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 811-21102
THE HYPERION STRATEGIC MORTGAGE INCOME FUND, INC.
(Exact name of registrant as specified in charter)
ONE LIBERTY PLAZA, 165 BROADWAY, 36TH FLOOR
NEW YORK, NEW YORK 10006-1404
(Address of principal executive offices) (Zip code)
CLIFFORD E. LAI, PRESIDENT
THE HYPERION STRATEGIC MORTGAGE INCOME FUND, INC.
ONE LIBERTY PLAZA, 165 BROADWAY, 36TH FLOOR
NEW YORK, NEW YORK, 10006-1404
(Name and address of agent for service)
Registrant's telephone number, including area code: 1 (800) Hyperion
Date of fiscal year end: November 30
Date of reporting period: November 30, 2004
Item 1. Reports to Shareholders.
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November 30, 2004
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THE HYPERION STRATEGIC MORTGAGE INCOME FUND, INC.
Portfolio Composition
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The chart that follows shows the allocation of the Fund's holdings by asset
category as of November 30, 2004.
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THE HYPERION STRATEGIC MORTGAGE INCOME FUND, INC.
Portfolio of Investments As of November 30, 2004*
[GRAPHIC OMITTED]
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* As a percentage of total investments.
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THE HYPERION STRATEGIC MORTGAGE INCOME FUND, INC.
Report of the Investment Advisor
For the Year Ended November 30, 2004
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Dear Shareholder:
We welcome this opportunity to provide you with information about The Hyperion
Strategic Mortgage Income Fund, Inc. (the "Fund"), for the fiscal year ended
November 30, 2004. The Fund is a closed-end bond fund whose shares are traded on
the New York Stock Exchange ("NYSE") under the symbol "HSM. "
Description of the Fund
The Fund is a diversified closed-end management investment company. The Fund's
primary investment objective is to provide a high level of current income by
investing primarily in mortgage-backed securities that offer an attractive
combination of credit quality, yield and maturity. The Fund's secondary
investment objective is to provide capital appreciation. Under normal market
conditions, the Fund will invest at least 80% of its total assets in
investment-grade mortgage-backed securities ("MBS") including Agency MBS,
Non-Agency Residential MBS ("RMBS"), and Commercial MBS ("CMBS"), and may invest
up to 20% of its total assets in U.S. Government securities, cash or other
short-term instruments.
Portfolio Performance
For the fiscal year ending November 30, 2004, shareholders realized a total
investment return of 9.10%, which assumes the reinvestment of dividends and is
exclusive of brokerage commissions. Based on the NYSE closing price of $14.61 on
November 30, 2004, the Fund's shares had a current yield of 8.87%.
As of November 30, 2004, the Fund, inclusive of the effect of leverage, was
managed with an average duration (a bond's duration is the weighted average
number of years until maturity of all its cash flows, including coupon payments
and principal) of 2.6 years, as measured on a net asset basis.
Market Environment
The economy picked up in the fourth quarter. Employment growth surged as
measured by a sharp rise in the October Non-Farm Payroll report. The improved
employment picture led to a rise in consumer confidence, strong Christmas sales
and higher corporate profits. Continued low, longer-term fixed mortgage rates
kept home sales strong, but car sales tapered. The spike in oil prices peaked in
late October and is now no longer viewed as a restraint on further economic
expansion. The rise in consumer spending continued to exacerbate the trade
deficit. Fiscal policies, including funding the Iraq war effort drove the
capital budget further into deficit. While the latter resulted in an increase in
Treasury issuance, the primary impact on the markets was a continuation of the
four-year decline in the US dollar.
The more robust economic outlook, the decline in the US dollar, and the relief
from lower oil prices, all allowed the Fed to continue to raise Federal Reserve
Funds at the "moderate" pace that they first outlined during the summer. The
Federal Reserve raised interest rates by 25 basis points at both the November 10
and December 14 meetings, and they have made clear their intention to raise them
another 25 basis points in February.
Our long-term concern about the markets is the twin budget and trade deficits,
which are both growing to record levels. While this may lead to longer-term,
higher interest rates as the government finances the deficit, it is immediately
resulting in a weaker US dollar, as non-US investors, who generally buy a large
portion of Treasury Securities, demand higher interest rates. Our view is that
the US dollar will weaken further through the middle of 2005. This will have at
least two immediate impacts on sectors to which the Fund has exposure. First, a
weaker US dollar will lead to a rise in the cost of imported goods. This may
decrease consumer spending (with corporate profit implications) and may impact
the level of retail sales, which is of issue to our CMBS positions. Second, a
further weakening of the US dollar will result in commercial office space being
even more attractive to the European investors that invest so much in that
sector.
Generally, we believe that short term interest rates will continue to rise with
Federal Reserve Funds reaching 3% during 2005, however, longer term interest
rates may very well stabilize around current levels.
Portfolio Strategy
The performance of the investment-grade commercial and residential MBS were
relatively stable. Sectors such as manufactured housing (MH) and sub-prime RMBS
outperformed the market which benefited the Fund's performance. Yield spreads on
BB rated issues tightened dramatically across the board, which was the primary
driver of excess return during the review period.
FN Commercial MBS Residential Subs HY-BB - Sal MH Home Equity
----------------- ------------------ ----------- ------------ -------------
Month 10-yr Swaps 6.5 AA A BBB BB AA A BBB BB BB AA A BBB AA A BBB
----- ------ ----- ---- -- ---- --- ---- ---- ---- --- ---- --------- ----- ----- --- ---- ---- ---
10/31/2003... 4.30 43 42 81 90 136 441 145 165 245 420 275 292 417 542 188 233 392
8/31/2004.... 4.13 45 45 81 90 130 374 135 155 210 375 235 215 295 420 170 211 232
10/31/2004... 4.03 43 44 81 88 129 350 136 156 210 365 225 185 250 375 158 186 227
Oct '04-Oct'03.. (0.27) (1) 2 0 (2) (7) (91) (9) (9) (35) (55) (50) (107) (167)(167) (31) (47) (165)
Oct '04-Aug'04.. (0.10) (3) (2) 0 (2) (1) (24) 1 1 0 (10) (10) (30) (45) (45) (13) (25) (5)
Low interest rates resulted in prepayments to the RMBS sector to the point where
several issues were called. This resulted in a reduction of the Fund's
allocation to RMBS securities. To offset this reduction, we increased our
exposure to the pass-through sector, primarily in 6.5% Federal National Mortgage
Association Securities ("FNMA"). With the addition of the pass-throughs, the AAA
rated allocation increased for the fiscal year.
While we added to the BB rated allocation, the exposure to allocations under BBB
rated actually decreased from 18% to 17.5%, as issues either prepaid or were
upgraded to investment-grade. Within the BB rated allocation, we remain heavily
skewed toward RMBS. Over time, we hope to add to the CMBS sector via an
allocation to rated B- Notes.
The only sale during the quarter was a sale of a BBB rated sub-prime RMBS issue
that had tightened dramatically.
We remain nearly fully leveraged to take advantage of the steepness in the yield
curve, but we are maintaining greater than 75% of the leveraged portion of the
Fund in floating-rate securities or securities hedged to a 2.5 year duration
using interest rate swaps.
The duration of the Fund has been running between 3.5 and 4.0 years. Should
interest rates increase and mortgage prepayments slow, we expect the duration to
extend slightly However, we are comfortable that the duration will not extend
dramatically.
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THE HYPERION STRATEGIC MORTGAGE INCOME FUND, INC.
Report of the Investment Advisor
For the Year Ended November 30, 2004
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Conclusion
We remain committed to the Fund and its shareholders. As always, we will
continue to actively seek out investment opportunities in the market and act on
them in a timely fashion in an effort to achieve the Fund's objectives. We
welcome your questions and comments, and encourage you to contact our
Shareholder Services Representatives at 1-800-HYPERION.
We appreciate the opportunity to serve your investment needs.
Sincerely,
/s/ Clifford E. Lai
CLIFFORD E. LAI
President,
The Hyperion Strategic Mortgage Income Fund, Inc.
President and Chief Executive Officer,
Hyperion Capital Management, Inc.
/s/ John H. Dolan
JOHN H. DOLAN
Vice President,
The Hyperion Strategic Mortgage Income Fund, Inc.
Chief Investment Officer,
Hyperion Capital Management, Inc.
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THE HYPERION STRATEGIC MORTGAGE INCOME FUND, INC.
Portfolio of Investments
November 30, 2004
Principal
Interest Amount Value
Rate Maturity (000s) (Note 2)
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U.S. GOVERNMENT & AGENCY OBLIGATIONS - 66.8% U.S. Government Agency Pass-Through
Certificates - 58.2%
Federal Home Loan Mortgage Corporation
Pool C68878............................................ 7.00% 06/01/32 $ 618# $ 656,029
Pool C69047............................................ 7.00 06/01/32 1,432 1,518,330
Pool G01466............................................ 9.50 12/01/22 1,897 2,136,855
Pool 555559............................................ 10.00 03/01/21 2,007 2,250,206
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6,561,420
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Federal National Mortgage Association
Pool 694391............................................ 5.50 03/01/33 4,868@ 4,931,945
Pool 753914............................................ 5.50 12/01/33 12,052@ 12,210,996
Pool 754355............................................ 6.00 12/01/33 8,818@ 9,112,593
Pool 761836............................................ 6.00 06/01/33 6,857@ 7,081,594
Pool 763643............................................ 6.00 01/01/34 9,147@ 9,450,754
Pool 255413............................................ 6.50 10/01/34 14,683@ 15,417,867
Pool 323982............................................ 6.50 10/01/06 552 563,817
Pool 626299............................................ 7.00 06/01/32 1,054 1,118,161
Pool 635095............................................ 7.00 06/01/32 1,464 1,552,265
Pool 641575............................................ 7.00 04/01/32 719 763,037
Pool 645399............................................ 7.00 05/01/32 3,254 3,450,952
Pool 645466............................................ 7.00 05/01/32 3,281@ 3,479,626
Pool 650131............................................ 7.00 07/01/32 1,767 1,875,167
Pool 398800............................................ 8.00 06/01/12 943 1,004,985
Pool 636449............................................ 8.50 04/01/32 4,055 4,398,777
Pool 458132............................................ 9.41 03/15/31 2,639@ 2,971,456
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79,383,992
Total U.S. Government Agency Pass-Through Certificates --------------
(Cost - $85,488,212).............................. 85,945,412
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U.S. Treasury Obligations - 8.6%
United States Treasury Notes
............................................................ 3.50 08/15/09 3,300@ 3,275,894
............................................................ 4.25 11/15/14 9,500@ 9,418,357
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Total U.S. Treasury Obligations
(Cost - $12,845,575)............................... 12,694,251
--------------
Total U.S. Government & Agency Obligations
(Cost - $98,333,787)............................... 98,639,663
--------------
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ASSET-BACKED SECURITIES - 28.0%
Housing Related Asset-Backed Securities - 26.6%
Argent Securities, Inc.
