UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM N-CSR
CERTIFIED SHAREHOLDER REPORT OF REGISTERED MANAGEMENT INVESTMENT
COMPANIES
Investment Company Act file number 811-21727
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First Trust Mortgage Income Fund
(formerly known as First Trust/FIDAC Mortgage Income Fund)
--------------------------------------------------------------
(Exact name of registrant as specified in charter)
120 East Liberty Drive, Suite 400
Wheaton, IL 60187
----------------------------------------------------
(Address of principal executive offices) (Zip code)
W. Scott Jardine, Esq.
First Trust Portfolios L.P.
120 East Liberty Drive, Suite 400
Wheaton, IL 60187
---------------------------------------
(Name and address of agent for service)
registrant's telephone number, including area code: 630-765-8000
------------
Date of fiscal year end: October 31
----------
Date of reporting period: April 30, 2011
--------------
Form N-CSR is to be used by management investment companies to file reports with
the Commission not later than 10 days after the transmission to stockholders of
any report that is required to be transmitted to stockholders under Rule 30e-1
under the Investment Company Act of 1940 (17 CFR 270.30e-1). The Commission may
use the information provided on Form N-CSR in its regulatory, disclosure review,
inspection, and policymaking roles.
A registrant is required to disclose the information specified by Form N-CSR,
and the Commission will make this information public. A registrant is not
required to respond to the collection of information contained in Form N-CSR
unless the Form displays a currently valid Office of Management and Budget
("OMB") control number. Please direct comments concerning the accuracy of the
information collection burden estimate and any suggestions for reducing the
burden to Secretary, Securities and Exchange Commission, 100 F Street, NE,
Washington, DC 20549. The OMB has reviewed this collection of information under
the clearance requirements of 44 U.S.C. ss. 3507.
ITEM 1. REPORTS TO STOCKHOLDERS.
The Report to Shareholders is attached herewith.
FIRST TRUST
FIRST TRUST
MORTGAGE INCOME FUND
SEMI-ANNUAL REPORT
FOR THE SIX MONTHS ENDED
APRIL 30, 2011
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TABLE OF CONTENTS
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FIRST TRUST MORTGAGE INCOME FUND (FMY)
SEMI-ANNUAL REPORT
APRIL 30, 2011
Shareholder Letter ........................................................... 1
At a Glance .................................................................. 2
Portfolio Commentary ......................................................... 3
Portfolio of Investments ..................................................... 8
Statement of Assets and Liabilities ..........................................12
Statement of Operations ......................................................13
Statements of Changes in Net Assets ..........................................14
Statement of Cash Flows ......................................................15
Financial Highlights .........................................................16
Notes to Financial Statements ................................................17
Additional Information .......................................................24
CAUTION REGARDING FORWARD-LOOKING STATEMENTS
This report contains certain forward-looking statements within the meaning of
the Securities Act of 1933, as amended, and the Securities Exchange Act of 1934,
as amended. Forward-looking statements include statements regarding the goals,
beliefs, plans or current expectations of First Trust Advisors L.P. ("First
Trust" or the "Advisor") and/or Fixed Income Discount Advisory Company ("FIDAC"
or the "Sub-Advisor") (effective April 29, 2011, Brookfield Investment
Management Inc. ("Brookfield") replaced FIDAC as the Fund's sub-advisor - see
Note 3 in the Notes to Financial Statements for additional information regarding
the change in the Fund's sub-advisor) and their respective representatives,
taking into account the information currently available to them. Forward-looking
statements include all statements that do not relate solely to current or
historical fact. For example, forward-looking statements include the use of
words such as "anticipate," "estimate," "intend," "expect," "believe," "plan,"
"may," "should," "would" or other words that convey uncertainty of future events
or outcomes.
Forward-looking statements involve known and unknown risks, uncertainties and
other factors that may cause the actual results, performance or achievements of
First Trust Mortgage Income Fund (formerly known as First Trust/FIDAC Mortgage
Income Fund - see Note 3 in the Notes to Financial Statements for additional
information regarding the Fund's name change) (the "Fund") to be materially
different from any future results, performance or achievements expressed or
implied by the forward-looking statements. When evaluating the information
included in this report, you are cautioned not to place undue reliance on these
forward-looking statements, which reflect the judgment of the Advisor and/or
Sub-Advisor/Brookfield and their respective representatives only as of the date
hereof. We undertake no obligation to publicly revise or update these
forward-looking statements to reflect events and circumstances that arise after
the date hereof.
PERFORMANCE AND RISK DISCLOSURE
There is no assurance that the Fund will achieve its investment objectives. The
Fund is subject to market risk, which is the possibility that the market values
of securities owned by the Fund will decline and that the value of the Fund
shares may therefore be less than what you paid for them. Accordingly, you can
lose money by investing in the Fund. See "Risk Considerations" in the Notes to
Financial Statements for a discussion of certain other risks of investing in the
Fund.
Performance data quoted represents past performance, which is no guarantee of
future results, and current performance may be lower or higher than the figures
shown. For the most recent month-end performance figures, please visit
http://www.ftportfolios.com or speak with your financial advisor. Investment
returns, net asset value and common share price will fluctuate and Fund shares,
when sold, may be worth more or less than their original cost.
HOW TO READ THIS REPORT
This report contains information that may help you evaluate your investment. It
includes details about the Fund and presents data and analysis that provide
insight into the Fund's performance and investment approach.
By reading the portfolio commentary by the portfolio management team of the
Fund, you may obtain an understanding of how the market environment affected the
Fund's performance. The statistical information that follows may help you
understand the Fund's performance compared to that of relevant market
benchmarks.
It is important to keep in mind that the opinions expressed by personnel of the
Advisor, Sub-Advisor and Brookfield are just that: informed opinions. They
should not be considered to be promises or advice. The opinions, like the
statistics, cover the period through the date on the cover of this report. The
risks of investing in the Fund are spelled out in the prospectus, the statement
of additional information, this report and other Fund regulatory filings.
--------------------------------------------------------------------------------
SHAREHOLDER LETTER
--------------------------------------------------------------------------------
FIRST TRUST MORTGAGE INCOME FUND (FMY)
SEMI-ANNUAL LETTER FROM THE PRESIDENT
APRIL 30, 2011
Dear Shareholders:
I am pleased to present you with the semi-annual report for your investment in
First Trust Mortgage Income Fund (the "Fund").
First Trust Advisors L.P. ("First Trust") has always believed that staying
invested in quality products and having a long-term horizon can help investors
reach their financial goals. Successful investors understand that the success
they have achieved is typically because of their long-term investment
perspective through all kinds of markets. While the past two years have been
challenging, the markets have been recovering from their lows of 2008-2009,
bringing relief to economists and investors alike.
The report you hold contains detailed information about your investment; a
portfolio commentary from the Fund's management team that provides a recap of
the period; a performance analysis and a market and Fund outlook. Additionally,
you will find the Fund's financial statements for the six months this report
covers. I encourage you to read this document and discuss it with your financial
advisor.
First Trust has been through many types of markets. That's why we remain
committed to being a long-term investor and investment manager and to bringing
you quality investment solutions regardless of the inevitable volatility the
market experiences. We offer a variety of products that may fit many financial
plans to help those investors seeking long-term investment success. You may want
to talk to your advisor about the investments First Trust offers that might also
fit your financial goals.
At First Trust we continue to be committed to making available up-to-date
information about your investments so you and your financial advisor have
current information on your portfolio. We value our relationship with you, and
we thank you for the opportunity to assist you in achieving your financial
goals. I look forward to the remainder of 2011 and to the next edition of your
Fund's report.
Sincerely,
/s/ James A. Bowen
James A. Bowen
President of First Trust Mortgage Income Fund
Page 1
FIRST TRUST MORTGAGE INCOME FUND
"AT A GLANCE"
AS OF APRIL 30, 2011 (UNAUDITED)
----------------------------------------------------------------------
FUND STATISTICS
----------------------------------------------------------------------
Symbol on New York Stock Exchange FMY
Common Share Price $20.78
Common Share Net Asset Value ("NAV") $19.68
Premium (Discount) to NAV 5.59%
Net Assets Applicable to Common Shares $79,950,410
Current Monthly Distribution per Common Share (1) $0.160
Current Annualized Distribution per Common Share $1.920
Current Distribution Rate on Closing Common Share Price (2) 9.24%
Current Distribution Rate on NAV (2) 9.76%
----------------------------------------------------------------------
------------------------------------------------------------
COMMON SHARE PRICE & NAV (WEEKLY CLOSING PRICE)
------------------------------------------------------------
Common Share Price NAV
4/10 18.57 20.28
18.11 20.08
18.36 20.15
18.27 19.92
5/10 18.24 19.93
18.05 19.68
18.23 19.62
18.27 19.60
6/10 18.18 19.58
18.37 19.52
18.25 19.48
19.21 19.47
19.21 19.56
7/10 19.72 19.51
19.44 19.39
20.55 19.31
20.12 19.41
8/10 20.01 19.13
20.19 19.27
20.86 19.52
20.80 19.39
9/10 21.72 19.35
21.57 19.33
20.00 19.24
20.39 19.38
19.87 19.39
10/10 20.70 19.59
20.12 19.31
19.09 19.44
19.72 19.54
11/10 19.50 19.75
19.31 19.70
18.69 19.70
19.05 19.79
19.59 19.81
12/10 19.38 19.50
19.29 19.61
18.82 19.73
19.55 19.71
1/11 19.59 19.75
19.20 19.64
19.44 19.70
19.69 19.70
2/11 20.07 19.71
20.18 19.71
19.83 19.65
19.79 19.64
3/11 20.22 19.76
20.25 19.72
19.98 19.81
20.07 19.78
20.40 19.72
4/11 20.78 19.68
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PERFORMANCE (3)
---------------------------------------------------------------------------------------------------------
Average Annual Total Return
-------------------------------------
6 Months Ended 1 Year Ended 5 Years Ended Inception (5/25/2005)
4/30/2011 4/30/2011 4/30/2011 to 4/30/2011
FUND PERFORMANCE
NAV 6.19% 7.15% 9.30% 8.21%
Market Value 6.11% 23.55% 13.83% 8.36%
INDEX PERFORMANCE
Barclays Capital U.S. MBS: Agency
Fixed Rate MBS Index 0.94% 4.98% 6.76% 5.85%
---------------------------------------------------------------------------------------------------------
------------------------------------------------------------
PORTFOLIO CHARACTERISTICS
------------------------------------------------------------
Weighted Average Duration -4.39
Weighted Average Life (Years) 4.93
------------------------------------------------------------
------------------------------------------------------------
% OF TOTAL
ASSET CLASSIFICATION INVESTMENTS
------------------------------------------------------------
U.S. Government Agency Mortgage-Backed Securities 61.2%
Mortgage-Backed Securities 38.8
------------------------------------------------------------
Total 100.0%
=====
------------------------------------------------------------
% OF TOTAL
SECURITY TYPE INVESTMENTS
------------------------------------------------------------
Fixed Rate Securities 50.0%
Interest Only Securities 32.3
Adjustable Rate Securities 17.7
------------------------------------------------------------
Total 100.0%
=====
------------------------------------------------------------
% OF TOTAL
FIXED-INCOME
CREDIT QUALITY (4) INVESTMENTS
------------------------------------------------------------
AAA 79.4%
AA+ 1.1
AA 3.0
AA- 0.3
A+ 0.4
A 0.2
BBB 3.6
BB 2.9
B- 0.3
CCC+ 0.8
CCC 8.0
------------------------------------------------------------
Total 100.0%
=====
(1) Most recent distribution paid or declared through 4/30/2011. Subject to
change in the future.
(2) Distribution rates are calculated by annualizing the most recent
distribution paid or declared through the report date and then dividing by
Common Share price or NAV, as applicable, as of 4/30/2011. Subject to
change in the future.
(3) Total return is based on the combination of reinvested dividend, capital
gain and return of capital distributions, if any, at prices obtained by
the Dividend Reinvestment Plan and changes in NAV per share for net asset
value returns and changes in Common Share price for market value returns.
Total returns do not reflect sales load and are not annualized for periods
less than one year. Past performance is not indicative of future results.
(4) The credit quality and ratings information presented above reflects the
ratings assigned by one or more nationally recognized statistical rating
organizations (NRSROs), including Standard & Poor's Rating Group, a
division of the McGraw Hill Companies, Inc., Moody's Investors Service,
Inc. or a comparably rated NRSRO. For situations in which a security is
rated by more than one NRSRO and the ratings are not equivalent, the
highest ratings are used. Sub-investment grade ratings are those rated
BB+/Ba1 or lower. Investment grade ratings are those rated BBB-/Baa3 or
higher.
Page 2
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PORTFOLIO COMMENTARY
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SUB-ADVISOR (FIDAC)
Fixed Income Discount Advisory Company ("FIDAC") is the original sub-advisor to
First Trust Mortgage Income Fund (the "Fund"), which originally was called the
First Trust/FIDAC Mortgage Income Fund. FIDAC is the wholly-owned registered
investment advisor of Annaly Capital Management Inc. ("Annaly"), a
publicly-traded real estate investment trust that trades under the New York
Stock Exchange ("NYSE") symbol of NLY. The Fund trades under the ticker symbol
FMY on the NYSE. Formed in 1994, FIDAC has become one of the leading
fixed-income management companies in the world specializing in mortgage-backed
securities and interest rate sensitive strategies.
FIDAC manages multiple investment vehicles that are marketed globally through
distributor relationships. Overall, the principal business objective is to
generate net income for distribution to investors from the spread between
interest income on mortgage-backed securities and the costs of borrowing to
finance their acquisition. FIDAC's team of investment professionals has built a
successful long-term track record through some of the most challenging
fixed-income markets in memory.
On April 19, 2011, First Trust Advisors L.P. announced that the Board of
Trustees had approved Brookfield Investment Management Inc. ("Brookfield") as
investment sub-advisor to the Fund, replacing FIDAC. The Fund entered into an
interim investment sub-advisory agreement with First Trust and Brookfield, as
investment sub-advisor, effective on April 29, 2011. The interim sub-advisory
agreement will remain in effect until the earlier of September 26, 2011 or until
a new sub-advisory agreement is approved by the shareholders of the Fund.
FIRST TRUST MORTGAGE INCOME FUND
The First Trust Mortgage Income Fund commenced trading on May 26, 2005. The
Fund's primary investment objective is to seek a high level of current income.
As a secondary objective, the Fund seeks to preserve capital. The Fund pursues
its objectives by investing primarily in mortgage-backed securities representing
part ownership in a pool of either residential or commercial mortgage loans
that, in the opinion of the Fund's Sub-Advisor, offer an attractive combination
of credit quality, yield and maturity. These securities may be issued by
government agencies or by private originators or issuers, generally in the form
of pass-through certificates, collateralized mortgage obligations, residential
mortgage-backed securities or commercial mortgage-backed securities. The Fund
may leverage to an aggregate amount of up to 33-1/3% of the Fund's Managed
Assets.(1) The Fund uses leverage primarily through the use of repurchase
agreements.
FIDAC PORTFOLIO MANAGEMENT TEAM
WELLINGTON J. DENAHAN-NORRIS
VICE CHAIRMAN, CHIEF INVESTMENT OFFICER AND CHIEF OPERATING OFFICER
Ms. Denahan-Norris is the Vice-Chairman of Annaly, Chief Investment Officer and
Chief Operating Officer of Annaly. Ms. Denahan-Norris has been with FIDAC since
its inception and was one of the original founders of Annaly. She is also
responsible for the development of our in-house portfolio systems. Prior to
joining Annaly and FIDAC, Ms. Denahan-Norris was Vice President at Citadel
Funding Corporation and a trader in the mortgage-backed securities desk at
Wertheim Schroder and Co., Inc. She has a Bachelor's Degree in Business from
Florida State University and attended the New York Institute of Finance for
intense mortgage-backed securities studies.
JAMES P. FORTESCUE
MANAGING DIRECTOR, HEAD OF LIABILITIES
Mr. Fortescue started with FIDAC in June of 1995 where he was in charge of
finding financing on mortgage-backed and corporate bonds for regional dealers,
as well as maintaining a pricing service for a major broker dealer. Mr.
Fortescue has been in charge of liability management for Annaly since its
inception, and continues to oversee all financing activities for FIDAC. Mr.
Fortescue has a Bachelor's Degree in Finance from Siena College.
ROSE-MARIE LYGHT
MANAGING DIRECTOR, CHIEF INVESTMENT OFFICER
Mrs. Lyght is a Managing Director and Chief Operating Officer of FIDAC. She
joined both companies in April 1999. Since that time she has been involved in
the asset selection and financing for FIDAC funds and high net worth separate
accounts. She has been a portfolio manager on FIDAC's offshore funds since
December 2000. Mrs. Lyght has a Bachelor of Science degree in Finance and a
Master's Degree in Business Administration from Villanova University.
ERIC SZABO, CFA, PRM
MANAGING DIRECTOR, CHIEF RISK OFFICER
Mr. Szabo is a Managing Director and the Chief Risk Officer for Annaly and
FIDAC. Prior to joining the companies in April 2004, he worked for TimesSquare
Capital Management as a Mortgage Analyst and Trader. Mr. Szabo has a Bachelor's
Degree from The College of New Jersey and a Master's Degree in Finance from
Boston College. Mr. Szabo is a certified Professional Risk Manager as designated
by the Professional Risk Managers' International Association, and a CFA
charterholder.
