DYNEX CAPITAL INC (DX) FY 2021 MD&A

ITEM 7.    MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

The following discussion should be read in conjunction with our financial statements and the related notes included in Item 8, "Financial Statements and Supplementary Data” in this Annual Report on Form 10-K.

This discussion contains forward-looking statements that involve risks and uncertainties. Our actual results could differ materially from those anticipated in these forward-looking statements as a result of various factors including, but not limited to, those disclosed in Item 1A, “Risk Factors” elsewhere in this Annual Report on Form 10-K and in other documents filed with the SEC and otherwise publicly disclosed. Please refer to “Forward-Looking Statements” contained within this Item 7 for additional information. This discussion also contains non-GAAP financial measures, which are discussed in the section “Non-GAAP Financial Measures”.

For a complete description of our business including our operating policies, investment philosophy and strategy, financing and hedging strategies, and other important information, please refer to Item 1 of Part I of this Annual Report on Form 10-K.

EXECUTIVE OVERVIEW

Economic conditions continued to improve in 2021 from the disruptions caused by the COVID-19 pandemic as evidenced by an increase in real GDP in the U.S. to 5.7% versus a decline of 3.4% in 2020. Throughout 2021, Federal Reserve policy was highly accommodative, keeping short-term interest rates low and providing strong demand for risk assets, particularly Agency MBS, in order to aid economic recovery. The combination of the impact on supply and demand imbalances related to the pandemic and the reopening of the economy contributed to inflation levels well above the Federal Reserve’s target of 2.0% throughout 2021. The Federal Reserve initially characterized these elevated levels as transitory and continued to provide substantial monetary stimulus. In the fourth quarter of 2021, the Federal Reserve signaled a reduction in in asset purchases, citing an improving economy, elevated inflation, and further improvement in the labor market. The improving economy combined with monetary policy and fiscal stimulus translated to a somewhat unpredictable interest rate environment during 2021, which saw a sharp steepening in the first quarter led by the mid-range and longer-term portion of the curve, followed by modest flattening through the second and third quarters as longer-term interest rates declined slightly, and further flattening led by the mid-range of the curve in the fourth quarter as markets began adjusting to shifts in the Federal Reserve’s monetary policy announced toward the end of 2021.

27

The charts below show the highest and lowest U.S. Treasury and swap rates during the year ended December 31, 2021 as well as the rates as of December 31, 2021 and December 31, 2020:

Spreads on risk assets owned by the Company were volatile as well during 2021. While Agency RMBS, CMBS, and CMBS IO all experienced significant tightening in the first quarter, higher coupon Agency RMBS spreads widened in the second quarter while CMBS and CMBS IO spreads experienced further tightening during the same period. In the third quarter, Agency RMBS tightened again while the majority of CMBS and CMBS IO modestly widened. By the end of the fourth quarter after the Federal Reserve announced plans to begin tapering their purchases, spreads on most Agency assets widened again, almost to where they began the year. The table below shows the market spreads in basis points as of the end of each quarter in 2021 for certain investment types in our MBS portfolio:

28

(1)Negative amounts represent spreads below the benchmark risk free rate and positive amounts represent spreads above the benchmark risk free rate.

(2)Option adjusted spreads are based on Company estimates using third-party models and market data.

(3)Data represents the spread to swap rate on newly issued securities and is sourced from JP Morgan.

Our 2021 Performance

To manage through the interest rate environment experienced throughout 2021, we focused on actively managing our investment portfolio and hedge position, reducing leverage, and raising capital in preparation for opportunities to expand our balance sheet in anticipation of the Federal Reserve ending its purchases of Agency RMBS and U.S. Treasuries. Active portfolio management allowed us to take advantage of volatility in credit spreads during 2021 as we realized gains by selling MBS when spreads tightened and reinvested the sale proceeds into lower coupon MBS at lower premiums when spreads widened. We shifted our portfolio allocation further into lower coupon Agency RMBS and TBA securities because lower coupons are typically impacted less by duration extension and credit spread widening relative to higher coupon assets in an increasing interest rate environment. We increased our investment in TBA securities during most of 2021 because they allowed us more flexibility in managing leverage due to their higher liquidity relative to specified pools and also offer better risk-adjusted returns due to lower financing costs (implied through the use of dollar roll transactions) versus the repurchase agreement borrowings we typically use to finance purchases of specified pools.

Hedge selection and positioning also played an important role in managing our interest rate risk throughout 2021. The loss in fair value of our investment portfolio (including TBA securities), net of gains from our interest rate hedges was $(0.2) million. We protected our portfolio from duration risk in the increasing interest rate environment by significantly increasing our hedge position over the course of the year, ending 2021 with a notional of $4.4 billion in primarily short positions in ten-year U.S. Treasury futures. For the year ended December 31, 2021, total economic return to our common shareholders(1) was $0.47 per common share, or 2.5% of beginning book value. While book value per common share declined $(1.09) during the year, we believe the volatility in interest rates noted above could have led to larger losses without our active portfolio management and hedge positioning.

During 2021, we continuously worked to raise capital through at-the-market and other public offerings, ending the year with additional common equity capital of almost $237.0 million, net of issuance costs. Our capital raising contributed significantly to our ability to maintain a high level of liquidity and lower leverage. As of December 31, 2021, we held approximately $533.1 million in cash and unencumbered Agency MBS, and our leverage, including TBA securities at cost, was 5.7 times shareholders’ equity.

Current Outlook

We believe markets are transitioning to a more favorable environment to add higher yielding assets to our investment portfolio. As the Federal Reserve reduces its purchases of Agency RMBS and tightens monetary policy by

(1)    Total economic return to common shareholders is comprised of dividends declared of $1.56 per common share less the decline in book value of $(1.09) per common share during the year ended December 31, 2021.

