10-Q: Two Harbors Reports Q3 Loss Amid Litigation Settlement

Two Harbors Investment Corp. reported a significant year-to-date net loss and a decline in book value per share, primarily driven by a $375 million litigation settlement, despite some positive market trends.

Summary

• Reported a net loss attributable to common stockholders of $(141.2) million for the three months ended September 30, 2025, an improvement from $(250.3) million in the prior year period.
• Incurred a net loss attributable to common stockholders of $(505.8) million for the nine months ended September 30, 2025, significantly worse than the $(13.3) million loss in the prior year period.
• Book value per common share decreased to $11.04 at September 30, 2025, from $14.47 at December 31, 2024.
• Recognized a litigation settlement expense of $175.1 million for the quarter and $375.0 million year-to-date, related to the resolution of litigation with PRCM Advisers LLC, Pine River Capital Management L.P., and Pine River Domestic Management L.P.
• Total assets decreased to $10.87 billion at September 30, 2025, from $12.20 billion at December 31, 2024.
• Total stockholders' equity decreased to $1.77 billion at September 30, 2025, from $2.12 billion at December 31, 2024.
• Net interest expense improved to $(23.5) million for the quarter and $(63.5) million year-to-date, compared to $(42.3) million and $(122.8) million in the respective prior year periods.
• Net servicing income decreased to $162.7 million for the quarter and $472.3 million year-to-date, from $167.8 million and $498.6 million in the respective prior year periods.
• Issued $115.0 million aggregate principal amount of 9.375% Senior Notes due 2030, with net proceeds of approximately $110.6 million.
• The Federal Reserve cut its benchmark rate by 25 basis points in September 2025, the first cut since November 2024.
• Primary mortgage rates dropped to approximately 6.25% by quarter-end, their lowest level of 2025.
• The MSR portfolio prepaid at an overall speed of 6.0% in the third quarter, a slight increase from 5.8% in the second quarter.
• RoundPoint Mortgage Servicing LLC received Ginnie Mae approval in the third quarter of 2025.

Sentiment

Score: 3

Explanation: While there are positive market trends and some operational improvements, the significant year-to-date financial losses, primarily due to the large litigation settlement, and the decline in book value per share indicate a challenging period for the company. The increase in debt-to-equity ratios also adds to the concern.

Positives

• Net loss attributable to common stockholders improved to $(141.2) million for the three months ended September 30, 2025, compared to $(250.3) million for the same period in 2024.
• Net interest expense significantly improved for both the three and nine months ended September 30, 2025, primarily due to lower borrowing costs and a reduced Agency RMBS portfolio size.
• Unrealized gain on available-for-sale securities for the nine months ended September 30, 2025, was $268.7 million, a substantial increase from $122.5 million in the prior year period.
• The Federal Reserve delivered a widely anticipated 25 basis point cut to its benchmark rate in September 2025, the first interest rate cut since November 2024.
• Implied volatility declined to its lowest level since mid-2022, indicating increased investor confidence.
• RMBS spreads responded positively to the expectation of further Fed rate cuts, with nominal spreads tightening by 26 basis points and option-adjusted spreads tightening by 14 basis points.
• Primary mortgage rates dropped to their lowest levels of 2025, finishing the quarter at around 6.25%.
• RoundPoint Mortgage Servicing LLC received Ginnie Mae approval in the third quarter of 2025, expanding its servicing capabilities.
• Cash and cash equivalents increased to $770.5 million at September 30, 2025, from $504.6 million at December 31, 2024.
• Cash paid for interest for the nine months ended September 30, 2025, decreased to $420.8 million from $506.7 million in the prior year period.

Negatives

• Reported a significant net loss attributable to common stockholders of $(505.8) million for the nine months ended September 30, 2025, a substantial worsening from a loss of $(13.3) million in the prior year period.
• Comprehensive loss attributable to common stockholders was $(237.1) million for the nine months ended September 30, 2025, compared to comprehensive income of $109.2 million in the prior year period.
• Book value per common share declined to $11.04 at September 30, 2025, from $14.47 at December 31, 2024.
• A litigation settlement expense of $375.0 million for the nine months ended September 30, 2025, significantly impacted financial results.
• Total assets decreased by approximately $1.34 billion and total stockholders' equity decreased by approximately $350.8 million from December 31, 2024, to September 30, 2025.
• Net servicing income decreased for both the three and nine months ended September 30, 2025, primarily due to lower float income and a smaller MSR portfolio.
• Loss on servicing asset increased to $(177.0) million for the nine months ended September 30, 2025, from $(145.2) million in the prior year period.
• The GAAP debt-to-equity ratio increased to 4.8:1.0 at September 30, 2025, from 4.3:1.0 at December 31, 2024.
• The economic debt-to-equity ratio increased to 7.2:1.0 at September 30, 2025, from 6.5:1.0 at December 31, 2024.
• Cash paid for taxes, net, for the nine months ended September 30, 2025, increased to $13.2 million from $3.6 million in the prior year period.