Page 3
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PORTFOLIO COMMENTARY - (Continued)
--------------------------------------------------------------------------------
MOHIT MARRIA
SENIOR VICE PRESIDENT
Mr. Marria is a Senior Vice President and Portfolio Manager for Annaly and
FIDAC. Prior to joining the companies in August 2005, Mr. Marria worked at both
AIG and MetLife trading mortgage-backed securities for their general account
portfolios. Mr. Marria has a Bachelor's Degree and a Master's in Business
Administration from Rutgers University.
NANCY MURTHA
SENIOR VICE PRESIDENT
Mrs. Murtha is a Senior Vice President and Portfolio Manager for Annaly and
FIDAC. She joined both companies in October of 2002. From 2000 to 2002 she was a
Senior Accountant at Deloitte & Touche where she worked within the Banking and
Securities Group. Mrs. Murtha has a Bachelor's Degree in Accounting and
Management Information Systems from Manhattan College.
SUB-ADVISOR (BROOKFIELD)
Brookfield is a global investment manager focused on specialized equity and
fixed-income securities investments. The firm is a subsidiary of Brookfield
Asset Management Inc., a leading global asset manager with over $150 billion in
assets under management as of March 31, 2011 and over 100 years of experience in
the property, power, and infrastructure industries. The combination of access to
this operational experience, along with the breadth of its product offerings and
depth of its investment teams, provides enhanced opportunity for investment.
Brookfield is an SEC-registered investment advisor and with its affiliates, had
approximately $23 billion in assets under management as of March 31, 2011.
Headquartered in New York, the firm maintains offices and investment teams in
Chicago, Boston, London, Hong Kong, Sydney, and Toronto.
BROOKFIELD PORTFOLIO MANAGEMENT TEAM
ANTHONY BREAKS, CFA
DIRECTOR
Mr. Breaks is a Portfolio Manager on the Structured Products Investments team.
Mr. Breaks is one of four team leaders in MBS/ABS and is a member of the team's
securities analysis committee. In his role, Mr. Breaks is one of the team's
portfolio managers. Mr. Breaks also has managed structured product vehicles,
such as SIV, ABCP and CDOs, for Brookfield and has experience in insurance
company asset management. Mr. Breaks earned a Bachelor of Science degree in
Electrical Engineering from the Massachusetts Institute of Technology. He holds
the Chartered Financial Analyst designation.
CHRIS WU
DIRECTOR
Mr. Wu is a Portfolio Manager on the Structured Products Investments team
focusing on Agency MBS. He is responsible for the firm's Agency MBS exposures.
He develops quantitative tools to formulate research and develop trading
strategies for Agency MBS exposures. Mr. Wu holds an MBA from New York
University as well as a Masters of Science degree in Computer Science from
University of Saskatchewan. He also earned a Bachelor of Economics degree from
Huazhong University of Science and Technology in China.
COMMENTARY (WRITTEN BY FIDAC)
MARKET RECAP
It has been an eventful 6 months, full of geopolitical (Eurozone debt, Middle
East riots) and geological (Japan) disasters, but the U.S. markets were
resilient and mostly took these events in stride. Possibly helping to steady the
markets, the Federal Reserve (the "Fed") continued its $600 billion large scale
asset purchase program which supported bond and equity markets alike. The
obvious worry is that this brand of monetary policy could stoke inflation.
Beyond record gold prices, certain measures of inflation expectations have moved
up recently. The chart below shows the 5-year breakeven inflation rate as
expected by the Treasury Inflation Protected Securities ("TIPS") market.
Despite its relatively low levels, the trend is not the Fed's friend in this
case. Based on the Fed's preferred measure of inflation, the Core Personal
Consumption Expenditures Price Index, inflation has yet to show itself in an
alarming way, and the committee expects it to remain so. Even with the recent
surge in commodities, headline CPI, a representation of inflation, is currently
3.1%. However, recent commodity price action suggests that it may not remain so
benign. Chairman Bernanke calls this inflation transitory, but Wal-Mart CEO Bill
Simon disagrees: "Every single retailer has and is paying more for the items
they sell, and retailers will be passing some of these costs along. Except for
fuel costs, U.S. consumers haven't seen much in the way of inflation for almost
a decade, so a broad-based increase in prices will be unprecedented in recent
memory." He goes on to say, "No retailer is going to be able to wish this new
cost reality away."
Page 4
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PORTFOLIO COMMENTARY - (Continued)
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------------------------------------------------------------
5 Year TIPS Breakeven Inflation Rate
4/7/08 2.1907%
2.1715
2.1785
2.1883
2.1504
2.1699
2.2296
2.2260
2.1827
2.1981
2.1915
2.2652
2.2198
2.2495
2.2562
2.2267
4/08 2.2059
2.2411
2.3006
2.3321
2.3388
2.3020
2.3129
2.3382
2.3369
2.3414
2.3657
2.3534
2.3934
2.4149
2.4204
2.4923
2.4610
2.4304
2.4235
2.3919
2.3978
2.4155
2.4364
2.4188
2.3712
2.3517
2.3979
2.4530
2.4874
2.5239
2.5356
2.5786
2.5906
2.6397
2.5656
2.5841
2.5455
2.5762
2.5608
2.5784
2.5612
2.6135
2.6067
6/08 2.6258
2.6678
2.6877
2.7201
2.7203
2.6219
2.5319
2.5262
2.5457
2.6046
2.5408
2.4928
2.5283
2.4821
2.4316
2.3948
2.3689
2.2249
2.1836
2.1663
2.1856
2.1286
2.1630
2.1061
2.1150
2.0985
2.0372
2.0379
2.0289
1.9843
1.9401
1.9158
1.9342
1.9606
1.8883
1.8520
1.8515
1.8818
1.9490
1.8763
1.8352
1.8347
1.8548
1.8374
8/08 1.8083
1.8079
1.6359
1.5853
1.5201
1.5513
1.5436
1.4495
1.4776
1.4699
1.4465
1.1712
0.9886
1.0294
1.0118
1.3217
1.4015
1.2141
1.0780
1.1415
1.1210
0.9323
0.9718
0.9405
0.9298
0.9355
0.7711
0.6369
0.4332
0.4469
0.2093
0.2079
0.3159
0.1470
0.0017
0.1966
0.3189
0.1484
0.0738
-0.0210
0.4581
0.7012
0.6283
0.5324
0.3343
10/08 0.2399
0.3116
0.3192
0.3806
0.5024
0.4751
0.4681
0.4698
0.5402
0.4732
0.4624
0.5368
0.6741
0.6787
0.8043
0.7664
0.7618
0.6892
0.7281
-0.7340
-0.7780
0.6181
0.4507
0.3762
0.3851
0.5107
0.5907
0.6417
0.6991
0.6229
0.7221
0.8633
0.6389
0.1997
0.3697
-0.4760
-0.4900
0.5167
0.4985
-0.5040
0.5517
-0.5360
0.5907
12/08 0.4943
0.4997
0.4833
0.4402
0.3379
0.3655
0.3723
0.3634
0.3326
0.2998
0.3605
0.3341
0.2528
0.2545
0.1983
0.1633
0.1446
0.1177
0.0858
0.0776
0.0170
0.0379
0.1081
0.0393
0.1922
0.2981
0.3488
0.4465
0.6737
0.4888
0.4525
0.3420
0.4789
0.4777
0.2886
0.3298
0.4379
0.3815
0.3733
0.3644
0.3766
0.4091
2/09 0.3656
0.2541
0.2040
0.2365
0.1907
0.2045
0.1321
0.1984
0.2186
0.3313
0.3172
0.4052
0.4209
0.4263
0.4806
0.4212
0.5014
0.6010
0.6558
0.7323
0.6498
0.5606
0.4871
0.4861
0.5199
0.5747
0.6560
0.5922
0.5714
0.6084
0.5590
0.5490
0.5200
0.5312
0.5071
0.5022
0.3953
0.3956
0.4250
0.4855
0.7620
0.7410
0.8383
0.9378
4/09 0.8239
0.8047
0.8506
0.8838
0.9750
1.0566
1.0465
1.0043
1.0269
0.9970
0.9610
1.0048
1.0828
1.0896
1.1198
1.1500
1.2023
1.2026
1.2687
1.4158
1.3349
1.3903
1.5308
1.6080
1.5330
1.5751
1.7173
1.7375
1.8001
1.8567
1.7961
1.6885
1.6023
1.5303
1.4609
1.5736
1.5489
1.4132
1.4292
1.3746
1.3139
1.2060
1.2222
6/09 1.3654
1.3503
1.2774
1.2812
1.2024
1.2079
1.0998
1.0961
1.0601
1.0681
1.1423
1.2431
1.2782
1.3593
1.3844
1.3020
1.3048
1.3618
1.3391
1.3624
1.3294
1.3416
1.3336
1.2756
1.3436
1.3796
1.3810
1.3429
1.4113
1.3913
1.3367
1.2991
1.1876
1.0826
1.0279
1.0884
1.1425
1.2324
1.3015
1.2086
1.1243
1.1314
1.1318
1.0899
8/09 1.0292
1.0240
0.9950
1.0866
1.1830
1.1869
1.2609
1.2775
1.2471
1.3075
1.3487
1.3641
1.4358
1.3393
1.3338
1.2816
1.3051
1.3036
1.2539
1.2477
1.2432
1.2263
1.2501
1.2078
1.2271
1.2137
1.2640
1.2478
1.2849
1.3615
1.3656
1.3843
1.3931
1.4238
1.4696
1.5257
1.4784
1.4255
1.4131
1.4393
1.5016
1.4895
1.4810
1.5305
10/09 1.4870
1.5272
1.5396
1.5766
1.6064
1.5920
1.6838
1.6637
1.6606
1.6061
1.5829
1.6114
1.6042
1.6760
1.6495
1.6771
1.6773
1.6597
1.6600
1.6547
1.6129
1.6118
1.6737
1.6805
1.6718
1.6808
1.6633
1.6108
1.5781
1.5949
1.6457
1.7021
1.7335
1.7956
1.7283
1.7446
1.7983
1.8637
1.8657
1.8828
1.8836
1.9210
1.9478
1.9268
12/09 1.9451
1.9459
1.9362
1.9575
1.9853
2.0271
2.0173
1.9978
1.9392
1.9587
1.9312
1.9043
1.9051
1.9287
1.9167
1.8517
1.8247
1.8521
1.8297
1.8188
1.7947
1.7823
1.8443
1.8699
1.9136
1.8606
1.7643
1.7354
1.8143
1.8180
1.8261
1.8237
1.8245
1.8227
1.8727
1.9154
1.8426
1.8358
1.7903
1.7804
1.7181
2/10 1.7154
1.6965
1.7146
1.7231
1.7398
1.7752
1.7964
1.7917
1.7949
1.8166
1.8490
1.8416
1.8359
1.8639
1.8303
1.7632
1.7576
1.7512
1.7914
1.7768
1.7731
1.7630
1.7561
1.7889
1.8132
1.8260
1.8421
1.8627
1.8891
1.8916
1.8900
1.8960
1.8730
1.8789
1.8961
1.8595
1.8438
1.8772
1.8714
1.8513
1.8756
1.8791
1.9555
2.0079
2.0581
4/10 2.0202
2.0220
1.9706
1.9097
1.8091
1.7676
1.8701
1.8816
1.9504
1.9234
1.8593
1.8224
1.7761
1.7363
1.5943
1.6010
1.5968
1.5736
1.6390
1.7089
1.7021
1.7019
1.6653
1.7192
1.7648
1.6757
1.6226
1.6236
1.6199
1.6753
1.6563
1.6659
1.6701
1.6724
1.6738
1.6707
1.6937
1.6561
1.6386
1.6059
1.5976
1.5502
1.5100
6/10 1.5196
1.4809
1.4701
1.4732
1.3966
1.3870
1.4233
1.4558
1.4688
1.5023
1.4642
1.4303
1.3426
1.3128
1.3190
1.3183
1.3414
1.3708
1.3837
1.4173
1.4057
1.3947
1.3830
1.4558
1.4607
1.4548
1.4539
1.4193
1.4259
1.4345
1.3880
1.3255
1.2911
1.2340
1.2371
1.2301
1.1962
1.2017
1.1711
1.1340
1.1837
1.1932
1.2358
1.2016
8/10 1.1643
1.1672
1.1735
1.2123
1.2119
1.1809
1.1979
1.2553
1.3153
1.3314
1.2596
1.2525
1.2522
1.1999
1.1995
1.2394
1.2796
1.2454
1.2545
1.2438
1.2837
1.2598
1.2762
1.2987
1.3083
1.3616
1.4515
1.4575
1.4462
1.4760
1.4695
1.5594
1.6804
1.5665
1.4914
1.4808
1.4570
1.4942
1.5307
1.5713
1.5792
1.5328
1.4664
10/10 1.4206
1.4474
1.4368
1.4665
1.4619
1.5229
1.5469
1.5284
1.5439
1.5571
1.5046
1.5175
1.4190
1.4673
1.5022
1.5260
1.5173
1.4715
1.5182
1.5174
1.5095
1.5056
1.4420
1.5212
1.5388
1.5125
1.4931
1.5629
1.5831
1.5761
1.5734
1.5748
1.6320
1.6863
1.6911
1.6784
1.6817
1.7101
1.7508
1.7766
1.7839
1.7541
1.7606
1.7314
1.7355
12/10 1.7337
1.7372
1.7874
1.8665
1.8825
1.8650
1.8598
1.9328
1.9368
1.8805
1.8667
1.8920
1.9000
1.8850
1.8519
1.8615
1.8759
1.8668
1.8897
1.8304
1.8573
1.9123
1.9543
1.9573
1.9712
1.9962
1.9632
1.9825
1.9394
1.9230
1.9074
1.9148
1.9361
1.9443
1.9861
2.0640
2.0640
2.1068
2.2037
2.2141
2.1914
2/11 2.1575
2.1817
2.2254
2.2455
2.2230
2.2830
2.2987
2.2626
2.2061
2.1967
2.1826
2.1640
2.1406
2.2652
2.2742
2.3120
2.2385
2.2694
2.2796
2.2229
2.2088
2.2564
2.2279
2.2986
2.2942
2.3183
2.3823
2.3965
2.3756
2.4380
2.4465
2.3505
2.3419
2.3522
2.3065
2.2968
2.3344
2.3635
2.3191
2.3478
2.4133
2.4299
4/11 2.4702
Source: Bloomberg
------------------------------------------------------------
Inflation worriers also look at excess reserves held at the Fed as being the dry
tinder that will combust into an inflationary pyre. Under the money multiplier
theory, banks will sharply increase credit creation (and thus inflation) when it
puts those reserves out into the economy. Jan Hatzius of Goldman Sachs differs
on this point. "[M]ost bank loans have long been primarily funded from sources
other than deposits subject to minimum reserve requirements," he wrote. "This
means that bank lending was not constrained by the availability of reserves even
prior to the increase in excess reserves. Relieving a non-existent constraint
cannot be important for credit creation or inflation."
