COUNTRYWIDE FINANCIAL CORP - 10-Q Quarterly Report

UNITED STATES SECURITIES AND EXCHANGE COMMISSION

Washington, DC 20549

Form 10-Q


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

		For the quarterly period ended March 31, 2005

or

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

		For the transition period from to

Commission file number: 1-8422

Countrywide Financial Corporation

(Exact name of registrant as specified in its charter)


Delaware		13-2641992
(State or other jurisdiction of incorporation or organization)		(IRS Employer Identification No.)

4500 Park Granada, Calabasas, California (Address of principal executive offices)		91302 (Zip Code)

(Registrant’s telephone number, including area code)

(818) 225-3000

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 þ No o

Indicate by check mark whether the registrant is an accelerated filer (as defined in Rule 12b-2 of the Exchange Act). Yes þ No o

Indicate the number of shares outstanding of each of the registrant’s classes of common stock, as of the latest practicable date.


Class		Outstanding at May 3, 2005

Common Stock $.05 par value		587,689,073

COUNTRYWIDE FINANCIAL CORPORATION

FORM 10-Q

March 31, 2005

TABLE OF CONTENTS


			Page

PART I. FINANCIAL INFORMATION				2
	Item 1.	Financial Statements (Unaudited):
		Consolidated Balance Sheets — March 31, 2005 and December 31, 2004		2
		Consolidated Statements of Earnings — Quarters Ended March 31, 2005 and 2004		3
		Consolidated Statement of Changes in Shareholders’ Equity — Quarters Ended March 31, 2005 and 2004		4
		Consolidated Statements of Cash Flows — Quarters Ended March 31, 2005 and 2004		5
		Notes to Consolidated Financial Statements		6
	Item 2.	Management’s Discussion and Analysis of Financial Condition and Results of Operations		30
		Overview		30
		Results of Operations Comparison — Quarters Ended March 31, 2005 and 2004		31
		Quantitative and Qualitative Disclosure About Market Risk		48
		Credit Risk		50
		Loan Servicing		52
		Liquidity and Capital Resources		53
		Off-Balance Sheet Arrangements and Aggregate Contractual Obligations		54
		Prospective Trends		55
		Regulatory Trends		56
		Recently Issued New Accounting Standards		56
		Factors That May Affect Our Future Results		57
	Item 3.	Quantitative and Qualitative Disclosure About Market Risk		58
	Item 4.	Controls and Procedures		58

PART II. OTHER INFORMATION				59
	Item 2.	Unregistered Sales of Equity Securities and Use of Proceeds		59
	Item 6.	Exhibits		60
EX-12.1
EX-31.1
EX-31.2
EX-32.1
EX-32.2

PART I. FINANCIAL INFORMATION


Item 1.	*Financial Statements*

COUNTRYWIDE FINANCIAL CORPORATION AND SUBSIDIARIES

CONSOLIDATED BALANCE SHEETS


		March 31,		December 31,
		2005		2004

		(Unaudited)
		(In thousands, except share data)
ASSETS
Cash		$	766,049	$	753,417
Mortgage loans and mortgage-backed securities held for sale			29,935,131		37,350,149
Trading securities owned, at market value			8,743,946		10,558,387
Trading securities pledged as collateral, at market value			824,030		1,303,007
Securities purchased under agreements to resell and securities borrowed			21,083,634		13,231,448
Loans held for investment, net			47,698,472		39,660,086
Investments in other financial instruments			11,689,423		10,091,057
Mortgage servicing rights, net			9,746,957		8,729,929
Premises and equipment, net			1,093,265		985,350
Other assets			5,452,134		5,832,875

	Total assets	$	137,033,041	$	128,495,705


LIABILITIES
Notes payable		$	57,698,487	$	66,613,671
Securities sold under agreements to repurchase			30,848,012		20,465,123
Deposit liabilities			25,679,739		20,013,208
Accounts payable and accrued liabilities			8,886,722		8,507,384
Income taxes payable			2,968,034		2,586,243

	Total liabilities		126,080,994		118,185,629

Commitments and contingencies			—		—
SHAREHOLDERS’ EQUITY
Preferred stock — authorized, 1,500,000 shares of $0.05 par value; none issued and outstanding			—		—
Common stock — authorized, 1,000,000,000 shares of $0.05 par value; issued, 586,298,219 shares and 581,706,836 shares at March 31, 2005 and December 31, 2004, respectively; outstanding, 586,211,811 shares and 581,648,881 shares at March 31, 2005 and December 31, 2004, respectively			29,315		29,085
Additional paid-in capital			2,651,297		2,570,402
Accumulated other comprehensive income			72,672		118,943
Retained earnings			8,198,763		7,591,646

	Total shareholders’ equity		10,952,047		10,310,076

	Total liabilities and shareholders’ equity	$	137,033,041	$	128,495,705

The accompanying notes are an integral part of these consolidated financial statements.

COUNTRYWIDE FINANCIAL CORPORATION AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF EARNINGS

(Unaudited)


			Quarters Ended March 31,

			2005			2004

			(In thousands, except per
			share data)
Revenues
	Gain on sale of loans and securities		$	1,361,788		$	1,117,390

	Interest income			1,480,781			1,049,750
	Interest expense			(995,937	)		(517,555	)

		Net interest income		484,844			532,195
	Provision for loan losses			(19,622	)		(20,781	)

		Net interest income after provision for loan losses		465,222			511,414


	Loan servicing fees and other income from retained interests			972,358			756,781
	Amortization of mortgage servicing rights			(472,187	)		(413,682	)
	Recovery (impairment) of retained interests			315,364			(995,645	)
	Servicing hedge (losses) gains			(552,292	)		672,796

		Net loan servicing fees and other income from retained interests		263,243			20,250


	Net insurance premiums earned			199,518			195,383
	Commissions and other revenue			115,114			120,781

		Total revenues		2,404,885			1,965,218


Expenses
	Compensation			786,479			680,664
	Occupancy and other office			200,271			167,871
	Insurance claims			75,935			84,675
	Advertising and promotion			55,179			32,137
	Other operating			138,024			117,188

		Total expenses		1,255,888			1,082,535


Earnings before income taxes				1,148,997			882,683
	Provision for income taxes			460,145			339,494

		NET EARNINGS	$	688,852		$	543,189


Earnings per share
	Basic		$	1.18		$	0.98
	Diluted		$	1.13		$	0.90

The accompanying notes are an integral part of these consolidated financial statements.

COUNTRYWIDE FINANCIAL CORPORATION AND SUBSIDIARIES

CONSOLIDATED STATEMENT OF CHANGES IN SHAREHOLDERS’ EQUITY

(Unaudited)


											Accumulated
								Additional			Other
				Number		Common		Paid-in-			Comprehensive			Retained
				of Shares		Stock		Capital			Income (Loss)			Earnings			Total

				(In thousands, except share data)
Balance at December 31, 2003					184,479,342	$	9,225	$	2,307,531		$	164,526		$	5,603,434		$	8,084,716
Comprehensive income:
	Net earnings for the period				—		—		—			—			543,189			543,189
	Other comprehensive income (loss), net of tax:
		Net unrealized losses from available-for-sale securities			—		—		—			(15,700	)		—			(15,700	)
		Net unrealized losses from cash flow hedging instruments			—		—		—			(3,169	)		—			(3,169	)
		Net change in foreign currency translation adjustment			—		—		—			3,782			—			3,782

			Total comprehensive income															528,102
3-for-2 stock split, effected April 12, 2004					92,934,682		4,647		(4,647	)		—			—			—
Stock options exercised					1,093,103		54		28,533			—			—			28,587
Tax benefit of stock options exercised					—		—		22,050			—			—			22,050
Issuance of common stock, net of treasury stock					226,531		12		9,385			—			—			9,397
Contribution of common stock to 401(k) Plan					81,258		4		6,161			—			—			6,165
Cash dividends paid — $0.22 per common share (before giving effect to stock splits)					—		—		—			—			(40,794	)		(40,794	)

Balance at March 31, 2004					278,814,916	$	13,942	$	2,369,013		$	149,439		$	6,105,829		$	8,638,223


Balance at December 31, 2004					581,648,881	$	29,085	$	2,570,402		$	118,943		$	7,591,646		$	10,310,076
Comprehensive income:
	Net earnings for the period				—		—		—			—			688,852			688,852
	Other comprehensive income (loss), net of tax:
		Net unrealized losses from available-for-sale securities			—		—		—			(48,544	)		—			(48,544	)
		Net unrealized gains from cash flow hedging instruments			—		—		—			7,331			—			7,331
		Net change in foreign currency translation adjustment			—		—		—			(5,058	)		—			(5,058	)

			Total comprehensive income															642,581
Stock options exercised					2,450,239		123		20,032			—			—			20,155
Tax benefit of stock options exercised					—		—		24,796			—			—			24,796
Issuance of common stock, net of treasury stock					1,192,300		60		27,046			—			—			27,106
Issuance of common stock for conversion of convertible debt					770,268		39		1,566			—			—			1,605
Tax benefit of interest on conversion of convertible debt					—		—		1,938			—			—			1,938
Contribution of common stock to 401(k) Plan					150,123		8		5,517			—			—			5,525
Cash dividends paid — $0.14 per common share					—		—		—			—			(81,735	)		(81,735	)

Balance at March 31, 2005					586,211,811	$	29,315	$	2,651,297		$	72,672		$	8,198,763		$	10,952,047

The accompanying notes are an integral part of these consolidated financial statements.

COUNTRYWIDE FINANCIAL CORPORATION AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF CASH FLOWS

(Unaudited)


						Quarters Ended March 31,

						2005			2004

						(In thousands)
Cash flows from operating activities:
	Net earnings					$	688,852		$	543,189
		Adjustments to reconcile net earnings to net cash provided (used) by operating activities:
			Gain on sale of available-for-sale securities				(5,278	)		(132,599	)
			Accretion of discount on notes payable				280			1,260
			Provision for loan losses				19,622			20,781
			Accretion of discount on other retained interests				(104,806	)		(83,925	)
			Amortization of mortgage servicing rights				472,187			413,682
			(Recovery) impairment of mortgage servicing rights				(452,434	)		902,230
			Impairment of other retained interests				121,208			63,332
			Depreciation and other amortization				40,242			34,604
			Provision for deferred income taxes				333,342			71,794
			Tax benefit of stock options exercised				24,796			22,050
			Loans and mortgage-backed securities held for sale:
				Origination and purchase			(83,502,615	)		(67,079,000	)
				Sale and principal repayments			90,917,633			67,583,650

					Increase in mortgage loans and mortgage-backed securities held for sale		7,415,018			504,650
			Decrease (increase) in trading securities				2,293,418			(1,858,309	)
			Decrease (increase) in investments in other financial instruments				452,009			(35,908	)
			Decrease (increase) in other assets				367,482			(251,503	)
			Increase in accounts payable and accrued liabilities				384,863			1,523,437
			Increase in income taxes payable				79,744			81,237

				Net cash provided by operating activities			12,130,545			1,820,002

Cash flows from investing activities:
	Increase in securities purchased under agreements to resell and securities borrowed						(7,852,186	)		(2,870,448	)
	Additions to loans held for investment, net						(8,058,008	)		(3,593,426	)
	Additions to investments in other financial instruments						(3,471,282	)		(3,169,837	)
	Proceeds from sale and repayment of investments in other financial instruments						1,110,347			5,404,732
	Additions to mortgage servicing rights, net						(1,036,781	)		(877,972	)
	Purchase of premises and equipment, net						(134,898	)		(120,262	)

		Net cash used by investing activities					(19,442,808	)		(5,227,213	)

Cash flows from financing activities:
	Net (decrease) increase in short-term borrowings						(9,595,904	)		1,197,604
	Issuance of long-term debt						3,785,000			4,805,000
	Repayment of long-term debt						(2,879,147	)		(1,066,543	)
	Net increase (decrease) in securities sold under agreements to repurchase						10,382,889			(3,854,885	)
	Net increase in deposit liabilities						5,666,531			2,897,769
	Issuance of common stock						47,261			37,984
	Payment of dividends						(81,735	)		(40,794	)

		Net cash provided by financing activities					7,324,895			3,976,135

Net increase in cash							12,632			568,924
Cash at beginning of period							753,417			633,467

		Cash at end of period				$	766,049		$	1,202,391

The accompanying notes are an integral part of these consolidated financial statements.

COUNTRYWIDE FINANCIAL CORPORATION AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

(Unaudited)


Note 1 —	Basis of Presentation

The accompanying consolidated financial statements have been prepared in conformity with U.S. generally accepted accounting principles for interim financial information and with the instructions to Form 10-Q and Rule 10-01 of Regulation S-X. Accordingly, they do not include all of the information and notes required by generally accepted accounting principles for complete financial statements. In the opinion of management, all adjustments (consisting of normal recurring adjustments) considered necessary for a fair presentation have been included. Operating results for the quarter ended March 31, 2005 are not necessarily indicative of the results that may be expected for the year ending December 31, 2005. For further information, refer to the consolidated financial statements and notes thereto included in the Annual Report on Form 10-K for the year ended December 31, 2004 (the “2004 Annual Report”) for Countrywide Financial Corporation and its subsidiaries, collectively referred to as the “Company” or “Countrywide.”

On April 12, 2004, the Company completed a 3-for-2 stock split effected as a stock dividend. On August 30, 2004, the Company completed a 2-for-1 stock split effected as a stock dividend. In the fourth quarter of 2004, the Emerging Issues Task Force (“EITF”) reached a consensus on Issue No. 04-8 (“EITF 04-8”), which required the Company to include the assumed conversion of its convertible debentures in diluted earnings per share. All references in the accompanying consolidated balance sheets, consolidated statements of earnings and notes to consolidated financial statements to the number of common shares and earnings per share amounts have been restated to reflect these stock splits and the implementation of EITF 04-8.

Certain amounts reflected in the prior year consolidated financial statements have been reclassified to conform to the current year presentation.


Note 2 —	Earnings Per Share

Basic earnings per share is determined using net earnings divided by the weighted average shares outstanding during the period. Diluted earnings per share is computed by dividing net earnings available to common shareholders by the weighted-average shares outstanding, assuming all potentially dilutive common shares were issued.

The following table summarizes the basic and diluted earnings per share calculations for the periods indicated:


		Quarters Ended March 31,

		2005						2004

		Net				Per-Share		Net				Per-Share
		Earnings		Shares		Amount		Earnings		Shares		Amount

		(In thousands, except per share data)
Net earnings and basic earnings per share		$	688,852		583,201	$	1.18	$	543,189		555,968	$	0.98
Effect of dilutive securities:
	Convertible debentures		109		2,531				791		15,137
	Dilutive stock options		—		24,944				—		35,522

Diluted earnings and earnings per share		$	688,961		610,676	$	1.13	$	543,980		606,627	$	0.90

During the quarters ended March 31, 2005 and 2004, options to purchase 31,500 shares and 7,500 shares, respectively, were outstanding but not included in the computation of earnings per share because they were anti-dilutive.

COUNTRYWIDE FINANCIAL CORPORATION AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)

(Unaudited)


	*Stock-Based Compensation*

The Company generally grants to eligible employees, stock options for a fixed number of shares with an exercise price equal to the fair value of the shares at the date of grant. The Company presently recognizes compensation expense related to its stock option plans only to the extent that the fair value of the shares at the grant date exceeds the exercise price.

The Company recognizes compensation expense relating to its restricted stock grants based on the fair value of the shares awarded as of the date of the award. Compensation expense for restricted stock grants is recognized over the shares’ vesting period.

As more fully discussed in Note 22 — “Recently Issued Accounting Standards,” the Company will adopt Statement of Financial Accounting Standards No. 123R, “Share-Based Payment” (“SFAS 123R”) beginning in 2006. As a result of adopting SFAS 123R, the Company will be required to charge to expense the value of employee stock options as well as restricted stock and any other stock-based compensation. Amounts to be charged to earnings include the unamortized grants made prior to the effective date plus the value of any grants awarded after December 31, 2005. Management has not yet determined the effect of implementation of SFAS 123R or whether the Statement will be implemented prospectively or retrospectively.

Had the estimated fair value of the options granted been included in compensation expense, the Company’s net earnings and earnings per share would have been as follows:


			Quarters Ended
			March 31,

			2005			2004

			(In thousands, except per
			share data)
Net Earnings:
	As reported		$	688,852		$	543,189
		Add: Stock-based compensation included in net earnings, net of taxes		1,903			474
		Deduct: Stock-based employee compensation, net of taxes		(12,884	)		(5,190	)

	Pro forma		$	677,871		$	538,473

Basic Earnings Per Share:
	As reported		$	1.18		$	0.98
	Pro forma		$	1.16		$	0.97
Diluted Earnings Per Share:
	As reported		$	1.13		$	0.90
	Pro forma		$	1.11		$	0.89

The fair value of each option grant is estimated on the date of grant using a Black-Scholes option-pricing model that has been modified to consider cash dividends to be paid. For purposes of this pro-forma disclosure, the fair value of each option grant is amortized to periodic compensation expense over the options’ vesting period.

