Drive Shack Inc. - Quarter Report: 2005 June (Form 10-Q)

Unassociated Document

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

FORM 10-Q

x QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES

EXCHANGE ACT OF 1934

For the quarterly period ended June 30, 2005

o TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES

EXCHANGE ACT OF 1934

For the transition period from ___________________ to ______________________

Commission File Number: 001-31458

Newcastle Investment Corp.

(Exact name of registrant as specified in its charter)

Maryland		81-0559116
(State or other jurisdiction of incorporation or organization)		(I.R.S. Employer Identification No.)

1251 Avenue of the Americas, New York, NY	10020
(Address of principal executive offices)	(Zip Code)

(212) 798-6100

(Registrant's telephone number, including area code)

_________________________________________________________________

(Former name, former address and former fiscal year, if changed since last report)

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes x No o

Indicate by check mark whether the registrant is an accelerated filer (as defined in Rule 12b-2 of the Securities

Exchange Act). Yes x No o

Indicate the number of shares outstanding of each of the issuer's classes of common stock, as of the last practicable date.

Common stock, $0.01 par value per share: 43,789,819 shares outstanding as of August 8, 2005.

NEWCASTLE INVESTMENT CORP.

FORM 10-Q

INDEX

		PAGE
PART I. FINANCIAL INFORMATION

Item 1.	Financial Statements

	Consolidated Balance Sheets as of June 30, 2005 (unaudited) and December 31, 2004	1

	Consolidated Statements of Income (unaudited) for the three and six months ended June 30, 2005 and 2004	2

	Consolidated Statements of Stockholders' Equity (unaudited) for the six months ended June 30, 2005 and 2004	3

	Consolidated Statements of Cash Flows (unaudited) for the six months ended June 30, 2005 and 2004	4

	Notes to Consolidated Financial Statements (unaudited)	6

Item 2.	Management's Discussion and Analysis of Financial Condition and Results of Operations	14

Item 3.	Quantitative and Qualitative Disclosures About Market Risk	28

Item 4.	Controls and Procedures	33

PART II. OTHER INFORMATION

Item 1.	Legal Proceedings	34

Item 2.	Unregistered Sales of Equity Securities and Use of Proceeds	34

Item 3.	Defaults upon Senior Securities	34

Item 4.	Submission of Matters to a Vote of Security Holders	34

Item 5.	Other Information	34

Item 6.	Exhibits	34

SIGNATURES		35

CAUTIONARY STATEMENTS

The information contained in this quarterly report on Form 10-Q is not a complete description of our business or the risks associated with an investment in our company. We urge you to carefully review and consider the various disclosures made by us in this report and in our other filings with the Securities and Exchange Commission (“SEC”), including our annual report on Form 10-K for the year ended December 31, 2004, that discuss our business in greater detail.

This report contains certain "forward-looking statements" within the meaning of the Private Securities Litigation Reform Act of 1995. Such forward-looking statements relate to, among other things, the operating performance of our investments, the stability of our earnings, and our financing needs. Forward-looking statements are generally identifiable by use of forward-looking terminology such as "may," "will," "should," "potential," "intend," "expect," "endeavor," "seek," "anticipate," "estimate," "overestimate," "underestimate," "believe," "could," "project," "predict," "continue" or other similar words or expressions. Forward-looking statements are based on certain assumptions, discuss future expectations, describe future plans and strategies, contain projections of results of operations or of financial condition or state other forward-looking information. Our ability to predict results or the actual effect of future plans or strategies is inherently uncertain. Although we believe that the expectations reflected in such forward-looking statements are based on reasonable assumptions, our actual results and performance could differ materially from those set forth in the forward-looking statements. These forward-looking statements involve risks, uncertainties and other factors that may cause our actual results in future periods to differ materially from forecasted results. Factors which could have a material adverse effect on our operations and future prospects include, but are not limited to, changes in economic conditions generally and the real estate and bond markets specifically; adverse changes in the financing markets we access affecting our ability to finance our real estate securities portfolios in general or particular real estate related assets, or in a manner that maintains our historic net spreads; changes in interest rates and/or credit spreads, as well as the success of our hedging strategy in relation to such changes; the quality and size of the investment pipeline and the rate at which we can invest our cash, including cash obtained in connection with CBO financings; impairments in the value of the collateral underlying our real estate securities, real estate related loans and residential mortgage loans; the relation of any impairments in the value of our real estate securities portfolio, loans or operating real estate to our judgments as to whether changes in the market value of our securities are temporary or not and whether circumstances bearing on the value of our loans or operating real estate warrant changes in carrying values; changes in the markets; legislative/regulatory changes; completion of pending investments; the availability and cost of capital for future investments; competition within the finance and real estate industries; and other risks detailed from time to time in our SEC reports. Readers are cautioned not to place undue reliance on any of these forward-looking statements, which reflect our management's views as of the date of this report. The factors noted above could cause our actual results to differ significantly from those contained in any forward-looking statement. For a discussion of our critical accounting policies see "Management's Discussion and Analysis of Financial Condition and Results of Operations - Application of Critical Accounting Policies."

Although we believe that the expectations reflected in the forward-looking statements are reasonable, we cannot guarantee future results, levels of activity, performance or achievements. We are under no duty to update any of the forward-looking statements after the date of this report to conform these statements to actual results.

PART I. FINANCIAL INFORMATION

ITEM 1. FINANCIAL STATEMENTS

NEWCASTLE INVESTMENT CORP. AND SUBSIDIARIES

CONSOLIDATED BALANCE SHEETS

(dollars in thousands, except share data)

	June 30, 2005
	(Unaudited)			December 31, 2004
Assets
Real estate securities, available for sale	$	3,973,566		$	3,369,496
Real estate securities portfolio deposit		10,126			25,411
Real estate related loans, net		566,913			591,890
Investments in unconsolidated subsidiaries		33,691			41,230
Operating real estate, net		16,110			57,193
Real estate held for sale		-			12,376
Residential mortgage loans, net		799,772			654,784
Cash and cash equivalents		68,965			37,911
Restricted cash		186,085			77,974
Derivative assets		22,597			27,122
Receivables and other assets		32,217			37,333
	$	5,710,042		$	4,932,720
Liabilities and Stockholders' Equity

Liabilities
CBO bonds payable	$	3,093,682		$	2,656,510
Other bonds payable		383,553			222,266
Notes payable		474,513			652,000
Repurchase agreements		677,303			490,620
Derivative liabilities		48,380			39,661
Dividends payable		28,384			25,928
Due to affiliates		3,963			8,963
Accrued expenses and other liabilities		89,015			40,057
		4,798,793			4,136,005
Stockholders' Equity
Preferred stock, $0.01 par value, 100,000,000 shares authorized, 2,500,000
shares of Series B Cumulative Redeemable Preferred Stock, liquidation
preference $25.00 per share, issued and outstanding		62,500			62,500
Common stock, $0.01 par value, 500,000,000 shares authorized, 43,789,819 and
39,859,481 shares issued and outstanding at June 30, 2005 and
December 31, 2004, respectively		438			399
Additional paid-in capital		782,103			676,015
Dividends in excess of earnings		(13,573	)		(13,969	)
Accumulated other comprehensive income		79,781			71,770
		911,249			796,715
	$	5,710,042		$	4,932,720

NEWCASTLE INVESTMENT CORP. AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF INCOME (Unaudited)

(dollars in thousands, except share data)

	Three Months Ended June 30,						Six Months Ended June 30,
	2005			2004			2005			2004
Revenues
Interest income	$	86,715		$	56,144		$	166,426		$	105,170
Rental and escalation income		1,715			1,022			2,979			2,169
Gain on settlement of investments		3,635			4,446			6,323			9,582
		92,065			61,612			175,728			116,921
Expenses
Interest expense		55,791			32,615			104,557			60,706
Property operating expense		540			531			1,233			1,171
Loan and security servicing expense		1,580			861			3,163			1,643
Provision for credit losses		1,187			-			1,899			-
General and administrative expense		1,326			1,163			2,217			2,303
Management fee to affiliate		3,316			2,563			6,579			4,960
Incentive compensation to affiliate		883			1,236			2,855			3,610
Depreciation and amortization		135			95			271			208
		64,758			39,064			122,774			74,601
Income before equity in earnings of unconsolidated subsidiaries		27,307			22,548			52,954			42,320
Equity in earnings of unconsolidated subsidiaries		1,438			2,218			3,524			3,441
Income taxes on related taxable subsidiaries		(45	)		-			(278	)		-
Income from continuing operations		28,700			24,766			56,200			45,761
Income (loss) from discontinued operations		781			(1,591	)		1,965			(735	)
Net Income		29,481			23,175			58,165			45,026
Preferred dividends		(1,524	)		(1,524	)		(3,047	)		(3,047	)
Income Available For Common Stockholders	$	27,957		$	21,651		$	55,118		$	41,979
Net Income Per Share of Common Stock
Basic	$	0.64		$	0.60		$	1.27		$	1.19
Diluted	$	0.63		$	0.59		$	1.26		$	1.17
Income from continuing operations per share of common stock, after
preferred dividends
Basic	$	0.62		$	0.64		$	1.22		$	1.21
Diluted	$	0.61		$	0.63		$	1.21		$	1.19
Income (loss) from discontinued operations per share of common stock
Basic	$	0.02		$	(0.04	)	$	0.05		$	(0.02	)
Diluted	$	0.02		$	(0.04	)	$	0.05		$	(0.02	)
Weighted Average Number of Shares of
Common Stock Outstanding
Basic		43,768,381			36,160,778			43,496,597			35,281,696
Diluted		44,127,381			36,670,603			43,879,606			35,828,575
Dividends Declared per Share of Common Stock	$	0.625		$	0.600		$	1.250		$	1.200

NEWCASTLE INVESTMENT CORP. AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF STOCKHOLDERS’ EQUITY (Unaudited)

FOR THE SIX MONTHS ENDED JUNE 30, 2005 AND 2004

(dollars in thousands)

													Accum.
								Additional		Dividends			Other			Total Stock-
	Preferred Stock			Common Stock				Paid-in		in Excess of			Comp.			holders'
	Shares		Amount	Shares		Amount		Capital		Earnings			Income			Equity
Stockholders' equity - December 31, 2004	2,500,000	$	62,500	39,859,481	$	399	$	676,015	$	(13,969	)	$	71,770		$	796,715
Dividends declared	-		-	-		-		-		(57,769	)		-			(57,769	)
Issuance of common stock	-		-	3,300,000		33		96,537		-			-			96,570
Exercise of common stock options	-		-	628,330		6		9,491		-			-			9,497
Issuance of common stock to directors	-		-	2,008		-		60		-			-			60
Comprehensive income:
Net income	-		-	-		-		-		58,165			-			58,165
Unrealized gain on securities	-		-	-		-		-		-			25,302			25,302
Reclassification of realized (gain) on securities into earnings	-		-	-		-		-		-			(1,936	)		(1,936	)
Foreign currency translation	-		-	-		-		-		-			(2,154	)		(2,154	)
Reclassification of realized foreign currency translation into earnings	-		-	-		-		-		-			(626	)		(626	)
Unrealized (loss) on derivatives designated as cash flow hedges	-		-	-		-		-		-			(13,849	)		(13,849	)
Reclassification of realized (gain) on derivatives designated as cash flow hedges into earnings	-		-	-		-		-		-			1,274			1,274
Total comprehensive income																66,176
Stockholders' equity - June 30, 2005	2,500,000	$	62,500	43,789,819	$	438	$	782,103	$	(13,573	)	$	79,781		$	911,249
Stockholders' equity - December 31, 2003	2,500,000	$	62,500	31,374,833	$	314	$	451,806	$	(14,670	)	$	39,413		$	539,363
Dividends declared	-		-	-		-		-		(46,814	)		-			(46,814	)
Issuance of common stock	-		-	6,750,000		67		172,818		-			-			172,885
Exercise of common stock options	-		-	107,500		1		1,428		-			-			1,429
Issuance of common stock to directors	-		-	2,148		-		60		-			-			60
Comprehensive income:
Net income	-		-	-		-		-		45,026			-			45,026
Unrealized (loss) on securities	-		-	-		-		-		-			(39,915	)		(39,915	)
Reclassification of realized (gains) on securities into earnings	-		-	-		-		-		-			(8,967	)		(8,967	)
Foreign currency translation	-		-	-		-		-		-			(414	)		(414	)
Reclassification of realized foreign currency translation into earnings	-		-	-		-		-		-			(395	)		(395	)
Unrealized gain on derivatives designated as cash flow hedges	-		-	-		-		-		-			39,000			39,000
Total comprehensive income																34,335
Stockholders' equity - June 30, 2004	2,500,000	$	62,500	38,234,481	$	382	$	626,112	$	(16,458	)	$	28,722		$	701,258

NEWCASTLE INVESTMENT CORP. AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF CASH FLOW (Unaudited)

(dollars in thousands)

