The following analysis of the consolidated financial condition and results of operations of Friedman, Billings, Ramsey Group, Inc. and its subsidiaries (collectively, "we", "us", "our" or the "Company") should be read in conjunction with the unaudited consolidated financial statements and the notes thereto appearing elsewhere in this report on Form 10-Q and the audited consolidated financial statements and notes thereto appearing in the Company's Annual Report on Form 10-K for the year ended December 31, 2007. The discussion of the Company's consolidated financial condition and results of operations below may contain forward-looking statements. These statements, which reflect management's beliefs and expectations, are subject to risks and uncertainties that may cause actual results to differ materially. For a discussion of the risks and uncertainties that may affect the Company's future results, please see "Forward-Looking Statements" immediately following Item 4 of Part I of this report on Form 10-Q.

Business Environment

As an investment banking, institutional sales, trading and research, asset management, and investment firm, our businesses are materially affected by conditions in the U.S. financial markets, general U.S. economic conditions and, to a lesser degree, global economic conditions. The decreased level of capital markets activities during the first nine months of 2008 as compared to the comparable 2007 period exhibited the effects of the uncertainty in economic conditions due to continuing negative economic trends. Our investment banking revenues and mortgage-backed security valuations have been adversely affected by the continued mortgage and credit market dislocation that began in the latter half of 2007 and continued through the third quarter of 2008, and we may be further impacted should there be continued or further credit market dislocations or a sustained market downturn. With trading volume in the MBS market diminishing, price discovery is difficult which has resulted in a widening of the bid/ask spreads. However, as investors continue to liquefy their positions, they have been forced to accept prices that are well below levels "pre-credit squeeze." Other factors contributing to the current weak economic conditions are an increasing unemployment rate coupled with decreases in home prices and deterioration in consumer confidence.

On October 3, 2008, President Bush signed into law the Emergency Economic Stabilization Act of 2008 (the "EESA"). The legislation was adopted in response to the financial crises affecting the banking system and financial markets and going concern threats to investment banks and other financial institutions. The U.S. Treasury and banking regulators are implementing a number of programs under this legislation to address capital and liquidity issues in the banking system. There can be no assurance, however, as to the actual impact that the EESA will have on the financial markets, including the extreme levels of volatility and limited credit availability currently being experienced.

We believe the remainder of 2008 is going to continue to be a difficult business environment, with continued dampened capital markets activity, both domestically and internationally, and potential tightening in interest rate spreads. Our growth outlook is dependent in part on the extent and severity of the financial market dislocation, results from fiscal and monetary policy actions, the overall market value of U.S. equities and accessibility of liquidity. The underpinnings of these growth assumptions also form our view on prospective investment banking, institutional sales, trading and research, asset management and investment activities. For further discussions on how markets conditions may affect our businesses see "Risk Factors" in Form 10-K for the year ended December 31, 2007.

In addition, on October 23, 2008, the Company announced its plan to downsize its mortgage backed securities ("MBS") portfolio in order to reduce exposure to deteriorating market conditions while at the same time generating additional cash to fund the extinguishment of its long term debt. The Company also announced that it has retained financial advisors to evaluate strategic alternatives for the purpose of maximizing the value of its assets and liabilities including all of its trust preferred debt. Potential strategic alternatives include the sale of the Company or its assets or the distribution of its assets to shareholders.

Executive Summary

Our revenues consist primarily of: underwriting and placement fees for capital raising and advisory fees in investment banking; agency commissions and principal transactions mark-ups and mark-downs in institutional brokerage; base management fees and incentive allocations and fees in asset management; and net interest income, earnings from investment funds and dividend income, net interest income and gains and losses in principal investing.

Capital Markets

Our capital markets segment includes investment banking and institutional sales, trading and research. These business units operate as a single integrated segment to deliver capital raising, advisory and sales and trading services to corporate and institutional clients. Our investment banking and institutional brokerage businesses are focused on the consumer, diversified industrials, energy and natural resources, financial institutions, insurance, real estate, and technology, media and telecommunications sectors. Historically, we have focused on small- and mid-cap stocks, although our research coverage and brokerage activities increasingly involve larger-cap stocks. By their nature, our business activities are highly competitive and are subject to general market conditions, volatile trading markets and fluctuations in the volume of market activity, as well as to the conditions affecting the companies and markets in our areas of focus. As a result, our capital markets revenues and profits can be subject to significant volatility from period to period.