Another salve to inflationists is that wage growth has remained well behaved in
recent months, as the nearby graph illustrates:
------------------------------------------------------------
Inflation versus Wage Growth
Average Weekly Earnings CPI Headline
(rolling 12 month average) Inflation (yoy%)
Jan-66 4.0 1.9
Feb-66 4.0 2.6
Mar-66 4.0 2.8
Apr-66 3.9 2.9
May-66 3.9 2.8
Jun-66 3.8 2.4
Jul-66 3.8 2.8
Aug-66 3.8 3.5
Sep-66 3.8 3.6
Oct-66 3.8 3.8
Nov-66 3.7 3.6
Dec-66 3.6 3.4
Jan-67 3.5 3.2
Feb-67 3.4 2.9
Mar-67 3.3 2.5
Apr-67 3.1 2.5
May-67 3.0 2.3
Jun-67 2.9 2.8
Jul-67 2.9 2.9
Aug-67 2.8 2.6
Sep-67 2.7 2.6
Oct-67 2.7 2.6
Nov-67 2.7 3.1
Dec-67 2.7 3.3
Jan-68 2.7 3.6
Feb-68 2.9 3.6
Mar-68 3.1 3.9
Apr-68 3.3 3.9
May-68 3.6 4.2
Jun-68 3.9 4.2
Jul-68 4.2 4.5
Aug-68 4.4 4.5
Sep-68 4.6 4.5
Oct-68 4.8 4.7
Nov-68 5.0 4.4
Dec-68 5.2 4.7
Jan-69 5.4 4.7
Feb-69 5.6 4.7
Mar-69 5.7 5.2
Apr-69 5.8 5.5
May-69 5.9 5.5
Jun-69 5.8 5.5
Jul-69 5.8 5.4
Aug-69 5.9 5.4
Sep-69 5.9 5.7
Oct-69 5.9 5.7
Nov-69 6.0 5.9
Dec-69 6.0 5.9
Jan-70 6.0 6.2
Feb-70 5.9 6.4
Mar-70 5.9 6.1
Apr-70 5.7 6.1
May-70 5.5 6.0
Jun-70 5.4 6.0
Jul-70 5.3 5.7
Aug-70 5.2 5.7
Sep-70 5.0 5.7
Oct-70 4.9 5.6
Nov-70 4.7 5.6
Dec-70 4.5 5.6
Jan-71 4.4 5.3
Feb-71 4.4 4.7
Mar-71 4.3 4.4
Apr-71 4.3 4.2
May-71 4.5 4.4
Jun-71 4.6 4.4
Jul-71 4.7 4.4
Aug-71 4.8 4.4
Sep-71 5.0 4.1
Oct-71 5.2 3.8
Nov-71 5.4 3.5
Dec-71 5.7 3.3
Jan-72 6.0 3.3
Feb-72 6.3 3.8
Mar-72 6.6 3.5
Apr-72 6.9 3.5
May-72 7.0 3.2
Jun-72 7.2 3.0
Jul-72 7.3 3.0
Aug-72 7.4 2.9
Sep-72 7.6 3.2
Oct-72 7.7 3.2
Nov-72 7.9 3.4
Dec-72 7.9 3.4
Jan-73 7.8 3.6
Feb-73 7.6 3.9
Mar-73 7.4 4.8
Apr-73 7.2 5.3
May-73 7.0 5.5
Jun-73 6.9 6.0
Jul-73 6.8 5.7
Aug-73 6.7 7.4
Sep-73 6.6 7.4
Oct-73 6.4 8.1
Nov-73 6.3 8.3
Dec-73 6.1 8.9
Jan-74 5.9 9.6
Feb-74 5.9 10.0
Mar-74 5.8 10.1
Apr-74 5.8 10.1
May-74 5.8 10.7
Jun-74 5.8 10.9
Jul-74 5.8 11.5
Aug-74 5.8 10.9
Sep-74 5.8 11.9
Oct-74 5.9 11.8
Nov-74 5.9 12.2
Dec-74 6.0 12.1
Jan-75 6.1 11.8
Feb-75 6.1 11.2
Mar-75 6.1 10.5
Apr-75 6.2 10.2
May-75 6.2 9.3
Jun-75 6.1 9.2
Jul-75 5.9 9.5
Aug-75 5.9 8.6
Sep-75 5.7 7.9
Oct-75 5.6 7.6
Nov-75 5.5 7.4
Dec-75 5.5 7.1
Jan-76 5.5 6.7
Feb-76 5.6 6.3
Mar-76 5.7 6.1
Apr-76 5.9 5.8
May-76 6.0 6.2
Jun-76 6.2 6.0
Jul-76 6.5 5.6
Aug-76 6.7 5.7
Sep-76 6.8 5.5
Oct-76 7.0 5.5
Nov-76 7.1 5.1
Dec-76 7.2 5.0
Jan-77 7.1 5.2
Feb-77 7.1 6.1
Mar-77 7.0 6.4
Apr-77 7.0 7.0
May-77 7.0 6.7
Jun-77 7.0 6.7
Jul-77 7.0 6.7
Aug-77 6.9 6.6
Sep-77 6.9 6.4
Oct-77 6.9 6.4
Nov-77 7.0 6.7
Dec-77 7.0 6.7
Jan-78 7.0 6.8
Feb-78 7.0 6.2
Mar-78 7.1 6.4
Apr-78 7.1 6.5
May-78 7.1 7.1
Jun-78 7.1 7.4
Jul-78 7.1 7.7
Aug-78 7.2 7.9
Sep-78 7.3 8.5
Oct-78 7.4 8.9
Nov-78 7.4 8.9
Dec-78 7.5 9.0
Jan-79 7.7 9.3
Feb-79 7.8 9.8
Mar-79 8.0 10.3
Apr-79 7.9 10.5
May-79 7.9 10.7
Jun-79 7.9 11.1
Jul-79 7.8 11.5
Aug-79 7.8 11.8
Sep-79 7.7 11.9
Oct-79 7.6 12.1
Nov-79 7.6 12.6
Dec-79 7.5 13.3
Jan-80 7.4 13.9
Feb-80 7.1 14.2
Mar-80 6.9 14.6
Apr-80 6.9 14.6
May-80 6.9 14.4
Jun-80 6.8 14.3
Jul-80 6.7 13.2
Aug-80 6.7 12.9
Sep-80 6.6 12.8
Oct-80 6.6 12.6
Nov-80 6.7 12.6
Dec-80 6.7 12.4
Jan-81 6.9 11.8
Feb-81 7.1 11.4
Mar-81 7.3 10.6
Apr-81 7.5 10.1
May-81 7.7 9.8
Jun-81 7.9 9.7
Jul-81 8.2 10.8
Aug-81 8.5 10.8
Sep-81 8.6 11.0
Oct-81 8.7 10.3
Nov-81 8.7 9.6
Dec-81 8.6 8.9
Jan-82 8.2 8.3
Feb-82 8.0 7.6
Mar-82 7.8 6.9
Apr-82 7.4 6.6
May-82 7.1 6.9
Jun-82 6.7 7.2
Jul-82 6.3 6.6
Aug-82 5.9 6.0
Sep-82 5.5 4.9
Oct-82 5.1 5.0
Nov-82 4.7 4.5
Dec-82 4.5 3.8
Jan-83 4.6 3.7
Feb-83 4.5 3.5
Mar-83 4.3 3.6
Apr-83 4.3 4.0
May-83 4.3 3.4
Jun-83 4.3 2.5
Jul-83 4.3 2.4
Aug-83 4.2 2.5
Sep-83 4.3 2.8
Oct-83 4.4 2.8
Nov-83 4.6 3.2
Dec-83 4.7 3.8
Jan-84 4.8 4.3
Feb-84 4.7 4.7
Mar-84 4.9 4.9
Apr-84 5.0 4.6
May-84 4.9 4.3
Jun-84 4.9 4.3
Jul-84 4.8 4.3
Aug-84 4.8 4.3
Sep-84 4.8 4.3
Oct-84 4.6 4.3
Nov-84 4.4 4.2
Dec-84 4.2 4.0
Jan-85 3.9 3.5
Feb-85 3.7 3.6
Mar-85 3.5 3.8
Apr-85 3.2 3.6
May-85 3.0 3.6
Jun-85 2.9 3.7
Jul-85 2.7 3.5
Aug-85 2.6 3.4
Sep-85 2.4 3.2
Oct-85 2.3 3.2
Nov-85 2.3 3.5
Dec-85 2.3 3.8
Jan-86 2.3 4.0
Feb-86 2.3 3.2
Mar-86 2.4 2.2
Apr-86 2.3 1.6
May-86 2.3 1.7
Jun-86 2.2 1.8
Jul-86 2.1 1.7
Aug-86 2.1 1.6
Sep-86 2.0 1.8
Oct-86 2.0 1.6
Nov-86 1.9 1.3
Dec-86 1.8 1.2
Jan-87 1.7 1.4
Feb-87 1.6 1.9
Mar-87 1.6 2.8
Apr-87 1.5 3.7
May-87 1.6 3.7
Jun-87 1.6 3.7
Jul-87 1.7 3.9
Aug-87 1.8 4.3
Sep-87 2.0 4.3
Oct-87 2.1 4.4
Nov-87 2.3 4.5
Dec-87 2.4 4.3
Jan-88 2.5 4.1
Feb-88 2.6 3.9
Mar-88 2.6 3.8
Apr-88 2.7 4.0
May-88 2.7 4.0
Jun-88 2.8 4.0
Jul-88 2.9 4.1
Aug-88 2.9 4.1
Sep-88 2.8 4.2
Oct-88 2.8 4.3
Nov-88 2.8 4.2
Dec-88 2.8 4.4
Jan-89 2.9 4.5
Feb-89 2.9 4.6
Mar-89 3.1 4.9
Apr-89 3.3 5.0
May-89 3.3 5.3
Jun-89 3.3 5.2
Jul-89 3.3 5.1
Aug-89 3.3 4.6
Sep-89 3.5 4.4
Oct-89 3.5 4.6
Nov-89 3.5 4.7
Dec-89 3.6 4.6
Jan-90 3.5 5.2
Feb-90 3.5 5.3
Mar-90 3.5 5.2
Apr-90 3.4 4.7
May-90 3.4 4.4
Jun-90 3.5 4.7
Jul-90 3.5 4.8
Aug-90 3.5 5.7
Sep-90 3.5 6.2
Oct-90 3.4 6.4
Nov-90 3.4 6.2
Dec-90 3.4 6.3
Jan-91 3.4 5.6
Feb-91 3.3 5.3
Mar-91 3.2 4.8
Apr-91 3.1 4.8
May-91 3.0 5.0
Jun-91 2.9 4.7
Jul-91 2.7 4.4
Aug-91 2.7 3.8
Sep-91 2.6 3.4
Oct-91 2.6 2.8
Nov-91 2.6 3.1
Dec-91 2.6 3.0
Jan-92 2.5 2.7
Feb-92 2.5 2.8
Mar-92 2.6 3.2
Apr-92 2.7 3.2
May-92 2.7 3.0
Jun-92 2.8 3.0
Jul-92 2.8 3.2
Aug-92 2.8 3.1
Sep-92 2.8 3.0
Oct-92 2.8 3.3
Nov-92 2.8 3.1
Dec-92 2.8 3.0
Jan-93 2.8 3.3
Feb-93 2.9 3.2
Mar-93 2.9 3.0
Apr-93 2.9 3.2
May-93 2.8 3.2
Jun-93 2.8 3.0
Jul-93 2.9 2.8
Aug-93 2.9 2.8
Sep-93 2.9 2.8
Oct-93 2.9 2.8
Nov-93 2.9 2.7
Dec-93 3.0 2.8
Jan-94 3.0 2.5
Feb-94 2.9 2.5
Mar-94 2.9 2.7
Apr-94 3.0 2.4
May-94 3.0 2.3
Jun-94 3.0 2.5
Jul-94 3.0 2.7
Aug-94 3.0 2.9
Sep-94 3.0 3.0
Oct-94 3.0 2.6
Nov-94 3.0 2.6
Dec-94 3.0 2.6
Jan-95 3.0 2.9
Feb-95 3.0 2.9
Mar-95 3.0 2.8
Apr-95 2.9 3.1
May-95 2.8 3.1
Jun-95 2.7 3.0
Jul-95 2.6 2.8
Aug-95 2.6 2.6
Sep-95 2.5 2.5
Oct-95 2.5 2.7
Nov-95 2.4 2.6
Dec-95 2.4 2.5
Jan-96 2.2 2.8
Feb-96 2.2 2.7
Mar-96 2.2 2.8
Apr-96 2.2 2.8
May-96 2.3 2.8
Jun-96 2.5 2.8
Jul-96 2.6 2.9
Aug-96 2.7 2.8
Sep-96 2.8 3.0
Oct-96 2.9 3.1
Nov-96 3.1 3.3
Dec-96 3.2 3.4
Jan-97 3.5 3.0
Feb-97 3.7 3.0
Mar-97 3.9 2.8
Apr-97 4.0 2.4
May-97 4.2 2.2
Jun-97 4.1 2.2
Jul-97 4.2 2.2
Aug-97 4.3 2.3
Sep-97 4.3 2.2
Oct-97 4.4 2.1
Nov-97 4.5 1.9
Dec-97 4.5 1.7
Jan-98 4.6 1.6
Feb-98 4.5 1.4
Mar-98 4.5 1.4
Apr-98 4.4 1.4
May-98 4.4 1.7
Jun-98 4.3 1.6
Jul-98 4.4 1.7
Aug-98 4.4 1.6
Sep-98 4.3 1.4
Oct-98 4.2 1.5
Nov-98 4.1 1.5
Dec-98 4.0 1.6
Jan-99 3.9 1.7
Feb-99 3.8 1.7
Mar-99 3.6 1.7
Apr-99 3.6 2.3
May-99 3.5 2.1
Jun-99 3.5 2.0
Jul-99 3.4 2.1
Aug-99 3.4 2.3
Sep-99 3.4 2.6
Oct-99 3.4 2.6
Nov-99 3.3 2.6
Dec-99 3.4 2.7
Jan-00 3.4 2.8
Feb-00 3.4 3.2
Mar-00 3.5 3.8
Apr-00 3.6 3.0
May-00 3.6 3.1
Jun-00 3.6 3.7
Jul-00 3.6 3.6
Aug-00 3.5 3.4
Sep-00 3.5 3.5
Oct-00 3.5 3.5
Nov-00 3.5 3.4
Dec-00 3.5 3.4
Jan-01 3.5 3.7
Feb-01 3.5 3.5
Mar-01 3.4 3.0
Apr-01 3.3 3.2
May-01 3.3 3.6
Jun-01 3.3 3.2
Jul-01 3.2 2.7
Aug-01 3.2 2.7
Sep-01 3.1 2.6
Oct-01 3.0 2.1
Nov-01 2.9 1.9
Dec-01 2.8 1.6
Jan-02 2.8 1.2
Feb-02 2.7 1.1
Mar-02 2.6 1.4
Apr-02 2.5 1.6
May-02 2.5 1.2
Jun-02 2.4 1.1
Jul-02 2.4 1.5
Aug-02 2.4 1.7
Sep-02 2.4 1.5
Oct-02 2.5 2.0
Nov-02 2.6 2.3
Dec-02 2.6 2.5
Jan-03 2.6 2.8
Feb-03 2.7 3.1
Mar-03 2.7 3.0
Apr-03 2.7 2.2
May-03 2.7 1.9
Jun-03 2.7 1.9
Jul-03 2.7 2.1
Aug-03 2.7 2.2
Sep-03 2.6 2.4
Oct-03 2.4 2.0
Nov-03 2.3 1.9
Dec-03 2.2 2.0
Jan-04 2.1 2.0
Feb-04 2.0 1.7
Mar-04 1.9 1.7
Apr-04 1.9 2.3
May-04 1.9 2.9
Jun-04 1.9 3.2
Jul-04 1.9 2.9
Aug-04 1.9 2.5
Sep-04 1.9 2.5
Oct-04 2.0 3.2
Nov-04 2.1 3.6
Dec-04 2.2 3.3
Jan-05 2.3 2.8
Feb-05 2.4 3.1
Mar-05 2.4 3.2
Apr-05 2.5 3.4
May-05 2.5 2.9
Jun-05 2.6 2.5
Jul-05 2.6 3.1
Aug-05 2.7 3.6
Sep-05 2.7 4.7
Oct-05 2.8 4.4
Nov-05 2.8 3.3
Dec-05 2.9 3.3
Jan-06 2.9 4.0
Feb-06 3.0 3.6
Mar-06 3.1 3.4
Apr-06 3.2 3.6
May-06 3.3 4.0
Jun-06 3.5 4.2
Jul-06 3.6 4.1
Aug-06 3.8 3.9
Sep-06 3.9 2.0
Oct-06 4.0 1.4
Nov-06 4.0 2.0
Dec-06 4.1 2.5
Jan-07 4.2 2.0
Feb-07 4.2 2.4
Mar-07 4.3 2.8
Apr-07 4.3 2.6
May-07 4.3 2.7
Jun-07 4.3 2.7
Jul-07 4.2 2.3
Aug-07 4.2 1.9
Sep-07 4.1 2.8
Oct-07 4.1 3.6
Nov-07 4.0 4.4
Dec-07 4.0 4.1
Jan-08 3.9 4.3
Feb-08 3.9 4.1
Mar-08 3.8 4.0
Apr-08 3.8 3.9
May-08 3.7 4.1
Jun-08 3.6 4.9
Jul-08 3.5 5.5
Aug-08 3.5 5.3
Sep-08 3.5 5.0
Oct-08 3.4 3.7
Nov-08 3.3 1.0
Dec-08 3.2 0.0
Jan-09 3.1 -0.1
Feb-09 3.0 0.1
Mar-09 2.8 -0.4
Apr-09 2.7 -0.6
May-09 2.5 -1.0
Jun-09 2.3 -1.2
Jul-09 2.2 -2.0
Aug-09 2.0 -1.5
Sep-09 1.8 -1.3
Oct-09 1.6 -0.2
Nov-09 1.6 1.9
Dec-09 1.5 2.8
Jan-10 1.6 2.6
Feb-10 1.5 2.2
Mar-10 1.6 2.4
Apr-10 1.7 2.3
May-10 1.9 2.0
Jun-10 2.1 1.1
Jul-10 2.3 1.3
Aug-10 2.5 1.2
Sep-10 2.7 1.1
Oct-10 3.0 1.2
Nov-10 3.1 1.1
Dec-10 3.2 1.4
Jan-11 3.2 1.7
Feb-11 3.3 2.2
Mar-11 3.3 2.7
Apr-11 3.3 3.1
Source: BLS, Haver Analytics
------------------------------------------------------------
Weekly earnings growth has stayed relatively well anchored in recent months.
While this is not a positive outcome for American households, a breakout in
inflation while wage growth is so low would be a truly unique event in our short
economic history. Nevertheless, we are staying tuned to measures of inflation
expectations.
FUND PERFORMANCE
For the six-month period ended April 30, 2011, the Fund had a total net asset
value ("NAV") return(2) of 6.19% and a market value return of 6.11%.(2) As of
April 30, 2011, the Fund traded at $20.78, a 5.59% premium to its NAV. The
Fund's benchmark, the Barclays Capital U.S. MBS: Agency Fixed Rate MBS Index
("Index" or "Benchmark"), had a return of 0.94% over the same period.
---------------
(1) The Fund's Managed Assets are the average daily total asset value of the
Fund minus the sum of the Fund's liabilities other than the principal
amount of borrowings or reverse repurchase agreements, if any.
