Document

 

UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549 
 

FORM 10-Q
 
x
QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 
 
For the Quarterly Period Ended March 31, 2018
OR
o
TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 
 
For the transition period from                      to                     
 
ARMOUR RESIDENTIAL REIT, INC.
(Exact name of registrant as specified in its charter)
 
Maryland 
001-34766 
26-1908763 
(State or other jurisdiction of incorporation or organization)
(Commission File Number)
(I.R.S. Employer Identification No.)
 
3001 Ocean Drive, Suite 201, Vero Beach, FL  32963
(Address of principal executive offices)(zip code)
 
(772) 617-4340
(Registrant’s telephone number, including area code)
 

Indicate by check mark whether the registrant (1) has filed all reports required 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 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 x NO o
 
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 x NO o
 
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, a smaller reporting company or an emerging growth company. See the definitions of "large accelerated filer," "accelerated filer" "smaller reporting company" and "emerging growth company" in Rule 12b-2 of the Exchange Act.
 
Large accelerated filer x          Accelerated filer o Non-accelerated filer o (Do not check if a smaller reporting company)  
    
Smaller reporting company o              Emerging growth company o
 
If an emerging growth company, indicate by a check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act o

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). YES o NO x
 
The number of outstanding shares of the Registrant’s common stock as of April 24, 2018 was 41,902,723.

 




ARMOUR Residential REIT, Inc.
TABLE OF CONTENTS






3
PART I. FINANCIAL INFORMATION

Item 1. Financial Statements


ARMOUR Residential REIT, Inc.
CONSOLIDATED BALANCE SHEETS (UNAUDITED)
(in thousands, except per share)

 
 
March 31,
2018
 
December 31, 2017
Assets
 

 

Cash
 
$
216,497

 
$
265,232

Cash collateral posted to counterparties
 
13,150

 
17,162

Investments in securities, at fair value
 
 
 
 
Agency Securities (including pledged securities of $5,725,997 at March 31, 2018 and $7,094,766 at December 31, 2017)
 
6,245,432

 
7,478,966

Credit Risk and Non-Agency Securities (including pledged securities of $884,531 at March 31, 2018 and $974,372 at December 31, 2017)
 
968,950

 
975,829

Interest-Only Securities
 
24,933

 
25,752

U.S. Treasury Securities - pledged securities
 
670,696

 
—

Receivable for unsettled sales (including pledged securities of $63,535 at March 31, 2018)
 
68,796

 
—

Derivatives, at fair value
 
135,703

 
37,211

Accrued interest receivable
 
20,492

 
22,165

Prepaid and other
 
1,608

 
1,600

Subordinated loans due from BUCKLER Securities LLC
 
105,000

 
105,000

Total Assets
 
$
8,471,257

 
$
8,928,917

Liabilities and Stockholders’ Equity
 
 
 
 
Liabilities:
 
 
 
 
Repurchase agreements
 
$
6,853,715

 
$
7,555,917

Cash collateral posted by counterparties
 
127,721

 
29,593

Payable for unsettled purchases
 
227,409

 
—

Derivatives, at fair value
 
6,882

 
7,948

Accrued interest payable- repurchase agreements
 
5,274

 
6,452

Accounts payable and other accrued expenses
 
5,290

 
2,956

Total Liabilities
 
$
7,226,291

 
$
7,602,866

 
 
 
 
 
Commitments and contingencies (Note 11)
 

 

 
 
 
 
 
Stockholders’ Equity:
 
 
 
 
Preferred stock, $0.001 par value, 50,000 shares authorized;
 
 
 
 
8.250% Series A Cumulative Preferred Stock; 2,181 issued and outstanding ($54,514 aggregate liquidation preference)
 
2

 
2

7.875% Series B Cumulative Preferred Stock; 6,369 and 6,262 shares issued and outstanding at March 31, 2018 and December 31, 2017 ($159,232 and $156,560 aggregate liquidation preference, respectively)
 
6

 
6

Common stock, $0.001 par value, 125,000 shares authorized, 41,902 and 41,877 shares issued and outstanding at March 31, 2018 and December 31, 2017
 
42

 
42

Additional paid-in capital
 
2,712,611

 
2,709,335

Accumulated deficit
 
(1,346,867
)
 
(1,363,223
)
Accumulated other comprehensive loss
 
(120,828
)
 
(20,111
)
Total Stockholders’ Equity
 
$
1,244,966

 
$
1,326,051

Total Liabilities and Stockholders’ Equity
 
$
8,471,257

 
$
8,928,917

 
See financial statement notes (unaudited).

arrshielda01.jpg

4
ARMOUR Residential REIT, Inc.
CONSOLIDATED STATEMENTS OF OPERATIONS (UNAUDITED)
(in thousands, except per share)



 
 
For the Three Months Ended March 31,
 
 
2018
 
2017
Interest Income:
 
 
 
 
Agency Securities, net of amortization of premium and fees
 
$
52,253

 
$
44,081

Credit Risk and Non-Agency Securities, including discount accretion
 
14,006

 
13,898

Interest-Only Securities
 
442

 
603

U.S. Treasury Securities
 
844

 
—

BUCKLER Subordinated loans
 
624

 
—

Total Interest Income
 
$
68,169

 
$
58,582

Interest expense- repurchase agreements
 
(32,018
)
 
(18,064
)
Net Interest Income

$
36,151


$
40,518

Other Income (Loss):
 
 
 
 
Realized loss on sale of Agency Securities (reclassified from Other comprehensive income (loss))
 
(32,603
)
 
(11,154
)
Other than temporary impairment of Agency Securities (reclassified from Other comprehensive income)
 
(12,090
)
 
—

Gain on Credit Risk and Non-Agency Securities
 
1,283

 
24,284

Gain (loss) on Interest-Only Securities
 
298

 
(3,743
)
Gain on U.S. Treasury Securities
 
2,576

 
—

Subtotal

$
(40,536
)

$
9,387

Realized loss on derivatives (1)
 
(38,604
)
 
(12,249
)
Unrealized gain on derivatives
 
97,201

 
23,768

Subtotal
 
$
58,597

 
$
11,519

Total Other Income

$
18,061

 
$
20,906

Expenses:
 
 
 
 
Management fees
 
6,801

 
6,521

Professional fees
 
1,172

 
880

Insurance
 
165

 
277

Compensation
 
977

 
477

Other
 
350

 
551

Total Expenses
 
$
9,465

 
$
8,706

Net Income

$
44,747

 
$
52,718

Dividends on preferred stock
 
(4,253
)
 
(3,905
)
Net Income available to common stockholders

$
40,494

 
$
48,813

Net Income per share available to common stockholders (Note 14):
 
 
 
 
Basic
 
$
0.97

 
$
1.33

Diluted
 
$
0.96

 
$
1.33

Dividends declared per common share
 
$
0.57

 
$
0.57

Weighted average common shares outstanding:
 
 
 
 
Basic
 
41,887

 
36,724

Diluted
 
42,331

 
36,748


(1) Interest expense related to our interest rate swap contracts is recorded as realized loss on derivatives on the consolidated statements of operations. For additional information, see financial statement Note 10.

See financial statement notes (unaudited).


arrshielda01.jpg

5
ARMOUR Residential REIT, Inc.
CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME (LOSS) (UNAUDITED)
(in thousands)


 
 
For the Three Months Ended March 31,
 
 
2018
 
2017
Net Income
 
$
44,747

 
$
52,718

Other comprehensive income (loss):
 
 
 
 
Reclassification adjustment for realized loss on sale of available for sale Agency Securities
 
32,603

 
11,154

Reclassification adjustment for other than temporary impairment of available for sale Agency Securities
 
12,090

 
—

Net unrealized gain (loss) on available for sale Agency Securities
 
(145,410
)
 
6,114

Other comprehensive income (loss)
 
$
(100,717
)
 
$
17,268

Comprehensive Income (Loss)
 
$
(55,970
)
 
$
69,986

 
See financial statement notes (unaudited).


arrshielda01.jpg

6
ARMOUR Residential REIT, Inc.
CONSOLIDATED STATEMENT OF STOCKHOLDERS’ EQUITY (UNAUDITED)
(in thousands)

 
Preferred Stock
 
Common Stock
 
 
 
 
 
 
 
 
 
