | (1,218 | )                                                            |   | (3,235 | ) |   | (429 | ) |   | 4,620 |   |
|                                                                 |   |                                                          |   |                                                         |   |   |   |   |   |   |   |   |   |
| Net                (loss) income per common share:                   |   |                                                          |   |                                                         |   |   |   |   |   |   |   |   |   |
| Basic                and diluted                                     |   | $                                                             | (0.10  | )                                                            | $      | (0.27 | ) | $ | (0.04 | ) | $ | 0.38 |   |

----

----

**Average      Balances and Effective Interest Rates**

|                                                                           |   | Three                Months Ended September 30, |    | Nine                Months Ended September 30, |   |
|--------------------------------------------------------------------------------|--------|-------------------------------------------------|---------|------------------------------------------------|--------|
|                                                                           |   | 2006                                            |    | 2005                                           |   | 2006 |   | 2005 |   |
| *(amounts                in thousands)*                                        |   | AverageBalance                                  |    | EffectiveRate                                  |   | AverageBalance |   | EffectiveRate |   | AverageBalance |   | EffectiveRate |   | AverageBalance |   | EffectiveRate |   |
| Interest-earning                assets(1):                                     |   |                                            |    |                                           |   |   |   |   |   |   |   |   |   |   |   |   |   |
| Securitized                finance receivables(2)                              |   | $                                               | 563,518 |                                           |   | 8.41 | % | $ | 788,361 |   |   | 7.34 | % | $ | 654,585 |   |   | 7.92 | % | $ | 986,768 |   |   | 7.21 | % |
| Cash                                                                           |   |                                            | 48,476  |                                           |   | 5.06 | % |   | 16,543 |   |   | 2.99 | % |   | 36,209 |   |   | 4.80 | % |   | 35,173 |   |   | 2.47 | % |
| Securities                                                                     |   |                                            | 14,564  |                                           |   | 7.85 | % |   | 81,894 |   |   | 4.66 | % |   | 22,105 |   |   | 7.38 | % |   | 75,707 |   |   | 5.09 | % |
| Other                loans                                                     |   |                                            | 4,596   |                                           |   | 16.90 | % |   | 3,586 |   |   | 16.66 | % |   | 4,894 |   |   | 12.65 | % |   | 5,722 |   |   | 14.36 | % |
| Other                investments                                               |   |                                            | -       |                                           |   | - | % |   | - |   |   | - | % |   | - |   |   | - | % |   | 4,050 |   |   | 19.83 | % |
| Total                interest-earning assets                                   |   | $                                               | 631,154 |                                           |   | 8.21 | % | $ | 890,384 |   |   | 7.05 | % | $ | 717,793 |   |   | 7.77 | % | $ | 1,107,420 |   |   | 7.00 | % |
|                                                                           |   |                                            |    |                                           |   |   |   |   |   |   |   |   |   |   |   |   |   |   |   |   |   |   |   |   |   |
| Interest-bearing                liabilities:                                   |   |                                            |    |                                           |   |   |   |   |   |   |   |   |   |   |   |   |   |   |   |   |   |   |   |   |   |
| Non-recourse                securitization financing(3)                        |   | $                                               | 393,009 |                                           |   | 8.15 | % | $ | 546,030 |   |   | 8.00 | % | $ | 463,633 |   |   | 8.27 | % | $ | 808,389 |   |   | 7.20 | % |
| Repurchase                agreements secured by securitization financing       |   |                                            | 109,808 |                                           |   | 5.46 | % |   | 160,100 |   |   | 3.60 | % |   | 118,611 |   |   | 5.07 | % |   | 94,560 |   |   | 3.45 | % |
| Repurchase                agreements                                           |   |                                            | 25      |                                           |   | 5.58 | % |   | 39,646 |   |   | 3.61 | % |   | 113 |   |   | 4.98 | % |   | 53,713 |   |   | 3.08 | % |
| Total                interest-bearing liabilities                              |   | $                                               | 502,842 |                                           |   | 7.56 | % | $ | 745,776 |   |   | 6.82 | % | $ | 582,357 |   |   | 7.62 | % | $ | 956,662 |   |   | 6.60 | % |
| Net                interest spread on all investments                          |   |                                            |    |                                           |   | 0.65 | % |   |   |   |   | 0.23 | % |   |   |   |   | 0.15 | % |   |   |   |   | 0.40 | % |
| Net                yield on average interest-earning assets                (4) |   |                                            |    |                                           |   | 2.16 | % |   |   |   |   | 1.31 | % |   |   |   |   | 1.58 | % |   |   |   |   | 1.29 | % |