	Six Months Ended June 30,
	2005			2004
Cash Flows From Operating Activities
Net income	$	58,165		$	45,026
Adjustments to reconcile net income to net cash provided by operating activities
(inclusive of amounts related to discontinued operations):
Depreciation and amortization		445			1,124
Accretion of discount and other amortization		956			(972	)
Equity in earnings of unconsolidated subsidiaries		(3,524	)		(3,441	)
Deferred rent		(1,063	)		(922	)
Gain on settlement of investments		(5,073	)		(8,006	)
Unrealized gain on non-hedge derivatives		(2,780	)		(1,281	)
Non-cash directors' compensation		60			60
Change in:
Restricted cash		(6,709	)		(1,626	)
Receivables and other assets		3,986			440
Due to affiliates		(5,000	)		2,105
Accrued expenses and other liabilities		48,756			(6,171	)
Net cash provided by operating activities		88,219			26,336
Cash Flows From Investing Activities
Purchase of real estate securities		(687,864	)		(576,757	)
Proceeds from sale of real estate securities		56,521			96,860
Deposit on real estate securities (treated as a derivative)		(17,692	)		(33,657	)
Purchase of and advances on loans		(406,209	)		(40,913	)
Proceeds from settlement of loans		401			–
Repayments of loan and security principal		304,401			(314,858	)
Margin deposit on credit derivative instruments		(26,322	)		148,230
Proceeds from sale of derivative instruments		763			123,595
Payments on settlement of derivative instruments		(1,112	)		–
Purchase and improvement of operating real estate		(192	)		(203	)
Proceeds from sale of operating real estate		52,329			27,460
Contributions to unconsolidated subsidiaries		–			(26,788	)
Distributions from unconsolidated subsidiaries		11,063			8,511
Payment of deferred transaction costs		(39	)		(278	)
Net cash used in investing activities		(713,952	)		(588,798	)

Continued on Page 5

NEWCASTLE INVESTMENT CORP. AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF CASH FLOW (Unaudited)

(dollars in thousands)

		Six Months Ended June 30,
		2005			2004

Cash Flows From Financing Activities
Issuance of CBO bonds payable		442,034			409,612
Repayments of CBO bonds payable		(6,589	)		(11,320	)
Issuance of other bonds payable		246,547			40,000
Repayments of other bonds payable		(84,072	)		(29,723	)
Borrowings under notes payable		-			281,819
Repayments of notes payable		(177,487	)		(191,500	)
Borrowings under repurchase agreements		316,777			-
Repayments of repurchase agreements		(130,094	)		-
Issuance of common stock		97,680			175,628
Costs related to issuance of common stock		(1,110	)		(2,743	)
Exercise of common stock options		9,497			1,429
Dividends paid		(55,313	)		(39,561	)
Payment of deferred financing costs		(1,083	)		(147	)
Net cash provided by financing activities		656,787			633,494

Net Decrease in Cash and Cash Equivalents		31,054			71,032

Cash and Cash Equivalents, Beginning of Period		37,911			60,403

Cash and Cash Equivalents, End of Period	$	68,965		$	131,435

Supplemental Disclosure of Cash Flow Information

Cash paid during the period for interest expense	$	99,903		$	61,122
Cash paid during the period for income taxes	$	434		$	-

Supplemental Schedule of Non-Cash Investing and Financing Activities

Common stock dividends declared but not paid	$	27,369		$	22,940
Preferred stock dividends declared but not paid	$	1,016		$	1,016
Deposits used in acquisition of real estate securities (treated as derivatives)	$	44,504		$	35,457

NEWCASTLE INVESTMENT CORP. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Unaudited)

JUNE 30, 2005

(dollars in tables in thousands, except per share data)

1. GENERAL

Newcastle Investment Corp. (and its subsidiaries, "Newcastle") is a Maryland corporation that was formed in 2002. Newcastle conducts its business through three primary segments: (i) real estate securities and real estate related loans, (ii) operating real estate, and (iii) residential mortgage loans.

The following table presents information on shares of Newcastle’s common stock issued subsequent to its formation:

			Net Proceeds
Year	Shares Issued	Range of Issue Prices (1)	(millions)
Formation	16,488,517	N/A	N/A
2002	7,000,000	$13.00	$80.0
2003	7,886,316	$20.35-$22.85	$163.4
2004	8,484,648	$26.30-$31.40	$224.3
1st Half 2005	3,930,338	$29.60	$106.1
June 30, 2005	43,789,819

(1) Exludes shares issued pursuant to the exercise of options and shares issued to Newcastle's independent directors.

Approximately 2.8 million shares of Newcastle’s common stock were held by an affiliate of the Manager (and its principals, as defined below) at June 30, 2005. In addition, an affiliate of the Manager held options to purchase approximately 1.3 million shares of Newcastle’s common stock at June 30, 2005.

Newcastle is organized and conducts its operations to qualify as a real estate investment trust (“REIT”) for U.S. federal income tax purposes. As such, Newcastle will generally not be subject to U.S. federal income tax on that portion of its income that is distributed to stockholders if it distributes at least 90% of its REIT taxable income to its stockholders by prescribed dates and complies with various other requirements.

Newcastle is party to a management agreement (the "Management Agreement") with Fortress Investment Group LLC (the "Manager"), an affiliate, under which the Manager advises Newcastle on various aspects of its business and manages its day-to-day operations, subject to the supervision of Newcastle's board of directors. For its services, the Manager receives an annual management fee and incentive compensation, both as defined in the Management Agreement.

The accompanying consolidated financial statements and related notes of Newcastle have been prepared in accordance with accounting principles generally accepted in the United States for interim financial reporting and the instructions to Form 10-Q and Rule 10-01 of Regulation S-X. Accordingly, certain information and footnote disclosures normally included in financial statements prepared under accounting principles generally accepted in the United States have been condensed or omitted. In the opinion of management, all adjustments considered necessary for a fair presentation of Newcastle's financial position, results of operations and cash flows have been included and are of a normal and recurring nature. The operating results presented for interim periods are not necessarily indicative of the results that may be expected for any other interim period or for the entire year. These financial statements should be read in conjunction with Newcastle's December 31, 2004 consolidated financial statements and notes thereto included in Newcastle’s annual report on Form 10-K filed with the Securities and Exchange Commission. Capitalized terms used herein, and not otherwise defined, are defined in Newcastle’s December 31, 2004 consolidated financial statements.

2. INFORMATION REGARDING BUSINESS SEGMENTS

Newcastle conducts its business through three primary segments: real estate securities and real estate related loans, operating real estate and residential mortgage loans.

NEWCASTLE INVESTMENT CORP. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Unaudited)

JUNE 30, 2005

(dollars in tables in thousands, except per share data)

Summary financial data on Newcastle's segments is given below, together with a reconciliation to the same data for Newcastle as a whole:

	Real Estate Securities						Residential
	and Real Estate			Operating Real			Mortgage
	Related Loans			Estate			Loans			Unallocated			Total
June 30, 2005 and the Six Months then Ended
Gross revenues	$	147,061		$	3,003		$	25,338		$	326		$	175,728
Operating expenses		(776	)		(1,260	)		(4,328	)		(11,582	)		(17,946	)
Operating income (loss)		146,285			1,743			21,010			(11,256	)		157,782
Interest expense		(89,248	)		(251	)		(15,058	)		-			(104,557	)
Depreciation and amortization		-			(231	)		-			(40	)		(271	)
Equity in earnings of unconsolidated subsidiaries (A)		1,843			1,403			-			-			3,246
Income (loss) from continuing operations		58,880			2,664			5,952			(11,296	)		56,200
Income (loss) from discontinued operations		-			1,965			-			-			1,965
Net Income (Loss)	$	58,880		$	4,629		$	5,952		$	(11,296	)	$	58,165
Revenue derived from non-U.S. sources:
Canada	$	-		$	8,352		$	-		$	-		$	8,352
Belgium	$	-		$	62		$	-		$	-		$	62
Total assets	$	4,803,803		$	35,749		$	802,945		$	67,545		$	5,710,042
Long-lived assets outside the U.S.:
Canada	$	-		$	16,110		$	-		$	-		$	16,110
December 31, 2004
Total assets	$	4,136,203		$	108,322		$	658,643		$	29,552		$	4,932,720
Long-lived assets outside the U.S.:
Canada	$	-		$	57,193		$	-		$	-		$	57,193
Belgium	$	-		$	12,376		$	-		$	-		$	12,376
Three Months Ended June 30, 2005
Gross revenues	$	77,515		$	1,727		$	12,644		$	179		$	92,065
Operating expenses		(453	)		(559	)		(2,325	)		(5,495	)		(8,832	)
Operating income (loss)		77,062			1,168			10,319			(5,316	)		83,233
Interest expense		(47,918	)		(93	)		(7,780	)		-			(55,791	)
Depreciation and amortization		-			(115	)		-			(20	)		(135	)
Equity in earnings of unconsolidated subsidiaries (A)		997			396			-			-			1,393
Income (loss) from continuing operations		30,141			1,356			2,539			(5,336	)		28,700
Income (loss) from discontinued operations		-			781			-			-			781
Net Income (Loss)	$	30,141		$	2,137		$	2,539		$	(5,336	)	$	29,481
Revenue derived from non-U.S. sources:
Canada	$	-		$	4,281		$	-		$	-		$	4,281
Belgium	$	-		$	(470	)	$	-		$	-		$	(470	)

(A) Net of income taxes on related taxable subsidiaries.

Continued on Page 8

NEWCASTLE INVESTMENT CORP. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Unaudited)

JUNE 30, 2005

(dollars in tables in thousands, except per share data)

	Real Estate Securities and Real Estate Related Loans			Operating Real Estate			Residential Mortgage Loans			Unallocated			Total
Six Months Ended June 30, 2004
Gross revenues	$	106,096		$	2,181		$	8,443		$	201		$	116,921
Operating expenses		(587	)		(1,236	)		(1,091	)		(10,773	)		(13,687	)
Operating income (loss)		105,509			945			7,352			(10,572	)		103,234
Interest expense		(56,071	)		(260	)		(4,375	)		-			(60,706	)
Depreciation and amortization		-			(208	)		-			-			(208	)
Equity in earnings of unconsolidated subsidiaries (A)		1,978			1,463			-			-			3,441
Income (loss) from continuing operations		51,416			1,940			2,977			(10,572	)		45,761
Income from discontinued operations		-			(735	)		-			-			(735	)
Net Income (Loss)	$	51,416		$	1,205		$	2,977		$	(10,572	)	$	45,026
Revenue derived from non-US sources:
Canada	$	-		$	7,443		$	-		$	-		$	7,443
Belgium	$	-		$	2,305		$	-		$	-		$	2,305
Three Months Ended June 30, 2004
Gross revenues	$	56,255		$	1,025		$	4,241		$	91		$	61,612
Operating expenses		(325	)		(558	)		(555	)		(4,916	)		(6,354	)
Operating income (loss)		55,930			467			3,686			(4,825	)		55,258
Interest expense		(30,252	)		(121	)		(2,242	)		-			(32,615	)
Depreciation and amortization		-			(95	)		-			-			(95	)
Equity in earnings of unconsolidated subsidiaries (A)		909			1,309			-			-			2,218
Income (loss) from continuing operations		26,587			1,560			1,444			(4,825	)		24,766
Income from discontinued operations		-			(1,591	)		-			-			(1,591	)
Net Income (Loss)	$	26,587		$	(31	)	$	1,444		$	(4,825	)	$	23,175
Revenue derived from non-US sources:
Canada	$	-		$	2,739		$	-		$	-		$	2,739
Belgium	$	-		$	331		$	-		$	-		$	331

(A) Net of income taxes on related taxable subsidiaries.

NEWCASTLE INVESTMENT CORP. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Unaudited)

JUNE 30, 2005

(dollars in tables in thousands, except per share data)

The following table summarizes the activity affecting the equity held by Newcastle in unconsolidated subsidiaries:

	Operating Real Estate			Real Estate Loan
	Subsidiary			Subsidiary
Balance at December 31, 2004	$	17,778		$	23,452
Contributions to unconsolidated subsidiaries		-			-
Distributions from unconsolidated
subsidiaries		(6,611	)		(4,452	)
Equity in earnings of unconsolidated
subsidiaries		1,681			1,843
Balance at June 30, 2005	$	12,848		$	20,843

Summarized financial information related to Newcastle’s unconsolidated subsidiaries was as follows (in thousands):

		Operating Real Estate Subsidiary (A) (B)						Real Estate Loan Subsidiary (A) (C)
		June 30, 2005			December 31, 2004			June 30, 2005			December 31, 2004
Assets	$	79,178		$	89,222		$	41,923		$	47,170
Liabilities		(53,000	)		(53,000	)		-			-
Minority interest		(482	)		(666	)		(237	)		(266	)

Equity	$	25,696		$	35,556		$	41,686		$	46,904

Equity held by Newcastle	$	12,848		$	17,778		$	20,843		$	23,452

		Six Months Ended June 30,						Six Months Ended June 30,
		2005			2004			2005			2004
Revenues	$	6,563		$	4,237		$	3,729		$	4,063
Expenses		(3,138	)		(1,257	)		(22	)		(85	)
Minority interest		(63	)		(54	)		(21	)		(23	)
Net income (loss)	$	3,362		$	2,926		$	3,686		$	3,955

Newcastle's equity in net income (loss)	$	1,681		$	1,463		$	1,843		$	1,978

(A)	The unconsolidated subsidiaries’ summary financial information is presented on a fair value basis, consistent with their internal basis of accounting.