(2) Total return is based on the combination of reinvested dividend, capital
gain and return of capital distributions, if any, at prices obtained by
the Dividend Reinvestment Plan and changes in NAV per share for net asset
value returns and changes in Common share price for market value returns.
Total return does not reflect sales load and is not annualized for periods
less than one year. Past performance is not indicative of future results.
Page 5
--------------------------------------------------------------------------------
PORTFOLIO COMMENTARY - (Continued)
--------------------------------------------------------------------------------
For the six-month period ended April 30, 2011, the Fund paid $1.07 in dividends
and the Fund's NAV rose by 0.46% to $19.68 from $19.59. The Fund's
outperformance relative to its benchmark, the Index, was the result of higher
prices on the Interest Only ("IO") securities, along with strong income on the
Non-Agency securities within the Fund. A more optimistic view of the economy
caused a sell-off across the Treasury curve during the period resulting in an
increase to the 30-year conventional mortgage rate. IOs exhibit negative
duration and will increase in price when interest rates are rising as the
expectations for mortgage prepayments decrease. Therefore, the Fund's NAV
increased more than would have been expected from a portfolio holding only
Agency fixed-rate mortgage-backed securities, such as is represented by the
Fund's benchmark.
Also noteworthy during the period was the Fund's income return of 5.55%, which
exceeded its benchmark's income return of 1.51% by 404 basis points. This
outperformance can be attributed to the better-than-expected contribution to
income from the Fund's non-agency bonds, as losses have not occurred at the pace
we had originally anticipated.
MARKET AND FUND OUTLOOK (WRITTEN BY BROOKFIELD)
New issuance has been minimal for residential mortgage-backed securities
("RMBS") in 2011, although $8 billion of commercial mortgage-backed securities
("CMBS") were issued in the first quarter of the year. Interestingly, one source
of buying demand has been insurance companies. Many insurance companies are now
increasing exposure to RMBS and CMBS due to their yields. The regulatory body
for insurance companies has issued new risk-based capital charges for RMBS and
CMBS that take into account the low probability of large losses for senior
securities as well as their discount price. This results in a dramatically lower
capital charge than a pure ratings-based approach would require. This has caused
RMBS and CMBS to become much more attractive from a return on capital
perspective, in particular for securities backed by commercial loans and prime
loans, and to a lesser degree, option-arm and alt-a loans.
At today's prices, we also view RMBS and CMBS as attractive for closed-end
funds. Closed-end funds can now improve return potential through repurchase
loans and other borrowings. With leverage available through insurance company
balance sheets and to money managers through repurchase loans, we see room for
prices to increase as required yields go down.
On the policy front, an official draft of the new risk retention rules was
released in March 2011, the first of a number of proposed rules that will remake
the mortgage landscape. Going forward, most new loans will be subject to risk
retention if the law is enacted in its current form. The new rules also prohibit
sellers from transferring loans to securitizations at a premium. Importantly, we
see a great opportunity for investors that are natural holders of risk, such as
closed-end funds, to participate in the future of securitization and the
mortgage market in general, because they are well suited to serve as the
required risk retention entity where banks, the target of this legislation, fair
poorly.
Prime borrowers appear strongly correlated to the economy and specifically
employment in this cycle; therefore, prime loan performance should benefit from
improving employment. We view long-term default assumptions as too conservative
and argue against projecting current default levels out over many years, if not
decades. Prime borrowers, like their agency-eligible peers, are prepaying much
more slowly than today's low interest rates would imply. Prepayment speeds are
especially slow for Hybrid ARM loans and we see upside for securities backed by
these loans if and when speeds finally pick up. These securities also have
reduced interest rate exposure compared to those backed by traditional
fixed-rate loans.
For non-prime or sub-prime borrowers, the prepayment speeds are effectively
zero. These borrowers have almost no ability to refinance. Most investors in the
marketplace seem to assume that prepayments will be zero forever. We feel there
is a lot of upside to that assumption, especially if servicers forgive loan
principal for delinquent borrowers. We also believe that the worst of the loans
are already in the default pipeline and loans that are not currently delinquent
should perform better.
As 2011 progresses, we have a positive outlook for mortgage-backed securities.
Investor appetite continues to increase and we will continue to take advantage
of that in security selection. In addition, we are placing emphasis on
securities where we see an undervalued option on a continued economic recovery.
FUND REPOSITIONING
Brookfield has had an opportunity to review the Fund in detail and assess the
state of the portfolio in context of its objective and performance prospects
going forward. The portfolio has been well positioned in the market over the
last two years.
In particular, allocations to IO and inverse floating-rate securities have
performed well for shareholders and a well-timed move into non-Agencies
significantly boosted yields in the portfolio. For the most part, we believe the
portfolio is well positioned to meet its objectives going forward; however, we
do see opportunities to improve returns along a few avenues.
Some of the non-Agency bonds have run up enough that future return prospects are
diminished. We think certain bonds can be sold with gains and the additional
proceeds reinvested in bonds with more upside to improve NAV returns and income.
In many cases, these bonds have been downgraded below the ratings allowed for
such a bond to be repurchased. In order to maintain the Fund's allocation to
Page 6
--------------------------------------------------------------------------------
PORTFOLIO COMMENTARY - (Continued)
--------------------------------------------------------------------------------
non-Agency bonds, FMY's board has approved a 25% allocation to assets that have
been downgraded below an A rating threshold that we will begin utilizing on or
about July 5, 2011. In addition to adjusting the Fund's non-Agency allocation,
we may also look at including other credit-oriented asset classes which meet our
requirements for attractive returns and appropriate levels of risk.
On the Agency front, we see an opportunity to make some selected substitutions
to improve returns and reduce prepayment uncertainty. Going forward, we may seek
to reduce interest rate risk associated with such prepayment variability and
instead emphasize credit, curve or market technicals to boost returns.
Currently, the leverage of the Fund is relatively low at 12.77% (as of April 30,
2011), given that the Fund may utilize leverage in an amount up to 33.33% of
Managed Assets. Where our overall budget for risk warrants it and when the
return opportunities are compelling, we are likely to increase leverage in an
attempt to improve returns. In periods of stability this may be an especially
important tool.
Page 7
FIRST TRUST MORTGAGE INCOME FUND
PORTFOLIO OF INVESTMENTS (a)
APRIL 30, 2011 (UNAUDITED)
PRINCIPAL STATED STATED
VALUE DESCRIPTION COUPON MATURITY VALUE
---------------- ------------------------------------------------------- ------ -------- --------------
MORTGAGE-BACKED SECURITIES - 42.7%
COLLATERALIZED MORTGAGE OBLIGATIONS - 42.7%
Adjustable Rate Mortgage Trust
$ 520,465 Series 2004-5, Class 1A1 (b)........................ 2.94% 04/25/35 $ 483,265
Banc of America Funding Corp.
1,071,470 Series 2005-F, Class 4A1 (b)........................ 3.14% 09/20/35 871,512
Banc of America Mortgage Securities
111,935 Series 2002-L, Class 1A1 (b) ....................... 2.78% 12/25/32 82,043
164,549 Series 2004-K, Class 4A1 (b) ....................... 5.24% 12/25/34 153,535
3,238,958 Series 2007-3, Class 2A3 ........................... 7.00% 09/25/37 599,870
Bear Stearns Adjustable Rate Mortgage Trust
1,069,025 Series 2004-10, Class 12A3 (b) ..................... 2.94% 01/25/35 958,729
1,226,829 Series 2004-9, Class 12A3 (b) ...................... 3.16% 11/25/34 1,051,867
Chase Mortgage Finance Corp.
795,035 Series 2007-A3, Class 3A1 (b) ...................... 5.92% 12/25/37 717,364
Countrywide Alternative Loan Trust
473,704 Series 2004-14T2, Class A6 ......................... 5.50% 08/25/34 478,695
126,368 Series 2004-1T1, Class A1 .......................... 5.00% 02/25/34 126,211
1,509,825 Series 2005-J1, Class 2A1 .......................... 5.50% 02/25/25 1,470,193
Countrywide Home Loans
361,951 Series 2004-HYB1, Class 2A (b) ..................... 2.88% 05/20/34 320,790
226,940 Series 2005-20, Class A7 ........................... 5.25% 12/25/27 203,653
1,368,975 Series 2005-J4, Class A4 ........................... 5.50% 11/25/35 1,309,452
Credit Suisse First Boston Mortgage Securities Corp.
2,472,197 Series 2004-AR2, Class 1A1 (b) ..................... 2.71% 03/25/34 2,012,276
First Horizon Mortgage Trust
1,601,030 Series 2005-8, Class 1A5............................ 5.75% 02/25/36 1,606,050
GMAC Mortgage Corporation Loan Trust
388,185 Series 2004-AR1, Class 22A (b) ..................... 2.96% 06/25/34 340,761
GSR Mortgage Loan Trust
328,649 Series 2005-AR2, Class 5A1 (b) ..................... 2.87% 04/25/35 291,896
3,213,093 Series 2007-1F, Class 3A10, IO ..................... 6.00% 01/25/37 291,964
Harborview Mortgage Loan Trust
317,021 Series 2004-1, Class 2A (b) ........................ 2.73% 04/19/34 310,284
1,267,940 Series 2004-6, Class 3A1 (b) ....................... 2.92% 08/19/34 1,004,775
JP Morgan Mortgage Trust
2,840,114 Series 2005-ALT1, Class 4A1 (b) .................... 5.43% 10/25/35 2,380,819
JP Morgan Re-REMIC
3,105,104 Series 2009-7, Class 12A1 (b) (c) .................. 6.25% 01/27/37 3,177,137
MASTR Alternative Loan Trust
675,386 Series 2004-8, Class 5A1 ........................... 6.00% 09/25/34 698,396
Merrill Lynch Mortgage Investors Trust
1,637,230 Series 2005-A7, Class 2A1 (b) ...................... 5.29% 09/25/35 1,479,899
Morgan Stanley Mortgage Loan Trust
267,218 Series 2004-7AR, Class 2A6 (b) ..................... 2.59% 09/25/34 250,113
Provident Funding Mortgage Loan Trust
515,440 Series 2005-1, Class 1A1 (b) ....................... 2.66% 05/25/35 444,922
Residential Accredit Loans, Inc.
127,284 Series 2002-QS18, Class A1.......................... 5.50% 12/25/17 130,428
Page 8 See Notes to Financial Statements
FIRST TRUST MORTGAGE INCOME FUND
PORTFOLIO OF INVESTMENTS (a) - (CONTINUED)
APRIL 30, 2011 (UNAUDITED)
PRINCIPAL STATED STATED
VALUE DESCRIPTION COUPON MATURITY VALUE
---------------- ------------------------------------------------------- ------ -------- --------------
MORTGAGE-BACKED SECURITIES - (CONTINUED)
COLLATERALIZED MORTGAGE OBLIGATIONS - (CONTINUED)
Residential Accredit Loans, Inc. (Continued)
$ 1,230,967 Series 2004-QS2, Class CB........................... 5.75% 02/25/34 $ 1,246,865
Residential Funding Mortgage Securities I
541,942 Series 2005-S5, Class A5 ........................... 5.25% 07/25/35 524,633
Sequoia Mortgage Trust
3,193,090 Series 2007-1, Class 2A1 (b) ....................... 5.00% 02/20/47 2,725,390
Wachovia Mortgage Loan Trust, LLC
1,194,549 Series 2006-A, Class 3A1 (b) ....................... 4.99% 05/20/36 1,163,625
Washington Mutual Msc Mortgage Pass-Through
821,679 Series 2004-RA1, Class 2A .......................... 7.00% 03/25/34 857,374
Wells Fargo Mortgage Backed Securities Trust
726,020 Series 2005-AR16, Class 1A1 (b) .................... 2.83% 10/25/35 720,435
42,143 Series 2006-16, Class A18 .......................... 5.00% 11/25/36 42,043
262,283 Series 2006-9, Class 1A32 .......................... 6.00% 08/25/36 261,610
330,926 Series 2006-AR10, Class 5A2 (b) .................... 4.78% 07/25/36 275,694
1,911,806 Series 2007-16, Class 1A1 .......................... 6.00% 12/28/37 2,008,491
1,047,865 Series 2007-8, Class 2A7 ........................... 6.00% 07/25/37 1,040,056
--------------
TOTAL MORTGAGE-BACKED SECURITIES 34,113,115
(Cost $31,683,974) --------------
U.S. GOVERNMENT AGENCY MORTGAGE-BACKED SECURITIES - 67.4%
COLLATERALIZED MORTGAGE OBLIGATIONS - 32.1%
Federal Home Loan Mortgage Corp.
1,514,826 Series 2641, Class SC (d) .......................... 13.46% 07/15/33 1,562,641
95,067 Series 2676, Class IK, IO .......................... 5.00% 02/15/20 19
153,398 Series 2737, Class IG, IO .......................... 5.00% 08/15/27 240
7,141,343 Series 2807, Class SB, IO (d) ...................... 7.23% 11/15/33 1,106,693
1,093,514 Series 2870, Class JI, IO .......................... 5.00% 10/15/27 6,808
175,925 Series 2888, Class OI, IO .......................... 5.00% 01/15/27 1,115
904,000 Series 2921, Class IQ, IO .......................... 5.00% 01/15/29 12,295
395,752 Series 2938, Class PI, IO .......................... 5.00% 11/15/28 6,782
600,842 Series 3000, Class SU (d) .......................... 22.48% 04/15/35 652,221
685,705 Series 3069, Class LI, IO .......................... 5.50% 08/15/32 59,056
33,916 Series 3171, Class CS (d) .......................... 37.99% 06/15/36 35,429
294,045 Series 3195, Class SX (d) .......................... 44.73% 07/15/36 409,816
2,844,867 Series 3562, Class KI, IO .......................... 4.50% 11/15/22 244,840
68,873 Series 3569, Class SN (d) .......................... 13.45% 08/15/39 70,318
2,635,046 Series 3593, Class IP, IO .......................... 5.00% 06/15/36 258,842
10,850,572 Series 3619, Class EI, IO .......................... 4.50% 05/15/24 1,416,142
2,707,587 Series 3702, Class SK (d) .......................... 14.04% 08/15/40 2,698,021
13,186,228 Series 3726, Class KI, IO .......................... 3.50% 04/15/25 1,730,608
Federal Home Loan Mortgage Corp., STRIP
10,341,738 Series 227, Class IO, IO ........................... 5.00% 12/01/34 2,319,792
5,082,507 Series 232, Class IO, IO ........................... 5.00% 08/01/35 1,127,795
Federal National Mortgage Association
2,254,833 Series 2005-122, Class SN (d) ...................... 27.75% 01/25/36 2,731,482
326,912 Series 2005-39, Class BI, IO ....................... 5.00% 06/25/28 5,968
347,224 Series 2005-91, Class SH (d) ....................... 23.05% 05/25/33 411,179
See Notes to Financial Statements Page 9
FIRST TRUST MORTGAGE INCOME FUND
PORTFOLIO OF INVESTMENTS (a) - (CONTINUED)
APRIL 30, 2011 (UNAUDITED)
PRINCIPAL STATED STATED
VALUE DESCRIPTION COUPON MATURITY VALUE
---------------- ------------------------------------------------------- ------ -------- --------------
U.S. GOVERNMENT AGENCY MORTGAGE-BACKED SECURITIES - (CONTINUED)
COLLATERALIZED MORTGAGE OBLIGATIONS - (CONTINUED)
Federal Home Loan Mortgage Corp. - (Continued)
$ 3,745,755 Series 2008-50, Class AI, IO ....................... 5.50% 06/25/23 $ 279,064
1,817,172 Series 2009-111, Class SB (d) ...................... 7.66% 04/25/35 1,829,373
5,436,116 Series 2009-56, Class PI, IO ....................... 5.00% 11/25/30 111,768
6,504,666 Series 2010-103, Class ID, IO ...................... 5.00% 09/25/40 1,344,429
9,672,858 Series 2010-139, Class KI, IO ...................... 1.09% 12/25/40 490,763
4,198,457 Series 2010-145, Class TI, IO ...................... 3.50% 12/25/20 428,678
14,278,591 Series 2010-40, Class MI, IO ....................... 4.50% 08/25/24 1,560,600
Federal National Mortgage Association, STRIP
5,472,103 Series 360, Class 2, IO ............................ 5.00% 08/01/35 1,226,196
Government National Mortgage Association
3,343,296 Series 2009-65, Class NJ, IO ....................... 5.50% 07/20/39 434,316
5,474,782 Series 2010-115, Class IQ, IO ...................... 4.50% 11/20/38 1,081,789
--------------
25,655,078
--------------
PASS-THROUGH SECURITIES - 35.3%
Federal Home Loan Mortgage Corp.
