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Valuation
9 Months Ended
Sep. 30, 2011
Valuation [Abstract] 
Valuation

3. Valuation

The following is a description of the valuation methodologies used for the Company's financial instruments.

Level 1 valuation methodologies include the observation of quoted prices (unadjusted) for identical assets or liabilities in active markets, often received from widely recognized data providers.

Level 2 valuation methodologies include the observation of (i) quoted prices for similar assets or liabilities in active markets, (ii) inputs other than quoted prices that are observable for the asset or liability (for example, interest rates and yield curves) in active markets and (iii) quoted prices for identical or similar assets or liabilities in markets that are not active.

Level 3 valuation methodologies include (i) the use of proprietary models that require the use of a significant amount of judgment and the application of various assumptions including, but not limited to, prepayment and default rate assumptions, and (ii) the solicitation of valuations from third parties (typically, broker-dealers). Third-party valuation providers often utilize proprietary models that are highly subjective and also require the use of a significant amount of judgment and the application of various assumptions including, but not limited to, prepayment and default rate assumptions. The Manager utilizes such information to assign a good faith valuation (the estimated price that would be received to sell an asset or paid to transfer a liability in an orderly transaction at the valuation date) to such financial instruments. The Manager has been able to obtain third-party valuations on the vast majority of the Company's financial instruments and expects to continue to solicit third-party valuations on substantially all of the Company's financial instruments in the future to the extent practical.

The Manager uses its judgment based on its own models, the assessments of its portfolio managers, and third-party valuations it obtains, to determine and assign fair values to the Company's Level 3 financial instruments. Because of the inherent uncertainty of valuation, estimated values may differ significantly from the values that would have been used had a ready market for the financial instruments existed, and the differences could be material to the consolidated financial statements.

 

The table below reflects the value (in thousands) of the Company's Level 1, Level 2, and Level 3 financial instruments at September 30, 2011:

 

Description

    Level 1      Level 2     Level 3      Total  

Assets:

           

Investments at value-

           

U.S. Treasury and Agency residential mortgage-backed securities

    $ —         $ 881,372      $ 5,461       $ 886,833   

Private label residential mortgage-backed securities

      —           —          396,264         396,264   

Private label commercial mortgage-backed securities

      —           —          14,879         14,879   

Commercial Mortgage Loans

      —           —          4,375         4,375   
  

 

 

     

 

 

    

 

 

     

 

 

  

Total investments at value

      —           881,372        420,979         1,302,351   
  

 

 

     

 

 

    

 

 

     

 

 

  

Financial derivatives-assets-

           

Credit default swaps on corporate indices

      —           109        —           109   

Credit default swaps on asset backed securities

      —           —          59,906         59,906   

Credit default swaps on asset backed indices

      —           50,541        —           50,541   

Total return swaps

      —           827        —           827   

Interest rate swaps

      —           22        —           22   
  

 

 

     

 

 

    

 

 

     

 

 

  

Total financial derivatives-assets

      —           51,499        59,906         111,405   
  

 

 

     

 

 

    

 

 

     

 

 

  

Repurchase agreements

      —           18,035        —           18,035   
  

 

 

     

 

 

    

 

 

     

 

 

  

Total investments, financial derivatives-assets and repurchase agreements

    $ —         $ 950,906      $ 480,885       $ 1,431,791   
  

 

 

     

 

 

    

 

 

     

 

 

  

Liabilities:

           

Investments sold short-

           

U.S. Treasury and Agency residential mortgage-backed securities

    $ —         $ (562,670 )    $ —         $ (562,670 ) 
  

 

 

     

 

 

    

 

 

     

 

 

  

Financial derivatives-liabilities-

           

Credit default swaps on asset backed indices

      —           (15,467 )      —           (15,467 ) 

Interest rate swaps

      —           (19,521 )      —           (19,521 ) 
  

 

 

     

 

 

    

 

 

     

 

 

  

Total financial derivatives-liabilities

      —           (34,988 )      —           (34,988 ) 
  

 

 

     

 

 

    

 

 

     

 

 

  

Total investments sold short and financial derivatives-liabilities

    $ —         $ (597,658 )    $ —         $ (597,658 ) 
  

 

 

     

 

 

    

 

 

     

 

 

  

Investments under the U.S. Treasury and Agency residential mortgage-backed securities Level 3 category are investments in Agency interest only RMBS securities. There were no transfers of financial instruments between Level 1, Level 2, or Level 3 during the nine month period ended September 30, 2011.