The operating income from our capital markets segment decreased to a loss of $33.4 million for the third quarter of 2008 from operating income of $0.7 million for the third quarter of 2007. This decrease is primarily attributable to a $53.4 million decrease in investment banking revenues during the third quarter of 2008, reflecting a lower volume of capital raising activity and a decrease in advisory revenues. The lower volume of capital raising activity during the third quarter of 2008 reflects the continued effect that the dislocation in credit markets, which began in August 2007, has had on the U.S. equity markets and equity underwriting activity. Our institutional brokerage sales and trading revenues increased to $36.2 million for the quarter ended September 30, 2008 from $26.7 million for the quarter ended September 30, 2007. This increase in institutional brokerage sales and trading revenues is attributable to both the expansion of our sales and trading platform and the increased volatility in the market due to the current economic environment. Variable expenses decreased $20.1 million, or 42.1%, which is attributable to reduced compensation expense related to the decrease in net revenues. The increase in fixed and other compensation expenses of $8.1 million reflects the net effect of increased costs attributable to our international operations, increased stock-based compensation, and $3.2 million in severance costs associated with a reduction in our work force.

The operating income from our capital markets segment decreased from $58.5 million for the nine months ended September 30, 2007 to an operating loss of $71.0 million for the nine months ended September 30, 2008. This decrease is primarily attributable to a $194.2 million decrease in investment banking revenues during the first nine months of 2008, reflecting a lower volume of capital raising activity and a decrease in advisory revenues. The lower volume of capital raising activity during the first nine months of 2008 reflects the continued effect that the dislocation in credit markets, which began in August 2007, has had on U.S. equity markets and equity underwriting activity. Our institutional brokerage sales and trading revenues increased to $101.9 million for the nine months ended September 30, 2008 as compared to $83.8 million for the nine months ended September 30, 2007. This increase in institutional brokerage sales and trading revenues is attributable to both the expansion of our sales and trading platform and the increased volatility in the market due to the current economic environment. Variable expenses decreased $81.1 million, or 43.5%, which is attributable to reduced compensation expense related to the decrease in net revenues. The decrease in variable expenses was offset partially by a $19.5 million increase in fixed expense that is attributable to the build-out of our international operations, increased stock-based compensation and $6.5 million in severance costs associated with a reduction in our workforce.

Asset Management

Our asset management segment consists of managing a broad range of pooled investment vehicles, including mutual funds, hedge funds, venture capital and private equity funds and separate accounts. Our total net assets under management were $1.7 billion at September 30, 2008, decreasing from $1.9 billion at June 30, 2008 and decreasing from $2.5 billion as of December 31, 2007. Net assets under management decreased 10.5% or $0.2 billion during the third quarter, primarily related to fund performance and net redemptions representing 52% and 48% of the decrease, respectively.

The operating loss from our asset management activities increased to an operating loss of $4.0 million in the third quarter of 2008 compared to an operating loss of $2.3 million in the third quarter of 2007. We recorded $3.7 million in base management fees (including mutual fund administrative fees) for the three months ended September 30, 2008, as compared to $6.1 million for the three months ended September 30, 2007. The decrease in management fees during the third quarter of 2008 reflects the effects of the decrease in average assets under management for the quarter compared to the quarter in the prior year. Operating expenses increased as a result of increases in fixed expenses attributable to expanding our mutual fund marketing activities offset by a decrease in variable costs, including sub-advisory fees.

The operating loss from our asset management activities increased to an operating loss of $11.4 million in the first nine months of 2008 compared to an operating loss of $4.9 million in the first nine months of 2007. We recorded $12.5 million in base management fees (including mutual fund administrative fees) for the nine months ended September 30, 2008, as compared to $18.0 million for the nine months ended September 30, 2007. The decrease in management fees during the first nine months of 2008 reflects the effects of the decrease in average assets under management. Operating expenses increased as a result of increases in fixed expenses attributable to initiatives to expand our mutual fund marketing activities offset by a decrease in variable costs, including sub-advisory fees.