8.250% Series A
 
7.875% Series B
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Shares
 
Par Amount
 
Additional Paid-in Capital
 
Shares
 
Par Amount
 
Additional Paid-in Capital
 
Shares
 
Par Amount
 
Additional Paid-in Capital
 
Total
Additional Paid-in
Capital
 
Accumulated
Deficit
 
Accumulated
Other
Comprehensive Income (Loss)
 
Total
Balance, January 1, 2017
2,181

 
$
2

 
$
53,172

 
6,262

 
$
6

 
$
151,515

 
41,877

 
$
42

 
$
2,504,648

 
$
2,709,335

 
$
(1,363,223
)
 
$
(20,111
)
 
$
1,326,051

Series A Preferred dividends
—

 
—

 
—

 
—

 
—

 
—

 
—

 
—

 
—

 
—

 
(1,124
)
 
—

 
(1,124
)
Series B Preferred dividends
—

 
—

 
—

 
—

 
—

 
—

 
—

 
—

 
—

 
—

 
(3,129
)
 
—

 
(3,129
)
Common stock dividends
—

 
—

 
—

 
—

 
—

 
—

 
—

 
—

 
—

 
—

 
(24,138
)
 
—

 
(24,138
)
Issuance of Series B Preferred stock, net
—

 
—

 
—

 
107

 
—

 
2,632

 
—

 
—

 
—

 
2,632

 
—

 
—

 
2,632

Stock based compensation, net of withholding requirements
—

 
—

 
—

 
—

 
—

 
—

 
25

 
—

 
644

 
644

 
—

 
—

 
644

Net Income
—

 
—

 
—

 
—

 
—

 
—

 
—

 
—

 
—

 
—

 
44,747

 
—

 
44,747

Other comprehensive loss
—

 
—

 
—

 
—

 
—

 
—

 
—

 
—

 
—

 
—

 
—

 
(100,717
)
 
(100,717
)
Balance, March 31, 2018
2,181

 
$
2

 
$
53,172

 
6,369

 
$
6

 
$
154,147

 
41,902

 
$
42

 
$
2,505,292

 
$
2,712,611

 
$
(1,346,867
)
 
$
(120,828
)
 
$
1,244,966

 
See financial statement notes (unaudited).

arrshielda01.jpg

7
ARMOUR Residential REIT, Inc.
CONSOLIDATED STATEMENTS OF CASH FLOWS (UNAUDITED)
(in thousands)

 
 
For the Three Months Ended March 31,
 
 
2018
 
2017
Cash Flows From Operating Activities:
 
 
 
 
Net Income
 
$
44,747

 
$
52,718

Adjustments to reconcile net income to net cash used in operating activities:
 
 
 
 
Net amortization of premium on Agency Securities
 
9,794

 
12,633

Accretion of net discount on Credit Risk and Non-Agency Securities
 
(1,006
)
 
(848
)
Net amortization of Interest-Only Securities
 
1,117

 
1,311

Realized loss on sale of Agency Securities
 
32,603

 
11,154

Other than temporary impairment of Agency Securities
 
12,090

 
—

Gain on Credit Risk and Non-Agency Securities
 
(1,283
)
 
(24,284
)
(Gain) Loss on Interest-Only Securities
 
(298
)
 
3,743

Gain on of U.S. Treasury Securities
 
(2,576
)
 
—

Stock based compensation
 
644

 
200

Changes in operating assets and liabilities:
 
 
 
 
(Increase) decrease in accrued interest receivable
 
1,971

 
(29
)
(Increase) decrease in prepaid and other assets
 
56

 
(371
)
Change in derivatives, at fair value
 
(99,558
)
 
(57,159
)
Decrease in accrued interest payable- repurchase agreements
 
(1,178
)
 
(2,868
)
Increase (decrease) in accounts payable and other accrued expenses
 
2,270

 
(1,239
)
Net cash used in operating activities
 
$
(607
)
 
$
(5,039
)
Cash Flows From Investing Activities:
 
 
 
 
Purchases of Agency Securities
 
—

 
(1,408,177
)
Purchases of Credit Risk and Non-Agency Securities
 
—

 
(8,224
)
Purchases of U.S. Treasury Securities
 
(668,120
)
 
—

Principal repayments of Agency Securities
 
167,649

 
208,031

Principal repayments of Credit Risk and Non-Agency Securities
 
9,168

 
16,088

Proceeds from sales of Agency Securities
 
1,068,996

 
1,387,366

Increase in cash collateral
 
102,140

 
61,556

Net cash provided by investing activities
 
$
679,833

 
$
256,640

Cash Flows From Financing Activities:
 
 
 
 
Issuance of Series B Preferred stock, net of expenses
 
2,632

 
—

Proceeds from repurchase agreements
 
35,593,550

 
35,245,549

Principal repayments on repurchase agreements
 
(36,295,752
)
 
(35,549,608
)
Series A Preferred stock dividends paid
 
(1,124
)
 
(1,124
)
Series B Preferred stock dividends paid
 
(3,129
)
 
(2,781
)
Common stock dividends paid
 
(24,138
)
 
(20,951
)
Net cash used in financing activities
 
$
(727,961
)
 
$
(328,915
)
Net decrease in cash
 
(48,735
)
 
(77,314
)
Cash - beginning of period
 
265,232

 
271,773

Cash - end of period
 
$
216,497

 
$
194,459

Supplemental Disclosure:
 
 
 
 
Cash paid during the period for interest
 
$
53,651

 
$
36,117

Non-Cash Investing Activities:
 
 
 
 
Receivable for unsettled sales
 
$
68,796

 
$
649,323

Payable for unsettled purchases
 
$
227,409

 
$
467,562

Net unrealized gain (loss) on available for sale Agency Securities
 
$
(145,410
)
 
$
6,114


See financial statement notes (unaudited).

arrshielda01.jpg

8
ARMOUR Residential REIT, Inc.
FINANCIAL STATEMENT NOTES (UNAUDITED)
(in thousands, except per share)



Note 1 -Organization and Nature of Business Operations
 
References to “we,” “us,” “our,” or the “Company” are to ARMOUR Residential REIT, Inc. (“ARMOUR”) and its subsidiaries. References to “ACM” are to ARMOUR Capital Management LP, a Delaware limited partnership.
 
ARMOUR is an externally managed Maryland corporation incorporated in 2008. The Company is managed by ACM, an investment advisor registered with the Securities and Exchange Commission (the “SEC”), (see Note 11 -Commitments and Contingencies and Note 16 -Related Party Transactions for additional discussion). We have elected to be taxed as a real estate investment trust (“REIT”) under the Internal Revenue Code, as amended (the "Code”). Our qualification as a REIT depends on our ability to meet, on a continuing basis, various complex requirements under the Code relating to, among other things, the sources of our gross income, the composition and values of our assets, our distribution levels and the concentration of ownership of our capital stock. We believe that we are organized in conformity with the requirements for qualification as a REIT under the Code and our manner of operations enables us to meet the requirements for taxation as a REIT for federal income tax purposes. As a REIT, we will generally not be subject to federal income tax on the REIT taxable income that we currently distribute to our stockholders. If we fail to qualify as a REIT in any taxable year and do not qualify for certain statutory relief provisions, we will be subject to federal income tax at regular corporate rates. Even if we qualify as a REIT for federal income tax purposes, we may still be subject to some federal, state and local taxes on our income.

We invest in residential mortgage backed securities issued or guaranteed by a United States (“U.S.”) Government-sponsored entity (“GSE”), such as the Federal National Mortgage Association (Fannie Mae), the Federal Home Loan Mortgage Corporation (Freddie Mac), or a government agency such as Government National Mortgage Administration (Ginnie Mae) (collectively, “Agency Securities”). We also invest in Interest-Only Securities, which are the interest portion of Agency Securities, that is separated and sold individually from the principal portion of the same payment. Other securities backed by residential mortgages in which we invest, for which the payment of principal and interest is not guaranteed by a GSE or government agency (collectively, “Credit Risk and Non-Agency Securities” and together with Agency Securities and Interest-Only Securities, “MBS”), may benefit from credit enhancement derived from structural elements such as subordination, over collateralization or insurance.

Our securities portfolio consists primarily of Agency Securities backed by fixed rate home loans. From time to time, a portion of our assets may be invested in Agency Securities backed by hybrid adjustable rate and adjustable rate home loans as well as unsecured notes and bonds issued by GSEs, U.S. Treasury Securities and money market instruments, subject to certain income tests we must satisfy for our qualification as a REIT.

