Two Harbors Investments Q2 2025 Earnings Report

Two Harbors Investments EPS Results

• Actual EPS: $0.28
• Consensus EPS: $0.28
• Beat/Miss: Met Expectations
• One Year Ago EPS: N/A

Two Harbors Investments Revenue Results

• Actual Revenue: ($18.12) million
• Expected Revenue: ($23.29) million
• Beat/Miss: Beat by +$5.17 million
• YoY Revenue Growth: N/A

Two Harbors Investments Announcement Details

• Quarter: Q2 2025
• Date: 7/28/2025
• Time: After Market Closes
• Conference Call Date: Tuesday, July 29, 2025
• Conference Call Time: 9:00AM ET

Two Harbors Investment Corp. invests in, finances, and manages mortgage servicing rights (MSRs), agency residential mortgage-backed securities (RMBS), and other financial assets through RoundPoint in the United States. The company target assets include agency RMBS collateralized by fixed rate mortgage loans, adjustable rate mortgage loans, hybrid mortgage loans, or derivatives; and other assets, such as financial and mortgage-related assets, including non-agency securities and non-hedging transactions. It qualifies as a REIT for federal income tax purposes. As a REIT, the company must distribute at least 90% of annual taxable income to its stockholders. Two Harbors Investment Corp. was incorporated in 2009 and is headquartered in St. Louis Park, Minnesota.

Two Harbors Investments Q2 2025 Earnings Call Transcript

Key Takeaways

• Negative Sentiment: With a $199.9 million loss contingency accrual for PRCM litigation, book value fell to $12.14 per share, driving a –14.5 % quarterly economic return (–1.4 % excluding the accrual).
• Positive Sentiment: Market participants expect 50–75 bps of Fed rate cuts later this year, which management believes will tighten RMBS and MSR spreads, while most of its MSR portfolio remains over 300 bps away from the refinancing window.
• Positive Sentiment: Originations accelerated in Q2, funding $48 million UPB in first liens (up 68 % QoQ versus 16 % industry growth) and brokering/originating $44 million in second liens, which also helped slow MSR prepayments and boost revenue.
• Positive Sentiment: Liquidity and funding remain ample, with Agency RMBS repo spreads around SOFR+20 bps, issuance of $115 million 9⅜ % notes to pre‐fund 2026 maturities, and $837 million of unused MSR financing capacity.
• Neutral Sentiment: The company is making significant AI investments—including OCR, human emulation bots, speech analytics, and generative AI call summaries—to enhance servicing and origination efficiency and customer experience.

Presentation

[Operator]

Morning. My name is Jennifer, and I will be your conference facilitator. At this time, I'd like to welcome everyone to TU's Second Quarter twenty twenty five Earnings Call. All participants will be in listen only mode. After the speakers' remarks, there will be a question and answer period.

[Operator]

I would now like to turn the call over to Ms. Maggie Carr.

[Margaret Karr, Head - IR & Communication at Two Harbors Investment]

Good morning, everyone, and welcome to our call to discuss TU's second quarter twenty twenty five financial results. With me on the call this morning are Bill Greenberg, our President and Chief Executive Officer Nick Ledica, our Chief Investment Officer and William Delal, our Chief Financial Officer. The earnings press release and presentation associated with today's call have been filed with the SEC and are available on the SEC's website as well as the Investor Relations page of our website at 2inv.com. In our earnings release and presentation, we have provided reconciliations of GAAP to non GAAP financial measures, and we urge you to review this information in conjunction with today's call. As a reminder, our comments today will include forward looking statements, which are subject to risks and uncertainties that may cause our results to differ materially from expectations.

[Margaret Karr, Head - IR & Communication at Two Harbors Investment]

These are described on Page two of the presentation and in our Form 10 ks and subsequent reports filed with the SEC. Except as may be required by law, TU does not update forward looking statements and disclaims any obligation to do so. I will now turn the call over to Bill.

[William Greenberg, President, CEO & Director at Two Harbors Investment]

Thank you, Maggie. Good morning, everyone, and welcome to our second quarter earnings call. Please turn to Slide three. Fixed income and equity markets proved resilient in the second quarter, rebounding from poor performance in early April as the uncertainty of fluctuating tariff and trade policies roiled markets, spiking the VIX index to a multiyear high. As the quarter progressed, the tariff tension eased and the macro environment recovered steadily, leading the S and P to a record high and a significant recovery in the performance of Agency RMBS spreads.

[William Greenberg, President, CEO & Director at Two Harbors Investment]

We remained disciplined in our approach to risk, keeping our interest rate and spread exposures low across the curve. We utilized leverage judiciously and preserved ample liquidity, which allowed us to navigate these periods of heightened market volatility not seen since last October. For the second quarter, including the loss contingency accrual of 1.92 per share, we experienced a total economic return of negative 14.5% and minus 1.4% without the accrual. For the first half of the year, this results in a total economic return on book value of negative 10.32.9% excluding the accrual. Please turn to slide four.

