Form: 10-Q

Quarterly report pursuant to Section 13 or 15(d)

May 15, 1998

Documents

10-Q: Quarterly report pursuant to Section 13 or 15(d)

Published on May 15, 1998





UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, DC 20549

FORM 10-Q

|X| Quarterly Report Pursuant to Section 13 or 15(d) of the
Securities Exchange Act of 1934

For the quarter ended March 31, 1998

|_| 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.)

10900 Nuckols Road, 3rd Floor, Glen Allen, Virginia 23060
(Address of principal executive offices) (Zip Code)

(804) 217-5800
(Registrant's telephone number, including area code)

Indicate by check mark whether the registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past ninety days. |X| Yes |_| No

On April 30, 1998, the registrant had 45,714,407 shares of common stock of
$.01 value outstanding, which is the registrant's only class of common stock.


DYNEX CAPITAL, INC.
FORM 10-Q

INDEX





PAGE

PART I. FINANCIAL INFORMATION


Item 1. Financial Statements

Consolidated Balance Sheets at March 31, 1998 and
December 31, 1997................................................... 3

Consolidated Statements of Operations for the three months
ended March 31, 1998 and 1997....................................... 4

Consolidated Statement of Shareholders' Equity for
the three months ended March 31, 1998............................... 5

Consolidated Statements of Cash Flows for
the three months ended March 31, 1998 and 1997...................... 6

Notes to Unaudited Consolidated Financial
Statements.......................................................... 7

Item 2. Management's Discussion and Analysis of
Financial Condition and Results of Operations....................... 12


PART II. OTHER INFORMATION

Item 1. Legal
Proceedings.................................................................. 29

Item 2. Changes in Securities............................................... 29

Item 3. Defaults Upon SenioR Securities..................................... 29

Item 4. Submission of Matters to a Vote of Security Holders................. 29

Item 5. Other Information................................................... 29

Item 6. Exhibits and Reports on Form 8-K.................................... 29



SIGNATURES................................................................... 30


PART I. FINANCIAL INFORMATION
Item 1. Financial Statements

DYNEX CAPITAL, INC.
CONSOLIDATED BALANCE SHEETS
(amounts in thousands except share data)



March 31, December 31,
ASSETS 1998 1997
------------------ ------------------


Investments:
Collateral for collateralized bonds $ 3,810,259 $ 4,375,561
Mortgage securities 938,153 513,750
Other investments 245,661 214,120
Loans held for securitization 1,077,145 235,023
------------------ ------------------
6,071,218 5,338,454

Cash 16,273 18,329
Accrued interest receivable 12,505 5,628
Other assets 16,411 15,761
================== ==================
$ 6,116,407 $ 5,378,172
================== ==================

LIABILITIES AND SHAREHOLDERS' EQUITY

LIABILITIES
Non-recourse debt - collateralized bonds $ 3,090,979 $ 3,632,079
Recourse debt:
Secured by collateralized bonds retained 502,884 494,493
Secured by investments 1,795,058 510,491
Unsecured 140,485 140,711

Accrued interest payable 7,274 7,240
Accrued expenses and other liabilities 13,314 12,756
Dividends payable 16,966 19,493
--------------- ---------------
---- ----
5,566,960 4,817,263
------------------ ------------------

SHAREHOLDERS' EQUITY
Preferred stock, par value $.01 per share,
50,000,000 shares authorized:
9.75% Cumulative Convertible Series A,
1,323,061 and 1,397,511 issued and outstanding, respectively 30,220 31,920
9.55% Cumulative Convertible Series B,
1,917,234 and 1,957,490 issued and outstanding, respectively 44,880 45,822
9.73% Cumulative Convertible Series C,
1,840,000 and 1,840,000 issued and outstanding, respectively 52,740 52,740
Common stock, par value $.01 per share,
100,000,000 shares authorized,
45,584,622 and 45,146,242 issued and outstanding, respectively 456 451
Additional paid-in capital 347,849 342,570
Accumulated other comprehensive income 67,895 79,441
Retained earnings 5,407 7,965
------------------ ------------------
549,447 560,909
------------------ ------------------

$ 6,116,407 $ 5,378,172
================== ==================


See notes to unaudited consolidated financial statements.



DYNEX CAPITAL, INC.
CONSOLIDATED STATEMENTS OF OPERATIONS
(amounts in thousands except share data)



Three Months Ended
March 31,
1998 1997
------------------- -------------------


Interest income:
Collateral for collateralized bonds $ 71,580 $ 48,462
Mortgage securities 14,930 19,629
Other investments 4,993 2,375
Loans held for securitization 6,829 6,556
------------------- -------------------
98,332 77,022
------------------- -------------------

Interest and related expense:
Non-recourse debt 57,915 34,209
Recourse debt 20,374 20,671
Other 415 556
------------------- -------------------
78,704 55,436
------------------- -------------------

Net interest margin before provision for losses 19,628 21,586
Provision for losses (1,954 ) (995 )
------------------- -------------------
Net interest margin 17,674 20,591

Gain on sale of investments and trading revenue 4,657 2,487
Other income 628 451
General and administrative expenses (8,527 ) (5,219 )
------------------- -------------------
Net income 14,432 18,310
Dividends on preferred stock (3,287 ) (3,687 )
=================== ===================
Net income available to common shareholders $ 11,145 $ 14,623
=================== ===================

Net income per common share:
Basic $ 0.25 $ 0.35
=================== ===================
Diluted $ 0.25 $ 0.35
=================== ===================


See notes to unaudited consolidated financial statements.




DYNEX CAPITAL, INC.
CONSOLIDATED STATEMENT OF SHAREHOLDERS' EQUITY
(amounts in thousands except share data)




Accumulated
Additional Other
Preferred Common Paid-in Comprehensive Retained
Stock Stock Capital Income Earnings Total
----------- ----------- ----------- ---------------- ---------- -----------


Balance at December 31, 1997 $ 130,482 $ 451 $ 342,570 $ 79,441 $ 7,965 $ 560,909

Comprehensive income:
Net income - three months ended
March 31, 1998 - - - - 14,432 14,432
Change in net unrealized gain on investments
classified as available-for-sale during - - - (11,546 ) - (11,546)
the period
------------ ----------- ------------- ---------------- ------------ -----------
Total comprehensive income - - - (11,546 ) 14,432 2,886

Issuance of common stock - 3 2,757 - - 2,760
Conversion of preferred stock (2,642) 2 2,640 - - -
Repurchase of common stock - - (118) - - (118)
Dividends on common stock
at $0.30 per share - - - - (13,703) (13,703)
Dividends on preferred stock - - - - (3,287) (3,287)
------------ ----------- ------------- ---------------- ------------ -----------

Balance at March 31, 1998 $ 127,840 $ 456 $ 347,849 $ 67,895 $ 5,407 $ 549,447
============ =========== ============= ================ ============ ===========


See notes to unaudited consolidated financial statements.




DYNEX CAPITAL, INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS



Three Months Ended
(amounts in thousands) March 31,
1998 1997
------------------ ------------------

Operating activities:
Net income $ 14,432 $ 18,310
Adjustments to reconcile net income to net cash
provided by operating activities:
Provision for losses 1,954 995
Net gain from sale of investments (4,657 ) (2,487 )
Amortization and depreciation 13,291 6,027
Net (increase) decrease in accrued interest, other
assets and other liabilities (4,501 ) 2,345
------------------ ------------------
Net cash provided by operating activities 20,519 25,190
------------------ ------------------

Investing activities:
Collateral for collateralized bonds:
Principal payments on collateral 533,702 193,514
Decrease in accrued interest receivable 3,636 1,269
Net (increase) decrease in funds held by trustees (56 ) 751
Net increase in loans held for securitization (842,536 ) (122,824 )
Purchase of other investments (57,714 ) (34,943 )
Payments on other investments 5,339 2,814
Proceeds from sale of other investments 11,784 157
Purchase of mortgage securities (437,083 ) (47,218 )
Payments on mortgage securities 19,752 19,860
Proceeds from sales of mortgage securities - 3,454
Proceeds from sale of single family operations 9,500 9,500
Capital expenditures (1,038 ) (1,566 )
--------------- ---------------
Net cash (used for) provided by investing activities (754,714 ) 24,768
--------------- ---------------

Financing activities:
Collateralized bonds:
Principal payments on securities (541,962 ) (193,290 )
Decrease in accrued interest payable (1,642 ) (245 )
Proceeds from borrowings, net 1,292,619 150,532
Net proceeds from issuance of common stock 2,760 6,298
Repurchase of common stock (118 ) -
Dividends paid (19,518 ) (16,234 )
------------------ ------------------
Net cash provided by (used for) financing activities 732,139 (52,939 )
------------------ ------------------

Net decrease in cash (2,056 ) (2,981 )
Cash at beginning of year 18,329 11,396
================== ==================
Cash at end of year $ 16,273 $ 8,415
================== ==================

Cash paid for interest $ 76,650 $ 53,329
================== ==================

See notes to unaudited consolidated financial statements.