Note 2 -Basis of Presentation and Consolidation
 
The accompanying unaudited consolidated financial statements have been prepared in accordance with generally accepted accounting principles in the United States (“GAAP”) for interim financial information and with the instructions to Form 10-Q and Rule 10-01 of Regulation S-X promulgated by the SEC. Accordingly, the condensed financial statements do not include all of the information and footnotes required by GAAP for complete financial statements. In the opinion of management, all adjustments (consisting of normal recurring accruals) considered necessary for a fair presentation have been included. Operating results for the three months ended March 31, 2018 are not necessarily indicative of the results that may be expected for the calendar year ending December 31, 2018. These unaudited consolidated financial statements should be read in conjunction with the audited financial statements and notes thereto included in our annual report on Form 10-K for the year ended December 31, 2017.
 
The unaudited consolidated financial statements include the accounts of ARMOUR Residential REIT, Inc. and its subsidiaries. All intercompany accounts and transactions have been eliminated. The preparation of the consolidated 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 revenues and expenses during the reporting period. Actual results could differ from those estimates. Significant estimates affecting the accompanying condensed consolidated financial statements include the valuation of MBS

arrshielda01.jpg

9
ARMOUR Residential REIT, Inc.
FINANCIAL STATEMENT NOTES (UNAUDITED)
(in thousands, except per share)


(as defined below), including an assessment of whether other-than-temporary impairment (“OTTI”) exists, and derivative instruments.

Note 3 -Summary of Significant Accounting Policies
 
Cash
 
Cash includes cash on deposit with financial institutions. We may maintain deposits in federally insured financial institutions in excess of federally insured limits. However, management believes we are not exposed to significant credit risk due to the financial position and creditworthiness of the depository institutions in which those deposits are held.
 
Cash Collateral Posted To/By Counterparties

Cash collateral posted to/by counterparties represents cash posted by us to counterparties or posted by counterparties to us as collateral. Cash collateral posted to/by counterparties may include collateral for interest rate swap contracts (including swaptions and basis swap contracts), and repurchase agreements on our MBS and our Agency Securities purchased or sold on a to-be-announced basis (“TBA Agency Securities”).
Investments in Securities, at Fair Value

We generally intend to hold most of our securities for extended periods of time. We may, from time to time, sell any of our securities as part of the overall management of our securities portfolio. Management determines the appropriate classifications of the securities at the time they are acquired and evaluates the appropriateness of such classifications at each balance sheet date. Purchases and sales of our securities are recorded on the trade date.

Agency Securities - At March 31, 2018 and December 31, 2017, all of our Agency Securities were classified as available for sale securities. Agency Securities classified as available for sale are reported at their estimated fair values with unrealized gains and losses excluded from earnings and reported as part of the consolidated statements of comprehensive income (loss).

Credit Risk and Non-Agency Securities - At March 31, 2018 and December 31, 2017, all of our Credit Risk and Non-Agency Securities were classified as trading securities. Credit Risk and Non-Agency Securities classified as trading are reported at their estimated fair values with unrealized gains and losses included in Other Income (Loss) as a component of the consolidated statements of operations.

Interest-Only Securities - At March 31, 2018 and December 31, 2017, all of our Interest-Only Securities were classified as trading securities. Interest-Only Securities represent the right to receive a specified proportion of the contractual interest flows of specific Agency MBS. Interest-Only Securities classified as trading are reported at their estimated fair values with unrealized gains and losses included in Other Income (Loss) as a component of the consolidated statements of operations.

U.S. Treasury Securities - At March 31, 2018, all of our U.S. Treasury Securities were classified as trading securities. U.S. Treasury Securities classified as trading are reported at their estimated fair values with unrealized gains and losses included in Other Income (Loss) as a component of the consolidated statements of operations. We did not have any U.S. Treasury Securities at December 31, 2017.

Receivables and Payables for Unsettled Sales and Purchases

We account for purchases and sales of securities on the trade date, including purchases and sales for forward settlement. Receivables and payables for unsettled trades represent the agreed trade price multiplied by the outstanding balance of the securities at the balance sheet date.


arrshielda01.jpg

10
ARMOUR Residential REIT, Inc.
FINANCIAL STATEMENT NOTES (UNAUDITED)
(in thousands, except per share)


Accrued Interest Receivable and Payable
 
Accrued interest receivable includes interest accrued between payment dates on securities. Accrued interest payable includes interest payable on our repurchase agreements and may, at certain times, contain interest payable on U.S. Treasury Securities sold short.
 
Repurchase Agreements
 
We finance the acquisition of our MBS through the use of repurchase agreements. Our repurchase agreements are secured by our MBS and bear interest rates that have historically moved in close relationship to the Federal Funds Rate and the London Interbank Offered Rate (“LIBOR”). Under these repurchase agreements, we sell MBS to a lender and agree to repurchase the same MBS in the future for a price that is higher than the original sales price. The difference between the sales price that we receive and the repurchase price that we pay represents interest paid to the lender. A repurchase agreement operates as a financing arrangement under which we pledge our MBS as collateral to secure a loan which is equal in value to a specified percentage of the estimated fair value of the pledged collateral. We retain beneficial ownership of the pledged collateral. At the maturity of a repurchase agreement, we are required to repay the loan and concurrently receive back our pledged collateral from the lender or, with the consent of the lender, we may renew such agreement at the then prevailing interest rate. The repurchase agreements may require us to pledge additional assets to the lender in the event the estimated fair value of the existing pledged collateral declines.
 
In addition to the repurchase agreement financing discussed above, at certain times we have entered into reverse repurchase agreements with certain of our repurchase agreement counterparties. Under a typical reverse repurchase agreement, we purchase U.S. Treasury Securities from a borrower in exchange for cash and agree to sell the same securities in the future in exchange for a price that is higher than the original purchase price. The difference between the purchase price originally paid and the sale price represents interest received from the borrower. Reverse repurchase agreement receivables and repurchase agreement liabilities are presented net when they meet certain criteria, including being with the same counterparty, being governed by the same master repurchase agreement (“MRA”), settlement through the same brokerage or clearing account and maturing on the same day. We did not have any reverse repurchase agreements outstanding at March 31, 2018 and December 31, 2017.
 
Derivatives, at Fair Value
 
We recognize all derivatives as either assets or liabilities at fair value on our consolidated balance sheets. All changes in the fair values of our derivatives are reflected in our consolidated statements of operations. We designate derivatives as hedges for tax purposes and any unrealized derivative gains or losses would not affect our distributable net taxable income. These transactions include interest rate swap contracts, interest rate swaptions and basis swap contracts. We also may utilize forward contracts for the purchase or sale of TBA Agency Securities. We account for TBA Agency Securities as derivative instruments if it is reasonably possible that we will not take or make physical delivery of the Agency Security upon settlement of the contract. We account for TBA dollar roll transactions as a series of derivative transactions.
 
We may also purchase and sell TBA Agency Securities as a means of investing in and financing Agency Securities (thereby increasing our “at risk” leverage) or as a means of disposing of or reducing our exposure to Agency Securities (thereby reducing our “at risk” leverage). Pursuant to TBA Agency Securities, we agree to purchase or sell, 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 may also choose, prior to settlement, to move the settlement of these securities out to a later date by entering into an offsetting short or long position (referred to as a “pair off”), net settling the paired off positions for cash, and simultaneously purchasing or selling a similar TBA Agency Security for a later settlement date. This transaction is commonly referred to as a “dollar roll.” When it is reasonably possible that we will pair off a TBA Agency Security, we account for that contract as a derivative.

arrshielda01.jpg

11
ARMOUR Residential REIT, Inc.
FINANCIAL STATEMENT NOTES (UNAUDITED)
(in thousands, except per share)



Revenue Recognition
 
Agency Securities - Interest income is earned and recognized on Agency Securities based on their unpaid principal amounts and their contractual terms. Recognition of interest income commences on the settlement date of the purchase transaction and continues through the settlement date of the sale transaction. Premiums and discounts associated with the purchase of Multi-Family MBS, which are generally not subject to prepayment, are amortized or accreted into interest income over the contractual lives of the securities using a level yield method. Premiums and discounts associated with the purchase of other Agency Securities are amortized or accreted into interest income over the actual lives of the securities, reflecting actual prepayments as they occur.