[William Greenberg, President, CEO & Director at Two Harbors Investment]

The ten year US treasury rates ultimately settled near where it began the quarter, as you can see in figure one, but not before moving through a wide range from a low of 3.85% in early April to a high of 4.62% in late May. The spread between ten year and two year US Treasuries widened to 51 basis points, creating a steeper curve that continues to support attractive opportunities for RMBS and MSR portfolios. In this environment, we believe returns are compelling and we expect further strengthening of the supply demand dynamic, potentially leading to spread tightening. Mortgage rates generally track the treasury rate environment, moving higher in April and May before stabilizing in June. The thirty year fixed rate mortgage rose from 6.6% at its low to a high near 6.9%, ending the quarter in the 6.7 to 6.8% range.

[William Greenberg, President, CEO & Director at Two Harbors Investment]

While still high by recent COVID era standards, rates remained below their 2023 peak levels, which has helped housing activity remain reasonably well supported. The Federal Reserve maintained its cautious stance and left rates unchanged even in the face of increases in inflation and mounting political pressures. Several members of the FOMC have suggested one to two rate cuts likely occurring later this year, and the market similarly projects 50 to 75 basis points of cuts in the 2025, as you can see in the blue line in figure two. If the Fed does indeed cut rates in the latter half of this year, we expect RMBS and MSR portfolios to respond positively. With the majority of our MSR portfolio still more than 300 basis points away from the refinancing window, we do not expect a few cuts in the front end of the yield curve to materially alter mortgage rates or prepayments.

[William Greenberg, President, CEO & Director at Two Harbors Investment]

We are strengthening our direct to consumer originations platform at Roundpoint consistent with the market opportunity in order to recapture loans in our portfolio that may refinance. Please turn to slide five. In the second quarter, we funded $48,000,000 UPB in first liens, up from $29,000,000 UPB in the first quarter. Although starting from a low base, this increase of 68% outpaced the overall trend in mortgage originations, which saw funded loans rising nationwide 16% quarter over quarter. We are encouraged by the growth in our first lien originations despite the fact that most of our portfolio does not have an economic incentive to move or refinance.

[William Greenberg, President, CEO & Director at Two Harbors Investment]

Additionally, we continue to actively market second liens to our servicing customers to help them extract home equity most efficiently. We brokered $44,000,000 UPB in second liens in the quarter, and we have begun originating second liens in our own name, which we can ultimately choose to hold, sell, or securitize.

[William Greenberg, President, CEO & Director at Two Harbors Investment]

This activity not only increases revenue and improves recapture rates, but we have also noticed significantly slower prepayments for MSR borrowers who have second liens on top of their firsts.

[William Greenberg, President, CEO & Director at Two Harbors Investment]

Please turn to slide six. I'd like to mention some of the really interesting things we are doing in technology in order to increase efficiencies, reduce costs, and most importantly, create better homeowner experiences. We are not alone in seeing the large opportunity that AI technologies can bring to the servicing and origination businesses, and we are making significant investments in time and resources in order to achieve the benefits that these technologies promise. Our initial focus has been within our contact center, and we are currently implementing AI in many areas across the platform. We use human emulation bots to move data across applications and to perform other repetitive tasks.

[William Greenberg, President, CEO & Director at Two Harbors Investment]

Image recognition utilizes OCR technologies to help perform data validation. Speech recognition applications allow us to perform comprehensive analysis and statistics on our customer service calls. And we are using generative AI technology to create automatic call summaries, which saves significant time for our contact center employees while improving accuracy. Conversational AI, which we are just beginning to explore, includes allowing customers to interact more fully with customized AI interfaces for simple situations and calling in live people for more complex problems. As we look towards the future, we are also actively evaluating the application of AI on the origination side to automate the application and fulfillment process.

[William Greenberg, President, CEO & Director at Two Harbors Investment]

I like to say that AI is just the newest form of technology, and we know that this technology is integral to success in operating our business going forward. Looking ahead, we believe the combination of our investment portfolio and operating company allows us to be dynamic and responsive as opportunities emerge across the mortgage finance space. Given the strength of our platform and the depth of experience across our team, we are confident in our ability to navigate and lead through changing market cycles, creating long term value for our stockholders, customers and business partners. With that, I'd like to hand the call over to William to discuss our financial results.

[William Dellal, VP & CFO at Two Harbors Investment]

Thank you, Bill. Please turn to Slide seven. As Bill mentioned, in the quarter, we took a loss contingency accrual of $199,900,000 or 1.92 per share related to the ongoing litigation from the termination of our management agreement with PRCM advisers in 2020. On May 23, the court ruled that Two Harbors did not have grounds to terminate its management agreement for cause. And so we, in consultation with our independent accountants and legal advisers, determined that the loss was not probable and estimable under ASC four fifty, which is the accounting standard that governs loss contingencies.

[William Dellal, VP & CFO at Two Harbors Investment]

The amount of the loss contingency accrual is the same $140,000,000 that we initially reserved in 2020 related to the nonrenewal of the management agreement before reversing the accrual in connection with the subsequent termination for costs. The current accrual also includes an assumed statutory prejudgment interest at the simple rate of 9%. No other potential losses are probable or estimable at this time. We are waiting for a trial date to be set to resolve certain claims related to intellectual property and on the issues of potential damages for the contract termination. The parties have also agreed to participate in voluntary mediation.

