Arlington Asset Investment Corp. (Form: 10-Q, Received: 11/09/2009 16:37:30)

September 30,
2009

December 31,
2008

FBR Capital Markets ⁽¹⁾

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

FORM 10-Q

(Mark One)

x	QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the quarterly period ended September 30, 2009

¨	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: 000-50230

ARLINGTON ASSET INVESTMENT CORP.

(Exact name of Registrant as specified in its charter)


Virginia		54-1873198
(State or Other Jurisdiction of Incorporation or Organization)		(I.R.S. Employer Identification No.)

1001 Nineteenth Street North Arlington, VA		22209
(Address of Principal Executive Offices)		(Zip Code)

(703) 373-0200

(Registrant’s Telephone Number, Including Area Code)

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 ¨

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files). Yes ¨ No ¨

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer or a smaller reporting company. See definitions of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act.


Large accelerated filer ¨		Accelerated filer x		Non-accelerated filer ¨		Smaller reporting company ¨

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act): Yes ¨ No x

Number of shares outstanding of each of the registrant’s classes of common stock, as of October 30, 2009:


Title		Outstanding
Class A Common Stock		7,353,972 shares
Class B Common Stock		566,112 shares

ARLINGTON ASSET INVESTMENT CORP.

FORM 10-Q

FOR THE QUARTER ENDED SEPTEMBER 30, 2009

INDEX


		Page
PART I—FINANCIAL INFORMATION

Item 1.	Consolidated Financial Statements and Notes—(unaudited)	3

	Consolidated Balance Sheets—September 30, 2009 and December 31, 2008	3

	Consolidated Statements of Operations—Three Months Ended September 30, 2009 and 2008	4

	Consolidated Statements of Operations—Nine Months Ended September 30, 2009 and 2008	5

	Consolidated Statements of Changes in Equity—Nine Months Ended September 30, 2009 and Year Ended December 31, 2008	6

	Consolidated Statements of Cash Flows—Nine Months Ended September 30, 2009 and 2008	7

	Notes to Consolidated Financial Statements	8

Item 2.	Management’s Discussion and Analysis of Financial Condition and Results of Operations	25

Item 3.	Quantitative and Qualitative Disclosures about Market Risk	38

Item 4.	Controls and Procedures	40

PART II—OTHER INFORMATION

Item 1.	Legal Proceedings	43

Item 1A.	Risk Factors	43

Item 6.	Exhibits	44

	Signatures	45

PART I

FINANCIAL INFORMATION

Item 1.

Consolidated Financial Statements and Notes—(unaudited)

ARLINGTON ASSET INVESTMENT CORP.

CONSOLIDATED BALANCE SHEETS

(Dollars in thousands)

(Unaudited)


	September 30, 2009			December 31, 2008
ASSETS
Cash and cash equivalents	$	13,299		$	254,653
Receivables:
Interest		1,111			1,378
Other		60			32,571
Investments:
Mortgage-backed securities, at fair value		173,895			594,294
U.S. Treasury bonds, at fair value		—			550,000
Equity investments, at fair value		87,497			—
Trading securities, at fair value		—			17,954
Long-term and other investments		2,563			54,976
Derivative assets, at fair value		—			264
Intangible assets, net		—			8,943
Furniture, equipment, software and leasehold improvements, net of accumulated depreciation and amortization of $160 and $40,265, respectively		114			24,442
Prepaid expenses and other assets		4,786			20,816

Total assets	$	283,325		$	1,560,291

LIABILITIES AND EQUITY
Liabilities:
Repurchase agreements	$	100,000		$	1,063,040
Trading account securities sold, but not yet purchased, at fair value		—			8,325
Derivative liabilities, at fair value		—			56
Interest payable		129			2,064
Accrued compensation and benefits		7,360			47,259
Due to clearing broker		—			3,009
Accounts payable, accrued expenses and other liabilities		22,041			38,925
Long-term debt		16,816			254,357

Total liabilities		146,346			1,417,035

Commitments and Contingencies (Note 7)
Equity:
Preferred stock, $0.01 par value, 25,000,000 shares authorized, none issued and outstanding		—			—
Class A common stock, $0.01 par value, 450,000,000 shares authorized, 7,354,075 and 7,382,265 shares issued and outstanding, respectively ⁽¹⁾		74			74
Class B common stock, $0.01 par value, 100,000,000 shares authorized, 566,115 and 578,584 shares issued and outstanding, respectively ⁽¹⁾		6			6
Additional paid-in capital ⁽¹⁾		1,505,787			1,494,642
Accumulated other comprehensive income (loss), net of taxes		289			(118	)
Accumulated deficit		(1,369,177	)		(1,481,021	)

Total Arlington Asset shareholders’ equity		136,979			13,583
Noncontrolling interest		—			129,673

Total equity		136,979			143,256

Total liabilities and equity	$	283,325		$	1,560,291

⁽¹⁾	Reflects the impact of 1-for-20 reverse stock split effective October 6, 2009. See Note 11, Subsequent Events.

See notes to consolidated financial statements.

ARLINGTON ASSET INVESTMENT CORP.

CONSOLIDATED STATEMENTS OF OPERATIONS

(Dollars in thousands, except per share data)

(Unaudited)


	Three Months Ended September 30,
	2009			2008
Revenues:
Capital markets	$	—		$	50,694
Principal investment:
Interest		3,719			23,173
Net investment income (loss)		19,737			(153,110	)
Dividends		—			158
Other		—			739

Total revenues (loss)		23,456			(78,346	)
Interest expense		310			25,387

Revenues (loss), net of interest expense		23,146			(103,733	)

Non-Interest Expenses:
Compensation and benefits		2,735			61,111
Professional services		878			10,442
Business development		16			5,262
Clearing and brokerage fees		—			3,834
Occupancy and equipment		94			8,282
Communications		100			5,773
Other operating expenses		1,163			6,668

Total non-interest expenses		4,986			101,372

Operating income (loss)		18,160			(205,105	)

Other Income (Loss):
Loss on subsidiary share transactions		(116	)		—
Gain on extinguishment of long-term debt		27,982			4,078
Other loss		(4	)		(4	)

Income (loss) before income taxes		46,022			(201,031	)
Income tax provision (benefit)		3,585			(18,123	)

Net income (loss)		42,437			(182,908	)
Less: Net loss attributable to the noncontrolling interest of consolidated subsidiary		—			(13,886	)

Net income (loss) attributable to Arlington Asset shareholders	$	42,437		$	(169,022	)

Basic earnings (loss) per share attributable to Arlington Asset ⁽¹⁾	$	5.51		$	(22.34	)

Diluted earnings (loss) per share attributable to Arlington Asset ⁽¹⁾	$	5.38		$	(22.34	)

Weighted average shares outstanding (in thousands) :
Basic ⁽¹⁾		7,705			7,565

Diluted ⁽¹⁾		7,895			7,565

⁽¹⁾	Reflects the impact of 1-for-20 reverse stock split effective October 6, 2009. See Note 11, Subsequent Events.

See notes to consolidated financial statements.

ARLINGTON ASSET INVESTMENT CORP.

CONSOLIDATED STATEMENTS OF OPERATIONS

(Dollars in thousands, except per share data)

(Unaudited)


	Nine Months Ended September 30,
	2009			2008
Revenues:
Capital markets	$	81,075		$	207,766
Principal investment:
Interest		7,600			70,867
Net investment income (loss)		15,754			(173,311	)
Dividends		108			497
Other		—			3,095

Total revenues		104,537			108,914
Interest expense		3,656			70,895

Revenues, net of interest expense		100,881			38,019

Non-Interest Expenses:
Compensation and benefits		73,466			192,035
Professional services		12,871			33,401
Business development		13,139			24,368
Clearing and brokerage fees		5,950			10,857
Occupancy and equipment		13,573			26,051
Communications		8,964			18,046
Other operating expenses		10,099			19,107

Total non-interest expenses		138,062			323,865

Operating loss		(37,181	)		(285,846	)

Other Income (Loss):
Loss on subsidiary share transactions		(10,028	)		(189	)
Gain on extinguishment of long-term debt		160,435			4,078
Other (loss) income		(11	)		73,030

Income (loss) before income taxes		113,215			(208,927	)
Income tax provision (benefit)		12,830			(28,903	)

Net income (loss)		100,385			(180,024	)
Less: Net loss attributable to the noncontrolling interest of consolidated subsidiary		(11,459	)		(31,053	)

Net income (loss) attributable to Arlington Asset shareholders	$	111,844		$	(148,971	)

Basic earnings (loss) per share attributable to Arlington Asset ⁽¹⁾	$	14.58		$	(19.71	)

Diluted earnings (loss) per share attributable to Arlington Asset ⁽¹⁾	$	14.28		$	(19.71	)

Weighted average shares outstanding (in thousands) :
Basic ⁽¹⁾		7,673			7,557

Diluted ⁽¹⁾		7,830			7,557

⁽¹⁾	Reflects the impact of 1-for-20 reverse stock split effective October 6, 2009. See Note 11, Subsequent Events.

See notes to consolidated financial statements.

ARLINGTON ASSET INVESTMENT CORP.

CONSOLIDATED STATEMENTS OF CHANGES IN EQUITY

(Dollars in thousands)

(Unaudited)


	Class A Common Stock (#) ⁽¹⁾		Class A Amount ($) ⁽¹⁾		Class B Common Stock (#) ⁽¹⁾		Class B Amount ($) ⁽¹⁾		Additional Paid-In Capital ⁽¹⁾			Accumulated Other Comprehensive Income (Loss)			Accumulated Deficit			Noncontrolling Interest			Total			Comprehensive Income (Loss)
Balances, December 31, 2007	6,963,323		$	70	630,812		$	6	$	1,470,244		$	(13,071	)	$	(1,063,558	)	$	243,061		$	636,752

Net loss	—			—	—			—		—			—			(417,463	)		(86,867	)		(504,330	)	$	(504,330	)
Conversion of Class B shares to Class A shares	52,229			—	(52,228	)		—		—			—			—			—			—			—
Issuance of Class A common stock	393,381			4	—			—		506			—			—			—			510			—
Forfeitures of Class A common stock	(20,702	)		—	—			—		(1,739	)		—			—			—			(1,739	)		—
Repurchase of Class A common stock	(5,966	)		—	—			—		(48	)		—			—			—			(48	)		—
Stock compensation expense for stock options	—			—	—			—		108			—			—			—			108			—
Amortization of Class A common shares issued as stock-based awards	—			—	—			—		14,408			—			—			—			14,408			—
Equity in issuance of subsidiary common shares to employees	—			—	—			—		11,163			—			—			—			11,163			—
Net decrease in equity related to subsidiary stock compensation transactions	—			—	—			—		—			—			—			(26,430	)		(26,430	)		—
Other comprehensive income:
Net change in unrealized loss on available-for-sale investment securities, (net of taxes of -0-)	—			—	—			—		—			(227	)		—			(91	)		(318	)		(318	)
Net change in unrealized gain on cash flow hedges (net of taxes of $-0-)	—			—	—			—		—			13,180			—			—			13,180			13,180

Comprehensive loss																								$	(491,468	)

Balances, December 31, 2008	7,382,265		$	74	578,584		$	6	$	1,494,642		$	(118	)	$	(1,481,021	)	$	129,673		$	143,256
Net income (loss)	—			—	—			—		—			—			111,844			(11,459	)		100,385		$	100,385
Conversion of Class B shares to Class A shares	12,469			—	(12,469	)		—		—			—			—			—			—			—
Issuance of Class A common stock	1,816			—	—			—		364			—			—			—			364			—
Retirement of Class A common stock	(27,500	)		—	—			—		(275	)		—			—			—			(275	)		—
Forfeitures of Class A common stock	(14,975	)		—	—			—		(194	)		—			—			—			(194	)		—
Stock compensation expense for stock options	—			—	—			—		23			—			—			—			23			—
Amortization of Class A common shares issued as stock-based awards	—			—	—			—		6,169			—			—			—			6,169			—
Equity in issuance of subsidiary common shares to employees	—			—	—			—		5,058			—			—			—			5,058			—
Elimination of noncontrolling interest resulting from sale of majority stake in subsidiary	—			—	—			—		—			—			—			(118,269	)		(118,269	)		—
Other comprehensive income:
Net change in unrealized (loss) gain on available-for-sale investment securities, (net of taxes of $-0-)	—			—	—			—		—			407			—			55			462			462

Comprehensive income																								$	100,847

Balances, September 30, 2009	7,354,075		$	74	566,115		$	6	$	1,505,787		$	289		$	(1,369,177	)	$	—		$	136,979

⁽¹⁾	Reflects the impact of 1-for-20 reverse stock split effective October 6, 2009. See Note 11, Subsequent Events.

See notes to consolidated financial statements.

ARLINGTON ASSET INVESTMENT CORP.

CONSOLIDATED STATEMENTS OF CASH FLOWS

(Dollars in thousands)

(Unaudited)


	Nine Months Ended September 30,
	2009			2008
Cash flows from operating activities:
Net income (loss)	$	100,385		$	(180,024	)
Non-cash items included in net income (loss):
Gain on extinguishment of long-term debt		(160,435	)		—
Net investment (income) loss from investments, mortgage-backed securities, incentive allocations and fees		(14,749	)		178,055
Depreciation and amortization		4,718			7,710
Gain on disposition of subsidiary		—			(73,040	)
Other		23,792			32,569
Changes in operating assets:
Receivables:
Interest		(51	)		1,139
Other		(898	)		(364,309	)
Due from/to clearing broker		(7,132	)		(24,227	)
Trading securities, at fair value		(26,517	)		(6,035	)
Prepaid expenses and other assets		6,313			4,023
Changes in operating liabilities:
Trading account securities sold but not yet purchased, at fair value		12,339			4,395
Accounts payable, accrued expenses and other liabilities		2,988			(23,565	)
Accrued compensation and benefits		(15,165	)		(10,740	)

Net cash used in operating activities		(74,412	)		(454,049	)

Cash flows from investing activities:
Purchases of mortgage-backed securities		(397,767	)		(2,266,616	)
Receipt of principal payments on mortgage-backed securities		15,105			210,827
Proceeds from sales of mortgage-backed securities		806,408			1,107,155
Proceeds from U.S. treasury bond maturities		550,000			—
Purchases of long-term investments		—			(7,287	)
Proceeds from sales of and distributions from long-term investments		14,166			31,618
Deconsolidation of FBR Capital Markets cash balance		(122,752	)		—
Other		(937	)		(3,758	)

Net cash provided by (used in) investing activities		864,223			(928,061	)

Cash flows from financing activities:
Repayments of long-term debt		(75,769	)		(3,630	)
(Repayments of) proceeds from repurchase agreements, net		(963,040	)		920,084
Repurchase of subsidiary stock		(73,300	)		—
Proceeds from subsidiary stock transactions		80,944			458

Net cash (used in) provided by financing activities		(1,031,165	)		916,912

Net decrease in cash and cash equivalents		(241,354	)		(465,198	)
Cash and cash equivalents, beginning of period		254,653			692,360

Cash and cash equivalents, end of period	$	13,299		$	227,162

Supplemental Cash Flow Information:
Cash payments for interest	$	3,592		$	66,957
Cash payments for taxes	$	1,623		$	667

See notes to consolidated financial statements.

ARLINGTON ASSET INVESTMENT CORP.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

(Dollars in thousands, except per share data)

(Unaudited)

1.	Basis of Presentation:

The consolidated financial statements of Arlington Asset Investment Corp. (Arlington Asset), formerly known as Friedman, Billings, Ramsey Group, Inc. (FBR Group), and its subsidiaries (unless the context otherwise provides, collectively, the Company) have been prepared in accordance with accounting principles generally accepted in the United States of America (GAAP) for interim financial information and with the instructions to Form 10-Q. Therefore, they do not include all information required by GAAP for complete financial statements. The interim financial statements reflect all adjustments (consisting only of normal recurring adjustments) which are, in the opinion of management, necessary for a fair statement of the results for the periods presented. All significant intercompany accounts and transactions have been eliminated in consolidation. The results of operations for the three and nine months ended September 30, 2009 are not necessarily indicative of the operating results for the entire year or any other subsequent interim period. The Company’s unaudited condensed consolidated financial statements and notes thereto should be read in conjunction with (i) the Company’s audited consolidated financial statements and notes thereto included in Annual Report on Form 10-K for the year ended December 31, 2008 and (ii) FBR Capital Markets Corporation’s audited consolidated financial statements and notes thereto included in its Annual Report on Form 10-K for the year ended December 31, 2008.

Prior to May 20, 2009, the Company consolidated the results of its former subsidiary, FBR Capital Markets Corporation (FBR Capital Markets) because the Company’s wholly-owned subsidiary, FBR TRS Holdings, Inc. (FBR TRS Holdings), owned approximately 56% of the outstanding shares of FBR Capital Markets’ common stock. The Company liquidated 16,667,000 and 1,500,000 shares of FBR Capital Markets common stock on May 20, and June 19, 2009, respectively, resulting in remaining holdings representing an approximately 39% and 24% interest in FBR Capital Markets, respectively. The sale of 16,667,000 shares on May 20, 2009 was to FBR Capital Markets. As a result, effective May 20, 2009, the Company no longer had majority control of FBR Capital Markets and therefore, deconsolidated the results of FBR Capital Markets’ activities in preparing the Company’s unaudited condensed consolidated financial statements. In addition, on July 15, 2009, the Company liquidated an additional 411,032 shares of FBR Capital Markets stock at a price of $4.42 per share in connection with the over-allotment option that was granted to the underwriters under the underwriting agreement entered into on June 15, 2009.

Historically, the Company has conducted its business within four reportable segments: capital markets, asset management, principal investing and mortgage banking operations. In January 2008, as a result of the filing of a voluntary petition for bankruptcy protection by First NLC Financial Services, LLC (First NLC), the Company deconsolidated First NLC, which included the origination and sale of non-conforming residential mortgage loans and was previously reported as the mortgage banking segment. Due to organizational changes effective January 1, 2009, the Company’s chief operating decision maker reviewed financial information within two reportable segments: capital markets and principal investing. The capital markets segment included the operations of FBR Capital Markets and its subsidiaries, and included the asset management and principal investing operations by FBR Capital Markets, which were previously reported separately. Accordingly, as of January 1, 2009, the Company had reflected the change in segment reporting in accordance with the criteria for segment reporting as set forth in amended accounting principles related to disclosures about segments of an enterprise and related information. As a result of the Company’s sale of its majority ownership interest in and resulting deconsolidation of FBR Capital Markets on May 20, 2009, the capital markets segment is no longer a reportable segment subsequent to May 20, 2009.

statements. Accordingly, the Company reclassified its noncontrolling interest in its former subsidiary, FBR Capital Markets, as a component of equity in the consolidated financial statements for the applicable periods.

The preparation of financial statements in conformity with GAAP requires management to make estimates and assumptions affecting the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. Although the Company bases its estimates and assumptions on historical experience, when available, market information and on various other factors that it believes to be reasonable under the circumstances, management exercises significant judgment in the final determination of its estimates. Actual results may differ materially from those estimates.

Certain amounts in the consolidated financial statements and notes for prior periods have been reclassified to conform to the current period presentation. These reclassifications had no effect on the results of operations of the Company.

2.	Financial Instruments and Long-Term Investments:

Fair Value of Financial Instruments

The Company adopted amended accounting principles related to fair value measurements as of January 1, 2008. This amendment defines fair value as the price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement date, not adjusted for transaction costs. This amendment also establishes a fair value hierarchy that prioritizes the inputs to valuation techniques used to measure fair value into three broad levels giving the highest priority to quoted prices in active markets for identical assets or liabilities (Level 1) and the lowest priority to unobservable inputs (Level 3) as described below:


Level 1 Inputs	—	Unadjusted quoted prices in active markets for identical assets or liabilities that is accessible by the Company;

Level 2 Inputs	—	Quoted prices in markets that are not active or financial instruments for which all significant inputs are observable, either directly or indirectly; and

Level 3 Inputs	—	Unobservable inputs for the asset or liability including significant assumptions of the Company and other market participants.

The Company determines fair values for the following assets and liabilities discussed below in accordance with amended accounting principles related to fair value measurements:

Mortgage-backed securities, at fair value —The Company’s agency mortgage-backed securities (MBS), which are generally guaranteed by Fannie Mae, Freddie Mac or Ginnie Mae, and AAA-rated private label MBS are generally classified within Level 2 of the fair value hierarchy as they are valued using quoted market prices provided by a broker or dealer, or alternative pricing sources with reasonable levels of price transparency. The independent brokers and dealers providing market prices are those who make markets in these financial instruments.

The Company classifies certain other non-agency MBS within Level 3 of the fair value hierarchy because they trade infrequently and, therefore, have little or no price transparency. These Level 3 MBS include private label MBS, residual interests in securitizations of non-prime mortgage loans, and collateralized mortgage obligations (CMOs). The Company utilizes present value techniques based on estimated cash flows of the instrument taking into consideration various assumptions derived by management and used by other market participants. These assumptions are corroborated by evidence such as historical data, risk characteristics, transactions in similar instruments, and completed or pending transactions, when available.

Long-term investments, at fair value —The Company’s long-term investments, at fair value, consist of marketable equity securities and a residual interest in a securitization. The Company’s marketable equity securities are classified within Level 1 of the fair value hierarchy as they are valued using quoted market prices. The residual interest in a securitization is classified within Level 3 of the fair value hierarchy and valued as discussed above.

Trading securities and trading account securities sold but not yet purchased, at fair value —Historically, the Company’s trading securities and trading account securities sold but not yet purchased, at fair value, were securities owned or sold by FBR Capital Markets’ broker-dealer subsidiaries and consisted of marketable and non-public equity and convertible debt securities. The Company classified marketable equity securities within Level 1 of the fair value hierarchy if quoted market prices were used to value the securities. Convertible debt securities were generally classified within Level 2 of the fair value hierarchy as they were valued using quoted market prices provided by a broker or dealer, or alternative pricing services that provided a reasonable level of price transparency. Non-public equity and debt securities were classified within Level 3 of the fair value hierarchy if enterprise values were used to value the securities. In determining the enterprise value, the Company relied on FBR Capital Markets’ management and its analysis of various financial, performance and market factors to estimate the value, including where applicable market trading activity, which were sometimes reported by The PORTAL Market ^SM , a subsidiary of The NASDAQ Stock Market, Inc.

Derivative instruments —In the normal course of the Company’s operations, the Company is a party to various financial instruments that are accounted for as derivatives in accordance with amended accounting principles related to accounting for derivative instruments and hedging activities. These derivatives are generally classified within Level 2 of the fair value hierarchy because they are valued using broker or dealer quotations which are model based calculations based on market-based inputs, including, but not limited to, contractual terms, market prices, yield curves, credit curves, measures of volatility, prepayment rates and correlations of such inputs.

Equity investments, at fair value —The Company’s equity investments, at fair value, consist of its investment in FBR Capital Markets which is classified within Level 1 of the fair value hierarchy as it is valued using quoted market prices. With the sale of FBR Capital Markets stock on May 20, 2009 and resulting deconsolidation, the Company elected to adopt the provisions of amended accounting principles related to the fair value option for financial assets and financial liabilities to its remaining investment in FBR Capital Markets stock. In accordance with the provisions of this amendment, the Company records unrealized gains and losses resulting from the change in the fair value of FBR Capital Markets stock in earnings, as a component of investment income or loss, in the respective reporting period.

Other —Cash and cash equivalents, restricted cash, interest receivable, reverse repurchase agreements, repurchase agreements, accounts payable, accrued expenses and other liabilities are reflected in the consolidated balance sheets at their amortized cost, which approximates fair value because of the short-term nature of these instruments.

The estimated fair values of the Company’s financial instruments are as follows:


	September 30, 2009				December 31, 2008
	Carrying Amount		Estimated Fair Value		Carrying Amount		Estimated Fair Value
Financial assets:
Cash and cash equivalents	$	13,299	$	13,299	$	254,653	$	254,653
Non-interest bearing receivables		60		60		32,571		32,571
MBS		173,895		173,895		594,294		594,294
U.S. Treasury bonds		—		—		550,000		550,000
Trading securities		—		—		9,629		9,629
Equity, long-term and other investments		90,060		90,060		54,976		54,976
Derivative assets		—		—		264		264

Financial liabilities:
Repurchase agreements		100,000		100,000		1,063,040		1,063,040
Long-term debt		16,816		16,816		254,357		254,357
Derivative liabilities		—		—		56		56

Fair Value Hierarchy

The following tables set forth by level within the fair value hierarchy financial instruments accounted for under amended accounting principles related to fair value measurements as of September 30, 2009 and December 31, 2008. As required by this amendment, assets and liabilities that are measured at fair value are classified in their entirety based on the lowest level of input that is significant to the fair value measurement.

Items Measured at Fair Value on a Recurring Basis


	September 30, 2009
	Total		Level 1		Level 2		Level 3
Mortgage-backed securities, at fair value:
Agency	$	118,149	$	—	$	118,149	$	—
Other private label		55,746		—		—		55,746

Total		173,895		—		118,149		55,746
Equity investments, at fair value:
FBR Capital Markets		87,497		87,497		—		—

Total	$	261,392	$	87,497	$	118,149	$	55,746

The total financial assets measured and reported at fair value on a recurring basis and classified within Level 3 were $55,746, or 19.68% of the Company’s total assets as of September 30, 2009.


	December 31, 2008
	Total			Level 1			Level 2			Level 3
Mortgage-backed securities, at fair value:
Agency	$	528,408		$	—		$	528,408		$	—
Other private label		65,886			—			—			65,886

Total		594,294			—			528,408			65,886
U.S. Treasury bonds, at fair value:		550,000			550,000			—			—

Long-term investments, at fair value:
Marketable equity securities		1,043			1,043			—			—

Trading securities and trading account securities sold, but not yet purchased, at fair value:
Marketable and non-public equity securities		3,919			976			—			2,943
Convertible and fixed income debt securities		14,035			—			13,771			264
Marketable equity securities sold short but not yet purchased		(8,325	)		(8,325	)		—			—

Total		9,629			(7,349	)		13,771			3,207
Derivative instruments, at fair value:
Assets		264			—			264			—
Liabilities		(56	)		—			(56	)		—

Net		208			—			208			—

Total	$	1,155,174		$	543,694		$	542,387		$	69,093

The total financial assets measured and reported at fair value on a recurring basis and classified within Level 3 were $69,093, or 4.43% of the Company’s total assets as of December 31, 2008.

Level 3 Financial Assets and Liabilities

Items Measured at Fair Value on a Recurring Basis

The tables below set forth a summary of changes in the fair value and gains and losses of the Company’s Level 3 financial assets and liabilities that are measured at fair value on a recurring basis, for the three and nine months ended September 30, 2009 and 2008.


	Three Months Ended September 30, 2009
	MBS		Long-Term Investments		Other		Total
Beginning balance, July 1, 2009	$	29,944	$	—	$	—	$	29,944
Total net gains (losses) (realized/unrealized)
Included in earnings		3,151		—		—		3,151
Included in other comprehensive income		685		—		—		685
Net transfers in		—		—		—		—
Net purchases, issuances, settlements, principal payoffs, and amortization/accretion of premium/discount		21,966		—		—		21,966

Ending balance, September 30, 2009	$	55,746	$	—	$	—	$	55,746

The amount of net gains (losses) for the period included in earnings attributable to the change in unrealized gains (losses) relating to Level 3 assets still held at the reporting date	$	244	$	—	$	—	$	244


	Three Months Ended September 30, 2008
	MBS			Long-Term Investments			Other			Total
Beginning balance, July 1, 2008	$	4,634		$	7,831		$	16,462		$	28,927
Total net losses (realized/unrealized)
Included in earnings		(1,233	)		(549	)		(776	)		(2,558	)
Included in other comprehensive income		—			—			—			—
Net transfers in		204,477			—			—			204,477
Net purchases, issuances, settlements, principal payoffs, and amortization/accretion of premium/discount		—			(590	)		(468	)		(1,058	)

Ending balance, September 30, 2008	$	207,878		$	6,692		$	15,218		$	229,788

The amount of net gains (losses) for the period included in earnings attributable to the change in unrealized gains (losses) relating to assets still held at the reporting date	$	(10,119	)	$	(2	)	$	(562	)	$	(10,683	)


	Nine Months Ended September 30, 2009
	MBS			Long-Term Investments			Other			Total
Beginning balance, January 1, 2009	$	65,886		$	—		$	3,207		$	69,093
Total net gains (losses) (realized/unrealized)
Included in earnings		4,981			—			(117	)		4,864
Included in other comprehensive income		727			—			—			727
Net transfers in		—			—			—			—
Net purchases, issuances, settlements, principal payoffs, and amortization/accretion or premium/discount		(15,848	)		—			(192	)		(16,040	)
Deconsolidation of FBR Capital Markets		—			—			(2,898	)		(2,898	)

Ending balance, September 30, 2009	$	55,746		$	—		$	—		$	55,746

The amount of net gains (losses) for the period included in earnings attributable to the change in unrealized gains (losses) relating to Level 3 assets still held at the reporting date	$	561		$	—		$	—		$	561


	Nine Months Ended September 30, 2008
	MBS			Long-Term Investments			Other			Total
Beginning balance, January 1, 2008	$	10,638		$	19,049		$	18,567		$	48,254
Total net losses (realized/unrealized)
Included in earnings		(7,002	)		(10,006	)		(2,893	)		(19,901	)
Included in other comprehensive income		—			—			—			—
Net transfers in		204,477			—			—			204,477
Net purchases, issuances, settlements, principal payoffs, and amortization/accretion of premium/discount		(235	)		(2,351	)		(456	)		(3,042	)

Ending balance, September 30, 2008	$	207,878		$	6,692		$	15,218		$	229,788

The amount of net gains (losses) for the period included in earnings attributable to the change in unrealized gains (losses) relating to assets still held at the reporting date	$	(87,436	)	$	(8,660	)	$	(2,426	)	$	(98,522	)

Gains and losses included in earnings for the three and nine months ended September 30, 2009 and 2008 are reported in the following income statement line descriptions as follows:


	Principal investment-Net investment income (loss)					Capital markets					Principal investment-Net investment income (loss)					Capital markets
	Three Months Ended September 30,										Nine Months Ended September 30,
	2009		2008			2009		2008			2009		2008			2009			2008
Total gains (losses) included in earnings for the period	$	3,151	$	(1,233	)	$	—	$	(1,325	)	$	4,981	$	(15,642	)	$	(117	)	$	(4,259	)

Change in unrealized gains relating to assets still held at reporting date	$	244	$	(10,119	)	$	—	$	(564	)	$	561	$	(96,075	)	$	—		$	(2,447	)

Items Measured at Fair Value on a Non-Recurring Basis

In addition, the Company also measures certain financial assets at fair value on a non-recurring basis. Adjustments to the fair value of these assets usually result from the application of lower-of-cost-or-market accounting or write-downs of individual assets. Due to the nature of these financial assets, enterprise values are primarily used to value these financial assets. In determining the enterprise value, the Company analyzes various financial, performance and market factors to estimate fair value, including where applicable, market trading activity. As a result, these financial assets are classified within Level 3 of the fair value hierarchy.