(B)	Included in the operating real estate segment.

(C)	Included in the real estate securities and real estate related loans segment.

NEWCASTLE INVESTMENT CORP. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Unaudited)

JUNE 30, 2005

(dollars in tables in thousands, except per share data)

3. REAL ESTATE SECURITIES

The following is a summary of Newcastle’s real estate securities at June 30, 2005, all of which are classified as available for sale and are therefore marked to market through other comprehensive income.

					Gross Unrealized								Weighted Average
Asset Type	Current Face Amount		Amortized Cost Basis		Gains		Losses		Carrying Value		Number of Securities		S&P Equivalent Rating		Coupon		Yield		Maturity (Years)
CMBS-Conduit	$	1,225,893	$	1,187,276	$	62,490	$	(4,147)	$	1,245,619		184		BBB-		6.12%		6.72%		7.61
CMBS-Large Loan		569,122		566,209		10,270		(291)		576,188		68		BBB		5.86%		6.07%		2.01
CMBS- B-Note		191,586		187,775		9,234		(158)		196,851		34		BB+		6.52%		6.85%		6.27
Unsecured REIT Debt		802,979		816,791		36,381		(2,242)		850,930		92		BBB-		6.37%		6.05%		7.31
ABS-Manufactured Housing		180,665		163,729		5,851		(721)		168,859		9		B		7.11%		8.63%		6.55
ABS-Home Equity		405,842		403,907		5,539		(301)		409,145		63		A-		5.07%		5.17%		3.59
ABS-Franchise		69,376		67,545		1,797		(473)		68,869		16		BBB+		7.28%		8.21%		5.34
Agency RMBS		454,962		457,908		960		(1,763)		457,105		11		AAA		4.66%		4.46%		5.42
Total/Average (A)	$	3,900,425	$	3,851,140	$	132,522	$	(10,096)	$	3,973,566		477		BBB		5.94%		6.16%		5.90

(A) The total current face amount of fixed rate securities was $2,985.9 million, and of floating rate securities was $914.5 million.

Unrealized losses that are considered other than temporary are recognized currently in income. There were no such losses incurred during the six months ended June 30, 2005. The unrealized losses on Newcastle’s securities are primarily the result of market factors, rather than credit impairment, and Newcastle believes their carrying values are fully recoverable over their expected holding period. None of the securities were delinquent as of June 30, 2005.

Securities in an Unrealized Loss Position

Less Than Twelve Months	$	865,468	$	873,618	$	-	$	(4,797)	$	868,821	88	A+	5.34%	5.12%	5.27
Twelve or More Months		240,307		243,511		-		(5,299)		238,212	35	BBB-	5.71%	5.48%	7.41
Total	$	1,105,775	$	1,117,129	$	-	$	(10,096)	$	1,107,033	123	A	5.42%	5.19%	5.73

The unrealized losses on a majority of the securities in the “Twelve or More Months” category were caused by changes in market interest rates as well as market credit spreads. None of the securities in this category are in default or delinquent and Newcastle has performed credit analyses in relation to such securities which support its belief that the carrying values of such securities are fully recoverable over their expected holding period. Although management expects to hold these securities until their recovery, there is no assurance that such securities will not be sold or at what price they may be sold.

4. REAL ESTATE RELATED LOANS AND RESIDENTIAL MORTGAGE LOANS

The following is a summary of real estate related loans and residential mortgage loans at June 30, 2005. The loans contain various terms, including fixed and floating rates, self-amortizing and interest only. They are generally subject to prepayment.

										Weighted
										Average
	Current		Carrying		Loan		Wtd. Avg.			Maturity		Delinquent Carrying
Loan Type	Face Amount		Value		Count		Yield			(Years) (C)		Amount
B-Notes	$	137,356	$	137,658		26		6.93	%		2.31	$	-
Mezzanine Loans (A)		104,342		104,310		5		7.77	%		2.03		-
Bank Loans		135,482		135,819		3		6.91	%		2.03		-
Real Estate Loans		14,726		14,339		1		20.02	%		2.50		-
ICH CMO Loans (B)		176,462		174,787		106		7.89	%		1.81		26,826
Total Real Estate
Related Loans	$	568,368	$	566,913		141		7.71	%		2.04	$	26,826
Residential Loans	$	498,625	$	506,580		1,323		4.33	%		3.65	$	11,110
Manufactured Housing
Loans		310,526		293,192		8,021		7.85	%		4.71		4,347
Total Residential
Mortgage Loans	$	809,151	$	799,772		9,344		5.62	%		4.06	$	15,457

NEWCASTLE INVESTMENT CORP. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Unaudited)

JUNE 30, 2005

(dollars in tables in thousands, except per share data)

(A)	One of these loans has a contractual exit fee which Newcastle will begin to accrue if and when management believes it is probable that such exit fee will be received.

(B)	In October 2003, pursuant to FIN No. 46, Newcastle consolidated an entity which holds a portfolio of commercial mortgage loans which has been securitized. This investment, which is referred to as the ICH CMO, was previously treated as a non-consolidated residual interest in such securitization. Newcastle exercises no control over the management or resolution of these assets. The primary effect of the consolidation is the requirement that Newcastle reflect the gross loan assets and gross bonds payable of this entity in its financial statements.

(C)	The weighted average maturity for the residential mortgage loan portfolio was calculated based on a constant prepayment rate (CPR) of approximately 20%.

Newcastle has entered into credit derivative instruments with a major investment bank, whereby Newcastle receives the sum of all interest, fees and any positive change in value amounts (the total return cash flows) from a reference asset with a specified notional amount, and pays interest on such notional plus any negative change in value amounts from such asset. These agreements are recorded in Derivative Assets and treated as non-hedge derivatives for accounting purposes and are therefore marked to market through income. Under the agreements, Newcastle is required to post an initial margin deposit to an interest bearing account and additional margin may be payable in the event of a decline in value of the reference asset. Any margin on deposit, less any negative change in value amounts, will be returned to Newcastle upon termination of the contract. The following table presents information on these instruments as of June 30, 2005.

	Reference	Notional		Margin		Receive		Pay		Fair
Month Executed	Asset	Amount		Amount		Interest Rate		Interest Rate		Value
November 2004	Term loan to a retail mall REIT	$	106,493	$	18,149		LIBOR + 2.00%		LIBOR + 0.500%	$	936
February 2005	Term loan to a diversified real estate and finance company	$	97,997	$	19,599		LIBOR + 3.00%		LIBOR + 0.625%	$	483
June 2005	Mezzanine loan to a hotel company	$	15,000	$	5,224		LIBOR +4.985%		LIBOR + 1.35%	$	51

5. RECENT ACTIVITIES

In July 2005, Newcastle entered into a three-year, $50 million revolving credit facility with Key Bank, secured by a deposit account into which cash received by Newcastle from certain eligible CBO investments is deposited. This credit facility involved an upfront fee paid by Newcastle of 0.75% of the $50 million commitment and bears interest at LIBOR + 2.50%. The facility also calls for unused commitment fees of 0.25% if drawn 50% or less, and 0.125% if drawn greater than 50%.

In June 2005, Newcastle closed on the sale of the industrial/distribution property in the Bell Canada portfolio for CAD $47.6 million (USD $38.1 million) and recorded a gain (net of Canadian taxes) of approximately $0.9 million. Newcastle posted a CAD $4.9 million letter of credit to cover potential Canadian taxes arising from this sale, however no taxes are expected to be paid in excess of those accrued at closing.

In June 2005, Newcastle closed on the sale of the last property in the LIV portfolio for €10.4 million (USD $12.7 million) and recorded a loss of approximately $0.7 million.

In April 2005, Newcastle completed its seventh CBO financing, whereby a portfolio of real estate securities and loans was purchased by a consolidated subsidiary which issued $447.0 million face amount of investment grade senior bonds and $53.0 million face amount of non-investment grade subordinated bonds in a private placement. The non-investment grade bonds were retained by Newcastle and the $442.1 million carrying amount of the investment grade bonds, which bore interest at a weighted average effective rate, including discount and issue cost amortization and the effect of hedges, of 4.48%, had an expected weighted average life of approximately 8.9 years. The largest tranche, the $323.0 million face amount of Class I-MM notes, was issued subject to remarketing procedures and related agreements whereby the securities are remarketed and sold on a periodic basis. $439.6 million face amount of the senior bonds bear floating interest rates. Newcastle obtained an interest rate swap in order to hedge its exposure to the risk of changes in market interest rates with respect to these bonds.

NEWCASTLE INVESTMENT CORP. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Unaudited)

JUNE 30, 2005

(dollars in tables in thousands, except per share data)

Newcastle enters into short-term warehouse agreements with major investment banks for the right to purchase commercial mortgage backed securities, unsecured REIT debt, real estate related loans and asset backed securities for its real estate securities portfolios, prior to their being financed with CBOs. These agreements are treated as non-hedge derivatives for accounting purposes and are therefore marked to market through current income. If the related CBO is not consummated, except as a result of Newcastle’s gross negligence, willful misconduct or breach of contract, Newcastle will be required to pay the Net Loss, if any, as defined, up to the related deposit, less any Excess Carry Amount, as defined, earned on such deposit. The following table summarizes the agreements (in thousands):

June 30, 2005							Income Recorded
	Collateral		Aggregate				Six Months Ended
Deal Status	Accumulated (1)		Deposit		Fair Value		June 30, 2005
Closed		N/A		N/A		N/A	$	1,662
Open	$	105,195	$	10,251	$	10,126	$	(125	)
							$	1,537
(1) Excludes $86.3 million of collateral accumulated on balance sheet and recorded in real estate securities.

In March 2005, Newcastle closed on the sale of the vacant property in the Bell Canada portfolio for CAD $14.3 million (USD $11.8 million) and recorded a gain of approximately $0.5 million. Newcastle posted a CAD $1.1 million letter of credit to cover potential Canadian taxes arising from this sale, however no taxes are expected to be paid.

An unconsolidated subsidiary of Newcastle’s that owns a portfolio of convenience and retail gas stores had entered into a property management agreement with a third party servicer which, in March 2005, was transferred to an affiliate of our Manager; the related fees, approximately $20,000 per year for three years, were not changed.

In January 2005, Newcastle sold 3.3 million shares of its common stock in a public offering at a price to the public of $29.60 per share, for net proceeds of approximately $96.6 million. For the purpose of compensating the Manager for its successful efforts in raising capital for Newcastle, in connection with this offering, Newcastle granted options to the Manager to purchase 330,000 shares of Newcastle’s common stock at the public offering price, which were valued at approximately $1.1 million.

During the first six months of 2005, Newcastle’s Manager and certain of the Manager’s employees exercised options to purchase approximately 0.6 million shares of Newcastle’s common stock. In connection with this exercise, Newcastle received proceeds of approximately $9.5 million.

In January 2005, Newcastle, through a consolidated subsidiary, acquired a portfolio of approximately 8,100 manufactured housing loans for an aggregate purchase price of approximately $308.2 million. The loans, which were all current at the time of acquisition, are primarily fixed rate. Newcastle’s acquisition was initially funded with approximately $246.5 million of one-year bonds provided by two investment banks which are subject to adjustment based on the market value and performance of the related portfolio. The debt bears interest at LIBOR + 1.25%. Newcastle obtained an interest rate swap in order to hedge its exposure to the risk of changes in market interest rates with respect to this financing and the anticipated permanent financing of this portfolio.

In January 2005, Newcastle entered into a servicing agreement with a portfolio company of a private equity fund advised by an affiliate of Newcastle’s manager for such company to service the above described portfolio of manufactured housing loans. As compensation under the servicing agreement, the portfolio company will receive, on a monthly basis, a net servicing fee equal to 1.00% per annum on the unpaid principal balance of the loans being serviced.

NEWCASTLE INVESTMENT CORP. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Unaudited)

JUNE 30, 2005

(dollars in tables in thousands, except per share data)

6. DERIVATIVE INSTRUMENTS

The following table summarizes the notional amounts and fair (carrying) values of Newcastle's derivative financial instruments as of June 30, 2005.

	Notional Amount		Fair Value			Longest Maturity
Interest rate caps, treated as hedges (A)	$	356,769	$	2,010			October 2015
Interest rate swaps, treated as hedges (A)	$	2,394,936	$	(26,939	)		November 2018
Non-hedge derivative obligations (A) (B)		(B)	$	(383)			July 2038

	(A)	Included in Derivative Assets or Derivative Liabilities, as applicable. Derivative Liabilities also includes accrued interest.
	(B)	Represents two essentially offsetting interest rate caps and two essentially offsetting interest rate swaps, each with notional amounts of $32.5 million, an interest rate cap with a notional amount of $17.5 million, and two interest rate swaps with an aggregate notional amount of $8.0 million.

