Company Quick10K Filing
Quick10K
CYS Investments
10-Q 2018-03-31 Quarter: 2018-03-31
10-K 2017-12-31 Annual: 2017-12-31
10-Q 2017-09-30 Quarter: 2017-09-30
10-Q 2017-06-30 Quarter: 2017-06-30
10-Q 2017-03-31 Quarter: 2017-03-31
10-K 2016-12-31 Annual: 2016-12-31
10-Q 2016-09-30 Quarter: 2016-09-30
10-Q 2016-06-30 Quarter: 2016-06-30
10-Q 2016-03-31 Quarter: 2016-03-31
10-K 2015-12-31 Annual: 2015-12-31
10-Q 2015-09-30 Quarter: 2015-09-30
10-Q 2015-06-30 Quarter: 2015-06-30
10-Q 2015-03-31 Quarter: 2015-03-31
10-K 2014-12-31 Annual: 2014-12-31
10-Q 2014-09-30 Quarter: 2014-09-30
10-Q 2014-06-30 Quarter: 2014-06-30
10-Q 2014-03-31 Quarter: 2014-03-31
10-K 2013-12-31 Annual: 2013-12-31
8-K 2018-07-31 M&A, Shareholder Rights, Control, Officers, Amend Bylaw, Regulation FD, Exhibits
8-K 2018-07-27 Shareholder Vote, Other Events, Exhibits
8-K 2018-07-20 Other Events, Exhibits
8-K 2018-07-17 Other Events, Exhibits
8-K 2018-07-13 Other Events, Exhibits
8-K 2018-06-12 Other Events, Exhibits
8-K 2018-05-11 Shareholder Vote
8-K 2018-04-26 Regulation FD, Other Events, Regulation FD, Exhibits
8-K 2018-04-25 Earnings, Exhibits
8-K 2018-02-14 Earnings, Exhibits
8-K 2018-01-29 Officers
ATXG Addentax Group 1,926
SFDL Security Federal 102
WLB Westmoreland Coal 3
CCPTV Cole Credit Property Trust V 0
HICT Hiclasst 0
CCTC Clean Coal Technologies 0
MAMP Medamerica Properties 0
FDMG Frontier Digital Media Group 0
ORNC Oranco 0
MMEX MMEX Resources 0
CYS 2018-03-31
Part I. Financial Information
Item 1. Financial Statements
Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations
Item 3. Quantitative and Qualitative Disclosures About Market Risk
Item 4. Controls and Procedures
Part II. Other Information
Item 1. Legal Proceedings
Item 1A. Risk Factors
Item 2. Unregistered Sales of Equity Securities and Use of Proceeds
Item 3. Defaults Upon Senior Securities
Item 6. Exhibits
EX-31.1 a20180331ex311.htm
EX-31.2 a20180331ex312.htm
EX-32.1 a20180331ex321.htm
EX-32.2 a20180331ex322.htm

CYS Investments Earnings 2018-03-31

CYS 10Q Quarterly Report

Balance SheetIncome StatementCash Flow

10-Q 1 a2018033110-q.htm 10-Q 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
¨
TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the transition period from              to             .
Commission file number 001-33740
__________________________________
cys2015logoa10.jpg
 CYS Investments, Inc.
(Exact name of registrant as specified in its charter)
__________________________________
Maryland
20-4072657
(State or other jurisdiction of
incorporation or organization)
(IRS Employer
Identification No.)
500 Totten Pond Road, 6th Floor, Waltham, Massachusetts
02451
(Address of principal executive offices)
(Zip Code)
(617) 639-0440
(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  ¨
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 during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).    Yes  x    No  ¨
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, a smaller reporting company, or a 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. Check one:
Large accelerated filer
x
Accelerated filer
¨
Non-accelerated filer
¨  (Do not check if a smaller reporting company)
Smaller reporting company
¨
 