2,731,617 Pool A94738......................................... 4.50% 11/01/40 2,811,049
1,495,160 Pool K36017......................................... 5.00% 09/01/47 1,566,317
Federal National Mortgage Association
3,607,368 Pool 256182 ........................................ 6.00% 03/01/36 3,924,178
3,488,967 Pool 256328 (e) .................................... 6.50% 07/01/36 3,895,688
4,118,859 Pool 831145 (e) .................................... 6.00% 12/01/35 4,531,433
4,464,197 Pool 843971 (e) .................................... 6.00% 11/01/35 4,928,103
1,951,521 Pool 872303 ........................................ 6.00% 05/01/36 2,140,900
4,087,831 Pool 880203 ........................................ 6.00% 02/01/36 4,444,283
--------------
28,241,951
--------------
TOTAL U.S. GOVERNMENT AGENCY MORTGAGE-BACKED SECURITIES ................. 53,897,029
(Cost $49,552,791) --------------
TOTAL INVESTMENTS - 110.1%............................................... 88,010,144
(Cost $81,236,765) (f)
PRINCIPAL
VALUE DESCRIPTION VALUE
---------------- ------------------------------------------------------------------------- --------------
REVERSE REPURCHASE AGREEMENTS - (14.6%)
$ (11,705,000) With UBS Securities 0.27% dated 04/05/11, to be repurchased at
$11,708,687 on 05/16/11 (11,705,000)
NET OTHER ASSETS AND LIABILITIES - 4.5% 3,645,266
--------------
NET ASSETS - 100.0% $ 79,950,410
==============
Page 10 See Notes to Financial Statements
FIRST TRUST MORTGAGE INCOME FUND
PORTFOLIO OF INVESTMENTS (A) - (CONTINUED)
APRIL 30, 2011 (UNAUDITED)
--------
(a) All percentages shown in the Portfolio of Investments are based on net
assets.
(b) Floating rate security. The interest rate shown reflects the rate in
effect at April 30, 2011.
(c) The Fund may invest in restricted securities. This security is restricted
and cannot be offered for public sale without first being registered under
the Securities Act of 1933, as amended. Prior to registration, restricted
securities may only be resold in transactions exempt from registration.
The Fund does not have the right to demand that this security be
registered. This security is valued according to the valuation procedures
as stated in the Portfolio Valuation footnote (Note 2A in the Notes to
Financial Statements) and is not expressed as a discount to the carrying
value of a comparable unrestricted security. This security was acquired on
September 9, 2009, has a current carrying cost of $2,979,888, a carrying
value per share of $1.02 and represents 3.97% of net assets.
(d) Inverse floating rate instrument. The interest rate shown reflects the
rate in effect at April 30, 2011.
(e) This security or a portion of this security is segregated as collateral
for reverse repurchase agreements.
(f) Aggregate cost for financial reporting purposes, which approximates the
aggregate cost for federal income tax purposes. As of April 30, 2011, the
aggregate gross unrealized appreciation for all securities in which there
was an excess of value over tax cost was $9,748,757 and the aggregate
gross unrealized depreciation for all securities in which there was an
excess of tax cost over value was $2,975,378.
IO Interest-Only Security -- Principal amount shown represents par value on
which interest payments are based.
STRIP Separate Trading of Registered Interest and Principal of Securities
--------
VALUATION INPUTS
A summary of the inputs used to value the Fund's investments as of April 30,
2011 is as follows (see Note 2A - Portfolio Valuation in the Notes to Financial
Statements):
LEVEL 2 LEVEL 3
TOTAL LEVEL 1 SIGNIFICANT SIGNIFICANT
VALUE AT QUOTED OBSERVABLE UNOBSERVABLE
4/30/2011 PRICES INPUTS INPUTS
------------- ------------- ------------- -------------
Mortgage-Backed Securities............. $ 34,113,115 $ -- $ 34,113,115 $ --
U.S. Government Agency Mortgage-Backed
Securities........................... 53,897,029 -- 53,897,029 --
------------- ------------- ------------- -------------
TOTAL INVESTMENTS ..................... $ 88,010,144 $ -- $ 88,010,144 $ --
============= ============= ============= =============
The following table presents the activity of the Fund's investments measured at
fair value on a recurring basis using significant unobservable inputs (Level 3)
for the period presented.
INVESTMENTS AT FAIR CHANGE IN NET
VALUE USING SIGNIFICANT UNREALIZED NET
UNOBSERVABLE INPUTS BALANCE AS OF TRANSFERS IN NET REALIZED APPRECIATION PURCHASES BALANCE AS OF
(LEVEL 3) OCTOBER 31, 2010 (OUT) OF LEVEL 3 GAINS (LOSSES) (DEPRECIATION) (SALES) APRIL 30, 2011
---------------- ---------------- -------------- -------------- -------------- --------------
Mortgage-Backed
Securities $ 3,747,608 $ (3,177,137) $ 23,800 $ (79,890) $ (514,381) $ --
============ ============ ============ ============ ============ ============
See Notes to Financial Statements Page 11
FIRST TRUST MORTGAGE INCOME FUND
STATEMENT OF ASSETS AND LIABILITIES
APRIL 30, 2011 (UNAUDITED)
ASSETS:
Investments, at value
(Cost $80,894,310) .......................................................................... $ 88,010,144
Cash........................................................................................... 3,006,208
Prepaid expenses 20,906
Interest receivable............................................................................ 757,958
------------
Total Assets............................................................................... 91,795,216
------------
LIABILITIES:
Reverse repurchase agreements.................................................................. 11,705,000
Payables:
Investment advisory fees..................................................................... 75,473
Audit and tax fees........................................................................... 26,963
Administrative fees.......................................................................... 8,270
Printing fees................................................................................ 7,590
Legal fees................................................................................... 5,280
Trustees' fees and expenses.................................................................. 3,373
Transfer agent fees.......................................................................... 3,132
Custodian fees............................................................................... 3,048
Interest on reverse repurchase agreements.................................................... 2,277
Other liabilities.............................................................................. 4,400
------------
Total Liabilities.......................................................................... 11,844,806
------------
NET ASSETS..................................................................................... $ 79,950,410
============
NET ASSETS CONSIST OF:
Paid-in capital ............................................................................... $ 76,953,547
Par value ..................................................................................... 40,619
Accumulated net investment income (loss)....................................................... 3,408,925
Accumulated net realized gain (loss) on investments............................................ (7,226,060)
Net unrealized appreciation (depreciation) on investments...................................... 6,773,379
------------
NET ASSETS..................................................................................... $ 79,950,410
============
NET ASSET VALUE, per Common Share outstanding (par value $0.01 per Common Share)............... $ 19.68
============
Number of Common Shares outstanding (unlimited number of Common Shares has been authorized).... 4,061,922
============
Page 12 See Notes to Financial Statements
FIRST TRUST MORTGAGE INCOME FUND
STATEMENT OF OPERATIONS
FOR THE SIX MONTHS ENDED APRIL 30, 2011 (UNAUDITED)
INVESTMENT INCOME:
Interest ...................................................................................... $ 4,158,277
------------
Total investment income ................................................................... 4,158,277
------------
EXPENSES:
Investment advisory fees....................................................................... 471,415
Excise tax expense ............................................................................ 236,658
Administrative fees............................................................................ 49,624
Audit and tax fees ............................................................................ 22,414
Interest expense on reverse repurchase agreements.............................................. 20,255
Trustees' fees and expenses.................................................................... 19,688
Printing fees.................................................................................. 18,002
Transfer agent fees............................................................................ 16,635
Custodian fees................................................................................. 7,160
Legal fees..................................................................................... 6,678
Other.......................................................................................... 32,161
------------
Total expenses............................................................................. 900,690
------------
NET INVESTMENT INCOME.......................................................................... 3,257,587
------------
NET REALIZED AND UNREALIZED GAIN (LOSS):
Net realized gain (loss) on investments.................................................... (119,235)
Net change in unrealized appreciation (depreciation) on investments 1,561,386
------------
NET REALIZED AND UNREALIZED GAIN (LOSS) 1,442,151
------------
NET INCREASE (DECREASE) IN NET ASSETS RESULTING FROM OPERATIONS................................ $ 4,699,738
============
See Notes to Financial Statements Page 13
FIRST TRUST MORTGAGE INCOME FUND
STATEMENTS OF CHANGES IN NET ASSETS
SIX MONTHS
ENDED YEAR
4/30/2011 ENDED
(UNAUDITED) 10/31/2010
------------ ------------
OPERATIONS:
Net investment income (loss) .................................................... $ 3,257,587 $ 8,366,690
Net realized gain (loss) ........................................................ (119,235) (1,453,923)
Net change in unrealized appreciation (depreciation) ............................ 1,561,386 (354,361)
------------ ------------
Net increase (decrease) in net assets resulting from operations ................. 4,699,738 6,558,406
------------ ------------
DISTRIBUTIONS TO SHAREHOLDERS FROM:
Net investment income............................................................ (4,341,739) (6,682,196)
Net realized gain................................................................ -- --
Return of capital ............................................................... -- --
------------ ------------
Total distributions to shareholders ............................................. (4,341,739) (6,682,196)
------------ ------------
CAPITAL TRANSACTIONS:
Proceeds from Common Shares reinvested........................................... 97,891 156,220
------------ ------------
Net increase (decrease) in net assets resulting from capital transactions ....... 97,891 156,220
------------ ------------
Total increase (decrease) in net assets ......................................... 455,890 32,430
NET ASSETS:
Beginning of period.............................................................. 79,494,520 79,462,090
------------ ------------
End of period.................................................................... $ 79,950,410 $ 79,494,520
============ ============
Accumulated net investment income (loss) at end of period........................ $ 3,408,925 $ 4,493,077
============ ============
CAPITAL TRANSACTIONS WERE AS FOLLOWS:
Common Shares at beginning of period ............................................ 4,056,945 4,048,993
Common Shares issued as reinvestment under the Dividend Reinvestment Plan ....... 4,977 7,952
------------ ------------
Common Shares at end of period .................................................. 4,061,922 4,056,945
============ ============
Page 14 See Notes to Financial Statements
FIRST TRUST MORTGAGE INCOME FUND
STATEMENT OF CASH FLOWS
FOR THE SIX MONTHS ENDED APRIL 30, 2011 (UNAUDITED)
CASH FLOWS FROM OPERATING ACTIVITIES:
Net increase (decrease) in net assets resulting from operations ............... $ 4,699,738
Adjustments to reconcile net increase (decrease) in net assets resulting from
operations to net cash provided by operating activities:
Purchases of investments................................................... (53,130,821)
Sales, maturities and paydowns on investments ............................. 55,258,103
Net amortization/accretion of premiums/discounts on investments ........... 2,668,640
Net realized gain/loss on investments ..................................... 119,235
Net change in unrealized appreciation/depreciation on investments ......... (1,561,386)
CHANGES IN ASSETS AND LIABILITIES:
Decrease in interest receivable ........................................... 88,707
Increase in prepaid expenses............................................... (10,813)
Decrease in interest payable on reverse repurchase agreements.............. (9,331)
Decrease in investment advisory fees payable............................... (3,562)
Decrease in audit and tax fees payable..................................... (18,237)
Increase in legal fees payable............................................. 2,657
Decrease in printing fees payable.......................................... (7,413)
Decrease in administrative fees payable.................................... (63)
Increase in custodian fees payable......................................... 692
Increase in transfer agent fees payable.................................... 586
Increase in Trustees' fees and expenses payable............................ 16
Increase in other liabilities.............................................. 2,629
---------------
CASH PROVIDED BY OPERATING ACTIVITIES.......................................... $ 8,099,377
------------
CASH FLOWS FROM FINANCING ACTIVITIES:
Proceeds of Common Shares reinvested....................................... 97,891
Distributions to Common Shareholders from net investment income............ (4,341,739)
Repurchases of reverse repurchase agreements .............................. (1,697,089,000)
Reverse repurchase agreements borrowings................................... 1,695,818,000
---------------
CASH USED IN FINANCING ACTIVITIES.............................................. (5,514,848)
------------
Increase in cash............................................................... 2,584,529
Cash at beginning of period.................................................... 421,679
------------
CASH AT END OF PERIOD.......................................................... $ 3,006,208
============
SUPPLEMENTAL DISCLOSURE OF CASH FLOW INFORMATION:
Cash paid during the period for interest....................................... $ 29,586
============
See Notes to Financial Statements Page 15
FIRST TRUST MORTGAGE INCOME FUND
FINANCIAL HIGHLIGHTS
FOR A COMMON SHARE OUTSTANDING THROUGHOUT EACH PERIOD
SIX MONTHS
ENDED YEAR YEAR YEAR YEAR YEAR
4/30/2011 ENDED ENDED ENDED ENDED ENDED
(UNAUDITED) (d) 10/31/2010 (a) 10/31/2009 10/31/2008 10/31/2007 10/31/2006
--------------- -------------- -------------- ---------- ---------- ----------
Net asset value, beginning of period $ 19.59 $ 19.63 $ 18.03 $ 18.66 $ 18.41 $ 19.02
--------- ---------- ---------- ---------- ---------- ----------
INCOME FROM INVESTMENT OPERATIONS:
Net investment income (loss) ............. 0.80 2.06 1.57 1.49 1.04 1.03
Net realized and unrealized gain (loss) .. 0.36 (0.45) 1.40 (1.00) 0.23 (0.58)
--------- ---------- ---------- ---------- ---------- ----------
Total from investment operations ......... 1.16 1.61 2.97 0.49 1.27 0.45
--------- ---------- ---------- ---------- ---------- ----------
DISTRIBUTIONS PAID TO SHAREHOLDERS FROM:
Net investment income..................... (1.07) (1.65) (1.37) (1.12) (1.02) (1.06)
--------- ---------- ---------- ---------- ---------- ----------
Total from distributions ................. (1.07) (1.65) (1.37) (1.12) (1.02) (1.06)
--------- ---------- ---------- ---------- ---------- ----------
Net asset value, end of period ........... $ 19.68 $ 19.59 $ 19.63 $ 18.03 $ 18.66 $ 18.41
========= ========== ========== ========== ========== ==========
Market value, end of period............... $ 20.78 $ 20.70 $ 17.91 $ 15.71 $ 16.32 $ 16.58
========= ========== ========== ========== ========== ==========
TOTAL RETURN BASED ON NET ASSET VALUE (b) 6.19% 9.01% 18.21% 3.38% 7.80% 3.30%
========= ========== ========== ========== ========== ==========
TOTAL RETURN BASED ON MARKET VALUE (b) ... 6.11% 26.18% 23.91% 2.94% 4.69% 7.89%
========= ========== ========== ========== ========== ==========
-------------------------
RATIOS TO AVERAGE NET ASSETS/SUPPLEMENTAL DATA:
Net assets, end of period (in 000's) ..... $ 79,950 $ 79,495 $ 79,462 $ 72,956 $ 75,487 $ 74,458
Ratio of total expenses to average net
assets ................................. 2.28% (c) 2.00% 2.07% 2.69% 3.24% 3.10%
Ratio of net expenses to average net
assets.................................. 2.28% (c) 2.00% 2.07% 2.69% 3.24% 3.06%
Ratio of net expenses to average net
assets excluding interest expense....... 2.23% (c) 1.95% 1.99% 1.83% 1.71% 1.69%
Ratio of net investment income (loss) to
average net assets 8.24% (c) 10.50% 9.01% 7.93% 5.70% 5.55%
Portfolio turnover rate 59% 36% 39% 10% 22% 76%
--------------------------------------------------
(a) On September 20, 2010, the Fund's Board of Trustees approved an investment
management agreement with First Trust Advisors L.P. and an investment
sub-advisory agreement with Fixed Income Discount Advisory Company
("FIDAC"), and on December 6, 2010, the Fund's shareholders voted to
approve both agreements. (See Note 3 in the Notes to Financial
Statements.)
(b) Total return is based on the combination of reinvested dividend, capital
gain and return of capital distributions, if any, at prices obtained by
the Dividend Reinvestment Plan, and changes in net asset value per share
for net asset value returns and changes in Common Share price for market
value returns. Total returns do not reflect sales load and are not
annualized for periods less than one year. Past performance is not
indicative of future results.
(c) Annualized.
(d) Effective April 29, 2011, the Fund's Board of Trustees approved Brookfield
Investment Management Inc. ("Brookfield") as the investment sub-advisor to
the Fund, replacing FIDAC. (See Note 3 in the Notes to Financial
Statements.)
Page 16 See Notes to Financial Statements
--------------------------------------------------------------------------------
NOTES TO FINANCIAL STATEMENTS
--------------------------------------------------------------------------------
FIRST TRUST MORTGAGE INCOME FUND
APRIL 30, 2011 (UNAUDITED)
1. FUND DESCRIPTION
First Trust Mortgage Income Fund (the "Fund") is a diversified, closed-end
management investment company organized as a Massachusetts business trust on
February 22, 2005 , and is registered with the Securities and Exchange
Commission ("SEC") under the Investment Company Act of 1940, as amended (the
"1940 Act"). The Fund trades under the ticker symbol FMY on the New York Stock
Exchange ("NYSE").
The Fund's primary investment objective is to seek a high level of current
income. As a secondary objective, the Fund seeks to preserve capital. The Fund
pursues these objectives by investing in mortgage-backed securities that, in the
opinion of Brookfield, offer an attractive combination of credit quality, yield
and maturity. There can be no assurance that the Fund's investment objectives
will be achieved. The Fund may not be appropriate for all investors.
2. SIGNIFICANT ACCOUNTING POLICIES
The following is a summary of significant accounting policies consistently
followed by the Fund in the preparation of its financial statements. The
preparation of financial statements in accordance with accounting principles
generally accepted in the United States of America requires management to make
estimates and assumptions that affect the reported amounts and disclosures in
the financial statements. Actual results could differ from those estimates.
A. PORTFOLIO VALUATION:
The net asset value ("NAV") of the Common Shares of the Fund is determined
daily, as of the close of regular trading on the NYSE, normally 4:00 p.m.