[William Dellal, VP & CFO at Two Harbors Investment]

Including the accrual, the book value decreased to $12.14 per share, representing a negative 14.5% quarterly economic return. Excluding this accrual, our total quarterly economic return would have been negative 1.4%. Please turn to slide eight. Including the loss contingency accrual, the company incurred a comprehensive loss of $221,800,000 or $2.13 per share. Excluding the accrual, we would have incurred a comprehensive loss of $21,900,000 or 21¢ per share.

[William Dellal, VP & CFO at Two Harbors Investment]

Net interest and servicing income, which is the sum of GAAP net interest expense and net servicing income before operating costs, was higher in the second quarter by $3,100,000 driven by an increase in our agency RMBS portfolio and higher float income on MSR. This was partially offset by lower servicing fee income from MSR portfolio runoff and slightly higher financing costs. Mark to market gains and losses were lower in the quarter by $93,400,000. As a reminder, this column represents the sum of investment securities, net gains and losses, and change in OCI, net swap and other derivative gains and losses and net servicing asset gains and losses. In the second quarter, mark to market gains and losses were impacted by unfavorable market movements on MSR, swaps, TBAs, and futures, partially offset by overall positive market movements on Agency RMBS.

[William Dellal, VP & CFO at Two Harbors Investment]

You can see the individual components of net interest and servicing income and mark to market gains and losses on appendix Slide 22. Please turn to Slide nine. RMBS funding markets remained stable and available throughout the quarter with repurchase spreads at around SOFR plus 20 basis points. At quarter end, our weighted average days to maturity for our Agency RMBS repo was sixty days. We issued a baby bond in the second quarter with the intention of using the proceeds in part for the refinancing or repayment of our 6.25% senior notes due in 2026.

[William Dellal, VP & CFO at Two Harbors Investment]

In total, we issued a 115,000,000 aggregate principal amount of nine and three eighths percent senior notes that are due in 2030 for net proceeds of a 110,800,000.0. We finance our MSR, including the MSR asset and related servicing advance obligations across five lenders with $1,800,000,000 of outstanding borrowings under bilateral facilities. We ended the quarter with a total of $837,000,000 in unused MSR asset financing capacity. Our servicing advances are fully financed, and we have an additional $61,000,000 in available capacity. I will now turn the call over to Nick.

[Nicholas Letica, VP & Chief Investment Officer at Two Harbors Investment]

Thank you, William. Please turn to Slide 10. Our portfolio on June 30 was $14,400,000,000 including $11,400,000,000 in settled positions and $3,000,000,000 in TBAs. Our economic debt to equity increased to 7x, which includes the effect of the loss contingency accrual on our book value. We brought our debt to equity and mortgage spread risk down in early April in response to market volatility and spread widening.

[Nicholas Letica, VP & Chief Investment Officer at Two Harbors Investment]

As volatility subsided, we brought our leverage and spread risk back up, and we feel comfortable with today's level given the attractive opportunities in both Agency RMBS and MSR spaces. As you can see in Figures two and three, we continue to manage our exposure to rates across the curve very closely. You can see more detail on our risk exposures on appendix slide 19. Please turn to slide 11. Agency RMBS spreads to interest rate swaps widened meaningfully in April, tracking overall market volatility before retracing over the following two months. As shown in Figure one, our preferred volatility gauge, two year options on ten year swap rates, peaked at 104 basis points in mid April and declined to end the quarter at 94 basis points, four basis points lower than the end of the first quarter. Hedged Agency RMBS performance varied across the coupon stack, with higher coupons outperforming lower, longer duration coupons. Current coupon nominal spreads widened by three basis points to 171, while option adjusted spreads finished 12 basis points wider at 81 basis points, reflecting the drop in implied volatility.

[Nicholas Letica, VP & Chief Investment Officer at Two Harbors Investment]

As you can see in Figure two, spreads across the curve, both nominally and on an option adjusted basis, shifted up with larger pickups in OAS. At quarter end, considering the drop in implied rate volatility and that mortgage spread volatility had fallen to its lowest level in the post COVID period, spreads versus swaps looked and continue to look very attractive on a historical and return potential basis. Please turn to Slide 12 to review our Agency RMBS portfolio. Figure one shows the hedge performance of TBAs and specified pools we own throughout this quarter. Higher coupons generally outperformed lower coupons and specified pools outperformed TBAs and the lower coupons we owned, while 66.5% TBAs outperformed specified pools.

[Nicholas Letica, VP & Chief Investment Officer at Two Harbors Investment]

We have seen some strength in higher coupon dollar rolls, particularly in 6.5, fueled by historically strong demand for CMO floaters, with CMO issuance accounting for over 85% of the net issuance in sixes and 6.5. On the margin, we shifted our exposure up in coupon in the quarter, which you can see in appendix slide 18. We also increased our exposure to mortgage derivatives, which positively contributed to outperformance. Figure two on the bottom right shows our specified pool prepayment speeds by coupon, which in aggregate increased from 7.4 to 8.6 CPR. Most of the coupons in the stack experienced a mild absolute increase in speeds, resulting from a pickup in turnover rates from seasonal factors.

