AGNC 10Q 03/31/13


 
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
__________________________________________________ 
FORM 10-Q
 __________________________________________________
ý
QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended March 31, 2013
OR
¨
TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE SECURITIES EXCHANGE ACT OF 1934
Commission file number 001-34057
__________________________________________________ 
AMERICAN CAPITAL AGENCY CORP.
(Exact name of registrant as specified in its charter)
__________________________________________________
Delaware
 
26-1701984
(State or Other Jurisdiction of
Incorporation or Organization)
 
(I.R.S. Employer
Identification No.)
2 Bethesda Metro Center, 14th Floor
Bethesda, Maryland 20814
(Address of principal executive offices)
(301) 968-9300
(Registrant’s telephone number, including area code)
 __________________________________________________
Indicate by check mark whether the registrant (1) has filed all reports to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter earlier period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.    Yes  ý    No  ¨
Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).    Yes  ý    No  ¨
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer or a smaller reporting company. See definition of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act.
Large accelerated filer
ý
 
Accelerated filer
¨
 
 
 
 
 
Non-accelerated filer
¨
(Do not check if a smaller reporting company)
Smaller Reporting Company
¨
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).    Yes  ¨    No  ý
The number of shares of the issuer’s common stock, $0.01 par value, outstanding as of April 30, 2013 was 396,451,470
 



AMERICAN CAPITAL AGENCY CORP.
TABLE OF CONTENTS
 
 
 
 
 
 
 
 
 
 
 
 


1


PART I. - FINANCIAL INFORMATION

Item 1. Financial Statements 

AMERICAN CAPITAL AGENCY CORP.
CONSOLIDATED BALANCE SHEETS
(in millions, except per share data)

 
 
 
March 31, 2013
 
December 31, 2012
 
(Unaudited)
 
 
Assets:
 
 
 
Agency securities, at fair value (including pledged securities of $70,094 and $79,966, respectively)
$
74,874

 
$
83,710

Agency securities transferred to consolidated variable interest entities, at fair value (pledged securities)
1,421

 
1,535

Cash and cash equivalents
2,826

 
2,430

Restricted cash and cash equivalents
499

 
399

Derivative assets, at fair value
480

 
301

Receivable for securities sold (including pledged securities of $484 and $0, respectively)
734

 
—

Receivable under reverse repurchase agreements
12,291

 
11,818

Other assets
244

 
260

Total assets
$
93,369

 
$
100,453

Liabilities:
 
 
 
Repurchase agreements
$
66,260

 
$
74,478

Debt of consolidated variable interest entities, at fair value
862

 
937

Payable for securities purchased
259

 
556

Derivative liabilities, at fair value
1,217

 
1,264

Dividends payable
499

 
427

Obligation to return securities borrowed under reverse repurchase agreements, at
fair value
12,548

 
11,763

Accounts payable and other accrued liabilities
82

 
132

Total liabilities
81,727

 
89,557

Stockholders’ equity:
 
 
 
Preferred stock - $0.01 par value; 10.0 shares authorized:
 
 
 
8.000% Series A Cumulative Redeemable Preferred Stock; 6.9 shares issued and outstanding; liquidation preference of $25 per share ($173)
167

 
167

Common stock - $0.01 par value; 600.0 shares authorized:
 
 
 
396.5 and 338.9 shares issued and outstanding, respectively
4

 
3

Additional paid-in capital
11,261

 
9,460

Retained deficit
(557
)
 
(289
)
Accumulated other comprehensive income
767

 
1,555

Total stockholders’ equity
11,642

 
10,896

Total liabilities and stockholders’ equity
$
93,369

 
$
100,453


See accompanying notes to consolidated financial statements.


2


AMERICAN CAPITAL AGENCY CORP.
CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME
(Unaudited)
(in millions, except per share data)

 
 
Three months ended March 31,
 
2013
 
2012
Interest income:
 
 
 
Interest income
$
547

 
$
514

Interest expense
140

 
106

Net interest income
407

 
408

Other (loss) income, net:
 
 
 
(Loss) gain on sale of agency securities, net
(26
)
 
216

(Loss) gain on derivative instruments and other securities, net
(98
)
 
47

Total other (loss) income, net
(124
)
 
263

Expenses:
 
 
 
Management fees
33

 
22

General and administrative expenses
9

 
6

Total expenses
42

 
28

Income before income tax
241

 
643

Provision for income taxes, net
10

 
2

Net income
231

 
641

Dividend on preferred stock
3

 
—

Net income available to common shareholders
$
228

 
$
641

 
 
 
 
Net income
$
231

 
$
641

Other comprehensive loss:
 
 
 
Unrealized loss on available-for-sale securities, net
(837
)
 
(106
)
Unrealized gain on derivative instruments, net
49

 
52

Other comprehensive loss
(788
)
 
(54
)
Comprehensive (loss) income
(557
)
 
587

Dividend on preferred stock
3

 
—

Comprehensive (loss) income (attributable) available to common shareholders
$
(560
)
 
$
587

 
 
 
 
Weighted average number of common shares outstanding - basic and diluted
356.2

 
240.6

Net income per common share - basic and diluted
$
0.64

 
$
2.66

Comprehensive (loss) income per common share - basic and diluted
$
(1.57
)
 
$
2.44

Dividends declared per common share
$
1.25

 
$
1.25

See accompanying notes to consolidated financial statements.


3


AMERICAN CAPITAL AGENCY CORP.
CONSOLIDATED STATEMENT OF STOCKHOLDERS’ EQUITY
(Unaudited)
(in millions)

 
Preferred Stock
 
Common Stock
 
Additional
Paid-in
Capital
 
Retained
Earnings(Deficit)
 
Accumulated
Other
Comprehensive
Income (Loss)
 
Total
 
Shares
 
Amount
 
Shares
 
Amount
 
Balance, December 31, 2011
—

 
$
—

 
224.2

 
$
2

 
$
5,937

 
$
(38
)
 
$
311

 
$
6,212

Net income
—

 
—

 
—

 
—

 
—

 
641

 
—

 
641

Other comprehensive income:
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Unrealized loss on available-for-sale securities, net
—

 
—

 
—

 
—

 
—

 
—

 
(106
)
 
(106
)
Unrealized gain on derivative instruments, net
—

 
—

 
—

 
—

 
—

 
—

 
52

 
52

Issuance of common stock
—

 
—

 
75.8

 
1

 
2,204

 
—

 
—

 
2,205

Common dividends declared
—

 
—

 
—

 
—

 
—

 
(286
)
 
—

 
(286
)
Balance, March 31, 2012
—

 
$
—

 
300.0

 
$
3

 
$
8,141

 
$
317

 
$
257

 
$
8,718

 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Balance, December 31, 2012
6.9

 
$
167

 
338.9

 
$
3

 
$
9,460

 
$
(289
)
 
$
1,555

 
$
10,896

Net income
—

 
—

 
—

 
—

 
—

 
231

 
—

 
231

Other comprehensive income:
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Unrealized loss on available-for-sale securities, net
—

 
—

 
—

 
—

 
—

 
—

 
(837
)
 
(837
)
Unrealized gain on derivative instruments, net
—

 
—

 
—

 
—

 
—

 
—

 
49

 
49

Issuance of common stock
—

 
—

 
57.6

 
1

 
1,801

 
—

 
—

 
1,802

Preferred dividends declared
—

 
—

 
—

 
—

 
—

 
(3
)
 
—

 
(3
)
Common dividends declared
—

 
—

 
—

 
—

 
—

 
(496
)
 
—

 
(496
)
Balance, March 31, 2013
6.9

 
$
167

 
396.5

 
$
4

 
$
11,261

 
$
(557
)
 
$
767

 
$
11,642


See accompanying notes to consolidated financial statements.