COUNTRYWIDE FINANCIAL CORPORATION AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)

(Unaudited)

The weighted-average assumptions used to value the option grants and the resulting average estimated values were as follows:


		Quarters Ended
		March 31,

		2005			2004

Weighted Average Assumptions:
	Dividend yield		1.10	%		0.75	%
	Expected volatility		34.62	%		33.00	%
	Risk-free interest rate		3.80	%		3.25	%
	Expected life (in years)		5.0			4.9
Per-share fair value of options		$	11.93		$	8.15
Weighted-average exercise price		$	36.08		$	25.62


Note 3 —	Supplemental Cash Flow Information

The following table presents supplemental cash flow information:


		Quarters Ended
		March 31,

		2005			2004

		(In thousands)
Cash used to pay interest		$	967,020		$	517,928
Cash used to pay income taxes			21,267			171,740
Non-cash investing and finance activities:
	Securitization of interest-only strips		—			56,039
	Unrealized loss on available-for-sale securities, foreign currency translation adjustments and cash flow hedges, net of tax		(46,271	)		(15,087	)
	Net decrease in fair value of interest rate and foreign currency swaps relating to medium-term notes		(223,808	)		(18,961	)
	Contribution of common stock to 401(k) plan		5,525			6,165
	Increase in Mortgage Loans Held in SPEs and asset-backed secured financings		—			6,594,831
	Issuance of common stock for conversion of convertible debt		1,605			—
	Tax effect of interest on conversion of convertible debt		1,938			—

COUNTRYWIDE FINANCIAL CORPORATION AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)

(Unaudited)


Note 4 —	Mortgage Loans Held for Sale

The Company’s broker-dealer subsidiary may reacquire beneficial interests previously sold to outside third parties in the Company’s securitization transactions. In the event that such securities include protection by a derivative financial instrument held by a special purpose entity (“SPE”), that SPE no longer meets the conditions as a qualifying special purpose entity (“QSPE”) under SFAS 140. As a result, the mortgage loans held for sale and asset-backed secured financings are included on the Company’s consolidated balance sheets and are initially recorded at fair value. Such mortgage loans, net of related retained interests (“Mortgage Loans held in SPEs”) are included with mortgage loans and mortgage-backed securities held for sale on the Company’s consolidated balance sheet. At March 31, 2005, no such Mortgage Loans held in SPEs had been recorded.

Mortgage loans held for sale include the following:


		March 31,		December 31,
		2005		2004

		(In thousands)
Prime mortgage loans		$	20,658,270	$	15,561,822
Nonprime mortgage loans			6,833,132		9,878,661
Prime home equity loans			2,229,221		1,046,075
Commercial real estate loans			214,508		300,292

	Mortgage loans originated or purchased for resale		29,935,131		26,786,850
Mortgage Loans Held in SPEs			—		10,563,299

		$	29,935,131	$	37,350,149

At March 31, 2005, the Company had pledged $2.4 billion of mortgage loans originated or purchased for resale as collateral for asset-backed secured financings, and $13.4 billion in mortgage loan inventory to secure securities sold under agreements to repurchase and asset-backed commercial paper.

COUNTRYWIDE FINANCIAL CORPORATION AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)

(Unaudited)


Note 5 —	Trading Securities

Trading securities, which consist of trading securities owned and trading securities pledged as collateral, include the following:


		March 31,		December 31,
		2005		2004

		(In thousands)
Mortgage pass-through securities:
	Fixed-rate	$	4,417,991	$	6,768,864
	Adjustable-rate		416,230		717,194

			4,834,221		7,486,058
Collateralized mortgage obligations			1,726,332		2,067,066
U.S. Treasury securities			1,525,676		971,438
Obligations of U.S. Government-sponsored enterprises			592,736		560,163
Asset-backed securities			366,811		340,684
Interest-only stripped securities			213,912		318,110
Mark-to-market on TBA securities			166,116		58,676
Negotiable certificates of deposits			135,942		30,871
Corporate debt securities			2,449		21,659
Other			3,781		6,669

		$	9,567,976	$	11,861,394

As of March 31, 2005, $7.3 billion of the Company’s trading securities had been pledged as collateral for financing purposes, of which the counterparty had the contractual right to sell or re-pledge $0.8 billion.


Note 6 —	Securities Purchased Under Agreements to Resell and Securities Borrowed

As of March 31, 2005, the Company had accepted collateral with a fair value of $27.0 billion that it had the contractual ability to sell or re-pledge of which $5.8 billion related to amounts offset against securities purchased under agreements to resell under master netting arrangements. As of March 31, 2005, the Company had re-pledged $23.3 billion of such collateral for financing purposes.

As of December 31, 2004, the Company had accepted collateral with a fair value of $22.2 billion that it had the contractual ability to sell or re-pledge of which $8.2 billion related to amounts offset against securities purchased under agreements to resell under master netting arrangements. As of December 31, 2004, the Company had re-pledged $18.7 billion of such collateral for financing purposes.

COUNTRYWIDE FINANCIAL CORPORATION AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)

(Unaudited)


Note 7 —	Mortgage Servicing Rights

The activity in Mortgage Servicing Rights (“MSRs”) is as follows:


		Quarters Ended
		March 31,

		2005			2004

		(In thousands)
Mortgage Servicing Rights
	Balance at beginning of period	$	9,820,511		$	8,065,174
	Additions		1,036,781			877,972
	Securitization of MSRs		—			(56,039	)
	Amortization		(472,187	)		(413,682	)
	Application of valuation allowance to write down impaired MSRs		—			(360,774	)

	Balance before valuation allowance at end of period		10,385,105			8,112,651

Valuation Allowance for Impairment of Mortgage Servicing Rights
	Balance at beginning of period		(1,090,582	)		(1,201,549	)
	Recoveries (additions)		452,434			(902,230	)
	Application of valuation allowance to write down impaired MSRs		—			360,774

	Balance at end of period		(638,148	)		(1,743,005	)

Mortgage Servicing Rights, net		$	9,746,957		$	6,369,646

The estimated fair values of mortgage servicing rights were $10.0 billion and $8.9 billion as of March 31, 2005 and December 31, 2004, respectively.

The following table summarizes the Company’s estimate of amortization of its existing MSRs for the five-year period ending March 31, 2010. This projection was developed using the assumptions made by management in its March 31, 2005 valuation of MSRs. The assumptions underlying the following estimate will be affected as market conditions and portfolio composition and behavior change, causing both actual and projected amortization levels to vary over time. Therefore, the following estimates will change in a manner and amount not presently determinable by management.


		Estimated MSR
Year Ending March 31,		Amortization

		(In thousands)
2006		$	1,745,940
2007			1,416,318
2008			1,155,969
2009			949,099
2010			783,717

	Five year total	$	6,051,043

COUNTRYWIDE FINANCIAL CORPORATION AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)

(Unaudited)


Note 8 —	Investments in Other Financial Instruments

Investments in other financial instruments include the following:


				March 31,		December 31,
				2005		2004

				(In thousands)
Available-for-sale securities:
	Mortgage-backed securities			$	7,559,654	$	6,009,819
	Obligations of U.S. Government-sponsored enterprises				268,611		279,991
	Municipal bonds				266,114		208,239
	U.S. Treasury securities				72,618		66,030
	Other				64		3,685

		Subtotal			8,167,061		6,567,764

	Other interests retained in securitization classified as available-for-sale securities:
		Prime home equity line of credit transferor’s interest			395,766		273,639
		Prime home equity residual securities			232,843		275,598
		Nonconforming interest-only and principal-only securities			221,272		191,502
		Nonprime residual securities			174,928		237,695
		Prepayment penalty bonds			87,682		61,483
		Nonprime interest-only securities			49,246		84,834
		Prime home equity interest-only securities			24,467		27,950
		Nonconforming residual securities			8,696		11,462
		Subordinated mortgage-backed pass-through securities			2,261		2,306

			Total other interests retained in securitization classified as available-for-sale securities		1,197,161		1,166,469

			Total available-for-sale securities		9,364,222		7,734,233

Other interests retained in securitization classified as trading securities:
	Prime home equity residual securities				631,427		533,554
	Nonprime residual securities				295,994		187,926
	Nonconforming residual securities				14,669		20,555

		Total other interests retained in securitization classified as trading securities			942,090		742,035

Servicing hedge derivative instruments					961,610		1,024,977
Debt hedge instruments — interest rate and foreign currency swaps					421,501		589,812

		Total investments in other financial instruments		$	11,689,423	$	10,091,057

At March 31, 2005, the Company had pledged $2.2 billion of mortgage-backed securities to secure securities sold under agreements to repurchase, which the counterparty had the contractual right to re-pledge.

COUNTRYWIDE FINANCIAL CORPORATION AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)

(Unaudited)

Amortized cost and fair value of available-for-sale securities are as follows:


	March 31, 2005

			Gross		Gross
	Amortized		Unrealized		Unrealized
	Cost		Gains		Losses			Fair Value

			(In thousands)
Mortgage-backed securities	$	7,642,619	$	1,673	$	(84,638	)	$	7,559,654
Obligations of U.S. Government-sponsored enterprises		273,962		1		(5,352	)		268,611
Municipal bonds		267,768		914		(2,568	)		266,114
U.S. Treasury securities		71,554		1,699		(635	)		72,618
Other interests retained in securitization		1,086,381		117,164		(6,384	)		1,197,161
Other		65		—		(1	)		64

	$	9,342,349	$	121,451	$	(99,578	)	$	9,364,222


	December 31, 2004

			Gross		Gross
	Amortized		Unrealized		Unrealized
	Cost		Gains		Losses			Fair Value

	(In thousands)
Mortgage-backed securities	$	6,034,293	$	6,347	$	(30,821	)	$	6,009,819
Obligations of U.S. Government-sponsored enterprises		281,430		233		(1,672	)		279,991
Municipal bonds		205,726		2,669		(156	)		208,239
U.S. Treasury securities		63,977		2,237		(184	)		66,030
Other interests retained in securitization		1,045,011		123,766		(2,308	)		1,166,469
Other		4,370		15		(700	)		3,685

	$	7,634,807	$	135,267	$	(35,841	)	$	7,734,233

The Company’s available-for-sale securities in an unrealized loss position are as follows:


	March 31, 2005

	Less Than 12 Months					12 Months or More					Total

			Gross					Gross					Gross
			Unrealized					Unrealized					Unrealized
	Fair Value		Loss			Fair Value		Loss			Fair Value		Loss

	(In thousands)
Mortgage-backed securities	$	5,571,969	$	(62,442	)	$	967,135	$	(22,196	)	$	6,539,104	$	(84,638	)
Obligations of U.S. Government- sponsored enterprises		117,884		(1,900	)		140,154		(3,452	)		258,038		(5,352	)
Municipal bonds		131,585		(2,568	)		—		—			131,585		(2,568	)
U.S. Treasury securities		18,659		(218	)		22,073		(417	)		40,732		(635	)
Other interests retained in securitization		118,238		(5,141	)		9,360		(1,243	)		127,598		(6,384	)
Other		50		(1	)		—		—			50		(1	)

Total impaired securities	$	5,958,385	$	(72,270	)	$	1,138,722	$	(27,308	)	$	7,097,107	$	(99,578	)

COUNTRYWIDE FINANCIAL CORPORATION AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)

(Unaudited)


	December 31, 2004

	Less Than 12 Months					12 Months or More					Total

			Unrealized					Unrealized					Unrealized
	Fair Value		Loss			Fair Value		Loss			Fair Value		Loss

	(In thousands)
Mortgage-backed securities	$	3,656,167	$	(18,725	)	$	823,916	$	(12,096	)	$	4,480,083	$	(30,821	)
Obligations of U.S. Government- sponsored enterprises		185,983		(1,283	)		28,648		(389	)		214,631		(1,672	)
U.S. Treasury securities		27,288		(184	)		—		—			27,288		(184	)
Municipal bonds		65,587		(156	)		—		—			65,587		(156	)
Other interests retained in securitization		27,970		(1,753	)		5,256		(555	)		33,226		(2,308	)
Other		3,620		(700	)		—		—			3,620		(700	)

Total impaired securities	$	3,966,615	$	(22,801	)	$	857,820	$	(13,040	)	$	4,824,435	$	(35,841	)

The impairment reflected in these securities is a result of the change in market interest rates and is not indicative of the underlying issuers’ ability to repay. Accordingly, we have not recognized other-than-temporary impairment related to these securities as of March 31, 2005 or December 31, 2004.

Gross gains and losses realized on the sales of available-for-sale securities are as follows:


			Quarters Ended
			March 31,

			2005			2004

			(In thousands)
Mortgage-backed securities:
	Gross realized gains		$	16		$	2,908
	Gross realized losses			(51	)		(367	)

		Net		(35	)		2,541

Home equity asset-backed senior securities:
	Gross realized gains			—			96,190
	Gross realized losses			—			—

		Net		—			96,190

Obligations of U.S. Government-sponsored enterprises:
	Gross realized gains			13			—
	Gross realized losses			—			—

		Net		13			—

Municipal bonds:
	Gross realized gains			—			—
	Gross realized losses			(100	)		—

		Net		(100	)		—

COUNTRYWIDE FINANCIAL CORPORATION AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)

(Unaudited)


			Quarters Ended
			March 31,

			2005			2004

			(In thousands)
U.S. Treasury securities:
	Gross realized gains			—			33,868
	Gross realized losses			—			—

		Net		—			33,868

Other interests retained in securitization:
	Gross realized gains			4,147			—
	Gross realized losses			—			—

		Net		4,147			—

Other:
	Gross realized gains			1,253			—
	Gross realized losses			—			—

		Net		1,253			—

Total gains and losses on available-for-sale securities:
	Gross realized gains			5,429			132,966
	Gross realized losses			(151	)		(367	)

		Net	$	5,278		$	132,599


Note 9 —	Loans Held for Investment

Loans held for investment include the following:


			March 31,			December 31,
			2005			2004

			(In thousands)
Mortgage loans:
	Prime		$	28,621,141		$	22,587,246
	Prime home equity			13,425,446			11,435,792
	Nonprime			179,293			171,592

		Total mortgage loans		42,225,880			34,194,630
Warehouse lending advances secured by mortgage loans				3,501,843			3,681,830
Defaulted FHA-insured and VA-guaranteed mortgage loans repurchased from securities				1,547,777			1,518,642

				47,275,500			39,395,102
Deferred loan origination costs				557,888			390,030
Allowance for loan losses				(134,916	)		(125,046	)

		Loans held for investment, net	$	47,698,472		$	39,660,086

At March 31, 2005, mortgage loans held for investment totaling $30.8 billion were pledged to secure Federal Home Loan Bank advances.

COUNTRYWIDE FINANCIAL CORPORATION AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)

(Unaudited)

At March 31, 2005, the Company had accepted collateral of $3.7 billion securing warehouse-lending advances which it had the contractual ability to re-pledge. As of March 31, 2005, no such mortgage loan collateral had been re-pledged.

Changes in the allowance for the loan losses were as follows:


	Quarters Ended
	March 31,

	2005			2004

	(In thousands)
Balance, beginning of the period	$	125,046		$	78,449
Provision for loan losses		19,622			20,781
Net charge-offs		(9,752	)		(6,176	)

Balance, end of the period	$	134,916		$	93,054


Note 10 —	Other Assets

Other assets include the following:


	March 31,		December 31,
	2005		2004

	(In thousands)
Reimbursable servicing advances	$	1,015,776	$	1,355,584
Investments in Federal Reserve Bank and Federal Home Loan Bank stock		904,194		795,894
Interest receivable		491,624		426,962
Receivables from custodial accounts		434,329		391,898
Securities broker-dealer receivables		392,440		818,299
Capitalized software, net		295,060		286,504
Federal funds sold		290,000		225,000
Prepaid expenses		204,024		212,310
Cash surrender value of assets held in trust for deferred compensation plan		190,917		184,569
Restricted cash		166,023		175,177
Receivables from sale of securities		125,536		143,874
Derivative margin accounts		114,641		99,795
Other assets		827,570		717,009

	$	5,452,134	$	5,832,875

At March 31, 2005, the Company had pledged $125.8 million of other assets to secure securities sold under agreements to repurchase.

COUNTRYWIDE FINANCIAL CORPORATION AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)

(Unaudited)


Note 11 —	Notes Payable

Notes payable consists of the following:


		March 31,		December 31,
		2005		2004

		(In thousands)
Medium-term notes:
	Fixed rate	$	12,315,606	$	13,519,494
	Floating rate		11,353,494		11,846,268

			23,669,100		25,365,762
Federal Home Loan Bank advances			17,875,000		15,475,000
Asset-backed commercial paper			10,565,109		7,372,138
Unsecured commercial paper			2,082,646		—
Asset-backed secured financings			2,383,874		17,258,543
Junior subordinated debentures			1,028,046		1,028,013
Convertible securities			43,951		65,026
Secured notes payable			34,347		28,512
LYONs convertible debentures			11,051		12,626
Unsecured notes payable			5,363		8,051

		$	57,698,487	$	66,613,671


	*Medium-Term Notes*

During the quarter ended March 31, 2005, the Company issued the following medium-term notes:


	Outstanding Balance
							Interest Rate						Maturity Date
	Floating-		Fixed-
	Rate		Rate		Total		From			To			From		To

	(In thousands)
CHL Series M	$	585,000	$	—	$	585,000		2.81	%		2.81	%		January 2006		January 2006
CFC Series A		575,000		—		575,000		3.12	%		3.12	%		March 2006		March 2006

Total	$	1,160,000	$	—	$	1,160,000

Of the $1.2 billion of floating-rate medium-term notes issued by the Company during the quarter ended March 31, 2005, none were effectively converted to fixed-rate debt using interest rate swap contracts.

During the quarter ended March 31, 2005, the Company redeemed $2.6 billion of maturing medium-term notes.

As of March 31, 2005, $3.5 billion of foreign currency-denominated medium-term notes were outstanding. Such notes are denominated in Japanese Yen, Pounds Sterling, Canadian Dollars, Australian Dollars, and Euros. These notes have been effectively converted to U.S. dollars through currency swaps.


	*Asset-Backed Secured Financings*

The Company has recorded certain securitization transactions as secured borrowings as of March 31, 2005 which do not qualify for sales treatment under Statement of Financial Accounting Standards No. 140, “Accounting for Transfers and Servicing of Financial Assets and Extinguishment of Liabilities”

COUNTRYWIDE FINANCIAL CORPORATION AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)

(Unaudited)

(“SFAS 140”) at that date as a result of the retention of securities that include protection by a derivative. These secured borrowings amounted to $2.4 billion at March 31, 2005 and are secured by the related mortgage loans.

In addition, CSC may reacquire beneficial interests previously sold to outside third parties in the Company’s securitization transactions. In the event that such securities include protection by a derivative financial instrument held by a SPE, that SPE no longer meets the conditions as a QSPE, under SFAS 140. As a result, the mortgage loans held for sale and asset-backed secured financings are included on the Company’s consolidated balance sheets and are initially recorded at fair value. Once the securities that include protection by a derivative financial instrument are sold, typically in less than 90 days, the conditions necessary for QSPE status under SFAS 140 are again met and the related assets and liabilities are removed from the Company’s consolidated balance sheet. At March 31, 2005, no such asset-backed secured financings had been recorded.