Principal Investing

Mortgage-Backed Securities

We invest in agency-backed and, to a lesser extent, private-label MBS. Our MBS investment strategy is based on investing in agency collateralized mortgage obligations (CMOs) and hybrid-ARM mortgage-backed securities financed by short-term repurchase agreement borrowings. The Company recorded net interest income of $10.0 million and $26.0 million from MBS held in our principal investment portfolio for the three and nine months ended September 30, 2008, respectively, compared to $6.2 million and $30.7 million for the three and nine months ended September 30, 2007, respectively. The increase in net interest income during the three months ended September 30, 2008 is due mainly to an increase in the net interest spread earned on the portfolio. The decrease in net interest income during the nine months ended September 30, 2008 is due mainly to the decrease in the average balance of MBS investments held in our portfolio offset by an increase in the net interest spread. In addition, the Company recorded $110.4 million and $116.6 million in other-than-temporary impairments for the three and nine months ended September 30, 2008, respectively, based on the Company's quarterly fair value assessment of the MBS portfolio.

In general, the Company values its agency mortgage-backed securities and other AAA-rated private label mortgage-backed securities using quoted market prices provided by a broker or dealer, or alternative pricing sources with reasonable levels of price transparency. The independent brokers and dealers providing market prices are those who make markets in these financial instruments. Therefore, in accordance with SFAS 157, the Company generally classifies these securities within Level 2 of the fair value hierarchy.

However, as a result of continued severe market dislocation and the resulting significant decline in the volume and level of trading activities in the AAA-rated private label mortgage-backed securities market, management determined that the broker or dealer price quotes generally obtained for the AAA-rated private label

mortgage-backed securities reflect an inactive market and are less determinative of fair value as of September 30, 2008, as these broker or dealer price quotes are derived by using the matrix prices. Therefore, the Company transferred and classified the AAA-rated private label mortgage-backed securities within Level 3 of the fair value hierarchy as of September 30, 2008.

In determining fair value of the AAA-rated private label mortgage-backed securities, the Company utilized cash flow estimates using adjustments for loan defaults that simulate the loan performance of the underlying collateral. Key factors to determine loan losses were the rate of default and the loss severity in the event of default. The Company's estimates for these factors were based on historical experience and projections using available research provided by other market participants. By reducing the contractual cash flows from the mortgages by estimates of loan prepayments and credit losses on loan defaults, the Company believes its estimates reflect reasonable assumptions based on actual loan performance and reasonable estimates of future expectations. The resulting cash flows were then discounted using observable market yields for similar risk investments. Unlike the AAA-rated private label mortgage-backed securities market, the high yield bond market is one of the few fixed income markets where prices and yields on risky assets can still be observed. In the current environment, the Company believes the AAA-rated private label mortgage-backed securities market has comparable risk characteristics to high yield corporate bonds.

Consistent with the strategy announced by the Company on October 23, 2008 discussed above, subsequent to September 30, 2008, the Company extinguished an additional $37.8 million of long term debt for a gain of $23.4 million and the Company further reduced its MBS portfolio by $1.1 billion at a net loss of $65.0 million related to further decline in the MBS value subsequent to September 30, 2008, resulting in a net loss of $41.6 million after deducting the $23.4 million gain from the extinguishment of long term debt.

Merchant Banking and Long-Term Investments

The total value of our merchant banking portfolio and long-term investments was $106.8 million as of September 30, 2008. Of this total, $73.5 million was held in the merchant banking portfolio, $20.1 million was held in alternative asset funds and mutual funds and $13.1 million was held in other long-term investments. Net unrealized gains in the merchant banking portfolio included in accumulated other comprehensive income ("AOCI") totaled $0.9 million as of September 30, 2008.