•Fair Value of Agency Securities: We invest in Agency Securities representing interests in or obligations backed by pools of fixed rate, hybrid adjustable rate and adjustable rate mortgage loans. GAAP requires us to classify our investments as either trading, available for sale or held to maturity securities. Management determines the appropriate classifications of the securities at the time they are acquired and evaluates the appropriateness of such classifications at each balance sheet date. We currently classify all of our Agency Securities as available for sale. Agency Securities classified as available for sale are reported at their estimated fair values with unrealized gains and losses excluded from earnings and reported as part of the statements of comprehensive income (loss).

•Agency Security purchase and sale transactions (including purchase of TBA Agency Securities): Purchases and Sales are recorded on the trade date to the extent it is probable that we will take or make timely physical delivery of the related securities. Gains or losses realized from the sale of securities are included in income and are determined using the specific identification method.

•Impairment of Assets: We evaluate Agency Securities for other than temporary impairment at least on a quarterly basis and more frequently when economic or market concerns warrant such evaluation. We consider an impairment to be other than temporary if we (1) have the intent to sell the Agency Securities, (2) believe it is more likely than not that we will be required to sell the securities before recovery (for example, because of liquidity requirements or contractual obligations) or (3) a credit loss exists. Impairment losses recognized establish a new cost basis for the related Agency Securities.

Credit Risk and Non-Agency Securities and Interest-Only Securities - Interest income on Credit Risk and Non-Agency Securities and Interest-Only Securities is recognized using the effective yield method over the life of the securities based on the future cash flows expected to be received. Future cash flow projections and related effective yields are determined for each security and updated quarterly. Other than temporary impairments, which establish a new cost basis in the security for purposes of calculating effective yields, are recognized when the fair value of a security is less than its cost basis and there has been an adverse change in the future cash flows expected to be received. Other changes in future cash flows expected to be received are recognized prospectively over the remaining life of the security.

U.S. Treasury Securities - Interest income on U.S. Treasury Securities is recognized based on their unpaid principal amounts and their contractual terms. Recognition of interest income commences on the settlement date of the purchase transaction and continues through the settlement date of the sale transaction.

Comprehensive Income (Loss)
 
Comprehensive income (loss) refers to changes in equity during a period from transactions and other events and circumstances from non-owner sources. It includes all changes in equity during a period, except those resulting from investments by owners and distributions to owners.

Note 4 -Recent Accounting Pronouncements

We consider the applicability and impact of all Accounting Standards Updates issued by the Financial Accounting Standards Board. Those not listed below were deemed to be either not applicable, are not expected to have a significant impact

arrshielda01.jpg

12
ARMOUR Residential REIT, Inc.
FINANCIAL STATEMENT NOTES (UNAUDITED)
(in thousands, except per share)


on our consolidated financial statements when adopted, or did not have a significant impact on our consolidated financial statements upon adoption.

In August 2017, the Financial Accounting Standards Board issued ASU 2017-12, Derivatives and Hedging (Topic 815): Targeted Improvements to Accounting for Hedging Activities. The standard amends the hedge accounting recognition and presentation requirements in ASC 815. The standard is effective for fiscal years beginning after December 15, 2018 and interim periods therein, however, early adoption is permitted upon its issuance. The Company is currently assessing the impact of the standard and whether it may apply hedge accounting in the future.

In July 2016, the Financial Accounting Standards Board issued ASU 2016-13, Financial Instruments–Credit Losses (Topic 326). The standard introduces a new model for recognizing credit losses on financial instruments based on an estimate of current expected credit losses. The standard will apply to (1) loans, accounts receivable, trade receivables, and other financial assets measured at amortized cost, (2) loan commitments and certain other off–balance sheet credit exposures, (3) debt securities and other financial assets measured at fair value through other comprehensive income, and (4) beneficial interests in securitized financial assets. The standard is effective for fiscal years beginning after December 15, 2019. The Company is assessing the impact of this standard but does not expect it to have significant impact on the consolidated financial statements. However, the impact on the consolidated financial statements will depend on the debt securities held by the Company on the date of the adoption.

Note 5 -Fair Value of Financial Instruments
 
Our valuation techniques for financial instruments use observable and unobservable inputs. Observable inputs reflect readily obtainable data from third party sources, while unobservable inputs reflect management’s market assumptions. The Accounting Standards Codification Topic No. 820, “Fair Value Measurement,” classifies these inputs into the following hierarchy:
 
Level 1 Inputs - Quoted prices for identical instruments in active markets.

Level 2 Inputs - Quoted prices for similar instruments in active markets; quoted prices for identical or similar instruments in markets that are not active; and model-derived valuations whose inputs are observable or whose significant value drivers are observable.
 
Level 3 Inputs - Prices determined using significant unobservable inputs. Unobservable inputs may be used in situations where quoted prices or observable inputs are unavailable (for example, when there is little or no market activity for an investment at the end of the period). Unobservable inputs reflect management’s assumptions about the factors that market participants would use in pricing an asset or liability, and would be based on the best information available.

At the beginning of each quarter, we asses the assets and liabilities that are measured at fair value on a recurring basis to determine if any transfers between levels in the fair value hierarchy are needed.

The following describes the valuation methodologies used for our assets and liabilities measured at fair value, as well as the general classification of such instruments pursuant to the valuation hierarchy. Any transfers between levels are assumed to occur at the beginning of the reporting period.
 
Cash - Cash includes cash on deposit with financial institutions. The carrying amount of cash is deemed to be its fair value and is classified as Level 1. Cash balances posted by us to counterparties or posted by counterparties to us as collateral are classified as Level 2 because they are integrally related to the Company's repurchase financing and interest rate swap agreements, which are classified as Level 2.
 
Agency Securities - Fair value for the Agency Securities in our securities portfolio is based on obtaining a valuation for each Agency Security from third party pricing services and/or dealer quotes. The third party pricing services use common market pricing methods that may include pricing models that may incorporate such factors as coupons, prepayment speeds, spread to the Treasury curves and interest rate swap curves, duration, periodic and life caps and credit enhancement. If the fair value of an Agency Security is not available from the third party pricing services or such data appears unreliable, we obtain

arrshielda01.jpg

13
ARMOUR Residential REIT, Inc.
FINANCIAL STATEMENT NOTES (UNAUDITED)
(in thousands, except per share)


pricing indications from up to three dealers who make markets in similar Agency Securities. Management reviews pricing used to ensure that current market conditions are properly reflected. This review includes, but is not limited to, comparisons of similar market transactions or alternative third party pricing services, dealer pricing indications and comparisons to a third party pricing model. Fair values obtained from the third party pricing services for similar instruments are classified as Level 2 securities if the inputs to the pricing models used are consistent with the Level 2 definition. If quoted prices for a security are not reasonably available from the third party pricing service, but dealer pricing indications are, the security will be classified as a Level 2 security. If neither is available, management will determine the fair value based on characteristics of the security that we receive from the issuer and based on available market information and classify it as a Level 3 security. At March 31, 2018 and December 31, 2017, all of our Agency Security fair values are classified as Level 2 based on the inputs used by our third party pricing services and dealer quotes.

Credit Risk and Non-Agency Securities - The fair value for the Credit Risk and Non-Agency Securities in our securities portfolio is based on obtaining a valuation for each Credit Risk and Non-Agency Security from third party pricing services and/or dealer quotes. The third party pricing services incorporate such factors as collateral type, bond structure and priority of payments, coupons, prepayment speeds, defaults, delinquencies and severities. If the fair value of a Credit Risk and Non-Agency Security is not available from the third party pricing services or such data appears unreliable, we obtain pricing indications from up to three dealers who make markets in similar Credit Risk and Non-Agency Securities. Management reviews pricing used to ensure that current market conditions are properly reflected. This review includes, but is not limited to, comparisons of similar market transactions or alternative third party pricing services, dealer pricing indications and comparisons to fair value determined using a third party pricing model. Fair values obtained from the third party pricing services for similar instruments are classified as Level 2 securities if the inputs to the pricing models used are consistent with the Level 2 definition. If quoted prices for a security are not reasonably available from the third party pricing service, but dealer pricing indications are, the security will be classified as a Level 2 security. If neither is available, management will determine the fair value based on characteristics of the security that we receive from the issuer and based on available market information and classify it as a Level 3 security. At March 31, 2018 and December 31, 2017, all of our Credit Risk and Non-Agency Securities are classified as Level 2 based on the inputs used by our third party pricing services and dealer quotes.