[Nicholas Letica, VP & Chief Investment Officer at Two Harbors Investment]

Higher coupons, particularly TBAs, displayed larger speed increases due to lower mortgage rates in March into early April. We observed fast processing speeds for agency collateral, reducing the lag time from application to closing. Six and a half percent TBAs in particular showed a large pickup in speed, similar to the prepayment response we observed last fall when they briefly went in the money. Please turn to slide 13. The MSR market remains very well supported with bank and nonbank servicers aggressively bidding for a declining amount of supply.

[Nicholas Letica, VP & Chief Investment Officer at Two Harbors Investment]

As you can see in figure one, the volume of MSR available in the bulk market has continued to trend lower from the peak years of 2022 and 2023, with supply about 30% lower year over year. That said, we have still been able to find pockets of opportunity in the bulk market. Figure two is a chart that we periodically update for our earnings deck, which shows that with mortgage rates at their current level of around 6.75, only point 7% of our MSR portfolio is considered in the money. If rates were to drop to around 5%, the portion of our portfolio in the money would rise to only about 8%. Importantly, prepays have remained below our projections for the majority of our portfolio.

[Nicholas Letica, VP & Chief Investment Officer at Two Harbors Investment]

Please turn to Slide 14, where we will discuss our MSR portfolio. Figure one is an overview of our portfolio at quarter end, further details of which can be found on appendix Slide 25. In the second quarter, we purchased 6,400,000,000.0 UPB of MSR through three bulk purchases. The price multiple of MSR was unchanged quarter over quarter at 5.9 times, and sixty plus day delinquencies remained low at under 1%. Figure two compares CPRs across implied security coupons in our portfolio of MSR versus TBAs.

[Nicholas Letica, VP & Chief Investment Officer at Two Harbors Investment]

Quarter over a quarter, our MSR experienced a 1.6 percentage point pickup in prepayment rates to 5.8%. The increase was anticipated owing to stronger seasonal factors, though the speed was slower than model expectations. Overall, prepayment rates on our low coupon MSR are expected to remain very slow on a historical basis, which will remain a tailwind for our portfolio. Finally, please turn to Slide 15, our return potential and outlook slide. This is a forward looking projection of our expected portfolio return, which contemplates the effect of the loss contingency accrual on our portfolio.

[Nicholas Letica, VP & Chief Investment Officer at Two Harbors Investment]

As you can see on this slide, the top half of this table is meant to show what returns we believe are available on the assets in our portfolio. We estimate that about 72% of our capital would be allocated to servicing with a static return projection of 11% to 14. The remaining capital would be allocated to securities with a static return estimate of 12% to 17%. With our portfolio allocation shown in the top half of the table and after expenses, the static return estimate for our portfolio would be between 8.8% to 12.1% before applying any capital structure leverage to the portfolio. After giving effect to our unsecured notes and preferred stock, we believe that the potential static return on common equity falls in the range of 9.4% to 15.3% or a prospective quarterly static return per share of 28 to 46¢.

[Nicholas Letica, VP & Chief Investment Officer at Two Harbors Investment]

Looking ahead, ongoing tariff threats and trade negotiations as well as geopolitical tensions will continue to weigh on the market. As always, we are mindful of the many sources of volatility that can impact our portfolio. However, we believe there is also opportunity in this environment. The resilience that markets demonstrated in the second quarter is a reminder of the global demand for investment, be it in equities or fixed income spread products like mortgage backed securities. Spreads for Agency RMBS, particularly when hedged with interest rate swaps, remain historically wide and offer good relative value to other high quality spread assets like corporate bonds.

[Nicholas Letica, VP & Chief Investment Officer at Two Harbors Investment]

Supply and demand is balanced with demand diversified between money managers, banks, REITs, and overseas buyers. Demand from depository institutions should increase the regulatory reform perceived as anticipated. Our core strategy of low coupon MSR paired with agency RMBS is well positioned to benefit from both stable prepayments and wide agency spreads. Additionally, Roundpoint's direct to consumer franchise enhances MSR returns through efficient recapture should we enter a faster prepay environment. Taken together, we are confident that our portfolio construction should drive attractive risk adjusted returns across a range of market conditions.

[Nicholas Letica, VP & Chief Investment Officer at Two Harbors Investment]

Thank you very much for joining us today, and now we will be happy to take any questions you might have.

[Operator]

Question. We'll go first to Doug Harter with UBS.

[Douglas Harter, Equity Research Analyst at UBS Group]

Thanks, and good morning. So your leverage increased this quarter, you know, I guess, as a result of the litigation reserve. Can you just talk about is that kind of the new level of leverage that we should be thinking about? Or are there still more portfolio actions to come to kind of bring it back to the prior leverage range?

[Nicholas Letica, VP & Chief Investment Officer at Two Harbors Investment]

Hey, Doug. This is Nick, and thank you for the question. So the you know, we ended the quarter at a leverage of seven times. And, you know, the range that we have discussed in these calls in the past has really been a range that we quote a range of about five to eight as a leverage target. If you look at our leverage historically, even in that chart that's on that page, you will see that we've been at seven times in the not too distant past, right?