Series 2004-W3, Class M5*(a)............................. 4.48+ 02/25/34 1,200 930,592
Asset Backed Funding Corp.
Series 2003-OPT1, Class M4(a)............................ 4.98+ 07/25/33 3,000 3,066,723
Equity One ABS, Inc.
Series 2003-4, Class B2.................................. 6.93+ 11/25/33 1,000 1,006,542
First Franklin Mortgage Loan Asset Backed Certificates
Series 2004-FF4, Class M2(a)............................. 3.43+ 06/25/34 2,000 1,999,842
Series 2003-FF4, Class M4(a)............................. 5.08+ 10/25/33 3,000 3,098,649
Series 2003-FF1, Class M4(a)............................. 5.18+ 03/25/33 2,000 2,032,642
Series 2003-FFH1, Class M4(a)............................ 5.68+ 09/25/33 4,740 4,889,225
Series 2004-FFH1, Class B*(a)............................ 5.68+ 03/25/34 1,550 1,349,673
------------
See notes to financial statements.
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THE HYPERION STRATEGIC MORTGAGE INCOME FUND, INC.
Portfolio of Investments
November 30, 2004
Principal
Interest Amount Value
Rate Maturity (000s) (Note 2)
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ASSET-BACKED SECURITIES (continued)
Series 2004-FF2, Class B*(a)............................. 5.68%+ 03/25/34 $ 900 $ 784,641
Series 2004-FFH2C, Class B1*(a).......................... 5.68+ 06/25/34 1,250 1,054,774
--------------
15,209,446
Green Tree Financial Corp. --------------
Series 1997-6, Class B1.................................. 7.17 01/15/29 5,000 1,006,250
Series 1997-3, Class M1.................................. 7.53 03/15/28 2,000 1,280,000
--------------
2,286,250
Long Beach Mortgage Loan Trust ---------------
Series 2004-3, Class M9(a)............................... 5.18+ 07/25/34 2,500 2,491,168
Series 2002-5, Class M3(a)............................... 5.43+ 11/25/32 2,500 2,547,495
--------------
5,038,663
Mid-State Trust ---------------
Series 2004-1, Class M2.................................. 8.11 08/15/37 1,872 1,893,880
Structured Asset Investment Loan Trust
Series 2003-BC8, Class M2(a)............................. 3.93+ 08/25/33 3,000 3,038,541
Series 2004-10, Class M7(a).............................. 4.68+ 11/25/34 2,000 1,800,518
Series 2004-7, Class B(a)................................ 4.68+ 08/25/34 2,161 1,852,714
Series 2004-8, Class B1(a)............................... 4.68+ 09/25/34 1,000 951,836
Series 2004-4, Class B*(b)............................... 5.00/5.50 04/25/34 1,500 1,296,498
Series 2004-2, Class B*(a)............................... 5.18+ 03/25/34 1,074 972,643
--------------
9,912,750
Total Housing Related Asset-Backed Securities --------------
(Cost - $39,523,784)................................ 39,344,846
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Non-Housing Related Asset-Backed Securities - 1.4%
Airplanes Pass Through Trust
Series 1R, Class A8
(Cost - $2,011,459)................................. 2.47+ 03/15/19 2,375 2,066,567
--------------
Total Asset-Backed Securities
(Cost - $41,535,243)................................ 41,411,413
--------------
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COMMERCIAL MORTGAGE BACKED SECURITIES - 28.6%
Bear Stearns Commercial Mortgage Securities
Series 1999-C1, Class G*................................. 5.64 02/14/31 2,390 1,760,250
Series 1999-C1, Class D.................................. 6.53 02/14/31 2,500 2,720,750
Series 2000-WF1, Class E................................. 8.16+ 02/15/32 2,000 2,284,880
--------------
6,765,880
Chase Commercial Mortgage Securities Corp.
Series 2000-2, Class I*.................................. 6.65 07/15/32 1,000 712,000
GE Capital Commercial Mortgage Corp.
Series 2002-2A, Class G*................................. 6.04 08/11/36 3,000 3,154,296
Series 2000-1, Class G*.................................. 6.13 01/15/33 1,000 645,200
Series 2002-2A, Class H*................................. 6.31 08/11/36 2,000 2,103,066
Series 2000-1, Class E................................... 7.43+ 01/15/33 1,000 1,076,510
--------------
6,979,072
Government Lease Trust
Series 1999-C1A, Class B3*............................... 4.00 05/18/11 2,500 2,287,685
JP Morgan Chase Commercial Mortgage Securities
Series 2003-LN1, Class G*................................ 5.65+ 10/15/37 1,600 1,613,606
------------
See notes to financial statements.
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THE HYPERION STRATEGIC MORTGAGE INCOME FUND, INC.
Portfolio of Investments
November 30, 2004
Principal
Interest Amount Value
Rate Maturity (000s) (Note 2)
---------------------------------------------------------------------------------------------------------------------
COMMERCIAL MORTGAGE BACKED SECURITIES (continued)
JP Morgan Commercial Mortgage Finance Corp.
Series 1999-C7, Class F*................................ 6.00% 10/15/35 $ 2,000 $ 2,079,340
LB-UBS Commercial Mortgage Trust
Series 2004-C8, Class G*................................ 5.09% 12/15/39 $ 1,173 $ 1,178,827
Morgan Stanley Capital I 6.66 02/15/33 4,500 5,000,810
Series 2001-TOP1, Class A4..............................
Series 1999-WF1, Class E................................ 7.18+ 11/15/31 5,500 6,034,149
Series 1999-FNV1, Class E............................... 7.71+ 03/15/31 2,000 2,218,440
--------------
13,253,399
Nationslink Funding Corp.
Series 1998-2, Class E.................................. 7.11 08/20/30 4,000 4,376,396
UBS 400 Atlantic Street Mortgage Trust
Series 2002-C1A, Class B3*.............................. 7.19 01/11/22 2,000 2,209,020
Wachovia Bank Commercial Mortgage Trust
Series 2004-WL4A, Class H*.............................. 2.95+ 10/15/15 700 699,395
--------------
Total Commercial Mortgage Backed Securities
(Cost - $41,156,700)............................... 42,154,620
--------------
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NON-AGENCY RESIDENTIAL MORTGAGE BACKED SECURITIES - 24.2%
Subordinated Collateralized Mortgage Obligations - 24.2%
ABN AMRO Mortgage Corp.
Series 2002-7, Class B2................................. 6.20+ 09/25/32 1,049 1,046,589
Bank of America Alternative Loan Trust
Series 2004-3, Class 30B4............................... 5.50 04/25/34 1,009 795,262
Series 2004-3, Class 30B5............................... 5.50 04/25/34 706 393,324
--------------
1,188,586
Bank of America Mortgage Securities, Inc. --------------
Series 2004-A, Class B4................................. 3.94+ 02/25/34 2,062 1,771,930
Series 2002-H, Class B4................................. 4.71+ 08/25/32 262 253,783
Series 2002-H, Class B5................................. 4.71+ 08/25/32 175 167,334
Series 2002-H, Class B6................................. 4.71+ 08/25/32 437 367,339
Series 2003-10, Class 1B4............................... 5.50 01/25/34 565 486,596
Series 2002-10, Class 1B3............................... 6.00 11/25/32 1,463 1,473,307
Series 2002-9, Class 1B3................................ 6.25 10/25/32 1,755 1,756,736
Series 2002-9, Class 1B4................................ 6.25 10/25/32 1,170 1,170,858
--------------
7,447,883
Cendant Mortgage Corp. --------------
Series 2002-4, Class B1.................................. 6.50 07/25/32 2,623 2,657,397
Series 2002-4, Class B2.................................. 6.50 07/25/32 1,049 1,062,434
Series 2002-4, Class B3.................................. 6.50 07/25/32 612 617,173
Series 2002-4, Class B4.................................. 6.50 07/25/32 350 336,481
Series 2002-4, Class B5.................................. 6.50. 07/25/32 262 233,209
Series 2002-4, Class B6*................................. 6.50 07/25/32 350 244,839
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5,151,533
G3 Mortgage Reinsurance Ltd.
Series 1, Class E*....................................... 22.18+ 05/25/08 4,158 4,470,385
JP Morgan Mortgage Trust
Series 2003-A1, Class B4................................. 4.50+ 10/25/33 537 399,998
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See notes to financial statements.
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THE HYPERION STRATEGIC MORTGAGE INCOME FUND, INC.
Portfolio of Investments
November 30, 2004
Principal
Interest Amount Value
Rate Maturity (000s) (Note 2)
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NON-AGENCY RESIDENTIAL MORTGAGE BACKED SECURITIES (continued)
Residential Finance Limited Partnership
Series 2002-A, Class B7................................... 7.79%+ 10/10/34. $ 1,959 $ 1,995,803
Residential Funding Mortgage Securities I, Inc.
Series 2004-S1, Class B2.................................. 5.25 02/25/34 457 292,078
Series 2003-S7, Class B3.................................. 5.50 05/25/33 324 219,336
Series 2003-S7, Class B2.................................. 5.50 05/25/33 534 192,401
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703,815
Resix Finance Limited Credit-Linked Note --------------
Series 2004-C, Class B7*.................................. 5.59+ 09/10/36 998 997,794
Series 2004-B, Class B8*.................................. 6.84+ 02/10/36 810 812,891
Series 2004-B, Class B9*.................................. 10.30+ 02/10/36 1,241 1,250,302
Series 2004-A, Class B10*................................. 13.80+ 02/10/36 495 507,106
--------------
3,568,093
Structured Asset Mortgage Investments, Inc. --------------
Series 2002-AR1, Class B4................................. 4.44+ 03/25/32. 939 901,120
Washington Mutual Mortgage Securities Corp.