DYNEX CAPITAL, INC.
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS
March 31, 1998
(amounts in thousands except share data)

NOTE 1--BASIS OF PRESENTATION

The accompanying consolidated financial statements have been prepared in
accordance with the instructions to Form 10-Q and do not include all of the
information and notes required by generally accepted accounting principles for
complete financial statements. The consolidated financial statements include the
accounts of Dynex Capital, Inc., its wholly-owned subsidiaries, and certain
other entities. As used herein, the "Company" refers to Dynex Capital, Inc.
("Dynex") and each of the entities that is consolidated with Dynex for financial
reporting purposes. A portion of the Company's operations are operated by
taxable corporations that are consolidated with Dynex for financial reporting
purposes, but are not consolidated for income tax purposes. All significant
intercompany balances and transactions have been eliminated in consolidation.

In the opinion of management, all material adjustments, consisting of
normal recurring adjustments, considered necessary for a fair presentation of
the consolidated financial statements have been included. The Consolidated
Balance Sheets at March 31, 1998 and December 31, 1997, the Consolidated
Statements of Operations for the three months ended March 31, 1998 and 1997, the
Consolidated Statement of Shareholders' Equity for the three months ended March
31, 1998, the Consolidated Statements of Cash Flows for the three months ended
March 31, 1998 and 1997 and related notes to consolidated financial statements
are unaudited. Operating results for the three months ended March 31, 1998 are
not necessarily indicative of the results that may be expected for the year
ending December 31, 1998. For further information, refer to the audited
consolidated financial statements and footnotes included in the Company's Form
10-K for the year ended December 31, 1997.

Certain amounts for 1997 have been reclassified to conform with the
presentation for 1998.


NOTE 2--EARNINGS PET SHARE

Earnings per share ("EPS") as shown on the consolidated statements of
operations for the three months ended March 31, 1998 and 1997 is presented on
both a basic and diluted EPS basis. Diluted EPS assumes the conversion of the
convertible preferred stock into common stock, using the if-converted method,
and stock appreciation rights ("SARs"), using the treasury stock method but only
if these items are dilutive. As a result of the two-for-one split of the
Company's common stock in May 1997, the preferred stock is convertible into two
shares of common stock for one share of preferred stock.

The following table reconciles the numerator and denominator for both the
basic and diluted EPS for the three months ended March 31, 1998 and 1997.



Three Months Ended March 31,
1998 1997
--------------------------------- ----------------------------------

Weighted-Average Weighted-Average
Number of Shares Number of Shares
Income Income
-------------- ----------------- --------------- ------------------


Net Income $ 14,432 $ 18,310
Less: Dividends paid on preferred (3,287) (3,687 )
stock
-------------- ----------------- -------------- ------------------
Basic 11,145 45,421,134 14,623 41,666,720

Effect of dividends and additional
shares of preferred stock:
Series A - - 975 3,058,576
Series B - - 1,369 4,345,343
Series C - - - -
============== ================= ============== ==================
Diluted $ 11,145 45,421,134 $ 16,967 49,070,639
============== ================= ============== ==================

Basic EPS $ 0.25 $ 0.35
================= ==================

Diluted EPS $ 0.25 $ 0.35
================= ==================

Reconciliation of anti-dilutive
shares:
Dividends and additional shares of
preferred stock:
Series A $ 794 2,707,591 $ - -
Series B 1,150 3,872,464 - -
Series C 1,343 3,680,000 1,343 3,680,000
Expense and incremental shares of
stock
appreciation rights 500 170,812 507 172,640
============== ================= ============== ==================
$ 3,787 10,430,867 $ 1,850 3,852,640
============== ================= ============== ==================



NOTE 3--COLLATERAL FOR COLLATERALIZED BONDS, MORTGAGE SECURITIES AND OTHER
INVESTMENTS

The following table summarizes the Company's amortized cost basis and fair
value of collateral for collateralized bonds, mortgage securities and other
investments classified as available-for-sale at March 31, 1998 and December 31,
1997, and the related average effective interest rates (calculated excluding
unrealized gains and losses) for the month ended March 31, 1998 and December 31,
1997:



- ---------------------------------------------------------------------------------------------------------------------
March 31, 1998 December 31, 1997
- ---------------------------------------------------------------------------------------------------------------------
Effective Effective
Interest Interest
Fair Value Rate Fair Value Rate
- ---------------------------------------------------------------------------------------------------------------------


Collateral for collateralized bonds:
Amortized cost $ 3,767,953 7.1% $ 4,317,945 7.5%
Allowance for losses (22,676) (24,811)
- ---------------------------------------------------------------------------------------------------------------------
Amortized cost, net 3,745,277 4,293,134
Gross unrealized gains 75,939 94,825
Gross unrealized losses (10,957) (12,398)
- ---------------------------------------------------------------------------------------------------------------------
$ 3,810,259 $ 4,375,561
- ---------------------------------------------------------------------------------------------------------------------

Mortgage securities:
Adjustable-rate mortgage securities $ 679,850 7.4% $ 403,117 7.7%
Fixed-rate mortgage securities 168,083 7.6% 21,463 9.1%
Derivative and residual securities 91,115 15.0% 97,848 16.3%
- ---------------------------------------------------------------------------------------------------------------------
939,048 522,428
Allowance for losses (3,857) (5,692)
- ---------------------------------------------------------------------------------------------------------------------
Amortized cost, net 935,191 516,736
Gross unrealized gains 24,612 18,144
Gross unrealized losses (21,650) (21,130)
- ---------------------------------------------------------------------------------------------------------------------
$ 938,153 $ 513,750
- ---------------------------------------------------------------------------------------------------------------------

Other investments: (1)
Amortized cost $ 54,232 7.2% $ 38,000 6.5%
Gross unrealized gains - -
Gross unrealized losses (49) -
- ---------------------------------------------------------------------------------------------------------------------
$ 54,183 $ 38,000
- ---------------------------------------------------------------------------------------------------------------------


(1) Excludes$191,478 and $176,120 at amortized cost of other investments
not classified as available-for-sale at March 31, 1998 and December 31,
1997, respectively.



Collateral for collateralized bonds consists of debt securities backed by
adjustable-rate and fixed-rate mortgage loans secured by first liens on single
family and multifamily residential housing, commercial properties and
manufactured housing installment loans secured by either a UCC filing or a motor
vehicle title. All collateral for collateralized bonds is pledged to secure
repayment of the related collateralized bonds. All principal and interest (less
servicing-related fees) on the collateral is remitted to a trustee and is
available for payment on the collateralized bonds. The Company's exposure to
loss on collateral for collateralized bonds is generally limited to the amount
of collateral pledged in excess of the related collateralized bonds issued, as
the collateralized bonds issued by the limited-purpose finance subsidiaries are
non-recourse to the Company.

No mortgage securities were sold during the three months ended March 31,
1998. The specific identification method is used to calculate the basis of
mortgage securities sold. Gain on sale of investments and trading revenue
includes gains of $4,550 on various trading positions entered into during the
three months ended March 31, 1998. At March 31, 1998, the Company had an
outstanding position with a notional value of $1.3 billion remaining and a
mark-to-market gain of $1,484.


NOTE 4--ADOPTION OF FINANCIAL ACCOUNTING STANDARDS

In January 1998, the Company adopted the Statement of Financial Accounting
Standard No. 130, "Reporting Comprehensive Income" ("FAS No. 130"). FAS No. 130
requires companies to classify items of other comprehensive income by their
nature in a financial statement and display the accumulated balance of other
comprehensive income separately from retained earnings and additional paid-in
capital in the equity section of a statement of financial position. The impact
of adopting FAS No. 130 did not result in a material change to the Company's
financial position and results of operations.

In June 1997, the Financial Accounting Standards Board issued Statement of
Financial Accounting Standard No. 131, "Disclosures about Segments of an
Enterprise and Related Information" ("FAS No. 131"). FAS No. 131 establishes
standard for reporting information about operating segments and is effective for
financial statements issued for fiscal years beginning after December 15, 1997.
There will be no significant changes to the Company's disclosures pursuant to
the adoption of FAS No. 131.