[Nicholas Letica, VP & Chief Investment Officer at Two Harbors Investment]

So it really is very much within the range of the leverage that we operate in. By quarter end and through the quarter, we really did like the risk in the market. We you know, we believe the mortgages versus swaps look quite attractive. And so we felt it was it was, you know, it was it was right from a portfolio management standpoint to increase our leverage through the quarter. And that seven times, as you say, is inclusive of the $200,000,000 loss reserve that affects our book value.

[Nicholas Letica, VP & Chief Investment Officer at Two Harbors Investment]

If you were to add that back into our capital, our leverage would drop to about 6.3. But in any case, the leverage, we feel very comfortable where the leverage is at seven times. And we'll govern portfolios we always do. It will depend upon where spreads are in the market, what the opportunities where the opportunities are, and we will move the leverage around accordingly based upon market opportunities and and our capital base.

[Douglas Harter, Equity Research Analyst at UBS Group]

Great. Appreciate that. And is there any way you could give us an update on, you know, economic return performance, so far in July?

[William Greenberg, President, CEO & Director at Two Harbors Investment]

Yeah. Good morning, Doug. Quarter to date, through last Friday, we were up about one and a half percent.

[Douglas Harter, Equity Research Analyst at UBS Group]

That's on economic return, just to to be clear. Right?

[William Greenberg, President, CEO & Director at Two Harbors Investment]

Yes. Economic return on the new book value.

[Douglas Harter, Equity Research Analyst at UBS Group]

Perfect. Thank you, guys.

[William Greenberg, President, CEO & Director at Two Harbors Investment]

Thanks, Doug.

[Operator]

We'll go next to Bose George with KBW.

[Nicholas Letica, VP & Chief Investment Officer at Two Harbors Investment]

Hey, everyone. Good morning. Good morning, Bose.

[Bose George, Managing Director at Keefe, Bruyette & Woods (KBW)]

Can you you remind us and on slide 15, you guys have the breakout of the, you know, of of the expected returns. Actually, what are the main drivers, the differences between that and the the EAD metric?

[William Greenberg, President, CEO & Director at Two Harbors Investment]

So the, the EAD is, based on historical purchase yields of of the assets. Right? And as a result, I I always like to say that it is that the the, the ED calculations are asynchronous among assets in the portfolio, right, because it depends on on the yield on which it was, on the day that it was purchased. Whereas the return outlook slide is all meant to reflect, the forward looking mark to market yields at current prices. Right?

[William Greenberg, President, CEO & Director at Two Harbors Investment]

We show a range of returns on slide 15 to reflect things like, you know, potential fluctuations in prepayment speeds, potential fluctuations in funding spreads, as well as potential fluctuations in in leverage of the securities. Right? But but the main difference is the timing and the market prices at which the assets are utilized in the calculation of the yields.

[Bose George, Managing Director at Keefe, Bruyette & Woods (KBW)]

Okay. That makes sense. And just given where the EAD has been trending, so in the back half of the year, does it make sense that it probably continues to trend sort of below the economic return?

[William Dellal, VP & CFO at Two Harbors Investment]

I excuse me. Hi, Bose. Yes. I think that's the case because spreads have have widened recently, and so the AED of old old securities that were purchased previously would not reflect that change in market value.

[Bose George, Managing Director at Keefe, Bruyette & Woods (KBW)]

Okay. Yep. That makes sense. Thanks. And then just one follow-up on Doug's question on the leverage.

[Bose George, Managing Director at Keefe, Bruyette & Woods (KBW)]

You know, does your view on leverage change once that capital that's reserved sort of, you know, goes out the door? I mean, is there, you know because right now, as you noted, your sort of optical leverage is different from, you know, gonna be a real leverage because you still have that cash. So just curious how that whether there's any change once, you know, some or part of that is paid out.

[Nicholas Letica, VP & Chief Investment Officer at Two Harbors Investment]

No. I mean, a Bose, this is Nick. As a general rule, no. It doesn't really change our view on leverage. It just you know, we will manage the portfolio according to the amount of capital that we have.

[Nicholas Letica, VP & Chief Investment Officer at Two Harbors Investment]

And but as far as a general view about leverage, no. It it doesn't. You know, it it doesn't change the way we look at the market. Yep. It may change manage

[William Greenberg, President, CEO & Director at Two Harbors Investment]

the portfolio.

[Nicholas Letica, VP & Chief Investment Officer at Two Harbors Investment]

Right. It will it will it, you know, it could potentially change. It's a it's another factor in how we manage the composition of our assets. But as a as an overall rule, no. I do do not think it would it will govern, you know, how we how we do leverage in total.

[Bose George, Managing Director at Keefe, Bruyette & Woods (KBW)]

Okay. Okay. Great. Thanks.

[William Greenberg, President, CEO & Director at Two Harbors Investment]

Thanks, boss.

[Operator]

We'll go next to Trevor Cranston with Citizens JMP.

[William Greenberg, President, CEO & Director at Two Harbors Investment]

Morning, Trevor. Thanks.