Series 2002-AR12, Class B4................................ 4.71+ 10/25/32 1,209 1,173,997
Series 2002-AR12, Class B5................................ 4.71+ 10/25/32 907 853,532
Series 2002-AR12, Class B6................................ 4.71+ 10/25/32 1,513 1,119,808
Series 2002-AR10, Class B4*............................... 4.98+ 10/25/32 1,381 1,347,520
Series 2002-AR10, Class B5*............................... 4.98+ 10/25/32 1,035 979,655
Series 2002-AR10, Class B6*............................... 4.98+ 10/25/32 1,728 1,278,621
Series 2002-AR11, Class B5................................ 5.14+ 10/25/32 816 783,648
Series 2002-AR11, Class B6................................ 5.14+ 10/25/32 1,361 962,255
--------------
8,499,036
Wells Fargo Mortgage Backed Securities Trust --------------
Series 2002, Class B5..................................... 6.00 06/25/32 365 328,672
--------------
Total Subordinated Collateralized Mortgage Obligations
(Cost - $33,468,105)................................. 35,701,513
--------------
Total Non-Agency Residential Mortgage Backed Securities
(Cost - $33,468,105).................................
35,701,513
--------------
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SHORT TERM INVESTMENTS - 1.0%
Short Term Investments - 1.0%
Federal Home Loan Bank Consolidated Dsc Note(c)
(Cost - $1,500,000).................................. 1.88 12/01/04 1,500 1,500,000
---------------------------------------------------------------------------------------------------------------------
Total Investments - 148.6%
(Cost - $215,993,835)................................ 219,407,209
Liabilities in Excess of Other
Assets - (48.6)%............................................ (71,761,993)
--------------
NET ASSETS - 100.0%........................................... $ 147,645,216
==============
---------------------------------------------------------------------------------------------------------------------
------------
See notes to financial statements.
+ -- Variable Rate Security -- Interest rate is the rate in effect November 30, 2004.
* -- Security exempt from registration under Rule 144A of the Securities Act of 1933. These securities
may only be resold in transactions exempt from registration, normally to qualified
institutional buyers.
(a) -- Security is a "step up" bond where coupon increases or steps up at a predetermined date.
At that date these coupons increase to LIBOR plus a predetermined margin
(b) -- Security is a "step up" bond where coupon increases or steps up at a predetermined date. Rates
shown are current coupon and next coupon rate when security steps up.
(c) -- Zero Coupon Note -- Interest rate represents current yield to maturity.
@ -- Portion or entire principal amount delivered as collateral for reverse repurchase agreements (Note 5).
# -- Portion or entire principal amount is held as collateral for open futures contracts (Note 7).
--------------------------------------------------------------------------------------------------------------------
THE HYPERION STRATEGIC MORTGAGE INCOME FUND, INC.
Statement of Assets and Liabilities
November 30, 2004
--------------------------------------------------------------------------------------------------------------------
Assets:
Investments in securities, at market (cost $215,993,835) (Note 2)............................. $ 219,407,209
Cash.......................................................................................... 373,678
Interest receivable........................................................................... 1,000,314
Receivable for investments sold............................................................... 2,201,410
Receivable due from transfer agent............................................................ 234
Principal paydowns receivable................................................................. 152,796
Unrealized appreciation on swap contracts (Note 7)............................................ 64,453
Prepaid expenses and other assets............................................................. 13,917
----------------
Total assets.............................................................................. 223,214,011
----------------
Liabilities:
Reverse repurchase agreements (Note 5)........................................................ 72,501,750
Interest payable for reverse repurchase agreements (Note 5)................................... 41,955
Payable for investments purchased............................................................. 2,674,174
Investment advisory fee payable (Note 3)...................................................... 78,011
Payable for variation margin.................................................................. 100,972
Administration fee payable (Note 3)........................................................... 28,664
Directors' fees payable....................................................................... 19,000
Accrued expenses and other liabilities........................................................ 124,269
----------------
Total liabilities......................................................................... 75,568,795
----------------
Net Assets (equivalent to $14.56 per share based on 10,142,636 shares issued and outstanding)... $ 147,645,216
================
Composition of Net Assets:
Capital stock, at par value ($.01) (Note 6)................................................... $ 101,426
Additional paid-in capital (Note 6)........................................................... 144,128,943
Accumulated undistributed net investment income............................................... 1,107,938
Accumulated net realized loss................................................................. (1,170,595)
Net unrealized appreciation................................................................... 3,477,504
----------------
Net assets applicable to capital stock outstanding............................................ $ 147,645,216
================
------------
See notes to financial statements.
-------------------------------------------------------------------------------------------------------------------
THE HYPERION STRATEGIC MORTGAGE INCOME FUND, INC.
Statement of Operations
November 30, 2004
-------------------------------------------------------------------------------------------------------------------
Investment Income (Note 2):
Interest........................................................................................ $ 14,841,470
--------------
Expenses:
Investment advisory fee (Note 3)................................................................ 958,946
Administration fee (Note 3)..................................................................... 299,721
Insurance....................................................................................... 146,646
Custodian....................................................................................... 78,689
Reports to shareholders......................................................................... 91,704
Accounting and tax services..................................................................... 95,317
Transfer agency................................................................................. 28,083
Directors' fees................................................................................. 65,438
Legal........................................................................................... 31,008
Registration fees............................................................................... 25,123
Miscellaneous................................................................................... 24,163
--------------
Total operating expenses.................................................................... 1,844,838
--------------
Interest expense on reverse repurchase agreements (Note 5)............................... 851,827
--------------
Total expenses.............................................................................. 2,696,665
--------------
Net investment income........................................................................... 12,144,805
--------------
Realized and Unrealized Gain (Loss) on Investments (Notes 2 and 7):
Net realized gain (loss) on:
Investment transactions......................................................................... 2,727,280
Short sales..................................................................................... (38,016)
Futures transactions............................................................................ 207,539
Swap contracts.................................................................................. (499,401)
--------------
Net realized gain on investment transactions, short sales, futures transactions
and swap contracts 2,397,402 Net change in unrealized appreciation/depreciation
on:
Investments..................................................................................... (206,019)
Futures......................................................................................... 77,846
Swap contracts.................................................................................. 174,945
--------------
Net change in unrealized appreciation/depreciation on investments, futures and swap contracts..... 46,772
--------------
Net realized and unrealized gain on investments, short sales, futures and swap contracts.......... 2,444,174
--------------
Net increase in net assets resulting from operations.............................................. $ 14,588,979
==============
------------
See notes to financial statements.
-------------------------------------------------------------------------------------------------------------------
THE HYPERION STRATEGIC MORTGAGE INCOME FUND, INC.
Statements of Changes in Net Assets
-------------------------------------------------------------------------------------------------------------------
For the Year For the Year
Ended Ended
November 30, 2004 November 30, 2003*
---------------------------------------------------------------------------------------------------------------------
Increase (Decrease) in Net Assets Resulting from Operations:
Net investment income.................................................... $ 12,144,805 $ 12,393,550
Net realized gain on investment transactions, short sales, futures
transactions and swap contracts......................................... 2,397,402 93,417
Net change in unrealized appreciation/depreciation on investments,
futures and swap contracts.............................................. 46,772 3,869,837
--------------- ---------------
Net increase in net assets resulting from operations..................... 14,588,979 16,356,804
--------------- ---------------
Dividends to Shareholders (Note 2):
Net investment income.................................................... (13,144,369) (13,140,962)
--------------- ---------------
Capital Stock Transactions (Note 6):
Net asset value of shares issued through dividend reinvestment (1,416 and
2,924 shares, respectively)............................................. 20,761 42,722
--------------- ---------------
Net increase from capital stock transactions............................. 20,761 42,722
--------------- ---------------
Total increase in net assets......................................... 1,465,371 3,258,564
Net Assets:
Beginning of period...................................................... 146,179,845 142,921,281
--------------- ---------------
End of period (including undistributed net investment income of
$1,107,938 and $1,159,112, respectively)................................ $ 147,645,216 $ 146,179,845
=============== ===============
----------
* Certain amounts have been reclassified to conform to current year presentation. See Note 2 -- Swap Agreements.
------------
See notes to financial statements.
-------------------------------------------------------------------------------------------------------------------
THE HYPERION STRATEGIC MORTGAGE INCOME FUND, INC.
Statement of Cash Flows
For the Year Ended November 30, 2004
-------------------------------------------------------------------------------------------------------------------
Increase (Decrease) in Cash:
Cash flows provided by (used for) operating activities:
Net increase in net assets resulting from operations......................................... $ 14,588,979
Adjustments to reconcile net increase in net assets from operations to net cash used for
operating activities:
Purchases of long-term portfolio investments and to cover securities sold short............ (160,474,741)
Proceeds from disposition of long-term portfolio investments, principal paydowns, and
securities sold short..................................................................... 152,164,946
Purchases of short-term portfolio investments, net....................................... (200,000)
Increase in interest receivable.......................................................... (88,349)
Increase in receivable for investments sold.............................................. (2,144,478)
Decrease in prepaid expenses and other assets............................................ 3,414
Increase in variation margin payable..................................................... 45,972
Increase in interest payable for reverse repurchase agreements............................. 39,882
Decrease in payable for investments purchased............................................ (45,768,520)
Decrease in investment advisory fee payable.............................................. (267)
Increase in administration fee payable................................................... 4,579
Increase in accrued expenses and other liabilities....................................... 5,506
Net accretion on investments............................................................. (1,103,307)
Unrealized appreciation on investments................................................... (46,772)
Net realized gain on investment transactions............................................. (2,727,280)
Net realized loss on short sales......................................................... 38,016
-----------------
Net cash used for operating activities....................................................... (45,662,420)
-----------------
Cash flows provided by (used for) financing activities:
Net cash provided by reverse repurchase agreements........................................... 59,013,750
Dividends paid to shareholders, net of reinvestments......................................... (13,123,842)
-----------------
Net cash provided by financing activities.................................................... 45,889,908
-----------------
Net increase in cash........................................................................... 227,488
Cash at beginning of year...................................................................... 146,190
-----------------
Cash at end of year............................................................................ $ 373,678
=================
Noncash financing activities not included herein consist of reinvestment of
dividends of $20,761.
Interest payments for the year ended November 30, 2004, totaled $851,827.
* The format of the statement of cash flows has changed from the direct method
to the indirect method.