For the three months ended September 30, 2009 and 2008, the Company recognized the following change in carrying value of those assets measured at fair value on a non-recurring basis:


	Fair Value Measurements at September 30, 2009								Three months ended September 30, 2009
	Total		Level 1		Level 2		Level 3		Gains (Losses)
Non-public equity securities	$	452	$	—	$	—	$	452	$ (86)


		Fair Value Measurements at September 30, 2008							Three months ended September 30, 2008
	Total		Level 1		Level 2		Level 3		Gains (Losses)
Non-public equity securities	$	23,283	$	—	$	—	$	23,283	$(14,205)

For the nine months ended September 30, 2009 and 2008, the Company recognized the following change in carrying value of those assets measured at fair value on a non-recurring basis:


	Fair Value Measurements at September 30, 2009								Nine months ended September 30, 2009
	Total		Level 1		Level 2		Level 3		Gains (Losses)
Non-public equity securities	$	452	$	—	$	—	$	452	$ (1,086)


		Fair Value Measurements at September 30, 2008							Nine months ended September 30, 2008
	Total		Level 1		Level 2		Level 3		Gains (Losses)
Non-public equity securities	$	28,533	$	—	$	—	$	28,533	$(20,919)

Mortgage-Backed Securities, at Fair Value

Mortgage-backed securities, at fair value ^{(1) (2)} , consisted of the following as of the dates indicated:


	September 30, 2009									December 31, 2008
	Balance		Net Unamortized Premium (Discount)			Percent		WAL	Weighted Average Rating	Balance		Net Unamortized Premium (Discount)		Percent		WAL	Weighted Average Rating
Fannie Mae	$	117,738	$	3,765		67.70	%	3.94	AAA	$	528,408	$	—	88.90	%	2.24	AAA
Freddie Mac		411		—		0.20	%	0.08	AAA		—		—	—		—	—
Private-label		55,746		(70,100	)	32.10	%	4.63	CCC		65,886		—	11.10	%	4.34	BB

	$	173,895	$	(66,335	)	100.00	%			$	594,294	$	—	100.00	%

⁽¹⁾	The Company’s MBS portfolio is primarily comprised of agency MBS. The weighted-average coupon of the MBS portfolio at September 30, 2009 and December 31, 2008 was 5.34% and 2.44%, respectively.

⁽²⁾	As of September 30, 2009 and December 31, 2008, $106,501 and $568,493, respectively, each representing fair value of the Company’s MBS investments were pledged as collateral for repurchase agreements.

Equity investments, at Fair Value

Equity investments, at fair value, consisted of the following as of the dates indicated:

⁽¹⁾	The fair value is based on the closing price of $5.93 at September 30, 2009.

Long-Term and Other Investments

The Company’s long-term and other investments consist of marketable equity investments, which are valued at fair value on a recurring basis and other long-term investments, which are fair valued on a non-recurring basis. The Company’s long-term and other investments consisted of the following as of the dates indicated:


	September 30, 2009		December 31, 2008
Long-term marketable equity investments	$	—	$	1,043
Non-public equity securities		1,479		38,203
Preferred equity investment		—		1,000
Investments funds		1,084		14,730

	$	2,563	$	54,976

The Company’s available-for-sale securities consist primarily of MBS and equity investments in publicly traded companies. In accordance with amended accounting principles related to accounting for certain investments in debt and equity securities, the securities are carried at fair value with resulting unrealized gains and losses reflected as other comprehensive income or loss. Gross unrealized gains and losses on these securities were the following as of the dates indicated:


	September 30, 2009
	Amortized Cost/ Cost Basis		Unrealized					Fair Value
	Amortized Cost/ Cost Basis		Gains		Losses			Fair Value
Mortgage-backed securities ⁽¹⁾	$	173,606	$	849	$	(560	)	$	173,895

⁽¹⁾	The amortized cost of MBS includes unamortized net discounts of $66,335 at September 30, 2009.


	December 31, 2008
	Amortized Cost/ Cost Basis		Unrealized					Fair Value
	Amortized Cost/ Cost Basis		Gains		Losses			Fair Value
Mortgage-backed securities ⁽¹⁾	$	594,286	$	8	$	—		$	594,294
Marketable equity securities		1,260		—		(217	)		1,043

	$	595,546	$	8	$	(217	)	$	595,337

⁽¹⁾	The amortized cost of MBS includes no unamortized premiums/discounts at December 31, 2008.

The following table provides further information regarding the duration of unrealized losses as of September 30, 2009:


	Continuous Unrealized Loss Position for
	Less Than 12 Months							12 Months or More
	Amortized Cost		Unrealized Losses			Fair Value		Amortized Cost		Unrealized Losses		Fair Value
Mortgage-backed securities	$	127,005	$	(560	)	$	126,445	$	—	$	—	$	—

The Company recorded no other-than-temporary impairments on MBS investments during the three and nine months ended September 30, 2009. For the three and nine months ended September 30, 2008, the Company recorded other-than-temporary impairment losses of $110,433 and $116,617, respectively, related to continued deterioration in credit quality on certain MBS investments with an original cost basis of $2,194,066 and $2,199,983, respectively.

For the three and nine months ended September 30, 2009, the Company recorded no other-than-temporary impairment losses on marketable equity securities. There are no marketable equity securities in unrealized loss positions as of September 30, 2009. For the three and nine months ended September 30, 2008, the Company recorded other-than-temporary impairment losses of $2,072 on marketable equity securities with an original cost basis of $4,863. During the nine months ended September 30, 2008, the Company also recognized other-than-temporary impairment losses of $8,640 in a residual interest in a securitization of non-prime mortgage loans. No such losses were recognized for the three months ended September 30, 2008.

For investments carried at cost, at each reporting date, the Company evaluates its portfolio of such investments for impairment, including consideration of the severity and duration of factors affecting the fair value of these investments. During the three months ended September 30, 2009 and 2008, the Company recorded other-than-temporary impairment losses of $86 and $14,205, respectively, in the consolidated statements of operations, reflecting the Company’s evaluation of the estimated fair value of private equity investments with a remaining cost basis of $452 and $23,283, respectively. During the nine months ended September 30, 2009 and 2008, the Company recorded other-than-temporary impairment losses of $1,086 and $20,918, respectively, in the consolidated statements of operations, reflecting the Company’s evaluation of the estimated fair value of private equity investments with a remaining cost basis of $452 and $28,533, respectively.

During the three months ended September 30, 2009, the Company received $232,065 from sales of MBS, resulting in gross gains and losses of $2,907 and $1,471, respectively, and received $407 from sales of marketable equity securities, resulting in gross gains of $114 and no losses. During the three months ended September 30, 2008, the Company received $703,697 from sales of MBS, resulting in no gains and gross losses of $24,474, respectively. There were no sales of the Company’s marketable equity securities during the three months ended September 30, 2008.

During the nine months ended September 30, 2009, the Company received $806,408 from sales of MBS, resulting in gross gains and losses of $4,253 and $3,055, respectively, and received $1,138 from sales of marketable equity securities, resulting in gross gains of $170 and no losses, respectively. During the nine months

ended September 30, 2008, the Company received $1,107,155 from sales of MBS, resulting in gross gains and losses of $357 and $24,557, respectively, and received $19,065 from sales of marketable equity securities, resulting in gross gains of $1,483 and no losses, respectively.

3. Borrowings:

Repurchase Agreements

The following table provides information regarding the Company’s outstanding repurchase agreement borrowings as of the dates indicated:


	September 30, 2009			December 31, 2008
Outstanding balance	$	100,000		$	1,063,040
Value of assets pledged as collateral:
Agency mortgage-backed securities		106,501			528,111
Non-agency mortgage-backed securities		—			40,381
U.S. Treasury bonds		—			550,000
Weighted-average rate		0.33	%		0.44	%
Weighted-average term to maturity		14.0 days			14.3 days

	September 30, 2009			September 30, 2008
Weighted-average outstanding balance during the three months ended	$	100,575		$	2,993,800
Weighted-average rate during the three months ended		0.44	%		2.53	%
Weighted-average outstanding balance during the nine months ended	$	78,863		$	2,367,642
Weighted-average rate during the nine months ended		0.69	%		2.87	%

As of September 30, 2009, the Company had no amount at risk greater than 10% of equity. As of December 31, 2008, the amount at risk related to $334,908 of repurchase agreements with Barclays Capital Inc. was $28,069, or 19.59% of the Company’s equity with a weighted average maturity of 26 days.

Long-term Debt

As of September 30, 2009 and December 31, 2008, the Company had $15,000 and $251,689, respectively, of outstanding long-term debt (Trust Preferred securities) issued by FBR TRS Holdings. The Trust Preferred securities accrue and require payments of interest quarterly at an annual rate of three-month London Interbank Offer Rate (LIBOR) plus 2.25% to 3.00%. The weighted average interest rate on these long-term debentures was 3.26% and 5.65% as of September 30, 2009 and December 31, 2008, respectively. These borrowings mature between 2033 and 2035, and are redeemable, in whole or in part, without penalty, currently or in 2010. During the three and nine months ended September 30, 2009, the Company did not issue additional long-term debentures.

During the three and nine months ended September 30, 2009, the Company extinguished $35,000 and $236,689 of Trust Preferred securities, respectively, at a gain of $27,982 and $160,435, respectively. During the three and nine months ended September 30, 2008, the Company extinguished $6,750 of Trust Preferred securities at a gain of $4,078.

4. Income Taxes:

Prior to January 1, 2009, FBR Group was organized and operated in a manner that allowed it to qualify as a real estate investment trust (REIT) for tax purposes. As a REIT, FBR Group was not subjected to federal income tax on earnings distributed to its shareholders. The Company filed a notification with the Internal Revenue Service to revoke its REIT status as of January 1, 2009. As a result, income generated at the parent company

level, along with all of its consolidated subsidiaries, will be subject to federal, state and local income taxes for 2009 and future tax years at regular corporate tax rates, to the extent that it is not offset by net operating loss carry-forwards (NOLs) and net capital loss carry-forwards (NCLs).

The total income tax provision recorded for the three and nine months ended September 30, 2009 was $3,585 and $12,830, respectively. The total income tax benefit recorded for the three and nine months ended September 30, 2008 was $18,123 and $28,903, respectively. The Company generated pre-tax book income (loss) of $46,022 and ($44,207) in the three months ended September 30, 2009 and 2008, respectively. In the nine months ending September 30, 2009 and 2008, the Company generated pre-tax book income (loss) of $113,215 and ($22,751), respectively. The 2008 balances include only the former taxable REIT subsidiaries, including FBR TRS Holdings and FBR Capital Markets.

The Company’s effective tax rate for the nine months ended September 30, 2009 and 2008 was 11.4% and 127.0%, respectively. The effective tax rate for the nine months ended September 30, 2008 represents tax only on the former taxable REIT subsidiaries. The effective tax rate during these periods differed from statutory tax rates primarily due to the full valuation allowance on the tax benefit of the book losses incurred in the current period, recognition of a liability for unrecognized tax benefits, and the expected tax liability related to domestic operations due to projected taxable income for 2009 that will be subject to alternative minimum tax. The effective tax rate for the nine months ended September 30, 2008 differed from statutory tax rates due to the effects of amended accounting principles related to share-based payment, as restricted stock awards vested at share prices lower than original grant date prices. The Company expects to realize a portion of the tax benefits of the federal and state net NOLs in 2009, which are reflected in the Company’s projected effective tax rate for the year. The Company will continue to provide a valuation allowance against the other deferred tax assets since the Company believes that it is more likely than not that the benefits will not be realized in the future. The Company will continue to assess the need for a valuation allowance at each reporting date.

The Company adopted amended accounting principles related to accounting for uncertainty in income taxes effective January 1, 2007. The total unrecognized tax benefit as of January 1, 2007, that, if recognized, would affect the Company’s effective tax rate was immaterial. The Company estimates that, as of September 30, 2009, the range within which unrecognized tax benefits related to the recognition of income between members of the consolidated group is $-0- to approximately $14,500, of which the Company has reserved $11,306. The Company continues to record interest and penalties in other operating expenses in the statements of operations. The total amount of accrued interest refund and penalties as of the date of adoption was immaterial.

5. Earnings Per Share:

Basic earnings per share includes no dilution and is computed by dividing net income or loss available to common shareholders by the weighted-average number of common shares outstanding for the period. Diluted earnings per share include the impact of dilutive securities such as stock options and unvested shares of restricted stock. The following table presents the computations of basic and diluted earnings per share, adjusted for the 1-for-20 reverse stock split effective October 6, 2009, for the periods indicated:


	Three Months Ended September 30,
	2009				2008
	Basic		Diluted		Basic			Diluted
Weighted average shares outstanding (in thousands):
Common stock		7,705		7,705		7,565			7,565
Stock options and unvested restricted stock		—		190		—			—

Weighted average common and common equivalent shares outstanding		7,705		7,895		7,565			7,565

Net income (loss) applicable to common stock	$	42,437	$	42,437	$	(169,022	)	$	(169,022	)

Earnings (loss) per common share	$	5.51	$	5.38	$	(22.34	)	$	(22.34	)


	Nine Months Ended September 30,
	2009				2008
	Basic		Diluted		Basic			Diluted
Weighted average shares outstanding (in thousands):
Common stock		7,673		7,673		7,557			7,557
Stock options and unvested restricted stock		—		157		—			—

Adjusted weighted average common and common equivalent shares outstanding		7,673		7,830		7,557			7,557

Net income (loss) applicable to common stock	$	111,844	$	111,844	$	(148,971	)	$	(148,971	)

Earnings (loss) per common share	$	14.58	$	14.28	$	(19.71	)	$	(19.71	)

As of September 30, 2009 and 2008, there were 10,312 and 35,812, as adjusted for 1-for-20 reverse stock split, of options to purchase shares of common stock outstanding, respectively. See Note 8 for additional information regarding outstanding restricted stock and Note 11 for additional information regarding the reverse stock split.

6.	Investment in FBR Capital Markets:

As discussed above, the Company historically consolidated the results of operations of its former subsidiary, FBR Capital Markets, because the Company’s wholly-owned subsidiary, FBR TRS Holdings, owned approximately 56% of the outstanding shares of FBR Capital Markets’ common stock. The Company liquidated 16,667,000 and 1,500,000 shares of FBR Capital Markets common stock on May 20, and June 19, 2009, respectively, resulting in remaining holdings representing an approximately 39% and 24% interest in FBR Capital Markets, respectively. As a result, effective May 20, 2009, the Company no longer had majority control of FBR Capital Markets and therefore, deconsolidated the results of FBR Capital Markets’ activities in preparing the Company’s consolidated financial statements.

With the sale of FBR Capital Markets stock on May 20, 2009 and resulting deconsolidation, the Company elected to adopt the provisions of amended accounting principles related to the fair value option for financial assets and financial liabilities to apply fair value accounting for the remaining shares of its FBR Capital Markets stock. In accordance with this amendment, the Company records unrealized gains and losses resulting from the change in the fair value of FBR Capital Markets stock in earnings, as a component of investment income or loss, in the respective reporting period. The provisions of this amendment require a disclosure of summarized financial information of FBR Capital Markets in the Company’s consolidated financial statements. The table below presents summarized financial information of FBR Capital Markets for the periods indicated:


	Three Months Ended September 30,						Nine Months Ended September 30,
	2009			2008			2009			2008
FBR Capital Markets’ statement of operations data:
Total revenues	$	71,440		$	50,694		$	168,671		$	207,766
Revenues, net of interest expense		71,440			45,555			168,419			200,089
Loss before income taxes		(6,958	)		(46,682	)		(44,156	)		(92,886	)
Net loss		(6,970	)		(28,560	)		(44,881	)		(63,983	)

On July 15, 2009, the Company liquidated an additional 411,032 shares of FBR Capital Markets stock at a price of $4.42 per share in connection with the over-allotment option that was granted to the underwriters under the underwriting agreement entered into on June 15, 2009. On October 20, 2009, the Company also entered into an underwriting agreement to sell the remaining interest in FBR Capital Markets. See Note 11, Subsequent Events, for additional information regarding subsequent sales of FBR Capital Markets stock.

On January 1, 2009, the Company adopted amended accounting principles related to noncontrolling interests in consolidated financial statements. This amendment clarifies that a noncontrolling interest in a subsidiary is an ownership interest in the consolidated entity that should be reported as equity in the consolidated financial statements. Noncontrolling interest (formerly reported as minority interest) represents shares of common stock of FBR Capital Markets held by third-party investors. Accordingly, the Company reclassified its noncontrolling interest in its former subsidiary, FBR Capital Markets, as a component of equity in the consolidated financial statements for the applicable periods.

7.	Commitments and Contingencies:

Litigation

Except as described below, as of September 30, 2009, the Company was not a defendant or a plaintiff in any lawsuits or arbitrations or involved in any governmental or self-regulatory organization (SRO) matters that are expected to have a material adverse effect on the Company’s financial condition, results of operations or liquidity. The Company is a defendant in a small number of civil lawsuits and arbitrations (together, litigation) relating to its businesses. There can be no assurance that these matters individually or in aggregate will not have a material adverse effect on the Company’s financial condition or results of operations in a future period. However, based on management’s review with counsel, resolution of these matters is not expected to have a material adverse effect on the Company’s financial condition, results of operations or liquidity.

Shareholders’ Derivative Actions

On September 16, 2008, a shareholder derivative action captioned Kornfeld, et al. v. Billings, et al. , No. 08-1144, was filed in the Circuit Court of Arlington County, Virginia, by Bill Kornfeld and Edward Lapinski. The Company was named as a nominal defendant along with certain current and former officers and directors as individual defendants. The complaint asserts claims under Virginia law against the individual defendants for breach of fiduciary duty and against certain of the individual defendants for unjust enrichment in connection with certain decisions concerning executive compensation. The Company’s Board of Directors established a special committee to conduct a review and evaluation of the plaintiffs’ allegations and make a final decision concerning whether maintenance of the litigation was in the Company’s best interests. The special committee concluded that the litigation was not in the Company’s best interest. On December 8, 2008, the Company moved to dismiss the shareholder derivative action based on the special committee’s recommendation and the individual defendants filed demurrers. On March 5, 2009, the court denied the individual defendants’ demurrers, granted the plaintiffs’ motion for certain discovery and denied the Company’s motion to dismiss with leave to renew the motion following discovery. On July 24, 2009, the plaintiffs filed an amended complaint. The amended complaint contains allegations similar to those in the original complaint and adds a cause of action against certain of the individual defendants for waste. On August 14, 2009, the Company filed an answer to the amended complaint and the individual defendants filed a demurrer to the amended complaint. The likely outcome of this action or its likely impact on the Company’s results of operations at this time cannot be predicted.

On July 20, 2009, counsel to Bill Kornfeld and Edward Lapinski, two purported shareholders of the Company sent a letter to the Company, demanding that the Board of Directors remedy alleged breaches of fiduciary duty by the directors in connection with the sale of a portion of the Company’s FBR Capital Markets stock to FBR Capital Markets on May 20, 2009. The letter alleges that this sale was completed pursuant to an inappropriate process and resulted in an inadequate price. The letter states that the shareholders will file a lawsuit bringing derivative claims if the Company’s Board does not take the demanded action within a reasonable period of time. The Board of Directors has established a special committee of independent directors to investigate the claims made in the demand letter.

Other Litigation

On April 7, 2009, the United States Bankruptcy Court for the Southern District of Florida, West Palm Beach Division (Bankruptcy Court) entered a final order (Final Order) approving the Company’s completed settlement agreement with the Trustee of the First NLC bankruptcy estate. The settlement agreement with the Trustee releases all claims that the Trustee or the bankruptcy estate of First NLC may have against the Company and its officers, directors, employees and affiliates in exchange for the payment by the Company of approximately $4,000, which the Company accrued for as of December 31, 2008. Under the settlement agreement, the Company and each of the officers, directors, employees and affiliates released all claims against the Trustee and the First NLC bankruptcy estate. The Company remitted the settlement payment on April 20, 2009 following the Final Order.

8.	Equity:

Dividends

There were no dividends declared for the three and nine month period ended September 30, 2009. Pursuant to the Company’s variable dividend policy, the Board of Directors, in its sole discretion, may reinstate the payment of cash dividends when appropriate in the future. No dividends were declared or paid during 2008.

Stock Compensation Plans

Restricted Stock

From time to time, the Company grants shares of the its restricted Class A common stock to employees under the Company’s Long-Term Incentive Plan that vest ratably over a three-year period or cliff-vest after two to three years for various purposes based on continued employment over these specified periods. During the three and nine months ended September 30, 2009, the Company did not grant any shares of such restricted Class A common stock. During the three and nine months ended September 30, 2008 the Company granted 122 and 387,816 shares, adjusted for 1-for-20 reverse stock split effective October 6, 2009, respectively, of such restricted Class A common stock at weighted average share price of $35.60 and $58.20, adjusted for 1-for-20 reverse stock split effective October 6, 2009, per share, respectively.

As of September 30, 2009 and December 31, 2008, a total of 264,501 and 411,819 shares, adjusted for 1-for-20 reverse stock split effective October 6, 2009, respectively, of such restricted Class A common stock were outstanding with total unrecognized compensation cost related to unvested shares of $5,192 and $11,382, respectively. The total unrecognized cost is expected to be recognized over a weighted average period of 1.4 years.

For the three months ended September 30, 2009 and 2008, the Company recognized $1,516 and $3,870 of compensation expense related to its restricted stock, respectively. For the nine months ended September 30, 2009 and 2008, the Company recognized $5,848 and $9,511 of compensation expense related to its restricted stock, respectively.

Share Repurchases

In April 2003, the Company’s Board of Directors authorized a share repurchase program in which the Company may repurchase up to 700,000 shares of the Company’s Class A common stock from time to time. In 2007, the Company’s Board of Directors authorized an additional share repurchase program in which the Company may repurchase up to 5,000,000 shares of the Company’s Class A common stock. During the three and nine months ended September 30, 2009, the Company had no share repurchases and had the authority to repurchase 3,811,863 shares.

Shareholder Rights Plan

On June 1, 2009, the Company’s Board of Directors adopted a shareholder rights plan (Rights Plan) and declared a dividend of one preferred share purchase right (each, a Right) for each outstanding share of the Company’s Class A common stock and Class B common stock. No shareholder approval was required for adoption of the Rights Plan, however, the Company plans to submit the Rights Plan to its shareholders for approval on or before June 4, 2010.

The Board adopted the Rights Plan in an effort to protect against a possible limitation on the Company’s ability to use its NOLs, NCLs and built-in losses under Sections 382 and 383 of the Internal Revenue Code of 1986, as amended (the Code). The Company’s ability to use its NOLs, NCLs and built-in losses would be limited if there was an “ownership change” under Section 382 of the Code. The Rights Plan was adopted to dissuade any person or group from acquiring 4.9% or more of the Company’s outstanding Class A common stock (each, an Acquiring Person) without the approval of the Board and triggering an “ownership change” as defined by Section 382.

Initially, the Rights will generally not be exercisable and will be attached to and automatically trade with the Class A common stock and Class B common stock. The Rights will separate from the Class A common stock and Class B common stock and a “distribution date” will occur, with certain exceptions and upon a determination of the Company’s Board of Directors, upon the earlier of (i) 10 business days after a public announcement by the Company that a person or group has become an Acquiring Person and (ii) 10 business days after the commencement of a tender or exchange offer by a person or group for 4.9% or more of the Class A common stock. Shareholders who owned 4.9% or more of the Company’s outstanding Class A common stock at the time of adoption of the Rights Plan will not trigger the Rights Plan so long as they do not (i) acquire any additional shares of Class A common stock or (ii) fall under 4.9% ownership of Class A common stock and then re-acquire additional shares so that they own 4.9% or more of the Class A common stock.

Subject to the terms, provisions and conditions of the Rights Plan, and taking into account our 1-for-20 reverse stock split that was effected on October 6, 2009 (see Note 11, Subsequent Events), if the Rights become exercisable, each Right would represent the right to purchase from the Company one ten-thousandth of a share of Series A Junior Preferred Stock for a purchase price of $3.00 each, subject to adjustment in accordance with the terms of the Rights Plan. Each post-split share of Class A and Class B common stock is now associated with, and now trades with, 20 Rights. If issued, each 20 fractional shares of preferred stock would give the shareholder approximately the same dividend, voting and liquidation rights as does one share of the Company’s Class A common stock. However, prior to exercise, a Right does not give its holder any rights as a shareholder of the Company, including without limitation any dividend, voting or liquidation rights.

The Rights and the Rights Plan will expire on the earliest of (i) June 4, 2019, (ii) the time at which the Rights are redeemed pursuant to the Rights Plan, (iii) the time at which the Rights are exchanged pursuant to the Rights Plan, (iv) the repeal of Sections 382 and 383 of the Code or any successor statute if the Board determines that the Rights Plan is no longer necessary for the preservation of the applicable tax benefits, (v) the beginning of a taxable year of the Company to which the Board determines that no applicable tax benefits may be carried forward and (vi) the close of business on June 4, 2010 if approval of the Rights Plan by the Company’s shareholders has not been obtained.

9.	Segment Information:

subsidiaries, and included the asset management and principal investing operations by FBR Capital Markets, which were previously reported separately. Accordingly, as of January 1, 2009, the Company had reflected the change in segment reporting in accordance with the criteria for segment reporting as set forth in amended accounting principle related to disclosures about segments of an enterprise and related information. As a result of the Company’s sale of its majority ownership interest in and resulting deconsolidation of FBR Capital Markets on May 20, 2009, the capital markets segment is no longer a reportable segment subsequent to May 20, 2009.

The Company has developed systems and methodologies to allocate overhead costs to its business units and, accordingly, presents segment information consistent with internal management reporting. Revenue generating transactions between the individual segments have been included in the net revenue and pre-tax income of each segment. The following table illustrates the financial information for the Company’s segments for the periods indicated. The column labeled “Other” includes financial information for the Company’s historical mortgage banking segment, which the Company no longer separately reports.


	Principal Investing			Capital Markets			Other			Consolidated Totals
Three months ended September 30, 2009
Net revenues	$	23,146		$	—		$	—		$	23,146
Operating income		18,160			—			—			18,160
Three months ended September 30, 2008
Net revenues		(149,978	)		45,555			690			(103,733	)
Operating loss		(157,728	)		(46,682	)		(695	)		(205,105	)
Nine months ended September 30, 2009
Net revenues ⁽¹⁾		20,057			80,824			—			100,881
Operating loss ⁽¹⁾		(11,598	)		(25,583	)		—			(37,181	)
Nine months ended September 30, 2008
Net revenues		(164,505	)		200,089			2,435			38,019
Operating loss		(189,150	)		(92,886	)		(3,810	)		(285,846	)

⁽¹⁾	Net revenues and operating loss for the capital markets segment reflects the results of FBR Capital Markets’ activities prior to the deconsolidation on May 20, 2009.

10.

Recent Accounting Pronouncements:

In June 2009, the FASB issued amended accounting principles related to accounting for transfers of financial assets. This amendment improves financial reporting by eliminating the exceptions for qualified special-purpose entities from the consolidation guidance and the exception that permitted sale accounting for certain mortgage securitizations when a transferor has not surrendered control over the transferred financial assets. In addition, comparability and consistency in accounting for transferred financial assets will be improved through clarifications of the requirements for isolation and limitations on portions of financial assets that are eligible for sale accounting. This guidance is effective January 1, 2010 for the Company. Earlier application is prohibited and it must be applied to transfers occurring on or after the effective date. The Company is evaluating the impact of adoption of the amendment on its consolidated financial statements.

In June 2009, the FASB issued amended accounting principles related to the consolidation of variable-interest entities. This amendment replaces the quantitative-based risks and rewards calculation for determining which enterprise, if any, has a controlling financial interest in a variable interest entity with an approach focused on identifying which enterprise has the power to direct the activities of a variable interest entity that most significantly impact the entity’s economic performance and the obligation to absorb losses of the entity or the right to receive benefits from the entity. An approach that is expected to be primarily qualitative will be more effective for identifying which enterprise has a controlling financial interest in a variable interest entity. The amendment is effective as of January 1, 2010 for the Company. The Company is evaluating the impact of adoption of the amendment on its consolidated financial statements.

In June 2009, the FASB has issued guidance related to the FASB Accounting Standards Codification and the hierarchy of generally accepted accounting principles. This guidance establishes the FASB Accounting Standards Codification™ (Codification or ASC) as the single source of authoritative U.S. generally accepted accounting principles (GAAP) recognized by the FASB to be applied by nongovernmental entities. Rules and interpretive releases of the Securities and Exchange Commission (SEC) under authority of federal securities laws are also sources of authoritative GAAP for SEC registrants. The Codification supersedes all existing non-SEC accounting and reporting standards. All other non-grandfathered, non-SEC accounting literature not included in the Codification will become non-authoritative.