In January 1998, the Financial Accounting Standards Board issued Statement
of Financial Accounting Standard No. 132, "Employers' Disclosure about Pensions
and Other Postretirement Benefits" ("FAS No. 132"). FAS No. 132 revises
employers' disclosures about pension and other postretirement benefit plans and
is effective for financial statements issued for fiscal years beginning after
December 15, 1998. There will be no significant changes to the Company's
disclosures pursuant to the adoption of FAS No. 132.


NOTE 5--DERIVATIVE FINANCIAL INSTRUMENTS

The Company enters into interest rate swap agreements, interest rate cap
agreements, interest rate floor agreements, financial forwards, financial
futures and options on financial futures ("Interest Rate Agreements") to manage
its sensitivity to changes in interest rates. These Interest Rate Agreements are
intended to provide income and cash flow to offset potential reduced net
interest income and cash flow under certain interest rate environments. At trade
date, these instruments are designated as either hedge positions or trade
positions.

For Interest Rate Agreements designated as hedge instruments, the Company
evaluates the effectiveness of these hedges periodically against the financial
instrument being hedged under various interest rate scenarios. The revenues and
costs associated with interest rate swap agreements are recorded as adjustments
to interest income or expense on the asset or liability being hedged. For
interest rate cap agreements, the amortization of the cost of the agreements is
recorded as a reduction in the net interest income on the related investment.
The unamortized cost is included in the carrying amount of the related
investment. Revenues or cost associated with futures and option contracts are
recognized in income or expense in a manner consistent with the accounting for
the asset or liability being hedged. Amounts payable to or receivable from
counterparties are included in the financial statement line of the item being
hedged. Interest Rate Agreements that are hedge instruments and hedge an asset
which is carried at its fair value are also carried at fair value, with
unrealized gains and losses reported as a separate component of shareholders'
equity.

The Company may also enter into forward delivery contracts and interest
rate futures and options contracts for hedging interest rate risk associated
with commitments made to fund loans. Gains and losses on such contracts are
either (i) deferred as an adjustment to the carrying value of the related loans
until the loan has been funded and securitized, after which the gains or losses
will be amortized into income over the remaining life of the loan using a method
that approximates the effective yield method, or (ii) deferred until such time
as the related loans are funded and sold.

If a hedged instrument is sold or matures, or the criteria that was
executed at the time the hedge instrument was entered into no longer exists, the
Interest Rate Agreement is no longer accounted for as a hedge. Under these
circumstances, the accumulated change in the market value of the hedge is
recognized in current income to the extent that the effects of interest rate or
price changes of the hedged item have not offset the hedge results.

For Interest Rate Agreements entered into for trading purposes, realized
and unrealized changes in fair value of these instruments are recognized in the
consolidated statements of operations in gain on sale of assets in the period in
which the changes occur or when such trade instruments are settled. Amounts
payable to or receivable from counterparties, if any, are included on the
consolidated balance sheets in accrued expenses and other liabilities.


NOTE 6 - EMPLOYEE BENEFITS

During the three months ended March 31, 1998, 24,000 SARs were exercised
for a total value of $322. The total SARs remaining to be exercised was 663,640
at March 31, 1998. The Company expensed $500 related to the Employee and Board
Incentive Plans during the first quarter 1998.


NOTE 7 -- OTHER MATTERS

During the three months ended March 31, 1998, the Company issued 218,968
shares of its common stock pursuant to its dividend reinvestment program for net
proceeds of $2,760 during the three months ended March 31, 1998.

The Company repurchased 10,000 of its common stock outstanding at an
aggregate purchase price of $118, or $11.75 per share, during the three months
ended March 31, 1998. The Company is authorized to repurchase up to one million
shares of its common stock.



Item 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL
CONDITION AND RESULTS OF OPERATIONS

FINANCIAL CONDITION



- -------------------------------------------------- ------------------------ ----------------------
March 31, December 31,
(amounts in thousands except per share data) 1998 1997
- -------------------------------------------------- ------------------------ ----------------------


Investments:
Collateral for collateralized bonds $ 3,810,259 $ 4,375,561
Mortgage securities 938,153 513,750
Other investments 245,661 214,120
Loans held for securitization 1,077,145 235,023

Non-recourse debt - collateralized bonds 3,090,979 3,632,079
Recourse debt 2,438,427 1,145,695

Shareholders' equity 549,447 560,909

Book value per common share 9.25 9.53

- ---------------------------------------------------- ----------------------- ----------------------


Dynex Capital, Inc. (the "Company") is a mortgage and consumer finance
company which uses its loan production operations to create investments for its
portfolio. Currently, the Company's primary loan production operations include
the origination of mortgage loans secured by multifamily and commercial
properties and the origination of loans secured by manufactured homes. The
Company will generally securitize the loans funded as collateral for
collateralized bonds, thereby limiting its credit risk and providing long-term
financing for its portfolio.

Collateral for collateralized bonds As of March 31, 1998, the Company had
33 series of collateralized bonds outstanding. The collateral for collateralized
bonds decreased to $3.8 billion at March 31, 1998 compared to $4.4 billion at
December 31, 1997. This decrease of $0.6 billion is primarily the result of
prepayments on the collateral during the three months ended March 31, 1998.

Mortgage securities

Mortgage securities increased to $938.2 million at March 31, 1998 compared
to $513.8 million at December 31, 1997. The increase was primarily the result of
the Company purchasing $148.1 million of fixed-rate securities during the three
months ended March 31, 1998. In addition, the Company exercised its call right
on $288.9 million of adjustable-rate mortgage ("ARM") securities during the same
period. The Company intends to securitize approximately $752.0 million of ARM
securities during the second quarter of 1998.

Other investments

Other investments consists primarily of single family homes leased to home
builders, property tax receivables and a note receivable received in connection
with the sale of the Company's single family mortgage operations in May 1996.
Other investments increased from $214.1 million at December 31, 1997 to $245.7
million at March 31, 1998. The increase is primarily the result of additional
purchases or financing of $30.4 million of model homes during the three months
ended March 31, 1998. In addition, the Company purchased $25.0 million of
corporate bonds during the three months ended March 31, 1998. These increases
were partially offset during the same period by the sale of $11.6 million in
model homes and the receipt of the $9.5 million annual principal payment on the
note receivable from the 1996 sale of the single family mortgage operations.


Loans held for securitization

Loans held for securitization increased from $235.0 million at December 31,
1997 to $1.1 billion at March 31, 1998. The increase was a result from new loan
fundings from the Company's production operations during the three months ended
March 31, 1998, totaling $256.0 million and bulk purchases of single family
loans, totaling $562.0 million. The Company intends to securitize approximately
$810 million of the loans held for securitization during the second quarter of
1998.

Non-recourse debt - collateralized bonds

Collateralized bonds decreased to $3.1 billion at March 31, 1998 from $3.6
billion at December 31, 1997 primarily as a result of paydowns on the
collateralized bonds during the three months ended March 31, 1998.

Recourse debt

Recourse debt increased to $2.4 billion at March 31, 1998 from $1.1 billion
at December 31, 1997. This increase was primarily due to the addition of $1.0
billion of repurchase agreements and $0.3 billion of notes payable as a result
of $1.3 billion of additional assets purchased or funded during the three months
ended March 31, 1998.

Shareholder' equity

Shareholders' equity decreased to $549.4 million at March 31, 1998 from
$560.9 million at December 31, 1997. This decrease was primarily the result of a
$11.5 million decrease in the net unrealized gain on investments
available-for-sale from $79.4 million at December 31, 1997 to $67.9 million at
March 31, 1998. Also, the Company repurchased 10,000 of its common shares at an
aggregate purchase price of $0.1 million, or $11.75 per share, during the three
months ended March 31, 1998. These decreases were partially offset by $2.8
million of common stock proceeds received through the dividend reinvestment plan
during the quarter.

Loan Production Activity
($ in thousands)



Three Months Ended
March 31,
------------------------------------
1998 1997
--------------- ---------------


Commercial $ 203,339 (1) $ 12,676
Manufactured housing 83,948 29,077
Specialty finance 33,403 35,242
-------------- ---------------
Total fundings through direct production 320,690 76,995
Securities acquired through bond calls 288,930 7,836
Single family fundings through bulk purchases 562,045 98,144
============== ===============
Total fundings $ 1,171,665 $ 182,975
============== ===============


(1) Included in commercial fundings were $32.7 million of construction
loans closed during the three months ended March 31, 1998. Only the draw amount
for these is included in the balance of the loans held for securitization.