 
Emerging growth company
¨
If an emerging growth company, indicate by 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. ¨ 
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).    Yes  ¨    No  x
Indicate the number of shares outstanding of each of the issuer’s classes of common stock, as of the latest practicable date.
Class
April 27, 2018
Common Stock ($0.01 par value)
155,438,320
 




Table of Contents
 
 
 
Page
 
 
 
PART I.  FINANCIAL INFORMATION
 
 
 
 
 
(Derived from the audited consolidated financial statements at December 31, 2017)
 
Notes to Consolidated Financial Statements (Unaudited)
 
 
 
 
 
 
 
 
 
 
 
 
 
 
PART II.  OTHER INFORMATION
 
 
 
 
 
 
 






PART I. Financial Information
Item 1.     Financial Statements
CYS INVESTMENTS, INC.
CONSOLIDATED BALANCE SHEETS
(dollars and shares in thousands)
 
March 31, 2018
 
December 31, 2017*
 
(Unaudited)
 
 
Assets:
 
 
 
Cash and cash equivalents
$
6,206

 
$
4,132

Investments in securities, at fair value:
 
 
 
Agency RMBS (including pledged assets of $10,377,167 and $9,287,317, respectively)
11,535,960

 
11,587,720

U.S. Treasury securities (including pledged assets of $0 and $1,046,934, respectively)

 
1,046,934

Receivable for securities sold and principal repayments
287,360

 
301,398

Receivable for reverse repurchase agreements
767,422

 

Interest receivable
38,559

 
32,890

Derivative assets, at fair value
281,528

 
159,629

Other investments
9,765

 
9,765

Other assets
3,461

 
3,114

Total assets
$
12,930,261

 
$
13,145,582

Liabilities and stockholders' equity:
 
 
 
Liabilities:
 
 
 
Repurchase agreements
$
10,084,643

 
$
10,089,917

Obligation to return securities borrowed under reverse repurchase agreements, at fair value
767,062

 

Payable for securities purchased
307,247

 
1,290,805

Payable for cash received as collateral
245,732

 
139,614

Accrued interest payable
47,911

 
41,468

Accrued expenses and other liabilities
2,371

 
4,969

Dividends payable
38,601

 
4,410

Derivative liabilities, at fair value
9,749

 
152

Total liabilities
$
11,503,316

 
$
11,571,335

Stockholders' equity:
 
 
 
Preferred Stock, $0.01 par value, 50,000 shares authorized:
 
 
 
7.75% Series A Cumulative Redeemable Preferred Stock, (3,000 shares issued and outstanding, respectively, $75,000 in aggregate liquidation preference)
$
72,369

 
$
72,369

7.50% Series B Cumulative Redeemable Preferred Stock, (8,000 shares issued and outstanding, respectively, $200,000 in aggregate liquidation preference)
193,531

 
193,531

Common Stock, $0.01 par value, 500,000 shares authorized (155,416 and 155,010 shares issued and outstanding, respectively)
1,554

 
1,550

Additional paid in capital
1,976,906

 
1,976,310

Retained earnings (accumulated deficit)
(817,415
)
 
(669,513
)
Total stockholders' equity
$
1,426,945

 
$
1,574,247

Total liabilities and stockholders' equity
$
12,930,261

 
$
13,145,582

* Derived from audited consolidated financial statements.
See Notes to consolidated financial statements (unaudited).

1


CYS INVESTMENTS, INC.
CONSOLIDATED STATEMENTS OF OPERATIONS (UNAUDITED)
(dollars in thousands, except per share data)
 
Three Months Ended March 31,
 
2018
 
2017
Interest income:
 
 
 
Agency RMBS
$
85,986

 
$
73,227

Other
2,692

 
86

Total interest income
88,678

 
73,313

Interest expense:
 
 
 
Repurchase agreements
41,117

 
21,221

Total interest expense
41,117

 
21,221

Net interest income
47,561

 
52,092

Other income (loss):
 
 
 
Net realized gain (loss) on investments
(71,191
)
 
(66,044
)
Net unrealized gain (loss) on investments
(166,009
)
 