4


AMERICAN CAPITAL AGENCY CORP.
CONSOLIDATED STATEMENTS OF CASH FLOWS
(Unaudited)
(in millions) 
 
Three months ended March 31,
 
2013
 
2012
Operating activities:
 
 
 
Net income
$
231

 
$
641

Adjustments to reconcile net income to net cash provided by operating activities:
 
 
 
Amortization of agency securities premiums and discounts, net
134

 
100

Amortization of accumulated other comprehensive loss on interest rate swaps de-designated as qualifying hedges
49

 
52

Loss (gain) on sale of agency securities, net
26

 
(216
)
Loss (gain) on derivative instruments and other securities, net
98

 
(47
)
Decrease (increase) in other assets
19

 
(70
)
(Decrease) increase in accounts payable and other accrued liabilities
(42
)
 
12

Accretion of discounts on debt of consolidated variable interest entities
3

 
—

Net cash provided by operating activities
518

 
472

Investing activities:
 
 
 
Purchases of agency securities
(15,294
)
 
(34,298
)
Proceeds from sale of agency securities
19,568

 
8,196

Principal collections on agency securities
2,634

 
1,895

Purchases of U.S. Treasury securities
—

 
(2,016
)
Proceeds from sale of U.S. Treasury securities
—

 
2,118

Proceeds from short sales of U.S. Treasury securities
10,001

 
11,000

Purchases of U.S. Treasury securities to cover short sales
(9,222
)
 
(8,031
)
Proceeds from reverse repurchase agreements
69,502

 
12,375

Payments made on reverse repurchase agreements
(69,975
)
 
(15,223
)
Net payments on other derivative instruments not designated as qualifying hedges
(329
)
 
(136
)
(Increase) decrease in restricted cash
(100
)
 
21

Net cash provided by (used in) investing activities
6,785

 
(24,099
)
Financing activities:
 
 
 
Proceeds from repurchase arrangements
96,511

 
93,962

Payments made on repurchase agreements
(104,729
)
 
(71,827
)
Repayments on debt of consolidated variable interest entities
(64
)
 
(4
)
Net proceeds from common stock issuances
1,802

 
2,205

Cash dividends paid
(427
)
 
(314
)
Net cash (used in) provided by financing activities
(6,907
)
 
24,022

Net change in cash and cash equivalents
396

 
395

Cash and cash equivalents at beginning of period
2,430

 
1,367

Cash and cash equivalents at end of period
$
2,826

 
$
1,762

See accompanying notes to consolidated financial statements.

5


AMERICAN CAPITAL AGENCY CORP.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)

Note 1. Unaudited Interim Consolidated Financial Statements
The interim consolidated financial statements of American Capital Agency Corp. (referred throughout this report as the “Company”, “we”, “us” and “our”) are prepared in accordance with U.S. generally accepted accounting principles (“GAAP”) for interim financial information and pursuant to the requirements for reporting on Form 10-Q and Article 10 of Regulation S-X. The preparation of financial statements in conformity with GAAP requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of income and expenses during the reporting period. Actual results could differ from those estimates.
Our unaudited consolidated financial statements include the accounts of our wholly-owned subsidiary, American Capital Agency TRS, LLC, and variable interest entities for which the Company is the primary beneficiary. Significant intercompany accounts and transactions have been eliminated. In the opinion of management, all adjustments, consisting solely of normal recurring accruals, necessary for the fair presentation of financial statements for the interim period have been included. The current period’s results of operations are not necessarily indicative of results that ultimately may be achieved for the year.

Note 2. Organization
We were organized in Delaware on January 7, 2008, and commenced operations on May 20, 2008 following the completion of our initial public offering (“IPO”). Our common stock is traded on The NASDAQ Global Select Market under the symbol “AGNC”.
We operate so as to qualify to be taxed as a real estate investment trust (“REIT”) under the Internal Revenue Code of 1986, as amended (the “Internal Revenue Code”). Therefore, substantially all of our assets, other than our taxable REIT subsidiary ("TRS"), consist of qualified real estate assets (as defined under the Internal Revenue Code). As a REIT, we are required to distribute annually 90% of our taxable net income. As long as we continue to qualify as a REIT, we will generally not be subject to U.S. federal or state corporate taxes on our taxable net income to the extent that we distribute all of our annual taxable net income to our stockholders. It is our intention to distribute 100% of our taxable income, after application of available tax attributes, within the limits prescribed by the Internal Revenue Code, which may extend into the subsequent taxable year.
We are externally managed by American Capital AGNC Management, LLC (our “Manager”), an affiliate of American Capital, Ltd. (“American Capital”).
We earn income primarily from investing on a leveraged basis in agency mortgage-backed securities ("agency MBS"). These investments consist of residential mortgage pass-through securities and collateralized mortgage obligations (“CMOs”) for which the principal and interest payments are guaranteed by government-sponsored entities, such as the Federal National Mortgage Association (“Fannie Mae”) and the Federal Home Loan Mortgage Corporation (“Freddie Mac”), or by a U.S. Government agency, such as the Government National Mortgage Association (“Ginnie Mae”) (collectively referred to as “GSEs”). We may also invest in agency debenture securities issued by Freddie Mac, Fannie Mae or the Federal Home Loan Bank ("FHLB"). We refer to agency MBS and agency debenture securities collectively as "investment securities" and we refer to the specific investment securities in which we invest as our "investment portfolio".  
Our principal objective is to preserve our net asset value (also referred to as "net book value", "NAV" and "stockholders' equity") while generating attractive risk-adjusted returns for distribution to our stockholders through regular quarterly dividends from the combination of our net interest income and net realized gains and losses on our investments and hedging activities. We fund our investments primarily through short-term borrowings structured as repurchase agreements.

Note 3. Summary of Significant Accounting Policies
Investment Securities
ASC Topic 320, Investments—Debt and Equity Securities (“ASC 320”), requires that at the time of purchase, we designate a security as held-to-maturity, available-for-sale or trading, depending on our ability and intent to hold such security to maturity. Securities classified as trading and available-for-sale are reported at fair value, while securities classified as held-to-maturity are reported at amortized cost. We may, from time to time, sell any of our investment securities as part of our overall management of our investment portfolio. Accordingly, we typically designate our investment securities as available-for-sale. All securities