Risks

• Changes in interest rates and the market value of target assets.
• Changes in prepayment rates of mortgages underlying target assets.
• The state of the credit markets and other general economic conditions, particularly as they affect the price of earning assets, the credit status of borrowers, and home prices.
• Legislative and regulatory actions, including executive orders, affecting the business.
• The availability and cost of target assets.
• The availability and cost of financing for target assets, including repurchase agreement financing, warehouse lines of credit, revolving credit facilities, senior notes, and convertible senior notes.
• The impact of any increases in payment delinquencies and defaults on the mortgages comprising and underlying target assets, including additional servicing costs and servicing advance obligations on the MSR assets owned.
• Changes in liquidity in the market for real estate securities, the re-pricing of credit risk in the capital markets, inaccurate ratings of securities by rating agencies, rating agency downgrades of securities, and increases in the supply of real estate securities available-for-sale.
• Changes in the values of securities owned and the impact of adjustments reflecting those changes on consolidated statements of comprehensive income (loss) and balance sheets, including stockholders' equity.
• Ability to generate cash flow from target assets.
• Ability to effectively execute and realize the benefits of strategic transactions and initiatives.
• Changes in the competitive landscape within the industry, including changes that may affect the ability to attract and retain personnel.
• Exposure to legal and regulatory claims, penalties, or enforcement activities, including those arising from ownership and management of MSR and prior securitization transactions.
• Exposure to counterparties involved in the MSR business and prior securitization transactions and ability to enforce representations and warranties made by them.
• Ability to acquire MSR and successfully operate seller-servicer subsidiaries.
• Ability to manage various operational and regulatory risks associated with the business, including the risks associated with operating a mortgage loan servicer and originator.
• Interruptions in or impairments to communications and information technology systems.
• Ability to maintain appropriate internal controls over financial reporting.
• Ability to establish, adjust, and maintain appropriate hedges for the risks in the portfolio.
• Ability to maintain REIT qualification for U.S. federal income tax purposes.
• Limitations imposed on the business due to REIT status and status as exempt from registration under the 1940 Act.
• Illiquidity of certain assets, such as MSR and mortgage loans held-for-sale, which may limit the ability to sell them quickly.
• Significant margin calls on repurchase agreements due to sudden decreases in asset value, which could adversely affect liquidity.
• The risk that one or more repurchase agreement, revolving credit facility, or warehouse line of credit counterparties may choose not to provide ongoing funding.

Future Outlook

The company expects that if primary mortgage rates remain around 6.25%, refinancing speeds for refinanceable mortgages will continue to pick up. Management remains optimistic that its portfolio construction of MSR paired with Agency RMBS should generate attractive risk-adjusted returns over a wide range of market scenarios. The company intends to increase its exposure to higher rate, newer production servicing, leveraging RoundPoint's capabilities. Ongoing financing sources are expected to primarily include repurchase agreements, revolving credit facilities, warehouse lines of credit, senior notes, convertible senior notes, and similar arrangements, with a moderate amount of leverage. The company plans to continue operating in compliance with all financial covenants.

Management Comments

• We seek to leverage our core competencies of understanding and managing interest rate and prepayment risk to invest in our portfolio of MSR and Agency RMBS, with the objective of delivering more stable performance, relative to RMBS portfolios without MSR, across changing market environments.
• We are acutely focused on creating sustainable stockholder value over the long term.
• Management believes this acquisition [RoundPoint] adds value for stakeholders of the Company through cost savings achieved by bringing the servicing of its MSR portfolio in-house, greater control over the Company's MSR portfolio and the associated cash flows, and the ability to participate more fully in the mortgage finance space as opportunities arise.
• We continue to be optimistic that our portfolio construction of MSR paired with Agency RMBS should generate attractive risk-adjusted returns over a wide range of market scenarios.