RESULTS OF OPERATIONS




Three Months Ended
March 31,
----------------------------------
(amounts in thousands except per share information) 1998 1997
----------------------------------


Net interest margin $ 17,674 $ 20,591
Gain on sale of assets, net 4,657 2,487
General and administrative expenses 8,527 5,219
Net income 14,432 18,310
Basic net income per common share (1) 0.25 0.35
Diluted net income per common share (1) 0.25 0.35

Total fundings 1,171,665 182,975

Dividends declared per share:
Common (1) $ 0.30 $ 0.325
Series A and B Preferred 0.60 0.650
Series C Preferred 0.73 0.730


(1) Adjusted for two-for-one common stock split effective May 5, 1997.



Three Months Ended March 31, 1998 Compared to Three Months Ended March 31,
1997. The decrease in the Company's earnings during the three months ended March
31, 1998 as compared to the same period in 1997 is primarily the result of the
decrease in the net interest margin and increase in general and administrative
expenses.

Net interest margin for the three months ended March 31, 1998 decreased to
$17.7 million, or 14%, below the $20.6 million for the same period for 1997.
This decrease was primarily the result of a $4.7 million increase in premium
amortization expense, which resulted from a higher rate of prepayments in the
investment portfolio during the first quarter 1998. Amortization expense arises
from the amortization of premiums on assets in the Company's investment
portfolio due to scheduled payments and prepayments received. The net interest
spread on the Company's investment portfolio decreased to 1.24% for the three
months ended March 30, 1998 from 1.71% for the same period in 1997. The decrease
in net interest spread for the three months ended March 31, 1998 relative to the
same period in 1997 is also primarily the result of the higher premium
amortization as a result of the increase in principal prepayments.

The gain on sale of assets, net, for the three months ended March 31, 1998
increased to $4.7 million, as compared to $2.5 million for the three months
ended March 31, 1997. The increase in the net gain is primarily the result of
gains recognized of $4.6 million on trading positions entered into during the
three months ended March 31, 1998.

General and administrative expenses increased $3.3 million, or 63%, to $8.5
million for the three months ended March 31, 1998 as compared to the same period
for 1997. The increase is a result of the growth in the Company's production
operations.

The following table summarizes the average balances of the Company's
interest-earning assets and their average effective yields, along with the
Company's average interest-bearing liabilities and the related average effective
interest rates, for each of the periods presented.

Average Balances and Effective Interest Rates



Three Months Ended March 31,
------------------------------------------------------
(amounts in thousands) 1998 1997
------------------------- ------------------------
Average Effective Average Effective
Balance Rate Balance Rate
------------------------- ------------------------


Interest-earning assets : (1)
Collateral for collateralized bonds (2) (3) $ 3,917,023 7.31 % $ 2,500,179 7.75 %
Mortgage securities 700,872 8.52 911,107 8.62
Other investments 204,687 9.78 100,769 9.58
Loans held for securitization 317,706 8.60 310,424 8.45
----------- ------------ ----------- ----------
Total interest-earning assets $ 5,140,288 7.65 % $ 3,822,479 8.06 %
=========== ============ ============= ==========

Interest-bearing liabilities:
Non-recourse debt-collateralized bonds(3) $ 3,424,160 6.62 % $ 2,017,545 6.58 %
Recourse debt - collateralized bonds
retained 501,937 5.88 365,439 5.63
------------- ------------ ------------- ------------
3,926,097 6.52 2,382,984 6.43
Recourse debt secured by investments:
Mortgage securities 501,512 5.61 755,564 6.13
Other investments 93,787 7.36 13,776 7.93
Loans held for securitization 141,047 2.93 188,301 5.18
Recourse debt - unsecured 139,541 8.87 43,631 10.02
============= ============ ============= ============
Total interest-bearing liabilities $ 4,801,984 6.41 % $ 3,384,256 6.35 %
============= ============ ============= ============
Net interest spread on all investments (3) 1.24 % 1.71 %
======== ============
Net yield on average interest-earning assets (3) 1.67 % 2.44 %
======== ============



(1) Average balances exclude adjustments made in accordance with Statement
of Financial Accounting Standards No. 115, "Accounting for Certain
Investments in Debt and Equity Securities" to record available-for-sale
securities at fair value.
(2) Average balances exclude funds held by trustees of $2,190 and $2,285 for
the three months ended March 31, 1998 and March 31, 1997, respectively.
(3) Effective rates are calculated excluding non-interest related
collateralized bond expenses and provision for credit losses.




The net interest spread decreased to 1.24% for the three months ended March
31, 1998 from 1.71% for the same period in 1997. This decrease was primarily the
result of the decline in the spread on collateral for collateralized bonds,
which constituted the largest portion of the Company's investment portfolio on a
weighted-average basis. The overall yield on interest-earning assets decreased
to 7.65% for three months ended March 31, 1998, from 8.06% for the same period
in 1997. This decrease of 0.41% is primarily due to an increase in amortization
expense, which resulted from a higher rate of prepayments in the investment
portfolio during the first quarter of 1998.

Individually, the net interest spread on collateral for collateralized
bonds decreased 53 basis points, from 132 basis points for the three months
ended March 31, 1997 to 79 basis points for the same period in 1998. This
decline was primarily due to the securitization of lower coupon collateral,
principally A+ quality single family ARM loans during 1997 coupled with higher
premium amortization caused by increased prepayments during the first quarter of
1998 and the decline in spread between six-month LIBOR and one-month LIBOR. The
net interest spread on mortgage securities increased 42 basis points, from 249
basis points for the three months ended March 31, 1997 to 291 basis points for
the three months ended March 31, 1998.This increase is partially attributed to
the higher yielding ARM residual trusts the Company purchased during the first
three quarters of 1997. The net interest spread on other investments increased
77 basis points, from 165 basis points for the three months ended March 31,
1997, to 242 basis points for the same period in 1998, due primarily to lower
borrowing costs associated with the Company's single family model home purchase
and leaseback business during 1998 than during the same period in 1997. The net
interest spread on loans held for securitization increased 240 basis points,
from 327 basis points from the three months ended March 31, 1997, to 567 basis
points for the same period in 1998. This increase is primarily attributable to
lower borrowing costs as a result of compensating balances during the first
quarter 1998 than during the same period in 1997.


Interest Income and Interest-Earning Assets

The Company's average interest-earning assets were $5.1 billion for the
three months ended March 31, 1998, an increase of approximately 34% from $3.8
billion of average interest-earning assets during the same period of 1997. This
increase in average interest-earning assets was primarily the result of the
addition of $2.7 billion of collateral for collateralized bonds during 1997. Of
this amount, $0.3 billion resulted from the pledge of ARM securities already
owned by the Company as collateral for collateralized bonds. In addition, the
Company acquired $1.3 billion of investments during the first quarter 1998.
These were partially offset by $1.4 billion of principal paydowns on investments
during the twelve months ended March 31, 1998. Total interest income rose
approximately 28%, from $77.0 million for the three months ended March 31, 1997
to $98.3 million for the same period of 1998. This increase in total interest
income was due to the growth in average interest-earnings assets. Overall, the
yield on interest-earning assets declined to 7.65% for the three months ended
March 31, 1998 from 8.06% for the three months ended March 31, 1997, as the
premium amortization expense grew due to an increase in principal prepayments on
investments. Premium amortization expense reduced the average interest-earning
asset yield 0.66% for the first quarter of 1998 versus 0.40% for the first
quarter of 1997. As indicated in the table below, average asset yields were
1.98% and 2.37% higher than the average daily London InterBank Offered Rate
("LIBOR") for six-month deposits ("six-month LIBOR") during the three months
ended March 31, 1998 and 1997, respectively. While a majority of the ARM loans
underlying the Company's ARM securities and collateral for collateralized bonds
are indexed to and reset based upon the level of six-month LIBOR, approximately
21% are indexed to and reset based upon the level of the One Year Constant
Maturity Treasury Index (CMT).

Earning Asset Yield
($ in millions)



Average
Average Interest- Daily Average Asset
Interest- Earnings Six Month LIBOR Yield versus
Earning Assets Interest Asset Yield Six Month LIBOR
Income
- --------------------- ---------------- --------------- ---------------- ---------------- ----------------


1996, Quarter 2 $ 4,164.8 $ 78.3 7.52% 5.64% 1.88%
1996, Quarter 3 4,106.5 78.4 7.63% 5.80% 1.83%
1996, Quarter 4 4,308.6 83.1 7.72% 5.60% 2.12%
1997, Quarter 1 3,822.5 77.1 8.06% 5.69% 2.37%
1997, Quarter 2 4,326.4 85.7 7.93% 5.97% 1.96%
(1)
1997, Quarter 3 4,806.5 92.7 7.71% 5.84% 1.87%
(1)
1997, Quarter 4 5,147.6 100.1 7.78% 5.88% 1.90%
(1)
1998, Quarter 1 5,140.3 98.3 7.65% 5.67% 1.98%


(1) Interest income includes the gross interest income on certain securities
which are accounted for net of their relate debt in the financial
statements.