6


classified as available-for-sale are reported at fair value, with unrealized gains and losses reported in accumulated other comprehensive income ("OCI"), a separate component of stockholders’ equity. Upon the sale of a security, we determine the cost of the security and the amount of unrealized gains or losses to reclassify out of accumulated OCI into earnings based on the specific identification method.
Interest-only securities and inverse interest-only securities (collectively referred to as “interest-only securities”) represent our right to receive a specified proportion of the contractual interest flows of specific agency CMO securities. Principal-only securities represent our right to receive the contractual principal flows of specific agency CMO securities. Interest-only and principal-only securities are measured at fair value through earnings in gain (loss) on derivative instruments and other securities, net in our consolidated statements of comprehensive income. Our investments in interest-only and principal-only securities are included in agency MBS securities, at fair value on the accompanying consolidated balance sheets.
We estimate the fair value of our investment securities based on a market approach using Level 2 inputs from third-party pricing services and non-binding dealer quotes derived from common market pricing methods. Such methods incorporate, but are not limited to, reported trades and executable bid and asked prices for similar securities, bench mark interest rate curves, such as the spread to the U.S. Treasury rate and interest rate swap curves, convexity, duration and the underlying characteristics of the particular security, including coupon, periodic and life caps, rate reset period, issuer, additional credit support and expected life of the security. Refer to Note 8 for further discussion of fair value measurements.
We evaluate securities for other-than-temporary impairment (“OTTI”) on at least a quarterly basis, and more frequently when economic or market conditions warrant such evaluation. The determination of whether a security is other-than-temporarily impaired involves judgments and assumptions based on subjective and objective factors. When an investment security is impaired, an OTTI is considered to have occurred if (i) we intend to sell the investment security (i.e. a decision has been made as of the reporting date) or (ii) it is more likely than not that we will be required to sell the investment security before recovery of its amortized cost basis. If we intend to sell the security or if it is more likely than not that we will be required to sell the investment security before recovery of its amortized cost basis, the entire amount of the impairment loss, if any, is recognized in earnings as a realized loss and the cost basis of the security is adjusted to its fair value.
We did not recognize any OTTI charges on our investment securities for the three months ended March 31, 2013 and 2012.
Interest Income
Interest income is accrued based on the outstanding principal amount of the investment securities and their contractual terms. Premiums and discounts associated with the purchase of investment securities are amortized or accreted into interest income over the projected lives of the securities, including contractual payments and estimated prepayments using the interest method in accordance with ASC Subtopic 310-20, Receivables—Nonrefundable Fees and Other Costs (“ASC 310-20”).
We estimate long-term prepayment speeds of our agency securities using a third-party service and market data. The third-party service estimates prepayment speeds using models that incorporate the forward yield curve, current mortgage rates and mortgage rates of the outstanding loans, age and size of the outstanding loans, loan-to-value ratios, volatility and other factors. We review the prepayment speeds estimated by the third-party service and compare the results to market consensus prepayment speeds, if available. We also consider historical prepayment speeds and current market conditions to validate the reasonableness of the prepayment speeds estimated by the third-party service and, based on our Manager’s judgment, we may make adjustments to their estimates. Actual and anticipated prepayment experience is reviewed quarterly and effective yields are recalculated when differences arise between (i) our previously estimated future prepayments and (ii) actual prepayments to date plus current estimated future prepayments. If the actual and estimated future prepayment experience differs from our prior estimate of prepayments, we are required to record an adjustment in the current period to the amortization or accretion of premiums and discounts for the cumulative difference in the effective yield through the reporting date.
The yield on our adjustable rate securities further assumes that the securities reset at a rate equal to the underlying index rate in effect as of the date we acquired the security plus the stated margin.
Derivative Instruments
We use a variety of derivative instruments to economically hedge a portion of our exposure to market risks, including interest rate risk, prepayment risk and extension risk. The objective of our risk management strategy is to reduce fluctuations in net book value over a range of interest rate scenarios. In particular, we attempt to mitigate the risk of the cost of our variable rate liabilities increasing during a period of rising interest rates. The principal instruments that we use are interest rate swaps and options to enter into interest rate swaps (“interest rate swaptions”). We also utilize forward contracts for the purchase or sale of agency MBS securities on a generic pool, or to-be-announced, basis ("TBA contracts") and on a non-generic specified pool basis, and we utilize U.S. Treasury securities and U.S. Treasury futures contracts, primarily through short sales. We may also purchase or write put

7


or call options on TBA securities and we may invest in other types of mortgage derivatives, such as interest-only securities, and synthetic total return swaps, such as the Markit IOS Synthetic Total Return Swap Index (“Markit IOS Index”).
We may also enter into TBA contracts as a means of investing in and financing agency securities. Pursuant to TBA contracts, we agree to purchase, for future delivery, agency securities with certain principal and interest terms and certain types of collateral, but the particular agency securities to be delivered are not identified until shortly before the TBA settlement date. We also may choose, prior to settlement, to move the settlement of these securities out to a later date by entering into an offsetting short position (referred to as a "pair off"), net settling the paired off positions for cash, and simultaneously purchasing a similar TBA contract for a later settlement date. This transaction is commonly referred to as a “dollar roll.” The agency securities purchased for a forward settlement date are typically priced at a discount to agency securities for settlement in the current month. This difference (or discount) is referred to as the “price drop.” The price drop is the economic equivalent of net interest carry income on the underlying agency securities over the roll period (interest income less implied financing cost) and is commonly referred to as "dollar roll income." Consequently, forward purchases of agency securities and dollar roll transactions represent a form of off-balance sheet financing.
We account for derivative instruments in accordance with ASC Topic 815, Derivatives and Hedging (“ASC 815”). ASC 815 requires an entity to recognize all derivatives as either assets or liabilities in the balance sheet and to measure those instruments at fair value.
Our derivative agreements generally contain provisions that allow for netting or setting off derivative assets and liabilities with each counterparty; however, we report related assets and liabilities on a gross basis in our consolidated balance sheets. Derivative instruments in a gain position are reported as derivative assets at fair value and derivative instruments in a loss position are reported as derivative liabilities at fair value in our consolidated balance sheets. Changes in fair value of derivative instruments and periodic settlements related to our derivative instruments are recorded in gain (loss) on derivative instruments and other securities, net in our consolidated statements of comprehensive income. Cash receipts and payments related to derivative instruments are classified in our consolidated statements of cash flows according to the underlying nature or purpose of the derivative transaction, generally in the investing section.
The use of derivatives creates exposure to credit risk relating to potential losses that could be recognized in the event that the counterparties to these instruments fail to perform their obligations under the contracts. We attempt to minimize this risk by limiting our counterparties to major financial institutions with acceptable credit ratings, monitoring positions with individual counterparties and adjusting posted collateral as required.
Discontinuation of hedge accounting for interest rate swap agreements
Prior to the third quarter of 2011, we entered into interest rate swap agreements typically with the intention of qualifying for hedge accounting under ASC 815. However, as of September 30, 2011, we elected to discontinue hedge accounting for our interest rate swaps. Upon discontinuation of hedge accounting, the net deferred loss related to our de-designated interest rate swaps remained in accumulated OCI and is being reclassified from accumulated OCI into interest expense on a straight-line basis over the remaining term of each interest rate swap.
Interest rate swap agreements
We use interest rate swaps to economically hedge the variable cash flows associated with borrowings made under our repurchase agreement facilities. Under our interest rate swap agreements, we typically pay a fixed rate and receive a floating rate based on one, three or six-month LIBOR ("payer swap") with terms up to 10 years, which has the effect of modifying the repricing characteristics of our repurchase agreements and cash flows on such liabilities.
We estimate the fair value of interest rate swaps using a combination of inputs from counterparty and third-party pricing models to estimate the net present value of the future cash flows using a forward interest rate yield curve in effect as of the end of the measurement period. We also incorporate both our own and our counterparties’ nonperformance risk in estimating the fair value of our interest rate swaps. In considering the effect of nonperformance risk, we consider the impact of netting and credit enhancements, such as collateral postings and guarantees, and have concluded that our own and our counterparty risk is not significant to the overall valuation of these agreements.
Interest rate swaptions
We purchase interest rate swaptions to help mitigate the potential impact of larger increases or decreases in interest rates on the performance of our investment portfolio (referred to as “convexity risk”). The interest rate swaptions provide us the option to enter into an interest rate swap agreement for a predetermined notional amount, stated term and pay and receive interest rates in the future. Our swaption agreements typically provide us the option to enter into a pay fixed rate interest rate swap, which we