Interest-Only Securities - The fair value for the Interest-Only Securities in our securities portfolio is based on obtaining a valuation for each Interest-Only Security from third party pricing services and/or dealer quotes. The third party pricing services use common market pricing methods that may include pricing models consistent with those models used to price Agency Securities underlying the Interest-Only Securities that may incorporate such factors as coupons, prepayment speeds, spread to the Treasury curves and interest rate swap curves, duration, periodic and life caps and credit enhancement. If the fair value of an Interest-Only Security is not available from the third party pricing services or such data appears unreliable, we obtain pricing indications from up to three dealers who make markets in similar Interest-Only Securities. Management reviews pricing used to ensure that current market conditions are properly reflected. This review includes, but is not limited to, comparisons of similar market transactions or alternative third party pricing services, dealer pricing indications and comparisons to a third party pricing model. Fair values obtained from the third party pricing services for similar instruments are classified as Level 2 securities if the inputs to the pricing models used are consistent with the Level 2 definition. If quoted prices for a security are not reasonably available from the third party pricing service, but dealer pricing indications are, the security will be classified as a Level 2 security. If neither is available, management will determine the fair value based on characteristics of the security that we receive from the issuer and based on available market information and classify it as a Level 3 security. At March 31, 2018 and December 31, 2017, all of our Interest-Only Security fair values are classified as Level 2 based on the inputs used by our third party pricing services and dealer quotes.

U.S. Treasury Securities- Fair value for the U.S. Treasury Securities in our securities portfolio is based on obtaining a valuation for each U.S. Treasury Securities from third party pricing services and/or dealer quotes. At March 31, 2018, all of our U.S. Treasury Securities fair values are classified as Level 1, as quoted unadjusted prices are available in active markets for identical assets.

Receivables and Payables for Unsettled Sales and Purchases - The carrying amount is generally deemed to be fair value because of the relatively short time to settlement. Such receivables and payables are classified as Level 2 because they are effectively secured by the related securities and could potentially be subject to counterparty credit considerations.
 

arrshielda01.jpg

14
ARMOUR Residential REIT, Inc.
FINANCIAL STATEMENT NOTES (UNAUDITED)
(in thousands, except per share)


Repurchase Agreements - The fair value of repurchase agreements reflects the present value of the contractual cash flows discounted at the estimated LIBOR based market interest rates at the valuation date for repurchase agreements with a term equivalent to the remaining term to interest rate repricing, which may be at maturity, of our repurchase agreements. The fair value of the repurchase agreements approximates their carrying amount due to the short-term nature of these financial instruments. Our repurchase agreements are classified as Level 2.

Derivative Transactions - The fair values of our interest rate swap contracts, interest rate swaptions and basis swaps are valued using information provided by third party pricing services that incorporate common market pricing methods that may include current interest rate curves, forward interest rate curves and market spreads to interest rate curves. We estimate the fair value of TBA Agency Securities based on similar methods used to value our Agency Securities. Management compares the pricing information received to dealer quotes to ensure that the current market conditions are properly reflected. The fair values of our interest rate swap contracts, interest rate swaptions, basis swap contracts and TBA Agency Securities are classified as Level 2.

The following tables provide a summary of our assets and liabilities that are measured at fair value on a recurring basis at March 31, 2018 and December 31, 2017.
 
 
Quoted Prices
in Active
Markets for
Identical Assets
(Level 1) 
 
Significant
Observable
Inputs
(Level 2) 
 
Significant
Unobservable
Inputs
(Level 3) 
 
Balance at March 31, 2018
Assets at Fair Value:
 
 
 
 
 
 
 
 
Agency Securities
 
$
—

 
$
6,245,432

 
$
—

 
$
6,245,432

Credit Risk and Non-Agency Securities
 
$
—

 
$
968,950

 
$
—

 
$
968,950

Interest-Only Securities
 
$
—

 
$
24,933

 
$
—

 
$
24,933

U.S. Treasury Securities
 
$
670,696

 
$
—

 
$
—

 
$
670,696

Derivatives
 
$
—

 
$
135,703

 
$
—

 
$
135,703

Liabilities at Fair Value:
 
 
 
 
 
 
 


Derivatives
 
$
—

 
$
6,882

 
$
—

 
$
6,882

 
There were no transfers of assets or liabilities between the levels of the fair value hierarchy during the three months ending March 31, 2018.
 
 
Quoted Prices
in Active
Markets for
Identical Assets
(Level 1) 
 
Significant
Observable
Inputs
(Level 2) 
 
Significant
Unobservable
Inputs
(Level 3) 
 
Balance at December 31, 2017
Assets at Fair Value:
 
 
 
 
 
 
 
 
Agency Securities
 
$
—

 
$
7,478,966

 
$
—

 
$
7,478,966

Credit Risk and Non-Agency Securities
 
$
—

 
$
975,829

 
$
—

 
$
975,829

Interest-Only Securities
 
$
—

 
$
25,752

 
$
—

 
$
25,752

Derivatives
 
$
—

 
$
37,211

 
$
—

 
$
37,211

Liabilities at Fair Value:
 
 
 
 
 
 
 
 
Derivatives
 
$
—

 
$
7,948

 
$
—

 
$
7,948




arrshielda01.jpg

15
ARMOUR Residential REIT, Inc.
FINANCIAL STATEMENT NOTES (UNAUDITED)
(in thousands, except per share)


The following tables provide a summary of the carrying values and fair values of our financial assets and liabilities not carried at fair value but for which fair value is required to be disclosed at March 31, 2018 and December 31, 2017.
March 31, 2018
 
 
 
 
 
Fair Value Measurements using:
 
 
Carrying Value
 
Fair
Value 
 
Quoted Prices
in Active
Markets for
Identical Assets
(Level 1) 
 
Significant
Observable
Inputs
(Level 2) 
 
Significant
Unobservable
Inputs
(Level 3) 
Financial Assets:
 
 
 
 
 
 
 
 
 
 
Cash
 
$
216,497

 
$
216,497

 
$
216,497

 
$
—

 
$
—

Cash collateral posted to counterparties
 
$
13,150

 
$
13,150

 
$
—

 
$
13,150

 
$
—

Receivable for unsettled sales
 
$
68,796

 
$
68,796

 
$
—

 
$
68,796

 
$
—

Accrued interest receivable
 
$
20,492

 
$
20,492

 
$
—

 
$
20,492

 
$
—

Subordinated loans due from BUCKLER Securities LLC
 
$
105,000

 
$
105,000

 
$
—

 
$
105,000

 
$
—

Financial Liabilities:
 
 
 
 
 
 
 
 
 
 
Repurchase agreements
 
$
6,853,715

 
$
6,853,715

 
$
—

 
$
6,853,715

 
$
—

Cash collateral posted by counterparties
 
$
127,721

 
$
127,721

 
$
—

 
$
127,721

 
$
—

Payable for unsettled purchases
 
$
227,409

 
$
227,409

 
$
—

 
$
227,409

 
$
—

Accrued interest payable- repurchase agreements
 
$
5,274

 
$
5,274

 
$
—

 
$
5,274

 
$
—


December 31, 2017
 
 
 
 
 
Fair Value Measurements using:
 
 
Carrying Value
 
Fair
Value 
 
Quoted Prices
in Active
Markets for
Identical Assets
(Level 1) 
 
Significant
Observable
Inputs
(Level 2) 
 
Significant
Unobservable
Inputs
(Level 3) 
Financial Assets:
 
 
 
 
 
 
 
 
 
 
Cash
 
$
265,232

 
$
265,232

 
$
265,232

 
$
—

 
$
—

Cash collateral posted to counterparties
 
$
17,162

 
$
17,162

 
$
—

 
$
17,162

 
$
—

Accrued interest receivable
 
$
22,165

 
$
22,165

 
$
—

 
$
22,165

 
$
—

Subordinated loans due from BUCKLER Securities LLC
 
$
105,000

 
105,000

 
$
—

 
$
105,000

 
$
—

Financial Liabilities:
 
 
 


 
 
 


 
 
Repurchase agreements
 
$
7,555,917

 
$
7,555,917

 
$
—

 
$
7,555,917

 
$
—

Cash collateral posted by counterparties
 
$
29,593

 
$
29,593

 
$
—

 
$
29,593

 
$
—

Accrued interest payable- repurchase agreements
 
$
6,452

 
$
6,452

 
$
—

 
$
6,452

 
$
—



arrshielda01.jpg

16
ARMOUR Residential REIT, Inc.
FINANCIAL STATEMENT NOTES (UNAUDITED)
(in thousands, except per share)


The following table provides a summary of the changes in Level 3 assets measured at fair value on a recurring basis at March 31, 2018 and March 31, 2017.
 