Following the Codification, the Board will not issue new standards in the form of Statements, FASB Staff Positions or Emerging Issues Task Force Abstracts. Instead, it will issue Accounting Standards Updates, which will serve to update the Codification, provide background information about the guidance and provide the basis for conclusions on the changes to the Codification.

GAAP is not intended to be changed as a result of the FASB’s Codification project, but it will change the way the guidance is organized and presented. As a result, these changes will have a significant impact on how companies reference GAAP in their financial statements and in their accounting policies for financial statements issued for interim and annual periods ending after September 15, 2009. The Company implemented the Codification in this quarterly report.

11.

Subsequent Events:

The Company evaluated subsequent events through November 9, 2009, the date the financial statements were issued.

On October 1, 2009, the Company announced a 1-for-20 reverse split of its Class A and Class B common stock in accordance with the previously approved shareholder authorization. The reverse stock split was effective October 6, 2009. Upon the effectiveness of the reverse stock split, each twenty shares of issued and outstanding common stock were converted into one share of common stock. The Company did not issue fractional shares and shareholders received a cash payment for fractional shares based on the split-adjusted average price of the Class A common stock before the effective time. The reverse split reduced the number of shares of the Company’s common stock outstanding from approximately 160 million to approximately 8 million. Proportional adjustments were made to outstanding stock options and other equity incentive awards and equity compensation plans. The number of authorized shares of common stock did not change.

On October 28, 2009, the Company announced the closing on the sale of 14,755,017 shares of FBR Capital Markets common stock at $6.00 per share in an underwritten public offering. Proceeds to the Company, after the underwriting discount but before expenses, were $84,104. The net price per share after the underwriting discount to the Company of $5.70, is less than the carrying value of the FBR Capital Markets stock of $5.93 at September 30, 2009, and will result in the Company recording a pre-tax book loss of $3,394 during the quarter ending December 31, 2009. These shares represented the Company’s remaining interest in FBR Capital Markets.

Item 2.

Management’s Discussion and Analysis of Financial Condition and Results of Operations

The following analysis of the unaudited condensed consolidated financial condition and results of operations of Arlington Asset Investment Corp. (Arlington Asset), formerly known as Friedman Billings Ramsey Group, Inc. (FBR Group) and its subsidiaries, including FBR Capital Markets Corporation (FBR Capital Markets) (unless the context otherwise provides, collectively, “we”, “us”, “our” or the “Company”), should be read in conjunction with (i) the Company’s audited consolidated financial statements and notes thereto included in Annual Report on Form 10-K for the year ended December 31, 2008 and (ii) FBR Capital Markets’ audited consolidated financial statements and notes thereto included in its Annual Report on Form 10-K for the year ended December 31, 2008.

The Company’s unaudited condensed consolidated financial statements include the results of its former subsidiary, FBR Capital Markets through May 20, 2009. Prior to May 20, 2009, the Company’s wholly-owned subsidiary, FBR TRS Holdings, Inc. (FBR TRS Holdings), owned approximately 56% of the outstanding shares of FBR Capital Markets. The Company liquidated 16,667,000 and 1,500,000 shares of FBR Capital Markets common stock on May 20 and June 19, 2009, respectively, resulting in remaining holdings representing an approximately 39% and 24% interest in FBR Capital Markets, respectively. The sale of 16,667,000 shares on May 20, 2009 was to FBR Capital Markets. As a result, effective May 20, 2009, the Company no longer had majority control of FBR Capital Markets and therefore, deconsolidated the results of FBR Capital Markets’ activities in preparing the Company’s consolidated financial statements. In addition, on July 15, 2009, the Company liquidated an additional 411,032 shares of FBR Capital Markets stock at a price of $4.42 per share in connection with the over-allotment option that was granted to the underwriters under the underwriting agreement entered into on June 15, 2009.

The discussion of the Company’s consolidated financial condition and results of operations below may contain forward-looking statements. These statements, which reflect management’s beliefs and expectations, are subject to risks and uncertainties that may cause actual results to differ materially. For a discussion of the risks and uncertainties that may affect the Company’s future results, please see “Forward-Looking Statements” immediately following Item 4 of this report on Form 10-Q.

Business Strategy

The sale of FBR Capital Markets stock is in furtherance of the strategic shift the Company has initiated to focus on a principal investing strategy by monetizing our investment in FBR Capital Markets. Given recent dislocations in the capital markets, the Company seeks to benefit from potential high current cash returns available on mortgage investments. The Company plans to deploy the net cash proceeds for investments that offer current income as well as capital appreciation potential, and which may utilize the Company’s net operating loss carry-forwards (NOLs) and net capital loss carry-forwards (NCLs). The Company expects future investments to include non-agency residential mortgage-backed securities (MBS) and residential MBS guaranteed by a U.S. Government agency or U.S. Government-sponsored entity, among others. The Company may also consider opportunities for financial service operating businesses potentially in the form of a bank charter, and will seek to continue strengthening its balance sheet by converting long-term debt to equity through the extinguishment of the remaining $15.0 million Trust Preferred securities at a discount to face value.

Executive Summary

As discussed above, we liquidated an additional 411,032 shares of FBR Capital Markets stock at a price of $4.42 per share on July 15, 2009 in connection with the over-allotment option that was granted to the underwriters under the underwriting agreement entered into on June 15, 2009. We have continued our efforts to divest our holdings in FBR Capital Markets to further fund the principal investing strategy. Accordingly, on October 28, 2009, the Company announced the closing on the sale of 14,755,017 shares of FBR Capital Markets common stock at $6.00 per share in an underwritten public offering. Proceeds to the Company, after the

underwriting discount but before expenses, were $84.1 million. The net price per share after the underwriting discount to the Company of $5.70, is less than the carrying value of the FBR Capital Markets stock of $5.93 at September 30, 2009, and will result in the Company recording a pre-tax book loss of $3.4 million during the quarter ending December 31, 2009. These shares represented the Company’s remaining interest in FBR Capital Markets.

During the quarter ended September 30, 2009, we recorded $18.1 million in unrealized gains resulting from the change in the fair value of FBR Capital Markets stock as a component of investment income on the income statement.

Our efforts to continue the extinguishment of the remaining Trust Preferred securities resulted in an additional extinguishment of $35.0 million of Trust Preferred securities at a gain of $28.0 million for the three months ended September 30, 2009. As of September 30, 2009, we have $15.0 million in remaining Trust Preferred securities.

The results of the Company’s operations, without the results of FBR Capital Markets’ operations, as compared to the results of consolidated operations as reported, for the three and nine months ended September 30, 2009 are as follows (dollars in thousands):

Pro Forma Results of Operations, Excluding FBR Capital Markets’ Operations


	Three Months Ended September 30, 2009						Nine Months Ended September 30, 2009
	Pro forma			As Reported			Pro forma			As Reported
Revenues:
Capital markets	$	—		$	—		$	—		$	81,075
Principal investment:
Interest		3,719			3,719			7,600			7,600
Net investment income		19,737			19,737			15,754			15,754
Dividends		—			—			108			108

Total revenues		23,456			23,456			23,462			104,537
Interest expense		310			310			3,405			3,656

Revenues, net of interest expense		23,146			23,146			20,057			100,881

Non-Interest Expenses:
Compensation and benefits		2,735			2,735			13,238			73,466
Professional services		878			878			5,997			12,871
Business development		16			16			7,900			13,139
Clearing and brokerage fees		—			—			—			5,950
Occupancy and equipment		94			94			416			13,573
Communications		100			100			247			8,964
Other operating expenses		1,163			1,163			3,857			10,099

Total non-interest expenses		4,986			4,986			31,655			138,062

Operating income (loss)		18,160			18,160			(11,598	)		(37,181	)

Other Income (Loss):
Loss on subsidiary share transactions		(116	)		(116	)		(10,028	)		(10,028	)
Gain on extinguishment of long-term debt		27,982			27,982			160,435			160,435
Other loss		(4	)		(4	)		(11	)		(11	)

Income before income taxes and noncontrolling interest		46,022			46,022			138,798			113,215
Income tax provision		3,585			3,585			12,029			12,830

Net income	$	42,437		$	42,437		$	126,769		$	100,385

With the Company’s sale of its majority ownership interest in and resulting deconsolidation of FBR Capital Markets activities effective May 20, 2009, the Company’s consolidated financial statements for the periods subsequent to May 20, 2009 no longer include the results of operations of FBR Capital Markets.

Beginning in the second quarter and continuing in the third quarter of 2009, we have continued our efforts to re-build our mortgage-backed securities (MBS) portfolio. Our strategy is to be selective in identifying non-agency senior MBSs that could provide attractive loss-adjusted yield on an unlevered basis. As of September 30, 2009, the Company had $55.7 million in unlevered non-agency MBS. We are also continuing to invest in agency MBS on a leveraged basis. As of September 30, 2009, the Company had $118.1 million in its agency MBS portfolio. We will continue to evaluate investment opportunities against the returns available in each of our investment alternatives and endeavor to allocate our assets and capital with an emphasis toward the highest risk-adjusted return available. This strategy may cause us to have different allocations of capital in different environments.

Principal Investing

Mortgage-Backed Securities

The Company recorded net interest income of $3.6 million and $7.7 million from MBS held in its principal investment portfolio for the three months ended September 30, 2009 and 2008, respectively. The Company recorded net interest income of $7.2 million and $22.6 million from MBS held in its principal investment portfolio for the nine months ended September 30, 2009 and 2008, respectively. The decrease in net interest income during the three and nine months ended September 30, 2009 is due mainly to the decrease in the average balance of MBS investments held in our portfolio offset by the increase in the average yield.

Merchant Banking and Other Investments

The total value of our merchant banking portfolio and other investments was $90.1 million as of September 30, 2009. Of this total, $87.5 million represents an investment in FBR Capital Markets, $1.5 million was held in the merchant banking portfolio and $1.1 million was held in alternative asset funds. There were no unrealized losses in the merchant banking portfolio included in accumulated other comprehensive income (AOCI) as of September 30, 2009.

During the three and nine months ended September 30, 2009, we recorded $0.5 million and $2.0 million, respectively, in other-than-temporary impairment write-downs as part of the Company’s quarterly assessments of unrealized losses in its merchant banking and other investment portfolio.

Results of Operations

Three months ended September 30, 2009 compared to three months ended September 30, 2008

The Company had net income of $42.4 million in the third quarter of 2009 versus a net loss of $169.0 million in the third quarter of 2008. Net income (loss) included the following results of operations by segment (dollars in thousands):


	For the quarter ended September 30,
	2009		2008
Capital markets	$	—	$	(46,682	)
Principal investing		18,160		(157,728	)
Other		—		(695	)

Operating income (loss)		18,160		(205,105	)
Gain on extinguishment of long-term debt and other losses		27,862		4,074

Income (loss) before income taxes and noncontrolling interest		46,022		(201,031	)
Income tax provision (benefit)		3,585		(18,123	)
Noncontrolling interest in losses of consolidated subsidiary		—		(13,886	)

Net income (loss) attributable to Arlington Asset shareholders	$	42,437	$	(169,022	)

Net income for the third quarter of 2009 is primarily due to the gain on extinguishment of long-term debt and investment income from fair value changes in our investment in FBR Capital Markets common stock. Net loss for the third quarter of 2008 was primarily the result of other-than-temporary impairment losses recorded on our MBS investments and losses generated by FBR Capital Markets.

The Company’s revenues, net of interest expense, increased to $23.1 million in the third quarter of 2009 from $(103.7) million in the third quarter of 2008 due to the changes in revenues and interest expense described below.

Revenues from our principal investment activities, net of related interest expense, totaled $23.3 million in the third quarter of 2009 as compared to a loss of $145.0 million in the third quarter of 2008. The change in net revenues is primarily the result of the recognition of other-than-temporary impairment losses related to the Company’s MBS portfolio during the third quarter of 2008. No other-than-temporary impairments were recognized in the third quarter of 2009 related to the MBS portfolio. In addition, the Company recognized net investment income on the fair value change of our investment in FBR Capital Markets common stock for the third quarter of 2009. These investment gains were partially offset by a decrease in MBS interest income resulting from lower average MBS balances. Revenues from our principal investment activities included the following (dollars in thousands):


	For the quarter ended September 30,
	2009		2008
Net interest income	$	3,605	$	7,949
Net investment income (loss)—principal investing		19,737		(153,110	)
Dividend income		—		158

Principal investment income (loss)	$	23,342	$	(145,003	)

The components of net interest income from principal investing segment are summarized in the following table (dollars in thousands):


	Three months ended September 30, 2009							Three months ended September 30, 2008
	Average Balance		Income (Expense)			Yield (Cost)		Average Balance		Income (Expense)			Yield (Cost)
Mortgage-backed securities ⁽¹⁾	$	166,271	$	3,717		8.94	%	$	2,525,719	$	22,923		3.63	%
Other ⁽²⁾				2							250

				3,719							23,173

Repurchase agreements	$	100,575		(114	)	(0.45	)%	$	2,189,574		(14,259	)	(2.55	)%
Derivative contracts ⁽³⁾				—							(965	)

	$	100,575		(114	)	(0.45	)%	$	2,189,574		(15,224	)	(2.78	)%

Net interest income/spread			$	3,605		8.49	%			$	7,949		0.85	%

⁽¹⁾

The average balance and the yield are calculated based upon the adjusted par value which includes the effects of any other-than-temporary impairments recorded by the Company. The yield based on unadjusted par value was 7.09% and 3.59% for the three months ended September 30, 2009 and 2008, respectively.

⁽²⁾	Includes interest income on cash and other miscellaneous interest-earning assets.

⁽³⁾	Includes the effect of derivative instruments accounted for as cash flow hedges.

As shown in the table above, net interest income decreased by $4.3 million to $3.6 million during the three months ended September 30, 2009 compared to $7.9 million during the three months ended September 30, 2008. This decrease in interest income was primarily due to a lower average balance on the MBS portfolio.

The Company recognized net investment income of $19.7 million during the third quarter 2009 compared to a net investment loss of $153.1 million in the third quarter 2008. The following table summarizes the components of net investment income (loss) (dollars in thousands):


	Three months ended September 30,
	2009			2008
Available for sale and cost method securities—other-than-temporary impairments	$	(86	)	$	(118,720	)
Fair value change in investment in FBR Capital Markets stock		18,149			—
Losses from investments funds		(399	)		(1,448	)
Realized gains (losses) on sale of available for sale investments, net		1,822			(24,474	)
Other net investment income (loss)		251			(8,468	)

Net investment income (loss)	$	19,737		$	(153,110	)

Fair value change in investment in FBR Capital Markets stock reflects the change in fair value of FBR Capital Markets stock during the quarter ended September 30, 2009.

Loss from investment funds reflects the earnings from and valuation adjustment of investments in proprietary investment partnerships and other managed investments.

Other net investment income (loss) primarily includes net gains and losses from the changes in the fair value of investments in our MBS portfolio and derivative transactions.

Principal investing interest revenue decreased 84.1% to $3.7 million in the third quarter of 2009 from $23.2 million in the third quarter of 2008. Net investment income increased to $19.7 million in the third quarter of 2009 from a loss of $153.1 million in the third quarter of 2008. The decrease in interest income year over year was a result of the lower average balance in the MBS portfolio as a result of the downsizing effort to reduce exposure to deteriorating market conditions while at the same time generating additional cash to fund the extinguishment of long-term debt in the first quarter of 2009. The change in net investment income (loss) is primarily the result of increase in fair value of our investment in FBR Capital Markets’ common stock and no recognition of other-than-temporary impairment losses related to the Company’s MBS portfolio during the third quarter of 2009.

Interest expense, related primarily to long-term debt issued through FBR TRS Holdings, decreased 98.8% to $0.3 million in the third quarter of 2009 from $25.4 million in the third quarter of 2008 as a result of a decrease in outstanding principal balances due to the extinguishment during the first and third quarters of 2009 and lower LIBOR based interest rates associated with these floating rate borrowings.

Total non-interest expenses decreased 95.1% to $5.0 million in the third quarter of 2009 from $101.4 million in the third quarter of 2008. The decrease was primarily attributable to the deconsolidation of FBR Capital Markets’ activities during the second quarter of 2009 and the results of the cost reduction efforts taken during the last year.

The Company had an income tax provision of $3.6 million in the third quarter of 2009 as compared to an income tax benefit of $18.1 million in the third quarter of 2008. The decrease is due primarily to the recording of the tax provision due to the discrete period reporting of the tax effects of the gain recognized from the extinguishment of debt during the first and third quarters of 2009. Our effective tax rate was 6.7% in the third quarter of 2009 as compared to 41.0% in the third quarter of 2008. For the third quarter of 2009, our deferred tax assets continue to reflect a full valuation allowance as the Company believes it is more likely than not that the benefits will not be realized in the future.

Subsequent to the deconsolidation of FBR Capital Markets effective May 20, 2009, the Company no longer records activities related to the noncontrolling interest of consolidated subsidiary. $13.9 million of net loss attributable to the noncontrolling interest of consolidated subsidiary for the third quarter of 2008 represents minority interest holders’ share of losses of FBR Capital Markets during that period.

Results of Operations

Nine months ended September 30, 2009 compared to nine months ended September 30, 2008

Net income increased to $111.8 million in the nine months ended September 30, 2009 from a loss of $149.0 million in the nine months ended September 30, 2008. Net income included the following results of operations by segment (dollars in thousands):


	Nine Months Ended September 30,
	2009			2008
Capital Markets	$	(25,583	)	$	(92,886	)
Principal Investment		(11,598	)		(189,150	)
Other		—			(3,810	)

Operating loss		(37,181	)		(285,846	)
Net income from extinguishment of debt, subsidiary share transactions and other		150,396			76,919

Income (loss) before taxes and noncontrolling interest		113,215			(208,927	)
Income tax provision (benefit)		12,830			(28,903	)
Noncontrolling interest in losses of consolidated subsidiary		(11,459	)		(31,053	)

Net income (loss) attributable to Arlington Asset shareholders	$	111,844		$	(148,971	)

Net income for the first nine months of 2009 is primarily due to the gain on extinguishment of long-term debt and investment income from fair value changes in our investment in FBR Capital Markets common stock. Net loss for the first nine months of 2008 was primarily the result of other-than-temporary impairment losses recorded on our MBS investments and losses generated by FBR Capital Markets.

The Company’s revenues, net of interest expense, increased to $100.9 million in the first nine months of 2009 from $38.0 million in the first nine months of 2008 due to the changes in revenues and interest expense described below.

Revenues from our principal investment activities, net of related interest expense, totaled $23.0 million in the first nine months of 2009 as compared to a loss of $147.9 million in the first nine months of 2008. The change in net revenues is primarily the result of the recognition of other-than-temporary impairment losses related to the Company’s MBS portfolio and a residual interest in a securitization of non-prime mortgage loans during the first nine months of 2008. No other-than-temporary impairments were recognized in the first nine months of 2009 related to MBS or a residual interest in a securitization. In addition, the Company recognized net investment income on the fair value change of our investment in FBR Capital Markets common stock subsequent to May 20, 2009. These investment gains were partially offset by a decrease in MBS interest income resulting from lower average MBS balances. Revenues from our principal investment activities included the following (dollars in thousands):


	Nine Months Ended September 30,
	2009		2008
Net interest income	$	7,186	$	24,924
Net investment income (loss)—principal investing		15,754		(173,311	)
Dividend income		108		497

Principal investment income (loss)	$	23,048	$	(147,890	)

The components of net interest income from mortgage investments are summarized in the following table (dollars in thousands):


	Nine Months Ended September 30,
	2009							2008
	Average Balance		Income (Expense)			Yield (Cost)		Average Balance		Income (Expense)			Yield (Cost)
Mortgage-backed securities ⁽¹⁾	$	116,639	$	7,579		8.66	%	$	2,246,956	$	68,551		4.07	%
Other ⁽²⁾				21							2,316

				7,600							70,867

Repurchase agreements	$	78,863		(414	)	(0.70	)%	$	1,971,449		(44,023	)	(2.93	)%
Derivative contracts ⁽³⁾				—							(1,920	)

	$	78,863		(414	)	(0.70	)%	$	1,971,449		(45,943	)	(3.11	)%

Net interest income/spread			$	7,186		7.96	%			$	24,924		0.96	%

⁽¹⁾

The average balance and the yield are calculated based upon the adjusted par value which includes the effects of any other-than-temporary impairments recorded by the Company. The yield based on unadjusted par value was 5.72% and 4.02% for the nine months ended September 30, 2009 and 2008, respectively.

⁽²⁾	Includes interest income on cash and other miscellaneous interest-earning assets.

⁽³⁾	Includes the effect of derivative instruments accounted for as cash flow hedges.

As shown in the table above, net interest income decreased by $17.7 million to $7.2 million during the nine months ended September 30, 2009 from $24.9 million during the nine months ended September 30, 2008. This decrease was primarily due to a lower average balance on the MBS portfolio.

The Company recognized net investment income of $15.8 million during the first nine months of 2009 compared to a net investment loss of $173.3 million in the first nine months of 2008. The following table summarizes the components of net investment income (loss) (dollars in thousands):


	Nine Months Ended September 30,
	2009			2008
Available for sale and cost method securities—other-than-temporary impairments	$	(1,086	)	$	(131,334	)
Fair value change in investment in FBR Capital Markets stock		14,123			—
Loss from investment funds		(946	)		(2,736	)
Realized gains (losses) on sale of available for sale investments, net		1,586			(20,686	)
Residual interest in securitization—other-than-temporary impairments		—			(8,640	)
Other net investment income (loss)		2,077			(9,915	)

Net investment income (loss)	$	15,754		$	(173,311	)

As part of the Company’s quarterly assessments of unrealized losses in its portfolio of marketable equity securities for potential other-than-temporary impairments and its assessment of cost method investments, the Company recorded $1.1 million of other-than-temporary impairment losses during the nine months ended September 30, 2009 as compared to $23.0 million for the same period in 2008. In addition, the Company recorded $8.6 million in other-than-temporary impairment losses on a residual interest in a securitizations during the nine months ended September 30, 2008.

Fair value change in investment in FBR Capital Markets stock reflects the change in fair value of FBR Capital Markets stock subsequent to the May 20, 2009 deconsolidation.

Loss from investment funds reflects the Company’s earnings from and valuation adjustment of investments in proprietary investment partnerships and other managed investments.

Other net investment income (loss) primarily includes net gains and losses from the changes in the fair value of investments in our MBS portfolio and derivative transactions.

Principal investing interest revenue decreased 89.3% to $7.6 million in the first nine months of 2009 from $70.9 million in the first nine months of 2008. The decrease in interest income year over year was a result of the lower average balance in the MBS portfolio as a result of the downsizing effort to reduce exposure to deteriorating market conditions while at the same time generating additional cash to fund the extinguishment of long-term debt in the first quarter of 2009. Net investment income increased to $15.8 million in the first nine months of 2009 from a loss of $173.3 million in the first nine months of 2008. The change in net investment income is primarily the result of a gain recognized on the fair value change of FBR Capital Markets’ common stock subsequent to the deconsolidation on May 20, 2009 and no recognition of other-than-temporary impairment losses related to the Company’s MBS portfolio and a residual interest in a securitization of non-prime loans during the first nine months of 2009.

Interest expense, related primarily to long-term debt issued through FBR TRS Holdings decreased 94.8% to $3.7 million in the first nine months of 2009 from $70.9 million in the first nine months of 2008 as a result of a decrease in the outstanding principal balances due to the extinguishment during the first and third quarters of 2009 and also due to the decrease in interest rates associated with these floating rate borrowings.

Total non-interest expenses decreased 57.4% to $138.1 million in the first nine months of 2009 from $323.9 million in the first nine months 2008. The decrease was primarily attributable to the deconsolidation of FBR Capital Markets’ activities during the second quarter of 2009 and results of the cost reduction efforts taken during the last year.

The Company had an income tax provision of $12.8 million in the first nine months of 2009 as compared to an income tax benefit of $28.9 million in the first nine months of 2008. Our tax provision in 2009 related to the gain on extinguishment of debt as compared to the tax benefits related to taxable losses generated by our former taxable REIT subsidiaries in 2008. Our effective tax rate relating to this activity was 11.4% in the first nine months of 2009 as compared to 127.0% in the first nine months of 2008. For the nine months ended September 30, 2008, our tax benefit reflects a full valuation allowance on tax benefits related to operating losses at FBR TRS Holdings and related release of valuation allowance related to the disposition of First NLC.

Net loss attributable to the noncontrolling interest of consolidated subsidiary of $11.5 million represents minority interest holders’ share of losses of FBR Capital Markets through May 20, 2009 as compared to $31.1 million for the first nine months of 2008.

Liquidity and Capital Resources

Liquidity is a measurement of our ability to meet potential cash requirements including ongoing commitments to repay borrowings, fund investments, and for other general business purposes. Our primary sources of funds for liquidity consist of short-term borrowings ( e.g ., repurchase agreements), principal and interest payments on MBS, dividends on equity securities, proceeds from sales of MBS, and credit provided by banks. Potential future sources of liquidity for us also include existing cash balances, borrowing capacity through margin accounts and repurchase agreements and future issuances of common stock, preferred stock or debt securities.

Liquidity, or ready access to funds, is essential to our business. Failures of similar businesses have often been attributable in large part to insufficient liquidity. Liquidity is of particular importance to our business and perceived liquidity issues may affect our clients’ and counterparties’ willingness to engage in transactions with

us. Our liquidity could be impaired due to circumstances that we may be unable to control, such as a general market disruption or an operational problem that affects us or third parties. Further, our ability to sell assets may be impaired if other market participants are seeking to sell similar assets at the same time.

The Company manages its short-term liquidity with its MBS portfolio and related repurchase agreements. In the current environment, MBS may be liquidated within relatively short time periods to provide additional liquidity, although there is no assurance we would get favorable pricing in connection with any such sales. We also intend to manage our liquidity risk by managing our investment strategy, determining the appropriate allocation of investment portfolio between levered and unlevered positions.

Cash Flows

As of September 30, 2009, the Company’s cash and cash equivalents totaled $13.3 million, representing a net decrease in the balance of $241.4 million for the nine months ended September 30, 2009. The cash used in operating activities of $74.4 million was attributable primarily to a reduction in cash related to operating activities of FBR Capital Markets. The cash provided by investing activities of $864.2 million relates primarily to proceeds from sales and principal receipts of MBS and proceeds from the maturity of U.S. Treasury bonds offset by cash used in the purchase of MBS and deconsolidation of FBR Capital Markets during the second quarter of 2009. The cash used in financing activities of $1.0 billion relates primarily to repayments of repurchase agreements used to finance a portion of the MBS sold and U.S. Treasury bonds that matured.

Assets

On September 30, 2009, our principal liquid assets consist of MBS, investment in FBR Capital Markets, and cash and cash equivalents. The Company’s total assets decreased from $1.6 billion at December 31, 2008 to $283.3 million as of September 30, 2009. The decrease in total assets reflects the decrease of MBS and U.S. Treasury bonds and the effects of the deconsolidation of FBR Capital Markets during the second quarter of 2009.

The following table provides additional detail regarding the Company’s merchant banking and other investments as of September 30, 2009 (dollars in thousands):


	September 30, 2009
	Number of Shares/Units	Cost/Adjusted Basis		Fair Value/ Carrying Value
Other investments:
Merchant banking—non-marketable securities
Cypress Sharpridge Investments, Inc. ⁽¹⁾	5,176	$	52	$	52
Thunderbird Resorts, Inc. ⁽¹⁾	358,423		452		452
Other			975		975

Total merchant banking investments		$	1,479		1,479

Investment in FBR Capital Markets, at fair value					87,497
Investment funds					1,084

Total other investments				$	90,060

⁽¹⁾	Cost/adjusted basis reflects the effects of other-than-temporary impairment charges.

Sources of Funding

We believe that our existing cash balances, net investments, cash flows from operations, borrowing capacity, other sources of liquidity and execution of our financing strategies should be sufficient to meet our cash requirements. We have obtained, and believe we will be able to continue to obtain, short-term financing in amounts and at interest rates consistent with our financing objectives. We may seek debt or equity financings, in public or private transactions, to provide capital for corporate purposes and/or strategic business opportunities, including possible acquisitions, joint ventures, alliances or other business arrangements which could require substantial capital outlays. Our policy is to evaluate strategic business opportunities, including acquisitions and divestitures, as they arise. There can be no assurance that we will be able to generate sufficient funds from future operations, or raise sufficient debt or equity on acceptable terms, to take advantage of investment opportunities that become available. Should our needs ever exceed these sources of liquidity, we believe that most of our investments could be sold, in most circumstances, to provide cash, although such sales may not be on terms we consider to be favorable.

As of September 30, 2009, the Company’s liabilities totaled $146.3 million. Our indebtedness consisted of repurchase agreements and long-term debentures (Trust Preferred securities). These Trust Preferred securities accrue and require payments of interest quarterly at annual rates of three-month LIBOR plus 2.25% to 3.00%, mature in 24 to 26 years, and are redeemable, in whole or in part, without penalty, currently or within two years. As of September 30, 2009, we had $15.0 million of Trust Preferred securities, and the weighted average interest rate on these securities was 3.26%.

Our repurchase agreements for our MBS include provisions contained in the standard master repurchase agreement as published by the Bond Market Association and may be amended and supplemented in accordance with industry standards for repurchase facilities. As provided in the standard master repurchase agreement, upon the occurrence of an event of default or a termination event the applicable counterparty has the option to terminate all repurchase transactions under such counterparty’s repurchase agreement and to demand immediate payment of any amount due from us to the counterparty.

Under our repurchase agreements, we may be required to pledge additional assets to our repurchase agreement counterparties in the event the estimated fair value of the existing pledged collateral under such agreements declines and such lenders demand additional collateral (i.e., a margin call), which may take the form of additional securities or cash. Margin calls on repurchase agreements collateralized by our MBS investments primarily result from events such as declines in the value of the underlying mortgage collateral caused by factors such as rising interest rates or prepayments.