29

raising the Federal Funds Rate, we expect higher risk-adjusted returns on our target investments as private capital replaces the Federal Reserve as the predominant buyers in the market, which we believe will more than offset our borrowing costs which are likely to increase in 2022. While we also expect credit spreads will widen further, we believe we are well positioned to navigate the book value risk to wider spreads due to our low leverage, our hedge positioning, and our lower coupon Agency RMBS. As mortgage rates continue to increase, and especially as the Federal Reserve exits its buying program, we expect the supply of higher coupons will increase and bear the brunt of future spread widening while lower coupon MBS will experience limited spread widening due to its seasoning and lack of new supply. As the supply of higher coupons increase and prices fall, we believe we will be able to take advantage of opportunities to acquire these assets at better risk-adjusted returns because we have excess capital to deploy and room to increase leverage.

We remain cautious, however, as the pace and scope of monetary policy tightening in 2022 in the U.S. and abroad is highly uncertain, and we expect significant moves in the shape of the yield curve and the level of yields across the curve. Furthermore, the global economy continues to evolve to a post-pandemic environment with rising complexities across economic, social and political factors, including, but not limited to:

•high and unsustainable debt levels which pose a risk to economic growth;

•elevated global inflation levels, reflecting pandemic supply and demand dynamics;

•uncertainties regarding ongoing hostilities between Russia and the Ukraine and the related impacts on macroeconomic conditions, including, among other things, interest rates;

•global labor market imbalances, exposing widening gaps in skills, education, healthcare, and digital access;

•shifting demographics, human conflict, and climate change; and

•fast-paced changes in technology and increased cyber-risk.

In summary, our decisions regarding leverage targets and the pace at which we expand our investment portfolio in the near term will depend on many factors including, but not limited to, the pace of tapering of purchases by the Federal Reserve, the pace at which the Federal Reserve reduces its balance sheet and the resulting impact on credit spread widening for Agency RMBS, the shape of the yield curve, and the level of interest rates, including the rate at which the Federal Reserve decides to increase the Federal Funds target rate. We remain flexible, patient, consistent, and disciplined in our approach to investment, financing, and hedging decisions as we continue to seek to generate above average returns for our shareholders.

FINANCIAL CONDITION

Investment Portfolio

As of December 31, 2021, our investment portfolio is predominantly comprised of lower coupon Agency RMBS and TBA securities. The following chart compares the composition of our MBS portfolio including TBA securities as of the dates indicated:

30

(1) Includes TBA securities at their implied market value, as if settled, of $1.5 billion and $1.6 billion as of the periods indicated, respectively. TBA securities are recorded within “derivative assets (liabilities)” on our consolidated balance sheet at their net carrying value, which represents the difference between the implied market value and the implied cost basis of the TBA security as of the date indicated.

RMBS. During the year ended December 31, 2021, we have remained invested in primarily lower coupon securities which limited our exposure to duration extension and credit spread widening as interest rates rose throughout the year. Furthermore, most lower coupon Agency RMBS issued during the year were purchased by the Federal Reserve as part of their open market purchase operations, further limiting the risk of wider spreads. We believe lower coupon Agency RMBS will continue to provide higher risk-adjusted returns due to their seasoning, the lack of new supply in the higher rate environment, and the large ownership position of the Federal Reserve. In addition, our lower coupon investments also mitigate the risk of loss of premiums due to their lower cost basis and slower prepayment speeds relative to higher coupon assets.

We continued investing in TBA securities during the year ended December 31, 2021 because implied financing rates for dollar roll transactions continued to be lower than the financing rates for repurchase agreement borrowings we typically use to finance specified pools. Because TBA securities have higher relative liquidity than specified pools, these investments also allowed more flexibility to manage our capital allocation and leverage.

The following tables compare our fixed-rate Agency RMBS investments including TBA dollar roll positions as of the dates indicated:

31

(1) Implied cost basis of TBAs represents the forward price to be paid for the underlying Agency MBS.

(2) Fair value of TBAs is the implied market value of the underlying Agency security as of the end of the period.

(3) TBAs are included on the consolidated balance sheet within “derivative assets/liabilities” at their net carrying value which is the difference between their implied market value and implied cost basis. Please refer to Note 6 of the Notes to the Consolidated Financial Statements for additional information.

(4) TBAs are excluded from this calculation as they do not have a defined weighted-average loan balance or age until mortgages have been assigned to the pool.

(5) Constant prepayment rate (“CPR”) represents the 3-month CPR of Agency RMBS held as of date indicated. Securities with no prepayment history are excluded from this calculation.

(6) Duration measures the sensitivity of a security's price to the change in interest rates and represents the percent change in price of a security for a 100-basis point increase in interest rates. We calculate duration using third-party financial models and empirical data. Different models and methodologies can produce different estimates of duration for the same securities.

CMBS.

We sold the majority of our Agency CMBS in 2020 as risk spreads declined sharply, leading to higher prices and diminishing returns on this type of investment. In 2021, we did not reinvest in newer issue CMBS because we believed the risk-adjusted return profile to be less favorable relative to Agency RMBS. The CMBS remaining in our investment portfolio consist mainly of seasoned investments with a higher probability of appreciation in the underlying collateral versus newer issue bonds. The following table presents information about our CMBS investments by year of origination as of the dates indicated:

32

(1) Months to estimated maturity is an average weighted by the amortized cost of the investment.

(2) The weighted average coupon (“WAC”) is the gross interest rate of the security weighted by the outstanding principal balance.

(3) The Company has one non-Agency CMBS originally issued in 1998 with an amortized cost and fair value of less than $1.0 million as of December 31, 2021 and December 31, 2020.

CMBS IO.

The following tables present our CMBS IO investments by year of origination as of the dates indicated:

33

(1) Remaining weighted average life (“WAL”) represents an estimate of the number of months of contractual cash flows remaining for the investments by year of origination.

Non-Agency-issued securities are generally expected to have a higher risk of default than Agency CMBS IO. We mitigate this risk by investing in senior tranches of mostly AAA-rated securities where we have evaluated the credit profile of the underlying loan pool and can monitor credit performance. All of our non-Agency CMBS IO were originated prior to 2018, the majority of which we believe have had underlying property value appreciation. Non-Agency issued CMBS IO are backed by loans secured by a number of different property types, which are shown in the table below as of December 31, 2021:

(1) Other property types collateralizing non-Agency CMBS IO do not comprise more than 5% individually.