	*Federal Home Loan Bank Advances*

During the quarter ended March 31, 2005, the Company obtained $2.6 billion of advances from the Federal Home Loan Bank (“FHLB”). Of these advances, $2.1 billion were fixed-rate and $0.5 billion were adjustable-rate. At March 31, 2005, the Company had pledged $30.8 billion of mortgage loans to secure its outstanding FHLB advances.


	*Asset-Backed Commercial Paper*

The Company has formed three special purpose entities to finance certain of its mortgage loan inventory.

Two of these entities issue commercial paper in the form of short-term secured liquidity notes (“SLNs”) with initial maturities of up to 180 days. The SLNs bear interest at prevailing money market rates approximating LIBOR. The SLN programs’ capacities, based on aggregate commitments from underlying credit enhancers, totaled $28.1 billion at March 31, 2005. For the quarter ended March 31, 2005, the average borrowings under these facilities totaled $11.6 billion, and the weighted-average interest rate borne by the SLNs was 2.60%. At March 31, 2005, the weighted-average interest rate borne by the SLNs was 2.90%, and the Company had pledged $11.9 billion in mortgage loan inventory to secure the SLNs.

The third special purpose entity is funded with financing provided by a group of bank-sponsored conduits, which, in turn, is financed through the issuance of asset-backed commercial paper. Interest rates are indexed to prevailing money market rates approximating the cost of asset-backed commercial paper. For the quarter ended March 31, 2005, average borrowings under the facility totaled $0.1 billion. At March 31, 2005, the entity had aggregate commitments form the bank-sponsored conduits totaling $8.4 billion, and had no outstanding borrowings.


	*Junior Subordinated Debentures*

As more fully discussed in Note 16 — “Notes Payable,” included in the consolidated financial statements of the 2004 Annual Report, the Company has issued junior subordinated debentures to nonconsolidated subsidiary trusts. The trusts finance their holdings of the junior subordinated debentures by issuing Company-guaranteed capital securities.

COUNTRYWIDE FINANCIAL CORPORATION AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)

(Unaudited)

The Company guarantees CHL’s indebtedness to two of the subsidiary trusts, Countrywide Capital I and Countrywide Capital III, which are excluded from the Company’s consolidated financial statements. Following is summarized information for those trusts:


			March 31, 2005

			Countrywide		Countrywide
			Capital I		Capital III

			(In thousands)
Balance Sheet:
	Junior subordinated debentures receivable		$	307,345	$	205,237
	Other assets			7,217		4,841

		Total assets	$	314,562	$	210,078

	Notes payable		$	9,221	$	6,171
	Other liabilities			7,217		4,841
	Company-guaranteed mandatorily redeemable capital trust pass-through securities			298,124		199,066
	Shareholder’s equity			—		—

		Total liabilities and shareholder’s equity	$	314,562	$	210,078


			Quarter Ended
			March 31, 2005

			Countrywide			Countrywide
			Capital I			Capital III

			(In thousands)
Statement of Earnings:
	Revenues		$	6,208		$	4,160
	Expenses			(6,208	)		(4,160	)
	Provision for income taxes			—			—

		Net earnings	$	—		$	—


			December 31, 2004

			Countrywide		Countrywide
			Capital I		Capital III

			(In thousands)
Balance Sheet:
	Junior subordinated debentures receivable		$	307,323	$	205,226
	Other assets			1,031		691

		Total assets	$	308,354	$	205,917

	Notes payable		$	9,220	$	6,171
	Other liabilities			1,031		691
	Company-guaranteed mandatorily redeemable capital trust pass-through securities			298,103		199,055
	Shareholder’s equity			—		—

		Total liabilities and shareholder’s equity	$	308,354	$	205,917

COUNTRYWIDE FINANCIAL CORPORATION AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)

(Unaudited)


			Quarter Ended
			March 31, 2004

			Countrywide			Countrywide
			Capital I			Capital III

			(In thousands)
Statement of Earnings:
	Revenues		$	6,208		$	4,160
	Expenses			(6,208	)		(4,160	)
	Provision for income taxes			—			—

		Net earnings	$	—		$	—


Note 12 —	Deposits

The following table summarizes deposit balances:


	March 31,		December 31,
	2005		2004

	(In thousands)
Time deposits	$	13,433,625	$	10,369,763
Company-controlled custodial deposit accounts		10,028,742		7,900,900
Interest-bearing checking accounts		1,940,900		1,673,517
Non-interest-bearing checking accounts		275,364		66,983
Savings accounts		1,108		2,045

	$	25,679,739	$	20,013,208


Note 13 —	Securities Sold Under Agreements to Repurchase

The Company routinely enters short-term financing arrangements to sell securities under agreements to repurchase (“repurchase agreements”). The repurchase agreements are collateralized by mortgage loans and securities. All securities underlying repurchase agreements are held in safekeeping by broker-dealers or banks. All agreements are to repurchase the same, or substantially identical, securities.

At March 31, 2005, repurchase agreements were secured by $7.3 billion of trading securities, $23.3 billion of securities purchased under agreements to resell and securities borrowed, $1.5 billion of loans held for sale, $2.2 billion in investments in other financial instruments, and $0.1 billion of other assets. As of March 31, 2005, $5.8 billion of the pledged securities purchased under agreements to resell and securities borrowed related to amounts offset against securities sold under agreements to repurchase pursuant to master netting agreements.


Note 14 —	Derivative Instruments and Risk Management Activities

The primary market risk facing the Company is interest rate risk. From an enterprise perspective, the Company manages interest rate risk through the natural counterbalance of its loan production and servicing businesses. The Company also uses derivatives and other financial instruments to manage the interest rate risk related specifically to its committed pipeline, mortgage loan inventory and MBS held for sale, MSRs and other retained interests, trading securities, and its long-term debt. The overall objective of the Company’s interest rate risk management activities is to reduce the variability of earnings caused by changes in interest rates.

The Company uses a variety of derivative financial instruments to manage interest rate risk. These instruments include MBS mandatory forward sale and purchase commitments, options to sell or buy MBS, Treasury and Eurodollar rate futures and options thereon, interest rate floors, interest rate caps, capped swaps,

COUNTRYWIDE FINANCIAL CORPORATION AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)

(Unaudited)

swaptions, interest rate swaps and mortgage forward rate agreements. These instruments involve, to varying degrees, elements of interest rate and credit risk.

The Company manages foreign currency exchange rate risk, which arises from the issuance of foreign currency-denominated debt, with foreign currency swaps.


	*Risk Management Activities Related to Mortgage Loan Inventory and Interest Rate Lock Commitments*

The Company is exposed to interest rate risk from the time an interest rate lock commitment (“IRLC”) is made to a mortgage applicant (or financial intermediary) to the time the related mortgage loan is sold. During this period, the Company is exposed to losses if mortgage rates rise, because the value of the IRLC or mortgage loan declines. To manage this interest rate risk, the Company utilizes derivatives, primarily forward sales of MBS and options to buy and sell MBS, as well as options on Treasury futures contracts. Certain of these instruments qualify as fair value hedges of mortgage loans under Statement of Financial Accounting Standards No. 133, “Accounting for Derivative Instruments and Hedging Activities” (“SFAS 133”).

During the quarter ended March 31, 2005, the risk management activities connected with 83% of the fixed-rate mortgage inventory and 41% of the adjustable-rate mortgage inventory were accounted for as fair value hedges. The Company recognized pre-tax gains of $5.1 million and pre-tax losses of $20.8 million, representing the ineffective portion of such fair value hedges of its mortgage inventory, for the quarters ended March 31, 2005 and 2004, respectively. These amounts, along with the change in the fair value of the derivative instruments that were not designated as hedge instruments, are included in gain on sale of loans and securities in the statement of earnings.

IRLCs are derivative instruments and are recorded at fair value with changes in fair value recognized in current period earnings (as a component of gain on sale of loans and securities). Because IRLCs are derivatives under SFAS 133, the risk management activities related to the IRLCs do not qualify for hedge accounting under SFAS 133. The free-standing derivative instruments that are used to manage the interest rate risk associated with the IRLCs are marked to fair value and recorded as a component of gain on sale of loans in the consolidated statements of earnings.


	*Risk Management Activities Related to Mortgage Servicing Rights and Other Retained Interests*

MSRs and other retained interests, specifically interest-only securities and residual securities, are generally subject to a loss in value, or impairment, when mortgage interest rates decline. To moderate the effect of impairment on earnings, the Company maintains a portfolio of financial instruments, including derivatives, which increase in aggregate value when interest rates decline. This portfolio of financial instruments is collectively referred to as the “Servicing Hedge.” During the quarters ended March 31, 2005 and 2004, none of the derivative instruments included in the Servicing Hedge were designated as hedges under SFAS 133. The change in fair value of these derivative instruments was recorded in current period earnings as a component of Servicing Hedge gains and losses.

The financial instruments that comprise the Servicing Hedge include options on interest rate futures, interest rate swaps, interest rate caps, interest rate swaptions, interest rate futures, mortgage forward rate agreements and Treasury securities. Mortgage forward rate agreements represent mutual agreements to exchange a single cashflow at a forward settlement date, based on the basis point difference between the forward fixed-rate and a floating-rate set equal to the 30-day forward current coupon mortgage rate, known as the CMM index, on the settlement date. For use in the Servicing Hedge, the Company generally receives the fixed-rate and pays the floating-rate. Such agreements increase in value as the spread between the current coupon mortgage rate and the swap curves tightens, or when interest rates decline. With respect to the options on interest rate swaps and interest rate caps, the Company is not exposed to loss beyond its initial outlay to

COUNTRYWIDE FINANCIAL CORPORATION AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)

(Unaudited)

acquire the hedge instruments plus any unrealized gains recognized to date. With respect to the interest rate futures contracts outstanding as of March 31, 2005, the Company estimates that its maximum exposure to loss over the various contractual terms is $231 million. With respect to the interest rate swaps outstanding as of March 31, 2005, the Company estimates that its maximum exposure to loss over the various contractual terms is $288 million. With respect to the mortgage forward rate agreements outstanding as of March 31, 2005, the Company estimates that its maximum exposure to loss over the various contractual terms is $110 million. Although these estimates could be exceeded, the Company derives its estimates of loss exposure based upon observed volatilities in the interest rate options market. Using the currently observed volatilities, management estimates, to a 95% confidence level, the maximum potential rate changes over a one-year time horizon. Management then estimates the Company’s exposure to loss based on the estimated maximum adverse rate change as of the measurement date.

The following table summarizes the notional amounts of derivative contracts included in the Servicing Hedge.


	Balance,							Balance,
	December 31,				Dispositions/			March 31,
	2004		Additions		Expirations			2005

	(In millions)
Long call options on interest rate futures	$	15,250	$	14,700	$	(19,350	)	$	10,600
Long put options on interest rate futures		2,000		—		(2,000	)		—
Long treasury futures		2,850		—		—			2,850
Interest rate caps		300		1,164		—			1,464
Interest rate swaptions		41,250		25,925		(12,750	)		54,425
Interest rate floors		1,000		—		—			1,000
Interest rate swaps		—		27,750		(3,000	)		24,750
Mortgage forward rate agreements		—		10,000		—			10,000


	*Risk Management Activities Related to Issuance of Long-Term Debt*

The Company enters interest rate swap contracts which enable it to convert a portion of its fixed-rate, long-term debt to U.S. dollar LIBOR-based floating-rate debt and to enable the Company to convert a portion of its foreign currency-denominated fixed and floating-rate, long-term debt to U.S. dollar LIBOR-based floating-rate debt. These transactions are designated as fair value hedges under SFAS 133. For the quarter ended March 31, 2005, the Company recognized a pre-tax gain of $0.8 million, representing the ineffective portion of such fair value hedges of debt. For the quarter ended March 31, 2004, the Company recognized a pre-tax loss of $1.2 million, representing the ineffective portion of such fair value hedges of debt. These amounts are included in interest expense in the consolidated statements of earnings.

The Company enters interest rate swap contracts which enable it to convert a portion of its floating-rate, long-term debt to fixed-rate, long-term debt and to convert a portion of its foreign currency-denominated fixed-rate, long-term debt to U.S. dollar fixed-rate debt. These transactions are designed as cash flow hedges. For the quarter ended March 31, 2005, the Company recognized no pre-tax gain or loss on the ineffective portion of cash flow hedges. For the quarter ended March 31, 2004, the Company recognized a pre-tax loss of $0.03 million, representing the ineffective portion of such cash flow hedges. As of March 31, 2005, deferred net gains or losses on derivative instruments included in other comprehensive income that are expected to be reclassified to earnings during the next 12 months are not material.

COUNTRYWIDE FINANCIAL CORPORATION AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)

(Unaudited)


	*Risk Management Activities Related to Deposit Liabilities*

The Company acquires interest rate swap contracts which have the effect of converting a portion of its fixed-rate deposit liabilities to variable-rate deposit liabilities. Effective January 1, 2005, these transactions were designated as fair value hedges under SFAS 133. For the quarter ended March 31, 2005, the Company recognized no pre-tax gain or loss on the ineffective portion of such fair value hedges of deposit liabilities.


	*Risk Management Activities Related to the Broker-Dealer Securities Trading Portfolio*

In connection with its broker-dealer activities, the Company maintains a trading portfolio of fixed income securities, primarily MBS. The Company is exposed to price changes in its trading portfolio arising from interest rate changes during the period it holds the securities. To manage this risk, the Company utilizes derivative financial instruments. These instruments include MBS mandatory forward sale and purchase commitments as well as short sales of cash market U.S. Treasury securities, futures contracts, interest rate swap contracts and swaptions. All such derivatives are accounted for as free-standing and as such are carried at fair value with changes in fair value recorded in current period earnings as a component of gain on sale of loans and securities.


Note 15 —	Regulatory and Agency Capital Requirements

In connection with the acquisition of Treasury Bank (the “Bank”), the Company became a bank holding company. Both the Company and the Bank are subject to regulatory capital requirements imposed by the Board of Governors of the Federal Reserve System (the “Federal Reserve”). The Company is also subject to U.S. Department of Housing and Urban Development, Fannie Mae, Freddie Mac and Government National Mortgage Association (“Ginnie Mae”) net worth requirements, which are lower than those of the Federal Reserve.

Regulatory capital is assessed for adequacy by three measures: Tier 1 Leverage Capital, Tier 1 Risk-Based Capital and Total Risk-Based Capital. Tier 1 Leverage Capital includes common shareholders’ equity, preferred stock and capital securities that meet certain guidelines detailed in the capital regulations, less goodwill, the portion of MSRs not includable in regulatory capital (MSRs includable in regulatory capital are limited to the lesser of the carrying value of MSRs, 100% of Tier 1 capital, or 90% of the fair value of the MSRs, net of associated deferred taxes) and other adjustments. Tier 1 Leverage Capital is measured with respect to average assets during the quarter. The Company and the Bank are required to have a Tier 1 Leverage Capital ratio of 4.0% to be considered adequately capitalized and 5.0% to be considered well capitalized.

The Tier 1 Risk-Based Capital ratio is calculated as a percent of risk-weighted assets at the end of the quarter. The Company and the Bank are required to have a Tier 1 Risk-Based Capital ratio of 4.0% to be considered adequately capitalized and 6.0% to be considered well capitalized.

Total Risk-Based Capital includes preferred stock and capital securities excluded from Tier 1 Capital, mandatory convertible debt, and subordinated debt that meets certain regulatory criteria. The Total Risk-Based Capital ratio is calculated as a percent of risk-weighted assets at the end of the quarter. The Company and the Bank are required to have a Total Risk-Based Capital ratio of 8.0% to be considered adequately capitalized and 10.0% to be considered well capitalized.

COUNTRYWIDE FINANCIAL CORPORATION AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)

(Unaudited)

At March 31, 2005 and December 31, 2004, the Company and the Bank’s regulatory capital ratios and amounts, and minimum required capital ratios for the Company and the Bank to maintain a “well capitalized” status were as follows:


		March 31, 2005

					Countrywide Financial
					Corporation					Treasury Bank
		Minimum
		Required(1)			Ratio			Amount		Ratio			Amount

		(Dollar amounts in thousands)
Tier 1 Leverage Capital			5.0	%		7.9	%	$	11,000,806		7.5	%	$	3,367,104
Risk-Based Capital:
	Tier 1		6.0	%		11.1	%	$	11,000,806		11.0	%	$	3,367,104
	Total		10.0	%		11.7	%	$	11,605,954		11.2	%	$	3,421,801


(1)	Minimum required to qualify as “well capitalized.”


		December 31, 2004

					Countrywide Financial
					Corporation					Treasury Bank
		Minimum
		Required(1)			Ratio			Amount		Ratio			Amount

		(Dollar amounts in thousands)
Tier 1 Leverage Capital			5.0	%		7.9	%	$	10,332,383		7.8	%	$	2,939,144
Risk-Based Capital:
	Tier 1		6.0	%		11.1	%	$	10,332,383		11.8	%	$	2,939,144
	Total		10.0	%		11.7	%	$	10,928,223		12.0	%	$	2,988,116


(1)	Minimum required to qualify as “well capitalized.”

Note 16 — Segments and Related Information

The Company has five business segments: Mortgage Banking, Banking, Capital Markets, Insurance and Global Operations.

The Mortgage Banking Segment is comprised of three distinct sectors: Loan Production, Loan Servicing and Loan Closing Services.

The Loan Production Sector originates prime and nonprime loans through a variety of channels on a national scale. The Loan Production Sector is comprised of four lending divisions: the Consumer Markets Lending Division, the Full Spectrum Lending Division, the Wholesale Lending Division, and the Correspondent Lending Division. The Consumer Markets and Full Spectrum Lending Divisions source mortgage loans directly from consumers through the Company’s retail branch network, as well as through real estate agents and homebuilders. The Wholesale Lending Division sources mortgage loans primarily from mortgage brokers. The Correspondent Lending Division acquires mortgage loans from other financial institutions.