To date, we have not had any margin calls on our repurchase agreements that we were not able to satisfy with either cash or additional pledged collateral. However, should we encounter increases in interest rates, prepayments or delinquency levels, margin calls on our repurchase agreements could lead to a material adverse change in our liquidity position.

In the event that market conditions are such that we are unable to obtain financing for our investments in MBS in amounts and at interest rates consistent with our financing objectives, to the extent deemed appropriate, we may use cash to finance our investments or we may liquidate such investments. Accordingly, depending on market conditions, the Company may incur significant losses on any such sales of MBS.

The following table provides information regarding the Company’s outstanding repurchase agreement borrowings (dollars in thousands):


	September 30, 2009			December 31, 2008
Outstanding balance	$	100,000		$	1,063,040
Weighted-average rate		0.33	%		0.44	%
Weighted-average term to maturity		14.0 days			14.3 days

Dividends

During the three and nine month period ended September 30, 2009, no dividends were declared or paid. Pursuant to our variable dividend policy, our Board of Directors, in its sole discretion, may reinstate the payment of cash dividends when appropriate in the future. No dividends were declared or paid during 2008.

Shareholder Rights Plan

Subject to the terms, provisions and conditions of the Rights Plan, and taking into account our 1-for-20 reverse stock split that was effected on October 6, 2009, if the Rights become exercisable, each Right would represent the right to purchase from the Company one ten-thousandth of a share of Series A Junior Preferred Stock for a purchase price of $3.00 each, subject to adjustment in accordance with the terms of the Rights Plan. Each post-split share of Class A and Class B common stock is now associated with, and now trades with, 20 Rights. If issued, each 20 fractional shares of preferred stock would give the shareholder approximately the same dividend, voting and liquidation rights as does one share of the Company’s Class A common stock. However, prior to exercise, a Right does not give its holder any rights as a shareholder of the Company, including without limitation, any dividend, voting or liquidation rights.

Recent Developments

On October 1, 2009, the Company announced a 1-for-20 reverse split of its Class A and Class B common stock in accordance with the previously approved shareholder authorization. The reverse stock split is effective October 6, 2009. Upon the effectiveness of the reverse stock split, each twenty shares of issued and outstanding common stock were converted into one share of common stock. The Company did not issue fractional shares and shareholders received a cash payment for fractional shares based on the split-adjusted average price of the Class A common stock before the effective time. The reverse split reduced the number of shares of the Company’s common stock outstanding from approximately 160 million to approximately 8 million. Proportional adjustments were made to outstanding stock options and other equity incentive awards and equity compensation plans. The number of authorized shares of common stock did not change.

On October 28, 2009, the Company announced the closing on the sale of 14,755,017 shares of FBR Capital Markets common stock at $6.00 per share in an underwritten public offering. Proceeds to the Company, after the underwriting discount but before expenses, were $84.1 million. The net price per share after the underwriting discount to the Company of $5.70, is less than the carrying value of the FBR Capital Markets stock of $5.93 at September 30, 2009, and will result in the Company recording a pre-tax book loss of $3.4 million during the quarter ending December 31, 2009. These shares represented the Company’s remaining interest in FBR Capital Markets.

Item 3.

Quantitative and Qualitative Disclosures about Market Risk

Market Risk

Market risk generally represents the risk of loss through a change in realizable value that can result from a change in the prices of equity securities, a change in the value of financial instruments as a result of changes in interest rates, a change in the volatility of interest rates or a change in the credit rating of an issuer. We are exposed to the following market risks as a result of our investments in MBS and equity investments. The Company may utilize forward sales to mitigate market risk related to our agency MBS portfolio. As of September 30, 2009, none of the investments mentioned in this Item 3 is held for trading purposes.

Credit Risk

We are also exposed to mortgage credit risk related to our MBS portfolio. Mortgage credit risk is the risk that a borrower will fail to make timely payments on a mortgage or an issuer will fail to make timely payments on a security we own, exposing us to the risk of credit losses and credit-related expenses. While the agency MBS has less credit risk due to the guarantee by U.S. government, we have increased credit risk related to our private-label MBS. To mitigate the credit risk in private-label MBS, we invest in private-label MBS with credit enhancements which reduce the exposure. However, the continued deterioration in the housing market, coupled with the increasing mortgage loan delinquencies and credit losses in the U.S. mortgage market may not prevent us from incurring losses and negatively affecting our financial position.

Interest Rate Risk

Leveraged MBS

The Company is primarily subject to interest-rate risk as a result of its principal investment activities. Through its principal investment activities, the Company primarily invests in MBS and finances those investments with repurchase agreements which are interest rate sensitive financial instruments. The Company is exposed to interest rate risk that fluctuates based on changes in the level or volatility of interest rates and mortgage prepayments and in the shape and slope of the yield curve. The Company historically hedged a portion of its exposure to interest rate fluctuations primarily through the use of interest rate swaps, interest rate caps, and Eurodollar futures and put option contracts. The Company held no such hedging instruments as of September 30, 2009.

The Company’s primary risk is related to changes in both short and long-term interest rates, which affect the Company in several ways. As interest rates increase, the market value of the MBS may be expected to decline, prepayment rates may be expected to go down, and duration may be expected to extend. If interest rates decline, the reverse is true for MBS.

The table that follows shows the expected change in fair value for the Company’s current MBS under several hypothetical interest-rate scenarios. Interest rates are defined by the U.S. Treasury yield curve. The changes in rates are assumed to occur instantaneously. It is further assumed that the changes in rates occur uniformly across the yield curve and that the level of LIBOR changes by the same amount as the yield curve. Actual changes in market conditions are likely to be different from these assumptions.

Changes in value are measured as percentage changes from their respective values presented in the column labeled “Value at September 30, 2009.” Management’s estimate of change in value for MBS is based on the same assumptions it uses to manage the impact of interest rates on the portfolio. Actual results could differ significantly from these estimates. For MBS, the estimated change in value of the MBS reflects an effective duration of 3.42 in a rising interest rate environment and 2.16 in a declining interest rate environment.

The effective durations are based on observed market value changes, as well as management’s own estimate of the effect of interest rate changes on the fair value of the investments including assumptions regarding prepayments based, in part, on age of and interest rate on the mortgages and the mortgages underlying the MBS,

embedded derivates in the MBS, prior exposure to refinancing opportunities and an overall analysis of historical prepayment patterns under a variety of past interest rate conditions (dollars in thousands, except per share amounts).


	Value at September 30, 2009
			100 Basis Point Increase in Interest Rates		Percent Change		100 Basis Point Decrease in Interest Rates		Percent Change
Assets
Mortgage-backed securities	$	173,895	$	167,950	(3.42	)%	$	177,648	2.16	%
Other		109,430		109,430	—			109,430	—

Total assets	$	283,325	$	277,380	(2.10	)%	$	287,078	1.32	%

Liabilities
Repurchase agreements	$	100,000	$	100,000	—		$	100,000	—
Other		46,346		46,346	—			46,346	—

Total liabilities		146,346		146,346	—			146,346	—
Equity		136,979		131,034	(4.34	)%		140,732	2.74	%

Total liabilities and equity	$	283,325	$	277,380	(2.10	)%	$	287,078	1.32	%

Book value per share—total equity ⁽¹⁾	$	17.84	$	17.06	(4.34	)%	$	18.33	2.74	%

⁽¹⁾	Reflects the impact of 1-for-20 reverse stock split effective October 6, 2009. See Note 11, Subsequent Events.

As shown above, the Company’s MBS portfolio generally will benefit less from a decline in interest rates than it will be adversely affected by a same-scale increase in interest rates.

Equity Price Risk

The Company is exposed to equity price risk as a result of its investments in marketable equity securities and equity method investments. Equity price risk changes as the volatility of equity prices changes or the values of corresponding equity indices change.

While it is impossible to project exactly what factors may affect the prices of equity sectors and how much the effect might be, the table below illustrates the impact a ten percent increase and a ten percent decrease in the price of the equities held by the Company would have on the value of the total assets and the book value of the Company as of September 30, 2009 (dollars in thousands, except per share amounts).


	Value at September 30, 2009
				10% Increase in Price			Percent Change		10% Decrease in Price			Percent Change
Assets
Investment in FBR Capital Markets	$	87,497		$	96,247		10.00	%	$	78,747		(10.00	)%
Equity method investments		2,563			2,819		10.00	%		2,307		(10.00	)%
Other		193,265			193,265		—			193,265		—

Total assets	$	283,325		$	292,331		3.18	%	$	274,319		(3.18	)%

Liabilities	$	146,346		$	146,346		—		$	146,346		—

Equity
Common stock		1,584			1,584		—			1,584		—
Paid-in-capital		1,504,283			1,504,283		—			1,504,283		—
Accumulated other comprehensive income		289			289		—			289		—
Accumulated deficit		(1,369,177	)		(1,360,171	)	(0.66	)%		(1,378,183	)	0.66	%

Total equity		136,979			145,985		6.58	%		127,973		(6.58	)%

Total liabilities and equity	$	283,325		$	292,331		3.18	%	$	274,319		(3.18	)%

Book value per share ⁽¹⁾	$	17.84		$	19.01		6.58	%	$	16.67		(6.58	)%

⁽¹⁾	Reflects the impact of 1-for-20 reverse stock split effective October 6, 2009. See Note 11, Subsequent Events.

Except to the extent that the Company sells its marketable equity securities, excluding its shares of FBR Capital Markets stock, or other long-term investments, or a decrease in their fair value is deemed to be other-than-temporary, an increase or decrease in the fair value of those assets will not directly affect the Company’s earnings. However, an increase or decrease in the value of equity method investments and our investment in FBR Capital Markets stock will directly affect the Company’s earnings.

Item 4.

Controls and Procedures

As of the end of the period covered by this report on Form 10-Q, our management, with the participation of our Chief Executive Officer, Eric F. Billings, and our Chief Financial Officer, Kurt R. Harrington, carried out an evaluation of the effectiveness of our disclosure controls and procedures (as defined under Rule 13a-15(e) under the Securities Exchange Act of 1934, as amended (the Exchange Act)) pursuant to Rule 13a-15(b) of the Exchange Act. Based upon that evaluation, our Chief Executive Officer and our Chief Financial Officer concluded that our disclosure controls and procedures, as of September 30, 2009, are effective.

With the deconsolidation and the sale of its interest in FBR Capital Markets, the Company is no longer sharing financial and administrative services with FBR Capital Markets. The Company has established an independent information technology infrastructure and implemented a new accounting system during the quarter ended September 30, 2009. Although certain procedures and processes have been changed during the quarter ended September 30, 2009, these changes have not materially affected, or are not reasonably likely to materially affect, our internal control over financial reporting.

Forward-Looking Statements

This report on Form 10-Q includes forward-looking statements within the meaning of Section 27A of the Securities Act of 1933 and Section 21E of the Securities Exchange Act of 1934. Some of the forward-looking statements can be identified by the use of forward-looking words such as “believes,” “expects,” “may,” “will,” “should,” “seeks,” “approximately,” “intends,” “plans,” “estimates” or “anticipates” or the negative of those words or other comparable terminology. Such statements include, but are not limited to, those relating to the effects of growth, our principal investment activities, levels of assets under management and our current equity capital levels. Forward-looking statements involve risks and uncertainties. You should be aware that a number of important factors could cause our actual results to differ materially from those in the forward-looking statements. These factors include, but are not limited to:

•

the revocation of our status as a real estate investment trust (REIT) for federal income tax purposes effective as of January 1, 2009 and our ability to use NOLs and NCLs to reduce our taxable income;

•

our ability to forecast our tax attributes, which are based upon various facts and assumptions, and our ability to protect and use our net operating losses and net capital losses to offset future taxable income and gains, including whether our recently adopted shareholder rights plan will be effective in preventing an ownership change that would significantly limit our ability to utilize such losses;

•

the federal conservatorship of Fannie Mae and Freddie Mac and related efforts, along with any changes in laws and regulations affecting the relationship between Fannie Mae and Freddie Mac and the federal government;

•

mortgage loan modification programs and future legislative action;

•

the availability and terms of, and our ability to deploy, capital and our ability to grow our business through an investment strategy focused on investing primarily in agency MBS, including collateralized mortgage obligations, on a leveraged basis;

•

the overall environment for interest rates, changes in interest rates, interest rate spreads, the yield curve and prepayment rates;

•

current conditions in the residential mortgage market and further adverse developments in that market;

•

current economic conditions and further adverse developments in the overall economy;

•

potential risk attributable to our mortgage-related or merchant banking investment portfolios, including changes in fair value;

•

our use of leverage and our dependence on repurchase agreements and other short-term borrowings to finance our mortgage-related investments;

•

changes in our investment, hedging and leverage strategies, changes in our asset allocation and changes in our operational policies, all of which may be changed by us without shareholder approval;

•

competition for investment opportunities, including competition from the U.S. Treasury for investments in agency-backed MBS;

•

competition for qualified personnel;

•

available technologies;

•

malfunctioning or failure in our operations and infrastructure;

•

the effect of government regulation and of general economic conditions on our business;

•

fluctuating quarterly operating results;

•

our ability to retain key professionals;

•

risk from strategic investments or acquisitions and joint ventures or our entry into new business areas;

•

failure to maintain effective internal controls;

•

changes in laws and regulations and industry practices that may adversely affect our businesses;

•

the loss of our exemption from registration as an investment company under the Investment Company Act of 1940, as amended;

•

volatility of the securities markets; and

•

activity in the secondary securities markets.

We will not necessarily update the information presented in this Form 10-Q if any of these forward-looking statements turn out to be inaccurate. For a more detailed discussion of the risks affecting our business, any of which could cause our actual results to differ materially from those in the forward-looking statements, see our Annual Report on Form 10-K for the year ended December 31, 2008, including the section entitled “Risk Factors” in that report, and any other reports or documents we file with the SEC from time to time.

PART II

OTHER INFORMATION

Item 1.

Legal Proceedings

On September 16, 2008, a shareholder derivative action captioned Kornfeld, et al. v. Billings, et al. , No. 08-1144, was filed in the Circuit Court of Arlington County, Virginia, by Bill Kornfeld and Edward Lapinski. The Company was named as a nominal defendant along with certain current and former officers and directors as individual defendants. The complaint asserts claims under Virginia law against the individual defendants for breach of fiduciary duty and against certain of the individual defendants for unjust enrichment in connection with certain decisions concerning executive compensation. Our Board of Directors established a special committee to conduct a review and evaluation of the plaintiffs’ allegations and make a final decision concerning whether maintenance of the litigation was in the Company’s best interests. The special committee concluded that the litigation was not in the Company’s best interest. On December 8, 2008, the Company moved to dismiss the shareholder derivative action based on the special committee’s recommendation and the individual defendants filed demurrers. On March 5, 2009, the court denied the individual defendants’ demurrers, granted the plaintiffs’ motion for certain discovery and denied the Company’s motion to dismiss with leave to renew the motion following discovery. On July 24, 2009, the plaintiffs filed an amended complaint. The amended complaint contains allegations similar to those in the original complaint and adds a cause of action against certain of the individual defendants for waste. On August 14, 2009, the Company filed an answer to the amended complaint and the individual defendants filed a demurrer to the amended complaint. The likely outcome of this action or its likely impact on the Company’s results of operations at this time cannot be predicted.

Item 1A.

Risk Factors

In addition to the risk factors disclosed in “Part I—Item 1A. Risk Factors” of our Annual Report on Form 10-K for the fiscal year ended December 31, 2008, set forth in this section is an additional risk factor we believe applicable to our business.

Our shareholder rights plan could inhibit a change in our control.

On June 1, 2009, our Board implemented a Rights Plan in an effort to protect against a possible limitation on our ability to use our NOLs, NCLs and built-in losses by dissuading investors from aggregating ownership of our Class A common stock and triggering an “ownership change” for purposes of Sections 382 and 383 of the Code. The Rights Plan may not be successful in preventing an “ownership change” within the meaning of Sections 382 and 383 of the Code, and we may lose all or most of the anticipated tax benefits associated with our prior losses. Under the terms of the Rights Plan, in general, if a person or group acquires or commences a tender or exchange offer for beneficial ownership of 4.9% or more of the outstanding shares of our Class A common stock upon a determination by our Board of Directors, all of our other Class A and Class B common shareholders will have the right to purchase securities from us at a discount to such securities’ fair market value, thus causing substantial dilution to the acquiring person. The Rights Plan may have the effect of inhibiting or impeding a change in control not approved by our Board and, notwithstanding its purpose, could adversely affect our shareholders’ ability to realize a premium over the then-prevailing market price for our common stock in connection with such a transaction. In addition, since our Board can prevent the Rights Plan from operating, in the event our Board approves of an acquiring person, the Rights Plan gives our Board significant discretion over whether a potential acquirer’s efforts to acquire a large interest in us will be successful. Consequently, the Rights Plan may not succeed in protecting anticipated tax benefits and could impede transactions that would otherwise benefit our shareholders.

Item 6.

Exhibits


Exhibit Number		Exhibit Title
3.1		Amended and Restated Articles of Incorporation of the Company, as amended.

3.2		Bylaws of Company, as amended (incorporated by reference to Exhibit 3.2 to the Company’s Quarterly Report on Form 10-Q filed on August 10, 2009).

10.1		Underwriting Agreement, dated October 22, 2009, among the Company, FBR Capital Markets Corporation and FBR Capital Markets & Co. and Barclays Capital Inc. as representatives of the several underwriters named in Schedule I thereto (incorporated by reference to Exhibit 10.1 to the Company’s Current Report on Form 8-K filed on October 29, 2009).

31.01		Certification of Chief Executive Officer pursuant to Rule 13a-14(a) under the Securities Exchange Act of 1934, as amended, adopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.

31.02		Certification of Chief Financial Officer pursuant to Rule 13a-14(a) under the Securities Exchange Act of 1934, as amended, adopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.

32.01		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.

32.02		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.


Arlington Asset Investment Corp.

By:		/ S / K URT R. H ARRINGTON
		Kurt R. Harrington
		*Executive Vice President, Chief Financial Officer, and Chief Accounting Officer*
		*(Principal Financial Officer)*

Date: November 9, 2009

EXHIBIT INDEX


Exhibit Number		Exhibit Title
3.1		Amended and Restated Articles of Incorporation of the Company, as amended.

3.2		Bylaws of Company, as amended (incorporated by reference to Exhibit 3.2 to the Company’s Quarterly Report on Form 10-Q filed on August 10, 2009).

10.1		Underwriting Agreement, dated October 22, 2009, among the Company, FBR Capital Markets Corporation and FBR Capital Markets & Co. and Barclays Capital Inc. as representatives of the several underwriters named in Schedule I thereto (incorporated by reference to Exhibit 10.1 to the Company’s Current Report on Form 8-K filed on October 29, 2009).

31.01		Certification of Chief Executive Officer pursuant to Rule 13a-14(a) under the Securities Exchange Act of 1934, as amended, adopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.

31.02		Certification of Chief Financial Officer pursuant to Rule 13a-14(a) under the Securities Exchange Act of 1934, as amended, adopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.

32.01		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.

32.02		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.

Exhibit 3.1

ARTICLES OF AMENDMENT OF THE

AMENDED AND RESTATED ARTICLES OF INCORPORATION OF

ARLINGTON ASSET INVESTMENT CORP.

The name of the corporation is Arlington Asset Investment Corp. (the “Corporation”).

II.

The amendment (the “Amendment”) adopted is as follows:

Article III of the Corporation’s Amended and Restated Articles of Incorporation is amended by inserting the following as Section 3.3 after Section 3.2 in the Corporation’s Amended and Restated Articles of Incorporation:

“3.3 Reverse Stock Split. As of 5:00 p.m., Eastern Time, on Tuesday, October 6, 2009 (the “Effective Time”), each twenty (20) shares of the Corporation’s Class A Common Stock and each twenty (20) shares of the Corporation’s Class B Common Stock, issued and outstanding immediately prior to the Effective Time, shall automatically be combined into one validly issued, fully paid and non-assessable share of Class A Common Stock and one validly issued, fully paid and non-assessable share of Class B Common Stock, respectively, without any further action by the Corporation or the holder thereof, subject to the treatment of fractional share interests as described below (the “Reverse Stock Split”).

A shareholder who otherwise would be entitled to receive a fractional share interest as a result of the Reverse Stock Split shall, with respect to such fractional share interest, be entitled to receive cash (without interest or deduction) from the Corporation in lieu of such fractional share interest, upon receipt by the Corporation’s transfer agent of such shareholder’s properly completed and duly executed transmittal letter and, where shares are held in certificated form, the surrender of such shareholder’s Old Certificates (as defined below), in an amount equal to the product of (i) the fractional share interest otherwise issuable to such shareholder as a result of the Reverse Stock Split, multiplied by (ii) the product of (A) the volume weighted average price of the Corporation’s Class A Common Stock on the five trading days prior to the Effective Time, as reported by the New York Stock Exchange, multiplied by (B) 20.

Each certificate that immediately prior to the Effective Time represented shares of the Corporation’s Class A Common Stock or Class B Common Stock, as the case may be (the “Old Certificates”), shall thereafter represent that number of shares of Class A Common Stock or Class B Common Stock, as the case may be, into which the shares of Class A Common Stock or Class B Common Stock, as the case may be, represented by the Old Certificates shall have been combined, subject to the elimination of fractional share interests as described above.

III.

The foregoing Amendment was proposed by the Corporation’s Board of Directors, which found adoption of the Amendment to be in the Corporation’s best interest and directed that the Amendment be submitted to a vote at a meeting of the Corporation’s shareholders on June 1, 2009.

IV.

On April 30, 2009, notice of the meeting of the Corporation’s shareholders, accompanied by a copy of this Amendment, was given in the manner provided in the Virginia Stock Corporation Act to each of the Corporation’s shareholders of record.

The designation, number of outstanding shares, and number of votes entitled to be cast by each voting group entitled to vote separately on the Amendment was:


Designation	Number of Outstanding Shares	Number of Votes Entitled to be Cast

Common Stock, $0.01 par value per share, Class A and Class B	158,957,361	181,701,947

The total number of votes cast for and against the Amendment by each voting group entitled to vote separately on the Amendment was:


Voting Group	Votes “FOR”	Votes “AGAINST”

Common Stock, $0.01 par value per share, Class A and Class B	137,135,413	29,435,020

The total number of votes cast for the Amendment by each voting group was sufficient for approval of the Amendments by the voting group.

VI.

Pursuant to Section 13.1-606 of the Virginia Stock Corporation Act, this Amendment shall become effective at 5:00 p.m., Eastern Time, on Tuesday, October 6, 2009.

[Signature Page Follows]

IN WITNESS WHEREOF , the undersigned corporation has caused these Articles of Amendment to be executed by its duly authorized Chairman of the Board and Chief Executive Officer as of this 2 ^nd day of October, 2009.


ARLINGTON ASSET INVESTMENT CORP., a Virginia corporation

By:		/ S / J. R OCK T ONKEL , J R .
Name:		J. Rock Tonkel, Jr.
Title:		President and Chief Operating Officer

ARTICLES OF AMENDMENT OF THE

AMENDED AND RESTATED ARTICLES OF INCORPORATION OF

FRIEDMAN, BILLINGS, RAMSEY GROUP, INC.

The name of the corporation is Friedman, Billings, Ramsey Group, Inc. (the “Corporation”).

II.

The amendment (the “Name Change Amendment”) adopted is as follows:

Article I, Section 1.1 of the Corporation’s Amended and Restated Articles of Incorporation is deleted in its entirety, and the following Article I, Section 1.1 is inserted in full to be and read as follows:

“1.1 Name. The name of the Corporation is Arlington Asset Investment Corp. (the “Corporation”).”

III.

The Name Change Amendment was proposed by the Corporation’s Board of Directors, which found adoption of such amendment to be in the Corporation’s best interest and directed that such amendment be submitted to a vote at a meeting of the Corporation’s shareholders on June 1, 2009.

IV.

On April 30, 2009, notice of the meeting, accompanied by a copy of the Name Change Amendment, was given in the manner provided in the Virginia Stock Corporation Act to each of the Corporation’s shareholders of record.

The designation, number of outstanding shares, and number of votes entitled to be cast by each voting group entitled to vote separately on the Name Change Amendment was:

Designation

Number of

Outstanding Shares

Number of Votes

Entitled to be Cast

Common Stock, $0.01 par value per share, Class A and Class B

158,957,361

181,701,947

The total number of votes cast for and against the Name Change Amendment by each voting group entitled to vote separately on such amendment was:


Voting Group	Votes “FOR”	Votes “AGAINST”
Common Stock, $0.01 par value per share, Class A and Class B	142,055,673	24,514,760

The total number of votes cast for the Name Change Amendment by each voting group was sufficient for approval of such amendment by the voting group.

VI.

Pursuant to Section 13.1-606 of the Virginia Stock Corporation Act, the Name Change Amendment shall become effective at 12:01 a.m. (Eastern Time) on June 10, 2009.


FRIEDMAN, BILLINGS, RAMSEY GROUP, INC., a Virginia corporation

By:		/s/ Eric F. Billings
		Eric F. Billings
		Chairman of the Board and Chief Executive Officer

COMMONWEALTH OF VIRGINIA

STATE CORPORATION COMMISSION

AT RICHMOND, JUNE 8, 2009

The State Corporation Commission has found the accompanying articles submitted on behalf of

Arlington Asset Investment Corp. (formerly Friedman, Billings, Ramsey Group, Inc.)

to comply with the requirements of law, and confirms payment of all required fees. Therefore, it is ORDERED that this

CERTIFICATE OF AMENDMENT

be issued and admitted to record with the articles of amendment in the Office of the Clerk of the Commission, effective June 10, 2009, at 12:01 a.m.

The corporation is granted the authority conferred on it by law in accordance with the articles, subject to the conditions and restrictions imposed by law.


STATE CORPORATION COMMISSION

By		/s/ Judith Williams Jagdmann

		Commissioner

ARTICLES OF AMENDMENT OF

AMENDED AND RESTATED ARTICLES OF INCORPORATION OF

FRIEDMAN, BILLINGS, RAMSEY GROUP, INC.

(Pursuant to Section 13.1-639 of the Virginia Stock Corporation Act)

1. The name of the Corporation is Friedman, Billings, Ramsey Group, Inc. (the “Corporation”).

2. Capitalized terms used in these Articles of Amendment and not otherwise defined shall have the meaning given to such term in the Articles of Incorporation.

3. The amendment adopted is to add a new Section 4.3 after Section 4.2 in the Articles of Incorporation to read as follows:

“Section 4.3. Series A Junior Preferred Stock . There is hereby established a series of the Corporation’s authorized Preferred Stock, to be designated as the “Series A Junior Preferred Stock” (the “Series A Preferred Stock”) and having a par value of $0.01 per share. The designation and number, and relative rights, preferences and limitations of the Series A Preferred Stock, insofar as not already fixed by any other provisions of these Articles of Incorporation, shall be as follows:

(a) Designation and Amount . The shares of such series shall be designated as Series A Junior Preferred Stock, par value $0.01 per share. The number of shares of Series A Preferred Stock initially constituting such series shall be 100,000; provided, however, that, if more than a total of 100,000 shares of Series A Preferred Stock shall be issuable upon the exercise of Rights (the “Rights”) issued pursuant to the Rights Agreement dated as of June 5, 2009, between the Corporation and American Stock Transfer & Trust Company LLC, as Rights Agent (the “Rights Agreement”), the Board of Directors of the Corporation, pursuant to Section 13.1-639 of the Virginia Stock Corporation Act, as amended from time to time (the “VSCA”), shall direct by resolution or resolutions that Articles of Amendment of the Articles of Incorporation be properly executed and filed with the State Corporation Commission of Virginia providing for the total number of shares of Series A Preferred Stock authorized to be issued to be increased (to the extent that the Articles of Incorporation then permit) to the largest number of whole shares (rounded up to the nearest whole number) issuable upon exercise of such Rights.

(b) Dividends and Distributions .

(i) Subject to the prior and superior rights of the holders of shares of any other series of Preferred Stock or other class of capital stock of the Corporation ranking prior and superior to the shares of Series A Preferred Stock with respect to dividends, the holders of shares of Series A

Preferred Stock shall be entitled to receive, when, as and if declared by the Board of Directors, out of the assets of the Corporation legally available therefor, (A) quarterly dividends payable in cash on or before the 30 ^th day of January, April, July and October in each year, or such other dates as may be required by Section 4.3(b)(ii) or as the Board of Directors of the Corporation shall approve (each such date being referred to herein as a “Dividend Payment Date”), commencing on the first Dividend Payment Date after the first issuance of a share or a fraction of a share of Series A Preferred Stock, in the amount of $0.01 per whole share (rounded to the nearest cent), less the amount of all cash dividends declared on the Series A Preferred Stock pursuant to the following clause (B) since the immediately preceding Dividend Payment Date or, with respect to the first Dividend Payment Date, since the first issuance of any share or fraction of a share of Series A Preferred Stock (the total of which shall not, in any event, be less than zero) and (B) dividends payable in cash on the Dividend Payment Date for each cash dividend declared on the Common Stock in an amount per whole share (rounded to the nearest cent) equal to the Formula Number (as hereinafter defined) then in effect multiplied by the cash dividends then to be paid on each share of Common Stock. In addition, if the Corporation shall pay any dividend or make any distribution on the Common Stock payable in assets, securities or other forms of non-cash consideration (other than dividends or distributions solely in shares of Common Stock), then, in each such case, the Corporation shall simultaneously pay or make on each outstanding whole share of Series A Preferred Stock a dividend or distribution in like kind equal to the Formula Number then in effect times such dividend or distribution on each share of the Common Stock. As used herein, the “Formula Number” shall be 10,000; provided, however, that, if at any time after June 5, 2009 (the “Rights Declaration Date”), the Corporation shall (x) declare or pay any dividend on the Common Stock payable in shares of Common Stock or make any distribution on the Common Stock in shares of Common Stock, (y) subdivide (by a stock split or otherwise) the outstanding shares of Common Stock into a larger number of shares of Common Stock or (z) combine (by a reverse stock split or otherwise) the outstanding shares of Common Stock into a smaller number of shares of Common Stock, then, in each such event, the Formula Number shall be adjusted to a number determined by multiplying the Formula Number in effect immediately prior to such event by a fraction, the numerator of which is the number of shares of Common Stock that are outstanding immediately after such event and the denominator of which is the number of shares of Common Stock that are outstanding immediately prior to such event (and rounding the result to the nearest whole number); and provided further, that, if at any time after the Rights Declaration Date, the Corporation shall issue any shares of its capital stock in a merger, reclassification, or change of the outstanding shares of Common Stock, then, in each such event, the Formula Number shall be appropriately adjusted to reflect such merger, reclassification or change so that each share of Series A Preferred Stock continues to be the economic equivalent of a Formula Number of shares of Common Stock prior to such merger, reclassification or change.