63,478

Other income
39

 
47

Net realized and unrealized gain (loss) on investments and other income
(237,161
)
 
(2,519
)
Interest rate hedge expense, net
(2,508
)
 
(8,327
)
Net realized and unrealized gain (loss) on derivative instruments
89,468

 
(1,012
)
Net gain (loss) on derivative instruments
86,960

 
(9,339
)
Total other income (loss)
(150,201
)
 
(11,858
)
Expenses:
 
 
 
Compensation and benefits
3,192

 
3,776

General, administrative and other
2,676

 
2,438

Total expenses
5,868

 
6,214

Net income (loss)
$
(108,508
)
 
$
34,020

Dividends on preferred stock
(5,203
)
 
(5,203
)
Net income (loss) available to common stockholders
$
(113,711
)
 
$
28,817

Net income (loss) per common share basic & diluted
$
(0.74
)
 
$
0.19

Dividends declared per common share
$
0.22

 
$
0.25


See Notes to consolidated financial statements (unaudited).

2


CYS INVESTMENTS, INC.
CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY (UNAUDITED)
(dollars in thousands)
 
 
Cumulative Redeemable Preferred Stock
 
 
 
 
 
 
 
 
 
 
Series A
 
Series B
 
Common Stock Par Value
 
Additional Paid-in Capital
 
Retained Earnings (Accumulated Deficit)
 
Total
Balance, December 31, 2016
 
$
72,369

 
$
193,531

 
$
1,514

 
$
1,944,908

 
$
(676,603
)
 
$
1,535,719

Net income (loss)
 

 

 

 

 
34,020

 
34,020

Issuance of common stock
 

 

 
3

 
(3
)
 

 

Amortization of share based compensation
 

 

 

 
1,408

 

 
1,408

Repurchase and cancellation of common stock
 

 

 

 
(347
)
 

 
(347
)
Preferred dividends
 

 

 

 

 
(5,203
)
 
(5,203
)
Common dividends
 

 

 

 

 
(37,927
)
 
(37,927
)
Balance, March 31, 2017
 
$
72,369

 
$
193,531

 
$
1,517

 
$
1,945,966

 
$
(685,713
)
 
$
1,527,670

 
 
 
 
 
 
 
 
 
 
 
 
 
Balance, December 31, 2017
 
$
72,369

 
$
193,531

 
$
1,550

 
$
1,976,310

 
$
(669,513
)
 
$
1,574,247

Net income (loss)
 

 

 

 

 
(108,508
)
 
(108,508
)
Issuance of common stock
 

 

 
4

 
(4
)
 

 

Amortization of share-based compensation
 

 

 

 
822

 

 
822

Repurchase and cancellation of common stock
 

 

 

 
(222
)
 

 
(222
)
Preferred dividends
 

 

 

 

 
(5,203
)
 
(5,203
)
Common dividends
 

 

 

 

 
(34,191
)
 
(34,191
)
Balance, March 31, 2018
 
$
72,369

 
$
193,531

 
$
1,554

 
$
1,976,906

 
$
(817,415
)
 
$
1,426,945


See Notes to consolidated financial statements (unaudited).

3


CYS INVESTMENTS, INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS (UNAUDITED)
(dollars in thousands)
 
Three Months Ended March 31,
 
2018
 
2017
Cash flows from operating activities:
 
 
 
Net income (loss)
$
(108,508
)
 
$
34,020

Adjustments to reconcile net income (loss) to net cash provided by (used in) operating activities:
 
 
 
Amortization of share-based compensation
822

 
1,408

Amortization of premiums and discounts on investment securities
11,602

 
14,514

Amortization of premiums on interest rate cap contracts
4,375

 
4,375

Net realized (gain) loss on investments
71,191

 
66,044

Net realized (gain) loss on termination of cap and swaption contracts
(994
)
 

Net unrealized (gain) loss on investments
166,009

 
(63,478
)
Net unrealized (gain) loss on derivative instruments
(96,683
)
 
