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Fair Value of Financial Instruments (Notes) | 9 Months Ended
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Sep. 30, 2020
Fair Value Disclosures [Abstract] |
Fair Value of Financial Instruments | FAIR VALUE OF FINANCIAL INSTRUMENTS Fair value is defined as the price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement date. Fair value is based on the assumptions market participants would use when pricing an asset or liability and also considers all aspects of nonperformance risk, including the entity’s own credit standing, when measuring fair value of a liability. ASC Topic 820 established a valuation hierarchy of three levels as follows: •Level 1 – Inputs are unadjusted, quoted prices in active markets for identical assets or liabilities as of the measurement date. •Level 2 – Inputs include quoted prices in active markets for similar assets or liabilities; quoted prices in inactive markets for identical or similar assets or liabilities; or inputs either directly observable or indirectly observable through correlation with market data at the measurement date and for the duration of the instrument’s anticipated life. •Level 3 – Unobservable inputs are supported by little or no market activity. The unobservable inputs represent management’s best estimate of how market participants would price the asset or liability at the measurement date. Consideration is given to the risk inherent in the valuation technique and the risk inherent in the inputs to the model. The following table presents the Company’s financial instruments that are measured at fair value on the Company’s consolidated balance sheet by their valuation hierarchy levels as of the dates indicated:
| September 30, 2020 |  | December 31, 2019
| Fair Value |  | Level 1 |  | Level 2 |  | Level 3 |  | Fair Value |  | Level 1 |  | Level 2 |  | Level 3
Assets carried at fair value: |  |  |  |  |  |  |  |  |  |  |  |  |  |  |
MBS | $ | 2,995,660 |  |  | $ | — |  |  | $ | 2,994,262 |  |  | $ | 1,398 |  |  | $ | 5,188,163 |  |  | $ | — |  |  | $ | 5,186,473 |  |  | $ | 1,690 |
Mortgage loans held for investment (1) | 6,921 |  |  | — |  |  | — |  |  | 6,921 |  |  | 8,857 |  |  | — |  |  | — |  |  | 8,857 |
Derivative assets: |  |  |  |  |  |  |  |  |  |  |  |  |  |  |
Options on U.S. Treasury futures | 386 |  |  | 386 |  |  | — |  |  | — |  |  | 2,883 |  |  | 2,883 |  |  | — |  |  | — |
Interest rate swaptions | 411 |  |  | — |  |  | 411 |  |  | — |  |  | 573 |  |  | — |  |  | 573 |  |  | — |
TBA securities-long positions | 3,469 |  |  | — |  |  | 3,469 |  |  | — |  |  | 834 |  |  | — |  |  | 834 |  |  | — |
Total assets carried at fair value | $ | 3,006,847 |  |  | $ | 386 |  |  | $ | 2,998,142 |  |  | $ | 8,319 |  |  | $ | 5,201,310 |  |  | $ | 2,883 |  |  | $ | 5,187,880 |  |  | $ | 10,547 |
Liabilities carried at fair value: |  |  |  |  |  |  |  |  |  |  |  |  |  |  |
TBA-short positions | $ | — |  |  | $ | — |  |  | $ | — |  |  | $ | — |  |  | $ | 974 |  |  | $ | — |  |  | $ | 974 |  |  | $ | — |
U.S. Treasury futures | 5,164 |  |  | 5,164 |  |  | — |  |  | — |  |  | — |  |  | — |  |  | — |  |  | — |
Total liabilities carried at fair value | $ | 5,164 |  |  | $ | 5,164 |  |  | $ | — |  |  | $ | — |  |  | $ | 974 |  |  | $ | — |  |  | $ | 974 |  |  | $ | — |
(1) Mortgage loans held for investment were carried at amortized cost of $9,405 on the Company’s consolidated balance sheet as of December 31, 2019. The fair value measurements for the Company's MBS are considered Level 2 when there are substantially similar securities actively trading or for which there has been recent trading activity in their respective markets. The Company determines the fair value of its Level 2 securities based on prices received from the Company's primary pricing service as well as other pricing services and brokers. The Company evaluates the third-party prices it receives to assess their reasonableness. Although the Company does not adjust third-party prices, they may be excluded from use in the determination of a security's fair value if they are significantly different from other observable market data. In valuing a security, the primary pricing service uses either a market approach, which uses observable prices and other relevant information that is generated by market transactions of identical or similar securities, or an income