Eastern time, on each day the NYSE is open for trading. If the NYSE closes early
on a valuation day, the NAV is determined as of that time. Domestic debt
securities and foreign securities are priced using data reflecting the earlier
closing of the principal markets for those securities. The NAV per Common Share
is calculated by dividing the value of all assets of the Fund (including accrued
interest and dividends), less all liabilities (including accrued expenses,
dividends declared but unpaid and any borrowings of the Fund), by the total
number of Common Shares outstanding.
The Fund's investments are valued daily in accordance with valuation procedures
adopted by the Fund's Board of Trustees, and in accordance with provisions of
the 1940 Act. Securities for which market quotations are readily available are
valued using the last reported sale price on the business day as of which such
value is being determined. If no sales are reported on such business day (as in
the case of some securities traded over-the-counter), the last reported bid
price is used, except that certain U.S. Government securities are valued at the
mean between the last reported bid and asked prices. Mortgage-backed securities
("MBS") and other debt securities not traded in an organized market are valued
on the basis of valuations provided by dealers who make markets in such
securities or by an independent pricing service approved by the Fund's Board of
Trustees, which may use the following valuation inputs when available:
1) benchmark yields;
2) reported trades;
3) broker/dealer quotes;
4) issuer spreads;
5) benchmark securities;
6) bids and offers; and
7) reference data including market research publications.
Debt securities having a remaining maturity of sixty days or less when purchased
are valued at cost adjusted for amortization of premiums and accretion of
discounts.
In the event that market quotations are not readily available, the pricing
service or dealer does not provide a valuation, or the valuations received are
deemed unreliable, the Fund's Board of Trustees has designated First Trust
Advisors L.P. ("First Trust") to use a fair value method to value the Fund's
securities. Additionally, if events occur after the close of the principal
markets for certain securities (e.g., domestic debt and foreign securities) that
could materially affect the Fund's NAV, First Trust may use a fair value method
to value the Fund's securities. The use of fair value pricing is governed by
valuation procedures adopted by the Fund's Board of Trustees, and in accordance
with the provisions of the 1940 Act. As a general principle, the fair value of a
security is the amount which the Fund might reasonably expect to receive for the
security upon its current sale. However, in light of the judgment involved in
fair valuations, there can be no assurance that a fair value assigned to a
particular security will be the amount which the Fund might be able to receive
upon its current sale. Fair valuation of a security is based on the
consideration of all available information, including, but not limited to, the
following:
1) the fundamental business data relating to the issuer;
2) an evaluation of the forces which influence the market in which
these securities are purchased and sold;
Page 17
--------------------------------------------------------------------------------
NOTES TO FINANCIAL STATEMENTS - (CONTINUED)
--------------------------------------------------------------------------------
FIRST TRUST MORTGAGE INCOME FUND
APRIL 30, 2011 (UNAUDITED)
3) the type, size and cost of security;
4) the financial statements of the issuer;
5) the credit quality and cash flow of the issuer, based on the
Sub-Advisor's/Brookfield's or external analysis;
6) the information as to any transactions in or offers for the
security;
7) the price and extent of public trading in similar securities (or
equity securities) of the issuer/borrower, or comparable companies;
8) the coupon payments;
9) the quality, value and salability of collateral, if any, securing
the security;
10) the business prospects of the issuer, including any ability to
obtain money or resources from a parent or affiliate and an
assessment of the issuer's management;
11) the prospects for the issuer's industry, and multiples (of
earnings and/or cash flows) being paid for similar businesses in
that industry; and
12) other relevant factors.
The Fund is subject to fair value accounting standards that define fair value,
establish the framework for measuring fair value and provide a three-level
hierarchy for fair valuation based upon the inputs to the valuation as of the
measurement date. The three levels of the fair value hierarchy are as follows:
o Level 1 - Level 1 inputs are quoted prices in active markets for
identical securities. An active market is a market in which
transactions for the security occur with sufficient frequency and
volume to provide pricing information on an ongoing basis.
o Level 2 - Level 2 inputs are observable inputs, either directly or
indirectly, and include the following:
o Quoted prices for similar securities in active markets.
o Quoted prices for identical or similar securities in markets
that are non-active. A non-active market is a market where
there are few transactions for the security, the prices are
not current, or price quotations vary substantially either
over time or among market makers, or in which little
information is released publicly.
o Inputs other than quoted prices that are observable for the
security (for example, interest rates and yield curves
observable at commonly quoted intervals, volatilities,
prepayment speeds, loss severities, credit risks, and default
rates).
o Inputs that are derived principally from or corroborated by
observable market data by correlation or other means.
o Level 3 - Level 3 inputs are unobservable inputs. Unobservable
inputs may reflect the reporting entity's own assumptions about the
assumptions that market participants would use in pricing the
security.
The inputs or methodology used for valuing securities are not necessarily an
indication of the risk associated with investing in those securities. A summary
of the inputs used to value the Fund's investments as of April 30, 2011, is
included with the Fund's Portfolio of Investments.
B. SECURITIES TRANSACTIONS AND INVESTMENT INCOME:
Securities transactions are recorded as of the trade date. Realized gains and
losses from securities transactions are recorded on the identified cost basis.
Interest income is recorded daily on the accrual basis. Amortization of premiums
and the accretion of discounts are recorded using the effective interest method.
The Fund invests in interest-only securities. For these securities, if there is
a change in the estimated cash flows, based on an evaluation of current
information, then the estimated yield is adjusted on a prospective basis over
the remaining life of the security. Additionally, if the evaluation of current
information indicates a permanent impairment of the security, the cost basis of
the security is written down and a loss is recognized. Debt obligations may be
placed on non-accrual status and related interest income may be reduced by
ceasing current accruals and writing off interest receivables when the
collection of all or a portion of interest has become doubtful based on
consistently applied procedures. A debt obligation is removed from non-accrual
status when the issuer resumes interest payments or when collectability of
interest is reasonably assured.
Securities purchased or sold on a when-issued, delayed-delivery or forward
purchase commitment basis may have extended settlement periods. The value of the
security so purchased is subject to market fluctuations during this period. The
Fund maintains liquid assets with a current value at least equal to the amount
of its when-issued, delayed-delivery or forward purchase commitments until
payment is made. At April 30, 2011, the Fund had no when-issued,
delayed-delivery or forward purchase commitments.
Page 18
--------------------------------------------------------------------------------
NOTES TO FINANCIAL STATEMENTS - (CONTINUED)
--------------------------------------------------------------------------------
FIRST TRUST MORTGAGE INCOME FUND
APRIL 30, 2011 (UNAUDITED)
C. REVERSE REPURCHASE AGREEMENTS:
Reverse repurchase agreements are utilized as leverage for the Fund. A reverse
repurchase agreement, although structured as a sale and repurchase obligation,
acts as a financing under which Fund assets are pledged as collateral to secure
a short-term loan. Generally, the other party to the agreement makes the loan in
an amount equal to a percentage of the market value of the pledged collateral.
At the maturity of the reverse repurchase agreement, the loan will be repaid and
the collateral will correspondingly be received back to the Fund. While used as
collateral, the assets continue to pay principal and interest which are for the
benefit of the Fund.
Information for the six months ended April 30, 2011:
Maximum amount outstanding during the period................... $21,844,000
Average amount outstanding during the period* ................. $15,334,282
Average Common Shares outstanding during the period ........... 4,058,176
Average debt per Common Share outstanding during the period ... $3.78
* The average amount outstanding during the period was calculated by adding the
borrowings at the end of each day and dividing the sum by the number of days in
the six months ended April 30, 2011.
During the six months ended April 30, 2011, interest rates ranged from 0.08% to
0.38%, with a weighted average interest rate of 0.26%, on borrowings by the Fund
under reverse repurchase agreements, which had interest expense that aggregated
$20,255.
D. INVERSE FLOATING-RATE SECURITIES:
An inverse floating-rate security is one where the coupon is inversely indexed
to a short-term floating interest rate multiplied by a specific factor. As the
floating rate rises, the coupon is reduced. Conversely, as the floating rate
declines, the coupon is increased. The price of these securities may be more
volatile than the price of a comparable fixed-rate security. These instruments
are typically used to enhance the yield of the portfolio. These securities, if
held in the Fund, are identified on the Portfolio of Investments.
E. STRIPPED MORTGAGE-BACKED SECURITIES:
Stripped Mortgage-Backed Securities are created by segregating the cash flows
from underlying mortgage loans or mortgage securities to create two or more new
securities, each with a specified percentage of the underlying security's
principal or interest payments. Mortgage securities may be partially stripped so
that each investor class receives some interest and some principal. When
securities are completely stripped, however, all of the interest is distributed
to holders of one type of security known as an interest-only or IO security and
all of the principal is distributed to holders of another type of security known
as a principal-only or PO security. These securities, if held in the Fund, are
identified on the Portfolio of Investments.
F. INTEREST-ONLY SECURITIES:
An interest-only security ("IO Security") is the interest-only portion of a MBS
that receives some or all of the interest portion of the underlying MBS and
little or no principal. A reference principal value called a notional value is
used to calculate the amount of interest due to the IO Security. IO Securities
are sold at a deep discount to their notional principal amount. Generally
speaking, when interest rates are falling and prepayment rates are increasing,
the value of an IO Security will fall. Conversely, when interest rates are
rising and prepayment rates are decreasing, generally the value of an IO
Security will rise. These securities, if held in the Fund, are identified on the
Portfolio of Investments.
G. DIVIDENDS AND DISTRIBUTIONS TO SHAREHOLDERS:
The Fund will distribute to holders of its Common Shares monthly dividends of
all or a portion of its net income after the payment of interest and dividends
in connection with leverage, if any. Distributions will automatically be
reinvested into additional Common Shares pursuant to the Fund's Dividend
Reinvestment Plan unless cash distributions are elected by the shareholder.
Distributions from income and capital gains are determined in accordance with
income tax regulations, which may differ from accounting principles generally
accepted in the United States of America. Certain capital accounts in the
financial statements are periodically adjusted for permanent differences in
order to reflect their tax character. These permanent differences are primarily
due to the varying treatment of income and gain/loss on portfolio securities
held by the Fund and have no impact on net assets or net asset value per share.
Temporary differences, which arise from recognizing certain items of income,
expense and gain/loss in different periods for financial statement and tax
purposes, will reverse at some time in the future.
Page 19
--------------------------------------------------------------------------------
NOTES TO FINANCIAL STATEMENTS - (CONTINUED)
--------------------------------------------------------------------------------
FIRST TRUST MORTGAGE INCOME FUND
APRIL 30, 2011 (UNAUDITED)
The tax character of distributions paid during the fiscal year ended October 31,
2010 was as follows:
Distributions paid from:
Ordinary income ..................... $ 6,682,196
Capital gain ........................ --
Return of capital ................... --
As of October 31, 2010, the distributable earnings and net assets on a tax basis
were as follows:
Undistributed ordinary income ....... $ 6,843,075
Undistributed capital gains ......... --
-------------
Total undistributed earnings ........ 6,843,075
Accumulated capital and other losses (7,106,825)
Net unrealized appreciation
(depreciation) .................... 2,861,995
-------------
Total accumulated earnings (losses).. 2,598,245
Paid-in capital...................... 76,896,275
-------------
Net assets........................... $ 79,494,520
=============
On December 22, 2010, President Obama signed into law the Regulated Investment
Company Modernization Act of 2010 effective for tax years beginning after
December 22, 2010. Management is currently evaluating the impact the Act will
have on future financial statement disclosures, if any.
H. INCOME AND OTHER TAXES:
The Fund intends to continue to qualify as a regulated investment company by
complying with the requirements under Subchapter M of the Internal Revenue Code
of 1986, as amended, which includes distributing substantially all of its net
investment income and net realized gains to shareholders. Accordingly, no
provision has been made for federal or state income taxes. However, due to the
timing and amount of distributions, the Fund may be subject to an excise tax of
4% of the amount by which 98% of the Fund's taxable income exceeds the
distributions from such taxable income for the calendar year.
The Fund intends to utilize provisions of the federal income tax laws which
allow it to carry realized capital losses forward for eight years following the
year of the loss and offset such loss against any future realized capital gains.
The Fund is subject to certain limitations under U.S. tax rules on the use of
capital loss carryforwards and net unrealized built-in losses. These limitations
apply when there has been a 50% change in ownership. At October 31, 2010, the
Fund had capital loss carryforwards for federal income tax purposes of
$7,106,825, expiring as follows:
EXPIRATION DATE AMOUNT
October 31, 2014 $ 3,756,953
October 31, 2017 $ 1,927,985
October 31, 2018 $ 1,421,887
The Fund is subject to accounting standards that establish a minimum threshold
for recognizing, and a system for measuring, the benefits of a tax position
taken or expected to be taken in a tax return. Taxable years ending 2007, 2008,
2009 and 2010 remain open to federal and state audit. As of April 30, 2011,
management has evaluated the application of these standards to the Fund and has
determined that no provision for income tax is required in the Fund's financial
statements for uncertain tax positions.
I. EXPENSES:
The Fund will pay all expenses directly related to its operations.
J. ACCOUNTING PRONOUNCEMENT:
In January 2010, the Financial Accounting Standards Board ("FASB") issued
Accounting Standards Update ("ASU") No. 2010-06 "Improving Disclosures about
Fair Value Measurements." ASU No. 2010-06 amends FASB Accounting Standards
Codification Topic 820, Fair Value Measurements and Disclosures, to require
additional disclosures regarding fair value measurements. Certain disclosures
required by ASU No. 2010-06 are effective for fiscal years beginning after
December 15, 2010, and for interim periods within those fiscal years. Management
is currently evaluating the impact ASU No. 2010-06 will have on the Fund's
financial statement disclosures, if any.
Page 20
--------------------------------------------------------------------------------
NOTES TO FINANCIAL STATEMENTS - (CONTINUED)
--------------------------------------------------------------------------------
FIRST TRUST MORTGAGE INCOME FUND
APRIL 30, 2011 (UNAUDITED)
3. INVESTMENT ADVISORY FEE, AFFILIATED TRANSACTIONS AND OTHER FEE ARRANGEMENTS
First Trust, the investment advisor to the Fund, is a limited partnership with
one limited partner, Grace Partners of DuPage L.P., and one general partner, The
Charger Corporation. First Trust is responsible for the ongoing monitoring of
the Fund's investment portfolio, managing the Fund's business affairs and
providing certain administrative services necessary for the management of the
Fund. For these investment management services, First Trust is entitled to a
monthly fee calculated at an annual rate of 1.00% of the Fund's Managed Assets
(the average daily total asset value of the Fund minus the sum of the Fund's
liabilities other than the principal amount of borrowings or reverse repurchase
agreements, if any). First Trust also provides fund reporting services to the
Fund for a flat annual fee in the amount of $9,250.
During the period, FIDAC served as the Fund's sub-advisor and managed the Fund's
portfolio subject to First Trust's supervision. The Sub-Advisor received a
portfolio management fee of 0.50% of Managed Assets that was paid monthly by
First Trust from its investment advisory fee.
On April 18, 2011, the Board of Trustees of the Fund approved Brookfield as
investment sub-advisor to the Fund, replacing FIDAC. Brookfield assumed the
day-to-day responsibility for management of the Fund's portfolio as of April 29,
2011. As a result, the Fund entered into an interim investment sub-advisory
agreement between the Fund, Brookfield and First Trust, which will remain in
effect until the earlier of September 26, 2011 or until a new sub-advisory
agreement is approved by shareholders of the Fund. Brookfield will receive a
portfolio management fee of 0.50% of Managed Assets that will be paid monthly by
First Trust from its investment advisory fee. Shareholders of the Fund will be
asked to vote on a proposal to approve the new investment sub-advisory agreement
between the Fund, Brookfield and First Trust at a special meeting of
shareholders scheduled for July 25, 2011.
Also, effective on April 29, 2011, the Fund's name was changed from First
Trust/FIDAC Mortgage Income Fund to "First Trust Mortgage Income Fund," and the
Fund continues to trade under the same ticker symbol "FMY."
James A. Bowen, the President of First Trust, on October 12, 2010, acquired 100%
of the voting stock of The Charger Corporation, the general partner of First
Trust (the "Transaction"). The consummation of the Transaction was deemed to be
an "assignment" (as defined in the 1940 Act) of the Fund's investment management
agreement and investment sub-advisory agreement and resulted in the automatic
termination of the agreements.
The Board of Trustees of the Fund approved an interim investment management
agreement with First Trust and an interim investment sub-advisory agreement,
which were entered into effective upon the closing of the Transaction and would
be in effect for a maximum period of 150 days absent shareholder approval. A new
investment management agreement with First Trust and a new investment
sub-advisory agreement have been approved by the Board of Trustees of the Fund
and were submitted to shareholders of the Fund as of the record date (September
30, 2010) for approval to take effect upon such shareholder approval. A special
shareholder meeting of the Fund to vote on a proposal to approve the new
investment management agreement and the new investment sub-advisory agreement
was held on December 6, 2010, at which time the new investment management
agreement and new investment sub-advisory agreement were approved by the Fund's
shareholders. Until December 6, 2010, advisory fees payable to First Trust and
FIDAC were held in escrow. See Submission of Matters to a Vote of Shareholders,
in the Additional Information section of this report, for the results.