------------
See notes to financial statements.
-------------------------------------------------------------------------------------------------------------------
THE HYPERION STRATEGIC MORTGAGE INCOME FUND, INC.
Financial Highlights
For the Year For the Year For the Period
Ended Ended Ended
November 30, 2004* November 30, 2003* November 30, 2002*@
--------------------------------------------------------------------------------------------------------------------
Per Share Operating Performance:
Net asset value, beginning of period................. $ 14.41 $ 14.10 $ 14.25**
----------- ----------- ------------
Net investment income................................ 1.20 1.22 0.37
Net realized and unrealized gain (loss) on
investments, short sales, futures transactions and
swap contracts..................................... 0.25 0.39 (0.17)
----------- ----------- -----------
Net increase in net asset value resulting from
operations......................................... 1.45 1.61 0.20
----------- ----------- -----------
Dividends from net investment income................. (1.30) (1.30) (0.32)
Offering costs charged to additional
paid-in-capital.................................... -- -- (0.03)
------------ ------------ -----------
Net asset value, end of period....................... $ 14.56 $ 14.41 $ 14.10
============ ============ ===========
Market price, end of period.......................... $ 14.6100 $ 14.6700 $ 13.6800
=========== =========== ===========
Total Investment Return+............................. 9.10% 17.55% (6.66%)(1)
Ratios to Average Net Assets/Supplementary Data:
Net assets, end of period (000's).................... $ 147,645 $ 146,180 $ 142,921
Operating expenses................................... 1.25% 1.28% 1.23%(2)
Interest expense..................................... 0.58% 0.51% 0.99%(2)
Total expenses................................. 1.83% 1.79% 2.22%(2)
Net expenses......................................... 1.83% 1.79% 2.19%(2)
Net investment income................................ 8.23% 8.54% 7.48%(2)
Portfolio turnover rate.............................. 65% 78% 70%(1)
----------
+ Total investment return is calculated assuming a purchase of common stock at the current market price on the first
day and a sale at the current market price on the last day of the period reported. For the period ended November
30, 2002, total investment return is based on a beginning period price of $15.00 (initial offering price). Total
investment return for subsequent periods is computed based upon the New York Stock Exchange market price of
the Fund's shares. Dividends and distributions, if any, are assumed for purposes of this calculation, to be reinvested
at the prices obtained under the Fund's dividend reinvestment plan. Total investment return does not
reflect brokerage commissions and is not annualized.
(1) Not Annualized
(2) Annualized
@ Commenced operations on July 26, 2002
* As a result of recent changes in generally accepted accounting principles, the Fund has reclassified periodic
payments made under interest rate swap agreements, previously included within net investment income, to
components of realized and unrealized gain (loss) in the statement of operations. The effect of this
reclassification was to reduce the interest expense and total expense ratios and increase the net investment
income ratio by 0.09% and increase net investment income per share by $0.01 and decrease net realized and
unrealized gains (losses) on investments, short sales, futures transactions and swap contracts per share by
$0.01 for the fiscal year ended November 30, 2004. For consistency, similar reclassifications have been made
to prior year amounts, resulting in a reduction to the interest expense and total expense ratios and an
increase to the net investment income ratio of 0.36% and an increase to net investment income per share and a
decrease to net realized and unrealized gains (losses) on investments, short sales, futures transactions and
swap contracts per share by $0.05 for the fiscal year ended November 30, 2003 and a reduction to the interest
expense, total and net expense ratios and an increase to the net investment income ratio of 0.10% and an
increase to net investment income per share of $0.01 and a decrease to net realized and unrealized gains
(losses) on investments, short sales, futures transactions and swap contracts per share by $0.01 for the
period ended November 30, 2002.
** Initial public offering of $15.00 per share less underwriting discount of
$0.75 per share.
------------
See notes to financial statements.
-------------------------------------------------------------------------------
THE HYPERION STRATEGIC MORTGAGE INCOME FUND, INC.
Notes to Financial Statements
November 30, 2004
-------------------------------------------------------------------------------
1. The Fund
The Hyperion Strategic Mortgage Income Fund, Inc. (the "Fund"), which was
incorporated under the laws of the State of Maryland on May 17, 2002, is
registered under the Investment Company Act of 1940 (the "1940 Act") as a
diversified, closed-end management investment company. The Fund commenced
operations on July 26, 2002. Prior to July 26, 2002, the Fund had no operations
other than the sale of 7,018 shares for $100,000 to Hyperion Capital Management,
Inc. (the "Advisor").
The Fund's investment objective is to provide a high level of current income by
investing primarily in mortgage-backed securities. No assurance can be given
that the Fund's investment objective will be achieved.
2. Significant Accounting Policies
The preparation of financial statements in conformity with generally accepted
accounting principles requires management to make estimates and assumptions that
affect the reported amounts of assets, liabilities, disclosure of contingent
assets and liabilities at the date of the financial statements, and the reported
amounts of revenues and expenses during the reporting period. Actual results
could differ from these estimates.
Valuation of Investments: Where market quotations are readily available,
securities held by the Fund are valued based upon the current bid price, except
preferred stocks, which are valued based upon the closing price. Securities may
be valued by independent pricing services that have been approved by the Board
of Directors. The prices provided by a pricing service take into account broker
dealer market price quotations for institutional size trading in similar groups
of securities, security quality, maturity, coupon and other security
characteristics as well as any developments related to the specific securities.
The Fund values mortgage-backed securities ("MBS") and other debt securities for
which market quotations are not readily available (approximately 24% of the
investments in securities held by the Fund at November 30, 2004) at their fair
value as determined in good faith, utilizing procedures approved by the Board of
Directors of the Fund, on the basis of information provided by dealers in such
securities. General factors that may be considered in determining fair value
include the fundamental analytic data relating to the investment and an
evaluation of the forces which influence the market in which these securities
are purchased and sold. Determination of fair value involves subjective
judgment, as the actual market value of a particular security can be established
only by negotiations between the parties in a sales transaction. Debt securities
having a remaining maturity of sixty days or less when purchased and debt
securities originally purchased with maturities in excess of sixty days but
which currently have maturities of sixty days or less are valued at amortized
cost.
The ability of issuers of debt securities held by the Fund to meet their
obligations may be affected by economic developments in a specific industry or
region. The values of MBS can be significantly affected by changes in interest
rates or in the financial condition of an issuer or market.
Options Written or Purchased: The Fund may write or purchase options as a method
of hedging potential declines in similar underlying securities. When the Fund
writes or purchases an option, an amount equal to the premium received or paid
by the Fund is recorded as a liability or an asset and is adjusted to the
current market value of the option written or purchased. Premiums received or
paid from writing or purchasing options which expire unexercised are treated by
the Fund on the expiration date as realized gains or losses. Also, the
difference between the premium and the amount paid or received on effecting a
closing purchase or sale transaction, including brokerage commissions, also is
treated as a realized gain or loss. If an option is exercised, the premium paid
or received is added to the proceeds from the sale or cost of the purchase in
determining whether the Fund has realized a gain or a loss on the investment
transaction.
The Fund, as writer of an option, may have no control over whether the
underlying securities may be sold (call) or purchased (put) and as a result
bears the market risk of an unfavorable change in the price of the security
underlying the written option.
The Fund purchases or writes options to hedge against adverse market movements
or fluctuations in value caused by changes in interest rates. The Fund bears the
risk in purchasing an option, to the extent of the premium paid, that it will
expire without being exercised. If this occurs, the option expires worthless and
the premium paid for the option is recognized as a realized loss. The risk
associated with writing call options is that the Fund may forego the opportunity
for a profit if the market value of the underlying position increases and the
option is exercised. The Fund will only write call options on positions held in
its portfolio. The risk in writing a put option is that the Fund may incur a
loss if the market value of the underlying position decreases and the option is
exercised. In addition, the Fund bears the risk of not being able to enter into
a closing transaction for written options as a result of an illiquid market.
Short Sales: The Fund may make short sales of securities as a method of hedging
potential declines in similar securities owned. The Fund may have to pay a fee
to borrow the particular securities and may be obligated to pay to the lender an
amount equal to any payments received on such borrowed securities. A gain,
limited to the amount at which the Fund sold the security short, or a loss,
unlimited as to dollar amount, will be realized upon the termination of a short
sale if the market price is less or greater than the proceeds originally
received.
Financial Futures Contracts: A futures contract is an agreement between two
parties to buy and sell a financial instrument for a set price on a future date.
Initial margin deposits are made upon entering into futures contracts and can be
either cash or securities. During the period the futures contract is open,
changes in the value of the contract are recognized as unrealized gains or
losses by "marking-to-market" on a daily basis to reflect the market value of
the contract at the end of each day's trading. Variation margin payments are
made or received, depending upon whether unrealized gains or losses are
incurred. When the contract is closed, the Fund records a realized gain or loss
equal to the difference between the proceeds from (or cost of) the closing
transaction and the Fund's basis in the contract. See Note 7 for a summary of
all open futures contracts as of November 30, 2004.
The Fund invests in financial futures contracts to hedge against fluctuations in
the value of portfolio securities caused by changes in prevailing market
interest rates. Should interest rates move unexpectedly, the Fund may not
achieve the anticipated benefits of the financial futures contracts and may
realize a loss. The use of futures transactions involves the risk of imperfect
correlation in movements in the price of futures contracts, interest rates and
the underlying hedged assets. The Fund is at risk that it may not be able to
close out a transaction because of an illiquid market.
Swap agreements: The Fund may enter into interest rate swap agreements to manage
its exposure to interest rates. Interest rate swap agreements involve the
exchange by the Fund with another party of their respective commitments to pay
or receive interest, e.g., an exchange of floating rate payments for fixed rate
payments with respect to a notional amount of principal. The Fund will usually
enter into interest rate swaps on a net basis, i.e., the two payment streams are
netted out, with the Fund receiving or paying, as the case may be, only the net
amount of the two payments. Swaps are marked to market based upon a quotation
from the market maker (which is typically the counterparty to the swap
agreement) and the change, if any, along with an accrual for periodic payments
due or owed is recorded as unrealized gain or loss in the Statement of
Operations. Net payments of interest on interest rate swap agreements are
included as part of realized gain/loss in the Statement of Operations. Entering
into these agreements involves, to varying degrees, elements of credit and
market risk in excess of the amounts recognized on the Statement of Assets and
Liabilities. Such risks involve the possibility that there will be no liquid
market for these agreements, that the counterparty to the agreements may default
on its obligation to perform or that there may be unfavorable changes in the
fluctuation of interest rates. See Note 7 for a summary of all open swap
agreements as of November 30, 2004.