The average asset yield is reduced for the amortization of premiums, net of
discounts on the Company's investment portfolio. By creating its investments
through its production operations, the Company believes that premium amounts are
less than if the investments were acquired in the market. As indicated in the
table below, net premiums on the Company's collateral for collateralized bonds,
ARM securities and fixed-rate securities at March 31, 1998 were $49.5 million,
or approximately 1.09% of the aggregate investment portfolio balance as compared
to $50.2 million and 1.58% at March 31, 1997. The principal repayment rate for
the Company (indicated in the table below as "CPR Annualized Rate") was
approximately 47% for the three months ended March 31, 1998. CPR or "constant
prepayment rate" is a measure of the annual prepayment rate on a pool of loans.

Premium Basis and Amortization
($ in millions)



Amortization
CPR Expense as a % of
Net Premium Amortization Annualized Principal Principal Paydowns
(Discount) Expense Rate Paydowns
- -------------------------------------------------------------------------------------------------------------------------


1996, Quarter 2 $ 56.0 $ 4.0 28% $ 226.3 1.75%
1996, Quarter 3 60.8 2.8 19% 156.8 1.80%
1996, Quarter 4 54.1 3.7 24% 196.9 1.89%
1997, Quarter 1 50.2 3.8 29% 209.7 1.84%
1997, Quarter 2 62.7 4.0 30% 205.1 1.94%
1997, Quarter 3 57.9 4.8 29% 258.8 1.85%
1997, Quarter 4 56.9 5.8 37% 319.6 1.80%
1998, Quarter 1 49.5 8.5 47% 546.7 1.56%
- -------------------------------------------------------------------------------------------------------------------------



Interest Expense and Cost of Funds

The Company's largest expense is the interest cost on borrowed funds. Funds
to finance the investment portfolio are generally borrowed in the form of
repurchase agreements or non-recourse collateralized bonds, both of which are
primarily indexed to LIBOR, principally one-month LIBOR. The Company may use
interest rate swaps, caps and financial futures to manage its interest rate
risk. The net cost of these instruments is included in the cost of funds table
below as a component of interest expense for the period to which it relates. The
Company's average borrowed funds increased from $3.4 billion for the three
months ended March 31, 1997 to $4.8 billion for the same period in 1998. This
increase resulted primarily from the issuance of $2.6 billion of collateralized
bonds during 1997. In addition, the Company financed $1.3 billion of investments
acquired during the first quarter 1998 with $1.0 billion of repurchase
agreements and $0.3 billion of notes payable. These increases were partially
offset by a reduction of repurchase agreements during 1997 primarily as a result
of the Company securitizing $311.1 million of ARM securities previously financed
with repurchase agreements as collateral for collateralized bonds. For the three
months ended March 31, 1998, interest expense increased to $76.9 million from
$53.7 million for the three months ended March 31, 1997, while the average cost
of funds increased to 6.41% for the three months ended March 31, 1998 compared
to 6.35% for the same period in 1997. The increased average cost of funds for
the first quarter of 1998 compared to the first quarter of 1997 was due mainly
to the increase in one-month LIBOR from 5.46% at March 31, 1997 to 5.65% at
March 31, 1998.

Cost of Funds
($ in millions)



Average Borrowed Interest Cost Average
Funds Expense (1)(2) of Funds One-month LIBOR
- --------------------------------------------------------------------------------------------------------


1996, Quarter 2 $ 3,782.8 $ 57.6 6.09% 5.45%
1996, Quarter 3 3,718.0 57.1 6.14% 5.46%
1996, Quarter 4 3,869.6 60.1 6.21% 5.46%
1997, Quarter 1 3,384.6 53.7 6.35% 5.46%
1997, Quarter 2 3,876.1 61.4 6.34% 5.69%
1997, Quarter 3 4,365.3 69.0 6.32% 5.65%
1997, Quarter 4 4,579.6 74.4 6.50% 5.76%
1998, Quarter 1 4,802.0 76.9 6.41% 5.65%


(1) Excludes non-interest collateralized bond-related expenses.
(2) Includes the net amortization expense of bond discounts and bond premiums.



Interest Rate Agreements

As part of the Company's asset/liability management process for its
investment portfolio, the Company enters into interest rate agreements such as
interest rate caps and swaps and financial futures contracts. These agreements
are used to reduce interest rate risk which arises from the lifetime yield caps
on the ARM securities, the mismatched repricing of portfolio investments versus
borrowed funds, the mismatching of the fixed interest rates on certain portfolio
investments versus the floating rate on the related borrowed funds and finally,
assets repricing on indices such as the prime rate which differ from the related
borrowing indices. The agreements are designed to protect the portfolio's income
and cash flow, and to provide income and capital appreciation to the Company in
the event that short-term interest rates rise quickly.

The following table includes all interest rate agreements in effect as of
the various quarter ends for asset/liability management of the investment
portfolio. This table excludes all interest rate agreements in effect for the
Company's loan production operations. Generally, interest rate swaps and caps
are used to manage the interest rate risk associated with assets that have
periodic and annual interest rate reset limitations financed with borrowings
that have no such limitations. Financial futures contracts and options on
futures are used to lengthen the terms of repurchase agreement financing,
generally from one month to three and six months. Amounts presented are
aggregate notional amounts. To the extent any of these agreements are
terminated, gains and losses are generally amortized over the remaining period
of the original agreement.

Instruments Used for Interest Rate Risk Management Purposes (1)
($ in millions)



Interest Interest Financial Options
Notional Amounts Rate Caps Rate Swaps Futures on Futures
- --------------------------------------------------------------------------------------------------------------------


1996, Quarter 2 $ 1,575 $ 1,559 $ 400 $ 880
1996, Quarter 3 1,499 1,480 1,550 -
1996, Quarter 4 1,499 1,453 - -
1997, Quarter 1 1,499 1,427 - -
1997, Quarter 2 1,499 1,442 - -
1997, Quarter 3 1,499 1,381 - -
1997, Quarter 4 1,499 1,354 - -
1998, Quarter 1 1,499 1,559 - -


(1) Excludes all interest rate agreements in effect for the Company's loan
production operations.




Net Interest Rate Agreement Expense

The net interest rate agreement expense, or hedging expense, equals the
cost of the agreements, net of any benefits received from these agreements. For
the quarter ended March 31, 1998, net hedging expense amounted to $1.23 million
compared to $1.39 million and $2.65 million for the quarters ended December 31,
1997 and March 31, 1997, respectively. Such amounts exclude the hedging costs
and benefits associated with the Company's production activities as these
amounts are deferred as additional premium or discount on the loans funded and
amortized over the life of the loans as an adjustment to their yield. The
decrease in the net interest rate agreement expense for the three months ended
March 31, 1998 compared to the same period in 1997 is primarily related to costs
on financial futures used to lengthen repurchase agreement maturities during the
first quarter of 1997.

Net Interest Rate Agreement Expense
($ in millions)



Net Expense Net Expense as
Net Interest as Percentage Percentage of Average
Rate Agreement Expense of Average Borrowings (annualized)
Assets (annualized)
- ----------------------------------------------------------------------------------------------------------------


1996, Quarter 2 $ 1.02 0.10% 0.11%
1996, Quarter 3 1.29 0.13% 0.14%
1996, Quarter 4 2.67 0.25% 0.28%
1997, Quarter 1 2.65 0.28% 0.31%
1997, Quarter 2 1.23 0.11% 0.13%
1997, Quarter 3 1.35 0.11% 0.12%
1997, Quarter 4 1.39 0.11% 0.12%
1998, Quarter 1 1.23 0.10% 0.10%


Fair Value

The fair value of the available-for-sale portion of the Company's
investment portfolio as of March 31, 1998, as measured by the net unrealized
gain on investments available-for-sale, was $67.9 million above its cost basis,
which represents a $11.5 million decrease from $79.4 million at December 31,
1997. This decrease in the portfolio's value is primarily attributable to the
accelerated prepayment activity for the quarter ended March 31, 1998.