Because effective yields on CMBS IO securities are dependent upon the performance of the underlying loans, our return on these investments may be negatively impacted if the loans default, resulting in foreclosures or liquidations of the loan collateral. When the economic impacts of COVID-19 began in 2020, servicers reported an increase in delinquencies on loans underlying our non-Agency CMBS IO and responded by taking loss mitigation actions, such as loan forbearance or allowing the borrower to make loan payments using replacement reserve or similar property related funds. Most of the increases in delinquencies were in the retail and hotel sectors with a nominal impact on cash flows and yields on the securities. Considering the characteristics of our non-Agency CMBS IO, such as seasoning, loan-to-value ratio, and geographic location of the collateral, as well as the actions taken by servicers to

34

work with borrowers through various relief measures, we have not seen evidence of and do not currently expect a material adverse effect on our future cash flows for non-Agency CMBS IO. In addition, more recently, our servicers have begun reporting lower delinquencies, and they are now more in line with the level we experienced prior to the onset of the economic impacts of the pandemic. However, the ultimate impact of COVID-19 on the global economy and on the loans underlying any of our securities remains uncertain and cannot be predicted at this time.

Repurchase Agreements

We maintained lower leverage throughout 2021 in order to reduce risk given volatility in the market and the lower marginal returns available due to credit spread tightening. As such, we partially financed investments we purchased during 2021 with repurchase agreement borrowings, which increased $0.4 million, or approximately 17%, to $2.8 billion as of December 31, 2021 in conjunction with a portion of the proceeds received from common equity capital we raised during the year. During the fourth quarter of 2021, we worked with our repurchase agreement counterparties to extend the maturities of our borrowings further into 2022 in order to lock in low financing rates over a longer term in light of possible near term increases in the Federal Funds Rate by the Federal Reserve. Please refer to Note 5 of the Notes to the Consolidated Financial Statements contained within this Annual Report on Form 10-K as well as “Results of Operations” and “Liquidity and Capital Resources” contained within this Item 7 for additional information relating to our repurchase agreement borrowings.

Derivative Assets and Liabilities

We use derivative instruments to economically hedge our exposure to adverse changes in interest rates resulting from our ownership of primarily fixed-rate investments financed with short-term repurchase agreements. We regularly monitor and frequently adjust our hedging portfolio in response to many factors including, but not limited to, changes in our investment portfolio as well as our expectation of future interest rates, including the absolute level of rates and the slope of the yield curve versus market expectations.

During 2021, we increased our short positions in U.S. Treasury futures in the 10-year portion of the curve in order to protect our portfolio from duration risk in the increasing interest rate environment. We significantly reduced our notional balance of interest rate swaptions and removed options on U.S. Treasury futures from our hedging portfolio because our lower coupon assets have less convexity risk to hedge in a rising interest rate environment. Please refer to Note 6 of the Notes to the Consolidated Financial Statements for details on our interest rate derivative instruments as well as “Quantitative and Qualitative Disclosures about Market Risk” in Part II, Item 7A of this Annual Report on Form 10-K.

RESULTS OF OPERATIONS

The discussion below includes both GAAP and non-GAAP financial measures that management utilizes in its analysis of financial and operating performance. Please read the section “Non-GAAP Financial Measures” at the end of this section for additional important information about these financial measures.

Year Ended December 31, 2021 Compared to the Year Ended December 31, 2020

Net Interest Income

Net interest income declined $(9.5) million for the year ended December 31, 2021 compared to the year ended December 31, 2020 because we held a smaller average balance of lower yielding investments during 2021 compared to 2020. During the first half of 2020, we sold significant portions of Agency RMBS and CMBS in order to realize aggregate gains of $277.9 million, which increased our liquidity, and in order to reduce our leverage as markets experienced extreme volatility during this period primarily as a result of the COVID-19 pandemic. Since that time, we have only partially replaced these assets as we have focused on keeping our leverage at the low end of our target range due to the lower risk-adjusted returns available in the market.

During 2021, we increased our investment in TBA securities given the more favorable return profile versus Agency RMBS and because they offer greater flexibility in managing leverage due to their higher liquidity relative to

35

specified pools of MBS. Investing in TBA securities has also reduced our average balance of repurchase agreement borrowings, and thereby our interest expense, for the year ended December 31, 2021 compared to the year ended December 31, 2020 as TBA securities are financed implicitly through dollar roll transactions. In addition, the decline in our interest expense for the year ended December 31, 2021 compared to the year ended December 31, 2020 was also due to our lower repurchase agreement financing cost, which has been lower primarily as a result of the Federal Reserve maintaining the Federal Funds Rate in a range of 0-0.25%, resulting in a substantial reduction in our cost of funds during this period. We expect our borrowing costs to increase in 2022 because of the Federal Reserve’s recent announcement that it expects it will soon be appropriate to raise the target range for the Federal Funds Rate and because the markets have begun pricing in four to five rate hikes. As discussed above in “Executive Overview”, we also expect that we will be able to add higher-yielding assets to our balance sheet in the near-term, which will serve to offset a rise in borrowing costs.

The following table presents information about our interest-earning assets and interest-bearing liabilities and their performance for the periods indicated:

(1) Average balance for assets is calculated as a simple average of the daily amortized cost and excludes unrealized gains and losses as well as securities pending settlement if applicable.

(2) Average balance for liabilities is calculated as a simple average of the daily borrowings outstanding during the period.

(3) Effective yield is calculated by dividing the sum of gross interest income and scheduled premium amortization/discount accretion (both of which are annualized for any reporting period less than 12 months) and prepayment compensation and premium amortization/discount accretion adjustments (collectively, "prepayment adjustments"), which are not annualized, by the average balance of asset type outstanding during the reporting period.

(4) Cost of funds is calculated by dividing annualized interest expense by the total average balance of borrowings outstanding during the period with an assumption of 360 days in a year.

(5) Includes Agency and non-Agency issued securities.

(6) Interest income for non-Agency and other investments for the year ended December 31, 2020 includes $0.5 million of interest income from cash and cash equivalents. Average balance and effective yield for non-Agency MBS and other investments excludes cash and cash equivalents.