*(1)*

*(2)*

*(3)*

*(4)*

----

|                                           |   | **Three                Months Ended September 30, 2006 vs. 2005** |   |
|------------------------------------------------|--------|-------------------------------------------------------------------|--------|
| *(amounts                in thousands)*        |   | **Rate**                                                          |   | **Volume** |   | **Total** |   |
|                                           |   |                                                              |   |   |   |   |   |
| Securitized                finance receivables |   | $                                                                 | 1,910  |   | $ | (4,526 | ) | $ | (2,616 | ) |
| Cash                and cash equivalents       |   |                                                              | 128    |   |   | 361 |   |   | 489 |   |
| Securities                                     |   |                                                              | 445    |   |   | (1,113 | ) |   | (668 | ) |
| Other                loans                     |   |                                                              | 55     |   |   | (10 | ) |   | 45 |   |
|                                           |   |                                                              |        |   |   |  |   |   |  |   |
| Total                interest income           |   |                                                              | 2,538  |   |   | (5,288 | ) |   | (2,750 | ) |
|                                           |   |                                                              |        |   |   |  |   |   |  |   |
| Securitization                financing        |   |                                                              | 797    |   |   | (3,669 | ) |   | (2,872 | ) |
| Repurchase                agreements           |   |                                                              | 282    |   |   | (647 | ) |   | (365 | ) |
|                                           |   |                                                              |        |   |   |  |   |   |  |   |
| Total                interest expense          |   |                                                              | 1,079  |   |   | (4,316 | ) |   | (3,237 | ) |
|                                           |   |                                                              |        |   |   |  |   |   |  |   |
| Net                interest income             |   | $                                                                 | 1,459  |   | $ | (972 | ) | $ | 487 |   |

----

|                                           |   | **Nine                Months Ended September 30, 2006 vs. 2005** |   |
|------------------------------------------------|--------|------------------------------------------------------------------|--------|
| *(amounts                in thousands)*        |   | **Rate**                                                         |   | **Volume** |   | **Total** |   |
|                                           |   |                                                             |   |   |   |   |   |
| Securitized                finance receivables |   | $                                                                | 4,823  |   | $ | (19,358 | ) | $ | (14,535 | ) |
| Cash                and cash equivalents       |   |                                                             | 631    |   |   | 20 |   |   | 651 |   |
| Securities                                     |   |                                                             | 1,050  |   |   | (2,717 | ) |   | (1,667 | ) |
| Other                loans                     |   |                                                             | (29    | ) |   | (122 | ) |   | (151 | ) |
| Other                investments               |   |                                                             | (301   | ) |   | (301 | ) |   | (602 | ) |
|                                           |   |                                                             |        |   |   |  |   |   |  |   |
| Total                interest income           |   |                                                             | 6,174  |   |   | (22,478 | ) |   | (16,304 | ) |
|                                           |   |                                                             |        |   |   |  |   |   |  |   |
| Securitization                financing        |   |                                                             | 7,115  |   |   | (19,946 | ) |   | (12,831 | ) |
| Repurchase                agreements           |   |                                                             | 426    |   |   | (1,678 | ) |   | (1,252 | ) |
|                                           |   |                                                             |        |   |   |  |   |   |  |   |
| Total                interest expense          |   |                                                             | 7,541  |   |   | (21,624 | ) |   | (14,083 | ) |
|                                           |   |                                                             |        |   |   |  |   |   |  |   |
| Net                interest income             |   | $                                                                | (1,367 | ) | $ | (854 | ) | $ | (2,221 | ) |

*Note:*
*The      change in interest income and interest expense due to changes in both volume      and      rate, which cannot be segregated, has been allocated proportionately to the      change due to volume and the change due to rate. This table excludes      non-interest related dividends on equity securities, securitization financing      expense, other interest expense and provision for credit      losses.*

*Credit      Exposures*

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**Credit      Reserves and Actual Credit Losses**

| *($                in millions)* |   | **Outstanding                Loan Principal Balance** |   | **Credit                Exposure, Net****Of                Credit Reserves** |   | **Actual****Credit                Losses** |   | **Credit                Exposure, Net to Outstanding Loan Balance** |   |
|----------------------------------|--------|-------------------------------------------------------|--------|------------------------------------------------------------------------------|--------|--------------------------------------------|--------|---------------------------------------------------------------------|--------|
| 2005,                Quarter 3   |   | $                                                     | 786.5  |                                                                         | $      | 29.3                                       |   | $                                                                   | 0.3    |   |   | 3.73 | % |
| 2005,                Quarter 4   |   |                                                  | 753.2  |                                                                         |   | 31.0                                       |   |                                                                | 0.0    |   |   | 4.12 | % |
| 2006,                Quarter 1   |   |                                                  | 724.4  |                                                                         |   | 32.0                                       |   |                                                                | 0.5    |   |   | 4.42 | % |
| 2006,                Quarter 2   |   |                                                  | 693.8  |                                                                         |   | 33.1                                       |   |                                                                | 6.6    |   |   | 4.77 | % |
| 2006,                Quarter 3   |   |                                                  | 378.2  |                                                                         |   | 21.5                                       |   |                                                                | 0.1    |   |   | 5.68 | % |