8


refer as “payer swaptions”. We may also enter into swaption agreements that provide us the option to enter into a receive fixed interest rate swap, which we refer to as "receiver swaptions". The premium paid for interest rate swaptions is reported as an asset in our consolidated balance sheets. The premium is valued at an amount equal to the fair value of the swaption that would have the effect of closing the position adjusted for nonperformance risk, if any. The difference between the premium and the fair value of the swaption is reported in gain (loss) on derivative instruments and other securities, net in our consolidated statement of comprehensive income. If a swaption expires unexercised, the realized loss on the swaption would be equal to the premium paid. If we sell or exercise a swaption, the realized gain or loss on the swaption would be equal to the difference between the cash or the fair value of the underlying interest rate swap received and the premium paid.
We estimate the fair value of interest rate swaptions using a combination of inputs from counterparty and third-party pricing models based on the fair value of the future interest rate swap that we have the option to enter into as well as the remaining length of time that we have to exercise the option, adjusted for non-performance risk, if any.
TBA securities
A TBA security is a forward contract for the purchase ("long position") or sale ("short position") of agency MBS at a predetermined price, face amount, issuer, coupon and stated maturity on an agreed-upon future date. The specific agency MBS delivered into the contract upon the settlement date, published each month by the Securities Industry and Financial Markets Association, are not known at the time of the transaction. We enter into TBA contracts as a means of hedging against short-term changes in interest rates. We may also enter into TBA contracts as a means of acquiring agency securities and we may from time to time utilize TBA dollar roll transactions to finance agency MBS purchases.
We account for TBA contracts as derivative instruments since we cannot assert that it is probable at inception and throughout the term of the TBA contract that we will take physical delivery of the agency security upon settlement of the contract. We account for TBA dollar roll transactions as a series of derivative transactions. Gains, losses and dollar roll income associated with our TBA contracts and dollar roll transactions are recognized in our consolidated statements of comprehensive income in gain (loss) on derivative instruments and other securities, net.
We estimate the fair value of TBA securities based on similar methods used to value our agency MBS securities.
Forward commitments to purchase or sell specified agency MBS
We enter into forward commitments to purchase or sell specified agency MBS from time to time as a means of acquiring assets or as a hedge against short-term changes in interest rates. We account for contracts for the purchase or sale of specified agency MBS securities as derivatives if the delivery of the specified agency MBS and settlement extends beyond the shortest period possible for that type of security. Realized and unrealized gains and losses associated with forward commitments accounted for as derivatives are recognized in our consolidated statements of comprehensive income in gain (loss) on derivative instruments and other securities, net.
We estimate the fair value of forward commitments to purchase or sell specified agency MBS based on similar methods used to value agency MBS, as well as the remaining length of time of the forward commitment.
U.S. Treasury securities
We purchase or sell short U.S. Treasury securities and U.S. Treasury futures contracts to help mitigate the potential impact of changes in interest rates on the performance of our portfolio. We borrow securities to cover short sales of U.S. Treasury securities under reverse repurchase agreements. We account for these as securities borrowing transactions and recognize an obligation to return the borrowed securities at fair value on the balance sheet based on the value of the underlying borrowed securities as of the reporting date. Gains and losses associated with purchases and short sales of U.S. Treasury securities are recognized in gain (loss) on derivative instruments and other securities, net in our consolidated statements of comprehensive income.











9


Note 4. Investment Securities

As of March 31, 2013, we had agency MBS at fair value of $76.3 billion, with a total cost basis of $75.1 billion. The net unamortized premium balance on our investment portfolio as of March 31, 2013 was $3.8 billion, including interest-only and principal-only strips. The following tables summarize our investments in agency MBS as of March 31, 2013 (dollars in millions):
 
 
March 31, 2013
Agency MBS
 
Fannie Mae
 
Freddie Mac
 
Ginnie Mae
 
Total
Available-for-sale agency MBS:
 
 
 
 
 
 
 
 
Agency MBS, par
 
$
50,510

 
$
20,228

 
$
218

 
$
70,956

Unamortized discount
 
(20
)
 
—

 
—

 
(20
)
Unamortized premium
 
2,691

 
939

 
9

 
3,639

Amortized cost
 
53,181

 
21,167

 
227

 
74,575

Gross unrealized gains
 
1,044

 
330

 
6

 
1,380

Gross unrealized losses
 
(116
)
 
(60
)
 
—

 
(176
)
Total available-for-sale agency MBS, at fair value
 
54,109

 
21,437

 
233

 
75,779

Agency MBS remeasured at fair value through earnings:
 
 
 
 
 
 
 

Interest-only and principal-only strips, amortized cost (1)
 
463

 
50

 
—

 
513

Gross unrealized gains
 
24

 
1

 
—

 
25

Gross unrealized losses
 
(11
)
 
(11
)
 
—

 
(22
)
Total agency MBS remeasured at fair value through earnings
 
476

 
40

 
—

 
516

Total agency MBS, at fair value
 
$
54,585

 
$
21,477

 
$
233

 
$
76,295

Weighted average coupon as of March 31, 2013 (2)
 
3.75
%
 
3.67
%
 
3.76
%
 
3.73
%
Weighted average yield as of March 31, 2013 (3)
 
2.74
%
 
2.80
%
 
1.59
%
 
2.75
%
Weighted average yield for the three months ended March 31, 2013 (3)
 
2.79
%
 
2.83
%
 
1.56
%
 
2.80
%
 ________________________
1.
The underlying unamortized principal balance (“UPB” or “par value”) of our interest-only agency MBS strips was $1.5 billion and the weighted average contractual interest we are entitled to receive was 5.78% of this amount as of March 31, 2013. The par value of our principal-only agency MBS strips was $295 million as of March 31, 2013.
2.
The weighted average coupon includes the interest cash flows from our interest-only agency MBS strips taken together with the interest cash flows from our fixed-rate, adjustable-rate and CMO agency MBS as a percentage of the par value of our agency MBS (excluding the UPB of our interest-only securities) as of March 31, 2013.
3.
Incorporates a weighted average future constant prepayment rate assumption of 9% based on forward rates as of March 31, 2013.
 
 
March 31, 2013
Agency MBS
 
Amortized
Cost
 
Gross
Unrealized
Gain
 
Gross
Unrealized
Loss
 
Fair Value
Fixed-Rate
 
$
73,649

 
$
1,355

 
$
(176
)
 
$
74,828

Adjustable-Rate
 
773

 
21

 
—

 
794

CMO
 
153

 
4

 
—

 
157

Interest-only and principal-only strips
 
513

 
25

 
(22
)
 
516

Total agency MBS
 
$
75,088

 
$
1,405

 
$
(198
)
 
$
76,295


As of December 31, 2012, we had agency MBS at fair value of $85.2 billion, with a total cost basis of $83.2 billion. The net unamortized premium balance on our investment portfolio as of December 31, 2012 was $4.4 billion, including interest-only and principal-only strips. The following tables summarize our investments in agency MBS as of December 31, 2012 (dollars in millions): 


10


 
 
December 31, 2012
Agency MBS
 
Fannie Mae
 
Freddie Mac
 
Ginnie Mae
 
Total
Available-for-sale agency MBS:
 
 
 
 
 
 
 
 
Agency MBS, par
 
$
58,912

 
$
19,336

 
$
238

 
$
78,486

Unamortized premium
 
3,208

 
948

 
10

 
4,166

Amortized cost
 
62,120

 
20,284

 
248

 
82,652

Gross unrealized gains
 
1,585

 
481

 
6

 
2,072

Gross unrealized losses
 
(18
)
 
(7
)
 
—

 
(25
)
Available-for-sale agency MBS, at fair value
 
63,687

 
20,758

 
254

 
84,699

Agency MBS remeasured at fair value through earnings:
 
 
 
 
 
 
 
 
Interest-only and principal-only strips, amortized cost (1)
 
486

 
55

 
—

 
541

Gross unrealized gains
 
26

 
1

 
—

 
27

Gross unrealized losses
 
(9
)
 
(13
)
 
—

 
(22
)
Agency MBS remeasured at fair value through earnings
 
503

 
43

 
—

 
546

Total agency MBS, at fair value
 
$
64,190

 
$
20,801

 
$
254

 
$
85,245

Weighted average coupon as of December 31, 2012 (2)
 
3.70
%
 
3.67
%
 
3.77
%
 
3.69
%
Weighted average yield as of December 31, 2012 (3)
 
2.62
%
 
2.61
%
 
1.60
%
 
2.61
%
Weighted average yield for the year ended December 31, 2012 (3)
 
2.83
%
 
2.83
%
 
1.63
%
 
2.82
%
 ________________________
1.
The UPB of our interest-only securities was $1.7 billion and the weighted average contractual interest we are entitled to receive was 5.78% of this amount as of December 31, 2012. The par value of our principal-only agency MBS strips was $302 million as of December 31, 2012.
2.
The weighted average coupon includes the interest cash flows from our interest-only securities taken together with the interest cash flows from our fixed-rate, adjustable-rate and CMO securities as a percentage of the par value of our agency securities (excluding the UPB of our interest-only securities) as of December 31, 2012.
3.
Incorporates a weighted average future constant prepayment rate assumption of 11% based on forward rates as of December 31, 2012.
 