(7) Interest-bearing liabilities consist primarily of repurchase agreement borrowings.

Net interest spread increased 23 basis points for the year ended December 31, 2021 compared to the year ended December 31, 2020 due to the significant decline in our repurchase agreement borrowing costs, which more than offset the decline in the effective yield we earned on our investment portfolio. Effective yield on our investment portfolio for the year ended December 31, 2021 declined 55 basis points because we reallocated a portion of our

36

portfolio from 4.0% coupons to 2.0% and 2.5% coupons in order to mitigate prepayment risk and to minimize losses in book value due to change in monetary policy by the Federal Reserve and the increasing interest rate environment.

The following table presents the estimated impact on our net interest income due to changes in effective yield/cost of funds (“rate”) and changes in average balance (“volume”) of our interest-earning assets and interest-bearing liabilities for the periods indicated:

(1) Prepayment adjustments represent effective interest amortization adjustments related to changes in actual prepayment speeds and prepayment compensation, net of amortization adjustments for CMBS and CMBS IO.

(2) Includes Agency and non-Agency issued securities.

Adjusted Net Interest Income

Please refer to the section “Non-GAAP Financial Measures” for additional information about this non-GAAP financial measure used by management to evaluate results of operations.

(1) TBA drop income is calculated by multiplying the notional amount of the TBA dollar roll positions by the difference in price between two TBA securities with the same terms but different settlement dates.

(2) The impact of TBA drop income on adjusted net interest spread includes the implied average funding cost of TBA dollar roll transactions during the periods indicated.

(3) Amount represents net periodic interest cost/benefit of effective interest rate swaps outstanding during the period and excludes realized and unrealized gains and losses from changes in fair value of derivatives.

The increase of $17.4 million in adjusted net interest income for the year ended December 31, 2021 compared to the year ended December 31, 2020 is due to our increased investment in TBA securities at lower implied funding costs relative to the year ended December 31, 2020, which resulted in an increase in TBA drop income of $28.4 million. This increase in TBA drop income offset the decline of $(9.5) million in net interest income and $(1.6) million in net periodic interest benefit from interest rate swaps.

37

When the financing cost imputed in TBA dollar roll transactions is lower than the average repurchase agreement financing rate, this is commonly referred to in the industry as TBA dollar rolls “trading special” or “dollar roll specialness.” Dollar roll specialness happens primarily as a result of supply/demand imbalances or volatility in market prepayment expectations, and in management’s view, the pace of bank and Federal Reserve purchases resulted in implied financing costs dropping below 0% during 2021. Due to the recent shift in the Federal Reserve’s monetary policy, we expect TBA dollar roll specialness will likely decline in 2022, negatively impacting TBA drop income.

Changes in Fair Value of Investments

Changes in the fair value of our investments result in realized and unrealized gains and losses. The fair value of our investments is impacted by a number of factors including, among others, market volatility, changes in credit spreads, spot and forward interest rates, actual and anticipated prepayments, and supply/demand dynamics which are in turn impacted by, among other things, interest rates, capital flows, economic conditions, and government policies and actions, such as purchases and sales by the Federal Reserve.

Effective January 1, 2021, the Company elected the fair value option for all MBS purchased on or after that date with changes in fair value reported in net income as “unrealized gain (loss) on investments, net” until the security is sold or matures. Changes in fair value for MBS purchased prior to that date are recorded within “other comprehensive income (loss).” The following table provides details on unrealized gains and losses on our investments held in our portfolio for the periods indicated:

As longer-term interest rates increased during the year ended December 31, 2021, the fair value of the majority of our investments declined. Because we use derivatives to hedge the impact of changing interest rates on our investment portfolio (including TBA securities), we evaluate our results by comparing how much the gain (loss) on our MBS and TBAs is offset by the gain (loss) on our interest rate hedges, which are discussed below under “Gain

38

(Loss) on Derivative Instruments, Net”.

Other comprehensive loss of $(93.5) million for the year ended December 31, 2020 was due to the reclassification of $308.1 million in realized gains on the sale of investments during the year which were reclassified to net income in accordance with GAAP. The gross change in fair value of the Company’s MBS for the year ended December 31, 2020 was $214.5 million and resulted primarily from credit spread tightening for Agency RMBS and CMBS.

Our sales during the year ended December 31, 2020 were significantly higher than in 2021. When interest rates rallied early to mid-March of 2020 as the markets initially responded to the COVID-19 pandemic, we chose to realize gains on our Agency RMBS as asset prices began to fall and we chose to reduce our balance sheet leverage. We used a portion of those proceeds to re-invest in Agency CMBS, the majority of which we sold in subsequent quarters in order to realize gains as asset premiums increased due to spread tightening and to shift our portfolio allocation back to predominantly Agency RMBS as the market stabilized. None of our investment sales during the years ended December 31, 2021 or December 31, 2020 were made under duress.

The following table provides information related to our realized gains on sales of investments, net for the periods indicated:

Gain (Loss) on Derivative Instruments, Net

Gain (loss) on derivative instruments, net is comprised of unrealized gains and losses due to changes in the fair value of derivative instruments we hold during the period as well as realized gains and losses on derivatives that we terminate or that expire or mature during the period. Results in any given reporting period are generally not comparable to results of another because we frequently adjust our hedging position in any given period and because the fair value of derivative instruments are impacted by market interest rates which continuously change from one period to the next. Because we use derivatives to hedge the impact of changing interest rates on our investment portfolio (including TBA securities), we evaluate our results by comparing how much the gain (loss) on our interest rate hedges offset the gain (loss) on our MBS and TBAs for any given period.

The following table provides information on our financial instruments accounted for as derivative instruments for the periods indicated:

39

(1)Amount for interest rate swaps for the year ended December 31, 2020 is net of periodic interest benefit of $1.6 million.

(2)Changes in fair value for TBA dollar roll positions include unrealized gains (losses) from open TBA contracts and realized gains (losses) on paired off or terminated positions.

