FAIR VALUE MEASUREMENTS

3 Months Ended

Mar. 31, 2013

FAIR VALUE MEASUREMENTS

5. FAIR VALUE MEASUREMENTS

The Company follows fair value guidance in accordance with U.S. GAAP to account for its financial instruments.  The Company categorizes its financial instruments, based on the priority of the inputs to the valuation technique, into a three-level fair value hierarchy.  The fair value hierarchy gives the highest priority to quoted prices in active markets for identical assets or liabilities (Level 1) and the lowest priority to unobservable inputs (Level 3).  If the inputs used to measure the financial instruments fall within different levels of the hierarchy, the categorization is based on the lowest level input that is significant to the fair value measurement of the instrument. Financial assets and liabilities recorded at fair value on the Consolidated Statements of Financial Condition or disclosed in the related notes are categorized based on the inputs to the valuation techniques as follows:

Level 1– inputs to the valuation methodology are quoted prices (unadjusted) for identical assets and liabilities in active markets.

Level 2 – inputs to the valuation methodology include quoted prices for similar assets and liabilities in active markets, and inputs that are observable for the asset or liability, either directly or indirectly, for substantially the full term of the financial instrument.

Level 3 – inputs to the valuation methodology are unobservable and significant to overall fair value.

Agency mortgage-backed securities, Agency debentures and interest rate swaps are valued using quoted prices, including dealer quotes, or internally estimated prices for similar assets.  The Company incorporates common market pricing methods, including a spread measurement to the Treasury curve as well as underlying characteristics of the particular security including coupon, periodic and life caps, rate reset period and expected life of the security in its estimates of fair value. Management reviews the fair values generated by the model to determine whether prices are reflective of the current market.  Management indirectly corroborates its estimates of the fair value using pricing models by comparing its results to independent prices provided by dealers in the securities and/or third party pricing services. Certain liquid asset classes, such as Agency fixed-rate pass-throughs, may be priced using independent sources such as quoted prices for TBA securities.

The Agency mortgage-backed securities market is considered to be an active market such that participants transact with sufficient frequency and volume to provide transparent pricing information on an ongoing basis. The liquidity of the Agency mortgage-backed securities market and the similarity of the Company’s securities to those actively traded enable the Company to observe quoted prices in the market and utilize those prices as a basis for formulating fair value measurements.  Consequently, the Company has classified Agency mortgage-backed securities as Level 2 inputs in the fair value hierarchy.

The fair value of U.S. Treasury securities and investments in affiliates are based on quoted prices in active markets.

	Level 1		Level 2		Level 3
At March 31, 2013	(dollars in thousands)
Assets:
U.S. Treasury Securities	$	1,645,930	$	-		-
Agency mortgage-backed securities		-		108,256,671		-
Agency debentures		-		3,970,279		-
Investment in affiliates		267,547		-		-
Liabilities:
U.S. Treasury Securities sold, not yet purchased		611,167		-		-
Interest rate swaps		-		2,259,173		-
Other derivative contracts		4,812		-		-
	Level 1		Level 2		Level 3
At December 31, 2012	(dollars in thousands)
Assets:
U.S. Treasury Securities	$	752,076	$	-		-
Agency mortgage-backed securities		-		123,963,207		-
Agency debentures		-		3,009,568		-
Investment in affiliates		234,120		-		-
Other derivative contracts		7,955		1,875		-
Liabilities:
U.S. Treasury Securities sold, not yet purchased		495,437		-		-
Interest rate swaps		-		2,584,907		-

The following table summarizes the estimated fair value for all financial assets and liabilities as of March 31, 2013 and December 31, 2012.

		March 31, 2013				December 31, 2012
	Level in Fair Value Hierarchy	Carrying Value		Fair Value		Carrying Value		Fair Value
		(dollars in thousands)
Financial assets:
Cash and cash equivalents(1)	1	$	1,862,550	$	1,862,550	$	615,789	$	615,789
Reverse repurchase agreements(1)	1		4,933,465		4,933,465		1,811,095		1,811,095
U.S. Treasury Securities(2)	1		1,645,930		1,645,930		752,076		752,076
Securities borrowed(2)	2		2,688,485		2,688,485		2,160,942		2,160,942
Agency mortgage-backed securities	2		108,256,671		108,256,671		123,963,207		123,963,207
Agency debentures	2		3,970,279		3,970,279		3,009,568		3,009,568
Investment in affiliates(2)	1		267,547		267,547		234,120		234,120
Corporate debt(3)	2		66,539		67,130		63,944		64,271
Other derivatives(2)	1,2		-		-		9,830		9,830
Financial liabilities:
U.S. Treasury Securities sold, not yet purchased(2)	1	$	611,167	$	611,167	$	495,437	$	495,437
Repurchase agreements(1)(4)	1,2		100,322,942		100,828,852		102,785,697		103,332,832
Securities loaned(2)	2		2,330,060		2,330,060		1,808,315		1,808,315
Convertible Senior Notes(2)	1		824,902		909,255		825,541		899,192
Interest rate swaps	2		2,259,173		2,259,173		2,584,907		2,584,907
Other derivatives(2)	1,2		4,812		4,812		-		-

(1)   Carrying value approximates fair value due to the short-term maturities of these items.

(2)   Fair value is determined using end of day quoted prices in active markets.

(3)   The carrying value of the corporate debt is based on amortized cost. Estimates of fair value of corporate debt require the use of significant judgments and inputs including, but not limited to, the enterprise value of the borrower (i.e., an estimate of the total fair value of the borrower's debt and equity), the nature and realizable value of any collateral, the borrower’s ability to make payments when due and its earnings history.  Management also considers factors that affect the macro and local economic markets in which the borrower operates. 

(4)   The fair value of repurchase agreements with maturities greater than one year are valued as pay fixed versus receive floating interest rate swaps.