 
December 31, 2012
Agency MBS
 
Amortized
Cost
 
Gross
Unrealized
Gain
 
Gross
Unrealized
Loss
 
Fair Value
Fixed-Rate
 
$
81,617

 
$
2,043

 
$
(25
)
 
$
83,635

Adjustable-Rate
 
865

 
26

 
—

 
891

CMO
 
170

 
3

 
—

 
173

Interest-only strips
 
541

 
27

 
(22
)
 
546

Total agency MBS
 
$
83,193

 
$
2,099

 
$
(47
)
 
$
85,245


As of March 31, 2013 and December 31, 2012, we did not have investments in agency debenture securities.

The actual maturities of our agency MBS securities are generally shorter than the stated contractual maturities. Actual maturities are affected by the contractual lives of the underlying mortgages, periodic contractual principal payments and principal prepayments. As of March 31, 2013 and December 31, 2012, our weighted average expected constant prepayment rate (“CPR”) over the remaining life of our aggregate agency MBS portfolio was 9% and 11%, respectively. Our estimates differ materially for different types of securities and thus individual holdings have a wide range of projected CPRs. We estimate long-term prepayment assumptions for different securities using a third-party service and market data. The third-party service estimates prepayment speeds using models that incorporate the forward yield curve, current mortgage rates and mortgage rates of the outstanding loans, age and size of the outstanding loans, loan-to-value ratios, volatility and other factors. We review the prepayment speeds estimated by the third-party service and compare the results to market consensus prepayment speeds, if available. We also consider historical prepayment speeds and current market conditions to validate reasonableness. As market conditions may change rapidly, we may make adjustments for different securities based on our Manager's judgment. Various market participants could use materially different assumptions.





11


The following table summarizes our agency MBS classified as available-for-sale as of March 31, 2013 and December 31, 2012 according to their estimated weighted average life classification (dollars in millions):

 
 
March 31, 2013
 
December 31, 2012
Estimated Weighted Average Life of Agency MBS Classified as Available-for-Sale (1)
 
Fair Value
 
Amortized
Cost
 
Weighted
Average
Coupon
 
Weighted
Average
Yield
 
Fair Value
 
Amortized
Cost
 
Weighted
Average
Coupon
 
Weighted
Average
Yield
≤ 3 years
 
279

 
272

 
4.54
%
 
3.01
%
 
1,119

 
1,108

 
4.18
%
 
2.14
%
> 3 years and ≤ 5 years
 
17,428

 
16,835

 
3.76
%
 
2.67
%
 
27,448

 
26,750

 
3.36
%
 
2.29
%
> 5 years and ≤10 years
 
49,750

 
49,132

 
3.68
%
 
2.76
%
 
54,054

 
52,735

 
3.69
%
 
2.75
%
> 10 years
 
8,322

 
8,336

 
2.96
%
 
2.65
%
 
2,078

 
2,059

 
3.44
%
 
2.65
%
Total
 
$
75,779

 
$
74,575

 
3.62
%
 
2.73
%
 
$
84,699

 
$
82,652

 
3.59
%
 
2.59
%
 _______________________
1.
Excludes interest and principal-only strips.

The weighted average life of our interest-only strips was 6.0 and 5.7 years as of March 31, 2013 and December 31, 2012, respectively. The weighted average life of our principal-only strips was 7.0 and 6.4 years as of March 31, 2013 and December 31, 2012, respectively.

Our agency securities classified as available-for-sale are reported at fair value, with unrealized gains and losses excluded from earnings and reported in accumulated OCI. The following table summarizes changes in accumulated OCI, a separate component of stockholders equity, for our available-for-sale securities for the three months ended March 31, 2013 and 2012 (in millions): 

Agency Securities Classified as
Available-for-Sale
 
Beginning Accumulated OCI
Balance
 
Unrealized Gains
and (Losses), Net
 
Reversal of Prior
Period Unrealized
(Gains) and Losses,
Net on Realization
 
Ending
Accumulated OCI
Balance
Three months ended March 31, 2013
 
$
2,041

 
(863
)
 
26

 
$
1,204

Three months ended March 31, 2012
 
$
1,002

 
110

 
(216
)
 
$
896


The following table presents the gross unrealized loss and fair values of our available-for-sale agency securities by length of time that such securities have been in a continuous unrealized loss position as of March 31, 2013 and December 31, 2012 (in millions):

 
 
Unrealized Loss Position For
 
 
Less than 12 Months
 
12 Months or More
 
Total
Agency Securities Classified as
Available-for-Sale
 
Estimated Fair
Value
 
Unrealized
Loss
 
Estimated
Fair Value
 
Unrealized
Loss
 
Estimated Fair
Value
 
Unrealized
Loss
March 31, 2013
 
$
25,963

 
$
(174
)
 
$
84

 
$
(2
)
 
$
26,047

 
$
(176
)
December 31, 2012
 
$
8,430

 
$
(25
)
 
$
—

 
$
—

 
$
8,430

 
$
(25
)

As of March 31, 2013, we did not intend to sell any of these agency securities and we do not believe it is more likely than not we will be required to sell the agency securities before recovery of their amortized cost basis. The unrealized losses on these agency securities are not due to credit losses given the government-sponsored entity or government guarantees, but are rather due to changes in interest rates and prepayment expectations.





12


Gains and Losses
The following table is a summary of our net (loss) gain from the sale of agency MBS for the three months ended March 31, 2013 and 2012 (in millions): 
 
 
Three Months Ended
Agency MBS
 
March 31, 2013
 
March 31, 2012
Agency MBS sold, at cost
 
$
(20,328
)
 
$
(9,243
)
Proceeds from agency MBS sold (1)
 
20,302

 
9,459

Net (loss) gain on sale of agency MBS
 
$
(26
)
 
$
216

 
 
 
 
 
Gross gain on sale of agency MBS
 
$
87

 
$
220

Gross loss on sale of agency MBS
 
(113
)
 
(4
)
Net (loss) gain on sale of agency MBS
 
$
(26
)
 
$
216

  ________________________
1.
Proceeds include cash received during the period, plus receivable for agency MBS sold during the period as of period end.

For the three months ended March 31, 2013 and 2012, we recognized an unrealized loss of $1 million and an unrealized gain of $1 million, respectively, in gain (loss) on derivative instruments and other securities, net in our consolidated statements of comprehensive income for the change in value of investments in interest-only and principal-only strips, net of prior period reversals. For the three months ended March 31, 2013 and 2012, there were no sales of interest-only or principal-only securities.
Pledged Assets
The following tables summarize our assets pledged as collateral under repurchase agreements, debt of consolidated VIEs, derivative agreements and prime broker agreements by type, including securities pledged related to securities sold but not yet settled, as of March 31, 2013 and December 31, 2012 (in millions):
 
 
March 31, 2013
Assets Pledged
 
Repurchase Agreements
 
Debt of Consolidated VIEs
 
Derivative Agreements
 
Prime Broker Agreements
 
Total
Agency MBS - fair value
 
$
69,537

 
$
1,421

 
$
812

 
$
229

 
$
71,999

Accrued interest on pledged securities
 
196

 
4

 
2

 

 
202

Restricted cash
 
—

 
—

 
116

 
383

 
499

Total
 
$
69,733

 
$
1,425

 
$
930

 
$
612

 
$
72,700

 
 
 
December 31, 2012
Assets Pledged
 
Repurchase Agreements
 
Debt of Consolidated VIEs
 
Derivative Agreements
 
Prime Broker Agreements
 
Total
Agency MBS - fair value
 
$
78,400

 
$
1,535

 
$
1,065

 
$
501

 
$
81,501

Accrued interest on pledged securities
 
217

 
5

 
3

 
1

 
226

Restricted cash
 
—

 
—

 
249
 
150

 
399

Total
 
$
78,617

 
$
1,540

 
$
1,317

 
$
652

 
$
82,126







13


The following table summarizes our securities pledged as collateral under repurchase agreements and debt of consolidated VIEs by remaining maturity, including securities pledged related to sold but not yet settled securities, as of March 31, 2013 and December 31, 2012 (in millions):
 