Industry Context

The fixed income market saw positive performance in Q3 2025, driven by the Federal Reserve's 25 basis point rate cut in September, the first since November 2024, in response to emerging downside risks in the labor market. The Fed's guidance suggests further rate cuts of 50 basis points before year-end. U.S. Treasury yields saw minimal net changes, while equity markets were buoyed by the rate cut. Implied volatility declined to its lowest level since mid-2022, and RMBS spreads tightened significantly, leading to a positive 82 basis point excess return for the Bloomberg U.S. Mortgage Backed Securities Index. Primary mortgage rates dropped to a three-year low of approximately 6.25%, increasing refinancing speeds for higher coupon cohorts. The housing market showed moderate improvement, with sales up about 10% year-over-year. The MSR market continues to attract high interest from bank and non-bank participants, and RMBS funding markets remained stable.

Comparison to Industry Standards

• The Bloomberg U.S. Mortgage Backed Securities Index achieved a positive excess return of 82 basis points in the third quarter, marking its best performance since the fourth quarter of 2023, indicating a strong industry-wide trend for RMBS.
• The company's MSR portfolio prepaid at an overall speed of 6.0% in the third quarter, which is consistent with the prepayment rates observed across the broader universe of mortgage loans with similar coupon rates.
• RMBS funding markets remained stable and available throughout the quarter, with repurchase spreads at SOFR plus around 16 to 23 basis points, aligning with general industry conditions.

Legal Proceedings

• On August 20, 2025, the company entered into a Settlement Agreement and Release, resolving all claims in its litigation with PRCM Advisers LLC, Pine River Capital Management L.P., and Pine River Domestic Management L.P. (collectively, Pine River).
• A cash payment of $375 million was made to Pine River in September 2025 as part of the settlement.
• Pine River dismissed all claims with prejudice in the federal court action, and the state court action was previously dismissed without prejudice.
• Pine River relinquished ownership or any other interest in intellectual property licensed, conveyed, or otherwise provided to the company.
• The company and Pine River agreed to unconditionally and irrevocably release and discharge each other from all claims alleged in the lawsuits.
• Litigation settlement expense of $175.1 million and $375.0 million was recognized for the three and nine months ended September 30, 2025, respectively.

Stakeholder Impact

• Shareholders experienced a significant decline in book value per common share and substantial net and comprehensive losses for the year-to-date period. Common stock dividends decreased from $0.45 to $0.34 per share in Q3.
• Employees saw a slight increase in compensation and benefits expenses, suggesting stable employment or minor increases.
• Customers (mortgage borrowers) may benefit from RoundPoint's direct-to-consumer originations platform offering competitive refinance and purchase mortgage options.
• Creditors/Lenders face increased debt-to-equity ratios, but the company maintains sufficient liquidity and unused borrowing capacity, and intends to comply with all financial covenants. The issuance of senior notes provides additional unsecured financing.
• Regulatory authorities have approved RoundPoint for Ginnie Mae servicing, expanding the company's operational scope and regulatory compliance.

Next Steps

• Continue to leverage core competencies in interest rate and prepayment risk management for the MSR and Agency RMBS portfolio.
• Increase exposure to higher rate, newer production servicing through RoundPoint's refinance and recapture capabilities.
• Monitor and forecast available liquidity daily, performing shock analyses against various market events.
• Evaluate additional counterparties to manage and optimize counterparty risk for financing.
• Structure hedging transactions to maintain REIT qualification.
• Operate in a manner that complies with all financial covenants.

Key Dates

Recommendation

While the company benefits from positive market trends such as a Federal Reserve rate cut, tightening RMBS spreads, and declining volatility, the significant year-to-date financial losses, primarily due to a $375 million litigation settlement, and the substantial decline in book value per share are major concerns. The company's core strategy of pairing MSR with Agency RMBS is designed for stability, and operational improvements like Ginnie Mae approval for RoundPoint are positive. However, the increased leverage and the impact of the settlement warrant a cautious approach. A 'Hold' recommendation reflects the mixed signals: potential for recovery in a more favorable interest rate environment, but significant financial challenges that require careful monitoring of future performance and book value improvement.

Keywords

REIT, Mortgage Servicing Rights, MSR, Agency RMBS, Residential Mortgage-Backed Securities, Mortgage Origination, Interest Rate Risk, Prepayment Risk, Financial Reporting, SEC Filing, Fixed Income, Real Estate Investment Trust, RoundPoint Mortgage Servicing