(ii) The Corporation shall declare a dividend or distribution on the Series A Preferred Stock as provided in Section 4.3(b)(i) above immediately prior to or at the same time it declares a dividend or distribution on the Common Stock (other than a dividend or distribution solely in shares of Common Stock); provided, however, that, in the event no dividend or distribution (other than a dividend or distribution in shares of Common Stock) shall have been declared on the Common Stock during the period between any Dividend Payment Date and the next subsequent Dividend Payment Date, a dividend of $0.01 per share on the Series A Preferred Stock shall nevertheless be payable on such subsequent Dividend Payment Date.

(iii) Dividends will accrue, and be cumulative, on outstanding shares of Series A Preferred Stock from the Dividend Payment Date next preceding the date of issue of such shares, unless the date of issue of such shares is prior to the record date for the First Dividend Payment Date, in which case dividends on such shares will accrue from the date of the first issuance of a share of Series A Preferred Stock or the date of issue is a Dividend Payment Date or is a date after the record date for the determination of holders of shares of Series A Preferred Stock entitled to receive a dividend and before such Dividend Payment Date, in either of which events such dividends will accrue, and be cumulative, from such Dividend Payment Date. Accrued but unpaid dividends will cumulate from the applicable Dividend Payment Date but will not bear interest. Dividends paid on the shares of Series A Preferred Stock in an amount less than the total amount of such dividends at the time accrued and payable on such shares will be allocated pro rata on a share-by-share basis among all such shares at the time outstanding. The Board of Directors may fix a record date for the determination of holders of shares of Series A Preferred Stock entitled to receive payment of a dividend or distribution declared thereon, which record date will be not more than 30 calendar days prior to the date fixed for the payment thereof.

(i) Each share of Series A Preferred Stock shall entitle the holder thereof to a number of votes equal to the Formula Number then in effect on all matters submitted to a vote of the holders of the Common Stock.

(ii) Except as provided in this Section 4.3(c) or by the VSCA, the holders of shares of Series A Preferred Stock and the holders of shares of Common Stock shall vote together as a single voting group for the election of directors of the Corporation and on all matters submitted to a vote of shareholders of the Corporation.

(iii) If, at the time of any annual meeting of shareholders at which the election of directors is to be considered, the equivalent of six

quarterly dividends (whether or not consecutive) payable on any share or shares of Series A Preferred Stock are in default, the number of directors constituting the Board of Directors of the Corporation shall be increased by two. In addition to voting together with the holders of Common Stock for the election of other directors of the Corporation, the holders of record of the Series A Preferred Stock, voting as a single voting group, to the exclusion of the holders of Common Stock, shall be entitled at said meeting of shareholders (and at each subsequent annual meeting of shareholders), unless all dividends in arrears have been paid or declared and set apart for payment prior thereto, to vote for the election of two directors of the Corporation, the holders of any Series A Preferred Stock being entitled to cast a number of votes per share of Series A Preferred Stock equal to the Formula Number then in effect. Until the default in payments of all dividends that permitted the election of said directors shall cease to exist, any director who shall have been so elected pursuant to the next preceding sentence may be removed at any time, either with or without cause, only by the affirmative vote of the holders of the shares of Series A Preferred Stock at the time entitled to cast a majority of the votes entitled to be cast for the election of any such director at a special meeting of such holders called for that purpose, and any vacancy thereby created may be filled by the vote of such holders. If and when such default shall cease to exist, the holders of the Series A Preferred Stock shall be divested of the foregoing special voting rights, subject to revesting in the event of each and every subsequent like default in payments of dividends. Upon the termination of the foregoing special voting rights, the terms of office of all persons who may have been elected directors pursuant to said special voting rights shall forthwith terminate, and the number of directors constituting the Board of Directors shall be reduced by two. The voting rights granted by this Section 4.3(c)(iii) shall be in addition to any other voting rights granted to the holders of the Series A Preferred Stock in this Section 4.3(c).

(iv) Except as provided in this Section 4.3(c) or Section 4.3(k) or as otherwise provided by the VSCA, holders of the Series A Preferred Stock shall have no special voting rights and their consent shall not be required (except to the extent they are entitled to vote with the holders of Common Stock as set forth herein) for authorizing or taking any corporate action.

(d) Restrictions .

(i) Whenever dividends or other dividends or distributions payable on the Series A Preferred Stock as provided in Section 4.3(b) above are in arrears, thereafter and until all accrued and unpaid dividends and distributions, whether or not declared, on shares of Series A Preferred Stock outstanding have been paid in full, the Corporation will not:

(A) declare or pay dividends, or make any other distributions, on any shares of stock ranking junior (either as to dividends or upon liquidation, dissolution or winding up) (“Junior Stock”) to the shares of Series A Preferred Stock;

(B) declare or pay dividends, or make any other distributions, on any shares of stock ranking on a parity (either as to dividends or upon liquidation, dissolution or winding up) (“Parity Stock”) with the shares of Series A Preferred Stock, except dividends paid ratably on the shares of Series A Preferred Stock and all such Parity Stock on which dividends are payable or in arrears in proportion to the total amounts to which the holders of all such shares are then entitled;

(C) redeem, purchase or otherwise acquire for consideration shares of any Junior Stock; provided, however, that the Corporation may at any time redeem, purchase or otherwise acquire shares of any such Junior Stock in exchange for shares of any other Junior Stock of the Corporation; or

(D) redeem, purchase or otherwise acquire for consideration any shares of Series A Preferred Stock, or any shares of Parity Stock, except in accordance with a purchase offer made in writing or by publication (as determined by the Board of Directors) to all holders of such shares upon such terms as the Board of Directors, after consideration of the respective annual dividend rates and other relative rights and preferences of the respective series and classes, may determine in good faith will result in fair and equitable treatment among the respective series or classes.

(ii) The Corporation will not permit any majority-owned subsidiary of the Corporation to purchase or otherwise acquire for consideration any shares of stock of the Corporation unless the Corporation could, under subparagraph (i) of this Section 4.3(d), purchase or otherwise acquire such shares at such time and in such manner; provided, however, the restriction set forth in this Section 4.3(d)(ii) will not apply to FBR Capital Markets Corporation.

(e) Reacquired Shares . Any shares of Series A Preferred Stock purchased or otherwise acquired by the Corporation in any manner whatsoever will be retired and canceled promptly after the acquisition thereof. All such shares will upon their cancellation, and upon the taking of any action required by applicable law, become authorized but unissued shares of Preferred Stock, undesignated as to series, and may be reissued as part of a new series of Preferred Stock as permitted by the VSCA.

(f) Liquidation, Dissolution or Winding Up . Upon any liquidation, dissolution or winding up of the Corporation, no distribution will be made to (i) the holders of shares of Junior Stock (either as to dividends or upon liquidation, dissolution or winding up) unless, prior thereto, the holders of shares

of Series A Preferred Stock have received an amount equal to sum of the accrued and unpaid dividends and distributions thereon, whether or not declared, to the date of such payment, plus an amount equal to the greater of (A) $0.01 per whole share of Series A Preferred Stock or (B) an aggregate amount per share of Series A Preferred Stock equal to the Formula Number then in effect times the aggregate amount to be distributed per share to holders of Common Stock, or (ii) to the holders of shares of Parity Stock (either as to dividends or upon liquidation, dissolution or winding up), except distributions made ratably on the shares of Series A Preferred Stock and all other such Parity Stock in proportion to the total amounts to which the holders of all such shares are entitled upon such liquidation, dissolution or winding up of the Corporation.

(g) Consolidation, Merger, Etc. In the event that the Corporation enters into any consolidation, merger, combination or other transaction in which the shares of Common Stock are exchanged for or changed into other stock or securities, cash and/or any other property, then, in each such case, each share of Series A Preferred Stock will at the same time be similarly exchanged for or changed into an amount per share equal to the Formula Number then in effect times the aggregate amount of stock, securities, cash and/or any other property (payable in kind), as the case may be, into which or for which each share of Common Stock is changed or exchanged. In the event both this Section 4.3(g) and Section 4.3(b) appear to apply to a transaction, this Section 4.3(g) shall control.

(h) Redemption . The shares of Series A Preferred Stock are not redeemable.

(i) Rank . The Series A Preferred Stock ranks, with respect to the payment of dividends and the distribution of assets, junior to all other series of the Corporation’s Preferred Stock, if any, unless the Board of Directors of the Corporation shall specifically determine otherwise in fixing the powers, preferences and relative, participating, optional and other special rights and the qualifications, limitations and restrictions of any such other series.

(j) Fractional Shares . The Series A Preferred Stock shall be issuable upon exercise of the Rights issued pursuant to the Rights Agreement in whole shares or in any fraction of a share that is one-ten thousandth (1/10,000) of a share or any integral multiple of such fraction, which shall entitle the holder, in proportion to such holder’s fractional shares, to receive dividends, exercise voting rights, participate in distributions and have the benefit of all other rights of holders of Series A Preferred Stock. In lieu of fractional shares, the Corporation, prior to the first issuance of a share or a fraction of a share of Series A Preferred Stock, may elect (i) to make a cash payment as provided in the Rights Agreement for fractions of a share other than one-ten thousandth (1/10,000) of a share or any integral multiple thereof or (b) to issue depository receipts evidencing such authorized fraction of a share of Series A Preferred Stock pursuant to an

appropriate agreement between the Corporation and a depository selected by the Corporation; provided that such agreement shall provide that the holders of such depository receipts shall have all the rights, privileges and preferences to which they are entitled as holders of the Series A Preferred Stock.

(k) Amendment . This Section 4.3 shall not hereafter be amended, either directly, indirectly or through a merger, consolidation or other business combination, in any manner that would materially alter or change the powers, preferences or special rights of the Series A Preferred Stock so as to affect the holders of the shares of Series A Preferred Stock adversely without the affirmative vote of the holders of a majority or more of the outstanding shares of Series A Preferred Stock, voting separately as a single voting group.”

4. The foregoing amendment to the Articles of Incorporation was duly adopted by the Board of Directors of the Corporation on June 1, 2009, without shareholder action, which shareholder action was not required in accordance with the Articles of Incorporation and Virginia Stock Corporation Act.

5. Pursuant to Section 13.1-606 of the Virginia Stock Corporation Act, the foregoing amendment to the Articles of Incorporation shall become effective at 12:01 a.m. on June 5, 2009.

[REMAINDER OF PAGE LEFT INTENTIONALLY BLANK]


FRIEDMAN, BILLINGS, RAMSEY GROUP, INC., a Virginia corporation

By:		/s/ Eric F. Billings
Name:		Eric Billings
Title:		Chairman of the Board and Chief Executive Officer

[Signature Page to Articles of Amendment Designating Series A Junior Preferred Stock]

COMMONWEALTH OF VIRGINIA

STATE CORPORATION COMMISSION

AT RICHMOND, JUNE 4, 2009

The State Corporation Commission has found the accompanying articles submitted on behalf of

Friedman, Billings, Ramsey Group, Inc.

to comply with the requirements of law, and confirms payment of all required fees. Therefore, it is ORDERED that this

CERTIFICATE OF AMENDMENT

be issued and admitted to record with the articles of amendment in the Office of the Clerk of the Commission, effective June 5, 2009, at 12:01 a.m.

The corporation is granted the authority conferred on it by law in accordance with the articles, subject to the conditions and restrictions imposed by law.


STATE CORPORATION COMMISSION

By		/s/ Judith Williams Jagdmann

		Commissioner

ARTICLES OF MERGER

MERGING

ORKNEY HOLDINGS, INC.,

a Delaware corporation

WITH AND INTO

FRIEDMAN, BILLINGS, RAMSEY GROUP, INC.,

a Virginia corporation

Pursuant to the provisions of Section 13.1-720 of the Virginia Stock Corporation Act, as amended (the “VSCA”), the undersigned corporations hereby execute the following Articles of Merger and set forth:

The Plan of Merger (the “Plan”), pursuant to which Orkney Holdings, Inc. (“Orkney”), a Delaware corporation, will merge (the “Orkney Merger”) with and into Friedman, Billings, Ramsey Group, Inc., a Virginia corporation (formerly named Forest Merger Corporation) (“FBR”), with FBR as the surviving corporation resulting from the merger, is attached hereto as Exhibit A and made a part hereof. The Plan constitutes the “plan of merger” for purposes of Article 12 of the VSCA.

II.

The Plan was duly approved and adopted on March 28, 2003, by the Board of Directors of FBR by unanimous written consent in accordance with Section 13.1-685 of the VSCA. Section 13.1-719.A. of the VSCA permits a corporation owning at least ninety percent of the outstanding shares of each class of a subsidiary corporation to merge the subsidiary corporation into itself without shareholder approval. FBR owns 100% of the outstanding shares of each class of Orkney. In accordance with Section 13.1-719.A. of the VSCA, approval of the shareholders of FBR was not required

III.

The Plan was duly approved and adopted on March 28, 2003, by the Board of Directors of Orkney by unanimous written consent in accordance with Section 141(f) of the General Corporation Law of the State of Delaware. Section 13.1-719.A. of the VSCA permits a corporation owning at least ninety percent of the outstanding shares of each class of a subsidiary corporation to merge the subsidiary corporation into itself without shareholder approval. In addition, Section 253 of the General Corporation Law of the State of Delaware permits a subsidiary to merge with a corporation that owns at least 90% of the outstanding shares of each class of the stock of such subsidiary, without approval of such subsidiary’s shareholders, if a certificate of ownership and merger setting forth a copy of the resolution of the board of directors to so merge is filed with the Secretary of State of the State of Delaware. FBR owns 100% of the

outstanding shares of each class of Orkney and a certificate of ownership and merger setting forth the resolutions of the board of directors of Orkney will be filed with the Secretary of State of the State of Delaware. In accordance with Section 13.1-719.A. of the VSCA and Section 253 of the General Corporation Law of the State of Delaware, approval of the shareholders of Orkney was not required.

IV.

The Certificate of Merger issued by the State Corporation Commission of Virginia in connection with the Orkney Merger shall set forth an effective time on April 14, 2003.

[Signature page follows]

IN WITNESS WHEREOF, the undersigned have executed these Articles of Merger as of the 14 ^th day of April, 2003.


ORKNEY HOLDINGS, INC., a Delaware corporation

By:		/s/ Kurt R. Harrington
Name:		Kurt R. Harrington
Title:		President and Treasurer

FRIEDMAN, BILLINGS, RAMSEY GROUP, INC., a Virginia corporation

By:		/s/ William J. Ginivan
Name:		William J. Ginivan
Title:		Chief Legal Officer

EXHIBIT A

PLAN OF MERGER

ORKNEY HOLDINGS, INC.

(A Delaware Corporation)

WITH AND INTO

FRIEDMAN, BILLINGS, RAMSEY GROUP, INC.

(A Virginia Corporation)

1. The Merger . Subject to the terms and conditions of this Plan of Merger and in accordance with the Virginia Stock Corporation Act (“VSCA”), at the Effective Time (as hereinafter defined), Orkney Holdings, Inc. (“Orkney”) shall be merged with and into Friedman, Billings, Ramsey Group, Inc. (the “Orkney Merger”), and the separate existence of Orkney shall cease, and Friedman, Billings, Ramsey Group, Inc. (“FBR”) shall continue as the surviving corporation (FBR is also sometimes referred to in this Plan of Merger as the “Surviving Corporation”) and shall succeed to and assume all the rights and obligations of Orkney in accordance with the VSCA.

2. The Closing . The closing of the Orkney Merger (the “Closing”) shall take place at the offices of Hunton & Williams, 951 East Byrd Street, Richmond, Virginia 23219, at 10:00 a.m. local time, on a mutually agreeable date to be specified by the parties hereto.

3. Effective Time . The Orkney Merger shall become effective on April 14, 2003, which effective time and date shall be specified in the Certificate of Merger to be issued by the State Corporation Commission of the Commonwealth of Virginia (the “Effective Time”).

4. Effect of the ORKNEY Merger . The Orkney Merger shall have the effect set forth in the VSCA.

5. Articles of Incorporation and Bylaws . The Articles of Incorporation and Bylaws of FBR, as in effect immediately prior to the Effective Time, shall be the Articles of Incorporation and Bylaws of the Surviving Corporation of the Orkney Merger.

6. Directors and Officers . The directors of FBR immediately prior to the Effective Time shall be the directors of the Surviving Corporation, each to hold office until the earlier of such person’s resignation or removal or until a successor is duly elected and qualified, as the case may be. The officers of FBR immediately prior to the Effective Time shall be the officers of the Surviving Corporation, each to hold office until the earlier of such person’s resignation or removal or until a successor is duly elected and qualified, as the case may be.

7. Cancellation of Shares . At the Effective Time, each share of capital stock of Orkney issued and outstanding immediately prior to the Effective Time shall be cancelled.

8. Amendment . At any time before the Effective Time, this Plan of Merger may be amended, provided that any such amendment is approved by the Boards of Directors of Orkney and FBR.

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COMMONWEALTH OF VIRGINIA

STATE CORPORATION COMMISSION

April 14, 2003

The State Corporation Commission finds the accompanying articles submitted on behalf of

FRIEDMAN, BILLINGS, RAMSEY GROUP, INC.

to comply with the requirements of law. Therefore, it is ORDERED that this

CERTIFICATE OF MERGER

be issued and admitted to record with the articles in the office of the Clerk of the Commission. Each of the following:

ORKNEY HOLDINGS, INC. (A DE CORPORATION NOT

QUALIFIED IN VA)

is merged into FRIEDMAN, BILLINGS, RAMSEY GROUP, INC., which continues to exist under the laws of VIRGINIA with the name FRIEDMAN, BILLINGS, RAMSEY GROUP, INC. The existence of each non-surviving entity ceases, according to the plan of merger.

The certificate is effective on April 14, 2003.


STATE CORPORATION COMMISSION

By		/s/ T.V. Morrison, Jr.

		Commissioner

ARTICLES OF MERGER

MERGING

FRIEDMAN, BILLINGS, RAMSEY INVESTMENT MANAGEMENT, INC.,

a Delaware corporation

WITH AND INTO

FRIEDMAN, BILLINGS, RAMSEY GROUP, INC.,

a Virginia corporation

The Plan of Merger (the “Plan”), pursuant to which Friedman, Billings, Ramsey Investment Management, Inc. (“FBRIM”), a Delaware corporation, will merge (the “FBRIM Merger”) with and into Friedman, Billings, Ramsey Group, Inc., a Virginia corporation (formerly named Forest Merger Corporation) (the “FBR”), with FBR as the surviving corporation resulting from the merger, is attached hereto as Exhibit A and made a part hereof. The Plan constitutes the “plan of merger” for purposes of Article 12 of the VSCA.

II.

The Plan was duly approved and adopted on March 28, 2003, by the Board of Directors of FBR by unanimous written consent in accordance with Section 13.1-685 of the VSCA. Section 13.1-719.A. of the VSCA permits a corporation owning at least ninety percent of the outstanding shares of each class of a subsidiary corporation to merge the subsidiary corporation into itself without shareholder approval. FBR owns 100% of the outstanding shares of each class of FBRIM. In accordance with Section 13.1-719.A. of the VSCA, approval of the shareholders of FBR was not required.

III.

The Plan was duly approved and adopted on March 28, 2003, by the Board of Directors of FBRIM by unanimous written consent in accordance with Section 141(f) of the General Corporation Law of the State of Delaware. Section 13.1-719.A. of the VSCA permits a corporation owning at least ninety percent of the outstanding shares of each class of a subsidiary corporation to merge the subsidiary corporation into itself without shareholder approval. In addition, Section 253 of the General Corporation Law of the State of Delaware permits a subsidiary to merge with a corporation that owns at least 90% of the outstanding shares of each class of the stock of such subsidiary, without approval of such subsidiary’s shareholders, if a certificate of ownership and merger setting forth a copy of the resolution of the board of directors to so merge is filed with the Secretary of State of the State of Delaware. FBR owns 100% of the

outstanding shares of each class of FBRIM and a certificate of ownership and merger setting forth the resolutions of the board of directors of FBRIM will be filed with the Secretary of State of the State of Delaware. In accordance with Section 13.1-719.A. of the VSCA and Section 253 of the General Corporation Law of the State of Delaware, approval of the shareholders of FBRIM was not required.

IV.

The Certificate of Merger issued by the State Corporation Commission of Virginia in connection with the FBRIM Merger shall set forth an effective time of 9:00 a.m. on April 14, 2003.

[Signature page follows]

IN WITNESS WHEREOF, the undersigned have executed these Articles of Merger as of the 14 ^th day of April, 2003.


FRIEDMAN, BILLINGS, RAMSEY INVESTMENT MANAGEMENT, INC., a Delaware corporation

By:		/s/ Kurt R. Harrington
Name:		Kurt R. Harrington
Title:		CFO & Treasurer

FRIEDMAN, BILLINGS, RAMSEY GROUP, INC., a Virginia corporation

By:		/s/ William J. Ginivan
Name:		William J. Ginivan
Title:		Chief Legal Officer

EXHIBIT A

PLAN OF MERGER

FRIEDMAN, BILLINGS, RAMSEY INVESTMENT MANAGEMENT, INC.

(A Delaware Corporation)

WITH AND INTO

FRIEDMAN, BILLINGS, RAMSEY GROUP, INC.

(A Virginia Corporation)

1. The Merger . Subject to the terms and conditions of this Plan of Merger and in accordance with the Virginia Stock Corporation Act (“VSCA”), at the Effective Time (as hereinafter defined), Friedman, Billings, Ramsey Investment Management, Inc. (“FBRIM”) shall be merged with and into Friedman, Billings, Ramsey Group, Inc. (the “FBRIM Merger”), and the separate existence of FBRIM shall cease, and Friedman, Billings, Ramsey Group, Inc. (“FBR”) shall continue as the surviving corporation (FBR is also sometimes referred to in this Plan of Merger as the “Surviving Corporation”) and shall succeed to and assume all the rights and obligations of FBRIM in accordance with the VSCA.

2. The Closing . The closing of the FBRIM Merger (the “Closing”) shall take place at the offices of Hunton & Williams, 951 East Byrd Street, Richmond, Virginia 23219, at 10:00 a.m. local time, on a mutually agreeable date to be specified by the parties hereto.

3. Effective Time . The FBRIM Merger shall become effective on April 14, 2003, which effective time and date shall be specified in the Certificate of Merger to be issued by the State Corporation Commission of the Commonwealth of Virginia (the “Effective Time”).

4. Effect of the FBRIM Merger . The FBRIM Merger shall have the effect set forth in the VSCA.

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7. Cancellation of Shares . At the Effective Time, each share of capital stock of FBRIM issued and outstanding immediately prior to the Effective Time shall be cancelled.

8. Amendment . At any time before the Effective Time, this Plan of Merger may be amended, provided that any such amendment is approved by the Boards of Directors of FBRIM and FBR.

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COMMONWEALTH OF VIRGINIA

STATE CORPORATION COMMISSION

April 14, 2003

The State Corporation Commission finds the accompanying articles submitted on behalf of

FRIEDMAN, BILLINGS, RAMSEY GROUP, INC.

to comply with the requirements of law. Therefore, it is ORDERED that this

CERTIFICATE OF MERGER

be issued and admitted to record with the articles in the office of the Clerk of the Commission. Each of the following:

FRIEDMAN, BILLINGS, RAMSEY INVESTMENT MANAGEMENT, INC.

The certificate is effective on April 14, 2003 at 9:00 a.m.


STATE CORPORATION COMMISSION

By		/s/ T.V. Morrison, Jr.

		Commissioner

ARTICLES OF MERGER

MERGING

FBR CAPITAL MANAGEMENT, INC.,

a Delaware corporation

WITH AND INTO

FRIEDMAN, BILLINGS, RAMSEY GROUP, INC.,

a Virginia corporation

The Plan of Merger (the “Plan”), pursuant to which FBR Capital Management, Inc. (“FBR Capital”), a Delaware corporation, will merge (the “FBR Capital Merger”) with and into Friedman, Billings, Ramsey Group, Inc., a Virginia corporation (formerly named Forest Merger Corporation) (the “FBR”), with FBR as the surviving corporation resulting from the merger, is attached hereto as Exhibit A and made a part hereof. The Plan constitutes the “plan of merger” for purposes of Article 12 of the VSCA.

II.

The Plan was duly approved and adopted on March 28, 2003, by the Board of Directors of FBR by unanimous written consent in accordance with Section 13.1-685 of the VSCA. Section 13.1-719.A. of the VSCA permits a corporation owning at least ninety percent of the outstanding shares of each class of a subsidiary corporation to merge the subsidiary corporation into itself without shareholder approval. FBR owns 100% of the outstanding shares of each class of FBR Capital. In accordance with Section 13.1-719.A. of the VSCA, approval of the shareholders of FBR was not required

III.

The Plan was duly approved and adopted on March 28, 2003, by the Board of Directors of FBR Capital by unanimous written consent in accordance with Section 141(f) of the General Corporation Law of the State of Delaware. Section 13.1-719.A. of the VSCA permits a corporation owning at least ninety percent of the outstanding shares of each class of a subsidiary corporation to merge the subsidiary corporation into itself without shareholder approval. In addition, Section 253 of the General Corporation Law of the State of Delaware permits a subsidiary to merge with a corporation that owns at least 90% of the outstanding shares of each class of the stock of such subsidiary, without approval of such subsidiary’s shareholders, if a certificate of ownership and merger setting forth a copy of the resolution of the board of directors to so merge is filed with the Secretary of State of the State of Delaware. FBR owns 100% of the

outstanding shares of each class of FBR Capital and a certificate of ownership and merger setting forth the resolutions of the board of directors of FBR Capital will be filed with the Secretary of State of the State of Delaware. In accordance with Section 13.1-719.A. of the VSCA and Section 253 of the General Corporation Law of the State of Delaware, approval of the shareholders of FBR Capital was not required.

IV.

The Certificate of Merger issued by the State Corporation Commission of Virginia in connection with the FBR Capital Merger shall set forth an effective time of 9:00 a.m. on April 14, 2003.

[Signature page follows]

IN WITNESS WHEREOF, the undersigned have executed these Articles of Merger as of the 14 ^th day of April, 2003.


FBR CAPITAL MANAGEMENT, INC., a Delaware corporation

By:		/s/ Kurt R. Harrington
Name:		Kurt R. Harrington
Title:		CFO & Treasurer

FRIEDMAN, BILLINGS, RAMSEY GROUP, INC., a Virginia corporation

By:		/s/ William J. Ginivan
Name:		William J. Ginivan
Title:		General Counsel

EXHIBIT A

PLAN OF MERGER

FBR CAPITAL MANAGEMENT, INC.

(A Delaware Corporation)

WITH AND INTO

FRIEDMAN, BILLINGS, RAMSEY GROUP, INC.

(A Virginia Corporation)

1. The Merger . Subject to the terms and conditions of this Plan of Merger and in accordance with the Virginia Stock Corporation Act (“VSCA”), at the Effective Time (as hereinafter defined), FBR Capital Management, Inc. (“FBR Capital”) shall be merged with and into Friedman, Billings, Ramsey Group, Inc. (the “FBR Capital Merger”), and the separate existence of FBR Capital shall cease, and Friedman, Billings, Ramsey Group, Inc. (“FBR”) shall continue as the surviving corporation (FBR is also sometimes referred to in this Plan of Merger as the “Surviving Corporation”) and shall succeed to and assume all the rights and obligations of FBR Capital in accordance with the VSCA.

2. The Closing . The closing of the FBR Capital Merger (the “Closing”) shall take place at the offices of Hunton & Williams, 951 East Byrd Street, Richmond, Virginia 23219, at 10:00 a.m. local time, on a mutually agreeable date to be specified by the parties hereto.

3. Effective Time . The FBR Capital Merger shall become effective on April 14, 2003, which effective time and date shall be specified in the Certificate of Merger to be issued by the State Corporation Commission of the Commonwealth of Virginia (the “Effective Time”).

4. Effect of the FBR Capital Merger . The FBR Capital Merger shall have the effect set forth in the VSCA.

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7. Cancellation of Shares . At the Effective Time, each share of capital stock of FBR Capital issued and outstanding immediately prior to the Effective Time shall be cancelled.

8. Amendment . At any time before the Effective Time, this Plan of Merger may be amended, provided that any such amendment is approved by the Boards of Directors of FBR Capital and FBR.

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COMMONWEALTH OF VIRGINIA

STATE CORPORATION COMMISSION

April 14, 2003

The State Corporation Commission finds the accompanying articles submitted on behalf of

FRIEDMAN, BILLINGS, RAMSEY GROUP, INC.

to comply with the requirements of law. Therefore, it is ORDERED that this

CERTIFICATE OF MERGER

be issued and admitted to record with the articles in the office of the Clerk of the Commission. Each of the following:

FBR Capital Management, Inc.

The certificate is effective on April 14, 2003 at 9:00 a.m.


STATE CORPORATION COMMISSION

By		/s/ T.V. Morrison, Jr.