7. EARNINGS PER SHARE

Newcastle is required to present both basic and diluted earnings per share (“EPS”). Basic EPS is calculated by dividing net income available for common stockholders by the weighted average number of shares of common stock outstanding during each period. Diluted EPS is calculated by dividing net income available for common stockholders by the weighted average number of shares of common stock outstanding plus the additional dilutive effect of common stock equivalents during each period. Newcastle’s common stock equivalents are its outstanding stock options. Net income available for common stockholders is equal to net income less preferred dividends.

The following is a reconciliation of the weighted average number of shares of common stock outstanding on a diluted basis.

	Three Months Ended June 30,				Six Months Ended June 30,
	2005		2004		2005		2004
Weighted average number of shares of common
stock outstanding, basic		43,768,381		36,160,778		43,496,597		35,281,696
Dilutive effect of stock options, based
on the treasury stock method		359,000		509,825		383,009		546,879
Weighted average number of shares of common
stock outstanding, diluted		44,127,381		36,670,603		43,879,606		35,828,575

As of June 30, 2005, Newcastle’s outstanding options were summarized as follows:

Held by the Manager			1,293,407
Issued to the Manager and subsequently transferred to certain of the Manager’s employees			627,490
Held by directors			12,500
Total			1,933,397

8. INCOME TAXES

Newcastle Investment Corp. is organized and conducts its operations to qualify as a REIT under the Internal Revenue Code. A REIT will generally not be subject to U.S. federal income tax on that portion of its income that it distributes to its stockholders if it distributes at least 90% of its REIT taxable income to its stockholders by prescribed dates and complies with various other requirements. Newcastle has elected to treat NC Circle Holdings II LLC as a taxable REIT subsidiary (“TRS”), effective February 27, 2004. NC Circle Holdings II LLC owns a portion of Newcastle’s investment in one of its unconsolidated subsidiaries. To the extent that NC Circle Holdings II LLC generates taxable income, Newcastle has provided for relevant income taxes based on a blended statutory rate of 40%. Newcastle accounts for income taxes in accordance with the provisions of SFAS No. 109 “Accounting for Income Taxes.” Under SFAS No. 109, Newcastle accounts for income taxes using the asset and liability method under which deferred tax assets and liabilities are recognized for the future tax consequences attributable to differences between the financial statement carrying amounts of existing assets and liabilities and their respective tax bases. No such material differences have been recognized through June 30, 2005.

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

The following should be read in conjunction with the unaudited consolidated financial statements and notes included herein.

GENERAL

Newcastle Investment Corp. is a real estate investment and finance company. We invest in real estate securities, loans and other real estate related assets. We seek to deliver stable dividends and attractive risk-adjusted returns to our stockholders through prudent asset selection, active management and the use of match-funded financing structures, which reduce our interest rate and financing risks. Our objective is to maximize the difference between the yield on our investments and the cost of financing these investments while hedging our interest rate risk. We emphasize asset quality, diversification, match-funded financing and credit risk management.

We own a diversified portfolio of moderately credit sensitive real estate debt investments including securities and loans.

Our portfolio of real estate securities includes commercial mortgage backed securities (CMBS), senior unsecured debt issued by property REITs, real estate related asset backed securities (ABS) and agency residential mortgage backed securities (RMBS). Mortgage backed securities are interests in or obligations secured by pools of mortgage loans. We generally target investments rated A through BB, except for our agency RMBS which are generally considered AAA rated. We also own, directly and indirectly, interest in loans and pools of loans, including real estate related loans, commercial mortgage loans, residential mortgage loans, and manufactured housing loans. We also own, directly and indirectly, interests in operating real estate.

We employ leverage in order to achieve our return objectives. We do not have a predetermined target debt to equity ratio as we believe the appropriate leverage for the particular assets we are financing depends on the credit quality of those assets. As of June 30, 2005, our debt to equity ratio was approximately 5.1 to 1. We maintain access to a broad array of capital resources in an effort to insulate our business from potential fluctuations in the availability of capital. We utilize multiple forms of financing including collateralized bond obligations (CBOs), other securitizations, and term loans, as well as short term financing in the form of repurchase agreements and a credit facility.

We seek to match-fund our investments with respect to interest rates and maturities in order to minimize the impact of interest rate fluctuations on earnings and reduce the risk of refinancing our liabilities prior to the maturity of the investments. We seek to finance a substantial portion of our real estate securities and loans through the issuance of debt securities in the form of CBOs, which are obligations issued in multiple classes secured by an underlying portfolio of securities. Our CBO financings offer us the structural flexibility to buy and sell certain investments to manage risk and, subject to certain limitations, to optimize returns.

We were formed in 2002 as a subsidiary of Newcastle Investment Holdings Corp. (referred to herein as Holdings). Prior to our initial public offering, Holdings contributed to us certain assets and liabilities in exchange for approximately 16.5 million shares of our common stock. Our operations commenced in July 2002. In May 2003, Holdings distributed to its stockholders all of the shares of our common stock that it held, and it no longer owns any of our common equity. As of June 30, 2005, approximately 2.8 million shares of our common stock were held by an affiliate of our manager and its principals. In addition, an affiliate of our manager held options to purchase approximately 1.3 million shares of our common stock at June 30, 2005.

The following table presents information on shares of our common stock issued since our formation:

			Net Proceeds
Year	Shares Issued	Range of Issue Prices (1)	(millions)
Formation	16,488,517	N/A	N/A
2002	7,000,000	$13.00	$80.0
2003	7,886,316	$20.35-$22.85	$163.4
2004	8,484,648	$26.30-$31.40	$224.3
1st Half 2005	3,930,338	$29.60	$106.1
June 30, 2005	43,789,819

(1)Excludes shares issued pursuant to the exercise of options and shares issued to Newcastle's independent directors.

We are organized and conduct our operations to qualify as a REIT for U.S. federal income tax purposes. As such, we will generally not be subject to U.S. federal income tax on that portion of our income that is distributed to stockholders if we distribute at least 90% of our REIT taxable income to our stockholders by prescribed dates and comply with various other requirements.

We conduct our business by investing in three primary business segments: (i) real estate securities and real estate related loans, (ii) operating real estate and (iii) residential mortgage loans.

Revenues attributable to each segment are disclosed below (unaudited) (in thousands).

	Real Estate Securities				Residential
For the Six Months	and Real Estate		Operating		Mortgage
Ended June 30,	Related Loans		Real Estate		Loans		Unallocated		Total
2005	$	147,061	$	3,003	$	25,338	$	326	$	175,728
2004	$	106,096	$	2,181	$	8,443	$	201	$	116,921

APPLICATION OF CRITICAL ACCOUNTING POLICIES

Management's discussion and analysis of financial condition and results of operations is based upon our consolidated financial statements, which have been prepared in accordance with U.S. generally accepted accounting principles ("GAAP"). The preparation of financial statements in conformity with GAAP requires the use of estimates and assumptions that could affect the reported amounts of assets and liabilities, the disclosure of contingent assets and liabilities and the reported amounts of revenue and expenses. Actual results could differ from these estimates. The following is a summary of our accounting policies that are most effected by judgments, estimates and assumptions.

Variable Interest Entities

In December 2003, Financial Accounting Standards Board Interpretation (“FIN”) No. 46R “Consolidation of Variable Interest Entities” was issued as a modification of FIN 46. FIN 46R clarified the methodology for determining whether an entity is a variable interest entity (“VIE”) and the methodology for assessing who is the primary beneficiary of a VIE. VIEs are defined as entities in which equity investors do not have the characteristics of a controlling financial interest or do not have sufficient equity at risk for the entity to finance its activities without additional subordinated financial support from other parties. A VIE is required to be consolidated by its primary beneficiary, and only by its primary beneficiary, which is defined as the party who will absorb a majority of the VIE’s expected losses or receive a majority of the expected residual returns as a result of holding variable interests.

We have historically consolidated our existing CBO transactions (the “CBO Entities”) because we own the entire equity interest in each of them, representing a substantial portion of their capitalization, and we control the management and resolution of their assets. We have determined that certain of the CBO Entities are VIEs and that we are the primary beneficiary of each of these VIEs and will therefore continue to consolidate them. We have also determined that the application of FIN 46R did not result in a change in our accounting for any other entities which were previously consolidated. However, it did cause us to consolidate one entity which was previously not consolidated, ICH CMO, as described below under “- Liquidity and Capital Resources.” We will continue to analyze future CBO entities, as well as other investments, pursuant to the requirements of FIN 46R. These analyses require considerable judgment in determining the primary beneficiary of a VIE since they involve subjective probability weighting of subjectively determined possible cash flow scenarios. The result could be the consolidation of an entity acquired or formed in the future that would otherwise not have been consolidated or the non-consolidation of such an entity that would otherwise have been consolidated.

Valuation and Impairment of Securities

We have classified our real estate securities as available for sale. As such, they are carried at fair value with net unrealized gains or losses reported as a component of accumulated other comprehensive income. Fair value is based primarily upon broker quotations, as well as counterparty quotations, which provide valuation estimates based upon reasonable market order indications or a good faith estimate thereof. These quotations are subject to significant variability based on market conditions, such as interest rates and credit spreads. Changes in market conditions, as well as changes in the assumptions or methodology used to determine fair value, could result in a significant increase or decrease in our book equity. We must also assess whether unrealized losses on securities, if any, reflect a decline in value which is other than temporary and, accordingly, write the impaired security down to its value through earnings. For example, a decline in value is deemed to be other than temporary if it is probable that we will be unable to collect all amounts due according to the contractual terms of a security which was not impaired at acquisition. Temporary declines in value generally result from changes in market factors, such as market interest rates and credit spreads, or from certain macroeconomic events, including market disruptions and supply changes, which do not directly impact our ability to collect amounts contractually due. Significant judgment is required in this analysis. To date, no such write-downs have been made.

Revenue Recognition on Securities

Income on these securities is recognized using a level yield methodology based upon a number of assumptions that are subject to uncertainties and contingencies. Such assumptions include the expected disposal date of such security and the rate and timing of principal and interest receipts (which may be subject to prepayments, delinquencies and defaults). These uncertainties and contingencies are difficult to predict and are subject to future events, and economic and market conditions, which may alter the assumptions. For securities acquired at a discount for credit quality, the income recognized is based on a “loss adjusted yield” whereby a provision for expected credit losses is accrued on a periodic basis.

Valuation of Derivatives

Similarly, our derivative instruments are carried at fair value pursuant to Statement of Financial Accounting Standards ("SFAS") No. 133 "Accounting for Derivative Instruments and Hedging Activities," as amended. Fair value is based on counterparty quotations. To the extent they qualify as hedges under SFAS No. 133, net unrealized gains or losses are reported as a component of accumulated other comprehensive income; otherwise, they are reported as a component of current income. Fair values of such derivatives are subject to significant variability based on many of the same factors as the securities discussed above. The results of such variability could be a significant increase or decrease in our book equity and/or earnings.

Impairment of Loans

We purchase, directly and indirectly, real estate related, commercial mortgage and residential mortgage loans, including manufactured housing loans, to be held for investment. We must periodically evaluate each of these loans or loan pools for possible impairment. Impairment is indicated when it is deemed probable that we will be unable to collect all amounts due according to the contractual terms of the loan, or, for loans acquired at a discount for credit quality, when it is deemed probable that we will be unable to collect as anticipated. Upon determination of impairment, we would establish a specific valuation allowance with a corresponding charge to earnings. Significant judgment is required both in determining impairment and in estimating the resulting loss allowance. We have recorded approximately $0.2 million of impairment with respect to the ICH CMO loans in 2005. To date, no other impairments have been recorded.

Revenue Recognition on Loans

Income on these loans is recognized similarly to that on our securities and is subject to similar uncertainties and contingencies. For loans acquired at a discount for credit quality, the income recognized is based on a “loss adjusted yield” whereby a provision for expected credit losses is accrued on a periodic basis.

Impairment of Operating Real Estate

We own operating real estate held for investment. We review our operating real estate for impairment annually or whenever events or changes in circumstances indicate that the carrying amount of an asset may not be recoverable. Upon determination of impairment, we would record a write-down of the asset, which would be charged to earnings. Significant judgment is required both in determining impairment and in estimating the resulting write-down. To date, we have determined that no write-downs have been necessary on the operating real estate in our portfolio. In addition, when operating real estate is classified as held for sale, it must be recorded at the lower of its carrying amount or fair value less costs of sale. Significant judgment is required in determining the fair value of such properties.