The Loan Servicing Sector includes investments in MSRs and other retained interests, as well as the Company’s loan servicing operations and subservicing for other domestic financial institutions. The Loan Closing Services Sector is comprised of the LandSafe companies, which provide credit reports, appraisals, title reports and flood determinations to the Company’s Loan Production Sector, as well as to third parties.

The Banking Segment’s operations are comprised primarily of Treasury Bank and Countrywide Warehouse Lending. Treasury Bank invests primarily in mortgage loans sourced from the Loan Production Sector. Countrywide Warehouse Lending provides temporary financing secured by mortgage loans to third-party mortgage lenders.

COUNTRYWIDE FINANCIAL CORPORATION AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)

(Unaudited)

The Capital Markets Segment primarily includes the operations of Countrywide Securities Corporation, a registered broker-dealer specializing in the mortgage securities market. In addition, it includes the operations of Countrywide Asset Management Corporation, Countrywide Commercial Real Estate Finance Corporation, Countrywide Servicing Exchange and CCM International Ltd.

The Insurance Segment includes Balboa Life and Casualty Group, a national provider of property, life and liability insurance; Balboa Reinsurance Company, a primary mortgage reinsurance company; and Countrywide Insurance Services, Inc., a national insurance agency offering a specialized menu of insurance products directly to consumers.

The Global Operations Segment includes Global Home Loans Limited, a provider of loan origination processing and loan subservicing in the United Kingdom; UKValuation Limited, a provider of property valuation services in the UK; and Countrywide International Technology Holdings Limited, a licensor of loan origination processing, servicing and residential real estate value assessment technology.

In general, intercompany transactions are recorded on an arms-length basis. However, the fulfillment fees paid by Treasury Bank to the Production Sector for origination costs incurred on mortgage loans funded by Treasury Bank are determined on an incremental cost basis, which is less than the fees that Treasury Bank would pay to a third party.

COUNTRYWIDE FINANCIAL CORPORATION AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)

(Unaudited)

Included in the tables below labeled “Other” are the holding company activities and certain reclassifications to conform management reporting to the consolidated financial statements:


		Quarter Ended March 31, 2005

		Mortgage Banking									Diversified Businesses

		Loan			Loan		Closing							Capital				Global
		Production			Servicing		Services		Total		Banking			Markets		Insurance		Operations		Other			Total			Grand Total

		(In thousands)
Revenues:
	External	$	1,467,960		$	129,248	$	60,592	$	1,657,800	$	333,654		$	169,426	$	223,469	$	55,114	$	(34,578	)	$	747,085		$	2,404,885
	Intersegment		(16,414	)		60,237		—		43,823		(37,356	)		34,483		—		—		(40,950	)		(43,823	)		—

Total Revenues		$	1,451,546		$	189,485	$	60,592	$	1,701,623	$	296,298		$	203,909	$	223,469	$	55,114	$	(75,528	)	$	703,262		$	2,404,885

Pre-tax Earnings		$	734,657		$	17,189	$	19,785	$	771,631	$	215,940		$	122,047	$	54,577	$	4,039	$	(19,237	)	$	377,366		$	1,148,997

Total Assets		$	25,191,000		$	15,965,000	$	59,000	$	41,215,000	$	54,560,000		$	38,908,000	$	1,865,000	$	282,000	$	203,000		$	95,818,000		$	137,033,000


		Quarter Ended March 31, 2004

		Mortgage Banking											Diversified Businesses

		Loan			Loan			Closing								Capital				Global
		Production			Servicing			Services		Total			Banking			Markets		Insurance		Operations		Other			Total		Grand Total

		(In thousands)
Revenues:
	External	$	1,366,918		$	(39,829	)	$	49,380	$	1,376,469		$	143,295		$	179,392	$	222,465	$	57,812	$	(14,215	)	$	588,749	$	1,965,218
	Intersegment		(46,052	)		22,520			—		(23,532	)		(2,365	)		44,004		—		—		(18,107	)		23,532		—

Total Revenues		$	1,320,866		$	(17,309	)	$	49,380	$	1,352,937		$	140,930		$	223,396	$	222,465	$	57,812	$	(32,322	)	$	612,281	$	1,965,218

Pre-tax Earnings		$	700,610		$	(158,219	)	$	18,532	$	560,923		$	105,608		$	153,151	$	51,995	$	11,731	$	(725	)	$	321,760	$	882,683

Total Assets		$	36,327,000		$	12,878,000		$	75,000	$	49,280,000		$	26,438,000		$	29,818,000	$	1,657,000	$	217,000	$	136,000		$	58,266,000	$	107,546,000

COUNTRYWIDE FINANCIAL CORPORATION AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)

(Unaudited)


Note 17 —	Summarized Financial Information

Summarized financial information for Countrywide Financial Corporation (parent only) and subsidiaries is as follows:


			March 31, 2005

			Countrywide
			Financial		Countrywide
			Corporation		Home		Other
			(parent only)		Loans, Inc.		Subsidiaries		Eliminations			Consolidated

			(In thousands)
Balance Sheets:
	Mortgage loans and mortgage-backed securities held for sale		$	—	$	29,689,615	$	318,636	$	(73,120	)	$	29,935,131
	Trading securities			—		213,912		9,394,523		(40,459	)		9,567,976
	Securities purchased under agreement to resell and securities borrowed			—		—		22,427,891		(1,344,257	)		21,083,634
	Loans held for investment, net			—		5,281,278		42,419,795		(2,601	)		47,698,472
	Investments in other financial instruments			—		2,238,174		9,451,249		—			11,689,423
	Mortgage servicing rights, net			—		9,746,957		—		—			9,746,957
	Other assets			12,531,784		4,756,305		11,225,543		(21,202,184	)		7,311,448

		Total assets	$	12,531,784	$	51,926,241	$	95,237,637	$	(22,662,621	)	$	137,033,041

	Notes payable		$	1,381,378	$	40,438,642	$	26,122,494	$	(10,244,027	)	$	57,698,487
	Securities sold under agreements to repurchase			—		1,457,564		30,732,246		(1,341,798	)		30,848,012
	Deposit liabilities			—		—		25,685,936		(6,197	)		25,679,739
	Other liabilities			198,359		5,814,902		6,167,317		(325,822	)		11,854,756
	Equity			10,952,047		4,215,133		6,529,644		(10,744,777	)		10,952,047

		Total liabilities and equity	$	12,531,784	$	51,926,241	$	95,237,637	$	(22,662,621	)	$	137,033,041


			Quarter Ended March 31, 2005

			Countrywide
			Financial			Countrywide
			Corporation			Home		Other
			(parent only)			Loans, Inc.		Subsidiaries		Eliminations			Consolidated

			(In thousands)
Statements of Earnings
	Revenues		$	(2,515	)	$	1,670,689	$	832,839	$	(96,128	)	$	2,404,885
	Expenses			6,771			885,460		448,221		(84,564	)		1,255,888
	Provision for income taxes			(3,714	)		318,144		150,318		(4,603	)		460,145
	Equity in net earnings of subsidiaries			694,424			—		—		(694,424	)		—

		Net earnings	$	688,852		$	467,085	$	234,300	$	(701,385	)	$	688,852

COUNTRYWIDE FINANCIAL CORPORATION AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)

(Unaudited)


			December 31, 2004

			Countrywide
			Financial		Countrywide
			Corporation		Home		Other
			(parent only)		Loans, Inc.		Subsidiaries		Eliminations			Consolidated

			(In thousands)
Balance Sheets:
	Mortgage loans and mortgage-backed securities held for sale		$	—	$	36,937,845	$	412,304	$	—		$	37,350,149
	Trading securities			—		318,110		11,543,284		—			11,861,394
	Securities purchased under agreement to resell and securities borrowed			—		2,550,127		13,354,254		(2,672,933	)		13,231,448
	Loans held for investment, net			—		5,430,216		34,230,360		(490	)		39,660,086
	Investments in other financial instruments			—		2,301,416		7,789,641		—			10,091,057
	Mortgage servicing rights, net			—		8,729,929		—		—			8,729,929
	Other assets			11,308,342		4,760,640		10,452,379		(18,949,719	)		7,571,642

		Total assets	$	11,308,342	$	61,028,283	$	77,782,222	$	(21,623,142	)	$	128,495,705

	Notes payable		$	829,030	$	51,532,883	$	22,856,613	$	(8,604,855	)	$	66,613,671
	Securities sold under agreements to repurchase			—		—		23,137,028		(2,671,905	)		20,465,123
	Deposit liabilities			—		—		20,013,208		—			20,013,208
	Other liabilities			169,236		5,451,663		5,736,987		(264,259	)		11,093,627
	Equity			10,310,076		4,043,737		6,038,386		(10,082,123	)		10,310,076

		Total liabilities and equity	$	11,308,342	$	61,028,283	$	77,782,222	$	(21,623,142	)	$	128,495,705


			Quarter Ended March 31, 2004

			Countrywide
			Financial		Countrywide
			Corporation		Home		Other
			(parent only)		Loans, Inc.		Subsidiaries		Eliminations			Consolidated

			(In thousands)
Statements of Earnings:
	Revenues		$	3,415	$	884,584	$	1,134,712	$	(57,493	)	$	1,965,218
	Expenses			3,196		628,072		508,288		(57,021	)		1,082,535
	Provision for income taxes			85		100,903		238,688		(182	)		339,494
	Equity in net earnings of subsidiaries			543,055		—		—		(543,055	)		—

		Net earnings	$	543,189	$	155,609	$	387,736	$	(543,345	)	$	543,189


Note 18 —	Legal Proceedings

Countrywide and certain subsidiaries are defendants in various legal proceedings involving matters generally incidental to their businesses. Although it is difficult to predict the ultimate outcome of these proceedings, management believes, based on discussions with counsel, that any ultimate liability will not materially affect the consolidated financial position or results of operations of the Company.

COUNTRYWIDE FINANCIAL CORPORATION AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)

(Unaudited)

Note 19 — Borrower and Investor Custodial Accounts

As of March 31, 2005 and December 31, 2004, the Company managed $23.2 billion and $20.6 billion, respectively, of off-balance sheet borrower and investor custodial cash accounts as well as related liabilities to those borrowers and investors. Of these amounts, $10.0 billion and $7.9 billion, respectively, were deposited at the Bank and were included in the Company’s deposit liabilities, with the remaining balances held by other depository institutions. These custodial accounts arise in connection with the Company’s mortgage servicing activities.

Note 20 — Loan Commitments

As of March 31, 2005 and December 31, 2004, the Company had undisbursed home equity lines of credit commitments of $5.2 billion and $5.4 billion, respectively, as well as undisbursed construction loan commitments of $1.0 billion and $936.9 million, respectively. As of March 31, 2005, outstanding commitments to fund mortgage loans totaled $39.1 billion.


Note 21 —	Subsequent Events

On April 26, 2005, the Company announced that its Board of Directors declared a dividend of $0.15 per common share payable May 31, 2005, to shareholders of record on May 12, 2005.

On April 1, 2005, the Company granted 13.2 million stock options to eligible employees. These options fully vest and become exercisable on May 1, 2005. As a result of the vesting period, the expense of the entire stock option grant will be included in the stock-based compensation pro-forma disclosure in the Company’s Quarterly Report for the period ending June 30, 2005. Upon adoption of SFAS 123R there will be no compensation expense related to these stock options.

Note 22 — Recently Issued Accounting Standards

Late in 2004, the Emerging Issues Task Force reached a consensus on Issue No. 04-8, “The Effect of Contingently Convertible Instruments on Diluted Earnings per Share” (“EITF 04-8”). The consensus requires that all instruments that have embedded conversion features that are contingent on market conditions indexed to an issuer’s share price should be included in diluted earnings per share computations (if dilutive), regardless of whether the market conditions have been met.

The consensus includes instruments that have more than one contingency if one of the contingencies is based on market conditions indexed to the issuer’s share price and that instrument can be converted to shares based on achieving a market condition — that is, the conversion is not dependent on a substantive non-market-based contingency. The application of this consensus is required beginning with the December 31, 2004 reporting period. As detailed in the 2004 Annual Report, Countrywide’s Liquid Yield Option Notes and Convertible Securities meet the criteria of EITF 04-8. Therefore, earnings per share amounts have been recalculated and restated for the three months ended March 31, 2004.

In December 2004, the FASB issued Statement of Financial Accounting Standards No. 123R, “Share-Based Payment” (“SFAS 123R”), an amendment of FASB Statement No. 123 (“SFAS 123”), “Accounting for Stock-Based Compensation.” This Statement requires companies to measure the cost of employee services received in exchange for an award of equity instruments based on the grant date fair value of the award. SFAS 123R requires measurement of fair value of employee stock options using an option pricing model that takes into account the awarded options’ unique characteristics. SFAS 123R requires charging the recognized cost to expense over the period the employee provides services to earn the award, generally the vesting period for the award. In April of 2005, the Securities and Exchange Commission revised the required adoption date of SFAS 123R. As a result of this change, the Company is required to adopt SFAS 123R for the year ending December 31, 2006. Management has not yet determined the effect of implementation of SFAS 123R or whether the Statement will be implemented prospectively or retrospectively.


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


	Overview

Countrywide’s core business is residential mortgage banking. In recent years, we have expanded into related businesses to capitalize on meaningful opportunities to leverage our core mortgage banking business and to provide sources of earnings that tend to be sustainable in various interest rate environments. We manage these businesses through five business segments — Mortgage Banking, Banking, Capital Markets, Insurance and Global Operations.

The mortgage banking business continues to be the primary source of our revenues and earnings. As a result, the most prevalent influence on our operating results is the aggregate demand for mortgage loans in the U.S., which is affected by such external factors as prevailing mortgage rates and the strength of the U.S. housing market.

In 2004, total U.S. residential mortgage production totaled approximately $2.9 trillion, a 25% decline from 2003’s record-setting market. In 2004, interest rates rose from the historically low levels reached in 2003, resulting in a decline in mortgage refinance activity, causing the reduction in the size of U.S. residential mortgage market. During 2004, we became the largest originator of mortgage loans, increasing our market share from 11.4% to 12.7% (Source of Mortgage Market: Mortgage Bankers Association).

For 2005, forecasters predict a 12% to 22% year over year reduction in total U.S. mortgage production, due to an expected continuation of increasing mortgage rates that should cause a decline in mortgage refinance activity. We believe that a market within the forecasted range would still be conducive to a profitable loan production business, although we would expect increased competitive pressures to affect the profits earned by that business. A reduction in mortgage refinance activity should result, however, in an increase in profitability from our investment in mortgage servicing rights (“MSRs”). We also expect that a decline in mortgage production would result in a reduction in mortgage securities trading and underwriting volume and mortgage conduit activity, which may negatively affect the profitability of our Capital Markets Segment. We plan to grow our investment in mortgage loans at the Bank irrespective of the mortgage market. As a result, we expect earnings in our Banking Segment to increase.

Total U.S. residential mortgage production was estimated at $588 billion for the quarter ended March 31, 2005 compared to $618 billion for the quarter ended March 31, 2004. (Source: Mortgage Bankers Association). In this environment, our loan production increased 21% to $92 billion as a result of increased market share and our mortgage banking operations produced pre-tax earnings of $771.6 million, a 38% increase from the year-ago period. The profitability of our Capital Markets Segment declined due to a decrease in volume and margins in their securities trading business while the pre-tax earnings of the Banking Segment more than doubled as a result of growth in their average investments.

The principal market risk we face is interest rate risk — the risk that the value of our assets or liabilities or our net interest income will change due to changes in interest rates. We manage this risk primarily through the natural counterbalance of our loan production operations and our investment in MSRs, as well as with various financial instruments including derivatives. The overall objective of our interest rate risk management activities is to reduce the variability of earnings caused by changes in interest rates.

We also face credit risk, primarily related to our residential mortgage production activities in both the Mortgage Banking and Banking Segments. Credit risk is the potential for financial loss resulting from the failure of a borrower or an institution to honor its contractual obligations to us. We manage mortgage credit risk principally by selling substantially all of the mortgage loans that we produce, limiting credit recourse to Countrywide in those transactions, and by retaining high credit quality mortgages in our loan portfolio.

Our liquidity and financing requirements are significant. We meet these requirements in a variety of ways, including use of the public corporate debt and equity markets, mortgage- and asset-backed securities markets, and, increasingly, through the financing activities of our Bank. The objective of our liquidity management is to ensure that adequate, diverse and reliable sources of cash are available to meet our funding needs on a cost-

effective basis. Our ability to raise financing at the level and cost required to compete effectively is dependent on maintaining our high credit standing.

The mortgage industry has undergone rapid consolidation in recent years, and we expect this trend to continue in the future. Today the industry is dominated by large, sophisticated financial institutions. To compete effectively in the future, we will be required to maintain a high level of operational, technological and managerial expertise, as well as an ability to attract capital at a competitive cost. We believe that we will benefit from industry consolidation through increased market share and rational price competition.

Countrywide is a diversified financial services company with mortgage banking at its core. Our goal is to continue as the leader in the mortgage banking business. We plan to leverage our position in mortgage banking to grow our related businesses.

As used in this Report, references to “we,” “our,” “the Company” or “Countrywide” refer to Countrywide Financial Corporation and its consolidated subsidiaries unless otherwise indicated.

Critical Accounting Policies

The accounting policies with the greatest impact on our financial condition and results of operations, and which require the most judgment, pertain to our mortgage securitization activities, our investments in MSRs and other retained interests, and our use of derivatives to manage interest rate risk. Our critical accounting policies involve the following three areas: 1) accounting for gains on sales of loans and securities; 2) accounting for MSRs and other retained interests, including valuation of these retained interests; and 3) accounting for derivatives and our related interest rate risk management activities.

On April 1, 2005, we implemented hedge accounting in accordance with Statement of Financial Accounting Standards No. 133 “Accounting for Derivative Instruments and Hedging Activities” (“SFAS 133”) for a portion of our interest rate risk management activities related to our MSRs.


