The UST and HUD White Paper on Housing Finance Reform:

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1 The UST and HUD White Paper on Housing Finance Reform: Summary and Considerations from Invesco Mortgage Capital Inc. Invesco Mortgage Capital Inc. ( IVR ) applauds the thoughtfulness and efforts put into the paper, and broadly agree with its approach and the conclusions reached. While the government s goal is to improve housing finance for the good of its citizens and the protection of taxpayers, this assessment of their document is focused on its effect on IVR stockholders. The paper ultimately proposes three options in a plan that is designed to achieve the following objectives: 1) decrease the government s role in housing and wind down FNMA and FHLMC (Fannie and Freddie); 2) address current flaws in housing finance to protect borrowers, ensure transparency, and increase the role of private capital, and 3) more effectively and transparently support affordable housing policy goals. The plan will undoubtedly benefit both the housing and capital markets should it achieve the stated objectives. Entities such as IVR, which have the necessary capital, platform and scale, are skilled at analyzing mortgage credit risk, have a flexible mortgage investment universe, and are unburdened by regulatory capital and ratings constraints should be beneficiaries in the new housing finance paradigm. Section I - Paving the way for a Robust Private Mortgage Market This section provides two things that are clearly beneficial to IVR. First, it makes clear that the Federal Government will stand behind the current obligations of the Government- Sponsored Enterprises ( GSEs ). Second, it states that steps will be taken to encourage FNMA and FHLMC to pursue additional credit loss protection from private investors. The GSEs have long enjoyed a huge advantage over private capital in housing finance, and leveling the playing field will improve the return per unit of risk available to private capital. The following are clear benefits for IVR s investment strategy and the private capital sector in general: Increasing guarantee fees charged by the government and increasing required down payments, will make it more attractive for experts in mortgage credit to provide credit loss protection in front of the GSE s. IVR has been hoping this will play out in the residential space as it has in a limited way in the commercial space in Freddie s K program.

2 Reducing conforming balance limits will open up a large percentage of new loans to private capital that have been only the domain of the GSEs. IVR has looked forward to and predicted this outcome on our 3 rd quarter 2010 earnings call. Winding down the GSE portfolios, possibly including FNMA, FHLMC and the Federal Home Loan Banks should provide additional opportunity for IVR. Just how much will depend on the timing of the wind down and the future path of rates. In a lower rate, higher prepay environment with guarantee fees higher, and GSE buying power constrained, we would expect our existing portfolio of prepay protected collateral to outperform and we could see opportunities to invest new capital at wider spreads. More likely, in a higher rate environment with slower prepays, the GSEs could be forced to make sales of conforming MBS or even RMBS providing very interesting buying opportunities for us. The decrease in the share of the market being guaranteed by the GSEs and FHA will clearly provide IVR with more opportunity to buy and securitize newly originated mortgages at an appealing rate of return. IVR has important advantages vs. financial institutions in regard to regulatory oversight, and capital and ratings sensitivity. Limiting financial institution s ability to fund with multiple home loan banks and capping their advances will reduce a competitive advantage that financial institutions have enjoyed relative to IVR. Section II - Restoring Trust and Integrity in the Broader Housing Market Curbing abusive lender practices and requiring the quality and disclosures of newly originated loans to improve will benefit IVR by allowing it to assess expected loss in our underwriting process more accurately. Requiring risk retention should also increase our competitiveness because our goal is to take mortgage credit risk when the risk is well compensated by expected return. The combination of higher capital requirements and imposing risk retention rules may eliminate competition from institutions aiming at minimizing use of precious capital and whose goal is to securitize and not retain risk. The narrower the underwriting box that defines a Qualified Residential Mortgage ( QRM ), the more our competition will be reduced because any loan that is not within the QRM box will be largely the domain of non-regulated entities such as mortgage REITs. Strict disclosure requirements from issuers of RMBS will raise the bar on the platform necessary to securitize and that will limit competition from smaller organizations. All of the above may cause investment banks in the mortgage space to partner with large, well-known, well-capitalized, unregulated, entities capable of underwriting credit risk such as IVR. The government intends to finalize the rules in 2011 and make them effective in This should add a