 
For the Three Months Ended March 31,
Credit Risk and Non-Agency Securities
 
2018
 
2017
Balance, beginning of period
 
$
—

 
$
1,052,170

Purchases of Credit Risk and Non-Agency Securities, at cost
 
—

 
8,224

Principal repayments of Credit Risk and Non-Agency Securities
 
—

 
(16,088
)
Gain on Credit Risk and Non-Agency Securities
 
—

 
24,284

Accretion of net discount on Credit Risk and Non-Agency Securities
 
—

 
848

Balance, end of period
 
$
—

 
$
1,069,438

Gain on Credit Risk and Non-Agency Securities
 
$
—

 
$
24,284


The significant unobservable inputs used in the fair value measurement of our Level 3 Credit Risk and Non-Agency Securities at March 31, 2017, included assumptions for underlying loan collateral, cumulative default rates and loss severities in the event of default, as well as discount rates. At the beginning of the third quarter 2017, we determined that third party pricing services and or/dealer quotes available for Credit Risk and Non-Agency Securities meet the criteria for Level 2 classification. Fair values obtained from third party pricing services for similar instruments are classified as Level 2 securities, if the inputs to the pricing model used is consistent with the Level 2 definition. We transferred the securities to Level 2 from Level 3 at the commencement of the third quarter in 2017.

Note 6 -Agency Securities
 
At March 31, 2018 and December 31, 2017, investments in Agency Securities accounted for 79.0% and 88.2% of our securities portfolio.

We evaluated our Agency Securities with unrealized losses at March 31, 2018, March 31, 2017 and December 31, 2017, to determine whether there was an other than temporary impairment. All of our Agency Securities are issued and guaranteed by GSEs or Ginnie Mae. The GSEs have a long term credit rating of AA+. At those dates, we also considered whether we intended to sell Agency Securities and whether it was more likely than not that we could meet our liquidity requirements and contractual obligations without selling Agency Securities.

Results of this evaluation for the three months ending March 31, 2018 - At March 31, 2018, we recognized additional losses on Agency Securities, previously identified during 2017, totaling $12,090 for the three months ended March 31, 2018 in our consolidated financial statements of operations. The aggregate fair value of the remaining identified low yielding Agency Securities is $681,827 at March 31, 2018. We determined that there was no other than temporary impairment of our remaining Agency Securities as of March 31, 2018.

Results of this evaluation for the period ending March 31, 2017 - No other than temporary impairment was recognized for the three months ended March 31, 2017 because we determined that we 1) did not have the intent to sell the Agency Securities in an unrealized loss position, 2) did not believe it more likely than not that we were required to sell the securities before recovery (for example, because of liquidity requirements or contractual obligations), and/or 3) determined that a credit loss did not exist.


arrshielda01.jpg

17
ARMOUR Residential REIT, Inc.
FINANCIAL STATEMENT NOTES (UNAUDITED)
(in thousands, except per share)


Results of this evaluation for the year ended December 31, 2017 - During the second quarter of 2017, we identified certain low yielding Agency Securities that we replaced with securities having more attractive returns as market conditions permit. Accordingly, we recognized losses totaling $13,707 in our consolidated statements of operations for the year ended December 31, 2017, thereby establishing a new cost basis for those Agency Securities with an aggregate fair value of $795,724 as of December 31, 2017. We determined that there was no other than temporary impairment of our remaining Agency Securities as of December 31, 2017.


At March 31, 2018, we had the following Agency Securities in an unrealized gain or loss position as presented below. The components of the carrying value of our Agency Securities at March 31, 2018 are also presented below. Our Agency Securities had a weighted average coupon of 3.71% at March 31, 2018.
March 31, 2018
 
Amortized Cost
 
Gross Unrealized Loss
 
Gross Unrealized Gain
 
Fair Value
 
Percent of Total
Fannie Mae
 
 
 
 
 
 
 
 
 
 
ARMs & Hybrids
 
$
26,277

 
$
(304
)
 
$
74

 
$
26,047

 
0.42
%
Multi-Family MBS
 
1,482,115

 
(19,283
)
 
1,235

 
1,464,067

 
23.44

10 Year Fixed
 
28,927

 
(403
)
 
90

 
28,614

 
0.46

15 Year Fixed
 
939,147

 
(11,784
)
 
—

 
927,363

 
14.85

20 Year Fixed
 
28,155

 
(1,016
)
 
—

 
27,139

 
0.43

25 Year Fixed
 
25,185

 
(669
)
 
—

 
24,516

 
0.39

30 Year Fixed
 
2,429,537

 
(59,659
)
 
281

 
2,370,159

 
37.95

Total Fannie Mae
 
$
4,959,343

 
$
(93,118
)
 
$
1,680

 
$
4,867,905

 
77.94
%
 
 
 
 
 
 
 
 
 
 
 
Freddie Mac
 
 
 
 
 
 
 
 
 
 
10 Year Fixed
 
32,886

 
(262
)
 
168

 
32,792

 
0.53

15 Year Fixed
 
337,047

 
(1,391
)
 
13

 
335,669

 
5.37

25 Year Fixed
 
40,390

 
(1,770
)
 
—

 
38,620

 
0.62

30 Year Fixed
 
960,577

 
(25,613
)
 
—

 
934,964

 
14.97

Total Freddie Mac
 
$
1,370,900

 
$
(29,036
)
 
$
181

 
$
1,342,045

 
21.49
%
 
 
 
 
 
 
 
 
 
 
 
Ginnie Mae
 
 
 
 
 
 
 
 
 
 
ARMs & Hybrids
 
35,762

 
(538
)
 
1

 
35,225

 
0.57

10 Year Fixed
 
255

 
—

 
2

 
257

 
0.00

Total Ginnie Mae
 
$
36,017

 
$
(538
)
 
$
3

 
$
35,482

 
0.57
%
Total Agency Securities
 
$
6,366,260

 
$
(122,692
)
 
$
1,864

 
$
6,245,432

 
100.00
%

arrshielda01.jpg

18
ARMOUR Residential REIT, Inc.
FINANCIAL STATEMENT NOTES (UNAUDITED)
(in thousands, except per share)


    
At December 31, 2017, we had the following securities in an unrealized gain or loss position as presented below. The components of the carrying value of our Agency Securities at December 31, 2017 are also presented below. Our Agency Securities had a weighted average coupon of 3.68% at December 31, 2017.
December 31, 2017
 
Amortized Cost
 
Gross Unrealized Loss
 
Gross Unrealized Gain
 
Fair Value
 
Percent of Total
Fannie Mae
 
 
 
 
 
 
 
 
 
 
ARMs & Hybrids
 
$
28,199

 
$
(229
)
 
$
112

 
$
28,082

 
0.38
%
Multi-Family MBS
 
1,799,737

 
(5,132
)
 
16,950

 
1,811,555

 
24.22

10 Year Fixed
 
60,634

 
(347
)
 
137

 
60,424

 
0.81

15 Year Fixed
 
1,028,797

 
(4,955
)
 
625

 
1,024,467

 
13.70

20 Year Fixed
 
29,832

 
(621
)
 
—

 
29,211

 
0.39

25 Year Fixed
 
9,367

 
(140
)
 
—

 
9,227

 
0.12

30 Year Fixed
 
2,938,655

 
(18,910
)
 
431

 
2,920,176

 
39.05

Total Fannie Mae
 
$
5,895,221

 
$
(30,334
)
 
$
18,255

 
$
5,883,142

 
78.67
%
 
 
 
 
 
 
 
 
 
 
 
Freddie Mac
 
 
 
 
 
 
 
 
 
 
10 Year Fixed
 
37,254

 
(158
)
 
228

 
37,324

 
0.50

15 Year Fixed
 
354,878

 
(211
)
 
787

 
355,454

 
4.75

25 Year Fixed
 
41,383

 
(857
)
 
—

 
40,526

 
0.54

30 Year Fixed
 
1,131,584

 
(7,300
)
 
—

 
1,124,284

 
15.03

Total Freddie Mac
 
$
1,565,099

 
$
(8,526
)
 
$
1,015

 
$
1,557,588

 
20.82
%
 
 

 

 

 

 

Ginnie Mae
 

 

 

 

 

ARMs & Hybrids
 
38,494

 
(532
)
 
4

 
37,966

 
0.51

10 Year Fixed
 
263

 
—

 
7

 
270

 
0.00

Total Ginnie Mae
 
$
38,757

 
$
(532
)
 
$
11

 
$
38,236

 
0.51
%
Total Agency Securities
 
$
7,499,077

 
$
(39,392
)
 
$
19,281

 
$
7,478,966

 
100.00
%
 
Recognition of interest income commences on the settlement date of the purchase transaction and continues through the settlement date of the sale transaction. At March 31, 2018, we had investment related receivables of $68,796 with respect to unsettled sales and investment related payables of $227,409 with respect to unsettled purchases. At December 31, 2017 we did not have any investment related receivables or payables with respect to unsettled sales and purchases of our Agency Securities.
    