**Single-Family      Loan Delinquency Statistics**

|                           | **30                to 59 days****delinquent** | **60                to 89 days****delinquent** | **90                days and over delinquent****(1)** | **Total** |
|--------------------------------|------------------------------------------------|------------------------------------------------|-------------------------------------------------------|-----------|
| 2005,                Quarter 3 | 3.33%                                          | 1.43%                                          | 2.24%                                                 | 7.00%     |
| 2005,                Quarter 4 | 4.23%                                          | 0.61%                                          | 2.57%                                                 | 7.41%     |
| 2006,                Quarter 1 | 4.50%                                          | 0.85%                                          | 2.90%                                                 | 8.25%     |
| 2006,                Quarter 2 | 4.51%                                          | 1.09%                                          | 2.68%                                                 | 8.28%     |
| 2006,                Quarter 3 | 4.56%                                          | 1.28%                                          | 2.83%                                                 | 8.67%     |

**Commercial      Loan Delinquency Statistics**

|                           | **30                to 59 days delinquent** | **60                to 89 days delinquent** | **90                days and over delinquent****(1)** | **Total** |
|--------------------------------|---------------------------------------------|---------------------------------------------|-------------------------------------------------------|-----------|
| 2005,                Quarter 3 | -%                                          | 1.50%                                       | 6.54%                                                 | 8.04%     |
| 2005,                Quarter 4 | -%                                          | 0.25%                                       | 6.65%                                                 | 6.90%     |
| 2006,                Quarter 1 | 1.25%                                       | -%                                          | 6.38%                                                 | 7.63%     |
| 2006,                Quarter 2 | 1.09%                                       | -%                                          | 5.15%                                                 | 6.24%     |
| 2006,                Quarter 3 | -%                                          | -%                                          | 1.33%                                                 | 1.33%     |

***(1)***

*Includes      foreclosures, repossessions and real estate owned.*

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**RECENT      ACCOUNTING PRONOUNCEMENTS**

*      Accounting for Transfers and Servicing of Financial Assets and Extinguishments      of Liabilities, *

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**LIQUIDITY      AND CAPITAL RESOURCES**

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**FORWARD-LOOKING      STATEMENTS**

*Reinvestment.*

*Economic      Conditions*

*Investment      Portfolio Cash Flow*

----

*Defaults.      *

*Investment      in Joint Venture. *

*Interest      Rate Fluctuations.*

*Third-party      Servicers.*

*Prepayments.*

*Competition.*

*Regulatory      Changes.*

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*Other.*

| ·   | The                Company may be unable to invest in new assets with attractive yields,                and                yields on new assets in which the Company does invest may not generate                attractive yields, resulting in a decline in its earnings per share                over                time. |
|--------------------|-------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|

| ·   | The                Company’s ownership of certain subordinate interests in securitization                trusts subjects it to credit risk on the underlying loans, and the                Company                provides for loss reserves on these loans as required under GAAP. |
|--------------------|-------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|

| ·   | Certain                investments employ internal structural leverage as a result of the                securitization process, and are in the most subordinate position                in the                capital structure, which magnifies the potential impact of adverse                events                on the Company’s cash flows and reported results. |
|--------------------|--------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|

| ·   | The                Company’s efforts to manage credit risk may not be successful in limiting                delinquencies and defaults in underlying loans or losses on its                investments. |
|--------------------|---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|

| ·   | Prepayments                of principal on its investments, and the timing of prepayments, may                impact                the Company’s reported earnings and our cash                flows. |
|--------------------|--------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|

| ·   | The                Company finances a portion of its investment portfolio with short-term                recourse repurchase agreements which subjects it to margin calls                if the                assets pledged subsequently decline in                value. |
|--------------------|-----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|

| ·   | The                Company may be subject to the risks associated with inadequate or                untimely                services from third-party service providers, which may harm its results                of                operations. |
|--------------------|--------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|

| ·   | Interest                rate fluctuations can have various negative effects on the Company,                and                could lead to reduced earnings and/or increased earnings                volatility. |
|--------------------|-------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|

