DISCLOSURES REGARDING FAIR VALUES OF FINANCIAL INSTRUMENTS

6 Months Ended

Jun. 30, 2016

DISCLOSURES REGARDING FAIR VALUES OF FINANCIAL INSTRUMENTS [Abstract]

DISCLOSURES REGARDING FAIR VALUES OF FINANCIAL INSTRUMENTS

NOTE 9 ¾ DISCLOSURES REGARDING FAIR VALUES OF FINANCIAL INSTRUMENTS

This note provides fair value-related disclosures as of the indicated balance sheet dates for Capstead’s financial assets and liabilities, most of which are influenced by changes in, and market expectations for changes in, interest rates and market liquidity conditions, as well as other factors beyond the control of management. With the exception of the fair value of lending counterparty investments, all fair values were determined using Level 2 Inputs in accordance with ASU 2010-06, Fair Value Measurements and Disclosures (Topic 820). Lending counterparty investments are nonmarketable securities classified as assets for which Level 3 Inputs are used to determine fair value. These assets consist primarily of FHLB stock and are considered strategic investments that are carried at cost and periodically valued and evaluated for impairment. No impairment charges have been recorded relative to these investments and the Company’s cost basis is deemed to approximate fair value.

Residential mortgage investments, nearly all of which are mortgage securities classified as available-for-sale, are measured at fair value on a recurring basis. In determining fair value estimates the Company considers recent trading activity for similar investments and pricing levels indicated by lenders in connection with designating collateral for secured borrowings, provided such pricing levels are considered indicative of actual market clearing transactions. In determining fair value estimates for Secured borrowings with initial terms of greater than 120 days, the Company considers pricing levels indicated by lenders for entering into new transactions using similar pledged collateral with terms equal to the remaining terms of the these borrowings. The Company considers current pricing for financial instruments with similar characteristics in determining fair value estimates for Unsecured borrowings prior to these borrowings’ initial redemption dates and subsequently bases fair value on discounted cash flows using Company estimates for market yields. Excluded from these disclosures are financial instruments for which cost basis is deemed to approximate fair value due primarily to the short duration of these instruments, which are valued using primarily Level 1 measurements, including Cash and cash equivalents, Cash collateral receivable from, or payable to, interest rate swap counterparties, receivables, payables and secured borrowings with initial terms of 120 days or less. See NOTE 6 for information relative to the valuation of interest rate swap agreements. Fair value-related disclosures for financial instruments other than debt securities were as follows as of the indicated dates (in thousands):

	June 30, 2016				December 31, 2015
	Carrying Amount		Fair Value		Carrying Amount		Fair Value
Financial assets:
Residential mortgage loans	$	2,948	$	3,000	$	3,817	$	3,900
Lending counterparty investments		35,002		35,002		65,002		65,002
Portfolio-related interest rate swap agreements		24		24		7,720		7,720
Financial liabilities:
Secured borrowings with initial terms of greater than 120 days		2,143,179		2,143,800		3,246,177		3,245,000
Unsecured borrowings		98,040		69,800		97,986		77,200
Interest rate swap agreements:
Portfolio-related		20,963		20,963		1,051		1,051
Unsecured borrowings-related		41,040		41,040		25,010		25,010

Fair value-related disclosures for debt securities were as follows as of the indicated dates (in thousands):

	Amortized Cost Basis		Gross Unrealized				Fair Value
	Amortized Cost Basis		Gains		Losses		Fair Value
June 30, 2016
Agency Securities classified as available-for-sale:
Fannie Mae/Freddie Mac	$	10,387,983	$	169,161	$	1,602	$	10,555,542
Ginnie Mae		3,324,482		20,586		4,216		3,340,852
Residential mortgage securities classified as held-to-maturity		2,201		27		–		2,228
December 31, 2015
Agency Securities classified as available-for-sale:
Fannie Mae/Freddie Mac		10,331,965		166,794		10,954		10,487,805
Ginnie Mae		3,661,766		11,705		13,016		3,660,455
Residential mortgage securities classified as held-to-maturity		2,660		44		–		2,704

	June 30, 2016				December 31, 2015
	Fair Value		Unrealized Loss		Fair Value		Unrealized Loss
Securities in an unrealized loss position:
One year or greater	$	632,671	$	3,129	$	597,652	$	4,259
Less than one year		922,011		2,689		4,468,844		19,711
	$	1,554,682	$	5,818	$	5,066,496	$	23,970

Capstead’s investment strategy involves managing a leveraged portfolio of relatively short-duration ARM Agency Securities and management expects these securities will be held until payoff absent a major shift in strategy or a severe contraction in the Company’s ability to obtain financing to support its portfolio. Declines in fair value caused by increases in interest rates are typically modest for investments in short-duration ARM Agency Securities compared to investments in longer-duration ARM or fixed-rate assets. These declines are generally recoverable in a relatively short period of time as coupon interest rates on the underlying mortgage loans reset to rates more reflective of the then-current interest rate environment.

From a credit risk perspective, federal government support for Fannie Mae and Freddie Mac helps ensure that fluctuations in value due to credit risk associated with these securities will be limited. Given that (a) any existing unrealized losses on mortgage securities held by the Company are not attributable to credit risk and declines in fair value of ARM securities due to changes in interest rates are generally recoverable in a relatively short period of time, (b) the Company typically holds its investments to maturity, and (c) it is more likely than not that the Company will not be required to sell any of its investments given the resiliency of the financing market for Agency Securities, none of these investments were considered other-than-temporarily impaired at June 30, 2016.

- Definition

The entire disclosure for the fair value of financial instruments (as defined), including financial assets and financial liabilities (collectively, as defined), and the measurements of those instruments as well as disclosures related to the fair value of non-financial assets and liabilities. Such disclosures about the financial instruments, assets, and liabilities would include: (1) the fair value of the required items together with their carrying amounts (as appropriate); (2) for items for which it is not practicable to estimate fair value, disclosure would include: (a) information pertinent to estimating fair value (including, carrying amount, effective interest rate, and maturity, and (b) the reasons why it is not practicable to estimate fair value; (3) significant concentrations of credit risk including: (a) information about the activity, region, or economic characteristics identifying a concentration, (b) the maximum amount of loss the entity is exposed to based on the gross fair value of the related item, (c) policy for requiring collateral or other security and information as to accessing such collateral or security, and (d) the nature and brief description of such collateral or security; (4) quantitative information about market risks and how such risks are managed; (5) for items measured on both a recurring and nonrecurring basis information regarding the inputs used to develop the fair value measurement; and (6) for items presented in the financial statement for which fair value measurement is elected: (a) information necessary to understand the reasons for the election, (b) discussion of the effect of fair value changes on earnings, (c) a description of [similar groups] items for which the election is made and the relation thereof to the balance sheet, the aggregate carrying value of items included in the balance sheet that are not eligible for the election; (7) all other required (as defined) and desired information.

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