		Commissioner

ARTICLES OF MERGER

MERGING

FRIEDMAN, BILLINGS, RAMSEY GROUP, INC.,

a Virginia corporation

WITH AND INTO

FOREST MERGER CORPORATION,

a Virginia corporation

The Plan of Merger (the “Plan”), pursuant to which Friedman, Billings, Ramsey Group, Inc. (“FBR Group”), a Virginia corporation, will merge (the “FBR Group Merger”) with and into Forest Merger Corporation, a Virginia corporation (the “Forest”), is attached hereto as Exhibit A and made a part hereof. The Plan constitutes the “plan of merger” for purposes of Article 12 of the VSCA.

II.

The Plan was duly approved and adopted on, November 14, 2002, by the sole shareholder of Forest by written consent of the sole shareholder in accordance with Section 13.1-657 of the VSCA.

III.

The Plan was submitted to the shareholders of FBR Group by the board of directors of FBR Group in accordance with the provisions of the VSCA.

The designation, number of outstanding shares and number of votes entitled to be cast by each FBR Group shareholder voting group entitled to vote separately on the Plan were:

Designation

No. of Outstanding Shares

No. of Votes Entitled to be Cast

Common Stock, par value $0.01

per share, Class A and Class B

51,117,122

103,611,320

The total number of votes cast for and against the Plan by each voting group entitled to vote separately on the Plan were:

Voting Group

Total No. of Votes

Cast FOR the Plan

Total No. of Votes Cast

AGAINST the Plan

Total No. of Votes

ABSTAINING

Common Stock, par value $0.01

per share, Class A and Class B

91,144,821

54,314

5,433

The total number of votes cast for the Plan by each voting group was sufficient for approval by that voting group.

IV.

The certificate of merger issued by the State Corporation Commission of Virginia in connection with the FBR Group Merger shall become effective as of 1:01 am on March 31, 2003.

[Signature page follows.]

IN WITNESS WHEREOF, the undersigned have executed these Articles of Merger as of the 31 ^st day of March, 2003.


FRIEDMAN, BILLINGS, RAMSEY GROUP, INC., a Virginia corporation

By:		/s/ Emanuel J. Friedman
Name:		Emanuel J. Friedman
Title:		Chairman and Co-Chief Executive Officer

FOREST MERGER CORPORATION, a Virginia corporation

By:		/s/ Richard J. Hendrix
Name:		Richard J. Hendrix
Title:		President

EXHIBIT A

PLAN OF MERGER

FRIEDMAN, BILLINGS, RAMSEY GROUP, INC.

(A Virginia Corporation)

WITH AND INTO

FOREST MERGER CORPORATION

(A Virginia Corporation)

1. The Merger . Subject to the terms and conditions of (a) this Plan of Merger and (b) the Agreement and Plan of Merger, dated as of November 14, 2002 (the “Merger Agreement”), by and among FBR Asset Investment Corporation (“FBR Asset”), Friedman, Billings, Ramsey Group, Inc. (“FBR Group”) and Forest Merger Corporation (“Forest”), and in accordance with the Virginia Stock Corporation Act (“VSCA”), at the Effective Time (as hereinafter defined), FBR Group shall be merged with and into Forest (the “FBR Group Merger”), and the separate existence of FBR Group shall cease, and Forest shall continue as the surviving corporation (Forest is also sometimes referred to in this Plan of Merger as the “Surviving Corporation”) and shall succeed to and assume all the rights and obligations of FBR Group in accordance with the VSCA.

2. The Closing . Subject to the terms and conditions of the Merger Agreement, the closing of the FBR Group Merger (the “Closing”) shall take place (a) at the offices of Wachtell, Lipton, Rosen & Katz, at 51 West 52 ^nd Street, New York, NY, at 10:00 a.m. local time, on a mutually agreeable date to be specified by the parties hereto, which (subject to satisfaction or waiver of all of the conditions set forth in Article V of the Merger Agreement) shall be no later than the second business day after satisfaction of the conditions set forth in Section 5.1(a) and Section 5.1(b) of the Merger Agreement, unless otherwise agreed in writing by the parties hereto.

3. Effective Time . The FBR Group Merger shall become effective at 1:01 a.m. on March 31, 2003, which effective time and date shall be specified in the Certificate of Merger to be issued by the State Corporation Commission of the Commonwealth of Virginia (the “Effective Time”).

4. Effect of the FBR Group Merger . The FBR Group Merger shall have the effect set forth in the VSCA.

5. Articles of Incorporation and By-Laws; Name of Surviving Corporation . The Articles of Incorporation and By-Laws of Forest, in each case as in effect immediately prior to the Effective Time, shall be the Articles of Incorporation and By-Laws of the Surviving Corporation; provided, however , that the Articles of Incorporation of the Surviving Corporation

shall be amended as of the Effective Time, without the need for any further action on the part of the Surviving Corporation or its Board of Directors, to change the name of the Surviving Corporation to “Friedman, Billings, Ramsey Group, Inc.”

6. Directors and Officers . At the Effective Time, the directors of Forest immediately following the FBR Group Merger shall be those Persons listed on Schedule 1 hereto, each to hold office until the earlier of such person’s resignation or removal or until a successor is duly elected and qualified, as the case may be. The officers of FBR Group immediately prior to the Effective Time shall be the initial officers of the Surviving Corporation following the FBR Group Merger, each to hold office until the earlier of such person’s resignation or removal or until a success or is duly elected and qualified, as the case may be.

7. Conversion of Shares, Cancellation of Shares .

(a) At the Effective Time, each FBR Group Class A Common Share issued and outstanding immediately prior to the Effective Time (other than shares held directly by FBR Group or Forest (as successor to FBR Asset) at the Effective Time (and not through a subsidiary), which FBR Group Class A Common Shares, by virtue of the FBR Group Merger and without any action on the part of the holder thereof, shall be cancelled and retired and shall cease to exist with no payment being made with respect thereto) shall be converted into the right to receive one Forest Class A Common Share (the “FBR Group Class A Merger Consideration”) and each FBR Group Class B Common Share issued and outstanding immediately prior to the Effective Time (other than shares held directly by FBR Group or Forest (as successor to FBR Asset) at the Effective Time (and not through a subsidiary), which FBR Group Class B Common Shares, by virtue of the FBR Group Merger and without any action on the part of the holder thereof, shall be cancelled and retired and shall cease to exist with no payment being made with respect thereto) shall be converted into the right to receive one Forest Class B Common Share (the “FBR Group Class B Merger Consideration,” and together with the “FBR Group Class A Merger Consideration, the “FBR Group Merger Consideration”).

(b) At the Effective Time, the holders of such certificates previously evidencing the FBR Group Class A Common Shares and FBR Group Class B Common Shares (collectively, the “FBR Group Common Shares”) outstanding immediately prior to the Effective Time (collectively, the “Certificates”) shall cease to have any rights with respect to such FBR Group Class A Common Shares and FBR Group Class B Common Shares, other than the right to receive the FBR Group Class A Merger Consideration or FBR Group Class B Merger Consideration, as applicable, for each such FBR Group Class A Common Share or FBR Group Class B Common Share or as otherwise provided herein or by law (including the right to receive dividends permitted hereby). Such FBR Group Class A Common Shares and FBR Group Class B Common Shares shall, by virtue of the FBR Group Merger and without any action on the part of Forest or FBR Group or the holder thereof, be cancelled, retired and cease to exist, and no payment shall be made with respect thereto except as provided for herein.

(c) At the Effective Time, shares of common stock of Forest issued and outstanding immediately prior to the Effective Time shall be cancelled.

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8. Exchange Procedures .

(a) Pursuant to Section 1.8(a) of the Merger Agreement, prior to the Effective Time, Forest shall appoint American Stock Transfer & Trust Company, or another bank or trust company reasonably acceptable to FBR Group to act as exchange agent (the “Exchange Agent”) for the exchange of the FBR Group Merger Consideration for the issued and outstanding FBR Group Common Shares.

(b) Pursuant to Section 1.8(b) of the Merger Agreement, Forest shall provide to the Exchange Agent on or before the Effective Time, for the benefit of the holders of FBR Group Class A Common Shares and FBR Group Class B Common Shares, a sufficient number of Forest Class A Common Shares and Forest Class B Common Shares issuable in exchange for the issued and outstanding FBR Group Class A Common Shares and FBR Group Class B Common Shares pursuant to Sections 1.7 and 1.8(e) of the Merger Agreement.

(c) Pursuant to Section 1.8(c) of the Merger Agreement, as soon as reasonably practicable after the Effective Time, the Exchange Agent shall mail to each holder of record of outstanding FBR Group Class A Common Shares or FBR Group Class B Common Shares that were converted into the right to receive the FBR Group Merger Consideration, pursuant to Section 1.7 of the Merger Agreement, a letter of notification (which shall be in a form and have such other provisions as FBR Group may reasonably require) describing the FBR Group Merger Consideration issued to each such holder as a consequence of the FBR Group Merger and describing the procedures for surrendering their Certificates in exchange for new certificates representing the FBR Group Class A Merger Consideration or the FBR Group Class B Merger Consideration.

(d) Pursuant to Section 1.8(d) of the Merger Agreement, all FBR Group Merger Consideration issued upon exchange of FBR Group Class A Common Shares or FBR Group Class B Common Shares in accordance with the terms of Article I of the Merger Agreement shall be deemed to have been issued in full satisfaction of all rights pertaining to such FBR Group Class A Common Shares or FBR Group Class B Common Shares subject, however, to the obligations of FBR Group to pay, without interest and not more than 60 days following the Effective Time, any dividends or make any other distributions with a record date prior to the Effective Time which may have been declared or made by FBR Group on such shares in accordance with the terms of the Merger Agreement or prior to the date of the Merger Agreement and which remain unpaid at the Effective Time and have not been paid prior to such exchange, and there shall be no further registration of transfers on the stock transfer books of FBR Group of the FBR Group Class A Common Shares and FBR Group Class B Common Shares that were outstanding immediately prior to the Effective Time, as applicable.

(e) Pursuant to Section 1.8(f) of the Merger Agreement, in the event that any Certificate shall have been lost, stolen or destroyed, the Exchange Agent shall pay or issue (as applicable) in exchange therefor, upon the making of an affidavit of that fact and, if the Surviving Corporation so requires, the delivery of a reasonably suitable bond or indemnity by the holder thereof, such FBR Group Merger Consideration as may be required pursuant to the Merger Agreement.

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(f) Pursuant to Section 1.8(g) of the Merger Agreement, none of Forest, FBR Group or the Exchange Agent shall be liable to any person in respect of any FBR Group Merger Consideration delivered to a public official pursuant to any applicable abandoned property, escheat or similar law. Any portion of the FBR Group Merger Consideration delivered to the Exchange Agent pursuant to the Merger Agreement that remains unclaimed for six months after the Effective Time shall be redelivered by the Exchange Agent to the Surviving Corporation, upon demand, and any holders of FBR Group Class A Common Shares or FBR Group Class B Common Shares which have not been exchanged as contemplated by Section 1.7(f) of the Merger Agreement and shall thereafter look only to the Surviving Corporation for delivery of the FBR Group Merger Consideration subject to applicable abandoned property, escheat and other similar laws.

9. Stock Option and Other Plans . Pursuant to Section 1.9(b) of the Merger Agreement, at the Effective Time, each option granted by FBR Group to purchase FBR Group Class A Common Shares (“FBR Group Stock Option”) which is outstanding and unexercised immediately prior thereto shall cease to represent a right to acquire FBR Group Class A Common Shares and shall be converted automatically into an option to purchase a number of Forest Class A Common Shares equal to the number of FBR Group Class A Common Shares subject to such option immediately prior to the Effective Time at an exercise price per Forest Class A Common Share equal to the exercise price per FBR Group Class A Common Shares in effect immediately prior to the Effective Time (and shall otherwise be subject to the terms of the FBR Group stock option plan pursuant to which such option has been issued and the agreement evidencing such grant thereunder). The adjustment provided herein with respect to any FBR Group Stock Options which are “incentive stock options” (as defined in Section 422 of the Internal Revenue Code) shall be and is intended to be effected in a manner which is consistent with Section 424(a) of the Internal Revenue Code.

10. No Right to Dissent . Pursuant to Section 13.1-730.C of the Virginia Code, holders of FBR Group Common Stock shall have no right to dissent from the Merger.

11. Termination . Prior to the Effective Time, this Plan of Merger shall terminate and be abandoned upon a termination of the Agreement, notwithstanding approval of this Plan of Merger by the shareholders of FBR Group and Forest.

12. Amendment . At any time before the Effective Time, this Plan of Merger may be amended, provided that: (i) any such amendment is approved by the Boards of Directors of FBR Group and Forest; and (ii) no such amendment made subsequent to the submission of this Plan of Merger to the shareholders of FBR Group and Forest shall have any of the effects specified in Section 13.1-718.I of the Virginia Code without the approval of the shareholders affected thereby.

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Schedule I

Directors

Daniel J. Altobello

Eric F. Billings

Emanuel J. Friedman

Peter A. Gallagher

Stephen D. Harlan

Russell C. Lindner

W. Russell Ramsey

Wallace L. Timmeny

John T. Wall

COMMONWEALTH OF VIRGINIA

STATE CORPORATION COMMISSION

March 28, 2003

The State Corporation Commission finds the accompanying articles submitted on behalf of

Friedman, Billings, Ramsey Group, Inc.

to comply with the requirements of law. Therefore, it is ORDERED that this

CERTIFICATE OF MERGER

be issued and admitted to record with the articles in the office of the Clerk of the Commission. Each of the following:

FRIEDMAN, BILLINGS, RAMSEY GROUP, INC.

is merged into Friedman, Billings, Ramsey Group, Inc. (formerly Forest Merger Corporation), which continues to exist under the laws of VIRGINIA with the name Friedman, Billings, Ramsey Group, Inc. The existence of each non-surviving entity ceases, according to the plan of merger.

The certificate is effective on March 31, 2003 at 1:01 a.m.


STATE CORPORATION COMMISSION

By		/s/ T.V. Morrison, Jr.

		Commissioner

ARTICLES OF MERGER

MERGING

FBR ASSET INVESTMENT CORPORATION,

a Virginia corporation

WITH AND INTO

FOREST MERGER CORPORATION,

a Virginia corporation

The Plan of Merger (the “Plan”), pursuant to which FBR Asset Investment Corporation (“FBR Asset”), a Virginia corporation, will merge (the “FBR Asset Merger”) with and into Forest Merger Corporation, a Virginia corporation (the “Forest”), is attached hereto as Exhibit A and made a part hereof. The Plan constitutes the “plan of merger” for purposes of Article 12 of the VSCA.

II.

The Plan was duly approved and adopted on, November 14, 2002, by the sole shareholder of Forest by written consent of the sole shareholder in accordance with Section 13.1-657 of the VSCA.

III.

The Plan was submitted to the shareholders of FBR Asset by the board of directors of FBR Asset in accordance with the provisions of the VSCA.

The designation, number of outstanding shares and number of votes entitled to be cast by each FBR Asset shareholder voting group entitled to vote separately on the Plan were:

Designation

No. of Outstanding Shares

No. of Votes Entitled to be Cast

Common Stock, par value

$0.01 per share

26,154,704

The total number of votes cast for and against the Plan by each voting group entitled to vote separately on the Plan were:

Voting Group

Total No. of Votes

Cast FOR the Plan

Total No. of Votes Cast

AGAINST the Plan

Total No. of Votes

ABSTAINING

Common Stock, par value

$0.01 per share

18,247,872

714,133

229,916

The total number of votes cast for the Plan by each voting group was sufficient for approval by that voting group.

IV.

The certificate of merger issued by the State Corporation Commission of Virginia in connection with the FBR Asset Merger shall become effective as of 12:01 a.m. on March 31, 2003.

[Signature page follows.]

IN WITNESS WHEREOF, the undersigned have executed these Articles of Merger as of the 31 ^st day of March, 2003.


FBR ASSET INVESTMENT CORPORATION, a Virginia corporation

By:		/s/ Eric F. Billings
Name:		Eric F. Billings
Title:		Chairman and Chief Executive Officer

FOREST MERGER CORPORATION, a Virginia corporation

By:		/s/ Richard J. Hendrix
Name:		Richard J. Hendrix
Title:		President

EXHIBIT A

PLAN OF MERGER

FBR ASSET INVESTMENT CORPORATION

(A Virginia Corporation)

WITH AND INTO

FOREST MERGER CORPORATION

(A Virginia Corporation)

1. The Merger . Subject to the terms and conditions of (a) this Plan of Merger and (b) the Agreement and Plan of Merger, dated as of November 14, 2002 (the “Merger Agreement”), by and among FBR Asset Investment Corporation (“FBR Asset”), Friedman, Billings, Ramsey Group, Inc. (“FBR Group”) and Forest Merger Corporation (“Forest”), and in accordance with the Virginia Stock Corporation Act (“VSCA”), at the Effective Time (as hereinafter defined), FBR Asset shall be merged with and into Forest (the “FBR Asset Merger”), and the separate existence of FBR Asset shall cease, and Forest shall continue as the surviving corporation (Forest is also sometimes referred to in this Plan of Merger as the “Surviving Corporation”) and shall succeed to and assume all the rights and obligations of FBR Asset in accordance with the VSCA.

2. The Closing . Subject to the terms and conditions of the Merger Agreement, the closing of the FBR Asset Merger (the “Closing”) shall take place (a) at the offices of Wachtell, Lipton, Rosen & Katz, at 51 West 52 ^nd Street, New York, NY, at 10:00 a.m. local time, on a mutually agreeable date to be specified by the parties hereto, which (subject to satisfaction or waiver of all of the conditions set forth in Article V of the Merger Agreement) shall be no later than the second business day after satisfaction of the conditions set forth in Section 5.1(a) and Section 5.1(b) of the Merger Agreement, unless otherwise agreed in writing by the parties hereto.

3. Effective Time . The FBR Asset Merger shall become effective at 12:01 a.m. on March 31, 2003, which effective time and date shall be specified in the Certificate of Merger to be issued by the State Corporation Commission of the Commonwealth of Virginia (the “Effective Time”).

4. Effect of the FBR Asset Merger . The FBR Asset Merger shall have the effect set forth in the VSCA.

5. Articles of Incorporation and By-Laws . The Articles of Incorporation and By-Laws of Forest, in each case as in effect immediately prior to the Effective Time, shall be the Articles of Incorporation and By-Laws of the surviving corporation of the FBR Asset Merger.

6. Directors and Officers . Immediately after the Effective Time and the effective time of the subsequent merger of FBR Group with and into Forest (“FBR Group Merger”) the directors of Forest shall be those Persons listed on Schedule I hereto, each to hold office until the earlier of such person’s resignation or removal or until a successor is duly elected and qualified, as the case may be. The officers of FBR Group immediately prior to the effective time of the FBR Group Merger shall be the initial officers of the Surviving Corporation following both the FBR Asset Merger and the FBR Group Merger, each to hold office until the earlier of such person’s resignation or removal or until a successor is duly elected and qualified, as the case may be.

7. Conversion of Shares, Cancellation of Shares .

(a) At the Effective Time, each FBR Asset Share issued and outstanding immediately prior to the Effective Time (other than FBR Asset Shares held directly by FBR Group or FBR Asset at the Effective Time (and not through a subsidiary), which FBR Asset Shares, by virtue of the FBR Asset Merger and without any action on the part of the holder thereof, shall be cancelled and retired and shall cease to exist with no payment being made with respect thereto) shall be converted into the right to receive 3.65 shares of Class A Common Stock, par value $0.01 per share, of Forest (“Forest Class A Common Shares”) and cash in lieu of fractional shares (the “FBR Asset Merger Consideration”).

(b) At the Effective Time, the holders of such certificates previously evidencing the FBR Asset Shares outstanding immediately prior to the Effective Time (collectively, the “Certificates”) shall cease to have any rights with respect to such FBR Asset Shares, other than the right to receive the FBR Asset Merger Consideration, for each such FBR Asset Share, or as otherwise provided herein or by law (including the right to receive dividends permitted hereby). Such FBR Asset Shares shall, by virtue of the FBR Asset Merger and without any action on the part of Forest, FBR Asset or the holder thereof, be cancelled, retired and cease to exist, and no payment shall be made with respect thereto except as provided for herein.

(c) At the Effective Time, the shares of common stock of Forest issued and outstanding immediately prior to the Effective Time shall be cancelled.

8. Exchange Procedures .

(a) Pursuant to Section 1.8(a) of the Merger Agreement, prior to the Effective Time, Forest shall appoint American Stock Transfer & Trust Company, or another bank or trust company reasonably acceptable to FBR Asset to act as exchange agent (the “Exchange Agent”) for the exchange of the FBR Asset Merger Consideration for the issued and outstanding FBR Asset Shares.

(b) Pursuant to Section 1.8(b) of the Merger Agreement, Forest shall provide to the Exchange Agent on or before the Effective Time, for the benefit of the holders of FBR Asset Shares, a sufficient number of Forest Class A Common Shares issuable in exchange for the issued and outstanding FBR Asset Shares pursuant to Sections 1.7 and 1.8(e) of the Merger Agreement.

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(c) Pursuant to Section 1.8(c) of the Merger Agreement, as soon as reasonably practicable after the Effective Time, the Exchange Agent shall mail to each holder of record of outstanding FBR Asset Shares that were converted into the right to receive the FBR Asset Merger Consideration, pursuant to Section 1.7 of the Merger Agreement a letter of notification (which shall be in a form and have such other provisions as FBR Asset may reasonably require) describing the FBR Asset Merger Consideration issued to each such holder as a consequence of the FBR Asset Merger and describing the procedures for surrendering their Certificates in exchange for new certificates representing the FBR Asset Merger Consideration.

(d) Pursuant to Section 1.8(d) of the Merger Agreement, all FBR Asset Merger Consideration issued upon exchange of FBR Asset Shares in accordance with the terms of Article I of the Merger Agreement shall be deemed to have been issued in full satisfaction of all rights pertaining to such FBR Asset Shares subject, however, to the obligations of FBR Asset to pay, without interest and not more than 60 days following the Effective Time, any dividends or make any other distributions with a record date prior to the Effective Time which may have been declared or made by FBR Asset on such shares in accordance with the terms of the Merger Agreement or prior to the date of the Merger Agreement and which remain unpaid at the Effective Time and have not been paid prior to such exchange, and there shall be no further registration of transfers on the stock transfer books of FBR Asset of the FBR Asset Shares that were outstanding immediately prior to the Effective Time.

(e) Pursuant to Section 1.8(e) of the Merger Agreement, no fractional Forest Class A Common Shares shall be issued or delivered in the FBR Asset Merger. In lieu of any such fractional shares, each holder of FBR Asset Shares who would otherwise have been entitled to a fraction of a Forest Class A Common Share upon the effectiveness of the FBR Asset Merger and the surrender of Certificates for exchange pursuant to this Section 8 will be paid an amount in cash (without interest) equal to such holder’s proportionate interest in the proceeds from the sale or sales in the open market by the Exchange Agent, on behalf of all such holders, of the aggregate fractional Forest Class A Common Shares of which, but for this Section 8(e), would be issuable in the FBR Asset Merger. As soon as practicable following the Effective Time, the Exchange Agent shall determine the excess of (i) the number of full Forest Class A Common Shares delivered to the Exchange Agent by Forest, as described in Section 8(b) hereto, over (ii) the aggregate number of full Forest Class A Common Shares to be distributed to holders or former holders of FBR Asset Shares hereunder (such excess being herein called the “Excess Shares”). The Exchange Agent, as agent for the former holders of FBR Asset Shares, shall sell the Excess Shares at the prevailing prices on the New York Stock Exchange (the “NYSE”). The sales of the Excess Shares by the Exchange Agent shall be executed on the NYSE through one or more member firms of the NYSE and shall be executed in round lots to the extent practicable. All commissions, transfer taxes and other out-of-pocket transaction costs, if any, including the expenses and compensation, if any, of the Exchange Agent, incurred in connection with such sale of Excess Shares paid by the Surviving Corporation. Until the proceeds of such sale have been distributed to the holders and former holders of FBR Asset Shares, the Exchange Agent will hold such proceeds in trust for such holders and former holders (the “Fractional Fund”). As soon as practicable after the determination of the amount of cash to be paid to former holders of FBR Asset Shares in lieu of any fractional interests, the Exchange Agent shall make available in accordance with this Agreement such amounts to such holders and former holders.

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(f) Pursuant to Section 1.8(f) of the Merger Agreement, in the event that any Certificate shall have been lost, stolen or destroyed, the Exchange Agent shall pay or issue (as applicable) in exchange therefor, upon the making of an affidavit of that fact and, if the Surviving Corporation so requires, the delivery of a reasonably suitable bond or indemnity by the holder thereof, such FBR Asset Merger Consideration as may be required pursuant to the Merger Agreement.

(g) Pursuant to Section 1.8(g) of the Merger Agreement, none of Forest, FBR Asset or the Exchange Agent shall be liable to any person in respect of any FBR Asset Merger Consideration delivered to a public official pursuant to any applicable abandoned property, escheat or similar law. Any portion of the FBR Asset Merger Consideration delivered to the Exchange Agent pursuant to the Merger Agreement that remains unclaimed for six months after the Effective Time shall be redelivered by the Exchange Agent to the Surviving Corporation, upon demand, and any holders of FBR Asset Shares which have not been exchanged as contemplated by Section 1.7(f) of the Merger Agreement and shall thereafter look only to the Surviving Corporation for delivery of the FBR Asset Merger Consideration subject to applicable abandoned property, escheat and other similar laws.

(h) Pursuant to Section 1.8(h) of the Merger Agreement, the Exchange Agent or the Surviving Corporation shall be entitled to deduct and withhold from the FBR Asset Merger Consideration otherwise payable pursuant to Section 1.8(e) of the Merger Agreement to any holder of FBR Asset Shares such amounts as the Exchange Agent or Forest is required to deduct and withhold with respect to the making of such payment under the Code, or any provision of state, local or foreign tax law. To the extent that amounts are so withheld by the Exchange Agent or the Surviving Corporation, such withheld amounts shall be treated for all purposes of this Agreement as having been paid to the holder of FBR Asset Shares in respect of which such deduction and withholding was made by the Exchange Agent or the Surviving Corporation.

9. Stock Option and Other Plans .

(a) Pursuant to Section 1.9(a) of the Merger Agreement, at the Effective Time, each option granted by FBR Asset to purchase FBR Asset Shares which is outstanding and unexercised immediately prior thereto shall cease to represent a right to acquire FBR Asset Shares and shall be converted automatically into an option to purchase Forest Class A Common Shares in an amount and at an exercise price determined as provided below (and shall otherwise remain subject to the terms of the FBR Asset stock option plan pursuant to which such option has been issued and the agreement evidencing such grant thereunder):

(i) The number of Forest Class A Common Shares to be subject to the new option shall be equal to the product of the number of FBR Asset Shares subject to the original option and 3.65; provided , however , that any fractional Forest Class A Common Shares resulting from such multiplication shall be rounded to the nearest whole share; and

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(ii) The exercise price per Forest Class A Common Share under the new option shall be equal to the exercise price per FBR Asset Share under the original option divided by 3.65; provided , however , that such exercise price shall be rounded down to the nearest whole cent.

The adjustment provided herein with respect to any options which are “incentive stock options” (as defined in Section 422 of the Internal Revenue Code) shall be and is intended to be effected in a manner which is consistent with Section 424(a) of the Internal Revenue Code.

10. No Right to Dissent . Pursuant to Section 13.1-730.C of the Virginia Code, holders of FBR Asset Common Stock shall have no right to dissent from the Merger.

12. Amendment . At any time before the Effective Time, this Plan of Merger may be amended, provided that: (i) any such amendment is approved by the Boards of Directors of FBR Asset and Forest and, in the case of FBR Asset, a special committee comprised of all of the members of the Board of Directors of FBR Asset who are not directors, officers, employees or affiliates of FBR Group; and (ii) no such amendment made subsequent to the submission of this Plan of Merger to the shareholders of FBR Asset and Forest shall have any of the effects specified in Section 13.1-718.I of the Virginia Code without the approval of the shareholders affected thereby.

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Schedule I

Directors

Daniel J. Altobello

Eric F. Billings

Emanuel J. Friedman

Peter A. Gallagher

Stephen D. Harlan

Russell C. Lindner

W. Russell Ramsey

Wallace L. Timmeny

John T. Wall

COMMONWEALTH OF VIRGINIA

STATE CORPORATION COMMISSION

March 28, 2003

The State Corporation Commission finds the accompanying articles submitted on behalf of

Forest Merger Corporation

to comply with the requirements of law. Therefore, it is ORDERED that this

CERTIFICATE OF MERGER

be issued and admitted to record with the articles in the office of the Clerk of the Commission. Each of the following:

FBR Asset Investment Corporation

is merged into Forest Merger Corporation, which continues to exist under the laws of VIRGINIA with the name Forest Merger Corporation. The existence of each non-surviving entity ceases, according to the plan of merger.

The certificate is effective on March 31, 2003 at 12:01 a.m.


STATE CORPORATION COMMISSION

By		/s/ T.V. Morrison, Jr.

		Commissioner

ARTICLES OF AMENDMENT AND RESTATEMENT

ARTICLES OF INCORPORATION

FOREST MERGER CORPORATION

The name of the corporation is FOREST MERGER CORPORATION (the “Company”).

The text of the Amended and Restated Articles of Incorporation of the Company is set forth as Exhibit A hereto (the “Restated Articles”).

The Restated Articles were approved by the written consent of the sole shareholder of the Company on March 28, 2003.

The Restated Articles were approved by the unanimous written consent of the Company’s Board of Directors on March 28, 2003.

IN WITNESS WHEREOF, the Company has caused these Articles of Amendment and Restatement to be signed by William Ginivan, its Secretary, as of the 28 ^th day of March, 2003.


