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Edited Transcript of BMNM earnings conference call or presentation 19-Mar-20 2:00pm GMT

Q4 2019 Bimini Capital Management Inc Earnings Call

VERO BEACH Apr 1, 2020 (Thomson StreetEvents) -- Edited Transcript of Bimini Capital Management Inc earnings conference call or presentation Thursday, March 19, 2020 at 2:00:00pm GMT

TEXT version of Transcript

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Corporate Participants

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* George Hunter Haas

Bimini Capital Management, Inc. - President, CIO, CFO & Treasurer

* Robert E. Cauley

Bimini Capital Management, Inc. - Chairman, CEO & Secretary

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Conference Call Participants

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* Derek Steven Pilecki

Gator Capital Management, LLC - President, Chief Compliance Officer, CIO, Managing Member & Portfolio Manager

* Gary Christopher Ribe

Accretive Wealth Partners, LLC - Managing Partner, CIO & Chief Compliance Officer

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Presentation

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Operator [1]

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Good morning, and welcome to the Fourth Quarter 2019 Earnings Conference call for Bimini Capital Management. This call is being recorded today, March 19, 2020.

At this time, the company would like to remind the listeners that statements made during today's conference call relating to the matters that are not historical facts are forward-looking statements subject to the safe harbor provisions of the Private Securities Litigation Reform Act of 1995.

Listeners are cautioned that such forward-looking statements are based on information currently available on the management's good faith, belief with respect to future events and are subject to risks and uncertainties that could cause actual performance or results to differ materially from those expressed in such forward-looking statements.

Important factors that could cause such differences are described in the company's filings with the Securities and Exchange Commission, including the company's most recent annual report on Form 10-K.

The company assumes no obligation to update such forward-looking statements to reflect actual results, changes in assumptions or changes in other factors affecting forward-looking statements.

Now I would like to turn the conference over to the company's Chairman and Chief Executive Officer, Mr. Robert Cauley. Please go ahead, sir.

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Robert E. Cauley, Bimini Capital Management, Inc. - Chairman, CEO & Secretary [2]

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Thank you, operator, and good morning, everyone. Before I begin -- I would read my prepared remarks. I just want to make a couple of statements. First of all, the purpose of this call is to cover Bimini's fourth quarter earnings. So please bear with me because the first 2/3 or so of my prepared remarks, I am going to talk about Bimini and Royal Palm in the fourth quarter.

Then I'll speak about current events briefly. And then finally, I just want to remind all of our listeners that this is a Bimini earnings call. So I -- we'll be glad to answer questions about the markets in general, but I am not prepared to take questions regarding Orchid. Orchid is a separate entity.

With that, I will begin. The year 2019 was a year of transition, as 2018 came to an end and economic growth in the U.S. was beginning to show signs of potential weakness. The Federal Reserve or Fed had implemented its ninth rate hike in December of 2018, and the market began to signal the Fed had gone too far.

A series of rate hikes had flattened the treasury curve and, among other things, put downward pressure on net interest margin and returns on levered bond funds, such as Royal Palm's and Orchid Island Capital's.

In the case of Orchid, this led to a series of dividend cuts and downward pressure on book value. As a result, Orchid's equity base declined, decreasing our management fee revenues at Bimini Advisors as well as dividend income and the carrying value of Orchid shares and net interest income on Royal Palm's portfolio.

However, in January of 2019, the Fed adopted a neutral stance with respect to their monetary policy and eventually lowered the Fed funds target range 3x in 2019, in July, September and October.

This allowed the treasury curve to re-steepen somewhat, although not enough for Orchid or Royal Palm to experience meaningful net interest income expansion, especially given the disruptions in the funding markets that emerged in September of 2019 and lingered into year-end.

This prevented both Royal Palm and Orchid from realizing the full benefit of the rate cuts. However, it did allow Orchid to resume growing its capital base. While Orchid's average capital base for 2019 was somewhat lower than '18 by approximately 14%, it ended the year above the year-end levels of 2018 by approximately 5%.