As a result of a recent FASB Emerging Issues Task Force consensus and subsequent
related SEC staff guidance, the Fund has reclassified periodic payments made
under interest rate swap agreements, previously included within net investment
income, to components of realized and unrealized gain (loss) in the Statement of
Operations. For consistency, similar reclassifications have been made to amounts
appearing in the previous year's Statement of Changes in Net Assets and the per
share amounts in prior year financial highlights. Prior year expense and net
investment income ratios in the financial highlights have also been modified
accordingly. This reclassification increased net investment income by $131,293,
increased net realized loss on swap contracts by $81,588 and reduced net change
in unrealized gain on swap contracts by $49,705 for the year ended November 30,
2004, and increased net investment income by $522,260, increased net realized
loss on swap contracts by $154,861 and increased change in net unrealized loss
on swap contracts by $367,399 for the year ended November 30, 2003. Such
reclassifications had no effect on the Fund's net asset value, either in total
or per share, or its total increase in net assets from operations during any
period.
When-Issued Purchases and Forward Commitments: The Fund may purchase securities
on a "when-issued" basis and may purchase or sell securities on a "forward
commitment" basis in order to hedge against anticipated changes in interest
rates and prices and secure a favorable rate of return. When such transactions
are negotiated, the price, which is generally expressed in yield terms, is fixed
at the time the commitment is made, but delivery and payment for the securities
take place at a later date, which can be a month or more after the date of the
transaction. At the time the Fund makes the commitment to purchase securities on
a when-issued or forward commitment basis it will record the transaction and
thereafter reflect the value of such securities in determining its net asset
value. At the time the Fund enters into a transaction on a when-issued or
forward commitment basis, the Advisor will identify collateral consisting of
cash or liquid securities equal to the value of the when-issued or forward
commitment securities and will monitor the adequacy of such collateral on a
daily basis. On the delivery date, the Fund will meet its obligations from
securities that are then maturing or sales of the securities identified as
collateral by the Advisor and/or from then available cash flow. When-issued
securities and forward commitments may be sold prior to the settlement date. If
the Fund disposes of the right to acquire a when-issued security prior to its
acquisition or disposes of its right to deliver or receive against a forward
commitment, it can incur a gain or loss due to market fluctuation. There is
always a risk that the securities may not be delivered and that the Fund may
incur a loss. Settlements in the ordinary course are not treated by the Fund as
when-issued or forward commitment transactions and, accordingly, are not subject
to the foregoing limitations even though some of the risks described above may
be present in such transactions.
Securities Transactions and Investment Income: Securities transactions are
recorded on the trade date. Realized gains and losses from securities
transactions are calculated on the identified cost basis. Interest income is
recorded on the accrual basis. Discounts and premiums on securities are accreted
and amortized, respectively, using the effective yield to maturity method.
Taxes: It is the Fund's intention to continue to meet the requirements of the
Internal Revenue Code applicable to regulated investment companies and to
distribute substantially all of its taxable income to its shareholders.
Therefore, no federal income or excise tax provision is required.
Dividends and Distributions: The Fund declares and pays dividends monthly from
net investment income. Distributions of realized capital gains in excess of
capital loss carryforwards are distributed at least annually. Dividends and
distributions are recorded on the ex-dividend date. Dividends from net
investment income and distributions from realized gains from investment
transactions have been determined in accordance with federal income tax
regulations and may differ from net investment income and realized gains
recorded by the Fund for financial reporting purposes. These differences, which
could be temporary or permanent in nature, may result in reclassification of
distributions; however, net investment income, net realized gains and net assets
are not affected.
Cash Flow Information: The Fund invests in securities and distributes dividends
and distributions which are paid in cash or are reinvested at the discretion of
shareholders. These activities are reported in the Statement of Changes in Net
Assets. Additional information on cash receipts and cash payments is presented
in the Statement of Cash Flows. Cash, as used in the Statement of Cash Flows, is
the amount reported as "Cash" in the Statement of Assets and Liabilities, and
does not include short-term investments.
Accounting practices that do not affect reporting activities on a cash basis
include carrying investments at value and accreting discounts and amortizing
premiums on debt obligations.
Repurchase Agreements: The Fund, through its custodian, receives delivery of the
underlying collateral, the market value of which at the time of purchase is
required to be in an amount at least equal to the resale price, including
accrued interest. The Advisor is responsible for determining that the value of
these underlying securities is sufficient at all times. If the seller defaults
and the value of the collateral declines or if bankruptcy proceedings commence
with respect to the seller of the security, realization of the collateral by the
Fund may be delayed or limited.
3. Investment Advisory Agreements and Affiliated Transactions
The Fund has entered into an investment advisory agreement with the Advisor. The
Advisor is responsible for the management of the Fund's portfolio and provides
the necessary personnel, facilities, equipment and certain other services
necessary to the operations of the Fund. For such services, the Fund pays a
monthly fee at an annual rate of 0.65% of the Fund's average weekly net assets.
For the year ended November 30, 2004, the Advisor earned $958,946 in investment
advisory fees.
The Advisor had entered into a sub-advisory agreement with Lend Lease Hyperion
Capital Advisors, LLC ("Lend Lease Hyperion"). Lend Lease Hyperion was owned
equally by Lend Lease Real Estate Investments, Inc. ("LLREI") and the Advisor
and was formed for the purpose of managing portfolios of commercial
mortgage-backed securities ("CMBS"). On August 12, 2003, GMAC Commercial
Mortgage Corporation purchased the assets of LLREI. As a result, the
sub-advisory agreement terminated automatically by its terms due to a change of
control of Lend Lease Hyperion. In addition, Lend Lease Hyperion changed its
name to Hyperion GMAC Capital Advisors, LLC ("Hyperion GMAC"). At a special
meeting held on April 15, 2003, the Board of Directors, in anticipation of Lend
Lease Hyperion's change of control and the resulting automatic termination of
the sub-advisory agreement, approved (1) an interim sub-advisory agreement (the
"Interim Agreement") with Hyperion GMAC effective when the Lend Lease Hyperion
change of control was completed, and (2) a new sub-advisory agreement (the "New
Sub-Advisory Agreement") with Hyperion GMAC. The Interim Agreement terminated on
December 9, 2003, the date on which the Fund's stockholders approved the New
Sub-Advisory Agreement. Under the terms of the New Sub-Advisory Agreement,
Hyperion GMAC is to assist in managing the Fund's investments in CMBS and to
provide such investment research and advice regarding CMBS as may be necessary
for the operation of the Fund. The same fee paid under the sub-advisory
agreement was paid by the Advisor, out of its advisory fee, to Hyperion GMAC
under the Interim Agreement and will continue to be paid by the Advisor under
the New Sub-Advisory Agreement. The monthly fee is equal to a percentage of the
portion of the Fund's average weekly net assets that are invested in CMBS. The
fee is determined by the credit rating of the CMBS at the time of purchase, and
ranges from 1.00% for unrated CMBS to 0.13% for AAA/Aaa rated CMBS. For the
fiscal year ended 11/30/04, Hyperion GMAC was paid $106,915 for its services.
The Fund has entered into an administration agreement with Hyperion Capital
Management, Inc. (the "Administrator"). The Administrator has entered into a
sub-administration agreement with State Street Bank and Trust Company (the
"Sub-Administrator"). The Administrator and Sub-Administrator perform
administrative services necessary for the operation of the Fund, including
maintaining certain books and records of the Fund and preparing reports and
other documents required by federal, state, and other applicable laws and
regulations, and providing the Fund with administrative office facilities. For
these services, the Fund pays to the Administrator a
monthly fee at an annual rate of 0.20% of the Fund's average weekly net assets.
For the year ended November 30, 2004 the Administrator earned $299,721 in
administration fees. The Administrator is responsible for any fees due the
Sub-Administrator.
Certain officers and/or directors of the Fund are officers and/or directors of
the Advisor and /or Administrator.
4. Purchases and Sales of Investments
Purchases and sales of investments, excluding short-term securities, U.S.
Government securities and reverse repurchase agreements, for the year ended
November 30, 2004, were $45,325,682 and $49,429,620, respectively. Purchases and
sales of U.S. Government securities, for the year ended November 30, 2004, were
$100,588,826 and $89,280,824, respectively. For purposes of this footnote, U.S.
Government securities include securities issued by the U.S. Treasury, Federal
Home Loan Mortgage Corporation, and the Federal National Mortgage Association.
5. Borrowings
The Fund may enter into reverse repurchase agreements with the same parties with
whom it may enter into repurchase agreements. Under a reverse repurchase
agreement, the Fund sells securities and agrees to repurchase them at a mutually
agreed upon date and price. Under the 1940 Act, reverse repurchase agreements
will be regarded as a form of borrowing by the Fund unless, at the time it
enters into a reverse repurchase agreement, it establishes and maintains a
segregated account with its custodian containing securities from its portfolio
having a value not less than the repurchase price (including accrued interest).
The Fund has established and maintained such an account for each of its reverse
repurchase agreements.
Reverse repurchase agreements involve the risk that the market value of the
securities retained in lieu of sale by the Fund may decline below the price of
the securities the Fund has sold but is obligated to repurchase. In the event
the buyer of securities under a reverse repurchase agreement files for
bankruptcy or becomes insolvent, such buyer or its trustee or receiver may
receive an extension of time to determine whether to enforce the Fund's
obligation to repurchase the securities, and the Fund's use of the proceeds of
the reverse repurchase agreement may effectively be restricted pending such
decision.