During the nine months ended September 30, 2008, we recorded other than temporary impairment write-downs of $17.3 million on certain merchant banking investments and $8.6 million in residual interest in a non-prime mortgage loan securitization. These write-downs were recorded as part of the Company's quarterly assessments of unrealized losses in its portfolio for potential other-than-temporary impairments.

Mortgage Banking

We historically conducted our mortgage banking activities primarily through our taxable REIT subsidiary First NLC. As a result of continued deterioration of the non-prime mortgage market, on January 18, 2008, First NLC filed a voluntary petition for bankruptcy protection under Chapter 11 of the United States Bankruptcy Code in order to effectuate an orderly liquidation of First NLC's assets. The filing was made in the United States Bankruptcy Court for the Southern District of Florida, West Palm Beach Division. On May 9, 2008, First NLC filed a notice of conversion with the bankruptcy court to convert First NLC's petition for bankruptcy protection from a petition under Chapter 11 of the United States Bankruptcy Code to a petition under Chapter 7 of the United States Bankruptcy Code. As a result, on January 18, 2008, the Company deconsolidated First NLC and recognized its investment in First NLC under the cost-method thereafter.

In addition, during the quarter ended March 31, 2008, the Company recorded a non-cash reversal of its $73.0 million negative investment in First NLC as the Company has no continuing involvement with First NLC. The Company has obtained a legal opinion from its outside counsel to the effect that First NLC's creditors would

not be able to pierce the corporate veil between First NLC and the Company. However, the First NLC bankruptcy proceeding is an ongoing matter that has not yet been concluded and we cannot predict the outcome of the proceeding. As a result of the bankruptcy, and based on the Company's review of its relationship with First NLC and the opinion of the Company's counsel referenced above, the Company believes it has no remaining guarantees of the debt or any other obligation of First NLC other than those satisfied out of First NLC's "cash collateral" (i.e., cash already owned by First NLC, but impressed with a lien in favor of the Company and other lenders) and it is considered remote that the Company would have any further obligations related to First NLC.

Operating losses incurred by the mortgage banking segment, which used to consist primarily of First NLC, decreased to an operating loss of $0.7 million and $3.9 million for the three and nine months ended September 30, 2008, respectively, from an operating loss of $54.3 million and $306.7 million for the three and nine months ended September 30, 2007, respectively. The operating losses in 2007 were primarily attributable to the continued decline in value of the loans due to the continued deterioration in the market for non-prime residential mortgage loans which reflected the effects of industry-wide increases in early payment default requests from loan investors as well as the surplus of non-prime loans in the market.

Results of Operations

Three months ended September 30, 2008 compared to three months ended September 30, 2007

Net loss decreased from $210.6 million in the third quarter of 2007 to a net loss of $169.0 million in the third quarter of 2008. Net loss included the following results of operations by segment (dollars in thousands):

                                                                  Three Months Ended
                                                                    September 30,
                                                                 2008            2007
Capital Markets                                               $  (33,351 )    $      723
Asset Management                                                  (3,939 )        (2,318 )
Principal Investing                                             (167,087 )      (136,866 )
Mortgage Banking                                                    (728 )       (54,281 )
Intersegment Eliminations                                             -               -

Operating loss                                                  (205,105 )      (192,742 )
Gain on extinguishment of long-term debt                           4,078              -
Loss on issuance and sale of subsidiary shares and other
income                                                                (4 )        (2,450 )

Loss before income taxes and minority interest                  (201,031 )      (195,192 )
Income tax (benefit) provision                                   (18,123 )        15,288
Minority interest in (losses) earnings of consolidated
subsidiary                                                       (13,886 )           165

Net loss                                                      $ (169,022 )    $ (210,645 )

Net loss decreased from $210.6 million in the third quarter of 2007 to $169.0 million in the third quarter of 2008. The decrease is attributable to a reduction in losses associated with our mortgage banking segment as a result of the deconsolidation of First NLC for reporting purposes and tax expenses of $35.4 million recognized in the third of quarter of 2007 related to the valuation allowance on losses derived from First NLC and recognition of tax basis in excess of book value in subsidiaries as a result of tax deconsolidation. These reductions in losses were partially offset by losses generated by FBR Capital Markets in the third quarter of 2008 compared to breakeven operations in the third quarter of 2007. In addition, our principal investing segment incurred increased losses related to other than temporary impairment of investments in our MBS and merchant banking portfolios.