3 new lucrative form of financing mortgages. The sooner the regulatory rules become known, the sooner we will see securitization return. Servicing will also be addressed by moving away from a flat fee structure toward one that will incentivize servicers to properly deal with the costly ordeal of delinquency, foreclosure, and liquidation, whether the needed measures are modifications, short sales or real estateowned sales. Improving the treatment of lien priority and even possibly giving the first mortgage the option of restricting additional indebtedness will also be beneficial to mortgage REITs and other mortgage investors. A Responsible Path Forward for Reform This section presents four key objectives, which were considered most important in developing the three options the Administration has presented as the future state of housing finance. 1. Access to Mortgage Credit 2. Incentive for Investment in Housing 3. Taxpayer Protection 4. Financial and Economic Stability All three options would create promising new opportunities for Invesco Mortgage Capital. However, we believe implementation would take the longest for option 1 or 2 relative to option 3. Any of the options should improve IVR s long-term earnings power, and we should capitalize on opportunities to shape the ultimate outcome at each occasion presented. Option 1 is the most purely privatized system, allowing for only FHA, VA and USDA loan guarantees to exist. Under this option, no other loans would be guaranteed or held in portfolio by the federal government or any of its agencies. While this option is intended to do the most toward achieving objective 3 - protecting the taxpayer from credit losses on home loans - the main benefit of this approach to IVR is that mortgage loan rates would undoubtedly be significantly higher in order to garner enough supply of credit to satisfy loan demand. Existing Agency MBS would most likely appreciate because they would represent an investment that can no longer be supplied. Premium MBS should increase in value even more because prepayments would undoubtedly slow. Repo financing would more than likely become more difficult to obtain and the Invesco platform should give us significant competitive advantages. Finally, our ability to accurately analyze

4 and price mortgage credit risk would be our most important attribute and add to our competitiveness. We believe the downside of this option would be dramatically increased cyclicality in the market for mortgage loans, and further pressure on home prices assuming it were implemented too quickly. It is hard to conclude that Option 1 provides strong taxpayer protection because the government is already guaranteeing trillions of dollars in mortgage loans and the value of the homes securing those mortgages would be more likely to decline as a result of Option 1. In addition, the lack of available government guaranteed MBS would reduce foreign investment in the U.S., and the domestic risk capital needed to fill the void in the mortgage market without government guarantees could crowd out private investment elsewhere in the economy. Under Option 1, IVR would need to secure more committed financing and run lower leverage relative to Option 2, or 3. While we favor the idea that the government will not compete with us to buy loans we like, the option of investing in loans that are guaranteed is attractive for a portion of our portfolio. We would actually prefer that the government guarantee lower loan balance mortgages. Agency MBS are a nice investment alternative in that financing is attractive, and IVR has been displaying a competitive advantage in selecting MBS with some form of prepayment protection. Agency MBS supply us with a liquid way to benefit from the shape of the yield curve. We believe this option may not even attain the highest score on objective 3, but falls well short in fulfilling objectives 1, 2, and 4. Option 2 is identical to Option 1 except for the important caveat that the government could step in with government guarantees in periods of stress. This would address our cyclicality concerns, so we prefer it to option 1, but it does not meaningfully ameliorate our other concerns described above. Option 2, therefore, is still sub-optimal, but is an improvement on Option 1, at least in times of financial stress (which remains undefined). Option 3 is our favorite way forward, especially if it is implemented prudently and somewhat differently than described in the document. This option has the government providing catastrophic reinsurance behind significant private capital. We believe option 3 can achieve all four of the stated objectives and is therefore the most likely outcome. In fact we cannot see Option 1 or 2 being implemented without first implementing Option 3 as a

5 fairly long transition step. There is a problem however, with the manner in which they seem to envision using mono-line mortgage insurers as the first loss piece under the catastrophic reinsurance. If this is the sole approach, we see this as hugely inefficient and likely not a realistic solution. IVR would like to have the opportunity to buy first loss, or other subordinate tranches in securitizations of conforming loans, which enjoy catastrophic guarantees from the government. This approach should have multiple advantages for homeowners and taxpayers as well. We believe the market is much too large to take only one approach. Allowing multiple options for execution in securitization would generate a better economic execution for the guarantor (taxpayer), and would reduce financing costs to homeowners because of increased competition. We believe buyers would much prefer MBS that are not exposed to the risk of an insurance intermediary and therefore the senior MBS from a senior-sub structure would trade better than those of a mono-line wrapped structure. While the buyer of the first loss piece would command an attractive yield to compensate for expected losses and a return on investment, there would be no need for insurance and that would cut out significant cost. Part of this benefit would accrue to the borrower in the form of lower rates. Mono-line mortgage insurance has not proven to be a very robust business model. Their lack of diversification leaves the insured susceptible to losses not being covered because credit troubles among borrowers are highly correlated. In contrast, selling a first loss piece for cash has important benefits over un-funded insurance protection so that the taxpayer protection is there when needed. Selling a funded first loss piece also reduces the risk of too big to fail, because risk would likely be spread among many buyers rather than relatively few insurance providers. If unfunded insurance providers with fractional capital ratios are allowed to stand in front of a government guarantee, then we would suggest the insurance should stand behind a thinner, funded first loss piece. There are definitely many who dislike the idea of the government being involved in housing at all. They dislike the cost of the government subsidy and the distortion it causes in allocation of resources. The government could more meaningfully reduce their housing subsidy by limiting the mortgage interest deduction, perhaps to an amount that approximates the interest cost on a median priced home rather than ending all guarantees and inefficiently abandoning borrowers completely. However, if government should have any role, and we believe their participation would be beneficial, it should be to supply catastrophic insurance, and as we stated earlier, not by subjecting the taxpayer to unnecessary risk of unfunded entities. We believe catastrophic insurance would lower interest costs, increase the supply of mortgage credit both here and abroad, and improve