Actual maturities of Agency Securities are generally shorter than stated contractual maturities because actual maturities of Agency Securities are affected by the contractual lives of the underlying mortgages, periodic payments of principal and prepayments of principal.
 

arrshielda01.jpg

19
ARMOUR Residential REIT, Inc.
FINANCIAL STATEMENT NOTES (UNAUDITED)
(in thousands, except per share)


The following table summarizes the weighted average lives of our Agency Securities at March 31, 2018 and December 31, 2017.
 
 
March 31, 2018
 
December 31, 2017
Weighted Average Life of all Agency Securities
 
Fair Value
 
Amortized
Cost 
 
Fair Value
 
Amortized
Cost 
Less than one year
 
$
—

 
$
—

 
$
—

 
$
—

Greater than or equal to one year and less than three years
 
41,918

 
41,986

 
29,126

 
29,269

Greater than or equal to three years and less than five years
 
1,133,824

 
1,144,807

 
1,353,036

 
1,353,998

Greater than or equal to five years
 
5,069,690

 
5,179,467

 
6,096,804

 
6,115,810

Total Agency Securities
 
$
6,245,432

 
$
6,366,260

 
$
7,478,966

 
$
7,499,077


We use a third party model to calculate the weighted average lives of our Agency Securities. Weighted average life is calculated based on expectations for estimated prepayments for the underlying mortgage loans of our Agency Securities. These estimated prepayments are based on assumptions such as interest rates, current and future home prices, housing policy and borrower incentives. The weighted average lives of our Agency Securities at March 31, 2018 and December 31, 2017 in the table above are based upon market factors, assumptions, models and estimates from the third party model and also incorporate management’s judgment and experience. The actual weighted average lives of our Agency Securities could be longer or shorter than estimated.

The following table presents the unrealized losses and estimated fair value of our Agency Securities by length of time that such securities have been in a continuous unrealized loss position at March 31, 2018 and December 31, 2017.
 
 
Unrealized Loss Position For:
 
 
Less than 12 Months
 
12 Months or More
 
Total
 
 
Fair Value
 
Unrealized
Losses 
 
Fair Value
 
Unrealized
Losses 
 
Fair Value
 
Unrealized
Losses 
March 31, 2018
 
$
4,208,407

 
$
(93,373
)
 
$
932,085

 
$
(29,319
)
 
$
5,140,492

 
$
(122,692
)
December 31, 2017
 
$
4,355,924

 
$
(28,906
)
 
$
733,637

 
$
(10,486
)
 
$
5,089,561

 
$
(39,392
)
 
During the three months ended March 31, 2018, we sold $1,137,792 (inclusive of $68,796 receivable for unsettled sales) of Agency Securities, which resulted in a realized loss of $(32,603). During the three months ended March 31, 2017, we sold $1,387,366 of Agency Securities, which resulted in a realized loss of $(11,154). Sales of Agency Securities are done to reposition our securities portfolio and to reach our target level of liquidity.

Note 7 -Credit Risk and Non-Agency Securities

At March 31, 2018 and December 31, 2017, investments in Credit Risk and Non-Agency Securities accounted for 12.2% and 11.5% of our securities portfolio.

arrshielda01.jpg

20
ARMOUR Residential REIT, Inc.
FINANCIAL STATEMENT NOTES (UNAUDITED)
(in thousands, except per share)



The components of the carrying value of our Credit Risk and Non-Agency Securities at March 31, 2018 are presented in the table below. 
 
 
Credit Risk and Non-Agency Securities
March 31, 2018
 
Fair Value
 
Amortized
 Cost
 
Principal
Amount
 
Weighted
Average
Coupon
Credit Risk Transfer
 
$
866,736

 
$
748,078

 
$
758,090

 
6.37%
Legacy Prime Fixed
 
16,267

 
14,766

 
18,585

 
6.03%
Legacy ALT-A Fixed
 
53,401

 
47,129

 
64,175

 
5.58%
Legacy Prime Hybrid
 
9,874

 
9,006

 
10,821

 
3.27%
Legacy ALT-A Hybrid
 
4,476

 
3,763

 
4,708

 
3.55%
New Issue Prime Fixed
 
18,196

 
17,689

 
18,716

 
3.69%
Total Credit Risk and Non-Agency Securities
 
$
968,950

 
$
840,431

 
$
875,095

 
6.22%

The components of the carrying value of our Credit Risk and Non-Agency Securities at December 31, 2017 are presented in the table below. 
 
 
Credit Risk and Non-Agency Securities
December 31, 2017
 
Fair Value
 
Amortized
 Cost
 
Principal
Amount
 
Weighted
Average
Coupon
Credit Risk Transfer
 
$
870,494

 
$
753,422

 
$
764,172

 
6.05%
Legacy Prime Fixed
 
16,778

 
15,287

 
19,237

 
6.03%
Legacy ALT-A Fixed
 
54,727

 
48,516

 
65,920

 
5.85%
Legacy Prime Hybrid
 
10,469

 
9,517

 
11,452

 
3.17%
Legacy ALT-A Hybrid
 
4,660

 
3,895

 
4,901

 
3.47%
New Issue Prime Fixed
 
18,701

 
17,957

 
19,025

 
3.69%
Total Credit Risk and Non-Agency Securities
 
$
975,829

 
$
848,594

 
$
884,707

 
5.95%

Our Credit Risk Transfer securities are collaterized by residential mortgage loans meeting agency criteria. However, our securities principal and interest are not guaranteed by the agencies. Credit Risk Transfer securities include tranches issued since 2014. Our Legacy and New Issue Prime Fixed securities are collaterized by residential mortgage loans not guaranteed by any agency. Legacy Prime Fixed, Legacy Alt-A Fixed securities include tranches issued between 2005-2007. New Issue Prime Fixed securities include tranches issued in 2013.

The following table summarizes the weighted average lives of our Credit Risk and Non-Agency Securities at March 31, 2018 and December 31, 2017.
 
 
March 31, 2018
 
December 31, 2017
Weighted Average Life of all Credit Risk and Non-Agency Securities
 
Fair Value
 
Amortized Cost
 
Fair Value
 
Amortized Cost
Less than one year
 
$
—

 
$
—

 
$
—

 
$
—

Greater than or equal to one year and less than three years
 
—

 
—

 
—

 
—

Greater than or equal to three years and less than five years
 
152,518

 
134,877

 
169,189

 
149,436

Greater than or equal to five years
 
816,432

 
705,554

 
806,640

 
699,158

Total Credit Risk and Non-Agency Securities
 
$
968,950

 
$
840,431

 
$
975,829

 
$
848,594

  

arrshielda01.jpg

21
ARMOUR Residential REIT, Inc.
FINANCIAL STATEMENT NOTES (UNAUDITED)
(in thousands, except per share)


We use a third party model to calculate the weighted average lives of our Credit Risk and Non-Agency Securities. Weighted average life is calculated based on expectations for estimated prepayments for the underlying mortgage loans of our Credit Risk and Non-Agency Securities. These estimated prepayments are based on assumptions such as interest rates, current and future home prices, housing policy and borrower incentives. The weighted average lives of our Credit Risk and Non-Agency Securities at March 31, 2018 and December 31, 2017, in the tables above are based upon market factors, assumptions, models and estimates from the third party model and also incorporate management’s judgment and experience. The actual weighted average lives of our Credit Risk and Non-Agency Securities could be longer or shorter than estimated.

Note 8 -U.S. Treasury Securities

At March 31, 2018, investments in U.S. Treasury Securities accounted for 8.5% of our securities portfolio. We did not have any U.S. Treasury Securities at December 31, 2017.

At March 31, 2018, we had the following U.S. Treasury Securities in an unrealized gain or loss position as presented below. The components of the carrying value of our U.S. Treasury Securities at March 31, 2018 are also presented below.
 