RESULTS OF OPERATIONS

The following table summarizes the changes in our results of operations from the three and six months ended June 30, 2004 to the three months ended June 30, 2005 (dollars in thousands):

	Period to Period						Period to Period
	Change						Percent Change
	Six Months Ended			Three Months Ended			Six Months Ended		Three Months Ended
	June 30, 2005/2004			June 30, 2005/2004			June 30, 2005/2004		June 30, 2005/2004		Explanation
Interest Income	$	61,256		$	30,571			58%		54%		(1)
Rental and escalation income		810			693			37%		68%		(2)
Gain on settlement of investments		(3,259	)		(811	)		(34%)		(18%)		(3)

Interest expense		43,851			23,176			72%		71%		(1)
Property operating expense		62			9			5%		2%		(2)
Loan and security servicing expense		1,520			719			93%		84%		(1)
Provision for credit losses		1,899			1,187			N/A		N/A		(4)
General and administrative expense		(86	)		163			(4%)		14%		(5)
Management fee to affiliate		1,619			753			33%		29%		(6)
Incentive compensation to affiliate		(755	)		(353	)		(21%)		(29%)		(6)
Depreciation and amortization		63			40			30%		42%		(2)
Equity in earnings of unconsolidated
subsidiaries, net of taxes on related
taxable subsidiaries		(195	)		(825	)		(6%)		(37%)		(7)
Income from continuing operations	$	10,439		$	3,934			23%		16%

(1)	Changes in interest income and expense are primarily related to our acquisition during the period of interest bearing assets and related financings, as follows:

	Six Months Ended June 30, 2005/2004				Three Months Ended June 30, 2005/2004
	Period to Period Increase (Decrease)				Period to Period Increase (Decrease)
	Interest Income		Interest Expense		Interest Income		Interest Expense
Real estate security and loan portfolios (A)	$	26,443	$	18,369	$	14,434	$	9,922
Agency RMBS		6,213		5,657		3,888		3,577
Residential mortgage loan portfolio		3,071		4,091		1,316		2,064
Manufactured housing loan portfolio		13,297		6,592		6,903		3,474
Other real estate related loans		7,851		892		2,966		476
Other (B)		4,381		8,250		1,064		3,663
	$	61,256	$	43,851	$	30,571	$	23,176

(A)	Represents our fifth, sixth and seventh CBO financings and the acquisition of the related collateral, as well as the deposit on our eighth CBO financing.

(B)

Primarily due to increasing interest rates on floating rate assets and liabilities owned during the entire period, with interest expense offset by the repayment of debt as a result of property sales.

	Changes in loan and security servicing expense are also primarily due to these acquisitions.

(2)	These changes are primarily the result of the effect of the sale of certain properties and the termination of a lease, offset by foreign currency fluctuations.

(3)	These changes are primarily a result of the volume of sales of real estate securities. Sales of real estate securities are based on a number of factors including credit, asset type and industry and can be expected to increase or decrease from time to time. Periodic fluctuations in the volume of sales of securities is dependent upon, among other things, management’s assessment of credit risk, asset concentration, portfolio balance and other factors.

(4)	These changes are primarily the result of the acquisition of loan pools at a discount for credit quality.

(5)	The decrease in general and administrative expense is primarily a result of decreased Canadian taxes, offset by increased professional fees related to our compliance with the Sarbanes-Oxley Act of 2002.

(6)	The increase in management fees is a result of our increased size resulting from our equity issuances during this period. The decrease in incentive compensation is primarily a result of the FFO loss we recorded related to the sale of properties during the period, offset by our increased earnings.

(7)	The decrease in earnings from unconsolidated subsidiaries is primarily a result of a decrease in earnings from an interest in an LLC which owns a portfolio of convenience and retail gas stores. A significant portion of such portfolio has been sold during the period. Note that the amounts shown are net of income taxes on related taxable subsidiaries.

LIQUIDITY AND CAPITAL RESOURCES

Liquidity is a measurement of our ability to meet potential cash requirements, including ongoing commitments to repay borrowings, fund and maintain investments, and other general business needs. Additionally, to maintain our status as a REIT under the Internal Revenue Code, we must distribute annually at least 90% of our REIT taxable income. Our primary sources of funds for liquidity consist of net cash provided by operating activities, borrowings under loans, and the issuance of debt and equity securities. Our debt obligations are generally secured directly by our investment assets.

We expect that our cash on hand and our cash flow provided by operations will satisfy our liquidity needs with respect to our current investment portfolio over the next twelve months. However, we currently expect to seek additional capital in order to grow our investment portfolio. We have an effective shelf registration statement with the SEC which allows us to issue various types of securities, such as common stock, preferred stock, depository shares, debt securities and warrants, from time to time, up to an aggregate of $750 million, of which approximately $351 million remained available as of June 30, 2005.

We expect to meet our long-term liquidity requirements, specifically the repayment of our debt obligations, through additional borrowings and the liquidation or refinancing of our assets at maturity. We believe that the value of these assets is, and will continue to be, sufficient to repay our debt at maturity under either scenario. Our ability to meet our long-term liquidity requirements relating to capital required for the growth of our investment portfolio is subject to obtaining additional equity and debt financing. Decisions by investors and lenders to enter into such transactions with us will depend upon a number of factors, such as our historical and projected financial performance, compliance with the terms of our current credit arrangements, industry and market trends, the availability of capital and our investors’ and lenders’ policies and rates applicable thereto, and the relative attractiveness of alternative investment or lending opportunities. We maintain access to a broad array of capital resources in an effort to insulate our business from potential fluctuations in the availability of capital.

Our ability to execute our business strategy, particularly the growth of our investment portfolio, depends to a significant degree on our ability to obtain additional capital. Our core business strategy is dependent upon our ability to finance our real estate securities and other real estate related assets with match-funded debt at rates that provide a positive net spread. If spreads for such liabilities widen or if demand for such liabilities ceases to exist, then our ability to execute future financings will be severely restricted.

We expect to meet our short-term liquidity requirements generally through our cash flow provided by operations and our credit facility, as well as investment specific borrowings. In addition, at June 30, 2005 we had an unrestricted cash balance of $69.0 million. Our cash flow provided by operations differs from our net income due to four primary factors: (i) accretion of discount or premium on our real estate securities and loans (including the accrual of interest and fees payable at maturity), discount on our debt obligations, deferred financing costs and interest rate cap premiums, and deferred hedge gains and losses, (ii) gains and losses from sales of assets financed with CBOs, (iii) depreciation of our operating real estate, and (iv) straight-lined rental income. Proceeds from the sale of assets which serve as collateral for our CBO financings, including gains thereon, are required to be retained in the CBO structure until the related bonds are retired and are therefore not available to fund current cash needs.

Our match-funded investments are financed long-term and their credit status is continuously monitored; therefore, these investments are expected to generate a generally stable current return, subject to interest rate fluctuations. See “Quantitative and Qualitative Disclosures About Market Risk -- Interest Rate Exposure” below. Our remaining investments, financed with short term repurchase agreements, are also subject to refinancing risk upon the maturity of the related debt. See “Debt Obligations” below.

With respect to our operating real estate, we expect to incur expenditures of approximately $4.3 million relating to tenant improvements, in connection with the inception of leases, and capital expenditures during the twelve months ending June 30, 2006.

With respect to one of our real estate related loans, we were committed to fund up to an additional $20.9 million at June 30, 2005, subject to certain conditions to be met by the borrower.

Debt Obligations

The following tables present certain information regarding our debt obligations and related hedges as of June 30, 2005 (unaudited) (dollars in thousands):

Debt Obligation/Collateral	Month Issued		Current Face Amount		Carrying Value	Unhedged Weighted Average Funding Cost	Final Stated Maturity	Weighted Average Funding Cost (1)	Weighted Average Maturity (Years)		Face Amount of Floating Rate Debt		Collateral Carrying Value	Collateral Weighted Average Maturity(Years)		Face Amount of Floating Rate Collateral		Aggregate Notional Amount of Currently Effective Hedges

CBO Bonds Payable

Real estate securities	Jul 1999	$	430,307	$	426,614	4.82% (2)	Jul 2038	4.72%	3.77	$	335,307	$	588,391	5.55	$	-	$	281,907
Real estate securities and loans	Apr 2002		444,000		440,725	4.56% (2)	Apr 2037	6.37%	4.95		372,000		470,917	5.91		83,527		290,000
Real estate securities and loans	Mar 2003		472,000		468,160	4.51% (2)	Mar 2038	4.74%	6.82		427,800		499,035	5.31		140,171		276,060
Real estate securities and loans	Sep 2003		460,000		455,399	4.13% (2)	Sep 2038	4.80%	6.31		442,500		497,368	4.58		232,045		192,500
Real estate securities and loans	Mar 2004		414,000		410,261	4.17% (2)	Mar 2039	4.37%	7.41		382,750		425,167	5.93		189,370		165,300
Real estate securities and loans	Sep 2004		454,500		450,391	4.06% (2)	Sep 2039	4.43%	7.70		442,500		502,789	6.00		252,794		189,373
Real estate securities and loans	Apr 2005		447,000		442,132	3.65% (2)	Apr 2040	4.48%	8.77		439,600		484,557	7.02		185,143		243,501
			3,121,807		3,093,682			4.85%	6.53		2,842,457		3,468,224	5.74		1,083,050		1,638,641

Other Bonds Payable
ICH CMO loans (3)	(3)	152,108	152,108	6.64% (2)	Aug 2030	6.64%	1.72	3,645	174,787	1.81	3,645	-
Manufactured housing loans (4)	Jan 2005	231,928	231,445	LIBOR+1.25%	Jan 2006	5.45%	0.58	231,928	293,193	4.71	-	232,515
		384,036	383,553			5.92%	1.03	235,573	467,980	3.63	3,645	232,515

Notes Payable
Real estate related loan	Nov 2003		66,631		66,631	LIBOR+1.50%	Nov 2006	4.75%	1.39		66,631		83,039	1.40		83,039		-
Residential mortgage loans (4)	Nov 2004		407,882		407,882	LIBOR+0.15%	Nov 2007	3.47%	1.78		407,882		435,955	3.57		435,955		-
			474,513		474,513			3.65%	1.72		474,513		518,994	3.22		518,994		-
Repurchase Agreements (4)
Residential mortgage loans (5)	Rolling		60,579		60,579	LIBOR+0.43%	Sep 2005	3.90%	0.25		60,579		62,670	4.20		62,670		-
ABS-manufactured housing (6)	Rolling		92,352		92,352	LIBOR+0.63%	Various (8)	4.43%	0.23		92,352		116,024	5.87		-		78,800
Agency RMBS (7)	Rolling		444,538		444,538	LIBOR+0.13%	Jul 2005	4.31%	0.08		444,538		457,105	5.42		-		430,685
Real estate securities	Rolling		26,334		26,334	LIBOR+0.71%	Various (9)	3.98%	0.18		26,334		40,308	2.67		12,450		14,295
Real estate related loans	Rolling		53,500		53,500	LIBOR+1.00%	Various (9)	4.19%	0.30		53,500		70,000	1.40		70,000		-
			677,303		677,303			4.27%	0.14		677,303		746,107	4.86		145,120		523,780
Total debt obligations		$	4,657,659	$	4,629,051			4.73%	4.66	$	4,229,846	$	5,201,305	5.18	$	1,750,809	$	2,394,936

(1)	Includes the effect of applicable hedges.

(2)	Weighted average, including floating and fixed rate classes.

(3)	See "Liquidity and Capital Resources" below regarding the consolidation of ICH CMO.

(4)	Subject to potential mandatory prepayments based on collateral value.

(5)	The counterparty on this repo is Bear Stearns Mortgage Capital Corporation.

(6)	The counterparty on these repos is Greenwich Capital Markets Inc.

(7)	The counterparty on this repo is Bank of America Securities LLC.

(8)	The longest maturity is September 05.

(9)	The longest maturity is October 05.

Our long-term debt obligations existing at June 30, 2005 (gross of $28.6 million of discounts) are expected to mature as follows (unaudited) (in thousands):

Period from July 1, 2005 through December 31, 2005	$	682,553
2006		293,310
2007		407,882
2008		-
2009		-
2010		-
Thereafter		3,273,914
Total	$	4,657,659

Certain of the debt obligations included above are obligations of our consolidated subsidiaries which own the related collateral. In some cases, including the CBO and Other Bonds Payable, such collateral is not available to other creditors of ours.

In connection with the sale of two classes of CBO bonds, we entered into two interest rate swaps and three interest rate cap agreements that do not qualify for hedge accounting.

In November 2001, we sold the retained subordinated $17.5 million Class E Note from our first CBO to a third party. The Class E Note bore interest at a fixed rate of 8.0% and had a stated maturity of June 2038. The sale of the Class E Note represented an issuance of debt and was recorded as additional CBO bonds payable. In April 2002, a wholly owned subsidiary of ours repurchased the Class E Note. The repurchase of the Class E Note represented a repayment of debt and was recorded as a reduction of CBO bonds payable. The Class E Note is included in the collateral for our second CBO. The Class E Note is eliminated in consolidation.

Two classes of CBO bonds, with an aggregate of $718.0 million face amount, were issued subject to remarketing procedures and related agreements whereby such bonds are remarketed and sold on a periodic basis. $395.0 million of these bonds are fully insured by third parties with respect to the timely payment of interest and principal thereon.

In October 2003, pursuant to FIN No. 46R, we consolidated an entity which holds a portfolio of commercial mortgage loans which has been securitized. This investment, which we refer to as the ICH CMO, was previously treated as a non-consolidated residual interest in such securitization. We exercise no control over the management or resolution of these assets. The primary effect of the consolidation is the requirement that we reflect the gross loan assets and gross bonds payable of this entity in our financial statements.

In July 2004, we refinanced $342.5 million of the AAA and AA bonds in our first CBO. $322.5 million of AAA bonds were refinanced at LIBOR + 0.30% from LIBOR + 0.65% and $20.0 million of AA bonds were refinanced at LIBOR + 0.50% from LIBOR + 0.80%.