 

The table below reflects the value (in thousands) of the Company's Level 1, Level 2, and Level 3 financial instruments at December 31, 2010:

 

Description

    Level 1     Level 2     Level 3      Total  

Assets:

          

Investments at value-

          

U.S. Treasury and Agency residential mortgage-backed securities

    $ —        $ 905,378      $ —         $ 905,378   

Private label residential mortgage-backed securities

      —          —          338,839         338,839   

Private label commercial mortgage-backed securities

      —          —          1,850         1,850   
  

 

 

    

 

 

    

 

 

     

 

 

  

Total investments at value

      —          905,378        340,689         1,246,067   
  

 

 

    

 

 

    

 

 

     

 

 

  

Financial derivatives-assets-

          

Credit default swaps on asset backed securities

      —          —          102,850         102,850   

Credit default swaps on asset backed indices

      —          96,690        —           96,690   

Interest rate swaps

      —          1,795        —           1,795   
  

 

 

    

 

 

    

 

 

     

 

 

  

Total financial derivatives-assets

      —          98,485        102,850         201,335   
  

 

 

    

 

 

    

 

 

     

 

 

  

Repurchase agreements

      —          25,684        —           25,684   
  

 

 

    

 

 

    

 

 

     

 

 

  

Total investments, financial derivatives-assets and repurchase agreements

    $ —        $ 1,029,547      $ 443,539       $ 1,473,086   
  

 

 

    

 

 

    

 

 

     

 

 

  

Liabilities:

          

Investments sold short-

          

U.S. Treasury and Agency residential mortgage-backed securities

    $ —        $ (775,145 )    $ —         $ (775,145 ) 
  

 

 

    

 

 

    

 

 

     

 

 

  

Financial derivatives-liabilities-

          

Credit default swaps on corporate indices

      —          (186 )      —           (186 ) 

Credit default swaps on asset backed indices

      —          (18,278 )      —           (18,278 ) 

Interest rate swaps

      —          (1,676 )      —           (1,676 ) 

Unrealized depreciation on futures contracts

      (890 )      —          —           (890 ) 
  

 

 

    

 

 

    

 

 

     

 

 

  

Total financial derivatives-liabilities

      (890 )      (20,140 )      —           (21,030 ) 
  

 

 

    

 

 

    

 

 

     

 

 

  

Total investments sold short and financial derivatives-liabilities

    $ (890 )    $ (795,285 )    $ —         $ (796,175 ) 
  

 

 

    

 

 

    

 

 

     

 

 

  

There were no transfers of financial instruments between Level 1, Level 2, or Level 3 during the year ended December 31, 2010.

At December 31, 2010, the Company held money market investments that are included in cash and cash equivalents on the Consolidated Statement of Assets, Liabilities and Shareholders' Equity and are considered Level 1 financial instruments.

 

The tables below include a roll-forward of the Company's financial instruments for the three month periods ended September 30, 2011 and 2010, respectively (including the change in fair value), for financial instruments classified by the Company within Level 3 of the valuation hierarchy.

Level 3—Fair Value Measurement Using Significant Unobservable Inputs:

Three Month Period Ended September 30, 2011

 

(In thousands)   Beginning
Balance as of
June 30,
2011		     Accreted
Discounts /
Amortized
Premiums		     Realized
Gain/(Loss)		     Change in Net
Unrealized
Gain/(Loss)		     Purchases     Sales     Transfers In
and/or Out
of Level 3		     Ending Balance
as of September
30, 2011		  

Assets:

                

Investments at value-

                

U.S. Treasury and Agency residential mortgage-backed securities

   $ 5,227      $ (423 )    $ —        $ (2,169 )    $ 2,826      $ —        $ —        $ 5,461   

Private label residential mortgage-backed securities

     357,894        4,389        3,107        (12,994 )      106,262        (62,394 )      —          396,264   

Private label commercial mortgage-backed securities

     10,942        147        (38 )      (1,707 )      6,918        (1,383 )      —          14,879   

Commercial Mortgage Loans

     4,650        31        —          (306 )      —          —          —          4,375   
 

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

  

Total investments at value

     378,713        4,144        3,069        (17,176 )      116,006        (63,777 )      —          420,979   
 

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

  

Financial derivatives- assets

                

Credit default swaps on asset backed securities

     69,829        —          3,088        (248 )      122        (12,885 )      —          59,906   
 

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

  

Total financial derivatives- assets

     69,829        —          3,088        (248 )      122        (12,885 )      —          59,906   
 

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

  

Total investments and financial derivatives-assets

   $ 448,542      $ 4,144      $ 6,157      $ (17,424 )    $ 116,128      $ (76,662 )    $ —        $ 480,885   
 

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

  

All amounts of net realized and change in net unrealized gain (loss) in the table above are reflected in the accompanying Consolidated Statement of Operations. The table above incorporates changes in net unrealized gain (loss) for both Level 3 financial instruments held by the Company at September 30, 2011, as well as Level 3 financial instruments disposed of by the Company during the three month period ended September 30, 2011. For Level 3 financial instruments held by the Company at September 30, 2011, change in net unrealized gain (loss) of $(15.9) million and $2.3 million, for the three month period ended September 30, 2011 relate to investments and financial derivative-assets, respectively.