BNY Mellon Investment Servicing (US) Inc. serves as the Fund's Administrator,
Fund Accountant and Transfer Agent in accordance with certain fee arrangements.
PFPC Trust Company, which will be renamed BNY Mellon Investment Servicing Trust
Company effective July 1, 2011, serves as the Fund's Custodian in accordance
with certain fee arrangements.
Each Trustee who is not an officer or employee of First Trust, any sub-advisor
or any of their affiliates ("Independent Trustee") is paid an annual retainer of
$10,000 per trust for the first 14 trusts of the First Trust Fund Complex and an
annual retainer of $7,500 per trust for each subsequent trust in the First Trust
Fund Complex. The annual retainer is allocated equally among each of the trusts.
No additional meeting fees are paid in connection with Board or Committee
meetings.
Additionally, the Lead Independent Trustee is paid $10,000 annually, the
Chairman of the Audit Committee is paid $5,000 annually, and each of the
Chairmen of the Nominating and Governance Committee and the Valuation Committee
is paid $2,500 annually to serve in such capacities, with such compensation paid
by the trusts in the First Trust Fund Complex and divided among those trusts.
Trustees are also reimbursed by the trusts in the First Trust Fund Complex for
travel and out-of-pocket expenses in connection with all meetings. The Lead
Independent Trustee and each Committee chairman will serve two-year terms before
rotating to serve as chairman of another Committee or as Lead Independent
Trustee. The officers and "Interested" Trustee receive no compensation from the
Fund for serving in such capacities.
Page 21
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NOTES TO FINANCIAL STATEMENTS - (CONTINUED)
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FIRST TRUST MORTGAGE INCOME FUND
APRIL 30, 2011 (UNAUDITED)
4. PURCHASES AND SALES OF SECURITIES
The cost of purchases of U.S. Government securities and non-U.S. Government
securities, excluding short-term investments, for the six months ended April 30,
2011 were $16,326,143 and $36,804,678, respectively. The proceeds from sales and
paydowns of U.S. Government securities and non-U.S. Government securities,
excluding short-term investments, for the six months ended April 30, 2011 were
$11,221,803 and $44,036,300, respectively.
5. INDEMNIFICATION
The Fund has a variety of indemnification obligations under contracts with its
service providers. The Fund's maximum exposure under these arrangements is
unknown. However, the Fund has not had prior claims or losses pursuant to these
contracts and expects the risk of loss to be remote.
6. RISK CONSIDERATIONS
Risks are inherent in all investing. The following summarizes some of the risks
that should be considered for the Fund. For additional information about the
risks associated with investing in the Fund, please see the Fund's prospectus
and statement of additional information, as well as other Fund regulatory
filings.
INVESTMENT AND MARKET RISK: An investment in the Fund's Common Shares is subject
to investment risk, including the possible loss of the entire principal
invested. An investment in Common Shares represents an indirect investment in
the securities owned by the Fund. The value of these securities, like other
market investments, may move up or down, sometimes rapidly and unpredictably.
Common Shares at any point in time may be worth less than the original
investment, even after taking into account the reinvestment of Fund
distributions. Security prices can fluctuate for several reasons including the
general condition of the securities market, or when political or economic events
affecting the issuers occur, including the risk that borrowers do not pay their
mortgages. When the Advisor or Sub-Advisor determines that it is temporarily
unable to follow the Fund's investment strategy or that it is impractical to do
so (such as when a market disruption event has occurred and trading in the
securities is extremely limited or absent), the Advisor or Sub-Advisor may take
temporary defensive positions.
SUBORDINATED DEBT RISK: A portion of the Fund's Managed Assets may be invested
in subordinated classes of MBS, including debt obligations issued by private
originators or issuers backed by residential mortgage loans and multi-class debt
or pass-through or pay-through securities backed by a mortgage loan or pool of
mortgage loans on commercial real estate. Such subordinated classes are subject
to a greater degree of non-payment risk than are senior classes of the same
issuer or agency.
PREPAYMENT RISK: If borrowers prepay their mortgage loans at rates that are
faster than expected, this results in prepayments that are faster than expected
on MBS. These faster than expected prepayments may adversely affect the Fund's
profitability, particularly if the prepayments must be reinvested at market
interest rates that are below the Fund portfolio's current earnings rate.
Moreover, the Fund may also hold MBS that are less affected by prepayments.
While the Sub-Advisor seeks to minimize prepayment risk to the extent practical,
they must balance prepayment risk against other risks and the potential returns
of each investment in selecting investments. No strategy can completely insulate
the Fund from prepayment risk.
INTEREST RATE RISK: The Fund may also hold MBS which are Stripped
Mortgage-Backed Securities, IO securities and PO securities. Generally speaking,
when interest rates are falling and prepayment rates are increasing, the value
of a PO security will rise and the value of an IO security will fall.
Conversely, when interest rates are rising and prepayment rates are decreasing,
generally the value of a PO security will fall and the value of an IO security
will rise.
LEVERAGE RISK: Borrowings up to 33-1/3% (or such other percentage as permitted
by law) of Fund assets (including the amount borrowed) less liabilities other
than borrowings may be utilized in the Fund. Leverage may be used for investment
purposes and to meet cash requirements. The leveraged capital structure creates
special risks not associated with unleveraged funds having similar investment
objectives and policies. These include the possibility of higher volatility of
the NAV of the Fund. Reverse repurchase agreements are used to leverage the
Fund's assets. Reverse repurchase agreements are subject to the risks that the
market value of the Fund's securities sold may decline below the price of the
securities the Fund is obligated to repurchase, and that the securities may not
be returned to the Fund. From time to time the amount of the leverage may be
changed in response to actual or anticipated changes in interest rates or the
value of the Fund's investment portfolio. There can be no assurance that the
leverage strategies will be successful.
Page 22
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NOTES TO FINANCIAL STATEMENTS - (CONTINUED)
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FIRST TRUST MORTGAGE INCOME FUND
APRIL 30, 2011 (UNAUDITED)
FIXED-INCOME SECURITIES RISK: Debt securities, including high yield securities,
are subject to certain risks, including: (i) issuer risk, which is the risk that
the value of fixed-income securities may decline for a number of reasons which
directly relate to the issuer, such as management performance, financial
leverage and reduced demand for the issuer's goods and services or, in the case
of asset-backed issuers, a decline in the value and/or cash flows of the
underlying assets; (ii) reinvestment risk, which is the risk that income from
the Fund's portfolio will decline if the proceeds from matured, traded or called
bonds are invested at market interest rates that are below the Fund portfolio's
current earnings rate; and (iii) credit risk, which is the risk that a security
in the Fund's portfolio will decline in price or the issuer fails to make
interest payments when due because the issuer of the security experiences a
decline in its financial status.
7. SUBSEQUENT EVENTS
Management has evaluated the impact of all subsequent events to the Fund through
the date the financial statements were issued, and has determined that there
were subsequent events:
On May 23, 2011, the Fund declared a dividend of $0.16 per share to Common
Shareholders of record on June 3, 2011, payable June 15, 2011.
On June 20, 2011, the Fund declared a dividend of $0.16 per share to Common
Shareholders of record on July 6, 2011, payable July 15, 2011.
CHANGE IN CERTAIN INVESTMENT STRATEGIES
On April 18, 2011, the Fund's Board of Trustees approved changes to certain of
the Fund's investment strategies. The Fund's investment strategies are
non-fundamental policies of the Fund and require 60 days' prior written notice
to shareholders before they can be changed by the Board without receiving
shareholder approval. As such, effective on or about July 5, 2011, the following
Fund investment strategy change will become effective:
o FMY may invest up to 25% of its Managed Assets in securities that at
the time of investment are rated below A by at least one rating
agency or are unrated but judged to be of comparable quality by the
Fund's sub-advisor.
Page 23
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ADDITIONAL INFORMATION
--------------------------------------------------------------------------------
FIRST TRUST MORTGAGE INCOME FUND
APRIL 30, 2011 (UNAUDITED)
DIVIDEND REINVESTMENT PLAN
If your Common Shares are registered directly with the Fund or if you hold your
Common Shares with a brokerage firm that participates in the Fund's Dividend
Reinvestment Plan (the "Plan"), unless you elect, by written notice to the Fund,
to receive cash distributions, all dividends, including any capital gain
distributions, on your Common Shares will be automatically reinvested by BNY
Mellon Investment Servicing (US) Inc. (the "Plan Agent"), in additional Common
Shares under the Plan. If you elect to receive cash distributions, you will
receive all distributions in cash paid by check mailed directly to you by the
Plan Agent, as the dividend paying agent.
If you decide to participate in the Plan, the number of Common Shares you will
receive will be determined as follows:
(1) If Common Shares are trading at or above net asset value ("NAV") at
the time of valuation, the Fund will issue new shares at a price
equal to the greater of (i) NAV per Common Share on that date or
(ii) 95% of the market price on that date.
(2) If Common Shares are trading below NAV at the time of valuation, the
Plan Agent will receive the dividend or distribution in cash and
will purchase Common Shares in the open market, on the NYSE or
elsewhere, for the participants' accounts. It is possible that the
market price for the Common Shares may increase before the Plan
Agent has completed its purchases. Therefore, the average purchase
price per share paid by the Plan Agent may exceed the market price
at the time of valuation, resulting in the purchase of fewer shares
than if the dividend or distribution had been paid in Common Shares
issued by the Fund. The Plan Agent will use all dividends and
distributions received in cash to purchase Common Shares in the open
market within 30 days of the valuation date except where temporary
curtailment or suspension of purchases is necessary to comply with
federal securities laws. Interest will not be paid on any uninvested
cash payments.
You may elect to opt-out of or withdraw from the Plan at any time by giving
written notice to the Plan Agent, or by telephone at (866) 340-1104, in
accordance with such reasonable requirements as the Plan Agent and the Fund may
agree upon. If you withdraw or the Plan is terminated, you will receive a
certificate for each whole share in your account under the Plan, and you will
receive a cash payment for any fraction of a share in your account. If you wish,
the Plan Agent will sell your shares and send you the proceeds, minus brokerage
commissions.
The Plan Agent maintains all Common Shareholders' accounts in the Plan and gives
written confirmation of all transactions in the accounts, including information
you may need for tax records. Common Shares in your account will be held by the
Plan Agent in non-certificated form. The Plan Agent will forward to each
participant any proxy solicitation material and will vote any shares so held
only in accordance with proxies returned to the Fund. Any proxy you receive will
include all Common Shares you have received under the Plan.
There is no brokerage charge for reinvestment of your dividends or distributions
in Common Shares. However, all participants will pay a pro rata share of
brokerage commissions incurred by the Plan Agent when it makes open market
purchases.
Automatically reinvesting dividends and distributions does not mean that you do
not have to pay income taxes due upon receiving dividends and distributions.
Capital gains and income are realized although cash is not received by you.
Consult your financial advisor for more information.
If you hold your Common Shares with a brokerage firm that does not participate
in the Plan, you will not be able to participate in the Plan and any dividend
reinvestment may be effected on different terms than those described above.
The Fund reserves the right to amend or terminate the Plan if in the judgment of
the Board of Trustees the change is warranted. There is no direct service charge
to participants in the Plan; however, the Fund reserves the right to amend the
Plan to include a service charge payable by the participants. Additional
information about the Plan may be obtained by writing BNY Mellon Investment
Servicing (US) Inc., 301 Bellevue Parkway, Wilmington, Delaware 19809.
--------------------------------------------------------------------------------
PROXY VOTING POLICIES AND PROCEDURES
A description of the policies and procedures that the Fund uses to determine how
to vote proxies and information on how the Fund voted proxies relating to
portfolio securities during the most recent 12-month period ended June 30 is
available (1) without charge, upon request, by calling (800) 988-5891; (2) on
the Fund's website located at http://www.ftportfolios.com; and (3) on the
Securities and Exchange Commission's website at http://www.sec.gov.
Page 24
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ADDITIONAL INFORMATION - (CONTINUED)
--------------------------------------------------------------------------------
FIRST TRUST MORTGAGE INCOME FUND
APRIL 30, 2011 (UNAUDITED)
PORTFOLIO HOLDINGS
The Fund files its complete schedule of portfolio holdings with the SEC for the
first and third quarters of each fiscal year on Form N-Q. The Fund's Forms N-Q
are available (1) by calling (800) 988-5891; (2) on the Fund's website located
at http://www.ftportfolios.com; (3) on the SEC's website at http://www.sec.gov;
and (4) for review and copying at the SEC's Public Reference Room ("PRR") in
Washington, DC. Information regarding the operation of the PRR may be obtained
by calling (800) SEC-0330.
SUBMISSION OF MATTERS TO A VOTE OF SHAREHOLDERS
A special meeting of shareholders of the Fund was held on December 6, 2010. At
the meeting, shareholders approved a new investment management agreement between
the Fund and First Trust and a new investment sub-advisory agreement between the
Fund, First Trust and FIDAC. 2,072,030 (51.11%) of the outstanding voting
securities were voted at the meeting. The number of votes cast in favor of the
new investment management agreement was 1,975,124, the number of votes against
was 34,869, and the number of abstentions was 62,237. The number of votes cast
in favor of the new investment sub-advisory agreement was 1,976,966, the number
of votes against was 33,964, and the number of abstentions was 61,318. The terms
of the new investment management agreement and new investment sub-advisory
agreement are substantially similar to the terms of the previous agreements.
The Joint Annual Meeting of Shareholders of the Common Shares of Energy Income
and Growth Fund, First Trust Enhanced Equity Income Fund, First Trust/Aberdeen
Global Opportunity Income Fund, First Trust/FIDAC Mortgage Income Fund, First
Trust Strategic High Income Fund, First Trust Strategic High Income Fund II,
First Trust/Aberdeen Emerging Opportunity Fund, First Trust Strategic High
Income Fund III, First Trust Specialty Finance and Financial Opportunities Fund,
First Trust Active Dividend Income Fund and First Trust High Income Long/Short
Fund was held on April 18, 2011. At the Annual Meeting, Trustee Robert F. Keith
was elected by the Common Shareholders of the First Trust Mortgage Income Fund
as a Class III Trustee for a three-year term expiring at the Fund's annual
meeting of shareholders in 2014. The number of votes cast in favor of Mr. Keith
was 3,505,231, the number of votes against was 75,899 and the number of
abstentions was 475,815. Richard E. Erickson, Thomas R. Kadlec and James A.
Bowen are the other current and continuing Trustees.
INVESTMENT MANAGEMENT AND SUB-ADVISORY AGREEMENTS
BOARD CONSIDERATIONS REGARDING APPROVAL OF INVESTMENT MANAGEMENT AND
SUB-ADVISORY AGREEMENTS
The Board of Trustees of First Trust Mortgage Income Fund (formerly known as
First Trust/FIDAC Mortgage Income Fund) (the "Fund"), including the Independent
Trustees, approved an Interim Sub-Advisory Agreement and a New Sub-Advisory
Agreement (collectively, the "Agreements") among the Fund, First Trust Advisors
L.P. (the "Advisor") and Brookfield Investment Management Inc. ("Brookfield") at
a meeting held on April 18, 2011 (the "Meeting"). The Board determined that the
Agreements are in the best interests of the Fund in light of the services,
expenses and such other matters as the Board considered to be relevant in the
exercise of its reasonable business judgment.
On January 11, 2011, Fixed Income Discount Advisory Company ("FIDAC") notified
the Fund and the Advisor of its resignation as sub-advisor to the Fund,
effective April 30, 2011. The Advisor immediately notified the Board and
thereafter conducted a review of potential sub-advisors to replace FIDAC and
also reviewed its own internal capabilities to provide day-to-day portfolio
management services to the Fund. After reviewing the potential options, the
Advisor determined to recommend that Brookfield serve as the new sub-advisor for
the Fund. The Board considered that pursuant to the Investment Company Act of
1940, as amended ("1940 Act"), any sub-advisory agreement with a replacement
sub-advisor would require shareholder approval prior to such sub-advisor
assuming its duties. In light of the short amount of time available to the Fund
and the Advisor to find a suitable replacement for FIDAC and to obtain
shareholder approval of a new sub-advisory agreement, the Advisor proposed and
the Board approved at the Meeting the termination of the sub-advisory agreement
with FIDAC (the "FIDAC Sub-Advisory Agreement") effective April 29, 2011. The
termination of the FIDAC Sub-Advisory Agreement allowed the Fund to rely on Rule
15a-4 under the 1940 Act to enter into an interim sub-advisory agreement with a
successor sub-advisor without first obtaining shareholder approval during the
period while shareholder approval of a new sub-advisory agreement was sought.
Prior to the Meeting, Brookfield provided to the Board written responses to
questions posed by independent legal counsel on behalf of the Independent
Trustees. At the Meeting, representatives from Brookfield, including one of the
prospective portfolio managers for the Fund, made a presentation to the Board
and responded to questions. In their presentation, the Brookfield
representatives reviewed their investment process and stated that while they
generally concurred with the way the Fund had been managed by FIDAC, in light of
current market conditions and the Fund's holdings, they would intend to make
Page 25
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ADDITIONAL INFORMATION - (CONTINUED)
--------------------------------------------------------------------------------
FIRST TRUST MORTGAGE INCOME FUND
APRIL 30, 2011 (UNAUDITED)
certain changes to the Fund's portfolio. The Brookfield representatives also
discussed a proposed change to the Fund's investment policy with respect to
securities rated below "A." The Board then discussed the presentation and the
materials provided. The Board noted its familiarity with Brookfield, and
considered that Brookfield had transitioned into the role of sub-advisor to
three other First Trust closed-end funds also overseen by the Board after the
resignation of the funds' sub-advisor in 2009. The Independent Trustees then met
separately with their independent legal counsel to discuss the information
provided by Brookfield and the Advisor. Based on their consideration of all the
information received, the Trustees appointed Brookfield as the interim
sub-advisor to the Fund, pursuant to the Interim Sub-Advisory Agreement,
effective April 29, 2011. Also at the Meeting, the Board approved the New
Sub-Advisory Agreement and determined to recommend it to shareholders of the
Fund for their approval.