The net result of these developments on our advisory services revenue was a decline of 11% from $7.77 million to $6.90 million. Advisory services revenue at Bimini Advisors for the fourth quarter of 2019 were approximately 1% higher than the corresponding period in 2019, at $1.856 million for 2019 versus $1.838 million for the fourth quarter of 2018.

Other highlights for the year included our 1.1 million share Dutch style tender offer completed in July. The tender was intended to provide price support to the stock and enhance potential returns on equity going forward as we pursue our net operating loss tax-based strategy. We also contributed both Bimini shares in Orchid as well as its ownership stake in Bimini Advisors to Royal Palm capital in order to maximize the tax income benefit at Royal Palm going forward. The tax net operating losses at Royal Palm are substantially larger than those of Bimini and expire well before Bimini's. We also mortgaged our office building and invested the proceeds into Royal Palm's portfolio.

Turning to the developments in the quarter. The fourth quarter of 2019 was a period of recovery from the third quarter's turbulence and market sell-off. While August and early September witnessed the depths of the sell-off and heightened risk aversion, the runoff -- the turnaround was almost as sudden and dramatic. By the end of 2019, equity markets in the U.S. and around the globe were closing at record highs.

The S&P 500 increased 31.5% for the year ended December 31, 2019. There were a few key events that led to recovery. First and foremost was the Phase I trade deal reached by the Trump administration and China. The tentative agreement was reached in October of '19 and signed in mid-January of 2020. This agreement was critical in that it ended the escalation in trade tensions between the 2 countries, which were at the heart of the market turmoil.

Escalation of trade tensions between the 2 countries in early August triggered the sell-off mentioned above. The trade war has materially impacted global growth, although nothing to the extent of what we're seeing today. Other developments with respect to Brexit, of course, that was avoided late in the year when Prime Minister, Johnson, won an election and was able to defer any subsequent risk around that, and it looks like that will occur going forward later this year.

The recovery in risk sentiment occurred over the course of the fourth quarter of 2019 brought with it increases in interest rates across longer-dated treasuries, breakeven inflation levels in the U.S. Treasury Inflation-Protected Securities and the term premium in U.S. treasuries. The amount of sovereign and other forms of debt trading at negative yields decreased substantially. All of these movements are consistent with an abatement of fear in the markets.

The final element of fear to be addressed in the market was the turmoil in the over-the-night funding markets that emerged in September of '19. And the Fed took meaningful steps to both inject liquidity into the markets, but also assure the market it would do so as long as such funding pressures remained.

The MBS portfolio at Royal Palm Capital was approximately 3% larger in size from the fourth quarter of 2018, in spite of the fact that we had to reduce the MBS portfolio by approximately 25% midyear to fund the tender offer completed in early July. With interest rates generally lower in 2019 versus '18, as a result of the reversal of monetary policy, the average yield on the MBS portfolio assets decreased 19 basis points from 4.12% to 3.93%. Compared to the third quarter of 2019, interest income in the fourth quarter increased 15% as the yield on our MBS assets increased 47 basis points and the average size of the MBS portfolio increased by $3.3 million.

In spite of a 2.6% increase in average repurchase agreement borrowings outstanding and the disruptions in the repo market described above, our borrowing costs decreased from 2.26% to 2.08%, resulting in a 5% decrease in repo interest cost for the fourth quarter of '19 versus the third quarter. For the year, repo interest expense increased by 14% as our average interest expense rose from 2.08% to 2.42%.

The fact reflects a low base of our interest expense came off of in 2018. The average interest expense for the first quarter of 2018 was only 1.64%, and lagged benefits, of course, of the -- benefit of the Fed cuts that occurred in the third quarter.

During the fourth quarter, interest rates increased, but unlike the third quarter of 2019, our MBS securities outperformed our hedge instruments, resulting in an aggregate $0.4 million mark-to-market gain on our derivative instruments and MBS securities.