6 market liquidity, and all at no expected cost to the taxpayer if managed wisely. Our suggestion is to have private capital compete for the first loss piece. The resulting price of risk would be entirely transparent and passed along to homeowners in their mortgage rate, via the blended cost of funds of the subordinate and senior pieces. Unlike in the example where first loss is being accepted by a capitalized insurer, the government would bear no risk on the first loss piece, and would then collect a premium for the residual risk in the catastrophic insurance piece. Structured properly, we believe option 3 would provide IVR and our hybrid mortgage REIT business model with attractive new opportunities to meet our return on equity and dividend targets, present the best environment to maintain a stable or improving book value, and offer the broadest opportunity set for IVR to take advantage of our large and diverse mortgage platform. Conclusion The release of the long awaited white paper from the Obama Administration was a pleasant surprise to IVR. It outlines a plan to wind down our largest competitors and paves the way for companies like ours to fill a void in the supply of credit to homeowners. We look forward to opportunities to use our diverse skill set to underwrite and invest in real estate mortgages. We may see opportunities to earn attractive returns buying risk on seasoned loans and securities from government sponsored entities, and we expect to see very attractive return opportunities investing in newly originated mortgage loans. Of the three options described by the Administration, we favor option 3 because it offers the greatest breadth of opportunity while maintaining a liquid market. We also believe option 3 best achieves the Administration s four stated objectives, can be implemented more quickly, and is the most likely outcome. All material presented is compiled from sources believed to be reliable and current, but accuracy cannot be guaranteed. This is not to be construed as an offer to buy or sell any securities and should not be relied upon as the sole factor in an investment-making decision. As with all investments, there are associated inherent risks. Please obtain and review all financial material carefully before investing. All data is as of the current date unless otherwise noted.

7 The opinions expressed are based on current market conditions and are subject to change without notice by Invesco Mortgage Capital Inc. All rights reserved. No part of this commentary may be reproduced in any form without express written permission. About Invesco Mortgage Capital Inc. Invesco Mortgage Capital Inc. is a real estate investment trust that focuses on financing and managing residential and commercial mortgage-backed securities and mortgage loans. Invesco Mortgage Capital Inc. is externally managed and advised by Invesco Advisers, Inc., a subsidiary of Invesco Ltd. (NYSE: IVZ), a leading independent global investment management company. Additional information is available at Cautionary Notice Regarding Forward-Looking Statements This material may include statements and information that constitute forward-looking statements within the meaning of the U.S. securities laws. Forward-looking statements include statements with respect to our beliefs, plans, objectives, goals, targets, expectations, anticipations, assumptions, estimates, intentions and future performance. In addition, words such as will, anticipates, expects and plans, as well as any other statement that necessarily depends on future events, are intended to identify forwardlooking statements. Forward-looking statements are not guarantees, and they involve risks, uncertainties and assumptions. There can be no assurance that actual results will not differ materially from our expectations. We caution investors not to rely unduly on any forward-looking statements and urge investors to carefully consider the risks identified under the captions Risk Factors, Forward-Looking Statements and Management s Discussion and Analysis of Financial Condition and Results of Operations in our annual report on Form 10-K and quarterly reports on Form 10-Q, which are available on the Securities and Exchange Commission s website at All written or oral forward-looking statements that we make, or that are attributable to us, are expressly qualified by this cautionary notice. We expressly disclaim any obligation to update the information in any public disclosure if any forward-looking statement later turns out to be inaccurate.