Credit Exposures

The Company securitizes its loan production into collateralized bonds or
pass-through securitization structures. With either structure, the Company may
use overcollateralization, subordination, reserve funds, bond insurance,
mortgage pool insurance or any combination of the foregoing as a form of credit
enhancement. With all forms of credit enhancement, the Company may retain a
limited portion of the direct credit risk after securitization.

The following table summarizes the aggregate principal amount of collateral
for collateralized bonds and pass-through securities outstanding; the maximum
direct credit exposure retained by the Company (represented by the amount of
overcollateralization pledged and subordinated securities rated below BBB owned
by the Company), net of the credit reserves maintained by the Company for such
exposure; and the actual credit losses incurred for each year. The table
excludes any risks related to representations and warranties made on loans
funded by the Company and securitized in mortgage pass-through securities
generally funded prior to 1995. This table also excludes any credit exposure on
loans held for securitization and other investments. The increase from 0.83% at
March 31, 1997 to 2.22% at March 31, 1998 is related primarily to the credit
exposure retained by the Company on its $2.7 billion in securitizations during
1997. The increase from 1.68% at December 31, 1997 to 2.22% at March 31, 1998 is
principally due to the principal balance of certain subordinated securities
owned by the Company being reduced to $0 during the first quarter 1998, which as
a result, eliminated that credit risk and are excluded from this table at March
31, 1998. The net credit exposure in the table below includes $22 million of
credit exposure from the Company's commercial loan securitization in October
1997. The Company anticipates that such exposure will be substantially
eliminated during the second half of 1998 through the sale or
resecuritization of currently retained classes from that securitization, though
no assurance can be given that these retained classes will be sold or
resecuritized. There were no delinquencies on loans included in this security at
March 31, 1998.

Credit Reserves and Actual Credit Losses
($ in millions)



Maximum Credit Exposure, Net
Maximum Credit Actual Credit of Credit Reserves to
Outstanding Loan Exposure, Net Losses Outstanding Loan Balance
Balance of Credit Reserves
- -----------------------------------------------------------------------------------------------------------------


1996, Quarter 2 $ 3,130.9 $ 27.7 $ 1.1 0.88%
1996, Quarter 3 3,995.6 29.5 2.0 0.74%
1996, Quarter 4 3,848.1 30.0 2.1 0.78%
1997, Quarter 1 3,583.2 29.6 2.6 0.83%
1997, Quarter 2 4,305.5 50.3 4.9 1.17%
1997, Quarter 3 3,975.7 50.2 5.8 1.26%
1997, Quarter 4 5,153.1 86.6 6.5 1.68%
1998, Quarter 1 4,209.5 93.6 6.3 2.22%



The following table summarizes single family mortgage loan, manufactured
housing loan and commercial mortgage loan delinquencies as a percentage of the
outstanding collateral balance for those securities mentioned above in which the
Company has retained a portion of the direct credit risk. As of March 31, 1998,
the Company believes that its credit reserves are sufficient to cover any losses
which may occur as a result of current delinquencies presented in the table
below.

Delinquency Statistics



90 days and over delinquent
(includes REO and
60 to 90 days delinquent foreclosures) Total


1996, Quarter 2 1.91% 3.47% 5.38%
1996, Quarter 3 0.73% 3.01% 3.74%
1996, Quarter 4 0.88% 3.40% 4.28%
1997, Quarter 1 0.95% 4.16% 5.11%
1997, Quarter 2 0.59% 3.25% 3.84%
1997, Quarter 3 0.86% 3.31% 4.17%
1997, Quarter 4 0.48% 2.56% 3.04%
1998, Quarter 1 0.38% 2.36% 2.74%




The following table summarizes the credit rating for securities held in the
Company's investment portfolio. This table excludes the Company's other residual
and derivative securities (as the risk on such securities is primarily
prepayment-related, not credit-related), certain other investments which are not
debt securities and loans held for securitization. The carrying balances of the
investments rated below A are net of credit reserves and discounts. The average
credit rating of the Company's investments at the end of the first quarter of
1998 was AAA. At March 31, 1998, securities with a credit rating of AA or better
were $4.6 billion, or 97.6% of the Company's total investments compared to 98.3%
and 99.1% at December 31, 1997 and March 31, 1997, respectively. At the end of
the first quarter 1998, $738.4 million of investments were split rated between
rating agencies. Where investments were split-rated, for purposes of this table,
the Company classified such investments based on the higher credit rating.

Investments by Credit Rating (1)
($ in millions)




AAA AA A Carrying Below A AAA Percent AA Percent A Below A
Carrying Carrying Value Carrying of Total of Total Percent Percent of
Value Value Value of Total Total
- -------------------- ------------ --------------- ------------- ---------- ----------- ----------- ---------- ------------


1996, Quarter 2 $ 2,935.2 $ 914.0 $ 63.6 $ 28.7 74.5% 23.2% 1.6% 0.7%
1996, Quarter 3 3,333.3 766.4 17.1 31.1 80.3% 18.5% 0.4% 0.8%
1996, Quarter 4 2,708.4 752.8 - 29.9 77.5% 21.6% - 0.9%
1997, Quarter 1 2,504.1 739.4 - 29.4 76.5% 22.6% - 0.9%
1997, Quarter 2 3,372.2 588.4 2.5 57.0 83.9% 14.6% 0.1% 1.4%
1997, Quarter 3 2,867.6 601.0 6.7 56.4 81.2% 17.0% 0.2% 1.6%
1997, Quarter 4 4,346.3 358.8 - 82.9 90.8% 7.5% - 1.7%
1998, Quarter 1 4,067.4 501.9 25.7 87.4 86.9% 10.7% 0.5% 1.9%



(1) Carrying value does not include derivative and residual securities, certain
other investments which are not debt securities and loans held for
securitization.



General and Administrative Expenses

General and administrative expenses ("G&A expense") consist of expenses
incurred in conducting the Company's production activities and managing the
investment portfolio, as well as various other corporate expenses. G&A expense
increased for the three month period ended March 31, 1998 as compared to the
same period in 1997, primarily as a result of continued costs in connection with
the build-up of the production infrastructure for the manufacturing housing,
commercial lending, and specialty finance businesses.

The following table summarizes the Company's efficiency and the ratio of
G&A expense to average interest-earning assets.

Operating Expense Ratios



- -------------------------------------------------------------------------------------------
G&A Efficiency G&A Expense/Average Interest-Earning
Ratio (1) Assets (Annualized)
- -------------------------------------------------------------------------------------------


1996, Quarter 2 6.77% 0.51%
1996, Quarter 3 5.67% 0.43%
1996, Quarter 4 6.09% 0.47%
1997, Quarter 1 6.78% 0.55%
1997, Quarter 2 7.11% 0.53%
1997, Quarter 3 7.35% 0.54%
1997, Quarter 4 7.86% 0.56%
1998, Quarter 1 8.67% 0.66%
- -------------------------------------------------------------------------------------------


(1) G&A expense as a percentage of interest income.
(2) Average total equity excludes net unrealized gain (loss) on investments available-for-sale.



Net Income and Return on Equity

Net income decreased from $18.3 million for the three months ended March
31, 1997 to $14.4 million for the three months ended March 31, 1998. Net income
available to common shareholders decreased from $14.6 million to $11.1 million
for the same periods, respectively. Return on common equity (excluding the
impact of the net unrealized gain on investments available-for-sale) decreased
from 18.8% for the three months ended March 31, 1997 to 12.5% for the three
months ended March 31, 1998. The decrease in the return on common equity is a
combined result of the issuance of new common shares through the continuous
offering program and the dividend reinvestment program and a decrease in net
income available to common shareholders due to an increase in amortization
expense and G&A.

Components of Return on Equity
($ in thousands)



- --------------------------------------------------------------------------------------------------------------------------
Gains and
Net Interest Provision Other G&A Preferred
Margin/ for Losses Income Expense/ Dividend/ Return on
Average /Average Common /Average Average Average Common Average Net Income
Common Equity Equity Common Equity Common Equity Common Available to
(annualized) (annualized) (annualized) Equity (annualized) Equity Common
(annualized) (annualized) Shareholders
- --------------------------------------------------------------------------------------------------------------------------


1996, Quarter 2 25.6% 0.5% 17.7% 7.3% 3.0% 32.5% $ 23,704
1996, Quarter 3 26.5% 1.2% 2.7% 5.9% 2.9% 19.2% 14,363
1996, Quarter 4 28.2% 1.9% 4.3% 6.7% 4.6% 19.3% 14,480
1997, Quarter 1 27.8% 1.3% 3.8% 6.7% 4.8% 18.8% 14,623
1997, Quarter 2 28.3% 1.8% 3.5% 7.1% 4.6% 18.3% 14,668
1997, Quarter 3 26.4% 1.6% 6.2% 7.7% 4.5% 18.8% 15,784
1997, Quarter 4 27.1% 2.3% 3.5% 8.1% 4.2% 16.0% 14,103
1998, Quarter 1 22.0% 2.2% 5.9% 9.5% 3.7% 12.5% 11,145
- --------------------------------------------------------------------------------------------------------------------------


Dividends and Taxable Income

The Company and its qualified REIT subsidiaries (collectively "Dynex REIT")
have elected to be treated as a real estate investment trust for federal income
tax purposes. The REIT provisions of the Internal Revenue Code require Dynex
REIT to distribute to shareholders substantially all of its taxable income,
thereby restricting its ability to retain earnings.