Other

We have entered into credit derivative instruments with a major investment bank, whereby we receive the sum of all interest, fees and any positive change in value amounts (the total return cash flows) from a reference asset with a specified notional amount, and pay interest on such notional plus any negative change in value amounts from such asset. These agreements are recorded in Derivative Assets and treated as non-hedge derivatives for accounting purposes and are therefore marked to market through income. Under the agreements, we are required to post an initial margin deposit to an interest bearing account and additional margin may be payable in the event of a decline in value of the reference asset. Any margin on deposit, less any negative change in value amounts, will be returned to us upon termination of the contract. The following table presents information on these instruments as of June 30, 2005.

Reference

Notional

Margin

Receive

Pay

Fair

Month Executed

Asset

Amount

Interest Rate

Value

November 2004

Term loan to a retail mall REIT

$106,493

$18,149

LIBOR + 2.00%

LIBOR + 0.500%

$936

February 2005

Term loan to a diversified real

$97,997

$19,599

LIBOR + 3.00%

LIBOR + 0.625%

$483

estate and finance company

June 2005

Mezzanine loan to a hotel company

$15,000

$5,224

LIBOR +4.985%

LIBOR + 1.35%

$51

We enter into short-term warehouse agreements with major investment banks for the right to purchase commercial mortgage backed securities, unsecured REIT debt, real estate related loans and asset backed securities for our real estate securities portfolios, prior to their being financed with CBOs. These agreements are treated as non-hedge derivatives for accounting purposes and are therefore marked to market through current income. If the related CBO is not consummated, except as a result of our gross negligence, willful misconduct or breach of contract, we will be required to pay the Net Loss, if any, as defined, up to the related deposit, less any Excess Carry Amount, as defined, earned on such deposit. The following table summarizes the agreements (in thousands):

June 30, 2005							Income Recorded
	Collateral		Aggregate		Fair		Six Months Ended
Deal Status	Accumulated (1)		Deposit		Value		June 30, 2005
Closed		N/A		N/A		N/A	$	1,662
Open	$	105,195	$	10,251	$	10,126	$	(125	)
							$	1,537
(1) Excludes $86.3 million of collateral accumulated on balance sheet and recorded in real estate securities.

In July 2005, we entered into a three-year, $50 million revolving credit facility with Key Bank, secured by a deposit account into which cash received by us from certain eligible CBO investments is deposited. This credit facility involved an upfront fee paid by us of 0.75% of the $50 million commitment and bears interest at LIBOR + 2.50%. The facility also calls for unused commitment fees of 0.25% if drawn 50% or less, and 0.125% if drawn greater than 50%.

Stockholders’ Equity

Common Stock

The following table presents information on shares of our common stock issued since December 31, 2004:

Period	Shares Issued	Range of Issue Prices (1)	Net Proceeds (millions)	Options Granted to Manager
First Half 2005	3,930,338	$29.60	$106.1	330,000

(1)	Excludes shares issued pursuant to the exercise of options and shares issued to our independent directors.

At June 30, 2005, we had 43,789,819 shares of common stock outstanding.

As of June 30, 2005, our outstanding options were summarized as follows:

Held by the Manager			1,293,407
Issued to the Manager and subsequently transferred to certain of the Manager’s employees			627,490
Held by directors			12,500
Total			1,933,397

Preferred Stock

In March 2003, we issued 2.5 million shares of 9.75% Series B Cumulative Redeemable Preferred Stock (the “Series B Preferred”). The Series B Preferred has a $25 liquidation preference, no maturity date and no mandatory redemption. We have the option to redeem the Series B Preferred beginning in March 2008.

Other Comprehensive Income

During the six months ended June 30, 2005, our accumulated other comprehensive income changed due to the following factors (in thousands):

Accumulated other comprehensive income, December 31, 2004	$	71,770
Unrealized gain on securities		25,302
Reclassification of realized (gain) on securities into earnings		(1,936	)
Foreign currency translation		(2,154	)
Reclassification of realized foreign currency translation into earnings		(626	)
Unrealized (loss) on derivatives designated as cash flow hedges		(13,849	)
Reclassification of realized (gain) on derivatives designated as cash flow hedges into earnings		1,274
Accumulated other comprehensive income, June 30, 2005	$	79,781

Our book equity changes as our real estate securities portfolio and derivatives are marked-to-market each quarter, among other factors. The primary causes of mark-to-market changes are changes in interest rates and credit spreads. During the period, decreasing interest rates and tightening credit spreads resulted in a net increase in unrealized gains on our real estate securities portfolio. In an environment of widening credit spreads and increasing interest rates, we believe our new investment activities will benefit. While such an environment will likely result in a decrease in the fair value of our existing securities portfolio and, therefore, reduce our book equity and ability to realize gains on such existing securities, it will not directly affect our earnings or our cash flow or our ability to pay dividends.

In addition, the slight strengthening of the U.S. dollar against the Canadian dollar has resulted in a decrease in unrealized gains on our Canadian operating real estate.

Common Dividends Paid

Declared for		Amount
the Period Ended	Paid	Per Share
March 31, 2005	April 27, 2005	$0.625
June 30, 2005	July 27, 2005	$0.625

Cash Flow

Net cash flow provided by operating activities increased from $26.3 million for the six months ended June 30, 2004 to $88.2 million for the six months ended June 30, 2005. This change primarily resulted from the acquisition and settlement of our investments as described above.

Investing activities (used) ($714.0 million) and ($588.8 million) during the six months ended June 30, 2005 and 2004, respectively. Investing activities consisted primarily of investments made in certain real estate securities and other real estate related assets, net of proceeds from the sale or settlement of investments.

Financing activities provided $656.8 million and $633.5 million during the six months ended June 30, 2005 and 2004, respectively. The equity issuances, borrowings and debt issuances described above served as the primary sources of cash flow from financing activities. Offsetting uses included the payment of related deferred financing costs, the purchase of hedging instruments, the payment of dividends, and the repayment of debt as described above.

See the consolidated statements of cash flows included in our consolidated financial statements included herein for a reconciliation of our cash position for the periods described herein.

INTEREST RATE, CREDIT AND SPREAD RISK

We are subject to interest rate, credit and spread risk with respect to our investments.

Our general financing strategy focuses on the use of match-funded structures. This means that we seek to match the maturities of our debt obligations with the maturities of our investments to minimize the risk that we have to refinance our liabilities prior to the maturities of our assets, and to reduce the impact of changing interest rates on our earnings. In addition, we generally match-fund interest rates on our investments with like-kind debt (i.e., fixed rate assets are financed with fixed rate debt and floating rate assets are financed with floating rate debt), directly or through the use of interest rate swaps, caps or other financial instruments, or through a combination of these strategies, which allows us to reduce the impact of changing interest rates on our earnings. See “Quantitative and Qualitative Disclosures About Market Risk - Interest Rate Exposure” below.

Real Estate Securities

Interest rate changes may also impact our net book value as our real estate securities and related hedge derivatives are marked to market each quarter. Our loan investments and debt obligations are not marked to market. Generally, as interest rates increase, the value of our fixed rate securities decreases, and as interest rates decrease, the value of such securities will increase. In general, we would expect that over time, decreases in the value of our real estate securities portfolio attributable to interest rate changes will be offset to some degree by increases in the value of our swaps, and vice versa. However, the relationship between spreads on securities and spreads on swaps may vary from time to time, resulting in a net aggregate book value increase or decline. Our real estate securities portfolio is largely financed to maturity through long-term CBO financings that are not redeemable as a result of book value changes. Accordingly, unless there is a material impairment in value that would result in a payment not being received on a security, changes in the book value of our securities portfolio will not directly affect our recurring earnings or our ability to pay dividends.

The commercial mortgage and asset backed securities we invest in are generally junior in right of payment of interest and principal to one or more senior classes, but benefit from the support of one or more subordinate classes of securities or other form of credit support within a securitization transaction. The senior unsecured REIT debt securities we invest in reflect comparable credit risk. Credit risk refers to each individual borrower’s ability to make required interest and principal payments on the scheduled due dates. We believe, based on our due diligence process, that these securities offer attractive risk-adjusted returns with long-term principal protection under a variety of default and loss scenarios. While the expected yield on these securities is sensitive to the performance of the underlying assets, the more subordinated securities or other features of the securitization transaction, in the case of commercial mortgage and asset backed securities, and the issuer's underlying equity and subordinated debt, in the case of senior unsecured REIT debt securities, are designed to bear the first risk of default and loss. We further minimize credit risk by actively monitoring our real estate securities portfolio and the underlying credit quality of our holdings and, where appropriate, repositioning our investments to upgrade the credit quality and yield on our investments. While we have not experienced any significant credit losses, in the event of a significant rising interest rate environment and/or economic downturn, loan and collateral defaults may increase and result in credit losses that would adversely affect our liquidity and operating results.

Our real estate securities portfolio is diversified by asset type, industry, location and issuer. At June 30, 2005, we had 514 real estate securities and loans, excluding the ICH CMO loans as described above. Our largest investment in a real estate security or real estate related loan was $83.0 million and our average investment size was $8.8 million at June 30, 2005. Furthermore, our real estate securities are supported by pools of underlying loans. For instance, our CMBS investments had over 18,000 underlying loans at June 30, 2005. We expect that this diversification also helps to minimize the risk of capital loss. At June 30, 2005, our real estate securities and real estate related loans (excluding the ICH CMO loans) had an overall weighted average credit rating of approximately BBB, and approximately 70% had an investment grade rating (BBB- or higher).

Our real estate securities are also subject to spread risk. Our fixed rate securities are valued based on a market credit spread over the rate payable on fixed rate U.S. Treasuries of like maturity. In other words, their value is dependent on the yield demanded on such securities by the market based on their credit relative to U.S. Treasuries. Excessive supply of such securities combined with reduced demand will generally cause the market to require a higher yield on such securities, resulting in the use of a higher (or “wider”) spread over the benchmark rate (usually the applicable U.S. Treasury security yield) to value such securities. Under such conditions, the value of our real estate securities portfolio would tend to decline. Conversely, if the spread used to value such securities were to decrease (or “tighten”), the value of our real estate securities portfolio would tend to increase. Our floating rate securities are valued based on a market credit spread over LIBOR and are effected similarly by changes in LIBOR spreads. Such changes in the market value of our real estate securities portfolio may affect our net equity, net income or cash flow directly through their impact on unrealized gains or losses on available-for-sale securities, and therefore our ability to realize gains on such securities, or indirectly through their impact on our ability to borrow and access capital. If the value of our securities subject to repurchase agreements were to decline, it could affect our ability to refinance such securities upon the maturity of the related repurchase agreements. See “ Quantitative and Qualitative Disclosures About Market Risk - Credit Spread Curve Exposure” below.

Furthermore, shifts in the U.S. Treasury yield curve, which represents the market’s expectations of future interest rates, would also affect the yield required on our real estate securities and therefore their value. This would have similar effects on our real estate securities portfolio and our financial position and operations to a change in spreads.

Loans

Similar to our real estate securities portfolio, we are subject to credit and spread risk with respect to our real estate related, commercial mortgage and residential mortgage loan portfolios. However, unlike our real estate securities portfolio, our loans do not benefit from the support of junior classes of securities, but rather bear the first risk of default and loss. We believe that this credit risk is mitigated through our due diligence process and periodic reviews of the borrower’s payment history, delinquency status, and the relationship of the loan balance to the underlying property value. At June 30, 2005, our residential mortgage loan portfolio was characterized by high credit quality borrowers with a weighted average FICO score of 715 at origination, and had a weighted average loan to value ratio of 72.8%. As of June 30, 2005, approximately $436 million face amount of our residential mortgage loans were held in securitized form, of which over 93% of the principal balance was AAA rated.

Our loan portfolios are diversified by geographic location and by borrower. We believe that this diversification also helps to minimize the risk of capital loss.

Our loan portfolios are also subject to spread risk. Our floating rate loans are valued based on a market credit spread to LIBOR. The value of the loans is dependent upon the yield demanded by the market based on their credit relative to LIBOR. The value of our floating rate loans would tend to decline should the market require a higher yield on such loans, resulting in the use of a higher spread over the benchmark rate (usually the applicable LIBOR yield). Our fixed rate loans are valued based on a market credit spread over U.S. Treasuries and are effected similarly by changes in U.S. Treasury spreads. If the value of our loans subject to repurchase agreements were to decline, it could affect our ability to refinance such loans upon the maturity of the related repurchase agreements.

Any credit or spread losses incurred with respect to our loan portfolios would effect us in the same way as similar losses on our real estate securities portfolio as described above, except that our loan portfolios are not marked to market.

OFF-BALANCE SHEET ARRANGEMENTS

As of June 30, 2005, we had the following material off-balance sheet arrangement:

The $10.1 million carrying value of our deposit on our eighth real estate securities portfolio, as described above under “- Liquidity and Capital Resources.” Except as a result of our gross negligence, willful misconduct or breach of contract, our potential loss is limited to the amount shown, which is included in our consolidated balance sheet.

At this time, we do not anticipate a substantial risk of incurring a loss with respect to the arrangement.