FOREST MERGER CORPORATION, a Virginia corporation

By:		/s/ William Ginivan
Name:		William Ginivan
Title:		Secretary

Exhibit A

A - 1

AMENDED AND RESTATED

ARTICLES OF INCORPORATION

Article I

NAME

1.1 Name . The name of the Corporation is Forest Merger Corporation (the “Corporation”).

1.2 Registered Agent and Registered Office . The address of the initial registered office of the Corporation, which is located in the City of Richmond, Virginia, is 951 East Byrd Street, Richmond, Virginia 23219. The initial registered agent of the Corporation is Daniel M. LeBey, whose business office is identical with the initial registered office and who is a resident of Virginia and a member of the Virginia State Bar.

Article II

PURPOSE

2.1 Purpose . The purpose for which the Corporation is organized is to transact any lawful business not required to be specifically stated in the Articles of Incorporation.

Article III

AUTHORIZED STOCK

3.1 Number and Designation . The Corporation shall have authority to issue 575 million shares of capital stock, of which 450 million shall be shares of Class A common stock, par value $0.01 per share (“Class A Common Stock”), 100 million shall be shares of Class B common stock, par value $0.01 per share (“Class B Common Stock” and, together with the Class A Common Stock, “Common Stock”), and 25 million shall be shares of preferred stock, par value $0.01 per share (“Preferred Stock”).

3.2 Preemptive Rights . No holder of outstanding shares shall have any preemptive right with respect to, or to subscribe for or purchase: (i) any shares of any class of the Corporation, whether now or hereafter authorized, including without limitation shares issued for cash, property or services or as a dividend or otherwise; (ii) any warrants, rights or options to purchase any such shares; or (iii) any obligations convertible into any such shares or into warrants, rights or options to purchase any such shares.

Article IV

PREFERRED STOCK

4.1 Issuance in Series . The Board of Directors is authorized to issue Preferred Stock from time to time in one or more series and to provide for the designation, preferences, limitations and relative rights of the shares of each series by the adoption of Articles of Amendment to the Articles of Incorporation of the Corporation setting forth:

(a) The maximum number of shares in the series and the designation of the series, which designation shall distinguish the shares thereof from the shares of any other series or class;

(b) Whether shares of the series shall have special, conditional or limited voting rights, or no right to vote except to the extent required by law;

(c) Whether shares of the series are redeemable or convertible (x) at the option of the Corporation, a shareholder or another person or upon the occurrence of a designated event, (y) for cash, indebtedness, securities or other property, and (z) in a designated amount or in an amount determined in accordance with a designated formula or by reference to extrinsic data or events;

(d) Any right of holders of shares of the series to distributions, calculated in any manner, including the rate or rates of dividends, and whether dividends shall be cumulative, noncumulative or partially cumulative;

(e) The amount payable upon the shares of the series in the event of voluntary or involuntary liquidation, dissolution or winding up of the affairs of the Corporation;

(f) Any preference of the shares of the series over the shares of any other series or class with respect to distributions, including dividends, and with respect to distributions upon the liquidation, dissolution or winding up of the affairs of the Corporation; and

(g) Any other preferences, limitations or specified rights (including a right that no transaction of a specified nature shall be consummated while any shares of such series remain outstanding except upon the assent of all or a specified portion of such shares) now or hereafter permitted by the laws of the Commonwealth of Virginia and not inconsistent with the provisions of this Section 4.1.

4.2 Articles of Amendment For Issuance . Before the issuance of any shares of a series, Articles of Amendment establishing such series shall be filed with and made effective by the State Corporation Commission of Virginia, as required by law.

Article V

COMMON STOCK

5.1 Respective Rights and Privileges . Except as otherwise provided in this Article V or as otherwise required by applicable law, all shares of Class A Common Stock and Class B Common Stock will be identical and will entitle the holders thereof to the same rights and privileges and shall rank equally, share ratably, and be identical in all respects as to all matters. The holders of Class A Common Stock and the holders of Class B Common Stock shall have the respective rights and preferences set forth in this Article V.

5.2 Voting Rights .

(a) Except as otherwise required by law: (i) the holders of Class A Common Stock will be entitled to one vote per share on all matters to be voted on by the Corporation’s

shareholders; (ii) the holders of Class B Common Stock will be entitled to three votes per share on all matters to be voted on by the Corporation’s shareholders; and (iii) the holders of Class A Common Stock and Class B Common Stock shall vote together as a single voting group.

(b) The holders of the outstanding Common Stock shall, to the exclusion of the holders of any other class of shares of the Corporation, have the sole power to vote for the election of directors and for all other purposes without limitation except (i) as otherwise provided in the Articles of Amendment establishing any series of Preferred Stock or (ii) as required by law.

5.3 Dividends . The Board of Directors may from time to time authorize and declare to shareholders such dividends or distributions, in cash or other assets of the Corporation or in securities of the Corporation or from any other source as the Board of Directors in its discretion shall determine. The Board of Directors shall endeavor to declare and pay such dividends and distributions as shall be necessary for the Corporation to qualify as a REIT under the Internal Revenue Code of 1986, as amended (the “Code”) for so long as the Corporation continues to elect REIT status under the Code; however, shareholders shall have no right to any dividend or distribution unless and until authorized and declared by the Board. Subject to the provisions of law and the rights of holders of shares of Preferred Stock at the time outstanding, when and as dividends are declared thereon, whether payable in cash, property or securities of the Corporation, the holders of Class A Common Stock and the holders of Class B Common Stock will be entitled to share equally, share for share, in such dividends; provided that if dividends are declared which are payable in shares of Class A Common Stock or Class B Common Stock, dividends will be declared which are payable at the same rate per share on each such class of shares and the dividends payable in shares of Class A Common Stock will be payable to holders of Class A Common Stock and the dividends payable in shares of Class B Common Stock will be payable to holders of Class B Common Stock.

5.4 Liquidation . Subject to the rights of holders of shares of Preferred Stock at the time outstanding, the holders of the Class A Common Stock and Class B Common Stock shall be entitled to participate ratably on a per share basis in all distributions to the holders of the Common Stock in any liquidation, dissolution or winding up of the Corporation, as though all shares of Common Stock were of a single class.

5.5 Limitation on Stock Splits, Combinations or Reclassifications .

(a) The Corporation shall not: (i) subdivide its outstanding Class A Common Stock by stock dividend or otherwise; or (ii) combine its outstanding Class A Common Stock into a smaller number of shares; or (iii) reclassify its outstanding Class A Common Stock (including any reclassification in connection with a merger, consolidation or other business combination in which the Corporation is the surviving corporation); unless at the same time the Corporation subdivides, combines or reclassifies, as applicable, the shares of outstanding Class B Common Stock on the same basis as the Corporation so subdivides, combines or reclassifies the outstanding Class A Common Stock.

(b) The Corporation shall not: (i) subdivide its outstanding Class B Common Stock by stock dividend or otherwise; or (ii) combine its outstanding Class B Common Stock

into a smaller number of shares; or (iii) reclassify its outstanding Class B Common Stock (including any reclassification in connection with a merger, consolidation or other business combination in which the Corporation is the surviving corporation); unless at the same time the Corporation subdivides, combines or reclassifies, as applicable, the shares of outstanding Class A Common Stock on the same basis as the Corporation so subdivides, combines or reclassifies the outstanding Class B Common Stock.

5.6 Conversion of Shares of Class B Common Stock Into Shares of Class A Common Stock .

(a) For the purposes of this Section 5.6 of this Article V, the following definitions shall apply:

(i) “Employee” means a person employed by the Corporation or by a corporation, partnership, limited liability company, trust or other person or entity that is controlled, directly or indirectly, by the Corporation;

(ii) “Transfer” means any sale, transfer, gift, assignment, devise or other disposition, whether directly or indirectly, voluntarily or involuntarily or by operation of law or otherwise; and

(iii) “Uncertificated Shares” means shares without certificates within the meaning of Section 13.1-648 of the Virginia Stock Corporation Act, as it may be amended from time to time, or any subsequent statute replacing this statute.

(b) At the option of the Corporation: (1) outstanding shares of Class B Common Stock which are the subject of a Transfer shall be convertible into a number of shares of Class A Common Stock equal to the number of shares of outstanding Class B Common Stock subject to the Transfer; and (2) in the event that an Employee ceases to be an Employee for any reason whatsoever, the outstanding shares of Class B Common Stock held by such Employee shall be convertible into a number of shares of Class A Common Stock equal to the number of shares of outstanding Class B Common Stock held by such Employee. For purposes of this Article V, the conversion of shares of Class B Common Stock as a result of a Transfer and the conversion of shares of Class B Common Stock as a result of cessation of an Employee’s status as an Employee shall both be referred to as a “Conversion Event.”

(i) Each Conversion Event shall be effective immediately upon transmission or delivery of a written notice of conversion by the Corporation to the record holder of such shares (the “Effective Time”) at such holder’s address as it appears in the records of the Corporation.

(ii) Each conversion of shares of Class B Common Stock into shares of Class A Common Stock pursuant to this Section 5.6(b) of this Article V shall be deemed to be effective upon the Effective Time and at the Effective Time the rights of the holder of the converted Class B Common Stock as such holder shall cease and the holder of the converted Class B Common Stock shall be deemed to have become the holder of record of the shares of Class A Common Stock into which such shares of Class B Common Stock have been converted as a result of the applicable Conversion Event.

(iii) The Board of Directors of the Corporation shall have the power to determine whether a Conversion Event has taken place with respect to any situation based upon the facts known to it. Each shareholder shall provide such information that the Corporation may reasonably request in order to ascertain facts or circumstances relating to a Transfer or proposed Transfer or a Conversion Event or proposed Conversion Event.

(c) The holder of shares of Class B Common Stock converted pursuant to this Article V shall promptly surrender the certificate or certificates representing the shares so converted at the principal office of the Corporation (or such other office or agency of the Corporation as the Corporation may designate by notice in writing to the holders of Class B Common Stock) at any time during its usual business hours, and if such shares of Class B Common Stock are Uncertificated Shares, shall promptly notify the Corporation in writing of such transfer at the principal office of the Corporation (or such other office or agency of the Corporation as the Corporation may designate by notice in writing to the holders of the Class B Common Stock).

(d) In no event shall the Corporation be liable to any such holder or any third party arising from any such conversion.

(e) The shares of Class A Common Stock resulting from a conversion of duly authorized, validly issued, fully paid and nonassessable shares of Class B Common Stock into shares of Class A Common Stock pursuant to this Section 5.6 of this Article V shall be duly authorized, validly issued, fully paid and nonassessable. Any share of Class B Common Stock which is converted into a share of Class A Common Stock pursuant to this Section 5.6 of this Article V shall become an authorized but unissued share of Class B Common Stock.

(f) The Corporation will at all times reserve and keep available out of its authorized but unissued shares of Class A Common Stock solely for the purpose of issue upon conversion of Class B Common Stock, such number of shares of Class A Common Stock as shall then be issuable upon the conversion of all outstanding shares of Class B Common Stock.

(g) The issuance of certificates evidencing (or in the case of Uncertificated Shares, the provision of applicable written statements or other documents with respect to) shares of Class A Common Stock upon conversion of shares of Class B Common Stock shall be made without charge to the holders of such shares for any issue tax in respect thereof or other cost incurred by the Corporation in connection with such conversion; provided , however , the Corporation shall not be required to pay any tax that may be payable in respect of any Transfer involved in the issuance and delivery of any certificate in (or in the case of Uncertificated Shares, the provision of applicable written statements or other documents with respect to) a name other than that of the holder of the Class B Common Stock converted.

Article VI

BOARD OF DIRECTORS

6.1 Number . The number of directors shall be fixed by the Bylaws or, in the absence of a Bylaw fixing the number, the number shall be nine.

6.2 Removal . The outstanding shares of the Corporation entitled to vote generally in the election of directors are referred to as the “Voting Stock”. Except for directors elected by the holders of outstanding shares of Preferred Stock as a separate voting group, any director may be removed from office with or without cause by the affirmative vote of the holders of at least two-thirds ( ² / 3 ) of the voting power of all Voting Stock then outstanding, voting together as a single voting group.

Article VII

LIMIT ON LIABILITY AND INDEMNIFICATION

7.1 Definitions . For purposes of this Article VII the following definitions shall apply:

(a) “applicant” means the person seeking indemnification pursuant to this Article VI;

(b) “Corporation” for purposes of this Article VII, means this corporation and any predecessor entity;

(c) “expenses” includes counsel fees, expert witness fees, and costs of investigation, litigation and appeal, as well as any amounts expended in asserting a claim for indemnification;

(d) “liability” means the obligation to pay a judgment, settlement, penalty, fine, including any excise tax assessed with respect to an employee benefit plan, or reasonable expenses incurred with respect to a proceeding;

(e) “party” includes an individual who was, is, or is threatened to be made a named defendant or respondent in a proceeding;

(f) “proceeding” means any threatened, pending, or completed action, suit, or proceeding, whether civil, criminal, administrative, or investigative and whether formal or informal.

7.2 Limit on Liability . In any proceeding brought by or in the right of the Corporation or brought by or on behalf of shareholders of the Corporation, no director or officer of the Corporation shall be liable to the Corporation or its shareholders for monetary damages with respect to any transaction, occurrence, or course of conduct, whether prior or subsequent to the effective date of this Article VII, except for liability resulting from such person’s having engaged in willful misconduct or a knowing violation of the criminal law or any federal or state securities law.

7.3 Indemnification . The Corporation shall indemnify (i) any person who was or is a party to any proceeding, including a proceeding brought by a shareholder in the right of the Corporation or brought by or on behalf of shareholders of the Corporation, by reason of the fact that he is or was a director or officer of the Corporation, or (ii) any director or officer who is or was serving at the request of the Corporation as a director, trustee, partner, member or officer of another corporation, partnership, joint venture, limited liability company, trust, employee benefit plan, or other enterprise, against any liability incurred by him in connection with such

proceeding if his conduct in question was in the best interests of the Corporation and he was acting on behalf of the Corporation or performing services for the Corporation unless he engaged in willful misconduct or a knowing violation of the criminal law. A person is considered to be serving an employee benefit plan at the Corporation’s request if his duties to the Corporation also impose duties on, or otherwise involve services by, him to the plan or to participants in or beneficiaries of the plan. The Board of Directors is hereby empowered, by a majority vote of a quorum of disinterested directors, to enter into a contract to indemnify any director or officer in respect of any proceedings arising from any act or omission, whether occurring before or after the execution of such contract.

7.4 Application; Amendment . The provisions of this Article VII shall be applicable to all proceedings commenced after the adoption hereof by the Corporation, arising from any act or omission, whether occurring before or after such adoption. No amendment or repeal of this Article VII shall have any effect on the rights provided under this Article with respect to any act or omission occurring prior to such amendment or repeal. The Corporation shall promptly take all such actions, and make all such determinations, as shall be necessary or appropriate to comply with its obligation to make any indemnity under this Article VII and shall promptly pay or reimburse all reasonable expenses, including attorneys’ fees, incurred by any such indemnified person in connection with such actions and determinations or proceedings of any kind arising therefrom.

7.5 No Presumption . The termination of any proceeding by judgment, order, settlement, conviction, or upon a plea of nolo contendere or its equivalent, shall not of itself create a presumption that the applicant did not meet the standard of conduct described in Section 7.2 or 7.3 of this Article VII.

7.6 Indemnification Determination . Any indemnification under 7.3 of this Article VII (unless ordered by a court) shall be made by the Corporation only as authorized in the specific case upon a determination that indemnification of the applicant is proper in the circumstances because he has met the applicable standard of conduct set forth in Section 7.3.

The determination shall be made:

(a) By the Board of Directors by a majority vote of a quorum consisting of directors not at the time parties to the proceeding;

(b) If a quorum cannot be obtained under subsection (a) of this Section 7.6, by majority vote of a committee duly designated by the Board of Directors (in which designation directors who are parties may participate), consisting solely of two or more directors not at the time parties to the proceeding;

(i) Selected by the Board of Directors or its committee in the manner prescribed in subsection (a) or (b) of this Section 7.6; or

(ii) If a quorum of the Board of Directors cannot be obtained under subsection (a) of this Section 7.6 and a committee cannot be designated under subsection (b) of this Section 7.6, selected by majority vote of the full Board of Directors, in which selection directors who are parties may participate; or

(d) By the shareholders, but shares owned by or voted under the control of directors who are at the time parties to the proceeding may not be voted on the determination.

Any evaluation as to reasonableness of expenses shall be made in the same manner as the determination that indemnification is appropriate, except that if the determination is made by special legal counsel, such evaluation as to reasonableness of expenses shall be made by those entitled under subsection (c) of this Section 7.6 to select counsel.

Notwithstanding the foregoing, in the event there has been a change in the composition of a majority of the Board of Directors after the date of the alleged act or omission with respect to which indemnification is claimed, any determination as to indemnification and advancement of expenses with respect to any claim for indemnification made pursuant to this Article VII shall be made by special legal counsel agreed upon by the Board of Directors and the applicant. If the Board of Directors and the applicant are unable to agree upon such special legal counsel, the Board of Directors and the applicant each shall select a nominee, and the nominees shall select such special legal counsel.

7.7 Expense Reimbursement .

(a) The Corporation shall pay for or reimburse the reasonable expenses incurred by any applicant who is a party to a proceeding in advance of final disposition of the proceeding or the making of any determination under Section 7.6 of this Article VII if the applicant furnishes the Corporation:

(i) a written statement of his good faith belief that he has met the standard of conduct described in Section 7.3 of this Article VII; and

(ii) a written undertaking, executed personally or on his behalf, to repay the advance if it is ultimately determined that he did not meet such standard of conduct; provided, however, that this Section 7.7 shall apply only if the action was initiated by a third party who is not a shareholder of the Company or if the action was initiated by a shareholder and such advance is approved by a court of competent jurisdiction.

(b) The undertaking required by paragraph (ii) of subsection (a) of this Section 7.7 shall be an unlimited general obligation of the applicant but need not be secured and may be accepted without reference to financial ability to make repayment.

(c) Authorizations of payments under this Section 7.7 shall be made by the persons specified in Section 7.6 of this Article VII.

7.8 Indemnification of Others . The Board of Directors is hereby empowered, by majority vote of a quorum consisting of disinterested directors, to cause the Corporation to indemnify or contract to indemnify any person not specified in Section 7.2 or 7.3 of this Article VII who was, is or may become a party to any proceeding, by reason of the fact that he is or was

an employee or agent of the Corporation, or is or was serving at the request of the Corporation as director, officer, employee or agent of another corporation, partnership, joint venture, trust, employee benefit plan or other enterprise, to the same extent as if such person were specified as one to whom indemnification is granted in Section 7.3 of this Article VII. The provisions of Sections 7.4 through 7.7 of this Article VII shall be applicable to any indemnification provided pursuant to this Section 7.8.

7.9 Insurance . The Corporation may purchase and maintain insurance to indemnify it against the whole or any portion of the liability assumed by it in accordance with this Article VII and may also procure insurance, in such amounts as the Board of Directors may determine, on behalf of any person who is or was a director, officer, employee or agent of the Corporation, or is or was serving at the request of the Corporation as a director, officer, employee or agent of another corporation, partnership, joint venture, trust, employee benefit plan or other enterprise, against any liability asserted against or incurred by him in any such capacity or arising from his status as such, whether or not the Corporation would have power to indemnify him against such liability under the provisions of this Article VII.

7.10 Miscellaneous . Every reference herein to directors, officers, employees or agents shall include former directors, officers, employees and agents and their respective heirs, executors and administrators. The indemnification hereby provided and provided hereafter pursuant to the power hereby conferred by this Article VII on the Board of Directors shall not be exclusive of any other rights to which any person may be entitled, including any right under policies of insurance that may be purchased and maintained by the Corporation or others, with respect to claims, issues or matters in relation to which the Corporation would not have the power to indemnify such person under the provisions of this Article VII. Such rights shall not prevent or restrict the power of the Corporation to make or provide for any further indemnity, or provisions for determining entitlement to indemnity, pursuant to one or more indemnification agreements, bylaws, or other arrangements (including, without limitation, creation of trust funds or security interests funded by letters of credit or other means) approved by the Board of Directors (whether or not any of the directors of the Corporation shall be a party to or beneficiary of any such agreements, bylaws, or arrangements); provided, however, that any provision of such agreements, bylaws, or other arrangements shall not be effective if and to the extent that it is determined to be contrary to this Article VII or applicable laws of the Commonwealth of Virginia.

7.11 Severability . Each provision of this Article VII shall be severable, and an adverse determination as to any such provision shall in no way affect the validity of any other provision.

Article VIII

CERTAIN VOTING MATTERS

8.1 Certain Voting Matters .

(a) As to each voting group entitled to vote on an amendment or restatement of these Articles of Incorporation the vote required for approval shall be: (i) the vote required by the terms of these Articles of Incorporation, as amended or as restated from time to time, if such terms specifically require the approval of more than a majority of the votes entitled to be cast thereon by such voting group; or (ii) if clause (i) of this Section 8.1(a) of this Article VIII is not applicable, a majority of the votes entitled to be cast thereon.

(b) As to any plan of merger or share exchange to which the Corporation is a party, or any sale, lease, exchange or other disposition of all or substantially all of the assets or property of the Corporation other than in the usual and regular course of business, for which the Virginia Stock Corporation Act requires an affirmative vote of more than two-thirds of the votes cast by each voting group of shareholders entitled to vote thereon, but which requirement may be reduced to a lesser percentage under the Virginia Stock Corporation Act if the lesser percentage is specified in the Articles of Incorporation of the Corporation, the affirmative vote of a majority of the votes cast by outstanding shares of each voting group entitled to vote on the plan or transaction at a meeting at which a quorum of the voting group exists shall be required, in lieu of such two thirds requirement, but in addition to any other vote otherwise required by this Article VIII or under the Virginia Stock Corporation Act.

(c) Except for amendments contained in Articles of Amendment adopted by the Board of Directors pursuant to Article IV of these Articles of Incorporation establishing any series of Preferred Stock, the affirmative vote of the holders of at least 80% of the voting power of all Voting Stock then outstanding, voting together as a single voting group, shall be required to amend these Articles of Incorporation to include provisions that: (i) would require the Corporation to hold, or set forth procedures applicable to the holding of, a special meeting of shareholders at the call, demand or request of any Person, including, without limitation, any shareholder or shareholders of the Corporation; or (ii) would govern the nomination of persons for election to the Board of Directors or the proposal of business to be considered by the shareholders at an annual or special meeting of shareholders.

(d) The affirmative vote of the holders of at least 80% of the voting power of Voting Stock then outstanding, voting as a single voting group, shall be required for the shareholders of the Corporation to adopt, alter or repeal any Bylaw of the Corporation: (i) that requires or would require the Corporation to hold, or sets forth procedures applicable to the holding of, a special meeting of shareholders at the call, demand or request of any Person, including, without limitation, any shareholder or shareholders of the Corporation; or (ii) that governs or would govern the nomination of persons for election to the Board of Directors or the proposal of business to be considered by the shareholders at an annual or special meeting of shareholders. The provisions of Section 8.1(c) of this Article VIII and the foregoing provisions of this Section 8.1(d) of this Article VIII: (i) are not intended to and shall not be deemed to constitute a reservation to the shareholders of the Corporation of the power to adopt, amend or repeal any Bylaw of the Corporation including, without limitation, any Bylaw dealing with the subject matter contained in clauses (i) and (ii) of Section 8.1(c) of this Article VIII or the foregoing provisions of this Section 8.1(d) of this Article VIII; and (ii) shall not limit the power or ability of the Board of Directors of the Corporation to adopt, alter or repeal any Bylaw of the Corporation including, without limitation, any Bylaw of the Corporation dealing with the subject matter contained in clauses (i) and (ii) of Section 8.1(c) of this Article VIII or the foregoing provisions of this Section 8.1(d) of this Article VIII.

(e) The affirmative vote of the holders of at least 80% of the voting power of all Voting Stock then outstanding, voting together as a single voting group shall be required to alter, amend, adopt any provision inconsistent with, or repeal this Article VIII.

(f) For purposes of this Article VIII, “Person” means an individual, firm, partnership, estate, domestic corporation, foreign corporation, trust, charity, private foundation, association, joint venture, unincorporated association, government or any department, agency or subdivision thereof, or other entity.

Article IX

REIT ELECTION; STATUS

9.1 Definitions . For purposes of this Article IX the following definitions shall apply:

(a) “Beneficial Ownership” shall mean ownership of shares of Equity Stock by a Person who would be treated as an owner of such shares of Equity Stock either directly, or indirectly through the application of Section 544 of the Code, as modified by Section 856(h)(1)(B) of the Code. The terms “Beneficial Owner,” “Beneficially Owns,” and “Beneficially Owned” shall have correlative meanings.

(b) “Beneficiary” shall mean, with respect to any Trust, one or more organizations described in each of Section 170(b)(1)(A) (other than clauses (vii) or (viii) thereof) and Section 170(c)(2) of the Code that are named by the Corporation as the beneficiary or beneficiaries of such Trust, in accordance with the provisions of Section 9.10 of this Article IX. No Beneficiary shall be the beneficiary of more than one Trust at any time.

(d) “Closing Price” shall mean on any date:

(i) the last sale price for the stock, as reported on the American Stock Exchange, New York Stock Exchange, NASDAQ, or other principal national securities exchange on which the stock is listed; or

(ii) if no sale takes place on the day, the average of the closing bid and asked prices for the stock, as reported on the American Stock Exchange, New York Stock Exchange, NASDAQ, or other principal national securities exchange on which the stock is listed; or

(iii) if the stock is not listed on any exchange, the average of the closing bid and asked prices as furnished by a professional market maker making a market in our stock selected by our Board of Directors; or

(iv) in the event that no trading price is available for the stock, the fair market value of the stock, as determined in good faith by our Board of Directors.

(e) “Constructive Ownership” shall mean ownership of shares of Equity Stock by a Person who would be treated as an owner of such shares of Equity Stock either directly or indirectly through the application of Section 318 of the Code, as modified by Section 856(d)(5) of the Code. The terms “Constructive Owner,” “Constructively Owns,” and “Constructively Owned” shall have correlative meanings.

(f) “Disqualified Organization” shall mean (i) the United States, any state or political subdivision thereof, any foreign government, any international organization, and any agency or instrumentality of the foregoing, (ii) any tax-exempt organization (other than a farmers’ cooperative described in Section 521 of the Code) that is exempt both from income taxation and from taxation under the unrelated business taxable income provisions of the Code, and (iii) any rural electrical or telephone cooperative.

(g) “Equity Stock” shall mean Preferred Stock and Common Stock of the Corporation. The term “Equity Stock” shall include all shares of Preferred Stock and Common Stock of the Corporation that are held as Shares-in-Trust in accordance with the provisions of Section 9.10 of this Article IX.

(h) “Market Price” shall mean, on any date the average of the Closing Price of New FBR’s stock for the five previous consecutive trading days ending on such a date.

(i) “Mergers” shall mean the merger of FBR Asset Investment Corporation (“FBR Asset”) into the Corporation and the merger of Friedman, Billings, Ramsey Group, Inc. (“FBR Group”) into the Corporation, in each case pursuant to the Agreement and Plan of Merger dated as of November 14, 2002, by and among FBR Asset, FBR Group and the Corporation.

(j) “Non-Transfer Event” shall mean an event other than a purported Transfer that would cause any Person to Beneficially Own or Constructively Own shares of Equity Stock in excess of the Ownership Limit, including, but not limited to, the granting of any option or entering into any agreement for the sale, transfer or other disposition of shares of Equity Stock or the sale, transfer, assignment or other disposition of any securities or rights convertible into or exchangeable for shares of Equity Stock.

(k) “Ownership Limit” shall mean (a) 9.9% of the number of outstanding shares of Common Stock and (b) 9.9% of the number of outstanding shares of any class or series of Preferred Stock.

(l) “Permitted Transferee” shall mean any Person designated as a Permitted Transferee in accordance with the provisions of Section 9.10(e) of this Article IX.

(m) “Person” shall mean an individual, corporation, partnership, estate, trust, a portion of a trust permanently set aside for or to be used exclusively for the purposes described in Section 642(c) of the Code, association, private foundation within the meaning of Section 509(a) of the Code, joint stock company or other entity and also includes a “group” as that term is used for purposes of Section 12(d)(3) of the Securities Exchange Act of 1934, as amended; provided that Emanuel J. Friedman and Eric F. Billings shall in no event be deemed to constitute a “group.”

(n) “Prohibited Owner” shall mean, with respect to any purported Transfer or Non-Transfer Event, any Person who, but for the provisions of Section 9.4 of this Article IX, would own record title to shares of Equity Stock.

(o) “Restriction Termination Date” shall mean the first day after the date of the Mergers on which either (i) the Corporation’s election to be taxed as a REIT is revoked pursuant to Section 9.2 of this Article IX or (ii) the restrictions contained in Section 9.3 of this Article IX are removed pursuant to Section 9.9 of this Article IX.

(p) “Shares-in-Trust” shall mean any shares of Equity Stock designated Shares-in-Trust pursuant to Section 9.4 of this Article IX.

(q) “Transfer” (as a noun) shall mean any sale, transfer, gift, assignment, devise or other disposition of shares of Equity Stock, whether voluntary or involuntary, whether of record, constructively or beneficially and whether by operation of law or otherwise. “Transfer” (as a verb) shall have the correlative meaning.

(r) “Trust” shall mean any separate trust created pursuant to Section 9.4 of this Article IX and administered in accordance with the terms of 9.10 of this Article IX, for the exclusive benefit of any Beneficiary. A separate trust shall be created for each transfer pursuant to Section 9.4 of this Article IX.

(s) “Trustee” shall mean any Person or entity unaffiliated with both the Corporation and any Prohibited Owner, such Trustee to be designated by the Corporation to act as trustee of any Trust, or any successor trustee thereof.