Finally, we decreased the valuation allowance on the deferred tax assets at both Royal Palm and Bimini, resulting in a positive tax provision of $10.6 million for the year and $11.9 million for the quarter. Orchid Islands capital base had periods of growth and contraction, but the overall trend is upward, increasing from just under $50 million at inception to approximately $395 million at December 31, 2019.

Accordingly, for purposes of the valuation of deferred tax assets, we assume that the capital base of Orchid will continue to grow going forward.

Now to more current events. The global coronavirus outbreak has had a significant impact on financial markets and economic activity, in addition to the health of hundreds of thousands of people across the globe. Interest rates have declined materially, establishing new all-time low yields across the U.S. treasury maturity curve. This instilled fears of extremely elevated levels of prepayment activity for mortgage-backed securities.

The typical smooth operation of financial markets has become erratic recently, prompting significant policy responses from the Federal Reserve as well as central banks across the globe. Federal government is working on a substantial fiscal stimulus package as well and is expected to be signed into law in the coming weeks. Such severe market conditions typically lead to asset sales by lever investors, and we have seen rumors of such activity.

While all markets have been affected, performance appears to have been highly correlated with the risk or credit profile of the asset in question. With high-risk assets generally outperforming poorly -- have outperformed poorly relative to low-risk assets.

Royal Palm's MBS portfolio remains 100% invested in agency RMBS assets. And we've had no difficulty in obtaining ample access to repurchase agreement funding, and we have not experienced elevated haircuts.

The Federal Reserve has lowered the Fed funds target rate twice in the last 2 weeks. The first 50 basis point cut occurring on March 3, and the second, a 100 basis point cut, occurred this past Sunday in response to the crisis for a total of 150 basis points.

The Fed has announced numerous other steps to counter crisis, including a $700 billion quantitative easing package, which includes an allocation of $200 billion for agency MBS. In addition to numerous overnight and other term operations and various other matters akin to those utilized during the financial crisis of 2008.

The reduction in Fed funds rate should ultimately lead to lower funding costs for Royal Palm. As of March 18, 2020, Royal Palm's weighted average or purchase agreement funding was 1.71%. However, with the reduction in the target range announced this past Sunday of another 100 basis points, we expect our funding rate to fall as existing borrowings mature and are replaced with new borrowings.

While our earnings will benefit from lower borrowing costs, premium amortization via loss -- via prepayment activity on our agency RMBS may reduce the yield we realize on our assets. We anticipate prepayment speeds to accelerate starting with March 2020 activity to be reported on April 6.

To mitigate the extent of the elevated prepayment related margin calls, we have not reinvested our paydowns received this month to conserve cash and have adjusted our hedge positions in light of materially lower interest rates. And at prospects, rates are likely to stay low for a very long time.

We have also -- finally, concluding remark. During these periods of market duress, liquidity management is critical. We have and expected to maintain ample levels of available cash and unencumbered assets to deal with the difficult market conditions.

Operator that's it, and I'll turn the call over to questions.

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Questions and Answers

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Operator [1]

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(Operator Instructions) Our first question comes from Derek Pilecki from Gator Capital.

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Derek Steven Pilecki, Gator Capital Management, LLC - President, Chief Compliance Officer, CIO, Managing Member & Portfolio Manager [2]

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A few questions. I saw that you had taken a mortgage or intended to take a mortgage out on the headquarters building.

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Robert E. Cauley, Bimini Capital Management, Inc. - Chairman, CEO & Secretary [3]

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Yes.

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Derek Steven Pilecki, Gator Capital Management, LLC - President, Chief Compliance Officer, CIO, Managing Member & Portfolio Manager [4]

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Have you completed that? And have you deployed that liquidity? Or are you just holding that as dry powder?