(4,422
)
Change in assets and liabilities:
 
 
 
Interest receivable
(5,669
)
 
424

Other assets
(347
)
 
(510
)
Accrued interest payable
6,443

 
(2,451
)
Accrued expenses and other liabilities
(2,598
)
 
(2,611
)
Net cash provided by (used in) operating activities
45,643

 
47,313

Cash flows from investing activities:
 
 
 
Purchase of available-for-sale investment securities
(5,625,725
)
 
(2,292,124
)
Premium paid on interest rate caps and swaptions
(19,112
)
 

Proceeds from sale of available-for-sale investment securities
6,180,514

 
3,532,448

Proceeds from termination of interest rate caps and swaptions
9,713

 

Proceeds from paydowns of available-for-sale investment securities
295,103

 
330,476

Proceeds from reverse repurchase agreements
(2,593,184
)
 

Repayments of reverse repurchase agreements
1,825,762

 

Proceeds from U.S. Treasury short positions
757,461

 

Change in assets and liabilities:
 
 
 
Receivable for securities sold and principal repayments
14,038

 
409,276

Receivable for cash pledged as collateral

 
600

Payable for securities purchased
(983,558
)
 
(1,357,481
)
Payable for cash received as collateral
106,118

 
10,316

Net cash provided by (used in) investing activities
(32,870
)
 
633,511

Cash flows from financing activities:
 
 
 
Proceeds from repurchase agreements
27,427,041

 
37,052,807

Repayments of repurchase agreements
(27,432,315
)
 
(37,728,757
)
Net payments for repurchase of common shares
(222
)
 
(347
)
Dividends paid
(5,203
)
 
(5,203
)
Net cash provided by (used in) financing activities
(10,699
)
 
(681,500
)
Net increase (decrease) in cash and cash equivalents
2,074

 
(676
)
Cash and cash equivalents - Beginning of period
4,132

 
1,260

Cash and cash equivalents - End of period
$
6,206

 
$
584

Supplemental disclosures of cash flow information:
 
 
 
Interest paid (excluding interest paid on interest rate hedges)
$
42,908

 
$
23,789

Net interest paid (received) on interest rate hedges
$
(7,945
)
 
$
3,835

Income taxes paid
$

 
$

Supplemental disclosures of non-cash flow information:
 
 
 
Dividends declared, not paid
$
38,601

 
$
42,337

See Notes to consolidated financial statements (unaudited).

4


CYS INVESTMENTS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)
March 31, 2018
These footnotes to our accompanying unaudited consolidated financial statements in this interim report should be read in conjunction with the footnotes to our Annual Report on Form 10-K, filed with the SEC on February 15, 2018 (the "2017 Annual Report").
1. ORGANIZATION
CYS Investments, Inc. (the "Company", "we", "us" or "our") was formed as a Maryland corporation on January 3, 2006, and commenced operations on February 10, 2006. The Company has elected to be taxed and intends to continue to qualify as a real estate investment trust ("REIT") and is required to comply with the provisions of the Internal Revenue Code of 1986, as amended (the "Code"), with respect thereto. The Company primarily invests in residential mortgage-backed securities that are issued and the principal and interest of which are guaranteed by a federally chartered corporation ("Agency RMBS"), such as the Federal National Mortgage Association ("Fannie Mae") or the Federal Home Loan Mortgage Corporation ("Freddie Mac"), or an agency of the U.S. government such as the Government National Mortgage Association ("Ginnie Mae"), and debt securities issued by the United States Department of Treasury ("U.S. Treasuries"). The Company's investment guidelines provide that the Company may also purchase collateralized mortgage obligations issued by a government agency or government-sponsored entity that are collateralized by Agency RMBS ("CMOs"), credit risk transfer securities, such as Structured Agency Credit Risk ("STACR") securities issued by Freddie Mac, Connecticut Avenue Securities ("CAS") issued by Fannie Mae, or similar securities issued or sponsored by a U.S. government-sponsored entity ("GSE")where their cash flows track the credit risk performance of a notional reference pool of mortgage loans, or securities issued by a government-sponsored entity that are not backed by collateral but, in the case of government agencies, are backed by the full faith and credit of the U.S. government, and, in the case of government-sponsored entities, are backed by the integrity and creditworthiness of the issuer ("U.S. Agency Debentures").
The Company’s common stock, Series A Cumulative Redeemable Preferred Stock, $25.00 liquidation preference (the "Series A Preferred Stock"), and Series B Cumulative Redeemable Preferred Stock, $25.00 liquidation preference (the "Series B Preferred Stock"), trade on the New York Stock Exchange under the symbols "CYS," "CYS PrA" and "CYS PrB," respectively.