We are also party to three total return swaps which are treated as non-hedge derivatives. For further information on these investments, see “Management’s Discussion and Analysis of Financial Condition and Results of Operations - Liquidity and Capital Resources.”

CONTRACTUAL OBLIGATIONS

During the first six months of 2005, we had all of the material contractual obligations referred to in our annual report on Form 10-K for the year ended December 31, 2004, as well as the following:

Contract Category	Change
CBO bonds payable	The financing for our seventh real estate securities and loans portfolio was closed in April 2005.
Other bonds payable	The financing for the January 2005 purchase of a portfolio of manufactured housing loans was obtained.
Interest rate swaps, treated as hedges	The floating rate bonds in our seventh CBO transaction were hedged with an interest rate swap.
Real estate securities portfolio deposit	We have begun accumulating collateral for our eighth CBO transaction under an agreement with a major investment bank.

The terms of these contracts are described under “Quantitative and Qualitative Disclosures About Market Risk” below.

INFLATION

We believe that our risk of increases in the market interest rates on our floating rate debt as a result of inflation is largely offset by our use of match-funding and hedging instruments as described above. See "Quantitative and Qualitative Disclosure About Market Risk – Interest Rate Exposure" below.

FUNDS FROM OPERATIONS

We believe FFO is one appropriate measure of the operating performance of real estate companies because it provides investors with information regarding our ability to service debt and make capital expenditures. We also believe that FFO is an appropriate supplemental disclosure of operating performance for a REIT due to its widespread acceptance and use within the REIT and analyst communities. Furthermore, FFO is used to compute our incentive compensation to the Manager. FFO, for our purposes, represents net income available for common stockholders (computed in accordance with GAAP), excluding extraordinary items, plus depreciation of operating real estate, and after adjustments for unconsolidated subsidiaries, if any. We consider gains and losses on resolution of our investments to be a normal part of our recurring operations and therefore do not exclude such gains and losses when arriving at FFO. Adjustments for unconsolidated subsidiaries, if any, are calculated to reflect FFO on the same basis. FFO prior to the commencement of our operations includes certain adjustments related to our predecessor’s investment in Fund I. FFO does not represent cash generated from operating activities in accordance with GAAP and therefore should not be considered an alternative to net income as an indicator of our operating performance or as an alternative to cash flow as a measure of liquidity and is not necessarily indicative of cash available to fund cash needs. Our calculation of FFO may be different from the calculation used by other companies and, therefore, comparability may be limited.

Funds from Operations (FFO) is calculated as follows (unaudited) (in thousands):
	For the Six			For the Three
	Months Ended			Months Ended
	June 30, 2005			June 30, 2005
Income available for common stockholders	$	55,118		$	27,957
Operating real estate depreciation		405			114
Accumulated depreciation on operating real estate sold		(6,939	)		(5,110	)
Funds from Operations (FFO)	$	48,584		$	22,961

Funds from Operations was derived from the Company's segments as follows (unaudited) (in thousands):

		Book Equity at June 30, 2005			Average Invested Common Equity for the Six Months Ended June 30, 2005 (2)			FFO for the Six Months Ended June 30, 2005		Return on Invested Common Equity (ROE) (3)
Real estate securities and real estate related loans	$	663,277		$	663,619		$	58,880		17.7%
Operating real estate		35,826			58,202			(1,905	)	(6.5%	)
Residential mortgage loans		101,854			97,303			5,952		12.2%
Unallocated (1)		(28,923	)		(50,193	)		(14,343	)	N/A
Total (2)		772,034		$	768,931		$	48,584		12.6%
Preferred stock		62,500
Accumulated depreciation		(3,066	)
Accumulated other comprehensive income		79,781
Net book equity	$	911,249

		Book Equity at June 30, 2005			Average Invested Common Equity for the Three Months Ended June 30, 2005 (2)			FFO for the Three Months Ended June 30, 2005		Return on Invested Common Equity (ROE) (3)
Real estate securities and real estate related loans	$	663,277		$	672,467		$	30,141		17.9%
Operating real estate		35,826			53,490			(2,859	)	(21.4%	)
Residential mortgage loans		101,854			104,342			2,539		9.7%
Unallocated (1)		(28,923	)		(51,823	)		(6,860	)	N/A
Total (2)		772,034		$	778,476		$	22,961		11.8%
Preferred stock		62,500
Accumulated depreciation		(3,066	)
Accumulated other comprehensive income		79,781
Net book equity	$	911,249

(1)	Unallocated FFO represents ($3,047) and ($1,524) of preferred dividends and ($11,296) and ($5,336) of corporate general and administrative expense, management fees and incentive compensation for the six and three months ended June 30, 2005, respectively.

(2)	Invested common equity is equal to book equity excluding preferred stock, accumulated depreciation and accumulated other comprehensive income.

(3)	FFO divided by average invested common equity, annualized.

RELATED PARTY TRANSACTIONS

In January 2005, we entered into a servicing agreement with a portfolio company of a private equity fund advised by an affiliate of our manager for such company to service our portfolio of manufactured housing loans. As compensation under the servicing agreement, the portfolio company will receive, on a monthly basis, a net servicing fee equal to 1.00% per annum on the unpaid principal balance of the loans being serviced. We acquired a portfolio of such loans in January 2005 at a cost of approximately $308.2 million.

ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK

Market risk is the exposure to loss resulting from changes in interest rates, credit spreads, foreign currency exchange rates, commodity prices and equity prices. The primary market risks that we are exposed to are interest rate risk, credit spread risk and foreign currency exchange rate risk. These risks are highly sensitive to many factors, including governmental monetary and tax policies, domestic and international economic and political considerations and other factors beyond our control. All of our market risk sensitive assets, liabilities and related derivative positions are for non-trading purposes only. For a further understanding of how market risk may affect our financial position or operating results, please refer to “Management’s Discussion and Analysis of Financial Condition and Results of Operations - Application of Critical Accounting Policies.”

Interest Rate Exposure

Our primary interest rate exposures relate to our real estate securities, loans and floating rate debt obligations, as well as our interest rate swaps and caps. Changes in the general level of interest rates can affect our net interest income, which is the difference between the interest income earned on interest-earning assets and the interest expense incurred in connection with our interest-bearing liabilities and hedges. Changes in the level of interest rates also can affect, among other things, our ability to acquire real estate securities and loans, the value of our real estate securities, loans and derivatives, and our ability to realize gains from the settlement of such assets. While our strategy is to utilize interest rate swaps, caps and match-funded financings in order to limit the effects of changes in interest rates on our operations, there can be no assurance that our profitability will not be adversely affected during any period as a result of changing interest rates. As of June 30, 2005, a 100 basis point increase in short term interest rates would decrease our earnings by approximately $0.1 million per annum.

While we have not experienced any significant credit losses, in the event of a significant rising interest rate environment and/or economic downturn, loan and collateral defaults may increase and result in credit losses that would adversely affect our liquidity and operating results.

Interest rate changes may also impact our net book value as our real estate securities and related hedge derivatives are marked to market each quarter. Our loan investments and debt obligations are not marked to market. Generally, as interest rates increase, the value of our fixed rate securities decreases, and as interest rates decrease, the value of such securities will increase. In general, we would expect that over time, decreases in the value of our real estate securities portfolio attributable to interest rate changes will be offset to some degree by increases in the value of our swaps, and vice versa. However, the relationship between spreads on securities and spreads on swaps may vary from time to time, resulting in a net aggregate book value increase or decline. Our real estate securities portfolio is largely financed to maturity through long-term CBO financings that are not redeemable as a result of book value changes. Accordingly, unless there is a material impairment in value that would result in a payment not being received on a security, changes in the book value of our portfolio will not directly affect our recurring earnings or our ability to pay a dividend. As of June 30, 2005, a 100 basis point change in short term interest rates would impact our net book value by approximately $48.6 million.

Our general financing strategy focuses on the use of match-funded structures. This means that we seek to match the maturities of our debt obligations with the maturities of our investments to minimize the risk that we have to refinance our liabilities prior to the maturities of our assets, and to reduce the impact of changing interest rates on our earnings. In addition, we generally match-fund interest rates on our investments with like-kind debt (i.e., fixed rate assets are financed with fixed rate debt and floating rate assets are financed with floating rate debt), directly or through the use of interest rate swaps, caps, or other financial instruments, or through a combination of these strategies, which allows us to reduce the impact of changing interest rates on our earnings. Our entire portfolio of assets and the related liabilities had weighted average lives of 5.01 years and 4.66 years, respectively, as of June 30, 2005. Our financing strategy is dependent on our ability to place the match-funded debt we use to finance our investments at rates that provide a positive net spread. If spreads for such liabilities widen or if demand for such liabilities ceases to exist, then our ability to execute future financings will be severely restricted.

Interest rate swaps are agreements in which a series of interest rate flows are exchanged with a third party (counterparty) over a prescribed period. The notional amount on which swaps are based is not exchanged. In general, our swaps are “pay fixed” swaps involving the exchange of floating rate interest payments from the counterparty for fixed interest payments from us. This can effectively convert a floating rate debt obligation into a fixed rate debt obligation.

Similarly, an interest rate cap or floor agreement is a contract in which we purchase a cap or floor contract on a notional face amount. We will make an up-front payment to the counterparty for which the counterparty agrees to make future payments to us should the reference rate (typically one- or three-month LIBOR) rise above (cap agreements) or fall below (floor agreements) the “strike” rate specified in the contract. Should the reference rate rise above the contractual strike rate in a cap, we will earn cap income; should the reference rate fall below the contractual strike rate in a floor, we will earn floor income. Payments on an annualized basis will equal the contractual notional face amount multiplied by the difference between the actual reference rate and the contracted strike rate.

While a REIT may utilize these types of derivative instruments to hedge interest rate risk on its liabilities or for other purposes, such derivative instruments could generate income that is not qualified income for purposes of maintaining REIT status. As a consequence, we may only engage in such instruments to hedge such risks within the constraints of maintaining our standing as a REIT. We do not enter into derivative contracts for speculative purposes nor as a hedge against changes in credit risk.

Our hedging transactions using derivative instruments also involve certain additional risks such as counterparty credit risk, the enforceability of hedging contracts and the risk that unanticipated and significant changes in interest rates will cause a significant loss of basis in the contract. The counterparties to our derivative arrangements are major financial institutions with high credit ratings with which we and our affiliates may also have other financial relationships. As a result, we do not anticipate that any of these counterparties will fail to meet their obligations. There can be no assurance that we will be able to adequately protect against the foregoing risks and will ultimately realize an economic benefit that exceeds the related amounts incurred in connection with engaging in such hedging strategies.

Credit Spread Curve Exposure

Our real estate securities are also subject to spread risk. Our fixed rate securities are valued based on a market credit spread over the rate payable on fixed rate U.S. Treasuries of like maturity. In other words, their value is dependent on the yield demanded on such securities by the market based on their credit relative to U.S. Treasuries. Excessive supply of such securities combined with reduced demand will generally cause the market to require a higher yield on such securities, resulting in the use of higher (or “wider”) spread over the benchmark rate (usually the applicable U.S. Treasury security yield) to value such securities. Under such conditions, the value of our real estate securities portfolio would tend to decline. Conversely, if the spread used to value such securities were to decrease (or “tighten”), the value of our real estate securities portfolio would tend to increase. Our floating rate securities are valued based on a market credit spread over LIBOR and are effected similarly by changes in LIBOR spreads. Such changes in the market value of our real estate securities portfolio may effect our net equity, net income or cash flow directly through their impact on unrealized gains or losses on available-for-sale securities, and therefore our ability to realize gains on such securities, or indirectly through their impact on our ability to borrow and access capital.

Furthermore, shifts in the U.S. Treasury yield curve, which represents the market’s expectations of future interest rates, would also effect the yield required on our real estate securities and therefore their value. This would have similar effects on our real estate securities portfolio and our financial position and operations to a change in spreads.

Any decreases in the value of our loan portfolios due to spread changes would effect us in the same way as similar changes to our real estate securities portfolio as described above, except that our loan portfolios are not marked to market.

As of June 30, 2005, an immediate 25 basis point movement in credit spreads would impact our net book value by approximately $44.3 million, but would not directly affect our earnings or cash flow.

Currency Rate Exposure

Our primary foreign currency exchange rate exposures relate to our operating real estate and related leases. Our principal direct currency exposure is to the Canadian Dollar. Changes in the currency rates can adversely impact the fair values and earnings streams of our non-U.S. holdings.

We have an investment in the last property of the Bell Canada portfolio. The net equity invested in this property at June 30, 2005, approximately $19.8 million, is exposed to foreign currency exchange risk.

Fair Values

For certain of our financial instruments, fair values are not readily available since there are no active trading markets as characterized by current exchanges between willing parties. Accordingly, fair values can only be derived or estimated for these instruments using various valuation techniques, such as computing the present value of estimated future cash flows using discount rates commensurate with the risks involved. However, the determination of estimated future cash flows is inherently subjective and imprecise. We note that minor changes in assumptions or estimation methodologies can have a material effect on these derived or estimated fair values, and that the fair values reflected below are indicative of the interest rate, credit spread and currency rate environments as of June 30, 2005 and do not take into consideration the effects of subsequent interest rate, credit spread or currency rate fluctuations.