[Trevor Cranston, Managing Director at JMP Securities LLC]

Good morning. Bill, in your prepared comments, you mentioned, you know, the the small amount of originations you guys have done in in second liens. And I think you said, you know, that's a product you guys could hold or sell in the future. Obviously, it's a small number right now, but I was curious if you could comment on, you know, is that is that a product you guys are actually interested in building into the investment portfolio or in the near term, or is that something that's more likely to just be sold off to third parties? Thanks.

[William Greenberg, President, CEO & Director at Two Harbors Investment]

Yeah. Thanks for the question. You know, I think it's a it's a question about, about risk and and and reward. Right? So if the if the yields available on the securities are attractive, we will we will hold them as we as we create them.

[William Greenberg, President, CEO & Director at Two Harbors Investment]

And if we feel that that we can extract more value by selling them, either either in bulk or on flow or in a securitized form, then we'll do that. You know, really, it's just another another set of tools in our in our tool belt to be able to use. And and if it's an attractive asset class, we will we will take advantage of that. But but to be able to have multiple outlets for the product is important to us. And so we'll we'll look at at at all the opportunities on a real time basis.

[Trevor Cranston, Managing Director at JMP Securities LLC]

Got it. Okay. That makes sense. Then you you guys also made a comment about some increased exposure to to mortgage derivatives contributing to performance this quarter. Can you just elaborate a little bit on kind of where you guys have been active in the mortgage derivative space? Sure.

[Nicholas Letica, VP & Chief Investment Officer at Two Harbors Investment]

Trevor, this is Nick. Thank you for that question. At the beginning of the year, we did add another team member to focus on derivatives, which, you know, to date has mostly taken the form of growing our inverse IO exposure on the book. But, you know, over the quarter, I I think we may have allocated about $50,000,000 invested in in that sector, But it's still under 5% of the securities capital. So it's still a small component of the book.

[Nicholas Letica, VP & Chief Investment Officer at Two Harbors Investment]

It's just another sector of the market, the level of expertise we have in prepayments and managing risk across the mortgage the agency mortgage sector, it was it's a sector which we felt does have opportunity. And, you know, we have a very skilled group of people here to to to manage that part of the book. So it's something that, you know, we do believe we're gonna continue to have a lot of focus on in the, you know, upcoming quarters. But as a total amount of our risk, you know, it's it's still a fairly small amount.

[Trevor Cranston, Managing Director at JMP Securities LLC]

Yep. Okay. Appreciate the comments. Thank you, guys.

[William Greenberg, President, CEO & Director at Two Harbors Investment]

Thanks.

[Operator]

We'll go next to Harsh Hmani with Green Street.

[William Greenberg, President, CEO & Director at Two Harbors Investment]

Good morning, Harsh. Thank you.

[Harsh Hemnani, Senior Analyst at Green Street Advisors, LLC]

Hey. Good morning. Can we talk about financing strategy and maybe the thought process behind moving part of the financing from repo to unsecured this quarter?

[William Dellal, VP & CFO at Two Harbors Investment]

The good morning, Harsh. It's William Dallal. The reason we did the unsecured baby bond was to to start to prefinance the maturity of the convertible. And some of the warehouse lines that we used to use are now kind of warehouse repos, so that's why there's some change there. But, basically, the big change is the issuance of the baby bond, which is to prefund part part of the convert maturity.

[Harsh Hemnani, Senior Analyst at Green Street Advisors, LLC]

Got it. Thank you. That's all from me.

[William Greenberg, President, CEO & Director at Two Harbors Investment]

Thank you, Harsh.

[Operator]

We'll go next to Kenneth Lee with RBC Capital Markets.

[Kenneth Lee, Vice President at RBC Capital Markets]

Good morning, Kenneth. Hey, good morning. Thanks for taking my question. Good morning. Just wondering if could just talk about thoughts around potential impact of a steepening yield curve on the portfolio and then in particular, just further expand upon the potential benefits there to the MSRs?

[Nicholas Letica, VP & Chief Investment Officer at Two Harbors Investment]

Ken, it's Nick. Thanks for the question. In general, as we have said, we do hedge across the yield curve in general. So we don't have a particularly strong view about the curve, or our risks don't really reflect a particularly strong view across the curve. And if you look at the appendix slides that show our general curve exposure, you can see they're fairly small.

[Nicholas Letica, VP & Chief Investment Officer at Two Harbors Investment]

So as a broad measure to our performance, we are hedged across the curve. That being said, steeper yield curves are usually good things for mortgage spreads because it does incent depository institutions frequently to go out on the curve and invest, and particularly in one of their prime assets are mortgage backed securities. And the history will tell you that when the Fed cuts and the yield curve steepens, that you tend to see more participation by banks in our sector, and that drives spreads tighter. So there's a secondary effect of that. The actual implications on MSR are, again, built into our risks.

[Nicholas Letica, VP & Chief Investment Officer at Two Harbors Investment]

MSR is an asset that is like an IO in that it's prepayment sensitive. I think everybody knows that. But also, a large component of the value of MSR is also the float income, which is tied to the front end of the curve. So to the extent that the curve steepens, if front end rates go down, that will drive the price of MSR down. And in fact, that's one of the reasons why MSR these days, our low gross WACC, still doesn't have much negative duration, but it does have negative duration.