November 30, 2004 the Fund had the following reverse repurchase agreements
outstanding:
Maturity
Face Value Description Amount
---------------- --------------------------------------------------------------------------- -------------
$ 3,324,750 Goldman Sachs, 1.95%, dated 11/22/04, maturity date 12/06/04............... $ 3,327,270
8,850,000 Goldman Sachs, 2.14%, dated 11/23/04, maturity date 12/23/04............... 8,865,783
6,878,000 Goldman Sachs 2.14%, dated 11/23/04, maturity date 12/23/04................ 6,890,266
14,976,000 Goldman Sachs 2.14%, dated 11/23/04, maturity date 12/23/04................ 15,002,707
3,375,000 Lehman Brothers 2.08%, dated 11/08/04, maturity date 12/08/04.............. 3,380,850
2,900,000 Lehman Brothers 2.08%, dated 11/08/04, maturity date 12/08/04.............. 2,905,027
9,158,000 Merrill Lynch 2.17%, dated 11/30/04, maturity date 12/16/04................ 9,166,832
10,300,000 Morgan Stanley 2.11%, dated 11/22/04, maturity date 12/06/04............... 10,308,452
7,940,000 Morgan Stanley 1.45%, dated 11/29/04, maturity date 12/06/04............... 7,942,239
4,800,000 Morgan Stanley 1.97%, dated 10/21/04, maturity date 12/08/04............... 4,812,608
--------------- --------------
$ 72,501,750
=============== Maturity Amount, Including Interest Payable............................. $ 72,602,034
--------------
Market Value of Assets Sold Under Agreements............................ $ 74,269,440
--------------
Weighted Average Interest Rate.......................................... 2.04%
--------------
The average daily balance of reverse repurchase agreements outstanding for the
year ended November 30, 2004, was approximately $62,169,092 at a weighted
average interest rate of 1.37%. The maximum amount of reverse repurchase
agreements outstanding at any time during the period was $75,036,958 as of
February 11, 2004, which was 33.62% of total assets.
6. Capital Stock
There are 50 million shares of $0.01 par value common stock authorized. Of the
10,142,636 shares outstanding at November 30, 2004, the Advisor owned 7,018
shares.
In connection with the initial public offering of the Fund's Shares, the Advisor
made an undertaking to pay any offering costs in excess of $0.03 per common
share. The Advisor has advised the Fund that such excess amounted to $482,964.
7. Financial Instruments
The Fund regularly trades in financial instruments with off-balance sheet risk
in the normal course of its investing activities to assist in managing exposure
to various market risks. These financial instruments include written options,
futures contracts and swap agreements and may involve, to a varying degree,
elements of risk in excess of the amounts recognized for financial statement
purposes. The notional or contractual amounts of these instruments represent the
investment the Fund has in particular classes of financial instruments and does
not necessarily represent the amounts potentially subject to risk. The
measurement of the risks associated with these instruments is meaningful when
all related and offsetting transactions are considered. During the period, the
Fund had segregated sufficient cash and/or securities to cover any commitments
under these contracts.
There was no written option activity for the year ended November 30, 2004.
As of November 30, 2004, the following swap agreements were outstanding:
Net Unrealized
Expiration Appreciation/
Notional Amount Date Description (Depreciation)
------------------ ---------- -------------------------------------------------------------------------------------
$ 10,000,000 01/23/06 Agreement with Goldman Sachs Capital Markets LP,dated 01/21/04 to pay $ 64,453
semi-annually the notional amount multiplied by 2.005% and to receive
quarterly the notional amount multiplied by 3 month
USD-LIBOR-BBA. ----------
$ 64,453
==========
As of November 30, 2004, the following futures contracts were outstanding:
Short:
Unrealized
Cost at Value at Appreciation/
Notional Amount Type Expiration Date Trade Date November 30, 2004 (Depreciation)
--------------- -------------------------- ----------------------------- ---------------------------------
$ 11,400,000 10 Yr. U.S. Treasury Note December 2004 $ 12,792,083 $ 12,705,656 $ 86,427
1,400,000 5 Yr. U.S. Treasury Note December 2004 1,548,973 1,536,063 12,910
1,800,000 10 Yr. U.S. Treasury Note March 2005 1,994,490 1,993,500 990
8. Federal Income Tax Information
Income and capital gain distributions are determined in accordance with federal
income tax regulations, which may differ from generally accepted accounting
principles.
During the year ended November 30, 2004 the tax character of the $13,144,369 of
distributions paid was from ordinary income.
At November 30, 2004 the components of net assets (excluding paid-in-capital) on
a tax basis were as follows:
Undistributed Tax ordinary income.................................$ 1,058,233
---------
Accumulated capital loss.......................................$ (1,070,268)
==========
Book basis unrealized appreciation/(depreciation)................$ 3,477,504
Minus: Cumulative timing differences.............................$ 50,622
---------
Unrealized appreciation/(depreciation).........................$ 3,426,882
=========
The differences between book and tax basis unrealized
appreciation/(depreciation) is primarily attributable to the mark-to-market of
futures and swap interest income (expense).
Federal Income Tax Basis: The federal income tax basis of the Fund's investments
at November 30, 2004 was $215,993,835. Net unrealized appreciation was
$3,413,374, (gross unrealized appreciation -- $5,111,961; gross unrealized
depreciation -- $1,698,587). At November 30, 2004, the Fund had a capital loss
carryforward of $1,070,268, which $1,070,268 expires in 2011, available to
offset any future gains, to the extent provided by regulations.
Capital Account Reclassification: For the year ended November 30, 2004, the
Fund's undistributed net investment income was increased by $948,390 with an
offsetting decrease in accumulated net realized loss. These adjustments were
primarily the result of current year paydown reclassifications and swap interest
income (expense).
9. Subsequent Events
Dividend: The Fund's Board of Directors declared the following regular monthly
dividends:
Dividend Record Payable
Per Share Date Date
--------- -------- ------
$0.1080 12/21/04 12/31/04
$0.1080 12/31/04 01/28/05
10. Contractual Obligations
The Fund enters into contracts that contain a variety of indemnifications. 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.
-------------------------------------------------------------------------------
THE HYPERION STRATEGIC MORTGAGE INCOME FUND, INC.
Report of Independent Registered Public Accounting Firm
-------------------------------------------------------------------------------
To the Board of Directors and Shareholders of
The Hyperion Strategic Mortgage Income Fund, Inc.:
In our opinion, the accompanying statement of assets and liabilities, including
the portfolio of investments, and the related statements of operations, of cash
flows and of changes in net assets and the financial highlights present fairly,
in all material respects, the financial position of The Hyperion Strategic
Mortgage Income Fund, Inc. (The "Fund") at November 30, 2004, the results of its
operations and its cash flows for the year then ended, the changes in its net
assets for each of the two years in the period then ended and the financial
highlights for the two years then ended and for the period July 26, 2002 (date
of commencement of operations) through November 30, 2002, in conformity with
accounting principles generally accepted in the United States of America. These
financial statements and financial highlights (hereafter referred to as
"financial statements") are the responsibility of the Fund's management; our
responsibility is to express an opinion on these financial statements based on
our audits. We conducted our audits of these financial statements in accordance
with the standards of the Public Company Accounting Oversight Board (United
States). Those standards require that we plan and perform the audit to obtain
reasonable assurance about whether the financial statements are free of material
misstatement. An audit includes examining, on a test basis, evidence supporting
the amounts and disclosures in the financial statements, assessing the
accounting principles used and significant estimates made by management, and
evaluating the overall financial statement presentation. We believe that our
audits, which included confirmation of securities at November 30, 2004 by
correspondence with the custodian and brokers, provide a reasonable basis for
our opinion.
PricewaterhouseCoopers LLP
New York, N.Y.
January 26, 2005
-------------------------------------------------------------------------------
TAX INFORMATION (Unaudited)
-------------------------------------------------------------------------------
The Fund is required by subchapter M of the Internal Revenue Code of 1986, as
amended, to advise you within 60 days of the Fund's fiscal year end (November
30, 2004) as to the federal tax status of distributions received by shareholders
during such fiscal year. Accordingly, we are advising you that all distributions
paid during the fiscal year were derived from net investment income and are
taxable as ordinary income. In addition, 0.26% of the Fund's distributions
during the fiscal year ended November 30, 2004 were earned from U.S. Treasury
obligations. None of the Fund's distributions qualify for the dividends received
deduction available to corporate shareholders.
Because the Fund's fiscal year is not the calendar year, another notification
will be sent with respect to calendar 2004. The second notification, which will
reflect the amount to be used by calendar year taxpayers on their federal, state
and local income tax returns, will be made in conjunction with Form 1099-DIV and
will be mailed in January 2005. Shareholders are advised to consult their own
tax advisors with respect to the tax consequences of their investment in the
Fund.
-------------------------------------------------------------------------------------------------------------------
THE HYPERION STRATEGIC MORTGAGE INCOME FUND, INC.
Information Concerning Directors and Officers (Unaudited)
-------------------------------------------------------------------------------------------------------------------
Number of
Portfolios
Position(s) Held with in Fund
Fund and Term of Principal Occupation(s) During Past 5 Complex
Name, Address Office and Length of Years Overseen
and Age Time Served and Other Directorships Held by Director by Director
---------------------------------------------------------------------------------------------------------------------
Disinterested Director Nominee
Class III Director to serve until 2005 Annual Meeting of Stockholders:
Leo M. Walsh, Jr. Director since June 1989, Director of several investment companies 6
c/o One Liberty Plaza, Chairman of the Audit advised by the Advisor or by its
36th floor, New York, Committee, Member of affiliates (1989-Present); Financial
New York 10006-1404 Nominating and Compensation Consultant for Medco Health Solutions
Committee Inc. (1994-2003).
Age 72 Elected for Three Year Term
[09-05-32]
Interested Director Nominee
Class III Interested Nominee to serve until 2005 Annual Meeting of Stockholders:
Clifford E. Lai* Director since December 2003 President (1998-Present) and Chief 5
c/o One Liberty Plaza, Investment Officer (1993-2002) of the
36th floor, New York, Elected until 2005 Advisor; Co-Chairman (2003-Present) and
New York 10006-1404 Board of Managers (1995-Present) Hyperion
GMAC Capital Advisors, LLC (formerly,
Member of Executive Lend Lease Hyperion Capital, LLC);
Committee President and Director of several
investment companies advised by the
Advisor (1995-Present).
Age 51
[05-16-53]
Disinterested Directors
Class II Directors to serve until 2007 Annual Meeting of Stockholders:
Rodman L. Drake Chairman Elected Chairman (since December 2003) and
c/o One Liberty Plaza, December 9, 2003 Director of several investment companies
36th floor, New York, advised by Hyperion Capital Management,
New York 10006-1404 Director since July 1989, Inc. (the "Advisor") (1989-Present); Co-founder,
Member of the Audit Baringo Capital LLC (2002-Present); Director,
Committee, Chairman of Jackson Hewitt Tax Service Inc. ("JTX")
Nominating and Compensation (2004-Present); Director Animal Medical Center
Committee (2002-Present); Director, Hotelevision, Inc.