 

Level 3—Fair Value Measurement Using Significant Unobservable Inputs:

Three Month Period Ended September 30, 2010

 

(In thousands)    Beginning
Balance as
of June 30,
2010		      Accreted
Discounts /
Amortized
Premiums		      Realized
Gain/(Loss)		     Change in Net
Unrealized
Gain/(Loss)		     Purchases      Sales     Transfers In
and/or Out  of
Level 3		      Ending Balance
as of September
30, 2010		  

Assets:

                     

Investments at value-

                     

Private label residential mortgage-backed securities

    $ 245,519       $ 2,783       $ 2,511      $ 22,016      $ 33,859       $ (36,800 )    $ —         $ 269,888   
  

 

 

     

 

 

     

 

 

    

 

 

    

 

 

     

 

 

    

 

 

     

 

 

  

Total investments at value

      245,519         2,783         2,511        22,016        33,859         (36,800 )      —           269,888   
  

 

 

     

 

 

     

 

 

    

 

 

    

 

 

     

 

 

    

 

 

     

 

 

  

Financial derivatives- assets

                     

Credit default swaps on asset backed securities

      113,425         —           (2,683 )      (1,647 )      422         (6,943 )      —           102,574   
  

 

 

     

 

 

     

 

 

    

 

 

    

 

 

     

 

 

    

 

 

     

 

 

  

Total financial derivatives- assets

      113,425         —           (2,683 )      (1,647 )      422         (6,943 )      —           102,574   
  

 

 

     

 

 

     

 

 

    

 

 

    

 

 

     

 

 

    

 

 

     

 

 

  

Total investments and financial derivatives-assets

    $ 358,944       $ 2,783       $ (172 )    $ 20,369      $ 34,281       $ (43,743 )    $ —         $ 372,462   
  

 

 

     

 

 

     

 

 

    

 

 

    

 

 

     

 

 

    

 

 

     

 

 

  

In January 2010, the FASB issued ASU No. 2010-6 Fair Value Measurements and Disclosures—(Topic 820), Improving Disclosures about Fair Value Measurements, which became effective for fiscal years beginning after December 15, 2010. As a result certain classifications in the above table have been conformed to the current period presentation.

All amounts of net realized and change in net unrealized gain (loss) in the table above are reflected in the accompanying Consolidated Statement of Operations. The table above incorporates changes in net unrealized gain (loss) for both Level 3 financial instruments held by the Company at September 30, 2010, as well as Level 3 financial instruments disposed of by the Company during the three month-period ended September 30, 2010. For Level 3 financial instruments held by the Company at September 30, 2010, change in net unrealized gain (loss) of $18.9 million and $(1.6) million for the three month period ended September 30, 2010 relate to investments and financial derivative-assets, respectively.

 

Level 3—Fair Value Measurement Using Significant Unobservable Inputs:

Nine Month Period Ended September 30, 2011

 

(In thousands)    Beginning
Balance as of
December 31,
2010		      Accreted
Discounts /
Amortized
Premiums		     Realized
Gain/(Loss)		      Change in Net
Unrealized
Gain/(Loss)		     Purchases      Sales     Transfers In
and/or Out
of Level 3		      Ending Balance
as of September
30, 2011		  

Assets:

                     

Investments at value-

                     

U.S. Treasury and Agency residential mortgage-backed securities

    $ —         $ (843 )    $ 97       $ (2,320 )    $ 9,682       $ (1,155 )    $ —         $ 5,461   

Private label residential mortgage-backed securities

      338,839         11,710        17,664         (35,632 )      292,521         (228,838 )      —           396,264   

Private label commercial mortgage-backed securities

      1,850         378        859         (3,185 )      23,669         (8,692 )      —           14,879   

Commercial Mortgage Loans

      —           92        —           (392 )      4,675         —          —           4,375   
  

 

 

     

 

 

    

 

 

     

 

 

    

 

 

     

 

 

    

 

 

     

 

 

  

Total investments at value

      340,689         11,337        18,620         (41,529 )      330,547         (238,685 )      —           420,979   
  

 

 

     

 

 

    

 

 

     

 

 

    

 

 

     

 

 

    

 

 

     

 

 

  

Financial derivatives- assets

                     

Credit default swaps on asset backed securities

      102,851         —          8,396         (4,987 )      525         (46,879 )      —           59,906   
  

 

 

     

 

 

    

 

 

     

 

 

    

 

 

     

 

 

    

 

 

     

 

 

  

Total financial derivatives- assets

      102,851         —          8,396         (4,987 )      525         (46,879 )      —           59,906   
  

 

 

     

 

 

    

 

 

     

 

 

    

 

 

     

 

 

    

 

 