 
March 31, 2013
 
December 31, 2012
Securities Pledged by Remaining Maturity of Repurchase Agreements and Debt of Consolidated VIEs
 
Fair Value of Pledged Securities
 
Amortized
Cost of Pledged Securities
 
Accrued
Interest on
Pledged
Securities
 
Fair Value of Pledged Securities
 
Amortized
Cost of Pledged Securities
 
Accrued
Interest on
Pledged
Securities
Agency MBS:
 
 
 
 
 
 
 
 
 
 
 
 
  Less than 30 days
 
$
28,076

 
$
27,572

 
$
80

 
$
29,284

 
$
28,525

 
$
82

  31 - 59 days
 
14,020

 
13,774

 
39

 
21,716

 
21,251

 
58

  60 - 90 days
 
7,321

 
7,241

 
21

 
16,188

 
15,780

 
45

  Greater than 90 days
 
21,541

 
21,220

 
60

 
12,747

 
12,447

 
37

Total agency MBS
 
$
70,958

 
$
69,807

 
$
200

 
$
79,935

 
$
78,003

 
$
222

As of March 31, 2013 and December 31, 2012, none of our repurchase agreement borrowings backed by agency MBS were due on demand or mature overnight.
Securitizations and Variable Interest Entities
As of March 31, 2013 and December 31, 2012, we held investments in CMO trusts, which are variable interest entities ("VIEs"). We have consolidated certain of these CMO trusts in our consolidated financial statements where we have determined we are the primary beneficiary of the trusts. All of our CMO securities are backed by fixed or adjustable-rate agency MBS. Fannie Mae or Freddie Mac guarantees the payment of interest and principal and acts as the trustee and administrator of their respective securitization trusts. Accordingly, we are not required to provide the beneficial interest holders of the CMO securities any financial or other support. Our maximum exposure to loss related to our involvement with CMO trusts is the fair value of the CMO securities and interest and principal-only securities held by us, less principal amounts guaranteed by Fannie Mae and Freddie Mac.
As of March 31, 2013 and December 31, 2012, the fair value of our CMO securities and interest and principal-only securities, excluding the consolidated CMO trusts discussed below, was $673 million and $719 million, respectively, or $1.2 billion and $1.3 billion, respectively, including the net asset value of our consolidated CMO trusts discussed below. Our maximum exposure to loss related to our CMO securities and interest and principal-only securities, including our consolidated CMO trust, was $316 million and $343 million as of March 31, 2013 and December 31, 2012, respectively.
In connection with the consolidated trusts, as of March 31, 2013 and December 31, 2012, we recognized agency securities with a total fair value of $1.4 billion and $1.5 billion, respectively, and debt, at fair value of $862 million and $937 million, respectively, in our accompanying consolidated balance sheets. As of March 31, 2013 and December 31, 2012, such agency securities had an aggregate unpaid principal balance of $1.3 billion and $1.4 billion, respectively, and such debt had an aggregate unpaid principal balance of $844 million and $908 million, respectively. During the three months ended March 31, 2013 and 2012, we recognized a net gain of $13 million and $0, respectively, from debt of consolidated VIEs re-measured at fair value through earnings in gain (loss) on derivative instruments and other securities, net in our consolidated statement of comprehensive income. Our involvement with the consolidated trusts is limited to the agency securities transferred by us upon the formation of the trusts and the CMO securities subsequently held by us. There are no arrangements that could require us to provide financial support to the trusts.

Note 5. Repurchase Agreements and Other Debt
We pledge certain of our agency securities as collateral under repurchase arrangements with financial institutions, the terms and conditions of which are negotiated on a transaction-by-transaction basis. Interest rates on these borrowings are generally based on LIBOR plus or minus a margin and amounts available to be borrowed are dependent upon the fair value of the securities pledged as collateral, which fluctuates with changes in interest rates, type of security and liquidity conditions within the banking, mortgage finance and real estate industries. In response to declines in fair value of pledged securities, lenders may require us to post additional collateral or pay down borrowings to re-establish agreed upon collateral requirements, referred to as margin calls. As of March 31, 2013 and December 31, 2012, we have met all margin call requirements.



14


The following table summarizes our borrowings under repurchase arrangements and weighted average interest rates classified by original maturities as of March 31, 2013 and December 31, 2012 (dollars in millions):
 
 
March 31, 2013
 
December 31, 2012
Original Maturity
 
Repurchase Agreements
 
Weighted
Average
Interest
Rate
 
Weighted
Average Days
to Maturity
 
Repurchase Agreements
 
Weighted
Average
Interest
Rate
 
Weighted
Average Days
to Maturity
Agency MBS:
 
 
 
 
 
 
 
 
 
 
 
 
≤ 1 month
 
$
8,059

 
0.41
%
 
13

 
$
4,011

 
0.48
%
 
13

> 1 to ≤ 3 months
 
29,461

 
0.42
%
 
30

 
28,307

 
0.49
%
 
37

> 3 to ≤ 6 months
 
11,173

 
0.48
%
 
68

 
24,303

 
0.49
%
 
63

> 6 to ≤ 9 months
 
4,436

 
0.49
%
 
140

 
5,222

 
0.54
%
 
79

> 9 to ≤ 12 months
 
8,063

 
0.58
%
 
216

 
7,813

 
0.58
%
 
222

> 12 to ≤ 24 months
 
2,099

 
0.63
%
 
469

 
1,917

 
0.65
%
 
564

> 24 to ≤ 36 months
 
2,767

 
0.67
%
 
872

 
2,803

 
0.69
%
 
963

> 36 months
 
202

 
0.74
%
 
1,532

 
102

 
0.73
%
 
1,751

Total agency MBS
 
$
66,260

 
0.47
%
 
118

 
$
74,478

 
0.51
%
 
118

As of March 31, 2013 and December 31, 2012, we did not have an amount at risk with any repurchase agreement counterparty greater than 3% and 4% of our stockholders’ equity, respectively.
As of March 31, 2013 and December 31, 2012, debt of consolidated VIEs, at fair value ("other debt") was $862 million and $937 million, respectively. As of March 31, 2013 and December 31, 2012, our other debt had a weighted average interest rate of LIBOR plus 42 and 43 basis points and a principal balance of $844 million and $908 million, respectively. The actual maturities of our other debt are generally shorter than the stated contractual maturities. The actual maturities are affected by the contractual lives of the underlying agency MBS securitizing our other debt and periodic principal prepayments of such underlying securities. The estimated weighted average life of our other debt as of March 31, 2013 was 5.7 years.
As of March 31, 2013, we also had net forward purchase commitments, including TBA dollar roll transactions, outstanding of $27.3 billion, at cost (see Notes 3 and 6). Forward purchase commitments and TBA dollar roll transactions represent a form of off-balance sheet financing. Pursuant to ASC 815, we typically account for such transactions as one or more series of derivative transactions and, consequently, they are not reflected in our on-balance sheet debt and leverage ratios.

Note 6. Derivative and Other Hedging Instruments
In connection with our risk management strategy, we hedge a portion of our interest rate risk by entering into derivative and other hedging instrument contracts. We may enter into agreements for interest rate swaps, interest rate swaptions, interest rate cap or floor contracts and futures or forward contracts. We may also purchase or short TBA and U.S. Treasury securities, purchase or write put or call options on TBA securities or we may invest in other types of mortgage derivative securities, such as interest-only securities, and synthetic total return swaps, such as the Markit IOS Index. Our risk management strategy attempts to manage the overall risk of the portfolio, reduce fluctuations in book value and generate additional income distributable to stockholders. For additional information regarding our derivative instruments and our overall risk management strategy, please refer to the discussion of derivative and other hedging instruments in Note 3.
Prior to September 30, 2011, our interest rate swaps were typically designated as cash flow hedges under ASC 815; however, as of September 30, 2011, we elected to discontinue hedge accounting for our interest rate swaps in order to increase our funding flexibility. For the three months ended March 31, 2013 and 2012, we reclassified $49 million and $52 million, respectively, of net deferred losses from accumulated OCI into interest expense related to our de-designated interest rate swaps and recognized an equal, but offsetting, amount in other comprehensive income. Our total net periodic interest costs on our swap portfolio were $133 million and $91 million for the three months ended March 31, 2013 and 2012, respectively. The difference of $84 million and $39 million for the three months ended March 31, 2013 and 2012, respectively, is reported in our accompanying consolidated statement of comprehensive income in gain (loss) on derivative instruments and other securities, net. As of March 31, 2013, the remaining net deferred loss in accumulated OCI related to de-designated interest rate swaps was $(437) million and will be reclassified from OCI into interest expense over a remaining weighted average period of 2.7 years (see Note 9). The net deferred loss expected to be reclassified from OCI into interest expense over the next twelve months is $184 million as of March 31, 2013.