(3)TBA drop income represents a portion of the change in fair value and is calculated by multiplying the notional amount of the net TBA dollar roll positions by the difference in price between two TBA securities with the same terms but different settlement dates.

As interest rates increased during 2021, we increased our hedge position by adding U.S. Treasury futures to hedge duration risk on our lower coupon assets. We reduced our notional balance of interest rate swaptions and did not replace our options on U.S. Treasury futures upon expiration because we believe our lower coupon assets have less convexity to hedge relative to higher coupon assets in the current environment.

For the year ended December 31, 2020, the majority of our net loss on derivative instruments was comprised of realized losses on interest rate swaps, which we either terminated or chose not to replace upon expiration. The decision to terminate or not replace these hedging instruments was because margin requirements increased substantially as a result of the market disruption that occurred at the onset of the COVID-19 pandemic in the first quarter of 2020, and as interest rates rallied, we sold a significant portion of our assets in order to monetize gains and to avoid margin calls when asset prices began to fall.

General and Administrative Expenses

General and administrative expenses increased $3.0 million for the year ended December 31, 2021 compared to the year ended December 31, 2020 due primarily to higher bonus accruals and expenses related to the ongoing implementation of a new investment accounting system as well as new trading and portfolio management systems as part of a large-scale project to streamline and enhance the Company’s operating platform.

Please refer to Dynex's Annual Report on Form 10-K for the year ended December 31, 2020 for the discussion of results of operations for the year ended December 31, 2020 compared to the year ended December 31, 2019, which is incorporated by reference herein.

Non-GAAP Financial Measures

In addition to the Company's operating results presented in accordance with GAAP, management uses certain non-GAAP financial measures to evaluate results of the Company, which include the following: earnings available for distribution (“EAD”) to common shareholders (formerly core net operating income to common shareholders) (including per common share), adjusted net interest income and the related metric adjusted net interest spread. Because these measures are used in the Company's internal analysis of financial and operating performance, management believes that they provide greater transparency to our investors of management's view of our economic performance.

40

Management also believes the presentation of these measures, when analyzed in conjunction with the Company's GAAP operating results, allows investors to more effectively evaluate and compare the performance of the Company to that of its peers, although the Company's presentation of its non-GAAP measures may not be comparable to other similarly-titled measures of other companies. Reconciliations of EAD to common shareholders and adjusted net interest income to the related GAAP financial measures are provided below and within “Results of Operations”.

In September 2021, the Company renamed its non-GAAP measure "core net operating income to common shareholders" to "EAD to common shareholders" in order to clarify what the measure represents. The adjustments made to reconcile "comprehensive income (loss) to common shareholders" to "EAD to common shareholders" are identical to the adjustments previously used to calculate "core net operating income to common shareholders." EAD to common shareholders is a non-GAAP metric used by the Company as a measure of the investment portfolio’s return based on the effective yield of its investments, net of financing costs and other normal recurring operating income/expenses, net. It is one of several factors our Board of Directors considers in determining the appropriate level of distributions to common shareholders. In addition to the non-GAAP reconciliation set forth below, which derives EAD to common shareholders from GAAP comprehensive income (loss) to common shareholders, EAD to common shareholders can also be determined by adjusting net interest income to include interest rate swap periodic interest benefit/cost, drop income on TBA securities, general and administrative expenses, preferred dividends, and other normal recurring operating income or expense. Drop income generated by TBA dollar roll positions, which is included in "gain (loss) on derivative instruments, net" on the Company's consolidated statements of comprehensive income, is included in EAD to common shareholders and in adjusted net interest income because management views drop income as the economic equivalent of net interest income (interest income less implied financing cost) on the underlying Agency security from trade date to settlement date. Management also includes interest rate swap periodic interest benefit/cost, which is also included in "gain (loss) on derivative instruments, net", in adjusted net interest income because interest rate swaps are used by the Company to economically hedge the impact of changing interest rates on its borrowing costs from repurchase agreements, and therefore represent a cost of financing in addition to GAAP interest expense. However, these non-GAAP measures do not provide a full perspective on our results of operations, and therefore, their usefulness is limited. For example, these non-GAAP measures do not include the changes in fair value of investments or changes in fair value of and costs of terminating derivative instruments used by management to economically hedge the impact of changing interest rates on the fair value of the Company’s portfolio and book value per common share. As a result, these non-GAAP measures should be considered as a supplement to, and not as a substitute for, the Company's GAAP results as reported on its consolidated statements of comprehensive income. Additionally, similarly titled non-GAAP financial measures used by other companies may not be computed in the same or similar fashion. A reconciliation of the non-GAAP financial measures used in this Annual Report on Form 10-K to the most directly comparable GAAP financial measure is presented below.

41

(1)Amount includes realized and unrealized gains and losses recorded in net income and other comprehensive income due to changes in the fair value of the Company’s MBS and other investments.

(2)Amount includes unrealized gains and losses from changes in fair value of derivatives and realized gains and losses on terminated derivatives and excludes TBA drop income and net periodic interest benefit from interest rate swaps.

(3)TBA drop income is calculated by multiplying the notional amount of the TBA dollar roll positions by the difference in price between two TBA securities with the same terms but different settlement dates.

(4)The reconciliation for adjusted net interest spread to net interest spread is shown in “Results of Operations - Adjusted Net Interest Income”.

42

LIQUIDITY AND CAPITAL RESOURCES

Our primary sources of liquidity include borrowings under repurchase arrangements and monthly principal and interest payments we receive on our investments less related amounts due on our borrowings. Additional sources may also include proceeds from the sale of investments, equity offerings, and net payments received from counterparties for derivative instruments. We use our liquidity to purchase investments and to pay our operating expenses and dividends on our common and preferred stock. We also use our liquidity to meet margin requirements for our repurchase agreements and derivative transactions, including TBA contracts, under the terms of the related agreements. We may also periodically use liquidity to repurchase shares of the Company’s stock.