	*Stock Split Effected as Stock Dividends and Earnings per Share Calculations*

In April 2004 and August 2004, respectively, we completed a 3-for-2 and a 2-for-1 stock split both of which were effected as stock dividends. In addition, in the fourth quarter of 2004 the Emerging Issues Task Force reached a consensus on Issue No. 04-8, which required the Company to include the assumed conversion of its convertible debentures in diluted earnings per share. All references in this Management’s Discussion and Analysis of Financial Condition and Results of Operations to the number of common shares and earnings per share amounts have been adjusted accordingly.

Results of Operations Comparison — Quarters Ended March 31, 2005 and 2004


	*Consolidated Earnings Performance*

Our diluted earnings per share for the quarter ended March 31, 2005 was $1.13, a 26% increase over diluted earnings per share for the quarter ended March 31, 2004. Net earnings were $688.9 million for the quarter ended March 31, 2005, a 27% increase from the year-ago period.

The increase in our earnings was driven primarily by an increase in the profitability of our Mortgage Banking and Banking Segments. The Mortgage Banking Segment produced pre-tax earnings of $771.6 million for the quarter ended March 31, 2005, an increase of 38% from the year-ago period. The increase in the profitability of our Mortgage Banking Segment was due to the growth in servicing fee revenue resulting from a 31% increase in the size of the Company’s average loan servicing portfolio combined with improved performance of the MSRs due to an increase in interest rates during the quarter ended March 31, 2005. The Banking Segment produced pre-tax earnings of $215.9 million, an increase of 104% from the year-ago period. The increase in profitability of our Banking Segment was primarily due to a 114% increase in average interest-earning assets at Treasury Bank from the year-ago period. In total, Diversified Businesses contributed $377.4 million in pre-tax earnings for the quarter ended March 31, 2005, an increase of 17% from the year-ago period.

Operating Segment Results

Pre-tax earnings by segment are summarized below:


			Quarter Ended
			March 31,

			2005			2004

			(In thousands)
Mortgage Banking:
	Loan Production		$	734,657		$	700,610
	Loan Servicing			17,189			(158,219	)
	Loan Closing Services			19,785			18,532

		Total Mortgage Banking		771,631			560,923

Diversified Businesses:
	Banking			215,940			105,608
	Capital Markets			122,047			153,151
	Insurance			54,577			51,995
	Global Operations			4,039			11,731
	Other			(19,237	)		(725	)

		Total Diversified Businesses		377,366			321,760

Pre-tax earnings			$	1,148,997		$	882,683

The pre-tax earnings of each segment include intercompany transactions, which are eliminated in the “other” category above.

Mortgage loan production by segment and product is summarized below:


			Quarter Ended
			March 31,

			2005		2004

			(In millions)
Segment:
	Mortgage Banking		$	78,749	$	67,484
	Banking — Treasury Bank			8,521		5,396
	Capital Markets:
		Conduit acquisitions		4,190		3,324
		Commercial real estate		564		—

			$	92,024	$	76,204

Product:
	Prime Mortgage		$	72,877	$	64,023
	Nonprime Mortgage			9,820		6,892
	Prime Home Equity			8,763		5,289
	Commercial real estate			564		—

			$	92,024	$	76,204

Mortgage Banking Segment

The Mortgage Banking Segment includes the Loan Production, Loan Servicing and Loan Closing Services Sectors. The Loan Production and Loan Closing Services Sectors generally perform at their best when mortgage rates are relatively low and loan origination volume is high. Conversely, the Loan Servicing

Sector generally performs well when mortgage rates are relatively high and loan prepayments are low. The natural counterbalance of these sectors reduces the impact of changes in mortgage rates on our earnings.


	*Loan Production Sector*

The Loan Production Sector produces mortgage loans through the four production divisions of Countrywide Home Loans (“CHL”) — Consumer Markets, Wholesale Lending, Correspondent Lending and Full Spectrum Lending.

The pre-tax earnings of the Loan Production Sector are summarized below:


		Quarter Ended March 31,

		2005					2004

				Percentage of					Percentage of
				Loan					Loan
				Production					Production
		Amount		Volume			Amount		Volume

		(Dollar amounts in thousands)
Revenues:
	Prime Mortgage	$	873,230				$	755,592
	Nonprime Mortgage		395,006					343,369
	Prime Home Equity		183,310					221,905

	Total revenues		1,451,546		1.84	%		1,320,866		1.96	%

Expenses:
	Compensation expenses		420,592		0.53	%		369,780		0.55	%
	Other operating expenses		209,924		0.27	%		151,378		0.22	%
	Allocated corporate expenses		86,373		0.11	%		99,098		0.15	%

	Total expenses		716,889		0.91	%		620,256		0.92	%

	Pre-tax earnings	$	734,657		0.93	%	$	700,610		1.04	%

Compared to the year-ago period, decreased demand for residential mortgages in the quarter ended March 31, 2005 was more than offset by an increase in our market share, resulting in higher production. Our mortgage loan production market share was 15.6% in the quarter ended March 31, 2005, up from 12.3% in the quarter ended March 31, 2004. (Source of Mortgage Market: Mortgage Bankers Association).

Revenues increased over the year-ago period due primarily to increased margins on Prime Mortgage Loans caused by a shift in mix of products toward higher margin adjustable-rate loans, combined with favorable performance of our interest rate management activities as interest rates increased. Revenues also increased as a result of greater production and sales of higher margin Nonprime Mortgage and Prime Home Equity Loans. Combined sales of Nonprime Mortgage and Prime Home Equity Loan products were $16.5 billion in the quarter ended March 31, 2005 compared to $8.1 billion in the year-ago period. These revenue increases were partially offset by a decline in Nonprime margins caused by increased price competition and a reduction in net interest income on Prime Home Equity loans that resulted from a decline in the average balance of these loans during the current period. In the quarter ended March 31, 2005, $75.4 billion of mortgage loans, or 95% of loan production, was sold compared to $67.7 billion of mortgage loans, or 100% of loan production, in the quarter ended March 31, 2004, which resulted in a decline in revenues as a percentage of mortgage loan production in the current quarter.

The amount of expenses increased from the year-ago period, primarily due to an increase in sales and marketing costs during the current quarter. The increase in sales and marketing costs was related to increased production in the quarter ended March 31, 2005, as well as to a change in our loan production mix toward our retail channels. High levels of productivity helped keep expenses as a percentage of production low. We continued to expand our loan production operations in the quarter ended March 31, 2005 despite a decline in the overall mortgage loan market to support our long-term objective of market share growth.

Mortgage Banking loan production volume for the quarter ended March 31, 2005 increased 17% from the year-ago period. The increase was due to a rise in purchase and non-purchase loan production of 28% and 9%, respectively, resulting from an increase in market share. The increase in purchase loans is significant because this component of the mortgage market offers relatively stable growth, averaging 11% per year over the last 10 years. The non-purchase, or refinance, component of the mortgage market is highly volatile because it is driven almost exclusively by prevailing mortgage rates.

The following table summarizes Mortgage Banking loan production by purpose and by interest rate type:


		Quarter Ended
		March 31,

		2005		2004

		(In millions)
Purpose:
	Non-purchase	$	43,335	$	39,870
	Purchase		35,414		27,614

		$	78,749	$	67,484

Interest Rate Type:
	Adjustable Rate	$	40,287	$	26,653
	Fixed Rate		38,462		40,831

		$	78,749	$	67,484

In the quarter ended March 31, 2005, 51% of our loan production was adjustable-rate in comparison to 39% in the year-ago period. The shift in homeowner preferences toward adjustable-rate mortgages in the quarter ended March 31, 2005 was driven by an increase in 30-year fixed mortgage rates, coupled with the availability of attractive product alternatives such as hybrid adjustable-rate mortgages that provide a relatively low fixed rate for the first three to ten years of the mortgage and short-term pay-option adjustable-rate mortgages.

The volume of Mortgage Banking Prime Home Equity and Nonprime Mortgage Loans produced (which is included in our total volume of loans produced) increased 51% during the quarter ended March 31, 2005 compared to the year-ago period. Details are shown in the following table:


	Quarter Ended
	March 31,

	2005			2004

	(Dollar amounts in
	millions)
Nonprime Mortgage Loans	$	8,187		$	6,048
Prime Home Equity Loans		6,619			3,729

	$	14,806		$	9,777

Percent of total Mortgage Banking loan production		18.8	%		14.5	%

Prime Home Equity and Nonprime Mortgage Loans generally provide higher profit margins, and the demand for such loans is believed to be less interest rate sensitive than the demand for Prime Mortgage Loans. Consequently, we believe these loans will be a significant component of the Loan Production Sector’s future profitability, in particular if mortgage rates continue to rise.

During the quarter ended March 31, 2005, the Loan Production Sector operated at approximately 102% of planned operational capacity, compared to 106% during the year-ago period. The primary capacity constraint in our loan origination activities is the number of loan operations personnel we have on staff. Therefore, we measure planned capacity with reference to the number of our loan operations personnel multiplied by the number of loans we expect each loan operations staff person to process under normal conditions. Management adjusts staffing levels to account for changes in the current and projected near-term

mortgage market. We plan to continue building our sales staff as a primary means to increase our market share, particularly for purchase loans.

The following table summarizes the number of people included in the Loan Production Sector workforce:


			Workforce at
			March 31,

			2005		2004

Sales				13,110		9,612
Operations:
	Regular employees			7,999		7,224
	Temporary staff			1,023		1,012

				9,022		8,236
Production technology				1,060		960
Administration and support				2,278		1,752

		Total Loan Production Sector workforce		25,470		20,560

The following table shows total Mortgage Banking loan production volume by division:


	Quarter Ended
	March 31,

	2005		2004

	(In millions)
Correspondent Lending	$	33,307	$	28,787
Consumer Markets		23,697		20,235
Wholesale Lending		17,357		15,638
Full Spectrum Lending		4,388		2,824

	$	78,749	$	67,484

The Consumer Markets Division has expanded its commissioned sales force, which emphasizes purchase loan production, to 4,878 at March 31, 2005, an increase of 1,184 or 32%, over the year-ago period. This Division’s branch network has grown to 592 branch offices at March 31, 2005, an increase of 101 offices from March 31, 2004. The commissioned sales force contributed $9.1 billion in purchase originations during the quarter ended March 31, 2005, a 41% increase over the year-ago period. The purchase production generated by the commissioned sales force represented 78% of the Consumer Markets Division’s purchase production for the quarter ended March 31, 2005.

The Wholesale Lending and Full Spectrum Lending Divisions also continued to grow their sales forces as a means to increase market share. At March 31, 2005, the sales force in the Wholesale Lending Division numbered 1,153, an increase of 26% compared to March 31, 2004. The Full Spectrum Lending Division expanded its sales force by 1,123, or 46%, compared to March 31, 2004, and has expanded its branch network to 168 branch offices at March 31, 2005, an increase of 58 offices over the year-ago period.


	*Loan Servicing Sector*

The Loan Servicing Sector includes a significant processing operation, consisting of approximately 6,400 employees who service our 6.5 million mortgage loans. Also included in the Loan Servicing Sector’s results is the performance of our investments in MSRs and other retained interests and associated risk management activities, as well as profits from subservicing activities in the United States. The long-term performance of this sector is impacted primarily by the level of interest rates and the corresponding impact on the level of projected and actual prepayments in our servicing portfolio.

The following table summarizes the results for the Loan Servicing Sector:


		Quarter Ended March 31,

		2005						2004

					Percentage of						Percentage of
					Average						Average
					Servicing						Servicing
		Amount			Portfolio(1)			Amount			Portfolio(1)

		(Dollar amounts in thousands)
Servicing fees, net of guarantee fees		$	720,317			0.335	%	$	557,963			0.339	%
Miscellaneous fees			113,283			0.053	%		179,295			0.109	%
Income from other retained interests			118,336			0.055	%		73,658			0.045	%
Escrow balance income (expense)			30,529			0.014	%		(39,052	)		(0.024	)%
Amortization of mortgage servicing rights			(472,187	)		(0.220	)%		(413,682	)		(0.252	)%
Recovery (impairment) of retained interests			313,821			0.146	%		(995,645	)		(0.605	)%
Servicing hedge (losses) gains			(552,292	)		(0.257	)%		672,796			0.409	%

	Total servicing revenues		271,807			0.126	%		35,333			0.021	%

Operating expenses			148,172			0.069	%		103,551			0.063	%
Allocated corporate expenses			14,209			0.006	%		18,245			0.011	%

	Total servicing expenses		162,381			0.075	%		121,796			0.074	%

Interest expense			92,237			0.043	%		71,756			0.043	%

Pre-tax earnings (loss)		$	17,189			0.008	%	$	(158,219	)		(0.096	)%

Average servicing portfolio volume		$	859,901,833					$	657,876,156


(1)	Annualized

Our servicing portfolio grew to $893.4 billion at March 31, 2005, a 31% increase from March 31, 2004. At the same time, the overall weighted-average note rate of loans in our servicing portfolio declined from 6.0% to 5.9%.

Pre-tax earnings in the Loan Servicing Sector were $17.2 million during the quarter ended March 31, 2005, an improvement of $175.4 million from the year-ago period. Pre-tax earnings in the Loan Servicing Sector increased primarily due to a $162.4 million increase in the net servicing fees. This increase was caused by a 31% increase in the average servicing portfolio. In addition, amortization and impairment net of Servicing Hedge decreased by $25.9 million to $710.7 million during the current period.

During the current period, mortgage rates were higher than in the year-ago period, which resulted in lower actual and projected prepayments. Such lower prepayments resulted in lower combined amortization and impairment. The combined recovery of previous impairment of retained interests, net of amortization, was $158.4 million during the quarter ended March 31, 2005 compared to a combined amortization and impairment charge of $1,409.3 million during the quarter ended March 31, 2004.

The Servicing Hedge is designed to offset the impairment of MSRs and other retained interests. The values of the derivatives that constitute the primary components of the Servicing Hedge is tied to long-term Treasury, mortgage and swap rate indices. The increase in these rates during the quarter ended March 31, 2005 combined with time value decay of $119 million on the options included in the Servicing Hedge resulted in a Servicing Hedge loss of $552.3 million. During the quarter ended March 31, 2004, the Servicing Hedge generated a gain of $672.8 million resulting from a decline in long-term Treasury and swap rates partially offset by option time value decay of $118 million. In a stable interest rate environment, we expect to incur no significant impairment charges; however, we expect to incur losses related to the Servicing Hedge driven

primarily by time decay on options used in the hedge. The level of Servicing Hedge losses in any period depends on various factors such as the size and composition of the hedge, the shape of the yield curve and the level of implied interest rate volatility.


	*Loan Closing Services Sector*

This sector is comprised of the LandSafe companies, which provide credit reports, flood determinations, appraisals, property valuation services and title reports primarily to the Loan Production Sector but increasingly to third parties as well. Our integration of these previously outsourced services has provided not only incremental profits but also higher overall levels of service and quality control.

The LandSafe companies produced $19.8 million in pre-tax earnings, representing an increase of 7% from the year-ago period. The increase in LandSafe’s pre-tax earnings was primarily due to the increase in our loan origination activity.

Diversified Businesses

To leverage our mortgage banking franchise, as well as to reduce the variability of earnings due to changes in mortgage interest rates, we have engaged in other financial services. These other businesses are grouped into the following segments: Banking, Capital Markets, Insurance and Global Operations.


	*Banking Segment*

Our banking strategy includes holding loans in portfolio that historically would have been immediately securitized and sold into the secondary mortgage market. Management believes this strategy will increase earnings, as well as provide more stable earnings over the long term. In the short term, reported consolidated profits will be impacted by the reduction in gains otherwise recognizable at time of sale.

The Banking Segment achieved pre-tax earnings of $215.9 million during the quarter ended March 31, 2005, as compared to $105.6 million for the year-ago period. Following is the composition of pre-tax earnings by company:


		Quarter Ended
		March 31,

		2005			2004

		(In thousands)
Treasury Bank (“Bank”)		$	205,873		$	95,035
Countrywide Warehouse Lending (“CWL”)			17,292			15,625
Allocated corporate expenses			(7,225	)		(5,052	)

	Pre-tax earnings	$	215,940		$	105,608

The Bank’s revenues and expenses are summarized in the following table:


		Quarter Ended
		March 31,

		2005			2004

		(Dollar amounts in
		thousands)
Interest income		$	550,274		$	228,016
Interest expense			300,271			110,020

	Net interest income		250,003			117,996
Provision for loan losses			(6,406	)		(8,408	)

	Net interest income after provision for loan losses		243,597			109,588
Non-interest income			30,236			16,211
Non-interest expense			(67,960	)		(30,764	)

	Pre-tax earnings	$	205,873		$	95,035

Efficiency ratio(1)			22	%		20	%
After-tax return on average assets			1.12	%		1.10	%


(1)	Non-interest expense divided by the sum of net interest income plus non-interest income.

The increase in net interest income is primarily due to a $23.9 billion or 114% increase in average interest-earning assets, as summarized below:


				Quarter Ended March 31,

				2005							2004

				Average				Yield/			Average				Yield/
				Balance		Amount		Cost			Balance		Amount		Cost

				(Dollar amounts in thousands)
Net interest income:
	Yield on interest-earning assets:
		Mortgage loans held for investment		$	37,252,763	$	477,047		5.19	%	$	16,452,931	$	187,135		4.61	%
		Securities available for sale			6,037,892		60,727		4.08	%		3,455,684		35,708		4.19	%
		Other			1,439,749		12,500		3.52	%		947,567		5,173		2.21	%

			Total yield on interest-earning assets		44,730,404		550,274		4.99	%		20,856,182		228,016		4.43	%

	Cost of interest-bearing liabilities:
		Deposits			21,822,142		154,189		2.87	%		10,150,615		44,399		1.77	%
		FHLB advances			16,789,533		131,668		3.18	%		7,737,637		61,202		3.21	%
		Other			2,257,481		14,414		2.59	%		1,591,937		4,419		1.13	%

			Total cost of interest-bearing liabilities	$	40,869,156		300,271		2.98	%	$	19,480,189		110,020		2.29	%

Net interest income						$	250,003		2.27	%			$	117,996		2.29	%

The provision for loan losses declined during the quarter ended March 31, 2005 compared to the quarter ended March 31, 2004 in spite of the increase in mortgage loans held for investment due to continued strong credit performance of the portfolio.