We note that the values of our investments in real estate securities, loans and derivative instruments, primarily interest rate hedges on our debt obligations, are sensitive to changes in market interest rates, interest rate spreads, credit spreads and other market factors. The value of these investments can vary, and has varied, materially from period to period.

Interest Rate Risk

We held the following interest rate and credit spread risk sensitive instruments at June 30, 2005 (unaudited) (dollars in thousands):

			Principal Balance or			Weighted Average		Maturity
	Carrying Value		Notional Amount			Yield/Funding Cost		Date		Fair Value
Assets:
Real estate securities, available for sale (1)	$	3,973,566	$	3,900,425			6.16%		(1)	$	3,973,566
Real estate securities portfolio deposit (2)		10,126		(2	)		(2)		(2)		10,126
Real estate related loans (3)		566,913		568,368			7.71%		(3)		572,710
Residential mortgage loans (4)		799,772		809,151			5.62%		(4)		799,772
Interest rate caps, treated as hedges (5)		2,010		356,769			N/A		(5)		2,010
Total return swaps (6)		1,470		(6	)		N/A		(6)		1,470

Liabilities:

CBO bonds payable (7)		3,093,682		3,121,807			4.85%		(7)		3,167,208
Other bonds payable (8)		383,553		384,036			5.92%		(8)		391,206
Notes payable (9)		474,513		474,513			3.65%		(9)		474,513
Repurchase agreements (10)		677,303		677,303			4.27%		(10)		677,303
Interest rate swaps, treated as hedges (11)		26,939		2,394,936			N/A		(11)		26,939
Non-hedge derivative obligations (12)		383		(12	)		N/A		(12)		383

(1)	These securities contain various terms, including fixed and floating rates, self-amortizing and interest only. Their weighted average maturity is 5.90 years. The fair value of these securities is estimated by obtaining third party broker quotations, if available and practicable, and counterparty quotations.

(2)	The fair value of the real estate securities portfolio deposit, which is treated as a non-hedge derivative, is determined by obtaining third party broker quotations on the underlying securities, if available and practicable, and counterparty quotations, including a counterparty quotation on the portion of the fair value resulting from the Excess Carry Amount, as defined, earned on such deposit. See “Management’s Discussion and Analysis of Financial Condition and Results of Operations-Liquidity and Capital Resources” for a further discussion of this deposit.

(3)	Represents the following loans:

	Current
	Face		Carrying		Loan		Weighted Avg.		Weighted Average		Floating Rate Loans as a %
Loan Type	Amount		Value		Count		Yield		Maturity (Years)		of Carrying Value		Fair Value
B-Notes	$	137,356	$	137,658		26		6.93%		2.31		86.3%	$	138,096
Mezzanine Loans		104,342		104,310		5		7.77%		2.03		100.0%		104,310
Bank Loans		135,482		135,819		3		6.91%		2.03		100.0%		135,819
Real Estate Loans		14,726		14,339		1		20.02%		2.50		-%		14,436
ICH CMO Loans		176,462		174,787		106		7.89%		1.81		2.1%		180,049
	$	568,368	$	566,913		141		7.71%		2.04		64.0%	$	572,710

	The fixed rate B-Notes were valued by obtaining counterparty quotations. The rest of the B-Notes as well as the mezzanine loans and bank loans, bear floating rates of interest and we believe that, for similar financial instruments with comparable credit risks, their effective rates approximate market rates. Accordingly, the carrying amounts outstanding are believed to approximate fair value. The one fixed rate loan was valued by obtaining a third party valuation. The ICH CMO loans were valued by discounting expected future receipts by a rate calculated based on current market conditions for comparable financial instruments, including market interest rates and credit spreads.

(4)	This aggregate portfolio of residential loans consists of a portfolio of floating rate residential mortgage loans as well as a portfolio of primarily fixed rate manufactured home loans. The $506.6 million portfolio of residential mortgage loans has a weighted average maturity of 3.65 years. We believe that, for similar financial instruments with comparable credit risks, the effective rate on this portfolio approximates a market rate. Accordingly, the carrying amount of this portfolio is believed to approximate fair value. The $293.2 million manufactured housing loan portfolio, which has a weighted average maturity of 4.71 years, was valued by discounting expected future receipts by a rate calculated based on current market conditions for comparable financial instruments, including market interest rates and credit spreads. Based on this analysis, the carrying amount of this portfolio is believed to approximate fair value.

(5)	Represents cap agreements as follows:

Notional Balance	Effective Date		Maturity Date		Capped Rate		Strike Rate		Fair Value
$277,150		Current		March 2009		1-Month LIBOR		6.50%	$	217
18,000		January 2010		October 2015		3-Month LIBOR		8.00%		322
8,619		December 2010		June 2015		3-Month LIBOR		7.00%		515
53,000		May 2011		September 2015		1-Month LIBOR		7.50%		956
$356,769									$	2,010

	The fair value of these agreements is estimated by obtaining counterparty quotations.

(6)	Represents total return swaps which are treated as non-hedge derivatives. The fair value of these agreements, which is included in Derivative Assets, is estimated by obtaining counterparty quotations. See “Management’s Discussion and Analysis of Financial Condition and Results of Operations - Liquidity and Capital Resources” for a further discussion of these swaps.

(7)	These bonds were valued by discounting expected future payments by a rate calculated based on current market conditions for comparable financial instruments, including market interest rates and credit spreads. The weighted average maturity of the CBO bonds payable is 6.53 years. The CBO bonds payable amortize principal prior to maturity based on collateral receipts, subject to reinvestment requirements.

(8)	The ICH CMO bonds were valued by discounting expected future payments by a rate calculated based on current market conditions for comparable financial instruments, including market interest rates and credit spreads. They amortize principal prior to maturity based on collateral receipts and their final stated maturity is in August 2030. The manufactured housing loan bonds mature in January 2006, bear a floating rate of interest, and are subject to adjustment monthly based on the agreed upon market value of the loan portfolio. We believe that, for similar financial instruments with comparable credit risks, their effective rate approximates a market rate. Accordingly, the carrying amount outstanding is believed to approximate fair value.

(9)	The real estate related loan financing matures in November 2006, bears a floating rate of interest and amortizes principal based on collateral receipts. The residential mortgage loan financing matures in November 2007, bears a floating rate of interest, and is subject to adjustment monthly based on the agreed upon market value of the loan portfolio. We believe that, for similar financial instruments with comparable credit risks, their effective rates approximate market rates. Accordingly, the carrying amounts outstanding are believed to approximate fair value.

(10)	These agreements bear floating rates of interest and we believe that, for similar financial instruments with comparable credit risks, the effective rates approximate market rates. Accordingly, the carrying amounts outstanding are believed to approximate fair value. These agreements mature in one to four months.

(11)	Represents swap agreements as follows (in thousands):

Notional Balance		Effective Date		Maturity Date		Swapped Rate		Fixed Rate		Fair Value
$	4,757		Current		July 2005		1-Month LIBOR		6.1755%	$	11
	277,150		Current		March 2009		1-Month LIBOR*		3.1250%		(6,395	)
	290,000		Current		April 2011		3-Month LIBOR		5.9325%		23,214
	276,060		Current		March 2013		3-Month LIBOR		3.8650%		(5,416	)
	192,500		Current		March 2015		1-Month LIBOR		4.8880%		7,794
	165,300		Current		March 2014		3-Month LIBOR		3.9945%		(2,638	)
	189,373		Current		September 2014		3-Month LIBOR		4.3731%		1,128
	243,500		Current		March 2015		1-Month LIBOR		4.8495%		10,032
	232,515		Current		February 2014		1-Month LIBOR		4.2070%		492
	5,000		Current		November 2008		1-Month LIBOR		3.5400%		(77	)
	5,000		Current		November 2018		1-Month LIBOR		4.4800%		54
	56,800		Current		January 2009		1-Month LIBOR		3.6500%		(731	)
	12,000		Current		January 2015		1-Month LIBOR		4.5100%		201
	76,704		Current		October 2009		1-Month LIBOR		3.7150%		(633	)
	72,959		Current		September 2009		1-Month LIBOR		3.7090%		(603	)
	25,116		Current		December 2009		1-Month LIBOR		3.8290%		(138	)
	8,513		Current		August 2009		1-Month LIBOR		4.0690%		8
	24,699		Current		February 2010		1-Month LIBOR		4.1030%		36
	38,786		Current		April 2010		1-Month LIBOR		4.5310%		506
	33,610		Current		March 2010		1-Month LIBOR		4.5260%		433
	28,317		Current		April 2010		1-Month LIBOR		4.1640%		87
	48,024		Current		March 2010		1-Month LIBOR		4.0910%		54
	49,320		Current		May 2010		1-Month LIBOR		3.9900%		(83	)
	24,638		Current		April 2010		1-Month LIBOR		3.9880%		(41	)
	14,295		Current		January 2009		1-Month LIBOR		3.2900%		(356	)
$	2,394,936									$	26,939
*up to 6.50%

(12)

These are two essentially offsetting interest rate caps and two essentially offsetting interest rate swaps, each with notional amounts of $32.5 million, an interest rate cap with a notional balance of $17.5 million, and two interest rate swaps with an aggregate notional amount of $8.0 million. The maturity date of the purchased swap is July 2009; the maturity date of the sold swap is July 2014, the maturity date of the $32.5 million caps is July 2038, the maturity date of the $17.5 million cap is July 2009, and the maturity dates of the latter swaps are November 2008 ($6.0 million) and January 2009 ($2.0 million). The fair value of these agreements is estimated by obtaining counterparty quotations.

Currency Rate Risk

We held the following currency rate risk sensitive balances at June 30, 2005 (unaudited) (U.S. dollars; in thousands, except exchange rates):

Carrying

Current

Effect of a 5%

Amount

Local

Exchange

Negative Change in

(USD)

Currency

Rate to USD

CAD Rate

Assets:

Bell Canada property

16,110

CAD

1.2251

(806

)

Bell Canada other, net

3,723

CAD

1.2251

(186

)

Total

(992

)

USD refers to U.S. dollars; CAD refers to Canadian dollars.

ITEM 4. CONTROLS AND PROCEDURES

(a)	Disclosure Controls and Procedures. The Company's management, with the participation of the Company’s Chief Executive Officer and Chief Financial Officer, has evaluated the effectiveness of the Company's disclosure controls and procedures (as such term is defined in Rules 13a-15(e) and 15d-15(e) under the Securities Exchange Act of 1934, as amended (the "Exchange Act")) as of the end of the period covered by this report. The Company’s disclosure controls and procedures are designed to provide reasonable assurance that information is recorded, processed, summarized and reported accurately and on a timely basis. Based on such evaluation, the Company’s Chief Executive Officer and Chief Financial Officer have concluded that, as of the end of such period, the Company's disclosure controls and procedures are effective.

(b)	Internal Control Over Financial Reporting. There have not been any changes in the Company's internal control over financial reporting (as such term is defined in Rules 13a-15(f) and 15d-15(f) under the Exchange Act) during the fiscal quarter to which this report relates that have materially affected, or are reasonably likely to materially affect, the Company’s internal control over financial reporting.

PART II. OTHER INFORMATION

Item 1. Legal Proceedings

The Company is not party to any material legal proceedings.

Item 2. Unregistered Sales of Equity Securities and Use of Proceeds

None.

Item 3. Defaults upon Senior Securities

None.

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

None.

Item 5. Other Information

None.

Item 6. Exhibits

	3.1	Articles of Amendment and Restatement (incorporated by reference to the Registrant's Registration Statement on Form S-11 (File No. 333-90578), Exhibit 3.1).

	3.2	Articles Supplementary Relating to the Series B Preferred Stock (incorporated by reference to the Registrant’s Quarterly Report on Form 10-Q for the period ended March 31, 2003, Exhibit 3.3).

	3.3	By-laws (incorporated by reference to the Registrant's Registration Statement on Form S-11 (File No. 333-90578), Exhibit 3.2).

	4.1	Rights Agreement between the Registrant and American Stock Transfer and Trust Company, as Rights Agent, dated October 16, 2002 (incorporated by reference to the Registrant’s Quarterly Report on Form 10-Q for the period ended September 30, 2002, Exhibit 4.1).

	10.1	Amended and Restated Management and Advisory Agreement by and among the Registrant and Fortress Investment Group LLC, dated September23, 2003 (incorporated by reference to the Registrant’s Registration Statement on Form S-11 (File No. 333-106135), Exhibit 10.1).

	31.1	Certification of Chief Executive Officer as adopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.

	31.2	Certification of Chief Financial Officer as adopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.

	32.1	Certification of Chief Executive Officer pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.

	32.2	Certification of Chief Financial Officer pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.

SIGNATURES

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


	NEWCASTLE INVESTMENT CORP. (Registrant)

Date: August 8, 2005	By:	/s/ Wesley R. Edens
		Wesley R. Edens
		Chairman of the Board Chief Executive Officer


Date: August 8, 2005	By:	/s/ Debra A. Hess
		Debra A. Hess
		Chief Financial Officer