9.2 REIT Election . The Corporation shall seek to elect and maintain status as a real estate investment trust (“REIT”) under the Code. It shall be the duty of the Board of Directors to ensure that the Corporation satisfies the requirements for qualification as a REIT under the Code, including, but not limited to, the ownership of its outstanding stock, the nature of its assets, the sources of its income, and the amount and timing of its distributions to its shareholders. The Board of Directors may revoke the Corporation’s election to be taxed as a REIT upon the affirmative vote of 80% of the members of the Board of Directors. In the absence of such 80% vote, the Board of Directors shall take no action to disqualify the Corporation as a REIT or to otherwise revoke the Corporation’s election to be taxed as a REIT without the affirmative vote of two-thirds ( ² / 3 ) of the voting power of shares of Common Stock entitled to vote on such matter at a special meeting of the shareholders.

9.3 Restrictions on Transfer .

(a) Except as provided in Section 9.8 of this Article IX, from the date of the Mergers and prior to the Restriction Termination Date, (i) no Person may Beneficially Own or Constructively Own outstanding shares of Equity Stock in excess of the Ownership Limit and (ii) any Transfer that, if effective, would result in any Person Beneficially Owning or Constructively Owning shares of Equity Stock in excess of the Ownership Limit shall be void ab initio as to the Transfer of that number of shares of Equity Stock which would be otherwise Beneficially Owned or Constructively Owned by such Person in excess of the Ownership Limit, and the intended transferee shall acquire no rights in such excess shares of Equity Stock.

(b) Except as provided in Section 9.8 of this Article IX, from the date of the Mergers and prior to the Restriction Termination Date, any Transfer that, if effective, would result in shares of Equity Stock being Beneficially Owned by fewer than 100 Persons (determined without reference to any rules of attribution) shall be void ab initio as to the Transfer of that number of shares which would be otherwise Beneficially Owned (determined without reference to any rules of attribution) by the transferee, and the intended transferee shall acquire no rights in such shares of Equity Stock.

(c) Except as provided in Section 9.8 of this Article IX, from the date of the Mergers and prior to the Restriction Termination Date, any Transfer of shares of Equity Stock that, if effective, would result in the Corporation being “closely held” within the meaning of Section 856(h) of the Code shall be void ab initio as to the Transfer of that number of shares of Equity Stock which would cause the Corporation to be “closely held” within the meaning of Section 856(h) of the Code, and the intended transferee shall acquire no rights in such shares of Equity Stock.

(d) Except as provided in Section 9.8 of this Article IX, from the date of the Mergers and prior to the Restriction Termination Date, any Transfer of shares of Equity Stock that, if effective, would cause the Corporation to Constructively Own 10% or more of the ownership interests in a tenant of the Corporation’s real property, within the meaning of Section 856(d)(2)(B) of the Code, shall be void ab initio as to the Transfer of that number of shares of Equity Stock which would cause the Corporation to Constructively Own 10% or more of the ownership interests in a tenant of the Corporation’s real property, within the meaning of Section 856(d)(2)(B) of the Code, and the intended transferee shall acquire no rights in such excess shares of Equity Stock.

(e) Except as provided in Section 9.8 of this Article IX, from the date of the Mergers and prior to the Restriction Termination Date, any Transfer that, if effective, would result in shares of Equity Stock being Beneficially Owned by a Disqualified Organization shall be void ab initio as to the Transfer of that number of shares of Equity Stock which otherwise would be Beneficially Owned by the Disqualified Organization, and the intended transferee shall acquire no rights in such shares of Equity Stock.

9.4 Transfer to Trust .

(a) If, notwithstanding the other provisions contained in Sections 9.1, 9.3, 9.4, 9.6, 9.7, 9.8, and 9.9 of this Article IX, at any time after the Mergers and prior to the Restriction Termination Date, there is a purported Transfer or Non-Transfer Event such that any Person would either Beneficially Own or Constructively Own shares of Equity Stock in excess of the Ownership Limit, then, (i) except as otherwise provided in Section 9.8 or 9.9 of this Article IX, the purported transferee shall acquire no right or interest (or, in the case of a Non-Transfer Event, the Person holding record title to the shares of Equity Stock Beneficially Owned or Constructively Owned by such Beneficial Owner or Constructive Owner, shall cease to own any right or interest) in such number of shares of Equity Stock which would cause such Beneficial Owner or Constructive Owner to Beneficially Own or Constructively Own shares of Equity Stock in excess of the Ownership Limit, (ii) such number of shares of Equity Stock in excess of the Ownership Limit (rounded up to the nearest whole share) shall be designated Shares-in-Trust

and, in accordance with the provisions of Section 9.10 of this Article IX, transferred automatically and by operation of law to a Trust to be held in accordance with Section 9.10 of this Article IX, and (iii) the Prohibited Owner shall submit such number of shares of Equity Stock to the Corporation for registration in the name of the Trustee. Such transfer to a Trust and the designation of shares as Shares-in-Trust shall be effective as of the close of business on the business day prior to the date of the purported Transfer or Non-Transfer Event, as the case may be.

(b) If, notwithstanding the other provisions contained in Sections 9.1, 9.3, 9.4, 9.6, 9.7, 9.8, and 9.9 of this Article IX, at any time after the Mergers and prior to the Restriction Termination Date, there is a purported Transfer or Non-Transfer Event that, if effective, would (i) result in the shares of Equity Stock being beneficially owned by fewer than 100 Persons (determined without reference to any rules of attribution), (ii) result in the Corporation being “closely held” within the meaning of Section 856(h) of the Code, (iii) cause the Corporation to Constructively Own 10% or more of the ownership interests in a tenant of the Corporation’s real property, within the meaning of Section 856(d)(2)(B) of the Code, or (iv) result in shares of Equity Stock being Beneficially Owned by a Disqualified Organization, then (x) the purported transferee shall not acquire any right or interest (or, in the case of a Non-Transfer Event, the Person holding record title to the shares of Equity Stock with respect to which such Non-Transfer Event occurred, shall cease to own any right or interest) in such number of shares of Equity Stock, the ownership of which by such purported transferee or record holder would (A) result in the shares of Equity Stock being beneficially owned by fewer than 100 Persons (determined without reference to any rules of attribution), (B) result in the Corporation being “closely held” within the meaning of Section 856(h) of the Code, (C) cause the Corporation to Constructively Own 10% or more of the ownership interests in a tenant of the Corporation’s real property, within the meaning of Section 856(d)(2)(B) of the Code, or (D) result in shares of Equity Stock being Beneficially Owned by a Disqualified Organization, (y) such number of shares of Equity Stock (rounded up to the nearest whole share) shall be designated Shares-in-Trust and, in accordance with the provisions of Section 9.10 of this Article IX hereof, transferred automatically and by operation of law to a Trust to be held in accordance with that Section 9.10, and (z) the Prohibited Owner shall submit such number of shares of Equity Stock to the Corporation for registration in the name of the Trustee. Such transfer to a Trust and the designation of shares as Shares-in-Trust shall be effective as of the close of business on the business day prior to the date of the purported Transfer or Non-Transfer Event, as the case may be.

9.5 Remedies for Breach . If the Corporation, or its designees, shall at any time determine in good faith that a purported Transfer has taken place in violation of Section 9.3 of this Article IX or that a Person intends to acquire or has attempted to acquire Beneficial Ownership or Constructive Ownership of any shares of Equity Stock in violation of Section 9.3 of this Article IX, the Corporation shall take such action as it deems advisable to refuse to give effect to or to prevent such purported Transfer or acquisition, including, but not limited to, refusing to give effect to such purported Transfer on the books of the Corporation or instituting proceedings to enjoin such purported Transfer or acquisition.

9.6 Notice of Restricted Transfer . Any Person who acquires or attempts to acquire shares of Equity Stock in violation of Section 9.3 of this Article IX, or any Person who owned

shares of Equity Stock that were transferred to the Trust pursuant to the provisions of Section 9.4 of this Article IX, shall immediately give written notice to the Corporation of such event and shall provide to the Corporation such other information as the Corporation may request in order to determine the effect, if any, of such purported Transfer or Non-Transfer Event, as the case may be, on the Corporation’s status as a REIT.

9.7 Owners Required to Provide Information . From the date of the Mergers and prior to the Restriction Termination Date:

(a) Every Beneficial Owner or Constructive Owner of more than 5%, or such lower percentages as required pursuant to regulations under the Code, of the outstanding shares of any class or series of capital stock of the Corporation shall, within 30 days after January 1 of each year, provide to the Corporation a written statement or affidavit stating the name and address of such Beneficial Owner or Constructive Owner, the number of shares of each class or series of Equity Stock Beneficially Owned or Constructively Owned, and a description of how such shares are held. Each such Beneficial Owner or Constructive Owner shall provide to the Corporation such additional information as the Corporation may request in order to determine the effect, if any, of such Beneficial Ownership or Constructive Ownership on the Corporation’s status as a REIT and to ensure compliance with the Ownership Limit and the restrictions set forth in Section 9.3 of this Article.

(b) Each Person who is a Beneficial Owner or Constructive Owner of shares of Equity Stock and each Person (including the stockholder of record) who is holding shares of Equity Stock for a Beneficial Owner or Constructive Owner shall provide to the Corporation a written statement or affidavit stating such information as the Corporation may request in order to determine the Corporation’s status as a REIT and to ensure compliance with the Ownership Limit and the other restrictions set forth in Section 9.3 of this Article.

9.8 Exception . The Ownership Limit shall not apply to the acquisition of shares of Equity Stock by an underwriter or placement agent that participates in a public or private offering of such shares for a period of 90 days following the purchase by such underwriter or placement agent of such shares provided that the restrictions contained in Sections 9.3(a), (b), (c), and (d) of this Article IX will not be violated following the distribution by such underwriter or placement agent of such shares. In addition, the Board of Directors, upon receipt of (i) a ruling from the Internal Revenue Service or an opinion of counsel to the effect that the Corporation will not lose its status as a REIT or (ii) such representations and undertakings as the Board of Directors may deem appropriate in order to conclude that granting an exemption will not cause the Corporation to lose its status as a REIT, may, in its sole discretion, exempt a Person from one or more of the restrictions contained in Sections 9.3(a), (b), (c), and (d) of this Article IX, which exemption may, in the sole discretion of the Board of Directors, be subject to such limitations and conditions as the Board of Directors, in its sole discretion, may deem necessary or appropriate.

The Board of Directors may exempt a Disqualified Organization from the restriction contained in Section 9.3(e) of this Article IX if either (i) the Disqualified Organization agrees to reimburse the Corporation for any tax it incurs as a result of having such Disqualified Organization as a shareholder and to make the Corporation whole for any tax imposed on the

reimbursement payment, (ii) each of the following requirements is met: (A) the record holder of the shares of Equity Stock Beneficially Owned by the Disqualified Organization is a nominee of such Disqualified Organization, (B) the nominee is not itself a Disqualified Organization, (C) the nominee agrees not to transfer record ownership of such shares of Equity Stock to a Disqualified Organization, and (D) the Board of Directors obtains such representations and undertakings from such Disqualified Organization and nominee as are reasonably necessary to ascertain the foregoing, or (iii) the Corporation receives a ruling from the Internal Revenue Service or an opinion of counsel in each case to the effect that a tax will not be imposed on the Corporation as a result of the exemption.

9.9 Removal of Ownership Limit . The restrictions contained in Section 9.3 of this Article IX will not be removed until, and shall cease to apply when, (i) (a) such restrictions are no longer required in order to qualify as a REIT or to avoid the imposition of a tax on the Corporation and (b) the Board of Directors determines that it is no longer in the best interests of the Company to retain such restrictions, or (ii)(a) the Board of Directors determines that it is no longer in the best interests of the Corporation to attempt to qualify, or to continue to qualify, as a REIT and (b) the Corporation’s election to be taxed as a REIT is revoked pursuant to Section 9.2 of this Article IX.

9.10 Shares-In-Trust .

(a) Trust . Any shares of Equity Stock transferred to a Trust and designated Shares-in-Trust pursuant to Section 9.4 of this Article IX shall be held for the exclusive benefit of the Beneficiary. The Corporation shall name a Beneficiary for each Trust within five days after discovery of the existence thereof. Any transfer to a Trust, and subsequent designation of shares of Equity Stock as Shares-in-Trust, pursuant to Section 9.4 of this Article IX shall be effective as of the close of business on the business day prior to the date of the purported Transfer or Non-Transfer Event that results in the transfer to the Trust. Shares-in-Trust shall remain issued and outstanding shares of Equity Stock of the Corporation and shall be entitled to the same rights and privileges on identical terms and conditions as are all other issued and outstanding shares of Equity Stock of the same class and series. When transferred to a Permitted Transferee in accordance with the provisions of subsection (e) of this Section 9.10, such Shares-in-Trust shall cease to be designated as Shares-in-Trust.

(b) Dividend Rights . The Trust, as record holder of Shares-in-Trust, shall be entitled to receive all dividends and distributions as may be declared by the Board of Directors on such shares of Equity Stock and shall hold such dividends or distributions in trust for the benefit of the Beneficiary. The Prohibited Owner with respect to Shares-in-Trust shall repay to the Trust the amount of any dividends or distributions received by it that (i) are attributable to any shares of Equity Stock designated Shares-in-Trust and (ii) the record date of which was on or after the date that such shares became Shares-in-Trust. The Corporation shall take all measures that it determines reasonably necessary to recover the amount of any such dividend or distribution paid to a Prohibited Owner, including, if necessary, withholding any portion of future dividends or distributions payable on shares of Equity Stock Beneficially Owned or Constructively Owned by the Person who, but for the provisions of Section 9.4 of this Article IX, would Constructively Own or Beneficially Own the Shares-in-Trust; and, as soon as reasonably practicable following the Corporation’s receipt or withholding thereof, shall pay over to the Trust for the benefit of the Beneficiary the dividends so received or withheld, as the case may be.

(c) Rights Upon Liquidation . In the event of any voluntary or involuntary liquidation, dissolution or winding up of, or any distribution of the assets of, the Corporation, each holder of Shares-in-Trust shall be entitled to receive, ratably with each other holder of shares of Equity Stock of the same class or series, that portion of the assets of the Corporation which is available for distribution to the holders of such class and series of shares of Equity Stock. The Trust shall distribute to the Prohibited Owner the amounts received upon such liquidation, dissolution, or winding up, or distribution; provided, however, that the Prohibited Owner shall not be entitled to receive amounts pursuant to this subsection (c) in excess of, in the case of a purported Transfer in which the Prohibited Owner gave value for shares of Equity Stock and which purported Transfer resulted in the transfer of the shares to the Trust, the price per share, if any, such Prohibited Owner paid for the shares of Equity Stock and, in the case of a Non-Transfer Event or purported Transfer in which the Prohibited Owner did not give value for such shares (e.g., if the shares were received through a gift or devise) and which Non-Transfer Event or purported Transfer, as the case may be, resulted in the transfer of shares to the Trust, the price per share equal to the Market Price on the date of such Non-Transfer Event or purported Transfer. Any remaining amount in such Trust shall be distributed to the Beneficiary.

(d) Voting Rights . The Trustee shall be entitled to vote all Shares-in-Trust. Any vote by a Prohibited Owner as a holder of shares of Equity Stock prior to the discovery by the Corporation that the shares of Equity Stock are Shares-in-Trust shall, subject to applicable law, be rescinded and shall be void ab initio with respect to such Shares-in-Trust and the Prohibited Owner shall be deemed to have given, as of the close of business on the business day prior to the date of the purported Transfer or Non-Transfer Event that results in the transfer to the Trust of shares of Equity Stock under Section 9.4 of this Article IX, an irrevocable proxy to the Trustee to vote the Shares-in-Trust in the manner in which the Trustee, in its sole and absolute discretion, desires.

(e) Designation of Permitted Transferee . The Trustee shall have the exclusive and absolute right to designate a Permitted Transferee of any and all Shares-in-Trust. In an orderly fashion so as not to materially adversely affect the Market Price of the Shares-in-Trust, the Trustee may designate any Person as Permitted Transferee, provided, however, that (i) the Permitted Transferee so designated purchases for valuable consideration (whether in a public or private sale) the Shares-in-Trust and (ii) the Permitted Transferee so designated may acquire such Shares-in-Trust without such acquisition resulting in a transfer to a Trust and the redesignation of such shares of Equity Stock so acquired as Shares-in-Trust under Section 9.4 of this Article IX. Upon the designation by the Trustee of a Permitted Transferee in accordance with the provisions of this subsection (e), the Trustee shall (i) cause to be transferred to the Permitted Transferee that number of Shares-in-Trust acquired by the Permitted Transferee, (ii) cause to be recorded on the books of the Corporation that the Permitted Transferee is the holder of record of such number of shares of Equity Stock, (iii) cause the Shares-in-Trust to be canceled, and (iv) distribute to the Beneficiary any and all amounts held with respect to the Shares-in-Trust after making that payment to the Prohibited Owner pursuant to subsection (f) of this Section 9.10.

(f) Compensation to Record Holder of Shares of Equity Stock that Become Shares-in-Trust . Any Prohibited Owner shall be entitled (following discovery of the Shares-in-Trust and subsequent designation of the Permitted Transferee in accordance with subsection (e) of this Section 9.10 or following the acceptance of the offer to purchase such shares in accordance with subsection (g) of this Section 9.10 to receive from the Trustee following the sale or other disposition of such Shares-in-Trust the lesser of (i) in the case of (a) a purported Transfer in which the Prohibited Owner gave value for shares of Equity Stock and which purported Transfer resulted in the transfer of the shares to the Trust, the price per share, if any, such Prohibited Owner paid for the shares of Equity Stock, or (b) a Non-Transfer Event or purported Transfer in which the Prohibited Owner did not give value for such shares (e.g., if the shares were received through a gift or devise) and which Non-Transfer Event or purported Transfer, as the case may be, resulted in the transfer of shares to the Trust, the price per share equal to the Market Price on the date of such Non-Transfer Event or purported Transfer, and (ii) the price per share received by the Trustee from the sale or other disposition of such Shares-in-Trust in accordance with subsection (e) of this Section 9.10. Any amounts received by the Trustee in respect of such Shares-in-Trust and in excess of such amounts to be paid the Prohibited Owner pursuant to this subsection (f) shall be distributed to the Beneficiary in accordance with the provisions of subsection (e) of this Section 9.10. Each Beneficiary and Prohibited Owner waive any and all claims that they may have against the Trustee and the Trust arising out of the disposition (if any) of Shares-in-Trust, except for claims arising out of the gross negligence or willful misconduct of, or any failure to make payments in accordance with this Section 9.10, by such Trustee or the Corporation.

(g) Purchase Right in Shares-in-Trust . Shares-in-Trust shall be deemed to have been offered for sale to the Corporation, or its designee, at a price per share equal to the lesser of (i) the price per share in the transaction that created such Shares-in-Trust (or, in the case of devise, gift or Non-Transfer Event, the Market Price at the time of such devise, gift or Non-Transfer Event) and (ii) the Market Price on the date the Corporation, or its designee, accepts such offer. The Corporation shall have the right to accept such offer for a period of ninety days after the later of (i) the date of the Non-Transfer Event or purported Transfer that resulted in such Shares-in-Trust and (ii) the date the Corporation determines in good faith that a purported Transfer or Non-Transfer Event resulting in Shares-in-Trust has occurred, if the Corporation does not receive a notice of such purported Transfer or Non-Transfer Event pursuant to Section 9.6 of this Article IX.

9.11 Remedies Not Limited . Nothing contained in this Article IX shall limit the authority of the Corporation to take such other action as it deems necessary or advisable to protect the Corporation and the interests of its shareholders by preservation of the Corporation’s status as a REIT and to ensure compliance with the Ownership Limit.

9.12 Ambiguity . In the case of an ambiguity in the application of any of the provisions of this Article IX, including any definition contained in Section 9.1 of this Article IX, the Board of Directors shall have the power to determine the application of the provisions of this Article IX with respect to any situation based on the facts known to it.

9.13 Legend . Each certificate for shares of Equity Stock shall bear the following legend:

“The shares of [Common or Preferred] Stock represented by this certificate are subject to restrictions on transfer for the purpose of the Corporation’s maintenance of its status as a real estate investment trust under the Internal Revenue Code of 1986, as amended (the “Code”), and for certain other purposes under the Code. No Person may (i) Beneficially Own or Constructively Own shares of Common Stock in excess of 9.9% of the number of outstanding shares of Common Stock, (ii) Beneficially Own or Constructively Own shares of any class or series of Preferred Stock in excess of 9.9% of the number of outstanding shares of such class or series of Preferred Stock, (iii) Beneficially Own shares of Equity Stock that would result in the shares of Equity Stock being beneficially owned by fewer than 100 Persons (determined without reference to any rules of attribution), (iv) Beneficially Own shares of Equity Stock that would result in the Corporation being “closely held” under Section 856(h) of the Code, (v) Constructively Own shares of Equity Stock that would cause the Corporation to Constructively Own 10% or more of the ownership interests in a tenant of the Corporation’s real property, within the meaning of Section 856(d)(2)(B) of the Code, or (vi) Beneficially Own shares of Equity Stock that would result in the shares of Equity Stock being Beneficially Owned by a Disqualified Organization. Any Person who attempts to Beneficially Own or Constructively Own shares of Equity Stock in excess of the above limitations must immediately notify the Corporation in writing. If the restrictions above are violated, the shares of [Common or Preferred] Stock represented hereby will be transferred automatically and by operation of law to a Trust and shall be designated Shares-in-Trust. All capitalized terms in this legend have the meanings defined in the Corporation’s Articles of Incorporation, as the same may be further amended from time to time, a copy of which, including the restrictions on transfer, will be sent without charge to each shareholder who so requests.”

9.14 Severability . If any provision of this Article IX or any application of any such provision is determined to be invalid by any federal or state court having jurisdiction over the issues, the validity of the remaining provisions shall not be affected and other applications of such provision shall be affected only to the extent necessary to comply with the determination of such court.

Article X

AFFILIATED TRANSACTIONS

10.1 Non-Applicability . It is expressly provided that the Corporation shall not be governed by Article 14 of the Virginia Stock Corporation Act, Affiliated Transactions, as it may be amended from time to time.

Dated: March 28, 2003


By:		/s/ Richard J. Hendrix
		Richard J. Hendrix
		President

By:		/s/ William Ginivan
		William Ginivan
		Secretary

COMMONWEALTH OF VIRGINIA

STATE CORPORATION COMMISSION

March 28, 2003

The State Corporation Commission has found the accompanying articles submitted on behalf of

Forest Merger Corporation

to comply with the requirements of law, and confirms payment of all related fees.

Therefore, it is ORDERED that this

CERTIFICATE OF AMENDMENT

be issued and admitted to record with the articles of amendment in the Office of the Clerk of the Commission, effective March 28, 2003, at 10:57 A.M.

The corporation is granted the authority conferred on it by law in accordance with the articles, subject to the conditions and restrictions imposed by law.


STATE CORPORATION COMMISSION

By		/s/ T.V. Morrison, Jr.
		Commissioner

ARTICLES OF INCORPORATION

FOREST MERGER CORPORATION

ARTICLE I

NAME

1. Name. The name of the Corporation is Forest Merger Corporation

ARTICLE II

PURPOSE

1. Purpose. The purpose of the Corporation is to transact any or all lawful business, not required to be specifically stated in these Articles, for which corporations may be incorporated under the Virginia Stock Corporation Act, as amended from time to time.

ARTICLE III

AUTHORIZED STOCK

1. Number and Designation. The Corporation shall have authority to issue up to 100 shares of capital stock, all of which shall be shares of common stock, par value $0.01 per share (“Common Stock”).

2. Preemptive Rights. No holder of outstanding shares shall have any preemptive right with respect to, or to subscribe for or purchase: (i) any shares of any class of the Corporation, whether now or hereafter authorized, including without limitation shares issued for cash, property or services or as a dividend or otherwise; (ii) any warrants, rights or options to purchase any such shares; or (iii) any obligations convertible into any such shares or into warrants, rights or options to purchase any such shares.

ARTICLE IV

REGISTERED AGENT

Office. The initial registered office shall be located at Hunton & Williams, Riverfront Plaza, East Tower, 951 East Byrd Street, Richmond, Virginia 23219 in the City of Richmond, and the initial registered agent shall be Daniel M. LeBey, who is a resident of Virginia and a member of the Virginia State Bar, and whose business address is the same as the registered office identified above.

ARTICLE V

BOARD OF DIRECTORS

Number. Unless the Corporation’s bylaws provide otherwise, the number of Directors of the Corporation shall be three (3).

Initial Directors. The names and addresses of the persons who are to serve as the three (3) initial directors are as follows:

Stephen D. Harlan

1001 Nineteenth Street North

Arlington, VA 22209

Russell C. Lindner

1001 Nineteenth Street North

Arlington, VA 22209

Peter A. Gallagher

1001 Nineteenth Street North

Arlington, VA 22209


November 14, 2002		/s/ Daniel M. LeBey
		Daniel M. LeBey
		Incorporator

COMMONWEALTH OF VIRGINIA

STATE CORPORATION COMMISSION

November 14, 2002

The State Corporation Commission has found the accompanying articles submitted on behalf of

Forest Merger Corporation

to comply with the requirements of law, and confirms payment of all required fees.

Therefore, it is ORDERED that this

CERTIFICATE OF INCORPORATION

be issued and admitted to record with the articles of incorporation in the Office of the Clerk of the Commission, effective November 14, 2002.

The corporation is granted the authority conferred on it by law in accordance with the articles, subject to the conditions and restrictions imposed by law.


STATE CORPORATION COMMISSION

By		/s/ T.V. Morrison, Jr.
		Commissioner

Exhibit 31.01

CERTIFICATION

I, Eric F. Billings, certify that:

1. I have reviewed this Quarterly Report on Form 10-Q for the quarter ended September 30, 2009 of Arlington Asset Investment Corp.;

2. Based on my knowledge, this report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make the statements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by this report;

3. Based on my knowledge, the financial statements, and other financial information included in this report, fairly present in all material respects the financial condition, results of operations and cash flows of the registrant as of, and for, the periods presented in this report;

4. The registrant’s other certifying officer(s) and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange Act Rules 13a-15(e) and 15d-15(e)) and internal control over financial reporting (as defined in Exchange Act Rules 13a-15(f) and 15d-15(f)) for the registrant and have:

(a) Designed such disclosure controls and procedures, or caused such disclosure controls and procedures to be designed under our supervision, to ensure that material information relating to the registrant, including its consolidated subsidiaries, is made known to us by others within those entities, particularly during the period in which this report is being prepared;

(b) Designed such internal control over financial reporting, or caused such internal control over financial reporting to be designed under our supervision, to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles;

(c) Evaluated the effectiveness of the registrant’s disclosure controls and procedures and presented in this report our conclusions about the effectiveness of the disclosure controls and procedures, as of the end of the period covered by this report based on such evaluation; and

(d) Disclosed in this report any change in the registrant’s internal control over financial reporting that occurred during the registrant’s most recent fiscal quarter (the registrant’s fourth fiscal quarter in the case of an annual report) that has materially affected, or is reasonably likely to materially affect, the registrant’s internal control over financial reporting; and

5. The registrant’s other certifying officer(s) and I have disclosed, based on our most recent evaluation of internal control over financial reporting, to the registrant’s auditors and the audit committee of the registrant’s board of directors (or persons performing the equivalent functions):

(a) All significant deficiencies and material weaknesses in the design or operation of internal control over financial reporting which are reasonably likely to adversely affect the registrant’s ability to record, process, summarize and report financial information; and

(b) Any fraud, whether or not material, that involves management or other employees who have a significant role in the registrant’s internal control over financial reporting.

Exhibit 31.02

CERTIFICATION

I, Kurt R. Harrington, certify that:

1. I have reviewed this Quarterly Report on Form 10-Q for the quarter ended September 30, 2009 of Arlington Asset Investment Corp.;

(b) Any fraud, whether or not material, that involves management or other employees who have a significant role in the registrant’s internal control over financial reporting.



Date: November 9, 2009		/ S / K URT R. H ARRINGTON
		Kurt R. Harrington
		Executive Vice President, Chief Financial Officer, and Chief Accounting Officer
		(Principal Financial Officer)

Exhibit 32.01

CERTIFICATION PURSUANT TO

18 U.S.C. SECTION 1350,

AS ADOPTED PURSUANT TO

SECTION 906 OF THE SARBANES-OXLEY ACT OF 2002

In connection with the Quarterly Report on Form 10-Q of Arlington Asset Investment Corp. (the “Company”) for the period ended September 30, 2009, as filed with the Securities and Exchange Commission on the date hereof (the “Report”), I, Eric F. Billings, Chief Executive Officer of the Company, certify, pursuant to 18 U.S.C. § 1350, as adopted pursuant to § 906 of the Sarbanes-Oxley Act of 2002, that:

(1) the Report fully complies with the requirements of Section 13(a) or 15(d) of the Securities Exchange Act of 1934; and

(2) the information contained in the Report fairly presents, in all material respects, the financial condition and results of operations of the Company.

Exhibit 32.02

CERTIFICATION PURSUANT TO

18 U.S.C. SECTION 1350,

AS ADOPTED PURSUANT TO

SECTION 906 OF THE SARBANES-OXLEY ACT OF 2002

In connection with the Quarterly Report on Form 10-Q of Arlington Asset Investment Corp. (the “Company”) for the period ended September 30, 2009, as filed with the Securities and Exchange Commission on the date hereof (the “Report”), I, Kurt R. Harrington, Chief Financial Officer of the Company, certify, pursuant to 18 U.S.C. § 1350, as adopted pursuant to § 906 of the Sarbanes-Oxley Act of 2002, that:

(1) the Report fully complies with the requirements of Section 13(a) or 15(d) of the Securities Exchange Act of 1934; and

(2) the information contained in the Report fairly presents, in all material respects, the financial condition and results of operations of the Company.



Date: November 9, 2009		/ S / K URT R. H ARRINGTON
		Kurt R. Harrington
		Executive Vice President, Chief Financial Officer, and Chief Accounting Officer
		(Principal Financial Officer)