[Nicholas Letica, VP & Chief Investment Officer at Two Harbors Investment]

And a big component of that is the front rates and the effect on float income. So the effect is that if you do get into a steep yield curve environment, on MSR, there two counterbalancing effects. The first is that the float income will go down. The second is if the curve steepens, also forward rates for longer forward rates typically go higher, which means that prepayment assumptions go lower. So there's a little bit of a balancing, but those two things will govern how the price action of MSR performs over time.

[Kenneth Lee, Vice President at RBC Capital Markets]

Got you. Very helpful there. And just on my follow-up here, just wondering if you could talk a little bit more about your risk appetite. I think you said that in the quarter, took on you like the risks in the markets. And looking at the risk exposures, it looks as if there's some quarter over quarter slight increase in rate exposure, maybe unchanged on spread.

[Kenneth Lee, Vice President at RBC Capital Markets]

Just want to get a little bit more color around your appetite for risk in the current market. Our

[Nicholas Letica, VP & Chief Investment Officer at Two Harbors Investment]

rate exposure quarter over quarter is virtually unchanged. The and our spread risk from quarter end to quarter end is also pretty close if you measured by our spread risk on the appendix slide and on the main portion. Overall, I would say risk right now, like the market. We like where mortgage spreads are. If you look at mortgages hedged with swap spreads, they are generous historically.

[Nicholas Letica, VP & Chief Investment Officer at Two Harbors Investment]

And even on an OAS basis, they look pretty cheap relative to the amount of spread volatility that we've seen. And as I said in my prepared remarks, spread volatility has declined to the lowest levels since the pre COVID time period. We had a bit of a spike in the April when the market was quite volatile and the VIX hit that bit of a multiyear high. But the market settled right back down to where it was before that, and it's in this we're in a good place. I mean, I realized rate volatility right now has been fairly low.

[Nicholas Letica, VP & Chief Investment Officer at Two Harbors Investment]

Even once we got through that beginning part of the second quarter and for the the third quarter so far, we've been in a pretty tight range of rates. We we like where spreads are. And the MSR our MSR continues to perform quite well, and the market is extremely well supported right now in terms of demand.

[Kenneth Lee, Vice President at RBC Capital Markets]

Great. Very helpful there. Thanks again.

[William Greenberg, President, CEO & Director at Two Harbors Investment]

Thanks, Ed.

[Operator]

We'll go next to Jason Weaver with Jones Trading.

[Jason Weaver, MD - Head Specialty Finance & Real Estate Research at Jones Trading]

Hi. Good morning. Thanks for taking my question. In your prepared remarks, you mentioned, something about, you know, maybe your outlook for the mortgage origination market, how that might affect the sort of MSR appetite, the opportunity set there in the competitive landscape going forward?

[William Greenberg, President, CEO & Director at Two Harbors Investment]

Yeah. Well, you know, you know, we I mean, we've been saying for a little bit now that our that our mortgage origination effort is still small. And as we said in the prepared remarks, you know, only 0.7% of our portfolio is eligible for refinance from a rate inter perspective. And so, you know, we're trying to be mindful of of the cost attached to to growing that efforts too large, too fast, because that would create a drag on our on our earnings. But, you know, we're trying to do things within the within the business in order to be able to be able to scale more quickly.

[William Greenberg, President, CEO & Director at Two Harbors Investment]

Originating second liens is is is part of that, and we can, you know, utilize having more loan officers making loans and making second liens and brokering second liens while there's not a lot of first lien activity. Right? So we can share some of that. And then, you know, should rates fall later, we can we can transfer some of those things back to first liens right from seconds where the loan sizes are bigger and there will be more opportunity should rates fall, and we get into an environment where more loans are eligible for refinance. So, you know, we're trying to balance those those factors of of of costs and and and opportunity.

[William Greenberg, President, CEO & Director at Two Harbors Investment]

And And I think we'll watch the market going forward, we'll be ready to react as rates move.

[Jason Weaver, MD - Head Specialty Finance & Real Estate Research at Jones Trading]

Got it. Thank you for that. And I was wondering, can you provide maybe some more clarity or some bracketing around what you expect on timeline for resolution of the PRCM litigation as well as, if you have a ballpark for what the claims are for you against, IP?

[William Greenberg, President, CEO & Director at Two Harbors Investment]

Well, look, unfortunately, I appreciate the question. I really do. Unfortunately, I can't really say a lot more than what William said in in his prepared remarks. You know, a trial date has has not been set yet. And so, you know, we we are waiting for for the next stages to occur.

[William Greenberg, President, CEO & Director at Two Harbors Investment]

When there is something to to to update you and the rest of the market on, we will, of course, do that, you know, as soon as we can.

[Jason Weaver, MD - Head Specialty Finance & Real Estate Research at Jones Trading]

Alright. Thank you. Appreciate the time.

[William Greenberg, President, CEO & Director at Two Harbors Investment]

Yep. Thank you.

[Operator]

We'll go next to Rick Shane with JPMorgan.

[Richard Shane, Analyst at JP Morgan]

Hey, guys. Thanks for taking my questions this morning. I'd like to talk a little bit about the expense structure. Just servicing costs down sequentially, down year over year, comp and OpEx down sequentially. I assume that there's, in the first quarter on the comp side, some sort of annual stuff that comes through and that's what drives it.