15


For the three months ended March 31, 2013 and 2012 and as of March 31, 2013 and December 31, 2012, none of our derivative instruments were designated as cash flow hedges under ASC 815.
Derivative Assets (Liabilities), at Fair Value
The table below summarizes fair value information about our derivative assets and liabilities as of March 31, 2013 and December 31, 2012 (in millions):
Derivatives Instruments
 
Balance Sheet Location
 
March 31, 2013
 
December 31, 2012
Interest rate swaps
 
Derivative assets, at fair value
 
$
56

 
$
14

Payer swaptions
 
Derivative assets, at fair value
 
332

 
171

Purchase of TBA and forward settling agency securities
 
Derivative assets, at fair value
 
86

 
116

Sale of TBA and forward settling agency securities
 
Derivative assets, at fair value
 
6

 
—

 
 
 
 
$
480

 
$
301

Interest rate swaps
 
Derivative liabilities, at fair value
 
$
(1,100
)
 
$
(1,243
)
U.S. Treasury futures - short
 
Derivative liabilities, at fair value
 
(14
)
 
—

Purchase of TBA and forward settling agency securities
 
Derivative liabilities, at fair value
 
(95
)
 
(1
)
Sale of TBA and forward settling agency securities
 
Derivative liabilities, at fair value
 
(8
)
 
(20
)
 
 
 
 
$
(1,217
)
 
$
(1,264
)
  Additionally, as of March 31, 2013 and December 31, 2012, we had obligations to return U.S. Treasury securities borrowed under reverse repurchase agreements accounted for as securities borrowing transactions at a fair value of $12.5 billion and $11.8 billion, respectively. The borrowed securities were used to cover short sales of U.S. Treasury securities from which we received total proceeds of $12.5 billion and $11.7 billion, respectively. The change in fair value of the borrowed securities is recorded in gain (loss) on derivative instruments and other securities, net in our consolidated statements of comprehensive income.

The following tables summarize our interest rate swap agreements outstanding as of March 31, 2013 and December 31, 2012 (dollars in millions):
 
 
March 31, 2013
Interest Rate Swaps (1)
 
Notional
Amount
 
Average
Fixed
Pay Rate
 
Average
Receive
Rate
 
Net
Estimated
Fair Value
 
Average
Maturity
(Years)
Three years or less
 
$
14,950

 
1.29
%
 
0.25
%
 
$
(309
)
 
2.0
Greater than 3 years and less than/equal to 5 years
 
19,750

 
1.41
%
 
0.27
%
 
(535
)
 
4.0
Greater than 5 years and less than/equal to 7 years
 
6,100

 
1.59
%
 
0.32
%
 
(145
)
 
6.0
Greater than 7 years and less than/equal to 10 years
 
7,250

 
1.89
%
 
0.31
%
 
(37
)
 
9.1
Greater than 10 years
 
3,200

 
2.17
%
 
0.28
%
 
(18
)
 
10.3
Total Payer Interest Rate Swaps
 
$
51,250

 
1.51
%
 
0.28
%
 
$
(1,044
)
 
4.8
________________________
1.
Amounts include forward starting swaps of $5.2 billion ranging up to 6 months from March 31, 2013.

 
 
December 31, 2012
Interest Rate Swaps (1)
 
Notional
Amount
 
Average
Fixed
Pay Rate
 
Average
Receive
Rate
 
Net
Estimated
Fair Value
 
Average
Maturity
(Years)
Three years or less
 
$
14,600

 
1.23
%
 
0.26
%
 
$
(294
)
 
2.0
Greater than 3 years and less than/equal to 5 years
 
20,250

 
1.48
%
 
0.29
%
 
(666
)
 
4.1
Greater than 5 years and less than/equal to 7 years
 
5,600

 
1.53
%
 
0.34
%
 
(163
)
 
6.1
Greater than 7 years and less than/equal to 10 years
 
5,200

 
1.89
%
 
0.35
%
 
(113
)
 
9.2
Greater than 10 years
 
1,200

 
1.79
%
 
0.31
%
 
7

 
10.2
Total Payer Interest Rate Swaps
 
$
46,850

 
1.46
%
 
0.29
%
 
$
(1,229
)
 
4.4

16


   ________________________
1.
Amounts include forward starting swaps of $1.7 billion ranging up to four months from December 31, 2012.
The following tables summarize our interest rate swaption agreements outstanding as of March 31, 2013 and December 31, 2012 (dollars in millions):
 
 
March 31, 2013
 
 
Option
 
Underlying Swap
Payer Swaptions
 
Cost
 
Fair
Value
 
Average
Months to
Expiration
 
Notional
Amount
 
Average Fixed Pay
Rate
 
Average
Receive
Rate
 
Average
Term
(Years)
One year or less
 
$
169

 
$
91

 
7
 
$
12,100

 
2.49
%
 
1M / 3M LIBOR
 
8.4
Greater than 1 year and less than/equal to 2 years
 
81

 
52

 
17
 
4,200

 
2.81
%
 
3M LIBOR
 
6.8
Greater than 2 years and less than/equal to 3 years
 
139

 
137

 
32
 
5,000

 
3.42
%
 
3M LIBOR
 
8.5
Greater than 3 years and less than/equal to 4 years
 
12

 
13

 
43
 
450

 
3.20
%
 
3M LIBOR
 
6.1
Greater than 4 years and less than/equal to 5 years
 
37

 
39

 
57
 
1,150

 
3.51
%
 
3M LIBOR
 
4.5
Total/Wtd Avg
 
$
438

 
$332
 
17
 
$
22,900

 
2.81
%
 
1M / 3M LIBOR
 
7.9
 
 
December 31, 2012
 
 
Option
 
Underlying Swap
Payer Swaptions
 
Cost
 
Fair
Value
 
Average
Months to
Expiration
 
Notional
Amount
 
Average Fixed Pay
Rate
 
Average
Receive
Rate
 
Average
Term
(Years)
One year or less
 
$
76

 
$
15

 
4
 
$
5,150

 
2.65
%
 
1M / 3M LIBOR
 
8.6
Greater than 1 year and less than/equal to 2 years
 
65

 
34

 
19
 
4,050

 
2.82
%
 
3M LIBOR
 
6.7
Greater than 2 years and less than/equal to 3 years
 
97

 
87

 
33
 
3,900

 
3.51
%
 
3M LIBOR
 
8.6
Greater than 3 years and less than/equal to 4 years
 
12

 
11

 
46
 
450

 
3.20
%
 
3M LIBOR
 
6.1
Greater than 4 years and less than/equal to 5 years
 
24

 
24

 
59
 
900

 
3.33
%
 
3M LIBOR
 
5.0
Total/Wtd Avg
 
$
274

 
$
171

 
21
 
$
14,450

 
2.99
%
 
1M / 3M LIBOR
 
7.8
The following table summarizes our contracts to purchase and sell TBA and specified agency securities on a forward basis as of March 31, 2013 and December 31, 2012 (in millions):
 
 
March 31, 2013
 
December 31, 2012
Purchase and Sale Contracts for TBAs and Forward Settling Securities
 
Notional 
Amount (1)
 
Cost Basis (2)
 
Market Value (3)
 
Net Carrying Value (4)
 