Our liquidity fluctuates based on our investment activities, our leverage, capital raising activities, and changes in the fair value of our investments and derivative instruments. Our most liquid assets include unrestricted cash and cash equivalents and unencumbered Agency RMBS, CMBS, and CMBS IO. As of December 31, 2021, our most liquid assets were $533.1 million compared to $415.3 million as of December 31, 2020. We increased our available liquidity during 2021 to protect our book value and to provide us greater financial flexibility while protecting against market volatility, which we believe has a higher potential of occurring given market conditions. Furthermore, there are a number of potential risk events on the horizon including, a shift in Federal Reserve monetary policy, higher interest rates, and widening credit spreads on MBS, all of which have occurred in early 2022.

We analyze our liquidity under various scenarios based on changes in the fair value of our investments and derivative instruments due to market factors such as changes in the absolute level of interest rates and the shape of the yield curve, credit spreads, lender haircuts, and prepayment speeds. In performing these analyses, we will also consider the current state of the fixed income markets and the repurchase agreement markets in order to determine if market forces such as supply-demand imbalances or structural changes to these markets could change the liquidity of MBS or the availability of financing. The objective of our analyses is to assess the adequacy of our liquidity to withstand potential adverse events, such as the ongoing COVID-19 pandemic.

Our perception of the liquidity of our investments and market conditions significantly influence our targeted leverage. In general, our leverage will increase if we view the risk-reward opportunity of higher leverage on our capital outweighs the risk to our liquidity and book value. Our leverage, which we calculate using total liabilities plus the cost basis of TBA long positions, declined to 5.7x shareholders’ equity as of December 31, 2021 from 6.3x as of December 31, 2020 primarily as a result of equity capital we raised in 2021 which increased shareholders’ equity 22% versus an increase in total liabilities plus the cost basis of TBAs of 10%. We include the cost basis of our TBA securities in evaluating our leverage because it is possible under certain market conditions that it may be uneconomical for us to roll a TBA long position into future months, which may result in us having to take physical delivery of the underlying securities and use cash or other financing sources to fund our total purchase commitment. We maintained a lower targeted range of under 7.0x shareholders’ equity throughout 2021 in order to minimize losses in book value, given potential volatility in the market, and the lower marginal returns available due to credit spread tightening.

Our repurchase agreement borrowings are principally uncommitted with terms renewable at the discretion of our lenders and generally have original terms to maturity of overnight to six months, though in some instances we may enter into longer-dated maturities depending on market conditions. We seek to maintain unused capacity under our existing repurchase agreement credit lines with multiple counterparties, which helps protect us in the event of a counterparty's failure to renew existing repurchase agreements. As part of our continuous evaluation of counterparty risk, we maintain our highest counterparty exposures with broker dealer subsidiaries of regulated financial institutions or primary dealers.

The following table presents information regarding the balances of our repurchase agreement borrowings as of and for the periods indicated:

43

For our repurchase agreement borrowings, we are required to post and maintain margin to the lender (i.e., collateral in excess of the repurchase agreement financing) in order to support the amount of the financing. This excess collateral is often referred to as a “haircut” and is intended to provide the lender protection against fluctuations in fair value of the collateral and/or the failure by us to repay the borrowing at maturity. Lenders have the right to change haircut requirements at maturity of the repurchase agreement and may change their haircuts based on market conditions and the perceived riskiness of the collateral pledged. If the fair value of the collateral falls below the amount required by the lender, the lender has the right to demand additional margin, or collateral, to increase the haircut back to the initial amount. These demands are referred to as “margin calls”, and if we fail to meet any margin call, our lenders have the right to terminate the repurchase agreement and sell any collateral pledged. Declines in the fair value of investments occur for any number of reasons including but not limited to changes in interest rates, changes in ratings on an investment, changes in actual or perceived liquidity of the investment, or changes in overall market risk perceptions. Additionally, Fannie Mae and Freddie Mac announce principal payments on Agency MBS in advance of their actual remittance of principal payments, and repurchase agreement lenders generally make margin calls for an amount equal to the product of their advance rate on the repurchase agreement and the announced principal payments on the Agency RMBS. A margin call made by a lender reduces our liquidity until we receive the principal payments from Fannie Mae and Freddie Mac. The weighted average haircut for our borrowings as of December 31, 2021 was consistent with prior periods, which has typically averaged less than 5% for borrowings collateralized with Agency RMBS and CMBS and between 13-16% for borrowings collateralized with CMBS IO.

The collateral we post in excess of our repurchase agreement borrowing with any counterparty is also typically referred to by us as “equity at risk”, which represents the potential loss to the Company if the counterparty is unable or unwilling to return collateral securing the repurchase agreement borrowing at its maturity. The counterparties with whom we have the greatest amounts of equity at risk may vary significantly during any given period due to the short-term and generally uncommitted nature of the repurchase agreement borrowings. As of December 31, 2021, the Company had repurchase agreement amounts outstanding with 22 of its 37 available repurchase agreement counterparties and did not have more than 5% of equity at risk with any counterparty or group of related counterparties.

We have various financial and operating covenants in certain of our repurchase agreements including, among other things, requirements that we maintain minimum shareholders' equity (usually a set minimum, or a percentage of the highest amount of shareholders' equity since the date of the agreement), limits on maximum decline in shareholders' equity (expressed as a percentage decline in any given period), limits on maximum leverage (as a multiple of shareholders' equity), and requirements to maintain our status as a REIT under the Tax Code and the corresponding provisions of state law and to maintain our listing on the New York Stock Exchange. Violations of one or more of these covenants could result in the lender declaring an event of default which would result in the termination of the repurchase agreement and immediate acceleration of amounts due thereunder. In addition, some of the agreements contain cross default features, whereby default with one lender simultaneously causes default under agreements with other lenders. Violations could also restrict us from paying dividends or engaging in other transactions that are necessary for us to maintain our REIT status.

44

We monitor and evaluate on an ongoing basis the impact these customary financial covenants may have on our operating and financing flexibility. Currently, we do not believe we are subject to any covenants that materially restrict our financing flexibility. We were in full compliance with our debt covenants as of December 31, 2021, and we are not aware of any circumstances which could potentially result in our non-compliance in the foreseeable future.