     

 

 

  

Total investments and financial derivatives-assets

    $ 443,540       $ 11,337      $ 27,016       $ (46,516 )    $ 331,072       $ (285,564 )    $ —         $ 480,885   
  

 

 

     

 

 

    

 

 

     

 

 

    

 

 

     

 

 

    

 

 

     

 

 

  

All amounts of net realized and change in net unrealized gain (loss) in the table above are reflected in the accompanying Consolidated Statement of Operations. The table above incorporates changes in net unrealized gain (loss) for both Level 3 financial instruments held by the Company at September 30, 2011, as well as Level 3 financial instruments disposed of by the Company during the nine month period ended September 30, 2011. For Level 3 financial instruments held by the Company at September 30, 2011, change in net unrealized gain (loss) of $(32.2) million and $(12.6) million for the nine month period ended September 30, 2011 relate to investments and financial derivative-assets, respectively.

 

Level 3—Fair Value Measurement Using Significant Unobservable Inputs:

Nine Month Period Ended September 30, 2010

 

(In thousands)    Beginning
Balance as of
December 31,
2009		     Accreted
Discounts /
Amortized
Premiums		      Realized
Gain/(Loss)		     Change in Net
Unrealized
Gain/(Loss)		     Purchases      Sales     Transfers In
and/or Out of
Level 3		      Ending Balance
as of September 30,
2010		  

Assets:

                    

Investments at value-

                    

Private label residential mortgage-backed securities

    $ 210,364      $ 8,722       $ 14,411      $ 26,360      $ 192,085       $ (182,054 )    $ —         $ 269,888   
  

 

 

    

 

 

     

 

 

    

 

 

    

 

 

     

 

 

    

 

 

     

 

 

  

Total investments at value

      210,364        8,722         14,411        26,360        192,085         (182,054 )      —           269,888   
  

 

 

    

 

 

     

 

 

    

 

 

    

 

 

     

 

 

    

 

 

     

 

 

  

Financial derivatives- assets

                    

Credit default swaps on corporate bonds

      8,476        —           (2,281 )      (2,650 )      1,713         (5,258 )      —           —     

Credit default swaps on asset backed securities

      95,199        —           8,787        (16,802 )      38,535         (23,145 )      —           102,574   

Other swaps

      257        —           335        (257 )      —           (335 )      —           —     
  

 

 

    

 

 

     

 

 

    

 

 

    

 

 

     

 

 

    

 

 

     

 

 

  

Total financial derivatives- assets

      103,932        —           6,841        (19,709 )      40,248         (28,738 )      —           102,574   
  

 

 

    

 

 

     

 

 

    

 

 

    

 

 

     

 

 

    

 

 

     

 

 

  

Total investments and financial derivatives-assets

    $ 314,296      $ 8,722       $ 21,252      $ 6,651      $ 232,333       $ (210,792 )    $ —         $ 372,462   
  

 

 

    

 

 

     

 

 

    

 

 

    

 

 

     

 

 

    

 

 

     

 

 

  

Liabilities:

                    

Financial derivatives- liabilities

                    

Credit default swaps on asset backed securities

    $ (10,548 )    $ —         $ (1,658 )    $ 3,881      $ 8,340       $ (15 )    $ —         $ —     
  

 

 

    

 

 

     

 

 

    

 

 

    

 

 

     

 

 

    

 

 

     

 

 

  

Total financial derivatives- liabilities

    $ (10,548 )    $ —         $ (1,658 )    $ 3,881      $ 8,340       $ (15 )    $ —         $ —     
  

 

 

    

 

 

     

 

 

    

 

 

    

 

 

     

 

 

    

 

 

     

 

 

  

Total investments sold short and financial derivatives- liabilities

    $ (10,548 )    $ —         $ (1,658 )    $ 3,881      $ 8,340       $ (15 )    $ —         $ —     
  

 

 

    

 

 

     

 

 

    

 

 

    

 

 

     

 

 

    

 

 

     

 

 

  

In January 2010, the FASB issued ASU No. 2010-6 Fair Value Measurements and Disclosures—(Topic 820), Improving Disclosures about Fair Value Measurements, which became effective for fiscal years beginning after December 15, 2010. As a result certain classifications in the above table have been conformed to the current period presentation.

All amounts of net realized and change in net unrealized gain (loss) in the table above are reflected in the accompanying Consolidated Statement of Operations. The table above incorporates changes in net unrealized gain (loss) for both Level 3 financial instruments held by the Company at September 30, 2010, as well as Level 3 financial instruments disposed of by the Company during the nine month-period ended September 30, 2010. For Level 3 financial instruments held by the Company at September 30, 2010, change in net unrealized gain (loss) of $22.1 million and $(18.1) million for the nine month period ended September 30, 2010 relate to investments and financial derivative-assets, respectively.