The Company intends to declare and pay out as dividends 100% of its taxable
income over time. The Company's current practice is to declare quarterly
dividends per share. Generally, the Company strives to declare a quarterly
dividend per share which, in conjunction with the other quarterly dividends,
will result in the distribution of most or all of the taxable income earned
during the calendar year. At the time of the dividend announcement, however, the
total level of taxable income for the quarter is unknown. Additionally, the
Company has considerations other than the desire to pay out most of its taxable
earnings, which may take precedence when determining the level of dividends.

Dividend Summary
($ in thousands, except per share amounts)



Estimated Taxable Net Estimated
Income Available to Estimated Taxable Cumulative
Common Shareholders Net Income Per Dividend Declared Dividend Undistributed
Common Share (1) Per Common Share (1) Pay-out Ratio Taxable Income
(Loss)
- -------------------------------------------------------------------------------------------------------------------------


1996, Quarter 2 $ 13,359 $ 0.328 $ 0.275 84% $ 9,376
1996, Quarter 3 13,973 0.341 0.293 86% 11,194
1996, Quarter 4 8,831 0.214 0.310 145% 5,672
1997, Quarter 1 23,849 0.572 0.325 57% 15,854
1997, Quarter 2 12,016 0.283 0.335 118% 13,524
1997, Quarter 3 10,531 0.248 0.345 139% 9,392
1997, Quarter 4 10,132 0.228 0.350 154% 3,949
1998, Quarter 1 21,970 0.484 0.300 62% 12,293
- -------------------------------------------------------------------------------------------------------------------------


(1) Adjusted for two-for-one common stock split.



Taxable income differs from the financial statement net income which is
determined in accordance with generally accepted accounting principles ("GAAP").
For the three months ended March 31 , 1998, the Company's taxable income per
share of $0.484 was higher than the Company's declared dividend per share of
$0.300. The majority of the difference was caused by GAAP and tax differences
related to the sale of the single-family operations in May 1996. For tax
purposes, the sale of the single-family operations is accounted for on an
installment sale basis with annual taxable income of approximately $10 million
from 1996 through 2001. Cumulative undistributed taxable income represents
timing differences in the amounts earned for tax purposes versus the amounts
distributed. Such amounts can be distributed for tax purposes in the subsequent
year as a portion of the normal quarterly dividend. Such amounts also include
certain estimates of taxable income until such time that the Company files its
federal income tax returns for each year.


Year 2000

The Year 2000 issue affects virtually all companies and organizations. Many
companies have existing computer applications which use only two digits to
identify a year in the date field. These applications were designed and
developed without considering the impact of the change of the century. If not
corrected these computer applications may fail or create erroneous results by
the year 2000.

The majority of the Company's information critical systems have been
developed internally since 1992. The development of these systems was undertaken
with full awareness of issues involving the Year 2000, and consequently the
Company does not expect to encounter any significant Year 2000 problems with
these systems.

The Company also relies upon a small number of third party software vendors
for certain information systems. Testing of these vendors' systems is expected
to be completed by the end of 1998, and the Company does not expect to see any
significant impact to the operations supported by these vendors as a result of
Year 2000 problems. Additionally, the Company does not expect that any expenses
incurred as a result of any necessary modifications will be material to the
results of operations.


LIQUIDITY AND CAPITAL RESOURCES

The Company has various sources of cash flow upon which it relies for its
working capital needs. Sources of cash flow from operations include primarily
net interest margin and the return of principal on the portfolio of investments.
The Company's primary source of borrowings is through the issuance of
collateralized bonds. Other borrowings such as repurchase agreements and
warehouse lines of credit provide the Company with additional cash flow in the
event that it is necessary. Historically, these sources have provided sufficient
liquidity for the conduct of the Company's operations. However, if a significant
decline in the market value of the Company's investment portfolio that is funded
with recourse debt should occur, the Company's available liquidity from these
other borrowings may be reduced. As a result of such a reduction in liquidity,
the Company may be forced to sell certain investments in order to maintain
liquidity. If required, these sales could be made at prices lower than the
carrying value of such assets, which could result in losses.

In order to grow its equity base, the Company may issue additional capital
stock. Management strives to issue such additional shares when it believes
existing shareholders are likely to benefit from such offerings through higher
earnings and dividends per share than as compared to the level of earnings and
dividends the Company would likely generate without such offerings. During the
three months ended March 31, 1998, the Company issued 218,968 shares of its
common stock pursuant to its dividend reinvestment program for net proceeds of
$2.8 million.

The Company borrows funds on a short-term basis to support the accumulation
of loans prior to the issuance of collateralized bonds. These borrowings may
bear fixed or variable interest rates, may require additional collateral in the
event that the value of the existing collateral declines, and may be due on
demand or upon the occurrence of certain events. If borrowing costs are higher
than the yields on the assets financed with such funds, the Company's ability to
acquire or fund additional assets may be substantially reduced and it may
experience losses. These short-term borrowings consist of the Company's lines of
credit and repurchase agreements. These borrowings are paid down as the Company
securitizes or sells loans.

A substantial portion of the assets of the Company are pledged to secure
indebtedness incurred by the Company. Accordingly, those assets would not be
available for distribution to any general creditors or the stockholders of the
Company in the event of the Company's liquidation, except to the extent that the
value of such assets exceeds the amount of the indebtedness they secure.

Non-recourse Debt

The Company, through limited-purpose finance subsidiaries, has issued
non-recourse debt in the form of collateralized bonds to fund its investment
growth. The obligations under the collateralized bonds are payable solely from
the collateral for collateralized bonds and are otherwise non-recourse to the
Company. Collateral for collateralized bonds are not subject to margin calls.
The maturity of each class is directly affected by the rate of principal
prepayments on the related collateral. Each series is also subject to redemption
according to specific terms of the respective indentures, generally when the
remaining balance of the bonds equals 35% or less of the original principal
balance of the bonds. At March 31, 1998, the Company has $3.1 billion of
collateralized bonds outstanding as compared to $3.6 billion at December 31,
1997.

Recourse Debt

Secured. At March 31, 1998, the Company had three credit facilities
aggregating $600 million to finance loan fundings of which $300 million expires
in 1998 and $300 million expires in 1999. One of these facilities includes
several sublines aggregating $200 million to serve various purposes, such as
multifamily loan fundings, working capital, and manufactured housing loan
fundings. Unsecured working capital borrowings under this facility are limited
to $30 million. The Company expects these credit facilities will be renewed, if
necessary, at their respective expiration dates, although there can be no
assurance of such renewal. The lines of credit contain certain financial
covenants which the Company met as of March 31, 1998. However, changes in asset
levels or results of operations could result in the violation of one or more
covenants in the future. At March 31, 1998, the Company had $364.2 million
outstanding under its credit facilities.

The Company finances a portion of its investments through repurchase
agreements. Repurchase agreements allow the Company to sell investments for cash
together with a simultaneous agreement to repurchase the same investments on a
specified date for a price which is equal to the original sales price plus an
interest component. At March 31, 1998, the Company had outstanding obligations
of $1,861.3 million under such repurchase agreements compared to $889.0 million
at December 31, 1997.

Increases in either short-term interest rates or long-term interest rates
could negatively impact the valuation of mortgage securities and may limit the
Company's borrowing ability or cause various lenders to initiate margin calls
for mortgage securities financed using repurchase agreements. Additionally,
certain of the Company's ARM securities are AAA or AA rated classes that are
subordinate to related AAA rated classes from the same series of securities.
Such AAA or AA rated classes may have less liquidity than securities that are
not subordinated and the value of such classes is more dependent on the credit
rating of the related insurer or the credit performance of the underlying
mortgage loans. In instances of a downgrade of an insurer or the deterioration
of the credit quality of the underlying mortgage collateral, the Company may be
required to sell certain investments in order to maintain liquidity. If
required, these sales could be made at prices lower than the carrying value of
the assets, which could result in losses.