Derivative Instruments

Derivative instruments we enter into may require us to post initial margin at inception and daily variation margin based on subsequent changes in their fair value. Daily variation margin requirements also entitle us to receive collateral from our counterparties if the value of amounts owed to us under the derivative agreement exceeds the minimum margin requirement. The collateral posted as margin by us is typically in the form of cash. As of December 31, 2021, we had cash collateral posted to our counterparties of $55.3 million and cash collateral posted by our counterparties of $1.8 million under these agreements.

Collateral requirements for interest rate derivative instruments are typically governed by the central clearing exchange and the associated futures commission merchant, which may establish margin requirements in excess of the clearing exchange. Collateral requirements for our TBA contracts are governed by the Mortgage-Backed Securities Division ("MBSD") of the Fixed Income Clearing Corporation and, if applicable, by our third-party brokerage agreements, which may establish margin levels in excess of the MBSD. Our TBA contracts, which are subject to master securities forward transaction agreements published by the Securities Industry and Financial Markets Association as well as supplemental terms and conditions with each counterparty, generally provide that valuations for our TBA contracts and any pledged collateral are to be obtained from a generally recognized source agreed to by both parties. However, in certain circumstances, our counterparties have the sole discretion to determine the value of the TBA contract and any pledged collateral. In such instances, our counterparties are required to act in good faith in making determinations of value. In the event of a margin call, we must generally provide additional collateral on the same business day.

Dividends

As a REIT, we are required to distribute to our shareholders amounts equal to at least 90% of our REIT taxable income for each taxable year after certain deductions. When declaring dividends, our Board of Directors considers the requirements for maintaining our REIT status and maintaining compliance with dividend requirements of the Series C Preferred Stock. In addition, our Board of Directors considers, among other things, our total economic return, EAD to common shareholders, taxable income, gains and losses including carryforwards for tax purposes, the Company's long-term outlook for future performance, and trends in the investment and financing markets. We generally fund our dividend distributions through our cash flows from operations. If we make dividend distributions in excess of our operating cash flows during the period, whether for purposes of meeting our REIT distribution requirements or other strategic reasons, those distributions are generally funded either through our existing cash balances or through the return of principal from our investments (either through repayment or sale). Please refer to the following sections of this Annual Report on Form 10-K for additional important information regarding dividends declared on our taxable income:

•"Operating and Regulatory Structure" within Part 1, Item 1, "Business";

•Part 1, Item 1A, "Risk Factors"; and

•Part II, Item 5, "Market For Registrant's Common Equity, Related Stockholder Matters, and Issuer

Purchases of Equity Securities."

RECENT ACCOUNTING PRONOUNCEMENTS

There were no accounting pronouncements issued during the year ended December 31, 2021 that are expected to have a material impact on the Company’s financial condition or results of operations. Please refer to Note 1 of the Notes to the Consolidated Financial Statements contained within Part I, Item 1 of this Annual Report on Form 10-K for additional information.

45

CRITICAL ACCOUNTING ESTIMATES

The discussion and analysis of our financial condition and results of operations are based in large part upon our consolidated financial statements, which have been prepared in accordance with GAAP. The preparation of our consolidated financial statements requires management to make estimates, judgments and assumptions that affect the reported amounts of assets, liabilities, revenues and expenses and disclosure of contingent assets and liabilities. We base these estimates and judgments on historical experience and assumptions believed to be reasonable under current facts and circumstances. Actual results, however, may differ from the estimated amounts we have recorded.

The following discussion provides information on our critical accounting policies that require management's most difficult, subjective or complex judgments, and which may result in materially different results under different assumptions and conditions. Please also refer to Note 1 of our Notes to the Consolidated Financial Statements included within Part II, Item 8 of this Annual Report on Form 10-K for additional information related to significant accounting policies.

Fair Value Measurements. Our Agency MBS, as well as a majority of our non-Agency MBS, are substantially similar to securities that either are actively traded or have been recently traded in their respective market. Pricing services and brokers have access to observable market information through trading desks and various information services. MBS prices are based on prices we receive from third-party pricing services and broker quotes. To determine each security's valuation, the pricing service uses either a market approach or income approach, both of which rely on observable market data. The market approach uses prices and other relevant information that is generated by market transactions of identical or similar securities, while the income approach uses valuation techniques to convert estimated future cash flows to a discounted present value. Management reviews the assumptions and inputs utilized in the valuation techniques. Examples of these observable inputs and assumptions include market interest rates, credit spreads, and projected prepayment speeds, among other things.

In addition, management reviews the prices received for each security by comparing those prices to actual purchase and sale transactions, our internally modeled prices that are calculated based on observable market rates and credit spreads, and the prices that our borrowing counterparties use in financing our securities. If the price of a security is obtained from quoted prices for similar instruments or model-derived valuations whose inputs are observable, the security is classified as a level 2 security. The security is classified as a level 3 security if the inputs are unobservable, resulting in an estimate of fair value based primarily on management's judgment. Please refer to Note 7 of the Notes to the Consolidated Financial Statements contained within Part II, Item 8 of this Annual Report on Form 10-K for additional information on fair value measurements.

FORWARD-LOOKING STATEMENTS

Certain written statements in this Annual Report on Form 10-K that are not historical facts constitute “forward-looking statements” within the meaning of Section 27A of the 1933 Act and Section 21E of the Exchange Act. Statements in this report addressing expectations, assumptions, beliefs, projections, future plans and strategies, future events, developments that we expect or anticipate will occur in the future, and future operating results, capital management, and dividend policy are forward-looking statements. Forward-looking statements are based upon management’s beliefs, assumptions, and expectations as of the date of this report regarding future events and operating performance, taking into account all information currently available to us, and are applicable only as of the date of this report. Forward-looking statements generally can be identified by use of words such as “believe”, “expect”, “anticipate”, “estimate”, “plan”, “may”, “will”, “intend”, “should”, “could” or similar expressions. We caution readers not to place undue reliance on our forward-looking statements, which are not historical facts and may be based on projections, assumptions, expectations, and anticipated events that do not materialize. Except as required by law, we are not obligated to, and do not intend to, update or revise any forward-looking statement whether as a result of new information, future events, or otherwise.