Notional 
Amount (1)
 
Cost Basis (2)
 
Market Value (3)
 
Net Carrying Value (4)
TBA securities:
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Purchase contracts
 
$
29,144

 
$
30,170

 
$
30,161

 
$
(9
)
 
$
21,705

 
$
22,603

 
$
22,719

 
$
116

Sale contracts
 
(2,926
)
 
(2,928
)
 
(2,930
)
 
(2
)
 
(9,378
)
 
(9,991
)
 
(10,011
)
 
(20
)
TBA securities, net (5)
 
26,218

 
27,242

 
27,231

 
(11
)
 
12,327

 
12,612

 
12,708

 
96

Forward settling securities:
 


 
 
 
 
 
 
 


 
 
 
 
 
 
Purchase contracts
 
50

 
52

 
52

 
—

 
150

 
163

 
162

 
(1
)
Forward settling securities, net (6)
 
50

 
52

 
52

 
—

 
150

 
163

 
162

 
(1
)
Total TBA and forward settling securities, net
 
$
26,268

 
$
27,294

 
$
27,283

 
$
(11
)
 
$
12,477

 
$
12,775

 
$
12,870

 
$
95

  ________________________
1.
Notional amount represents the par value (or principal balance) of the underlying agency security.
2.
Cost basis represents the forward price to be paid for the underlying agency security.
3.
Market value represents the current market value of the TBA contract (or of the underlying agency security) as of period-end.
4.
Net carrying value represents the difference between the market value of the TBA contract as of period-end and the cost basis and is reported in derivative assets / (liabilities), at fair value in our consolidated balance sheets.
5.
Includes 15-year and 30-year TBA securities of varying coupons
6.
Includes 30-year fixed securities of varying coupons

17


Gain (Loss) From Derivative Instruments and Other Securities, Net
The tables below summarize the effect of derivative instruments on our consolidated statements of comprehensive income for the three months ended March 31, 2013 and 2012 (in millions):
 
 
Three Months Ended March 31, 2013
Derivative and Other Hedging Instruments
 
Notional
Amount
December 31, 2012
 
Additions
 
Settlement, Termination,
Expiration or
Exercise
 
Notional
Amount
March 31, 2013
 
Amount of
Gain/(Loss)
Recognized in
Income on
Derivatives(1)
Purchase of TBA and forward settling agency securities
 
$
21,855

 
77,600

 
(70,261
)
 
$
29,194

 
$
(185
)
Sale of TBA and forward settling agency securities
 
$
9,378

 
34,333

 
(40,785
)
 
$
2,926

 
83

Interest rate swaps
 
$
46,850

 
5,750

 
(1,350
)
 
$
51,250

 
54

Payer swaptions
 
$
14,450

 
11,150

 
(2,700
)
 
$
22,900

 
(44
)
Short sales of U.S. Treasury securities
 
$
11,835

 
9,935

 
(9,210
)
 
$
12,560

 
(3
)
U.S. Treasury futures - short
 
$
—

 
800

 
—

 
$
800

 
(15
)
 
 
 
 
 
 
 
 
 
 
$
(110
)
  ________________________________
1.
Excludes a loss of $1 million from interest-only and principal-only securities and a gain of $13 million from debt of consolidated VIEs re-measured at fair value through earnings recognized in gain (loss) on derivative instruments and other securities, net in our consolidated statement of comprehensive income.

 
 
Three Months Ended March 31, 2012
Derivative and Other Hedging Instruments
 
Notional
Amount
December 31, 2011
 
Additions
 
Settlement, Termination,
Expiration or
Exercise
 
Notional
Amount
March 31,
2012
 
Amount of
Gain/(Loss)
Recognized in
Income on
Derivatives(1)
Purchase of TBA and forward settling agency securities
 
$
3,699

 
22,313

 
(24,225
)
 
$
1,787

 
$
67

Sale of TBA and forward settling agency securities
 
$
3,803

 
30,829

 
(25,579
)
 
$
9,053

 
(51
)
Interest rate swaps
 
$
30,250

 
7,850

 
—

 
$
38,100

 
(44
)
Payer swaptions
 
$
3,200

 
7,950

 
(650
)
 
$
10,500

 
3

Short sales of U.S. Treasury securities
 
$
880

 
10,990

 
(8,005
)
 
$
3,865

 
52

US Treasury futures - short
 
$
783

 
1,653

 
(783
)
 
$
1,653

 
21

Markit IOS total return swaps - long
 
$
41

 
—

 
(2
)
 
$
39

 
1

Markit IOS total return swaps - short
 
$
206

 
—

 
(12
)
 
$
194

 
(3
)
 
 
 
 
 
 
 
 
 
 
$
46

  ______________________
1.
Excludes a $1 million gain on interest-only and principal-only securities re-measured at fair value through earnings in gain (loss) on derivative instruments and other securities, net in our consolidated statement of comprehensive income.
Credit Risk-Related Contingent Features
The use of derivatives creates exposure to credit risk relating to potential losses that could be recognized in the event that the counterparties to these instruments fail to perform their obligations under the contracts. We minimize this risk by limiting our counterparties to major financial institutions with acceptable credit ratings and monitoring positions with individual counterparties. In addition, we may be required to pledge assets as collateral for our derivatives, whose amounts vary over time based on the market value, notional amount and remaining term of the derivative contract. In the event of a default by a counterparty we may not receive payments provided for under the terms of our derivative agreements, and may have difficulty obtaining our assets pledged as collateral for our derivatives. The cash and cash equivalents and agency securities pledged as collateral for our derivative instruments is included in restricted cash and agency securities, respectively, on our consolidated balance sheets.
Each of our International Swaps and Derivatives Association ("ISDA") Master Agreements contains provisions under which we are required to fully collateralize our obligations under the swap instrument if at any point the fair value of the swap represents a liability greater than the minimum transfer amount contained within our agreements. We were also required to post initial collateral upon execution of certain of our swap transactions. If we breach any of these provisions, we will be required to settle our obligations under the agreements at their termination values.

18


Further, each of our ISDA Master Agreements also contains a cross default provision under which a default under certain of our other indebtedness in excess of a certain threshold causes an event of default under the agreement. Threshold amounts vary by lender. Following an event of default, we could be required to settle our obligations under the agreements at their termination values. Additionally, under certain of our ISDA Master Agreements, we could be required to settle our obligations under the agreements at their termination values if we fail to maintain certain minimum shareholders’ equity thresholds or our REIT status or if we fail to comply with limits on our leverage above certain specified levels.
As of March 31, 2013, the fair value and termination value of our interest rate swaps in a liability position related to these agreements was $1.1 billion. We had agency securities with fair values of $812 million and restricted cash of $116 million pledged as collateral against our interest rate swap agreements.

Note 7. Offsetting Assets and Liabilities
Certain of our repurchase agreements and derivative transactions are governed by underlying agreements that generally provide for a right of setoff under master netting arrangements (or similar agreements), including in the event of default or in the event of bankruptcy of either party to the transactions. We present our assets and liabilities subject to such arrangements on a gross basis in our consolidated balance sheets. The following tables present information about our assets and liabilities that are subject to such arrangements and can potentially be offset on our consolidated balance sheets as of March 31, 2013 and December 31, 2012 (in millions):
Offsetting of Financial Assets and Derivative Assets:
 
 
 
 
Gross Amounts Not Offset
 in the
Consolidated Balance Sheets
 
 
 
 
Gross Amounts of Recognized Assets
 
Gross Amounts Offset in the Consolidated Balance Sheets
 
Net Amounts of Assets Presented in the Consolidated Balance Sheets
 
Financial Instruments
 
Collateral Received (2)
 
Net Amount
March 31, 2013
 
 
 
 
 
 
 
 
 
 
 
 
Interest rate swap and swaption agreements, at fair value (1)
 
$
388

 
$
—

 
$
388

 
$
(388
)
 
$
—

 
$
—

Receivable under reverse repurchase agreements
 
12,291

 
—

 
12,291