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Robert E. Cauley, Bimini Capital Management, Inc. - Chairman, CEO & Secretary [5]

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No. That actually was done last year, and that's already behind us. So those proceeds were invested.

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Derek Steven Pilecki, Gator Capital Management, LLC - President, Chief Compliance Officer, CIO, Managing Member & Portfolio Manager [6]

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Yes. Mortgage -- swap spreads -- mortgage swap spreads have been volatile in the past few weeks. Generally, Royal Palm is positioned to, with wider mortgage spreads, hit the book value? Have spreads -- are they still at their wides? Or have they come in a little bit?

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Robert E. Cauley, Bimini Capital Management, Inc. - Chairman, CEO & Secretary [7]

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They hit their multiyear highs last week, tightened somewhat early this week with the announcement of the QE program by the Fed. But that only lasted probably 2 days. Yesterday, they widened quite a bit and they're widening again today. They're not quite to that level, but they're getting quite wide.

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Derek Steven Pilecki, Gator Capital Management, LLC - President, Chief Compliance Officer, CIO, Managing Member & Portfolio Manager [8]

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Do you think this is just a period of deleveraging, and then we'll get to the other side? Or does the Fed need to continue to announce new programs to get more liquidity or...

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Robert E. Cauley, Bimini Capital Management, Inc. - Chairman, CEO & Secretary [9]

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Yes, I would say it's clearly a deleveraging period. The Fed has done an awful lot. They're going to have to continue to do more so. A lot of these markets -- we're in the agency market. We just have exposure to treasuries through our hedges. We don't necessarily traffic in some of the credit markets, but certainly, there's ample evidence of duress everywhere.

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George Hunter Haas, Bimini Capital Management, Inc. - President, CIO, CFO & Treasurer [10]

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One of the pinch points in this whole -- in this whole experience has been that the -- the Fed rolled out their program, they're buying, of course, $5 billion or so a day, that's all for April settle. We're just seeing unprecedented levels of liquidations in agency space for T+1, T+0, T+2. And so that's really created a tough operating environment as it relates to finding liquidity for short settle.

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Robert E. Cauley, Bimini Capital Management, Inc. - Chairman, CEO & Secretary [11]

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Yes. So until this deleveraging runs its course, there's going to continue to be pressure on spreads in agency mortgages and frankly, everything.

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Derek Steven Pilecki, Gator Capital Management, LLC - President, Chief Compliance Officer, CIO, Managing Member & Portfolio Manager [12]

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Right. Are you seeing any short-term trading opportunities because of the dislocations.

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Robert E. Cauley, Bimini Capital Management, Inc. - Chairman, CEO & Secretary [13]

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Yes. But I don't think anybody, including us, is willing to buy to add here just because we don't really know where the bottom is, so to speak. We'll -- things start to settle down, and then there'll probably be ample such opportunities, but we just need to get through this as best as we can.

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George Hunter Haas, Bimini Capital Management, Inc. - President, CIO, CFO & Treasurer [14]

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MBS are performing very poorly. So there will be days when treasury rates are up 3/4, like earlier today, and mortgages are down 8 to 10 ticks, depending on the coupon. So there's -- just hanging on and maintaining cash is, I think, what is the...

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Robert E. Cauley, Bimini Capital Management, Inc. - Chairman, CEO & Secretary [15]

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Prevalent mindset?

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George Hunter Haas, Bimini Capital Management, Inc. - President, CIO, CFO & Treasurer [16]

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Yes, yes.

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Operator [17]

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(Operator Instructions) Our next question comes from Gary Ribe from Accretive Wealth.

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Gary Christopher Ribe, Accretive Wealth Partners, LLC - Managing Partner, CIO & Chief Compliance Officer [18]

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Earlier in the quarter, you guys had registered -- filed a shelf registration for the Orchid stock you guys hold, if I saw that correctly?