| ·   | The                Company’s reported income depends on accounting conventions and                assumptions about the future that may                change. |
|--------------------|----------------------------------------------------------------------------------------------------------------------------------------------------------------------|

| ·   | Failure                to qualify as a REIT would adversely affect the Company’s dividend                distributions and could adversely affect the value of its                securities. |
|--------------------|-----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|

| ·   | Maintaining                REIT status may reduce our flexibility to manage our                operations. |
|--------------------|------------------------------------------------------------------------------------------------------------|

| ·   | The                Company may fail to properly conduct its operations so as to avoid                falling                under the definition of an investment company pursuant to the Investment                Company Act of 1940. |
|--------------------|------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|

| ·   | The                Company is dependent on certain key                personnel. |
|--------------------|----------------------------------------------------------------------------------|

**Item      3****.****Quantitati****v****e      and****Q****ualitative      Disclosures ab****o****ut      Market Risk**

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|                                                                 |   | **Projected                Change in Net Interest Margin Cash Flow From Base                Case** |   |                                                   |
|----------------------------------------------------------------------|--------|----------------------------------------------------------------------------------------------------|--------|--------------------------------------------------------|
| **Basis                Point Increase (Decrease) in Interest Rates** |   | **Excluding                Cash and Cash Equivalents**                                             |   | **Including                Cash and Cash Equivalents** |   | **Projected                Change in Value, Expressed as a Percentage of Shareholders’                Equity** |
|                                                                 |   |                                                                                               |   |                                                   |   |   |
| +200                                                                 |   | (5.6)%                                                                                             |   | 9.1%                                                   |   | (0.5)% |
| +100                                                                 |   | (1.7)%                                                                                             |   | 5.3%                                                   |   | (0.1)% |
| Base                                                                 |   | -                                                                                                  |   | -                                                      |   | - |
| -100                                                                 |   | 0.9%                                                                                               |   | (5.8)%                                                 |   | 0.1% |
| -200                                                                 |   | 3.0%                                                                                               |   | (10.9)%                                                |   | 0.2% |

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**Item      4.**
**Controls      and Procedures**

**PART      II. OTHER INFORMATION**

**Item      1. Le****g****al****P****r****o****c****eedings**

----

**Item      1A. Risk Factors**

**Item      2.** **Unregistered      Sales of****E****q****uity      Securities and Use of Proceeds**

----

**Item      3.** **De****f****aults      Upon Seni****o****r      S****e****curities**

**Item      4.** **S****u****bmission      of Matters to a Vote of Security Holders**

**Item      5.** **Ot****h****er      Information**

**Item      6.** **Ex****h****i****bits**

| 10.1 | Limited                Liability Company Agreement of Copperhead Ventures, LLC dated September                8,                2006 (portions of this exhibit have been omitted pursuant to a request                for                confidential treatment)  |
|------|------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
| 31.1 | Certification                of Principal Executive Officer and Chief Financial Officer pursuant                to                Section 302 of the Sarbanes-Oxley Act of 2002.                                                                                  |
| 32.1 | Certification                of Principal Executive Officer and Chief Financial Officer pursuant                to                Section 906 of the Sarbanes-Oxley Act of 2002.                                                                                  |

----

**SIG****N****ATURE**

|                                   | **DYNEX                CAPITAL, INC.**                                       |
|----------------------------------------|------------------------------------------------------------------------------|
|                                   |                                                                         |
|                                   |                                                                         |
|                                   |                                                                         |
| Date:                November 14, 2006 | /s/                Stephen J. Benedetti                                      |
|                                   | Stephen                J. Benedetti                                          |
|                                   | Executive                Vice President and Chief Operating Officer          |
|                                   | (Principal                Executive Officer and Principal Financial Officer) |
|                                   |                                                                         |

----

**EXHIBIT      INDEX**

| **Exhibit                No.** |                                                                                                                                                                                                                                                                   |
|--------------------------------|------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
|                           |                                                                                                                                                                                                                                                                   |
| 10.1                           | Limited                Liability Company Agreement of Copperhead Ventures, LLC dated September                8,                2006 (portions of this exhibit have been omitted pursuant to a request                for                confidential treatment)  |
| 31.1                           | Certification                of Principal Executive Officer and Chief Financial Officer pursuant                to                Section 302 of the Sarbanes-Oxley Act of 2002.                                                                                  |
| 32.1                           | Certification                of Principal Executive Officer and Chief Financial Officer pursuant                to                Section 906 of the Sarbanes-Oxley Act of 2002.                                                                                  |

----