approach, which uses valuation techniques to convert future amounts to a single, discounted present value amount. The Company also reviews the assumptions and inputs utilized in the valuation techniques of its primary pricing service. Examples of these observable inputs and assumptions include market interest rates, credit spreads, and projected prepayment speeds, among other things. The Company owns MBS and mortgage loans that are considered Level 3 assets because there has been no recent trading activity of similar instruments upon which their fair value can be measured. The fair value for these Level 3 assets is measured by discounting the estimated future cash flows derived from cash flow models using significant inputs which are determined by the Company when market observable inputs are not available. Information utilized in those pricing models include the security’s credit rating, coupon rate, estimated prepayment speeds, expected weighted average life, collateral composition, estimated future interest rates, expected credit losses, and credit enhancement as well as certain other relevant information. The Company used a constant prepayment rate assumption of 10%, default rate of 2%, loss severity of 20%, and a discount rate of 7.0% in measuring the fair value of its Level 3 assets as of September 30, 2020. Significant changes in any of these inputs in isolation may result in a significantly different fair value measurement. Level 3 assets are generally most sensitive to the default rate and severity assumptions. The activity of the Company’s Level 3 assets during the three and nine months ended September 30, 2020 is presented in the following table:
| Three Months Ended |  | Nine Months Ended
| September 30, 2020 |  | September 30, 2020
| Other Non-Agency MBS |  | Mortgage Loans |  | Other Non-Agency MBS |  | Mortgage Loans
Balance as of beginning of period | $ | 1,490 |  |  | $ | 7,366 |  |  | $ | 1,690 |  |  | $ | 9,405 |
Change in fair value (1) | (72) |  |  | 213 |  |  | (246) |  |  | (288) |
Principal payments | (102) |  |  | (651) |  |  | (308) |  |  | (2,170) |
Accretion (amortization) | 82 |  |  | (7) |  |  | 262 |  |  | (26) |
Balance as of end of period | $ | 1,398 |  |  | $ | 6,921 |  |  | $ | 1,398 |  |  | $ | 6,921 |
(1) Change in fair value for other non-Agency MBS is recorded as unrealized gain (loss) in “other comprehensive income”. Change in fair value for mortgage loans is recorded as unrealized gain (loss) in “fair value adjustments, net“ and the amount shown for the nine months ended September 30, 2020 is net of cumulative adjustment of $(548) made to the amortized cost as of December 31, 2019 as a result of the Company’s election of the fair value option for its mortgage loans effective January 1, 2020. The fair value of interest rate swaps is measured using the income approach with the primary input being the forward interest rate swap curve, which is considered an observable input, and thus their fair values are considered Level 2 measurements. All of the Company’s interest rate swap agreements are centrally cleared through the CME. Please refer to Note 1 for information regarding the exchange of variation margin being legally considered as settlement of the derivative as opposed to a pledge of collateral. U.S. Treasury futures and options on U.S. Treasury futures are valued based on closing exchange prices on these contracts and are classified accordingly as Level 1 measurements. Unlike its interest rate swaps, the Company does not treat the exchange of variation margin for its U.S. Treasury futures as legal settlement of the instrument. The fair value of interest rate swaptions is based on the fair value of the underlying interest rate swap and time remaining until its expiration and is carried on the balance sheet net of any deferred premium to be paid upon expiration. The fair value of TBA securities is estimated using methods similar those used to fair value the Company’s Level 2 MBS.

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- 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. + References Reference 1: http://www.xbrl.org/2003/role/disclosureRef -Publisher FASB -Name Accounting Standards Codification -Topic 820 -SubTopic 10 -Section 50 -Paragraph 2 -URI http://asc.fasb.org/extlink&oid=117815213&loc=d3e19207-110258 + Details
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