To reduce the Company's exposure to changes in short-term interest rates on
its repurchase agreements, the Company may lengthen the duration of its
repurchase agreements secured by investments by entering into certain interest
rate futures and/or purchased option contracts. As of March 31, 1998, the
Company had no such financial futures or option contracts outstanding.

Unsecured. Since 1994, the Company has issued three series of unsecured
notes payable totaling $150 million. The proceeds from these issuances have been
used to reduce short-term debt related to financing loans held for
securitization during the accumulation period as well as for general corporate
purposes. These notes payable have an outstanding balance at March 31, 1998 of
$141 million. The Company also has various acquisition notes payable totaling
$1.3 million at March 31, 1998. The above note agreements contain certain
financial covenants which the Company met as of March 31, 1998. However, changes
in asset levels or results of operations could result in the violation of one or
more covenants in the future. On May 11, 1998, the Company filed with the
Securities and Exchange Commission a preliminary prospectus supplement to issue
$60 million of unsecured senior notes due July 1, 2008.

Total recourse debt increased from $1.1 billion for December 31, 1997 to
$2.4 billion for March 31, 1998. This increase is primarily a result of the $1.3
billion of loans and investments acquired during the first quarter. Total
recourse debt should decline during the second quarter of 1998 as the Company
anticipates it will finance on a long-term basis a portion of the loans held for
securitization and a portion of the mortgage securities through the issuance of
collateralized bonds.

Total Recourse Debt
($ in millions)



- ----------------------------------------------------------------------------------------------------------
Total Recourse Debt to Fixed Charge Coverage
Total Recourse Debt Equity Ratio
- ----------------------------------------------------------------------------------------------------------


1996, Quarter 2 $ 2,314.0 6.08 1.73
1996, Quarter 3 1,750.0 4.01 1.53
1996, Quarter 4 1,299.9 2.56 1.72
1997, Quarter 1 1,450.8 2.84 1.89
1997, Quarter 2 1,802.2 3.47 1.73
1997, Quarter 3 1,862.6 3.43 1.86
1997, Quarter 4 1,145.7 2.05 1.76
1998, Quarter 1 2,438.4 4.35 1.71
- -----------------------------------------------------------------------------------------------------------


Potential immediate sources of liquidity for the Company include cash
balances and unused availability on the credit facilities described above. The
potential immediate sources of liquidity decreased 45% at March 31, 1998 in
comparison to December 31, 1997. This decrease in potential immediate sources of
liquidity was due primarily to the significant increase in fundings during the
three months ended March 31, 1998. The Company anticipates that the potential
immediate sources of liquidity will return to fourth quarter 1997 levels as a
result of the securitization planned for the end of May which is expected to
reduce recourse borrowings by approximately $1.5 billion.

Potential Immediate Sources of Liquidity
($ in millions)



- --------------------------------------------------------------------------------------------------------------------
Potential Immediate Sources
Estimated Unused Potential of Liquidity as a % of
Unrestricted Borrowing Capacity Immediate Sources of Total Recourse Debt
Cash Balance Liquidity
- --------------------------------------------------------------------------------------------------------------------


1996, Quarter 2 $ 15.2 $ 102.8 $ 118.0 6.26%
1996, Quarter 3 9.7 118.7 128.4 9.82%
1996, Quarter 4 7.6 131.8 139.4 10.74%
1997, Quarter 1 4.4 139.9 144.3 9.99%
1997, Quarter 2 2.7 59.7 62.4 4.60%
1997, Quarter 3 4.8 164.6 169.4 9.14%
1997, Quarter 4 8.1 154.8 162.9 14.22%
1998, Quarter 1 7.1 82.5 89.6 3.68%
- --------------------------------------------------------------------------------------------------------------------




FORWARD-LOOKING STATEMENTS

Certain written statements in this Form 10-Q made by the Company, that are
not historical fact constitute "forward-looking statements" within the meaning
of Section 27A of the Securities Act of 1933, as amended, and Section 21E of the
Securities Exchange Act of 1934, as amended. Such forward-looking statements may
involve factors that could cause the actual results of the Company to differ
materially from historical results or from any results expressed or implied by
such forward-looking statements. The Company cautions the public not to place
undue reliance on forward-looking statements, which may be based on assumptions
and anticipated events that do not materialize. The Company does not undertake,
and the Securities Litigation Reform Act specifically relieves the Company from,
any obligation to update any forward-looking statements.

Factors that may cause actual results to differ from historical results or
from any results expressed or implied by forward-looking statements include the
following:

Economic Conditions. The Company is affected by consumer demand for
manufactured housing, multifamily housing and other products which it finances.
A material decline in demand for these products and services would result in a
reduction in the volume of loans originated by the Company. The risk of defaults
and credit losses could increase during an economic slowdown or recession. This
could have an adverse effect on the Company's financial performance and the
performance on the Company's securitized loan pools.

Capital Resources. The Company relies on various credit facilities and
repurchase agreements with certain investment banking firms to help meet the
Company's short-term funding needs. The Company believes that as these
agreements expire, they will continue to be available or will be able to be
replaced; however no assurance can be given as to such availability or the
prospective terms and conditions of such agreements or replacements.

Interest Rate Fluctuations. The Company's income depends on its ability to
earn greater interest on its investments than the interest cost to finance these
investments. Interest rates in the markets served by the Company generally rise
or fall with interest rates as a whole. A majority of the loans currently
originated by the Company are fixed-rate. The profitability of a particular
securitization may be reduced if interest rates increase substantially before
these loans are securitized. In addition, the majority of the investments held
by the Company are variable rate collateral for collateralized bonds and
adjustable-rate investments. These investments are financed through non-recourse
long-term collateralized bonds and recourse short-term repurchase agreements.
The net interest spread for these investments could decrease during a period of
rapidly rising short-term interest rates, since the investments generally have
periodic interest rate caps and the related borrowing have no such interest rate
caps.

Defaults. Defaults by borrowers on loans retained by the Company may have
an adverse impact on the Company's financial performance, if actual credit
losses differ materially from estimates made by the Company at the time of
securitization. The allowance for losses is calculated on the basis of
historical experience and management's best estimates. Actual defaults may
differ from the Company's estimate as a result of economic conditions. Actual
defaults on ARM loans may increase during a rising interest rate environment.
The Company believes that its reserves are adequate for such risks.

Prepayments. Prepayments by borrowers on loans securitized by the Company
may have an adverse impact on the Company's financial performance. Prepayments
are expected to increase during a declining interest rate or flat yield curve
environment. The Company's exposure to rapid prepayments is primarily (i) the
faster amortization of premium on the investments and, to the extent applicable,
amortization of bond discount, and (ii) the replacement of investments in its
portfolio with lower yield securities. At March 31, 1998, the yield curve was
still considered flat relative to its normal shape, and as a result, the Company
expects continued high levels of prepayment through the second quarter of 1998.

Competition. The financial services industry is a highly competitive
market. Increased competition in the market could adversely affect the Company's
market share within the industry and hamper the Company's efforts to expand its
production sources.

Regulatory Changes. The Company's business is subject to federal and state
regulation which, among other things require the Company to maintain various
licenses and qualifications and require specific disclosures to borrowers.
Changes in existing laws and regulations or in the interpretation thereof, or
the introduction of new laws and regulations, could adversely affect the
Company's operation and the performance of the Company's securitized loan pools.

New Production Sources. The Company has expanded both its manufactured
housing and commercial lending businesses. The Company is incurring or will
incur expenditures related to the start-up of these businesses, with no
guarantee that production targets set by the Company will be met or that these
businesses will be profitable. Various factors such as economic conditions,
interest rates, competition and the lack of the Company's prior experience in
these businesses could all impact these new production sources.


PART II. OTHER INFORMATION

Item 1. Legal Proceedings

None

Item 2. Changes in Securities

Not Applicable

Item 3. Defaults Upon Senior Securities

Not applicable

Item 4. Submission of Matters to a Vote of Security Holders

None

Item 5. Other Information
None

Item 6. Exhibits and Reports on Form 8-K

(a) Exhibits

None

(b) Reports on Form 8-K

None






SIGNATURES

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




DYNEX CAPITAL, INC.


By: /s/ Thomas H. Potts
Thomas H. Potts, President
(authorized officer of registrant)




/s/ Lynn K. Geurin
Lynn K. Geurin, Executive Vice
President and Chief Financial Officer
(principal accounting officer)

Dated: May 15, 1998