The Company's loss, net of interest expense, increased from $45.7 million in the third quarter of 2007 to $103.7 million in the third quarter of 2008 due to the changes in revenues and interest expense described below.

Capital raising revenue decreased 86.3% from $49.7 million in the third quarter of 2007 to $6.8 million in the third quarter of 2008. The lower volume of capital raising activity was spread across all of the Company's industry sectors reflecting the effects of the continued dislocation in U.S. financial markets and the resulting decrease in capital raising activity. We were the lead/sole manager on three public offering transactions raising $719.2 million in the third quarter of 2007 compared to one public offering transaction raising $156.6 million in the third quarter of 2008. The higher volume of capital raising activity in 2007 related primarily to our financial services and insurance sectors. We sole managed one private placement during the third quarter of 2007 generating $8.0 million in revenues.

Advisory revenue decreased 63.6% from $16.5 million in the third quarter of 2007 to $6.0 million in the third quarter of 2008. We completed eight merger and acquisition and advisory engagements in the third quarter of 2007 as compared to four merger and acquisition and advisory engagements in the third quarter of 2008.

Institutional brokerage revenue from agency commissions and principal transactions increased 33.8% from $27.2 million in the third quarter of 2007 to $36.4 million in the third quarter of 2008 as a result of increases in overall trading volume and increased volatility in the equity markets, partially offset by increased losses on trading securities.

Asset management base management fees decreased 39.3% from $6.1 million in the third quarter of 2007 to $3.7 million in the third quarter of 2008. The decrease is primarily attributable to the decrease in average net assets under management and a related decrease in mutual fund administrative fees resulting from a decrease in average mutual fund assets under management.

Revenues from our principal investment, mortgage banking and warehouse financing activities, net of related interest expense, resulted in a loss of $153.1 million in the third quarter of 2008 as compared to a loss of $140.3 million in the third quarter of 2007. The change in net revenues is primarily the result of the recognition of other than temporary impairments related to its MBS portfolio, partly offset by a decrease in losses incurred at First NLC due to the filing for bankruptcy protection and the resulting deconsolidation of First NLC. The following table summarizes the components of revenues from our principal investment, mortgage banking and warehouse financing activities, net of related interest expense (dollars in thousands):

                                                         Three Months Ended
                                                            September 30,
                                                         2008           2007
      Net interest income                             $   10,698     $   19,135
      Net investment loss-principal investing           (164,153 )     (131,960 )
      Dividend income                                        307            526
      Net investment income (loss)-mortgage banking           -         (27,968 )

                                                      $ (153,148 )   $ (140,267 )

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

                                                     Three Months Ended September 30,
                                              2008                                      2007
                                Average      Income /      Yield /        Average      Income /      Yield /
                                Balance     (Expense)       Cost          Balance     (Expense)       Cost
Mortgage-backed securities    $ 3,398,389   $   30,401        3.58 %    $ 3,766,152   $   54,669        5.81 %
Mortgage loans                         -            -           -         3,736,887       60,471        6.47 %

                              $ 3,398,389       30,401        3.58 %    $ 7,503,039      115,140        6.14 %

Other(1)                                           656                                     7,060

                                                31,057                                   122,200

Repurchase agreements         $ 2,993,800      (19,394 )     (2.53 )%   $ 1,469,051      (20,243 )     (5.39 )%
Commercial paper                       -            -           -         2,000,556      (27,621 )     (5.40 )%
Mortgage financing credit
facilities                             -            -           -           278,249       (4,565 )     (6.42 )%
Securitization                         -            -           -         3,439,540      (54,345 )     (6.18 )%
Derivative contracts(2)                -          (965 )                         -         3,709

                              $ 2,993,800      (20,359 )     (2.72 )%   $ 7,187,396     (103,065 )     (5.74 )%

Net interest income/spread                  $   10,698        0.86 %                  $   19,135        0.40 %

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

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

. . .