The composition of the Bank’s balance sheets was as follows:


			March 31,						December 31,
			2005						2004

			Amount			Rate			Amount			Rate

			(Dollar amounts in millions)
Assets
	Cash		$	244			0.44	%	$	140			1.35	%
	Short-term investments			290			2.86	%		225			2.16	%
	Mortgage loans held for investment, net			42,413			5.40	%		34,230			5.11	%
	Available-for-sale securities			6,816			5.05	%		5,246			4.34	%
	FHLB & FRB stock			903			4.39	%		795			3.96	%
	Other assets			425			—			328			—

		Total assets	$	51,091			5.30	%	$	40,964			4.97	%


Liabilities and Equity
	Deposits:
		Company-controlled escrow deposit accounts	$	10,029			2.75	%	$	7,901			2.19	%
		Customer		15,657			3.27	%		12,112			3.01	%
	FHLB advances			17,875			3.22	%		15,475			2.97	%
	Other borrowings			3,176			2.83	%		1,811			2.37	%
	Other liabilities			1,030			—			740			—

				47,767			3.27	%		38,039			2.79	%
	Shareholder’s equity			3,324						2,925

		Total liabilities and equity	$	51,091					$	40,964


Non-accrual loans			$	33.3					$	21.8

Capital ratios:
	Tier 1 Leverage			7.5	%					7.8	%
	Tier 1 Risk-based capital			11.0	%					11.8	%
	Total Risk-based capital			11.2	%					12.0	%

The Banking Segment also includes the operation of CWL. CWL’s pre-tax earnings increased by $1.7 million during the quarter ended March 31, 2005 in comparison to the year-ago period, primarily due to a 54% increase in average mortgage warehouse advances, which resulted primarily from an overall increase in loan production in the Mortgage Banking Segment combined with an increase in external customers.


	*Capital Markets Segment*

Our Capital Markets Segment achieved pre-tax earnings of $122.0 million for the quarter ended March 31, 2005, a decrease of $31.1 million, or 20%, from the year-ago period. Total revenues were $203.9 million, a decrease of $19.5 million, or 9%, compared to the year-ago period. During the quarter ended March 31, 2005, a less favorable mortgage related fixed income market led to reduced mortgage-backed securities trading volumes and margins. Partially offsetting this decline, Capital Markets benefited from its commercial real estate activities, which generated revenues totaling $29.0 million from the sale of commercial loans in this quarter. The Capital Markets Segment has expanded its staffing and infrastructure to invest in the development of new lines of business such as U.S. Treasury securities trading, commercial real estate finance and broker-dealer operations in Japan, which largely contributed to an increase in expenses of $11.6 million, or 17%, compared to the year-ago period.

The following table shows revenues, expenses and pre-tax earnings of the Capital Markets Segment:


			Quarter Ended
			March 31,

			2005		2004

			(In thousands)
Revenues:
	Conduit		$	95,988	$	107,333
	Underwriting			51,557		63,262
	Commercial real estate			29,007		—
	Securities trading			19,414		49,138
	Brokering			6,209		4,032
	Other			1,734		(369	)

		Total revenues		203,909		223,396
Expenses:
	Operating expenses			77,736		67,935
	Allocated corporate expenses			4,126		2,310

		Total expenses		81,862		70,245

Pre-tax earnings			$	122,047	$	153,151

During the quarter ended March 31, 2005, the Capital Markets Segment generated revenues totaling $96.0 million from its conduit activities, which include brokering and managing the acquisition and sale or securitization of whole loans on behalf of CHL. Conduit revenues for the quarter ended March 31, 2005 decreased 11% in comparison to the year-ago period, primarily as a result of a decrease in the conduit loans sold.

Underwriting revenues decreased $11.7 million over the year-ago period because of decreased underwriting of CHL securitizations by Capital Markets.

Trading revenues declined 60% due to a decrease in the size of the overall mortgage market, which resulted in a decline in mortgage securities trading volume and margins. Trading volumes declined 16% from the year-ago period before giving effect to the introduction by the Company of U.S. Treasury securities trading. Including U.S. Treasury securities, the total securities volume traded increased 20% over the year-ago period. The U.S. Treasury securities trading operation is still in its development stages and has not yet produced significant net earnings.

The following table shows the composition of CSC securities trading volume, which includes intersegment trades with the mortgage banking operations, by instrument:


		Quarter Ended
		March 31,

		2005		2004

		(In millions)
Mortgage-backed securities		$	420,361	$	499,150
Asset-backed securities			34,365		37,607
Government agency debt			8,858		18,543
Other			10,534		6,899

	Subtotal(1)		474,118		562,199
U.S. Treasury securities			354,503		128,239

	Total securities trading volume	$	828,621	$	690,438


(1)	Approximately 16% and 13% of the segment’s non-U.S. Treasury securities trading volume was with CHL during the quarter ended March 31, 2005 and 2004, respectively.


	*Insurance Segment*

The Insurance Segment’s pre-tax earnings increased 5% over the year-ago period, to $54.6 million. The following table shows pre-tax earnings by business line:


		Quarter Ended
		March 31,

		2005			2004

		(In thousands)
Balboa Reinsurance Company		$	43,120		$	32,941
Balboa Life and Casualty Operations(1)			17,317			24,928
Allocated corporate expenses			(5,860	)		(5,874	)

	Pre-tax earnings	$	54,577		$	51,995


(1)	Includes the Balboa Life and Casualty Group and the Countrywide Insurance Services Group.

The following table shows net insurance premiums earned:


		Quarter Ended
		March 31,

		2005		2004

		(In thousands)
Balboa Reinsurance Company		$	43,695	$	37,249
Balboa Life and Casualty Operations			155,823		158,134

	Total net insurance premiums earned	$	199,518	$	195,383

The following table shows insurance claim expenses:


		Quarter Ended March 31,

		2005					2004

				As Percentage					As Percentage
				of Net					of Net
				Earned					Earned
		Amount		Premiums			Amount		Premiums

		(Dollar amounts in thousands)
Balboa Reinsurance Company		$	6,922		16	%	$	8,004		21	%
Balboa Life and Casualty Operations			69,013		44	%		76,671		48	%

	Total insurance claim expenses	$	75,935				$	84,675

Our mortgage reinsurance business produced $43.1 million in pre-tax earnings, an increase of 31% over the year-ago period, driven primarily by growth of 5% in the mortgage loans included in our loan servicing portfolio that are covered by reinsurance contracts along with a reduced provision for insured losses, which reflects reduced loss expectations relating to reinsured risk.

Our Life and Casualty insurance business produced pre-tax earnings of $17.3 million, a decrease of $7.6 million from the year-ago period. The decline in earnings was driven by a $2.3 million, or 1.5%, decrease in net earned premiums during the quarter ended March 31, 2005 in comparison to the year-ago period, along with an increase in direct expenses allocated from corporate. The decline in net earned premiums was primarily attributable to a decline in lender-placed insurance due to entering a reinsurance agreement with a major client, partially offset by an increase in voluntary homeowners insurance.

Our Life and Casualty insurance operations manage insurance risk by reinsuring portions of their insured risk. Balboa seeks to earn profits by capitalizing on Countrywide’s customer base and institutional relationships, as well as through operating efficiencies and sound underwriting.


	*Global Operations Segment*

Global Operations pre-tax earnings totaled $4.0 million, a decrease of $7.7 million from the year-ago period. The decrease in earnings was due to a 53% decline in the number of new mortgage loans processed.

Detailed Line Item Discussion of Consolidated Revenue and Expense Items


	*Gain on Sale of Loans and Securities*

Gain on sale of loans and securities is summarized below:


			Quarter Ended March 31,

			2005								2004

					Gain on Sale								Gain on Sale

								As Percentage								As Percentage
			Loans Sold		Amount			of Loans Sold			Loans Sold		Amount			of Loans Sold

			(Dollar amounts in thousands)
Mortgage Banking:
	Prime Mortgage Loans		$	58,920,588	$	729,345			1.24	%	$	59,600,127	$	549,865			0.92	%
	Nonprime Mortgage Loans			12,486,366		351,492			2.82	%		5,385,460		291,945			5.42	%
	Prime Home Equity Loans			4,025,409		156,393			3.89	%		2,757,498		115,104			4.17	%

		Production Sector		75,432,363		1,237,230			1.64	%		67,743,085		956,914			1.41	%
	Reperforming loans			459,248		15,566			3.39	%		1,474,137		81,950			5.56	%

			$	75,891,611		1,252,796					$	69,217,222		1,038,864

Capital Markets:
	Conduit activities		$	9,009,011		81,070			0.90	%	$	10,619,327		96,750			0.91	%
	Underwriting			N/A		39,448			N/A			N/A		45,611			N/A
	Commercial real estate		$	646,351		27,695			4.28	%		N/A		—			N/A
	Securities trading and other			N/A		(30,365	)		N/A			N/A		(69,195	)		N/A

						117,848								73,166
Other				N/A		(8,856	)		N/A			N/A		5,360			N/A

					$	1,361,788							$	1,117,390

Gain on sale of Prime Mortgage Loans increased in the quarter ended March 31, 2005 as compared to the quarter ended March 31, 2004 due primarily to higher margins resulting from a shift in mix of products towards higher margin in adjustable-rate products combined with favorable performance of our interest rate risk management activities as interest rates rose. This increase in gain on sale revenues was partially offset by decreased net interest income associated with Prime Mortgage Loans because of a decrease in the average holding period of the inventory, which shifts revenues from interest income to gain on sale. In addition, the spread between long and short-term interest rates was smaller in the current quarter as compared to the year-ago period, which also shifts revenues from interest income to gain on sale. Gain on sale of Home Equity and Nonprime Mortgage Loans increased in the quarter ended March 31, 2005 compared to quarter ended March 31, 2004 due primarily to increased sales of these loans partially offset by a decline in margins on these products.

Reperforming loans are reinstated loans that had previously defaulted and were repurchased from mortgage securities we issued. The note rate on these loans is typically higher than the current mortgage rate, and therefore, the margin on these loans is typically higher than margins on Prime Mortgage Loans. A change

in Ginnie Mae rules related to the repurchase of defaulted loans from Ginnie Mae securities has reduced the amount of loans available for repurchase, which has contributed to a lower gain on sale related to these items.

The decrease in Capital Markets’ gain on sale related to its conduit activities was due to decreased sales of conduit mortgage loans. Capital Markets’ revenues from its trading activities consist of gain on sale and interest income. In a steep yield curve environment, trading revenues derive largely or entirely from net interest income earned during the securities’ holding period. As the yield curve flattens, the mix of revenues will naturally shift toward gain on sale of securities. During the quarter ended March 31, 2005 there was a flattening of the yield curve.

In general, gain on sale of loans and securities is affected by numerous factors, including the volume and mix of loans sold, production channel mix, the level of price competition, the slope of the yield curve, and the effectiveness of our associated interest rate risk management activities. Our determination of the timing of loan sales can have a material impact on our earnings, particularly in the short-term.


	*Net Interest Income*

Net interest income is summarized below:


			Quarter Ended
			March 31,

			2005			2004

			(In thousands)
Net interest income (expense):
	Banking Segment loans and securities		$	261,211		$	124,318
	Mortgage Banking Segment loans and securities			176,331			365,063
	Interest income (expense) on custodial balances			30,529			(39,052	)
	Servicing Sector interest expense			(95,867	)		(85,904	)
	Reperforming loans			28,525			24,898
	Capital Markets Segment securities portfolio			65,095			131,662
	Other			19,020			11,210

		Net interest income		484,844			532,195
	Provision for loan losses related to loans held for investment			(19,622	)		(20,781	)

		Net interest income after provision for loan losses	$	465,222		$	511,414

The increase in net interest income from the Banking Segment was primarily attributable to growth in the average investment in mortgage loans in the Bank and CWL. Average assets in the Banking Segment increased to $48.3 billion during the quarter ended March 31, 2005, an increase of $24.7 billion over the year-ago period. The average net interest margin earned decreased to 2.22% during the quarter ended March 31, 2005 from 2.25% during the year-ago period.

The decrease in net interest income from Mortgage Banking loans and securities reflects a decrease in the average holding period of inventory of mortgage loans during the quarter ended March 31, 2005 as compared to the year-ago period, which resulted in lower average inventory balances. Average inventory decreased primarily due to the sale of Prime Home Equity Loans that had been held as investments in the year-ago period. The Mortgage Banking Segment loan and securities inventory is primarily financed with borrowings tied to short-term indices. Short-term interest rates rose more than long-term mortgage interest rates between the year-ago period and the quarter ended March 31, 2005, reducing the net interest income relating to outstanding balances. In addition, the mix of loans produced shifted towards adjustable-rate mortgage loans, which typically carry lower rates than fixed-rate mortgage loans. The decline in net interest income was partially offset by increased gain on sale.

Net interest income from custodial balances increased in the current period due to an increase in the earnings rate on the custodial balances from 0.82% during the quarter ended March 31, 2004 to 2.37% during

the quarter ended March 31, 2005, resulting from an increase in short-term interest rates, and to an increase in average custodial balances of $3.4 billion or 24% over the year-ago period. We are required to pass through monthly interest to security holders on paid-off loans at the underlying security rates, which were substantially higher than the short-term rates earned by us on the payoff float. The amount of such interest passed through to the security holders was $73.7 million and $68.0 million in the quarter ended March 31, 2005 and 2004, respectively.

Interest expense allocated to the Loan Servicing Sector increased primarily due to an increase in total Servicing Sector assets.

The decrease in interest income related to reperforming loans is a result of a decrease in the average balance of such loans held.

The decrease in net interest income from the Capital Markets securities portfolio is attributable to a decrease in the average net spread earned from 1.18% in the quarter ended March 31, 2004 to 0.51% in the quarter ended March 31, 2005, partially offset by an increase of 14% in the average inventory of securities held. The decrease in net spread earned on the securities portfolio is primarily due to a larger increase in short-term financing rates versus the increase in rates in the longer-term securities held by the Capital Markets Segment.


	*Loan Servicing Fees and Other Income from Retained Interests*

Loan servicing fees and other income from retained interests are summarized below:


		Quarter Ended
		March 31,

		2005		2004

		(In thousands)
Servicing fees, net of guarantee fees		$	720,317	$	557,963
Income from other retained interests			118,336		73,658
Late charges			56,868		43,332
Prepayment penalties			32,903		42,591
Global Operations Segment subservicing fees			28,527		26,690
Ancillary fees			15,407		12,547

	Total loan servicing fees and other income from retained interests	$	972,358	$	756,781

The increase in servicing fees, net of guarantee fees, was principally due to a 31% increase in the average servicing portfolio, partially offset by a reduction in the overall annualized net service fee earned from 0.339% of the average portfolio balance during the quarter ended March 31, 2004 to 0.335% during the quarter ended March 31, 2005. The reduction in the overall net service fee was largely due to agreements we reached with certain loan investors to reduce our contractual servicing fee rate. The resulting excess yield has been securitized and sold or is included on the balance sheet as trading securities.

The increase in income from other retained interests was due primarily to an increase in the average investment in these assets, along with an increase in the yield on these investments from 21% in the quarter ended March 31, 2004 to 24% in the quarter ended March 31, 2005. The yield excludes any impairment charges. Such charges are included in recovery (impairment) of retained interests on the consolidated statement of earnings. These investments include interest-only and principal-only securities as well as residual interests that arise from the securitization of nonconforming mortgage loans, particularly Nonprime Mortgage and Prime Home Equity Loans.


	*Amortization of Mortgage Servicing Rights*

We recorded amortization of MSRs of $472.2 million, or an annual rate of 19.0%, during the quarter ended March 31, 2005 as compared to $413.7 million, or an annual rate of 19.9%, during the year-ago period. The lower amortization rate was offset by a higher MSR asset balance attributable to net growth in the

servicing portfolio resulting in an increase in amortization for the quarter ended March 31, 2005 compared to the year-ago period.


	*Recovery (Impairment) of Retained Interests and Servicing Hedge (Losses) Gains*

Recovery (impairment) of retained interests and Servicing Hedge (losses) gains are detailed below:


		Quarter Ended
		March 31,

		2005			2004

		(In thousands)
Recovery (impairment) of retained interests:
	MSRs	$	452,434		$	(902,230	)
	Other retained interests		(137,070	)		(93,415	)

		$	315,364		$	(995,645	)

Servicing Hedge (losses) gains recorded in earnings		$	(552,292	)	$	672,796

Recovery of previously recorded MSR impairment during the quarter ended March 31, 2005 resulted from an increase in the estimated fair value of MSRs, primarily driven by the increase in mortgage rates during the period. Impairment of MSRs in the quarter ended March 31, 2004 resulted generally from a decrease in their estimated fair value, driven by a decrease in mortgage rates during the period. In the quarter ended March 31, 2005, we recognized impairment of other retained interests, primarily because of a decline in the value of nonprime securities. The collateral underlying certain of these residuals is fixed-rate for a period while the pass-through rate is floating. An increase in projected short-term interest rates during the current period resulted in a compression of the spread on such residuals, which resulted in a decline in their value.

Rising mortgage rates in the future should result in an increase in the estimated fair value of the MSRs and recovery of all or a portion of the impairment reserve, which amounted to $638.1 million at March 31, 2005. The MSR amortization rate, which is tied to the expected net cash flows from the MSRs, likewise should reduce as mortgage rates rise.

Long-term Treasury and swap rates increased during the quarter ended March 31, 2005. The increase in the rates combined with time value decay of $119 million on the options included in the Servicing Hedge resulted in a Servicing Hedge loss of $552.3 million in the quarter ended March 31, 2005. During the quarter ended March 31, 2004, the Servicing Hedge generated a gain of $672.8 million. This gain resulted from a decline in long-term Treasury and swap rates during the quarter ended March 31, 2004 partially offset by option time value decay of $118 million.