Forward-looking statements in this Annual Report on Form 10-K may include, but are not limited to statements about:

•Our business and investment strategy including our ability to generate acceptable risk-adjusted returns and our target investment allocations, and our views on the future performance of MBS and other investments;

46

•Our views on the macroeconomic environment, monetary and fiscal policy, and conditions in the investment, credit, interest rate and derivatives markets;

•Our views on inflation, market interest rates and market spreads;

•Our views on the effect of actual or proposed actions of the Federal Reserve or other central banks with respect to monetary policy (including the targeted Federal Funds Rate), and the potential impact of these actions on interest rates, borrowing costs, inflation or unemployment;

•The effect of regulatory initiatives of the Federal Reserve, the Federal Housing Finance Agency, other financial regulators, and other central banks;

•Our financing strategy including our target leverage ratios, our use of TBA dollar roll transactions, and anticipated trends in financing costs including TBA dollar roll transaction costs, and our hedging strategy including changes to the derivative instruments to which we are a party, and changes to government regulation of hedging instruments and our use of these instruments;

•Our investment portfolio composition and target investments;

•Our investment portfolio performance, including the fair value, yields, and forecasted prepayment speeds of our investments;

•The impact of the COVID-19 pandemic on the economy, as well as certain actions taken by federal, state and local governments in response to the pandemic, and on the performance of loans underlying our investments;

•Our liquidity and ability to access financing, and the anticipated availability and cost of financing;

•Our capital stock activity including the impact of stock issuances and repurchases;

•The amount, timing, and funding of future dividends;

•Our use of our tax NOL carryforward and other tax loss carryforwards;

•Future competition for, and availability of, investments, financing and capital;

•Estimates of future interest expenses, including related to the Company’s repurchase agreements and derivative instruments;

•The status and effect of legislative reforms and regulatory rule-making or review processes, and the status of reform efforts and other business developments in the repurchase agreement financing market;

•Market, industry and economic trends, and how these trends and related economic data may impact the behavior of market participants and financial regulators;

•Uncertainties regarding ongoing hostilities between Russia and the Ukraine and the related impacts on macroeconomic conditions, including, among other things, interest rates;

•The financial position and credit worthiness of the depository institutions in which the Company’s MBS and cash deposits are held;

•The impact of applicable tax and accounting requirements on us including our tax treatment of derivative instruments such as TBAs, interest rate swaps, options and futures;

•Our future compliance with covenants in our master repurchase agreements, ISDA agreements, and debt covenants in our other contractual agreements;

•Our reliance on a single service provider of our trading, portfolio management, risk reporting and accounting services systems;

•The implementation in a timely and cost-effective manner of our operating platform, which includes trading, portfolio management, risk reporting, and accounting services systems, and the anticipated benefits thereof; and

•Possible future effects of the COVID-19 pandemic.

Forward-looking statements are inherently subject to risks, uncertainties and other factors that could cause our actual results to differ materially from historical results or from any results expressed or implied by such forward-looking statements. Not all of these risks and other factors are known to us. New risks and uncertainties arise over time, and it is not possible to predict those events or how they may affect us. The projections, assumptions, expectations or beliefs upon which the forward-looking statements are based can also change as a result of these risks or other factors. If such a risk or other factor materializes in future periods, our business, financial condition, liquidity and results of operations may vary materially from those expressed or implied in our forward-looking statements.

While it is not possible to identify all factors that may cause actual results to differ from historical results or from any results expressed or implied by forward-looking statements, or that may cause our projections, assumptions, expectations or beliefs to change, some of those factors include the following:

47

•the risks and uncertainties referenced in this Annual Report on Form 10-K, especially those incorporated by reference into Part II, Item 1A, “Risk Factors,” and in particular, adverse effects of the ongoing COVID-19 pandemic and any governmental or societal responses thereto, including the efficacy, distribution, availability and adoption rates of vaccines for COVID-19 and variants thereof;

•our ability to find suitable reinvestment opportunities;

•changes in domestic economic conditions;

•geopolitical events, such as terrorism, war or other military conflict, including increased uncertainty regarding the ongoing hostility between Russia and the Ukraine and the related impact on macroeconomic conditions as a result of such conflict;

•changes in interest rates and credit spreads, including the repricing of interest-earning assets and interest-bearing liabilities;

•our investment portfolio performance particularly as it relates to cash flow, prepayment rates and credit performance;

•the impact on markets and asset prices from changes in the Federal Reserve’s policies regarding the purchases of Agency RMBS, Agency CMBS, and U.S. Treasuries;

•actual or anticipated changes in Federal Reserve monetary policy or the monetary policy of other central banks;

•adverse reactions in U.S. financial markets related to actions of foreign central banks or the economic performance of foreign economies including in particular China, Japan, the European Union, and the United Kingdom;

•uncertainty concerning the long-term fiscal health and stability of the United States;

•the cost and availability of financing, including the future availability of financing due to changes to regulation of, and capital requirements imposed upon, financial institutions;

•the cost and availability of new equity capital;

•changes in our leverage and use of leverage;

•changes to our investment strategy, operating policies, dividend policy or asset allocations;

•the quality of performance of third-party service providers, including our sole third-party service provider for our critical operations and trade functions;

•the loss or unavailability of our third-party service provider’s service and technology that supports critical functions of our business related to our trading and borrowing activities due to outages, interruptions, or other failures;

•the level of defaults by borrowers on loans underlying MBS;

•changes in our industry;

•increased competition;

•changes in government regulations affecting our business;

•changes or volatility in the repurchase agreement financing markets and other credit markets;

•changes to the market for interest rate swaps and other derivative instruments, including changes to margin requirements on derivative instruments;

•uncertainty regarding continued government support of the U.S. financial system and U.S. housing and real estate markets, or to reform the U.S. housing finance system including the resolution of the conservatorship of Fannie Mae and Freddie Mac;

•the composition of the Board of Governors of the Federal Reserve;

•the political environment in the U.S.;

•systems failures or cybersecurity incidents; and

•exposure to current and future claims and litigation.