(1999-2003); Director and/or Lead Director,
Elected for Two Year Term Parsons Brinckerhoff, Inc. (1995-Present);
Director, Absolute Quality Inc. (2000-Present);
Age 61 Trustee of Excelsior Funds (33) (1994-Present);
[02-2-43] President, Continuation Investments Group Inc.
(1997-2001).
Harry E. Petersen, Jr. Director since October 1993, Director of several investment companies 3
c/o One Liberty Plaza, Member of the Audit advised by the Advisor or by its
36th floor, New York, Committee, Member of affiliates (1992-Present); Senior
New York 10006-1404 Nominating and Compensation Consultant to Cornerstone Equity
Committee, Member of Advisors, Inc. (1998- 2001).
Executive Committee
Elected for Two Year Term
Age 79
[02-03-25]
Class I Director to serve until 2006 Annual Meeting of Stockholders:
Robert F. Birch Director since December Director of several investment companies 5
c/o One Liberty Plaza, 1998, Member of the Audit advised by the Advisor or by its
36th floor, New York, Committee, Member of affiliates (1998-Present); Chairman and
New York 10006-1404 Nominating and Compensation President, New America High Income Fund
Committee, Member of (1992-Present); Director, Brandywine
Executive Committee Funds (3) (2001 to Present).
Elected for Three Year Term
Age 68
[03-12-36]
------------
* Interested person as defined in the Investment Company Act of 1940, as
amended, (the "1940 Act") because of affiliations with Hyperion Capital
Management, Inc., the Fund's Advisor.
-------------------------------------------------------------------------------------------------------------------
THE HYPERION STRATEGIC MORTGAGE INCOME FUND, INC.
Information Concerning Directors and Officers (Unaudited)
-------------------------------------------------------------------------------------------------------------------
Officers of the Trust
Position(s) Term of Office and Principal Occupation(s)
Name, Address and Age Held with Fund Length of Time Served During Past 5 Years
---------------------------------------------------------------------------------------------------------------------
---------------------------------------------------------------------------------------------------------------------
Clifford E. Lai* President Elected Annually Since Please see "Information Concerning
c/o One Liberty Plaza, June 2002 Nominees/Directors."
36th floor, New York,
New York 10006-1404
Age 51
[05-16-53]
John Dolan* Vice President Elected Annually Since Chief Investment Strategist (1998-Present)
c/o One Liberty Plaza, June 2002 and Chief Investment Officer
36th floor, New York, (2002-Present) of the Advisor.
New York 10006-1404
Age 51
[08-19-53]
Patricia A. Sloan* Vice President Elected Annually Since Consultant of Ranieri & Co., Inc.
c/o One Liberty Plaza, June 2002 (2000-Present); Secretary, Director and/or
36th floor, New York, Trustee of several investment companies
New York 10006-1404 advised by the Advisor or by its
affiliates (1989-2002).
Age 61
[10-02-43]
Daniel S. Kim*) CCO & Secretary Elected Chief Director and Chief Compliance Officer
c/o One Liberty Plaza, Compliance Officer ("CCO") (September 2004-Present), and
36th floor, New York, Since September 2004 Secretary (since January 2005) of the
New York 10006-1404 and Secretary Since Advisor; Secretary (since January 2005)
January 2005 and CCO (September 2004-Present) of
Age 36 several investment companies advised
[3-13-68] by the Advisor; Secretary (since January
2005) and CCO (September 2004-Present)
Hyperion GMAC Capital Advisors, LLC.
Assistant General Counsel and CCO (May 2001
-- August 2004) Oak Hill Capital Management;
Assistant General Counsel (May 2001 --
August 2004) Oak Hill Advisors, LP, Lawyer
(January 2001 -- April 2001) Arkin, Kaplan
& Cohen. Law student preparing for the New
York State Bar (January 2000 to January
2001).
Thomas F. Doodian* Treasurer Elected Annually Since Managing Director, Chief Operating Officer
c/o One Liberty Plaza, June 2002 (1998- Present) and Director of Finance
36th floor, New York, and Operations of the Advisor
New York 10006-1404 (1995-Present); Treasurer of several
investment companies advised by the
Age 45 Advisor (1996-Present); Treasurer of
[05-22-59] Hyperion GMAC Capital Advisors, LLC
(formerly, Lend Lease Hyperion Capital
Advisors, LLC) (1996-Present).
----------
* Interested person as defined in the Investment Company Act of 1940, as
amended, (the "1940 Act") because of affiliations with Hyperion Capital
Management, Inc., the Fund's Advisor.
) Joseph Tropeano served as the Fund's secretary until January 2005.
The Fund's Statement of Additional Information includes additional information
about the directors and is available, without charge, upon request by calling
1-800-497-3746.
-------------------------------------------------------------------------------
CHANGE TO INVESTMENT POLICY
-------------------------------------------------------------------------------
On December 14, 2004 the Fund's Board of Directors voted to approve a change to
the Fund's investment policy to allow the Fund to purchase shares of open-end
registered investment companies.
-------------------------------------------------------------------------------
DIVIDEND REINVESTMENT PLAN
-------------------------------------------------------------------------------
A Dividend Reinvestment Plan (the "Plan") is available to shareholders of the
Fund pursuant to which they may elect to have all distributions of dividends and
capital gains automatically reinvested by American Stock Transfer & Trust
Company (the "Plan Agent") in additional Fund shares. Shareholders who do not
participate in the Plan will receive all distributions in cash paid by check
mailed directly to the shareholder of record (or if the shares are held in
street or other nominee name, then to the nominee) by the Fund's Custodian,
State Street Bank and Trust Company, as Dividend Disbursing Agent.
The Plan Agent serves as agent for the shareholders in administering the Plan.
After the Fund declares a dividend or determines to make a capital gain
distribution, payable in cash, if (1) the market price is lower than net asset
value, the participants in the Plan will receive the equivalent in Fund shares
valued at the market price determined as of the time of purchase (generally, the
payment date of the dividend or distribution); or if (2) the market price of the
shares on the payment date of the dividend or distribution is equal to or
exceeds their net asset value, participants will be issued Fund shares at the
higher of net asset value or 95% of the market price. This discount reflects
savings in underwriting and other costs that the Fund otherwise will be required
to incur to raise additional capital. If net asset value exceeds the market
price of the Fund shares on the payment date or the Fund declares a dividend or
other distribution payable only in cash (i.e., if the Board of Directors
precludes reinvestment in Fund shares for that purpose), the Plan Agent will, as
agent for the participants, receive the cash payment and use it to buy Fund
shares in the open market, on the New York Stock Exchange or elsewhere, for the
participants' accounts. If, before the Plan Agent has completed its purchases,
the market price exceeds the net asset value of the Fund's shares, the average
per share purchase price paid by the Plan Agent may exceed the net asset value
of the Fund's shares, resulting in the acquisition of fewer shares than if the
dividend or distribution had been paid in shares issued by the Fund. The Fund
will not issue shares under the Plan below net asset value.
Participants in the Plan may withdraw from the Plan upon written notice to the
Plan Agent. When a participant withdraws from the Plan or upon termination of
the Plan by the Fund, certificates for whole shares credited to his or her
account under the Plan will be issued and a cash payment will be made for any
fraction of a share credited to such account.
There is no charge to participants for reinvesting dividends or capital gain
distributions, except for certain brokerage commissions, as described below. The
Plan Agent's fees for handling the reinvestment of dividends and distributions
are paid by the Fund. There are no brokerage commissions charged with respect to
shares issued directly by the Fund. However, each participant will pay a pro
rata share of brokerage commissions incurred with respect to the Plan Agent's
open market purchases in connection with the reinvestment of dividends and
distributions.
The automatic reinvestment of dividends and distributions will not relieve
participants of any federal income tax that may be payable on such dividends or
distributions.
A brochure describing the Plan is available from the Plan Agent, by calling
1-212-936-5100.
If you wish to participate in the Plan and your shares are held in your name,
you may simply complete and mail the enrollment form in the brochure. If your
shares are held in the name of your brokerage firm, bank or other nominee, you
should ask them whether or how you can participate in the Plan. Shareholders
whose shares are held in the name of a brokerage firm, bank or other nominee and
are participating in the Plan may not be able to continue participating in the
Plan if they transfer their shares to a different brokerage firm, bank or other
nominee, since such shareholders may participate only if permitted by the
brokerage firm, bank or other nominee to which their shares are transferred.
INVESTMENT ADVISOR AND ADMINISTRATOR TRANSFER AGENT
HYPERION CAPITAL MANAGEMENT, INC. AMERICAN STOCK TRANSFER & TRUST
One Liberty Plaza COMPANY
165 Broadway, 36th Floor Investor Relations Department
New York, New York 10006-1404 59 Maiden Lane
For General Information about the Trust: New York, NY 10038
(800) HYPERION For Shareholder Services:
(800) 937-5449
SUB-ADVISOR
INDEPENDENT REGISTERED PUBLIC
HYPERION GMAC CAPITAL ADVISORS, LLC ACCOUNTING FIRM
One Liberty Plaza
165 Broadway, 36th Floor PRICEWATERHOUSECOOPERS LLP
New York, New York 10006-1404 300 Madison Avenue
New York, New York 10017
SUB-ADMINISTRATOR
LEGAL COUNSEL
STATE STREET BANK and TRUST COMPANY
225 Franklin Street SULLIVAN & WORCESTER LLP
Boston, Massachusetts 02116 1666 K Street, Northwest
Washington, D.C. 20006
CUSTODIAN AND FUND ACCOUNTING AGENT
STATE STREET BANK and TRUST COMPANY
225 Franklin Street
Boston, Massachusetts 02116
Notice is hereby given in accordance with Section 23(c) of the Investment
Company Act of 1940 that periodically the Fund may purchase its shares in the
open market at prevailing market prices.
Quarterly Portfolio Schedule: The Fund will file Form N-Q with the Securities
and Exchange Commission for the first and third quarters of each fiscal year.