The Servicing Hedge is intended to moderate the effect on earnings caused by changes in the estimated fair value of MSRs and other retained interests that generally result from changes in mortgage rates. Rising interest rates in the future will result in Servicing Hedge losses.


	*Net Insurance Premiums Earned*

The increase in net insurance premiums earned is due to an increase in reinsurance premiums, partially offset by a decline in premiums earned on the lender-placed property line of business.


	*Commissions and Other Income*

Commissions and other income consisted of the following:


		Quarter Ended
		March 31,

		2005		2004

		(In thousands)
Appraisal fees, net		$	21,565	$	14,998
Credit report fees, net			18,521		17,881
Global Operations Segment processing fees			13,264		21,290
Title services			11,558		10,793
Insurance agency commissions			4,870		15,936
Other			45,336		39,883

	Total commissions and other income	$	115,114	$	120,781


	*Compensation Expenses*

Compensation expenses are summarized below:


		Quarter Ended
		March 31,

		2005			2004

		(In thousands)
Base salaries		$	442,898		$	355,609
Incentive bonus and commissions			379,580			321,324
Payroll taxes and benefits			149,538			118,688
Deferral of loan origination costs			(185,537	)		(114,957	)

	Total compensation expenses	$	786,479		$	680,664

Compensation expenses increased $105.8 million, or 16%, during the quarter ended March 31, 2005 as compared to the year-ago period. In the Loan Production Sector, compensation expenses increased $50.8 million, or 14%, because of a 28% increase in average staff. In the Loan Servicing Sector, compensation expense rose $11.0 million, or 16%, to accommodate a 23% increase in the number of loans serviced. Compensation expenses increased in most other business segments and corporate areas, reflecting growth in the Company.

Average headcount by segment is summarized below:


	Quarter Ended
	March 31,

	2005		2004

Mortgage Banking		32,565		26,383
Banking		1,552		825
Capital Markets		575		487
Insurance		1,909		1,770
Global Operations		2,349		1,971
Corporate Administration		4,286		3,447

Average workforce, including temporary staff		43,236		34,883

Incremental direct costs associated with the origination of loans are deferred when incurred. When the related loan is sold, the costs deferred are included as a component of gain on sale.


	*Occupancy and Other Office Expenses*

Occupancy and other office expenses are summarized below:


		Quarter Ended
		March 31,

		2005		2004

		(In thousands)
Office and equipment rentals		$	42,591	$	34,140
Utilities			34,658		27,613
Depreciation expense			33,524		25,661
Postage and courier service			23,537		21,082
Office supplies			16,069		13,394
Dues and subscriptions			12,252		9,208
Repairs and maintenance			11,738		10,864
Other			25,902		25,909

	Total occupancy and other office expenses	$	200,271	$	167,871

Occupancy and other office expenses for the quarter ended March 31, 2005 increased by $32.4 million, or 19%, primarily to accommodate a 22% increase in the average headcount.


	*Insurance Claim Expenses*

Insurance claim expenses were $75.9 million for the quarter ended March 31, 2005 as compared to $84.7 million for the year-ago period. The decrease in insurance claim expenses was due mainly to a decrease in the loss ratio experienced on lender-placed property and voluntary homeowners lines of business.


	*Advertising and Promotion Expenses*

Advertising and promotion expenses increased 72% from the quarter ended March 31, 2004, as a result of a shift in the mortgage loan production market towards purchase activity combined with a shift in mix of our mortgage loan production towards our retail channels.


	*Other Operating Expenses*

Other operating expenses are summarized below:


		Quarter Ended
		March 31,

		2005			2004

		(In thousands)
Insurance commission expense		$	31,570		$	32,911
Legal and consulting fees			27,461			19,618
Travel and entertainment			23,758			17,257
Losses on servicing-related advances			21,455			6,295
Software amortization and impairment			13,108			9,740
Insurance			11,649			14,243
Taxes and licenses			10,540			8,493
Other			28,060			23,696
Deferral of loan origination costs			(29,577	)		(15,065	)

	Total other operating expenses	$	138,024		$	117,188

Losses on servicing-related advances consist primarily of losses arising from unreimbursed servicing advances on defaulted loans and credit losses arising from defaulted VA-guaranteed loans. (See the “Credit Risk Management” section of this Report for a further discussion of credit risk.) The increase in losses on servicing-related advances is due to growth in the Company’s loan servicing portfolio along with the Company recognizing recoveries in the quarter ended March 31, 2004 that did not recur in the current quarter.

Quantitative and Qualitative Disclosures About Market Risk

The primary market risk we face is interest rate risk. Interest rate risk includes the risk that the value of our assets and liabilities will change due to changes in interest rates. Interest rate risk also includes the risk that the net interest income from our mortgage loan and investment portfolios will change in response to changes in interest rates. From an enterprise perspective, we manage interest rate risk through the natural counterbalance of our loan production and servicing businesses. We also use various financial instruments, including derivatives, to manage the interest rate risk related specifically to the values of our interest rate lock commitments, Mortgage Loan Inventory and MBS held for sale, MSRs and other retained interests, and trading securities, as well as a portion of our debt. The overall objective of our interest rate risk management activities is to reduce the variability of earnings caused by changes in interest rates.


	*Impact of Changes in Interest Rates on the Net Value of the Company’s Interest Rate-Sensitive Financial Instruments*

We perform various sensitivity analyses that quantify the net financial impact of changes in interest rates on our interest rate-sensitive assets, liabilities and commitments. These analyses incorporate assumed changes in the interest rate environment, including selected hypothetical, instantaneous parallel shifts in the yield curve.

We employ various commonly used modeling techniques to value our financial instruments in connection with these sensitivity analyses. For mortgage loans, MBS, MBS forward contracts, collateralized mortgage obligations and MSRs, option-adjusted spread (“OAS”) models are used. The primary assumptions used in these models for purpose of these sensitivity analyses are the implied market volatility of interest rates and prepayment speeds. For options and interest rate floors, an option-pricing model is used. The primary assumption used in this model is implied market volatility of interest rates. Other retained interests are valued using zero volatility discounted cash flow models. The primary assumptions used in these models are prepayment rates, discount rates and credit losses. All relevant cash flows associated with the financial instruments are incorporated in the various models.

Based upon this modeling, the following table summarizes the estimated change in fair value of our interest rate-sensitive assets, liabilities and commitments as of March 31, 2005, given several hypothetical, instantaneous, parallel shifts in the yield curve:


				Change in Fair Value

Change in Interest Rate (Basis Points)				-100			-50			+50			+100

							(In millions)
MSRs and other financial instruments:
	MSR and other retained interests			$	(2,849	)	$	(1,344	)	$	917		$	1,617
	Impact of Servicing Hedge:
		Swap-based			2,276			887			(331	)		(359	)
		Treasury-based			371			109			(86	)		(176	)

			MSRs and other retained interests, net		(202	)		(348	)		500			1,082

	Committed Pipeline				284			186			(281	)		(580	)
	Mortgage Loan Inventory				912			530			(646	)		(1,314	)


				Change in Fair Value

Change in Interest Rate (Basis Points)				-100			-50			+50			+100

							(In millions)
	Impact of associated derivative instruments:
		Mortgage-based			(1,252	)		(735	)		928			1,913
		Treasury-based			321			124			(24	)		(25	)
		Eurodollar-based			(180	)		(93	)		106			225

			Committed Pipeline and Mortgage Loan Inventory, net		85			12			83			219

	Treasury Bank:
		Securities portfolio			153			94			(120	)		(252	)
		Mortgage loans			481			258			(281	)		(588	)
		Deposit liabilities			(228	)		(117	)		119			238
		Federal Home Loan Bank Advances			(345	)		(167	)		160			312

			Treasury Bank, net		61			68			(122	)		(290	)

	Notes payable and capital securities				(778	)		(386	)		376			729
	Impact of associated derivative instruments:
		Swap-based			112			55			(55	)		(110	)

			Notes payable and capital securities, net		(666	)		(331	)		321			619

	Insurance company investment portfolios				38			21			(23	)		(48	)

Net change in fair value related to MSRs and other financial instruments				$	(684	)	$	(578	)	$	759		$	1,582

Net change in fair value related to broker-dealer trading securities				$	(9	)	$	0		$	(10	)	$	(27	)

The following table summarizes the estimated change in fair value of the Company’s interest rate-sensitive assets, liabilities and commitments as of December 31, 2004, given several hypothetical (instantaneous) parallel shifts in the yield curve:


	Change in Fair Value

Change in Interest Rate (Basis Points)	-100			-50			+50			+100

				(In millions)
Net change in fair value related to MSRs and other financial Instruments	$	(285	)	$	(492	)	$	787		$	1,765

Net change in fair value related to broker-dealer trading securities	$	(11	)	$	(3	)	$	(8	)	$	(24	)

These sensitivity analyses are limited in that they were performed at a particular point in time; only contemplate certain movements in interest rates; do not incorporate changes in interest rate volatility or changes in the relationship of one interest rate index to another; are subject to the accuracy of various assumptions used, including prepayment forecasts and discount rates; and do not incorporate other factors that would impact the Company’s overall financial performance in such scenarios, most significantly the impact of changes in loan production earnings that result from changes in interest rates. In addition, not all of the changes in fair value would affect current period earnings. For example, MSRs are carried by impairment stratum at the lower of amortized cost or market value. Consequently, absent hedge accounting, any increase in the value of a particular MSR stratum above its amortized cost basis would not be reflected in current-period earnings. The total impairment reserve was $638.1 million as March 31, 2005. On April 1, 2005, we implemented hedge accounting in accordance with SFAS 133 for a portion of our interest rate risk management activities related to our MSRs. In addition, our debt is carried at its unpaid principal balance net of issuance discount or premium; therefore, absent hedge accounting, changes in the market value of our debt

are not recorded in current-period earnings. For these reasons, the preceding estimates should not be viewed as an earnings forecast.


	*Foreign Currency Risk*

In order to diversify our funding sources globally, we occasionally issue medium-term notes denominated in a foreign currency. We manage the foreign currency risk associated with these medium-term notes through cross-currency swap transactions. The terms of the cross-currency swaps effectively convert all foreign currency-denominated medium-term notes into U.S. dollar obligations, thereby eliminating the associated foreign currency risk. As a result, potential changes in the exchange rates of foreign currencies denominating such medium-term notes would not have a net financial impact on future earnings, fair values or cash flows.

Credit Risk


	*Securitization*

As a mortgage banker, we have historically sold substantially all the mortgage loans that we produced, generally through securitizations. When we securitize our mortgage loans we retain limited credit risk. As described in our 2004 Annual Report, the degree to which credit risk on the underlying loans is transferred through the securitization process depends on the structure of the securitization. Our Prime Mortgage Loans generally are securitized on a non-recourse basis, while Prime Home Equity Loans and Nonprime Mortgage Loans generally are securitized with limited recourse for credit losses.

Our exposure to credit losses related to our limited recourse securitization activities is limited to the carrying value of our subordinated interests and to the contractual limit of reimbursable losses under our corporate guarantees less the recorded liability for such guarantees. These amounts at March 31, 2005 are as follows:


		March 31,
		2005

		(In thousands)
Subordinated Interests:
	Prime home equity residual securities	$	864,270
	Nonprime residual securities		470,922
	Prime home equity transferor’s interests		395,766
	Nonconforming residual securities		23,365
	Subordinated mortgage-backed pass-through securities		2,261

		$	1,756,584

Corporate guarantees in excess of recorded liability		$	417,820

The carrying value of the residual securities is net of expected future credit losses. The total credit losses incurred for the periods indicated related to all of our mortgage securitization activities are summarized as follows:


	Quarter Ended
	March 31,

	2005		2004

	(In thousands)
Nonprime securitizations with retained residual interest	$	12,118	$	9,086
Repurchased or indemnified loans		8,305		13,282
Prime home equity securitizations with retained residual interest		4,497		6,049
Nonprime securitizations with corporate guarantee		4,518		6,585
VA losses in excess of VA guarantee		526		439
Prime home equity securitizations with corporate guarantee		436		3,299

	$	30,400	$	38,740


	*Mortgage Reinsurance*

We provide mortgage reinsurance on mortgage loans included in our servicing portfolio through contracts with several primary mortgage insurance companies. Under these contracts, we absorb mortgage insurance losses in excess of a specified percentage of the principal balance of a given pool of loans, subject to a cap, in exchange for a portion of the pools’ mortgage insurance premium. As of March 31, 2005, approximately $72.4 billion of mortgage loans in our servicing portfolio are covered by such mortgage reinsurance contracts. The reinsurance contracts place limits on our maximum exposure to losses. At March 31, 2005, the maximum aggregate losses under the reinsurance contracts were $430.3 million. We are required to pledge securities to cover this potential liability. For the quarter ended March 31, 2005 we did not experience any losses under our reinsurance contracts.


	*Mortgage Loans Held for Sale*

At March 31, 2005, mortgage loans held for sale amounted to $29.9 billion. While the loans are in inventory, we bear credit risk after taking into consideration primary mortgage insurance (which is generally required for conventional loans with a loan-to-value ratio greater than 80%), FHA insurance or VA guarantees. Historically, credit losses related to loans held for sale have not been significant.


	*Portfolio Lending Activities*

We have a portfolio of mortgage loans held for investment, consisting primarily of Prime Mortgage and Prime Home Equity Loans, which amounted to $42.8 billion at March 31, 2005. This portfolio is held primarily in our Bank. Prime Home Equity Loans held in the Bank with combined loan-to-value ratios equal to or above 90% are covered by a pool insurance policy that provides partial protection against credit losses. Otherwise, we generally retain full credit exposure on these loans.

We also provide short-term secured mortgage-loan warehouse advances to various lending institutions, which totaled $3.5 billion at March 31, 2005. We incurred no credit losses related to this activity in the quarter ended March 31, 2005.

Our total allowance for credit losses on mortgage loans held for investment amounted to $134.9 million at March 31, 2005.


	*Counterparty Credit Risk*

We have exposure to credit loss in the event of contractual non-performance by our trading counterparties and counterparties to our various over-the-counter derivative financial instruments. We manage this credit risk by selecting only well-established, financially strong counterparties, spreading the credit risk among many

such counterparties, and by placing contractual limits on the amount of unsecured credit extended to any single counterparty.

The aggregate amount of counterparty credit exposure after consideration of relevant netting agreements at March 31, 2005, before and after collateral held by us, was as follows:


	March 31,
	2005

	(In millions)
Aggregate credit exposure before collateral held	$	1,463
Less: collateral held		(925	)

Net aggregate unsecured credit exposure	$	538

For the quarter ended March 31, 2005, we incurred no credit losses due to non-performance of any of our counterparties.

Loan Servicing

The following table sets forth certain information regarding our servicing portfolio of single-family mortgage loans, including loans and securities held for sale, loans held for investment and loans serviced under subservicing agreements, for the periods indicated.


		Quarter Ended
		March 31,

		2005			2004

		(In millions)
Beginning owned portfolio		$	821,475		$	630,451
Add: Loan production			91,460			76,204
Purchased MSRs			17,931			9,178
Less: Runoff(1)			(58,639	)		(48,292	)

Ending owned portfolio			872,227			667,541
Subservicing portfolio			21,178			15,307

	Total servicing portfolio	$	893,405		$	682,848

MSR portfolio		$	798,518		$	616,888
Mortgage loans owned			73,709			50,653
Subservicing portfolio			21,178			15,307

	Total servicing portfolio	$	893,405		$	682,848


			March 31,

			2005			2004

			(Dollar amounts in
			millions)
Composition of owned portfolio at period end:
	Conventional mortgage		$	677,251		$	537,595
	FHA-insured mortgage			39,228			42,879
	VA-guaranteed mortgage			13,127			13,723
	Nonprime Mortgage			93,607			45,372
	Prime Home Equity			49,014			27,972

		Total owned portfolio	$	872,227		$	667,541

Delinquent mortgage loans(2):
	30 days			2.03	%		1.92	%
	60 days			0.57	%		0.54	%
	90 days or more			0.71	%		0.74	%

		Total delinquent mortgage loans		3.31	%		3.20	%

Loans pending foreclosure(2)				0.43	%		0.42	%


			March 31,

			2005			2004

			(Dollar amounts in
			millions)
Delinquent mortgage loans(2):
	Conventional			1.99	%		1.85	%
	Government			10.50	%		10.81	%
	Nonprime Mortgage			9.59	%		9.92	%
	Prime Home Equity			0.97	%		0.62	%
		Total delinquent mortgage loans		3.31	%		3.20	%
Loans pending foreclosure(2):
	Conventional			0.22	%		0.22	%
	Government			1.14	%		1.23	%
	Nonprime Mortgage			1.84	%		1.89	%
	Prime Home Equity			0.05	%		0.04	%
		Total loans pending foreclosure		0.43	%		0.42	%


(1)	Runoff refers to scheduled principal repayments on loans and unscheduled prepayments (partial prepayments or total prepayments due to refinancing, modification, sale, condemnation or foreclosure).

(2)	Expressed as a percentage of the total number of loans serviced, excluding subserviced loans and loans purchased at a discount due to their non-performing status.

We attribute the overall increase in delinquencies in our servicing portfolio primarily to the relative overall increase in the number of loans in the nonprime portfolios, which carry higher delinquency rates than the conventional and Prime Home Equity portfolios. Also contributing to the increase in the overall delinquency rate is an increase in the delinquency rate of our conventional portfolio. We believe the delinquency rates in our servicing portfolio are consistent with industry experience for similar mortgage loan portfolios.

Liquidity and Capital Resources

We regularly forecast our potential funding needs over three-month and longer horizons, taking into account debt maturities and potential peak balance sheet levels. Available reliable sources of liquidity are appropriately established and sized to meet potential future funding requirements. We currently have $83.1 billion in available sources of short-term liquidity, which represents an increase of $9.9 billion from December 31, 2004. We believe we have adequate financing to meet our current needs.