To reach its determinations as to the Agreements, the Board considered its
duties under the 1940 Act, as well as under the general principles of state law
in reviewing and approving advisory contracts; the requirements of the 1940 Act
in such matters; the fiduciary duty of investment advisors with respect to
advisory agreements and compensation; the standards used by courts in
determining whether investment company boards have fulfilled their duties; and
the factors to be considered by the Board in voting on such agreements. In its
evaluation of the Agreements, the Board considered a report from Brookfield
responding to a request for information from counsel to the Independent
Trustees. The report, among other things, outlined the services to be provided
by Brookfield to the Fund (including the relevant personnel responsible for
these services and their experience); the proposed sub-advisory fee for the Fund
as compared to fees charged to other clients of Brookfield; the potential for
economies of scale, if any; financial data on Brookfield; fall out benefits to
Brookfield; and a summary of Brookfield's compliance program. The Board applied
its business judgment to determine whether the proposed arrangements between the
Fund, the Advisor and Brookfield are reasonable business arrangements from the
Fund's perspective as well as from the perspective of shareholders.
In reviewing the Agreements, the Board considered the nature, quality and extent
of services to be provided by Brookfield under the Agreements. The Board
considered Brookfield's investment style and the backgrounds of the investment
personnel who would be responsible for the day-to-day management of the Fund.
The Board reviewed performance information provided by Brookfield for an
institutional separate account managed by Brookfield with a similar investment
strategy as will be used for the Fund. The Board also discussed with the
prospective portfolio manager the approach Brookfield planned to take in
transitioning the Fund's portfolio. In light of the information presented and
the considerations made, the Board concluded that the nature, quality and extent
of services to be provided to the Fund by Brookfield under the Agreements are
expected to be satisfactory.
The Board considered the sub-advisory fees to be paid under the Agreements. The
Board noted that the sub-advisory fee under the Agreements would be the same as
the fee paid under the FIDAC Sub-Advisory Agreement. The Board considered that
the sub-advisory fee was negotiated at arm's length between the Advisor and
Brookfield, an unaffiliated third party, and noted that the fees to be paid to
Brookfield would be paid by the Advisor from its advisory fee. The Board also
considered the advisory fees charged by Brookfield to other exchange-traded
closed-end funds it manages. The Board noted that the advisory fees charged by
Brookfield to these funds were higher than the sub-advisory fee under the
Agreements. On the basis of all the information provided, the Board concluded
that the sub-advisory fees to be paid under the Agreements were reasonable and
appropriate in light of the nature, quality and extent of services expected to
be provided by Brookfield under the Agreements.
The Board considered Brookfield's statement regarding its expected costs in
providing services to the Fund and the relation to the expected profitability of
the New Sub-Advisory Agreement to Brookfield. The Board noted that the overall
management fee structure reflects an appropriate level of sharing of any
economies of scale at current asset levels. The Board noted that Brookfield
currently does not intend to utilize soft dollars in connection with its
management of the Fund's portfolio, and did not anticipate any fall-out benefits
from its relationship with the Fund.
Based on all of the information considered and the conclusions reached, the
Board, including the Independent Trustees, determined that the terms of the
Agreements are fair and reasonable and that the approval of the Agreements is in
the best interests of the Fund. No single factor was determinative in the
Board's analysis.
Page 26
This Page Left Blank Intentionally.
This Page Left Blank Intentionally.
FIRST TRUST
INVESTMENT ADVISOR
First Trust Advisors L.P.
120 E. Liberty Drive, Suite 400
Wheaton, IL 60187
INVESTMENT SUB-ADVISOR
Brookfield Investment Management Inc.
3 World Financial Center
200 Vesey Street, 10th Floor
New York, NY 10281
ADMINISTRATOR,
FUND ACCOUNTANT &
TRANSFER AGENT
BNY Mellon Investment Servicing (US) Inc.
301 Bellevue Parkway
Wilmington, DE 19809
CUSTODIAN
PFPC Trust Company
8800 Tinicum Boulevard
Philadelphia, PA 19153
INDEPENDENT REGISTERED
PUBLIC ACCOUNTING FIRM
Deloitte & Touche LLP
111 S. Wacker Drive
Chicago, IL 60606
LEGAL COUNSEL
Chapman and Cutler LLP
111 W. Monroe Street
Chicago, IL 60603
[BLANK BACK COVER]
ITEM 2. CODE OF ETHICS.
Not applicable.
ITEM 3. AUDIT COMMITTEE FINANCIAL EXPERT.
Not applicable.
ITEM 4. PRINCIPAL ACCOUNTANT FEES AND SERVICES.
Not applicable.
ITEM 5. AUDIT COMMITTEE OF LISTED REGISTRANTS.
Not applicable.
ITEM 6. INVESTMENTS.
(a) Schedule of Investments in securities of unaffiliated issuers as of the
close of the reporting period is included as part of the report to
shareholders filed under Item 1 of this form.
(b) Not applicable.
ITEM 7. DISCLOSURE OF PROXY VOTING POLICIES AND PROCEDURES FOR CLOSED-END
MANAGEMENT INVESTMENT COMPANIES.
Not applicable.
ITEM 8. PORTFOLIO MANAGERS OF CLOSED-END MANAGEMENT INVESTMENT COMPANIES.
(a) NOT APPLICABLE.
(b)(1) IDENTIFICATION OF PORTFOLIO MANAGERS OR MANAGEMENT TEAM MEMBERS AND
DESCRIPTION OF ROLE OF PORTFOLIO MANAGERS OR MANAGEMENT TEAM MEMBERS
Information provided as of May 31, 2011.
On April 29, 2011, Brookfield Investment Management Inc. ("Brookfield") took
over the portfolio management of the Registrant pursuant to an interim
investment sub-advisory agreement. The portfolio management team of Brookfield
is led by Anthony Breaks and Chris Wu.
Anthony A. Breaks, CFA - Director. As co-Portfolio Manager of the Registrant,
Mr. Breaks is responsible for the day-to-day management of the Registrant's
portfolio. As a senior member of Brookfield's Structured Products Investment
Team, Mr. Breaks is one of four team leaders in mortgage-backed securities
("MBS")/asset-backed securities ("ABS") and is a member of the team's securities
analysis committee. Mr. Breaks has also managed structured product vehicles,
such as structured investment vehicles ("SIVs"), asset-backed commercial paper
("ABCP") and collateralized debt obligations ("CDOs") for Brookfield and has
experience in insurance company asset management. Mr. Breaks earned a Bachelor
of Science degree in Electrical Engineering from the Massachusetts Institute of
Technology. He holds the Chartered Financial Analyst designation.
Chris Wu - Director. Mr. Wu is a co-Portfolio Manager of the Registrant and is a
member of Brookfield's Structured Products Investment Team where he focuses on
Agency MBS. He is responsible for Brookfield's Agency MBS exposures. Mr. Wu
develops quantitative tools to formulate research and develop trading strategies
for Agency MBS exposures. Mr. Wu holds an MBA from New York University as well
as a Master of Science degree in Computer Science from the University of
Saskatchewan. He also earned a Bachelor of Economics degree from Huazhong
University of Science and Technology in China.
(2) OTHER ACCOUNTS MANAGED BY PORTFOLIO MANAGERS OR MANAGEMENT TEAM MEMBER
AND POTENTIAL CONFLICTS OF INTEREST
Information provided as of May 31, 2010.
# of Accounts Total Assets
Managed for which for which
Total Advisory Fee is Advisory Fee
Name of Portfolio Manager # of Accounts Based on is Based on
or Team Member Type of Accounts* Managed Total Assets Performance Performance
------------------------- --------------------------------- ------------- ------------ ----------------- ------------
1. Anthony Breaks Registered Investment Companies: 3 $139 million 0 $ 0
--------------------------------
Other Pooled Investment Vehicles: 2 $420 million 0 $ 0
---------------------------------
Other Accounts: 0 $ 0 0 $ 0
---------------
2. Chris Wu Registered Investment Companies: 0 $ 0 0 $ 0
--------------------------------
Other Pooled Investment Vehicles: 0 $ 0 0 $ 0
---------------------------------
Other Accounts: 0 $ 0 0 $ 0
---------------
POTENTIAL CONFLICTS OF INTERESTS
Allocation of Limited Time and Attention. A portfolio manager who is responsible
for managing multiple funds and/or accounts may devote unequal time and
attention to the management of those funds and/or accounts. As a result, the
portfolio manager may not be able to formulate as complete a strategy or
identify equally attractive investment opportunities for each of those accounts
as the case may be if he or she were to devote substantially more attention to
the management of a single fund. The effects of this potential conflict may be
more pronounced where funds and/or accounts overseen by a particular portfolio
manager have different investment strategies.
Allocation of Limited Investment Opportunities. If a portfolio manager
identifies a limited investment opportunity that may be suitable for multiple
funds and/or accounts, the opportunity may be allocated among these several
funds or accounts, which may limit a client's ability to take full advantage of
the investment opportunity.
Pursuit of Differing Strategies. At times, a portfolio manager may determine
that an investment opportunity may be appropriate for only some of the funds
and/or accounts for which he or she exercises investment responsibility, or may
decide that certain of the funds and/or accounts should take differing positions
with respect to a particular security. In these cases, the portfolio manager may
place separate transactions for one or more funds or accounts which may affect
the market price of the security or the execution of the transaction, or both,
to the detriment or benefit of one or more other funds and/or accounts.
Variation in Compensation. A conflict of interest may arise where the financial
or other benefits available to the portfolio manager differ among the funds
and/or accounts that he or she manages. If the structure of the investment
adviser's management fee and/or the portfolio manager's compensation differs
among funds and/or accounts (such as where certain funds or accounts pay higher
management fees or performance-based management fees), the portfolio manager
might be motivated to help certain funds and/or accounts over others. The
portfolio manager might be motivated to favor funds and/or accounts in which he
or she has an interest or in which the investment advisor and/or its affiliates
have interests. Similarly, the desire to maintain or raise assets under
management or to enhance the portfolio manager's performance record or to derive
other rewards, financial or otherwise, could influence the portfolio manager to
lend preferential treatment to those funds and/or accounts that could most
significantly benefit the portfolio manager.
Related Business Opportunities. The investment adviser or its affiliates may
provide more services (such as distribution or recordkeeping) for some types of
funds or accounts than for others. In such cases, a portfolio manager may
benefit, either directly or indirectly, by devoting disproportionate attention
to the management of fund and/or accounts that provide greater overall returns
to the investment manager and its affiliates.
Brookfield has adopted compliance policies and procedures that are designed to
address the various conflicts of interest that may arise for it and the
individuals that it employs. For example, Brookfield seeks to minimize the
effects of competing interests for the time and attention of portfolio managers
by assigning portfolio managers to manage funds and accounts that share a
similar investment style. Brookfield also has adopted trade allocation
procedures that are designed to facilitate the fair allocation of limited
investment opportunities among multiple funds and accounts.
(3) COMPENSATION STRUCTURE OF PORTFOLIO MANAGERS OR MANAGEMENT TEAM MEMBERS
PORTFOLIO MANAGER COMPENSATION
Information provided as of May 31, 2011.
The Registrant's portfolio managers are compensated by Brookfield. Brookfield
compensates its portfolio managers based on the scale and complexity of their
portfolio responsibilities, the total return performance of funds and accounts
managed by the portfolio manager on an absolute basis and versus appropriate
peer groups of similar size and strategy, as well as the management skills
displayed in managing their subordinates and the teamwork displayed in working
with other members of the firm. Since the portfolio managers are responsible for
multiple funds and accounts, investment performance is evaluated on an aggregate
basis almost equally weighted among performance, management and teamwork. Base
compensation for Brookfield's portfolio managers varies in line with a portfolio
manager's seniority and position. The compensation of portfolio managers with
other job responsibilities (such as acting as an executive officer of Brookfield
or supervising various departments) includes consideration of the scope of such
responsibilities and the portfolio manager's performance in meeting them.
Brookfield seeks to compensate portfolio managers commensurate with their
responsibilities and performance, and competitive with other firms within the
investment management industry. Salaries, bonuses and stock-based compensation
also are influenced by the operating performance of Brookfield and its parent
company, Brookfield Asset Management Inc. While the salaries of Brookfield's
portfolio managers are comparatively fixed, cash bonuses and stock-based
compensation may fluctuate significantly from year to year. Bonuses are
determined on a discretionary basis by the senior executives of Brookfield and
measured by individual and team-oriented performance guidelines. The amount of
the Long Term Incentive Plan (LTIP) is approved by the board of directors
annually and there is a rolling vesting schedule to aid in retention of key
people. A key component of this program is achievement of client objectives in
order to properly align interests with our clients. Further, the incentive
compensation of all investment personnel who work on each strategy is directly
tied to the relative performance of the strategy and its clients.
The compensation structure of Brookfield's portfolio managers and other
investment professionals has three primary components:
o A base salary,
o An annual cash bonus; and
o If applicable, long-term compensation consisting of restricted stock
units or stock options of Brookfield's ultimate parent company,
Brookfield Asset Management Inc.
o If applicable, long-term compensation consisting of interests in
hedge funds managed by the investment professional.
The portfolio managers also receive certain retirement, insurance and other
benefits that are broadly available to all of Brookfield's employees.
Compensation of the portfolio managers is reviewed on an annual basis by senior
management.
(4) DISCLOSURE OF SECURITIES OWNERSHIP
Information provided as of May 31, 2010
Dollar Range of Fund
Name Shares Beneficially Owned
-------------- -------------------------
Anthony Breaks $ 0
Chris Wu $ 0
ITEM 9. PURCHASES OF EQUITY SECURITIES BY CLOSED-END MANAGEMENT INVESTMENT
COMPANY AND AFFILIATED PURCHASERS.
Not applicable.
ITEM 10. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS.
There have been no material changes to the procedures by which the shareholders
may recommend nominees to the registrant's board of directors, where those
changes were implemented after the registrant last provided disclosure in
response to the requirements of Item 407(c)(2)(iv) of Regulation S-K (17 CFR
229.407) (as required by Item 22(b)(15) of Schedule 14A (17 CFR 240.14a-101)),
or this Item.
ITEM 11. CONTROLS AND PROCEDURES.
(a) The registrant's principal executive and principal financial officers, or
persons performing similar functions, have concluded that the
registrant's disclosure controls and procedures (as defined in Rule
30a-3(c) under the Investment Company Act of 1940, as amended (the "1940
Act") (17 CFR 270.30a-3(c))) are effective, as of a date within 90 days
of the filing date of the report that includes the disclosure required by
this paragraph, based on their evaluation of these controls and
procedures required by Rule 30a-3(b) under the 1940 Act (17 CFR
270.30a-3(b)) and Rules 13a-15(b) or 15d-15(b) under the Securities
Exchange Act of 1934, as amended (17 CFR 240.13a-15(b) or 240.15d-15(b)).
(b) There were no changes in the registrant's internal control over financial
reporting (as defined in Rule 30a-3(d) under the 1940 Act (17 CFR
270.30a-3(d)) that occurred during the registrant's second fiscal quarter
of the period covered by this report that has materially affected, or is
reasonably likely to materially affect, the registrant's internal control
over financial reporting.
ITEM 12. EXHIBITS.
(a)(1) Not applicable.
(a)(2) Certifications pursuant to Rule 30a-2(a) under the 1940 Act and
Section 302 of the Sarbanes-Oxley Act of 2002 are attached hereto.
(a)(3) Not applicable.
(b) Certifications pursuant to Rule 30a-2(b) under the 1940 Act and
Section 906 of the Sarbanes-Oxley Act of 2002 are attached hereto.
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934 and the
Investment Company Act of 1940, the registrant has duly caused this report to be
signed on its behalf by the undersigned, thereunto duly authorized.
(registrant) First Trust Mortgage Income Fund
----------------------------------------------------
By (Signature and Title)* /s/ James A. Bowen
-------------------------------------------------------
James A. Bowen, Chairman of the Board, President and
Chief Executive Officer
(principal executive officer)
Date: June 20, 2011
------------------
Pursuant to the requirements of the Securities Exchange Act of 1934 and the
Investment Company Act of 1940, this report has been signed below by the
following persons on behalf of the registrant and in the capacities and on the
dates indicated.
By (Signature and Title)* /s/ James A. Bowen
-------------------------------------------------------
James A. Bowen, Chairman of the Board, President and
Chief Executive Officer
(principal executive officer)
Date: June 20, 2011
------------------
By (Signature and Title)* /s/ Mark R. Bradley
-------------------------------------------------------
Mark R. Bradley, Treasurer, Chief Financial Officer
and Chief Accounting Officer
(principal financial officer)
Date: June 20, 2011
------------------
* Print the name and title of each signing officer under his or her signature.