 
Amortized Cost
 
Gross Unrealized Loss
 
Gross Unrealized Gain
 
Fair Value
U.S. Treasury Securities
 
668,120

 
(281
)
 
2,857

 
670,696

The following table presents the unrealized losses and estimated fair value of our U.S. Treasury Securities by length of time that such securities have been in a continuous unrealized loss position at March 31, 2018.
 
 
Unrealized Loss Position For:
 
 
Less than 12 Months
 
12 Months or More
 
Total
 
 
Fair Value
 
Unrealized
Losses 
 
Fair Value
 
Unrealized
Losses 
 
Fair Value
 
Unrealized
Losses 
March 31, 2018
 
$
99,180

 
$
(281
)
 
$
—

 
$
—

 
$
99,180

 
$
(281
)

Note 9 -Repurchase Agreements
 
At March 31, 2018, we had MRAs with 46 counterparties and had $6,853,715 in outstanding borrowings with 27 of those counterparties. At December 31, 2017, we had MRAs with 46 counterparties and had $7,555,917 in outstanding borrowings with 32 of those counterparties.

The following table represents the contractual repricing regarding our repurchase agreements to finance our MBS purchases at March 31, 2018 and December 31, 2017. No amounts below are subject to offsetting.
March 31, 2018
 
Repurchase Agreements
 
Weighted Average Contractual Rate
 
Weighted Average Maturity in days
 
Haircut for Repurchase Agreements (1)
Agency Securities
 
$
5,481,911

 
1.92
%
 
25
 
4.18
%
Credit Risk and Non-Agency Securities
 
708,650

 
2.85
%
 
14
 
20.39
%
U.S. Treasury Securities
 
663,154

 
1.79
%
 
1
 
0.69
%
Total or Weighted Average
 
$
6,853,715

 
2.00
%
 
22
 
5.84
%

(1) The Haircut represents the weighted average margin requirement, or the percentage amount by which the collateral value must exceed the loan amount.

arrshielda01.jpg

22
ARMOUR Residential REIT, Inc.
FINANCIAL STATEMENT NOTES (UNAUDITED)
(in thousands, except per share)


December 31, 2017
 
Repurchase Agreements
 
Weighted Average Contractual Rate
 
Weighted Average Maturity in days
 
Haircut for Repurchase Agreements (1)
Agency Securities
 
$
6,793,481

 
1.60
%
 
55
 
4.29
%
Credit Risk and Non-Agency Securities
 
762,436

 
2.67
%
 
15
 
21.68
%
Total or Weighted Average
 
$
7,555,917

 
1.71
%
 
51
 
6.39
%

(1) The Haircut represents the weighted average margin requirement, or the percentage amount by which the collateral value must exceed the loan amount.

Our repurchase agreements require that we maintain adequate pledged collateral. A decline in the value of the MBS pledged as collateral for borrowings under repurchase agreements could result in the counterparties demanding additional collateral pledges or liquidation of some of the existing collateral to reduce borrowing levels. We manage this risk by maintaining an adequate balance of available cash and unpledged securities. An event of default or termination event under the standard MRA would give our counterparty the option to terminate all repurchase transactions existing with us and require any amount due to be payable immediately. In addition, certain of our MRAs contain a restriction that prohibits our leverage from exceeding twelve times our stockholders’ equity as well as termination events in the case of significant reductions in equity capital. We also may receive cash or securities as collateral from our derivative counterparties which we may use as additional collateral for repurchase agreements. Certain interest rate swap contracts provide for cross collateralization and cross default with repurchase agreements and other contracts with the same counterparty.
 
 
March 31, 2018
 
December 31, 2017
Maturing or Repricing
 
Repurchase Agreements
 
Weighted Average Contractual Rate
 
Repurchase Agreements
 
Weighted Average Contractual Rate
Within 30 days
 
$
4,883,094

 
2.05
%
 
$
1,738,768

 
2.08
%
31 days to 60 days
 
1,213,295

 
1.90
%
 
2,394,450

 
1.59
%
61 days to 90 days
 
757,326

 
1.90
%
 
3,422,699

 
1.61
%
Total or Weighted Average
 
$
6,853,715

 
2.00
%
 
$
7,555,917

 
1.71
%

At March 31, 2018 and December 31, 2017, Buckler Securities LLC, (See Note 16 -Related Party Transactions) accounted for 53.9% and 38.4% of our aggregate borrowings and had an amount at risk of 11.0% and 9.0%, respectively, of our total stockholders' equity with a weighted average maturity of 20 days and 70 days, respectively, on repurchase agreements.

In addition, at March 31, 2018 and December 31, 2017, we had 1 repurchase agreement counterparty individually accounted for between 5% and 10% of our aggregate borrowings. In total, this counterparty accounted for approximately 5.4% and 5.1% of our repurchase agreement borrowings outstanding at March 31, 2018 and December 31, 2017, respectively.

Note 10 -Derivatives
 
We enter into derivative transactions to manage our interest rate risk exposure. These transactions may include entering into interest rate swap contracts, swaptions and basis swaps. These transactions are designed to lock in funding costs for repurchase agreements associated with our assets in such a way to help assure the realization of net interest margins. Such transactions are based on assumptions about prepayments which, if not realized, will cause transaction results to differ from expectations. Basis swap contracts allow us to exchange one floating interest rate basis for another, for example, 3 month LIBOR and Fed Funds Rates, thereby allowing us to diversify our floating rate basis exposures. We also utilize forward contracts for the purchase or sale of TBA Agency Securities.
 
We have agreements with our derivative counterparties that provide for the posting of collateral based on the fair values of our interest rate swap contracts, swaptions, basis swap contracts and TBA Agency Securities. Through this margin

arrshielda01.jpg

23
ARMOUR Residential REIT, Inc.
FINANCIAL STATEMENT NOTES (UNAUDITED)
(in thousands, except per share)


process, either we or our swap counterparty may be required to pledge cash or Agency Securities as collateral. Collateral requirements vary by counterparty and change over time based on the fair value, notional amount and remaining term of the contracts. Certain interest rate swap contracts provide for cross collateralization and cross default with repurchase agreements and other contracts with the same counterparty.
 
Interest rate swaptions generally provide us the option to enter into an interest rate swap agreement at a certain point of time in the future with a predetermined notional amount, stated term and stated rate of interest in the fixed leg and interest rate index on the floating leg.

TBA Agency Securities are forward contracts for the purchase (“long position”) or sale (“short position”) of Agency Securities at a predetermined price, face amount, issuer, coupon and stated maturity on an agreed-upon future date. The specific Agency Securities 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 may enter into TBA Agency Securities as a means of hedging against short-term changes in interest rates. We may also enter into TBA Agency Securities as a means of acquiring or disposing of Agency Securities and we may from time to time utilize TBA dollar roll transactions to finance Agency Security purchases. We estimate the fair value of TBA Agency Securities based on similar methods used to value our Agency Securities.

The following tables present information about our derivatives at March 31, 2018 and December 31, 2017.
 
March 31, 2018
Derivative Type
 
Remaining / Underlying Term
 
Weighted Average Remaining Swap/Option Term (Months)
 
Weighted Average Rate
 
Notional Amount (3)
 
Asset Fair Value (1)
 
Liability Fair Value (1)
Interest rate swap contracts
 
   0-12 Months
 
2
 
0.92
%
 
$
50,000

 
$
203

 
$
—

Interest rate swap contracts
 
13-24 Months
 
20
 
1.21
%
 
550,000

 
8,658

 
—

Interest rate swap contracts
 
25-36 Months
 
32
 
1.83
%
 
1,675,000

 
16,255

 
—

Interest rate swap contracts
 
73-84 Months
 
68
 
1.98
%
 
2,650,000

 
64,861

 
(142
)
Interest rate swap contracts
 
85-96 Months
 
96
 
1.95
%
 
50,000

 
1,493

 
—

Interest rate swap contracts
 
97-108 Months
 
104
 
1.95
%
 
1,200,000

 
37,399

 
—

Interest rate swap contracts
 
109-120 Months
 
118
 
2.33
%
 
625,000

 
3,175

 
(2,455
)
TBA Agency Securities (2)
 
n/a
 
n/a
 
n/a
 
4,300,000

 
3,659

 
(4,285
)
Total or Weighted Average
 
 
 
 
 
$
11,100,000


$
135,703