At March 31, 2005 and at December 31, 2004, CFC’s regulatory capital ratios were as follows:


					March 31, 2005					December 31, 2004
		Minimum
		Required(1)			Ratio			Amount		Ratio			Amount

					(Dollar amounts in thousands)
Tier 1 Leverage Capital			5.0	%		7.9	%	$	11,000,806		7.9	%	$	10,332,383
Risk-Based Capital
	Tier 1		6.0	%		11.1	%	$	11,000,806		11.1	%	$	10,332,383
	Total		10.0	%		11.7	%	$	11,605,954		11.7	%	$	10,928,223


(1)	Minimum required to qualify as “well capitalized.”


	*Cash Flow*

Cash flow provided by operating activities was $12.1 billion for the quarter ended March 31, 2005, compared to $1.8 billion for the quarter ended March 31, 2004. The increase in cash flow from operations for the quarter ended March 31, 2005 compared to the quarter ended March 31, 2004 was primarily due to a $6.9 billion net decrease in cash used to fund Mortgage Loan Inventory and a $4.2 billion net decrease in cash used to fund investments in trading securities.

Net cash used by investing activities was $19.4 billion for the quarter ended March 31, 2005, compared to $5.2 billion for the quarter ended March 31, 2004. The increase in net cash used in investing activities was attributable to a $4.5 billion increase in cash used to fund loans held for investment, combined with a $4.6 billion increase in cash used to fund investments in other financial instruments and a $5.0 billion increase in securities purchased under agreements to resell and securities borrowed.

Net cash provided by financing activities for the quarter ended March 31, 2005 totaled $7.3 billion, compared to $4.0 billion for the quarter ended March 31, 2004. The increase in cash provided by financing activities was comprised of a $3.4 billion net increase in short-term borrowings and a $2.8 billion net increase in bank deposit liabilities partially offset by a $2.8 billion decrease in long-term debt.

Off-Balance Sheet Arrangements and Aggregate Contractual Obligations


	*Off-Balance Sheet Arrangements and Guarantees*

In the ordinary course of our business, we engage in financial transactions that are not reflected on our balance sheet. (See Note 2 — “Summary of Significant Accounting Policies” in the 2004 Annual Report for a description of our consolidation policy.) Such transactions are structured to manage our interest rate, credit or liquidity risks, to diversify funding sources or to optimize our capital.

Substantially all of our off-balance sheet arrangements relate to the securitization of mortgage loans. Our mortgage loan securitizations are normally structured as sales in accordance with SFAS 140, and as such involve the transfer of mortgage loans to qualifying special-purpose entities that are not subject to consolidation. In a securitization, an entity transferring the assets is able to convert those assets into cash. Special-purpose entities used in such securitizations obtain cash to acquire the assets by issuing securities to investors. In a securitization, we customarily provide representations and warranties with respect to the mortgage loans transferred. In addition, we generally retain the right to service the transferred mortgage loans.

We also generally have the right to repurchase mortgage loans from the special-purpose entity if the remaining outstanding balance of the mortgage loans falls to a level where the cost of servicing the loans becomes burdensome in relation to the benefits of servicing.

Our Prime Mortgage Loans generally are securitized on a non-recourse basis, while Prime Home Equity and Nonprime Loans generally are securitized with limited recourse for credit losses. During the quarter ended March 31, 2005, we securitized $15.0 billion in Nonprime Mortgage and Prime Home Equity Loans with limited recourse for credit losses. Our exposure to credit losses related to our limited recourse securitization activities is limited to the carrying value of our subordinated interests and to the contractual limit of reimbursable losses under our corporate guarantees less the recorded liability for such guarantees. For a further discussion of our exposure to credit risk, see the section in this Report entitled “Management’s Discussion and Analysis of Financial Condition and Results of Operations — Credit Risk.”

We do not believe that any of our off-balance sheet arrangements have had or are reasonably likely to have a current or future material effect on our financial condition, results of operations, liquidity, capital expenditures or capital resources.


	*Contractual Obligations*

The following table summarizes our significant contractual obligations at March 31, 2005, with the exception of short-term borrowing arrangements and pension and post-retirement benefit plans:


	Less Than						More Than
	1 Year		1-3 Years		3-5 Years		5 Years		Total

	(In thousands)
Obligations:
Notes payable	$	12,493,086	$	17,452,960	$	11,788,904	$	3,315,782	$	45,050,732
Time deposits	$	6,153,605	$	3,924,195	$	2,507,212	$	848,613	$	13,433,625
Operating leases	$	130,243	$	205,900	$	103,937	$	31,968	$	472,048
Purchase obligations	$	150,932	$	18,120	$	3,410	$	754	$	173,216

As of March 31, 2005, the Company had undisbursed home equity lines of credit and construction loan commitments of $5.2 billion and $1.0 billion, respectively. As of March 31, 2005, outstanding commitments to fund mortgage loans in process totaled $39.1 billion.

In connection with the Company’s underwriting activities, the Company had commitments to purchase and sell new issues of securities aggregating $450.2 million at March 31, 2005.

Prospective Trends


	*United States Mortgage Market*

Over the last decade, total mortgage indebtedness in the United States has grown at an average annual rate of 9%. We believe that continued population growth, ongoing developments in the mortgage market and the prospect of relatively low interest rates support similar growth in the market for the foreseeable future. Some of the ongoing developments in the mortgage market that should fuel its growth include government-sponsored programs targeted to increase homeownership in low-income and minority communities, the growth of prime home equity lending as a major form of consumer finance, and the increasing efficiency of the secondary mortgage market that lowers the overall cost of homeownership.

In recent years, the level of complexity in the mortgage lending business has increased significantly due to several factors:


	•	The continuing evolution of the secondary mortgage market has resulted in a proliferation of mortgage products;

	•	Greater regulation imposed on the industry has resulted in increased costs and the need for higher levels of specialization; and

	•	Interest rate volatility has risen over the last decade. At the same time, homeowners’ propensity to refinance their mortgages has increased as the refinance process has become more efficient and cost effective. The combined result has been large swings in the volume of mortgage loans originated from year to year. These volume swings have placed significant operational and financial pressures on mortgage lenders.

To compete effectively in this environment, mortgage lenders must have a very high level of operational, technological and managerial expertise. In addition, the residential mortgage business has become more capital-intensive and therefore access to capital at a competitive cost is critical. Primarily as a result of these factors, the industry has undergone rapid consolidation.

According to the trade publication Inside Mortgage Finance, the top five originators produced 44% of all loans originated during the quarters ended March 31, 2005, and December 31, 2004. Following is a comparison of loan volume for the top five originators, according to Inside Mortgage Finance:


		Quarter Ended		Quarter Ended
Institution		March 31, 2005		December 31, 2004

		(In billions)
Countrywide		$	91	$	95
Wells Fargo Home Mortgage			65		69
Washington Mutual			54		59
Chase Home Finance			39		44
Bank of America Mortgage			33		35

	Total for Top Five	$	282	$	302

We believe the consolidation trend will continue, as the aforementioned market forces will continue to drive out weak competitors. We believe Countrywide will benefit from this trend through increased market share. In addition, we believe that industry consolidation should lessen irrational price competition, which from time to time has affected the industry.

Compared to Countrywide, the other industry leaders are less reliant on the secondary mortgage market as an outlet for adjustable-rate mortgages, due to their greater portfolio lending capacity. This could place us at a competitive disadvantage in the future if the demand for adjustable-rate mortgages continues, the secondary mortgage market does not continue to provide a competitive outlet for these loans, or we are unable to sustain an adequate portfolio lending capacity.


	*Regulatory Trends*

The regulatory environments in which we operate have an impact on the activities in which we may engage, how the activities may be carried out and the profitability of those activities. Therefore, changes to laws, regulations or regulatory policies can affect whether and to what extent we are able to operate profitably. For example, proposed state and federal legislation targeted at predatory lending could have the unintended consequence of raising the cost or otherwise reducing the availability of mortgage credit for those potential borrowers with less than prime-quality credit histories. This could result in a reduction of otherwise legitimate nonprime lending opportunities.


	*Recently Issued New Accounting Standards*

for Stock-Based Compensation.” This Statement requires companies to measure the cost of employee services received in exchange for an award of equity instruments based on the grant date fair value of the award. SFAS 123R requires measurement of fair value of employee stock options using an option pricing model that takes into account the awarded options’ unique characteristics. SFAS 123R requires charging the recognized cost to expense over the period the employee provides services to earn the award, generally the vesting period for the award. In April of 2005, the Securities and Exchange Commission revised the required adoption date of SFAS 123R. As a result of this change, we are required to adopt SFAS 123R for the year ending December 31, 2006. We have not yet determined the effect of implementation of SFAS 123R or whether the Statement will be implemented prospectively or retrospectively.


	*Factors That May Affect Our Future Results*

We make forward-looking statements in this Report and in other reports we file with the SEC. In addition, we make forward-looking statements in press releases and our management may make forward-looking statements orally to analysts, investors, the media and others. Generally, forward-looking statements include:


	•	Projections of our revenues, income, earnings per share, capital expenditures, dividends, capital structure or other financial items

	•	Descriptions of our plans or objectives for future operations, products or services

	•	Forecasts of our future economic performance

	•	Descriptions of assumptions underlying or relating to any of the foregoing

Forward-looking statements give management’s expectation about the future and are not guarantees. Words like “believe,” “expect,” “anticipate,” “promise,” “plan” and other expressions or words of similar meanings, as well as future or conditional verbs such as “will,” “would,” “should,” “could,” or “may” are generally intended to identify forward-looking statements. There are a number of factors, many of which are beyond our control that could cause actual results to differ significantly from management’s expectations. Some of these factors are discussed below.

Readers are cautioned not to place undue reliance on forward-looking statements. Forward-looking statements speak only as of the date they are made. We do not undertake to update them to reflect changes that occur after the date they are made.

Factors that could cause actual results to differ materially from historical results or those anticipated include, but are not limited to:


	•	Changes in general business, economic, market and political conditions from those expected

	•	Ineffective management of the volatility inherent in the mortgage banking business

	•	Our accounting policies and methods are fundamental to how we report our financial condition and results of operations, and they may require management to make estimates about matters that are inherently uncertain

	•	Competition within the financial services industry

	•	Significant changes in regulations governing our business

	•	Incomplete or inaccurate information provided by customers and counterparties

	•	A general decline in U.S. housing prices or in activity in the U.S. housing market

	•	A loss of investment-grade credit ratings, which may result in increased cost of debt or loss of access to corporate debt markets

	•	A reduction in the availability of secondary markets for our mortgage loan products

	•	A reduction in government support of homeownership


	•	A change in our relationship with the housing-related government agencies and Government Sponsored Enterprises (GSEs)

	•	Changes in regulations or the occurrence of other events that impact the business, operation or prospects of GSEs

	•	Ineffectiveness of our hedging activities

	•	The level of competition in each of our business segments

	•	The occurrence of natural disasters or other events or circumstances that could impact the level of claims in the Insurance Segment.

Other risk factors are described elsewhere herein as well as in other reports and documents that we file with or furnish to the SEC including the Company’s Annual Report on Form 10-K. Other factors that could also cause results to differ from our expectations may not be described in any such report or document. Each of these factors could by itself, or together with one or more other factors, adversely affect our business, results of operations and/or financial condition.


Item 3.	*Quantitative and Qualitative Disclosures About Market Risk*

In response to this Item, the information set forth on pages 48 to 50 of this Form 10-Q is incorporated herein by reference.


Item 4.	*Controls and Procedures*


	*Disclosure Controls and Procedures*

We have conducted an evaluation, with the participation of our Chief Executive Officer and Chief Financial Officer, of the effectiveness of our disclosure controls and procedures (as such term is defined in Rules 13a-15(e) and 15d-15(e) under the Securities Exchange Act of 1934, as amended (the “Exchange Act”)) as of the end of the period covered by this quarterly report as required by paragraph (b) of Rules 13a-15 and 15d-15 under the Exchange Act. Based on their evaluation, the Chief Executive Officer and Chief Financial Officer have concluded that our disclosure controls and procedures were effective in ensuring that material information relating to the Company, including our consolidated subsidiaries, is made known to the Chief Executive Officer and Chief Financial Officer by others within those entities during the period in which this quarterly report on Form 10-Q was being prepared. On March 28, 2005 Thomas K. McLaughlin, resigned from his position as Executive Managing Director, Chief Financial Officer effective as of April 1, 2005. Also on March 28, 2005, the Company’s Board of Directors elected Eric P. Sieracki as Executive Managing Director and Chief Financial Officer of the Company effective April 1, 2005.


	*Internal Control over Financial Reporting*


	Changes to Internal Control over Financial Reporting

There has been no change in our internal control over financial reporting during the quarter ended March 31, 2005 that has materially affected, or is reasonably likely to materially affect, our internal control over financial reporting, except as follows:


	1. Effective February 1, 2005, Treasury Bank implemented a new general ledger application which management believes enhances the Company’s internal control over financial reporting; and

	2. The Company remediated the December 31, 2004 material weakness in Internal Controls over Financial Reporting as discussed below in the “Remediation Efforts Related to the Material Weakness in Internal Control over Financial Reporting” section of this report.

Remediation Efforts Related to the Material Weakness in Internal Control over Financial Reporting

The Company created certain mortgage-backed securities containing embedded derivatives which were underwritten by a subsidiary of the Company. At the end of each quarter in 2004 and at the end of the second quarter in 2003, a small amount of these securities had not yet been sold, but in all cases the remaining securities were sold shortly after quarter end. The securities held at each quarter end ranged from 0.1 percent to 2.2 percent of the principal balance of the related loans securitized. Such unsold securities containing embedded derivatives needed to be sold prior to the Company recording any gain on sale. These securities were not identified by the existing internal controls and resulted in the Company having to revise the timing of the gain on sale for such transactions, and ultimately, the identification of a material weakness in internal control over financial reporting. This has been remediated in 2005 by implementing the following:


	1) Accounting policies relating to new or modified activities were reviewed prior to March 31, 2005, the end of the first quarter in which such policies are effective. The Company will continue this process in future periods.

	2) Each securitization transaction during the quarter ended March 31, 2005 has been reviewed to identify whether it involved securities containing embedded derivatives, and, to the extent a transaction contained embedded derivatives, a plan was developed for the disposition of such securities or the securitization was not accounted for as a sale. The Company will continue this process in future periods.

	3) Procedures have been implemented to identify any such securities containing embedded derivatives that are held at each quarter end and to the extent such securities exist, procedures have been designed to ensure proper accounting related to gain on sale or reconsolidation of assets previously sold. The Company will continue to follow these procedures in future periods.


	Effectiveness of Internal Control over Financial Reporting

In our assessment of the effectiveness of the Company’s internal control over financial reporting as of December 31, 2004, a material weakness was identified. Management believes that the controls identified above eliminate the material weakness in internal control over financial reporting.

PART II. OTHER INFORMATION


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

The following table shows Company repurchases of its common stock for each calendar month during the quarter ended March 31, 2005.

Total Number of

Shares Purchased

Maximum Number of

Total Number of

Average

as Part of Publicly

Shares that may yet be

Shares

Price Paid

Announced Plan

Purchased Under the

Calendar Month

Purchased(1)(2)

per Share(2)

or Program(1)

Plan or Program(1)

January

8,960

36.82

n/a

February

2,395

32.02

n/a

March

17,098

32.57

n/a

Total

28,453

33.86

n/a


(1)	The Company has no publicly announced plans or programs to repurchase its stock. The shares indicated in this table represent only the withholding of a portion of restricted shares to cover taxes on vested restricted shares.

(2)	The shares purchased and the price paid per share have not been adjusted for stock splits.


Item 6.	*Exhibits*


Exhibit
No.			Description

	+10	.95*	Second Amendment to 2000 Equity Incentive Plan of the Company, dated February 22, 2005 (incorporated by reference to Exhibit 10.1 to the Company’s Current Report on Form 8-K, furnished on March 1, 2005).

	+10	.96*	Form of Performance Vested Stock Appreciation Right Agreement of the Company (incorporated by reference to Exhibit 10.2 to the Company’s Current Report on Form 8-K, furnished on March 1, 2005).

	+10	.97*	Amendment Two to the Company’s Change in Control Severance Plan, dated February 23, 2005 (incorporated by reference to Exhibit 10.3 to the Company’s Current Report on Form 8-K, furnished on March 1, 2005).

	+10	.98*	Form of Senior Management Incentive Plan of the Company (incorporated by reference to Exhibit 10.4 to the Company’s Current Report on Form 8-K, furnished on March 1, 2005).

	+10	.99*	Consulting Agreement, by and between the Company and Thomas Keith McLaughlin, dated as of April 1, 2005 (incorporated by reference to Exhibit 10.1 to the Company’s Current Report on Form 8-K, filed on March 30, 2005).

	+10	.100*	General Release Agreement, between Thomas Keith McLaughlin and the Company, dated as of March 24, 2005 (incorporated by reference to Exhibit 10.2 to the Company’s Current Report on Form 8-K, filed on March 30, 2005).

	12	.1	Computation of the Ratio of Earnings to Fixed Charges.

	31	.1	Certification of Chief Executive Officer Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.

	31	.2	Certification of Chief Financial Officer Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.

	32	.1	Certification of Chief Executive Officer Pursuant to 18 U.S.C. Section 1350.

	32	.2	Certification of Chief Financial Officer Pursuant to 18 U.S.C. Section 1350.


*	Incorporated by reference


+	Constitutes a management contract or compensatory plan or arrangement.

SIGNATURES

Pursuant to the requirements of Section 13 or 15(d) 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.


	Countrywide Financial Corporation
	(Registrant)


	By:	/s/ Stanford L. Kurland



	Stanford L. Kurland
	President and Chief Operating Officer

Dated: May 6, 2005


	By:	/s/ Eric P. Sieracki



	Eric P. Sieracki
	Executive Managing Director and
	Chief Financial Officer

Dated: May 6, 2005