The Fund's Forms N-Q will be available on the Securities and Exchange
Commission's website at http://www.sec.gov. The Fund's Forms N-Q may be reviewed
and copied at the Securities and Exchange Commission's Public Reference Room in
Washington, D.C. and information on the operation of the Public Reference Room
may be obtained by calling 1-800-SEC-0330. Once filed, the most recent Form N-Q
will be available without charge, upon request, by calling 1-800-HYPERION or on
the Fund's website at http://www.hyperioncapital.com.
Proxy Voting Policies and Procedures
A description of the policies and procedures that the Fund uses to determine how
to vote proxies relating to portfolio securities is available without charge,
upon request, by calling 1-800-497-3746 and on the Securities and Exchange
Commission's website at http://www.sec.gov.
Proxy Voting Record
The Fund has filed with the Securities and Exchange Commission its proxy voting
record for the 12-month period ending June 30 on Form N-PX. Once filed, the most
recent Form N-PX will be available without charge, upon request, by calling
1-800-497-3746 or on the Securities and Exchange Commission's website at
http://www.sec.gov.
Officers & Directors
-------------------------------------------------------------------------------
Rodman L. Drake*
Chairman
Robert F. Birch*
Director
Leo M. Walsh, Jr.*
Director
Harry E. Petersen, Jr.*
Director
Clifford E. Lai
Director and President
Patricia A. Sloan
Vice President
John Dolan
Vice President
Thomas F. Doodian
Treasurer
Daniel Kim**
Secretary
----------
* Audit Committee Members
** Elected January 2005
------------------------------------
[GRAPHIC OMITTED]
------------------------------------
This report is for shareholder information. This is not a prospectus intended
for use in the purchase or sale of Fund shares.
The Hyperion Strategic Mortgage
Income Fund, Inc.
One Liberty Plaza
165 Broadway, 36th Floor
New York, NY 10006-1404
Item 2. Code of Ethics.
As of the end of the period covered by this report, the Registrant had
adopted a Code of Ethics for Principal Executive and Principal Financial
Officers (the "Code"). There were no amendments to or waivers from the Code
during the period covered by this report. A copy of the Registrant's Code will
be provided upon request to any person without charge by contacting Daniel Kim
at 1-800-HYPERION or by writing to Mr. Kim at One Liberty Plaza, 165 Broadway,
36th Floor, New York, NY 10006-1404.
Item 3. Audit Committee Financial Expert.
The Registrant's Board of Directors has determined that the Registrant has
at least one audit committee financial expert serving on its audit committee,
and his name is Rodman L. Drake. Mr. Drake is independent.
Item 4. Principal Accountant Fees and Services.
Audit Fees
For the fiscal year ended November 30, 2004, PriceWaterhouseCoopers LLP
("PwC") billed the Registrant aggregate fees of $65,000 for professional
services rendered for the audit of the Registrant's annual financial statements
and review of financial statements included in the Registrant's annual report to
shareholders.
For the fiscal year ended November 30, 2003, PwC billed the Registrant
aggregate fees of $59,000 for professional services rendered for the audit of
the Registrant's annual financial statements and review of financial statements
included in the Registrant's annual report to shareholders.
Tax Fees
For the fiscal year ended November 30, 2004, PwC billed the Registrant
aggregate fees of $8,500 for professional services rendered for tax compliance,
tax advice and tax planning. The nature of the services comprising the Tax Fees
was the review of the Registrant's income tax returns and tax distribution
requirements.
For the fiscal year ended November 30, 2003, PwC billed the Registrant
aggregate fees of $7,000 for professional services rendered for tax compliance,
tax advice and tax planning. The nature of the services comprising the Tax Fees
was the review of the Registrant's income tax returns and tax distribution
requirements.
All Other Fees
For the fiscal year ended November 30, 2004, PwC billed the Registrant
aggregate fees of $32,500 for professional services rendered for the review of
financial statements included in the Registrant's semi-annual report to
shareholders.
For the fiscal year ended November 30, 2003, PwC billed the Registrant
aggregate fees of $39,500 for professional services rendered for the review of
financial statements included in the Registrant's semi-annual report to
shareholders.
Audit-Related and Non-Audit Fees for 2004 and 2003
None.
Item 5. Audit Committee of Listed Registrants.
The Registrant has a separately-designated standing Audit Committee
established in accordance with Section 3(a)(58)(A) of the Securities Exchange
Act of 1934. The Registrant's Audit Committee members include Leo M. Walsh, Jr.,
Rodman L. Drake, Robert F. Birch and Harry E. Petersen, Jr.
Item 6. Schedule of Investments.
Please refer to Item 1. Reports to Shareholders.
Item 7. Disclosure of Proxy Voting Policies and Procedures for Closed-End
Management Investment Companies.
THE HYPERION TOTAL RETURN FUND, INC.
THE HYPERION STRATEGIC MORTGAGE INCOME FUND, INC.
HYPERION 2005 INVESTMENT GRADE OPPORTUNITY TERM TRUST, INC.
Policies and procedures for voting proxies
1. Purpose. The purpose of this document is to describe the policies and
procedures for voting proxies received from issuers whose securities are held by
the Funds. These policies and procedures are to be implemented by the investment
adviser or sub-adviser, if any, (the "Adviser") to the Funds.
2. Definition of Proxy. A proxy permits a shareholder to vote without being
present at annual or special meetings. A proxy is the form whereby a person who
is eligible to vote on corporate matters transmits written instructions for
voting or transfers the right to vote to another person in place of the eligible
voter.
3. Policy for Voting Proxies.
(a) Fiduciary Considerations. Proxies are voted solely in the
interests of the shareholders of the Funds. Any conflict of interest must
be resolved in the way that will most benefit the shareholders.
(b) Management Recommendations. Because the quality and depth of
management is a primary factor considered when investing in a company, the
recommendation of management on any issue should normally be given
substantial weight.
The vote with respect to most routine issues presented in proxy statements
should be cast in accordance with the position of the company's management,
unless it is determined that supporting management's position would adversely
affect the investment merits of owning the stock. However, each issue should be
considered on its own merits, and the position of the company's management
should not be supported in any situation where it is found not to be in the best
interests of the Funds' shareholders.
4. Conflicts of Interest. The Funds recognize that under certain
circumstances their Adviser may have a conflict of interest in voting proxies on
behalf of the Funds. Such circumstances may include, but are not limited to,
situations where the Adviser or one or more of its affiliates, including
officers, directors and employees, has or is seeking a client relationship with
the issuer of the security that is the subject of the proxy vote. The Adviser
shall periodically inform its employees that they are under an obligation to be
aware of the potential for conflicts of interest on the part of the Adviser with
respect to voting proxies on behalf of Funds, both as a result of the employee's
personal relationships and due to circumstances that may arise during the
conduct of the Adviser's business, and to bring conflicts of interest of which
they become aware to the attention of the proxy manager (see below). The Adviser
shall not vote proxies relating to such issuers on behalf of its client accounts
until it has determined that the conflict of interest is not material or a
method of resolving such conflict of interest has been agreed upon by the Board
of Directors for the Fund. A conflict of interest will be considered material to
the extent that it is determined that such conflict has the potential to
influence the Adviser's decision-making in voting a proxy. Materiality
determinations will be based upon an assessment of the particular facts and
circumstances. If the proxy manager determines that a conflict of interest is
not material, the Adviser may vote proxies notwithstanding the existence of a
conflict. If the conflict of interest is determined to be material, the conflict
shall be disclosed to the Board of Directors and the Adviser shall follow the
instructions of the Board of Directors. The proxy manager shall keep a record of
all materiality decisions and report them to the Board of Directors on a
quarterly basis.
5. Routine Proposals. Proxies for routine proposals (such as election of
directors, selection of independent public accountants, stock splits and
increases in capital stock) should generally be voted in favor of management.
6. Non-routine Proposals.
(a) Guidelines on Anti-takeover Issues. Because anti-takeover
proposals generally reduce shareholders' rights, the vote with respect to
these proposals should generally be "against." During review of the
proposal, if it is concluded that the proposal is beneficial to
shareholders, a vote for the proposal should be cast.
(b) Guidelines on Social and Political Issues. Social and political
issues should be reviewed on a case by case basis. Votes should generally
be cast with management on social or political issues, subject to review by
the proxy manager.
7. Proxy Manager Approval. Votes on non-routine matters (including the
matters in paragraph 6 and mergers, stock option and other compensation plans)
and votes against a management's recommendations are subject to approval by the
proxy manager. The chief investment officer or his delegatee shall be the proxy
manager.
8. Proxy Voting Procedures. Proxy voting will be conducted in compliance
with the policies and practices described in this memorandum and is subject to
the proxy manager's supervision. A reasonable effort should be made to obtain
proxy material and to vote in a timely fashion. Records should be maintained
regarding the voting of proxies under these policies and procedures.
9. Report to the Board. On a quarterly basis, the proxy manager or his
designee will report in writing to the Boards of Directors on the general manner
in which proxy proposals relating to anti-takeover, social and political issues
were voted, as well as proposals that were voted in opposition to management's
recommendations.
Item 8. Portfolio Managers of Closed-End Management Investment Companies.
Not applicable.
Item 9. Purchases of Equity Securities by Closed-End Management Investment
Company and Affiliated Purchasers
None.
Item 10. Submission of Matters to a Vote of Security Holders.
None.
Item 11. Controls and Procedures.
The Registrant's principal executive officer and principal financial
officer have concluded that the Registrant's Disclosure Controls and Procedures
are effective, based on their evaluation of such Disclosure Controls and
Procedures as of a date within 90 days of the filing of this report on Form
N-CSR.
Item 12. Exhibits.
(a)(1) None.
(2) A separate certification for each principal executive officer and
principal financial officer of the Registrant as required by Rule 30a-2(a) under
the Investment Company Act of 1940 is attached as an exhibit to this Form N-CSR.
(3) None.
(b) A separate certification for each principal executive officer and principal
financial officer of the Registrant as required by Rule 30a-2(b) under the
Investment Company Act of 1940 is attached as an exhibit to this Form N-CSR.
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.
THE HYPERION STRATEGIC MORTGAGE INCOME FUND, INC.
By: /s/ Clifford E. Lai
__________________
Clifford E. Lai
Principal Executive Officer
Date: February 9, 2005
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: /s/ Clifford E. Lai
___________________
Clifford E. Lai
Principal Executive Officer
Date: February 9, 2005
By: /s/ Thomas F. Doodian
_____________________
Thomas F. Doodian
Principal Financial Officer
Date: February 9, 2005