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Robert E. Cauley, Bimini Capital Management, Inc. - Chairman, CEO & Secretary [19]

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Yes, that's an S-3 that we do. S-3s are just a shelf registration for Orchid. It allows them to sell anything in equity to debt and everything in between. And like we did the last time, we just put on there our ability to sell shares. Probably it wouldn't do that, but it's just something that we do. It just covers us to the extent we wanted to sell those shares.

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Gary Christopher Ribe, Accretive Wealth Partners, LLC - Managing Partner, CIO & Chief Compliance Officer [20]

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Got it. Got it. Can you give me just a sense of -- I know there's turmoil in the markets now, but assuming that everybody lives to fight another day and things sort of settle down. What's the spread and profitability is like as this things normalize with the Fed at 0 and sort of...

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Robert E. Cauley, Bimini Capital Management, Inc. - Chairman, CEO & Secretary [21]

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Well, yes, I mean, it's looking -- looks good and the curve has been steepening, although today, less so, but generally, we've seen a steepening in the curve and that's a function of the fact that the market is anticipating a huge stimulus package and, therefore, a huge supply of treasuries to hit the market, especially when longer-dated tenors considering to sell off. I also heard that there's a rumor that the government is considering 50 and 100 year issuance to help fund this stimulus package. So the long end has been selling off, the front end is pretty much anchored. Our funding costs, as I mentioned, have been coming down. There's been some stickiness, though. I would guess for me today, if we were to roll the entire book, we'll be probably somewhere in the 70s for repo funding, which is a long way from Fed funds. And that will come down, I think, as turbulence in the market subsides. So it's really not an earnings issue. This is just more about maintain liquidity and preserving equity as best you can.

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Gary Christopher Ribe, Accretive Wealth Partners, LLC - Managing Partner, CIO & Chief Compliance Officer [22]

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Yes. It seems like the Fed's throwing the kitchen and the treasury, for that matter. They're throwing the kitchen sink at this. And I think they'll stop the leaking at some point. So you would anticipate that, that would get to -- on the other side, if this is a normal environment, that might get to 50 bps.

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Robert E. Cauley, Bimini Capital Management, Inc. - Chairman, CEO & Secretary [23]

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What would get the 50 bps?

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Gary Christopher Ribe, Accretive Wealth Partners, LLC - Managing Partner, CIO & Chief Compliance Officer [24]

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Your, your ...

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Robert E. Cauley, Bimini Capital Management, Inc. - Chairman, CEO & Secretary [25]

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Oh, funding cost. Yes, it could, it could. I mean it's -- it could even get lower. I guess, conceivably, our typical spread of funds is 20 bps or so. So right now, Fed funds, I think, is right at 25 bps.

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George Hunter Haas, Bimini Capital Management, Inc. - President, CIO, CFO & Treasurer [26]

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We usually -- we bounce around 16 basis points over Fed funds or the types and maybe 25 or 30 bps and more.

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Gary Christopher Ribe, Accretive Wealth Partners, LLC - Managing Partner, CIO & Chief Compliance Officer [27]

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And what's the yield on the portfolio now then? Like so, if I'm trying it down, I know (inaudible).

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Robert E. Cauley, Bimini Capital Management, Inc. - Chairman, CEO & Secretary [28]

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Yes, we got a high 3s number at year-end, but given the rally in the market and anticipated speeds, it's probably in the low 2s.

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Operator [29]

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I show no further questions in the queue. At this time, I'd like to turn the call over to Mr. Robert Cauley, Chairman and CEO, for closing remarks. Please go ahead, sir.

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Robert E. Cauley, Bimini Capital Management, Inc. - Chairman, CEO & Secretary [30]

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Thank you, operator. And thank you, everybody. I appreciate you taking the time with us today. To the extent you have additional questions, please feel free to call the office (772) 231-1400.

Otherwise, we'll talk to you next time. Thank you. Bye.

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Operator [31]

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Ladies and gentlemen, this concludes today's conference call. Thank you for participating. You may now disconnect.