[Richard Shane, Analyst at JP Morgan]

But particularly as you are expanding your investment in AI, can you help us understand what will be expense, what will be capitalized, and how you see that driving your expense lines going forward?

[William Dellal, VP & CFO at Two Harbors Investment]

Good morning, Rick. A lot of what we're doing is going to be expense rather than capitalize. The rules for capitalizing are quite strict. This the material we're doing now is likely to be expense, which is why our expense ratio is tended to to say constant or even creep up a little bit.

[William Greenberg, President, CEO & Director at Two Harbors Investment]

But it's also about expense

[Richard Shane, Analyst at JP Morgan]

so when we think about expenses for the second half, the combined expense between servicing costs and comps benefits and OpEx was $45,000,000 in the second quarter. Is that a decent run rate to build off of into third, fourth and into 2026?

[William Dellal, VP & CFO at Two Harbors Investment]

I think we're to be in that ballpark. Yes. K.

[Richard Shane, Analyst at JP Morgan]

And in terms of the AI build out, you know, it's it's it's an interesting, think, challenge for companies of your size balancing off the shelf versus, you know, bespoke internally developed solutions. Help us understand how that works in your business, please.

[William Greenberg, President, CEO & Director at Two Harbors Investment]

Look. I think it works the same way it works really almost everywhere. There's going to be you know, there's there's there's lots of activity and lots of developments and lots of products, being brought to market in real time and changing rapidly in this space that can help us do all kinds of efficiencies and and cost savings and improve our experience. So it's changing very, very rapidly. I'd say it's more likely that we will be accessing some of those, resources from other companies rather than building, ourselves.

[William Greenberg, President, CEO & Director at Two Harbors Investment]

But some simple things that we could do ourselves that are that are, you know, particularly, you know, bespoke for for our needs, we are likely to do. But I'd say the the the bulk of it is probably going to be from third parties.

[Richard Shane, Analyst at JP Morgan]

Got it. Okay. Thank you very much.

[William Dellal, VP & CFO at Two Harbors Investment]

Party stuff that we take. Some of it requires a little bit of customization and to our particular needs, but this the main bulk of it will be third party.

[Richard Shane, Analyst at JP Morgan]

Thank you.

[Operator]

We'll go next to Jason Stewart with Janney.

[Jason Stewart, Director - Mortgage Finance at Janney Montgomery Scott]

Hey. Thanks. Following up on Trevor's question on second liens in the balance sheet. As production ramps, on the on the the core business, is there any possibility or intent to retain POS, or is the the goal to continue to sell that?

[William Greenberg, President, CEO & Director at Two Harbors Investment]

I think there is a possibility for that, and and I think that's one of the things that we're looking at as we as we grow the origination effort and the products that we offer, and the outlets that we will access to do those things, whether it's it's selling it. And some of it could could involve, retaining some of that stuff. So, yeah, I think that's one of the things that we're looking at.

[Jason Stewart, Director - Mortgage Finance at Janney Montgomery Scott]

Okay. And I assume that you look at the same way as you described seconds, meaning, you know, it's gotta hit certain economic return hurdles, you know, etcetera. Is there any other strategic thought behind shifting the balance sheet from primarily agency to to private label credit?

[William Greenberg, President, CEO & Director at Two Harbors Investment]

Well, I think I think, you know, it would still be primarily agency. I don't think we would talk about expanding our our non agency exposure to a level that it would be, you know, primarily that. So, you know, as a as a as a minority interest in in the portfolio of of other, you know, kinds of asset class with with predominantly similar risks, but some slightly different ones. You know, I think it has has a has a benefit, in the portfolio. And so that's the way we're gonna look at it.

[Jason Stewart, Director - Mortgage Finance at Janney Montgomery Scott]

Okay. Thank you.

[William Greenberg, President, CEO & Director at Two Harbors Investment]

Thank you.

[Operator]

At this time, there are no further questions. I'll turn the call back to Bill for any additional or closing remarks.

[William Greenberg, President, CEO & Director at Two Harbors Investment]

I to thank everyone for joining us today. And as always, thanks for your interest in Two Harpers.

[Operator]

This does conclude today's conference. We thank you for your participation.

Participants

Executives

• William Greenberg, President, CEO & Director
• Nicholas Letica, VP & Chief Investment Officer

Analysts

• Margaret Karr, Head - IR & Communication at Two Harbors Investment
• William Dellal, VP & CFO at Two Harbors Investment
• Douglas Harter, Equity Research Analyst at UBS Group
• Bose George, Managing Director at Keefe, Bruyette & Woods (KBW)
• Trevor Cranston, Managing Director at JMP Securities LLC
• Harsh Hemnani, Senior Analyst at Green Street Advisors, LLC
• Kenneth Lee, Vice President at RBC Capital Markets
• Jason Weaver, MD - Head Specialty Finance & Real Estate Research at Jones Trading
• Richard Shane, Analyst at JP Morgan
• Jason Stewart, Director - Mortgage Finance at Janney Montgomery Scott