2. SIGNIFICANT ACCOUNTING POLICIES
Basis of Presentation
The accompanying unaudited consolidated financial statements have been prepared in conformity with accounting principles generally accepted in the United States of America ("GAAP") and the instructions to the Securities and Exchange Commission ("SEC") Form 10-Q and Article 10, Rule 10-01 of Regulation S-X. Accordingly, the 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. The unaudited consolidated financial statements should be read in conjunction with the Company’s audited financial statements as of and for the year ended December 31, 2017, included in the 2017 Annual Report. The results for interim periods are not necessarily indicative of the results to be expected for the entire fiscal year.
The unaudited consolidated financial statements include the accounts of the Company and all of its subsidiaries. All intercompany balances and transactions have been eliminated. The unaudited consolidated financial statements of the Company have been prepared on the accrual basis of accounting in accordance with GAAP. The preparation of financial statements in conformity with GAAP requires management to make a number of estimates and assumptions that affect the amounts reported in the unaudited consolidated financial statements and accompanying footnotes. Actual results could differ from these estimates and the differences may be material.

5


Presentation
Prior to October 1, 2017, "Interest rate hedge expense, net" was referred to as "Swap and cap interest expense" in the Consolidated Statement of Operations. This line item includes the following: (i) net periodic payments made on interest rate swaps and interest rate caps, (ii) the periodic amortization of premiums paid to enter into interest rate caps, and (iii) the periodic amortization of premiums paid to enter into swaptions, less, total payments received in connection with (A) the receive leg of our interest rate swaps, and (B) payments received in connection with interest rate caps. On October 1, 2017, the name was changed to "Interest rate hedge expense, net", to better reflect the broad nature of items included in this line item, all of which reflect the Company’s net cost of hedging its exposure to interest rates. Prior period financial statement line items have been renamed to conform to the current period presentation. Effective January 1, 2018, realized and unrealized gains and losses on swaptions are included in "Net realized and unrealized gain (loss) on derivative instruments" and swaption premium is no longer amortized and included in "Interest rate hedge expense, net" in the Consolidated Statement of Operations.
Cash and Cash Equivalents
Cash and cash equivalents represent cash held in banks, cash on hand, and liquid investments with original maturities of three months or less. We may have bank balances in excess of federally insured amounts; however, we deposit our cash and cash equivalents with high credit-quality institutions to minimize credit risk exposure. We have not experienced, and do not expect, any losses on our cash or cash equivalents.
Investments in Securities
The Company's investment securities are accounted for in accordance with the Financial Accounting Standards Board's ("FASB") Accounting Standards Codification ("ASC") 320-Investments-Debt and Equity Securities. These investments meet the requirements to be classified as available-for-sale under ASC 320. Therefore, our investment securities are recorded at fair market value on the Consolidated Balance Sheets. The Company has chosen to make a fair value election pursuant to ASC 825-Financial Instruments for its securities. Electing the fair value option requires the Company to record changes in the fair value of investments in the Consolidated Statement of Operations as a component of net unrealized gain (loss) on investments, which in management’s view more appropriately reflects the results of operations for a particular reporting period as all securities activities will be recorded in a similar manner.
The Company records its security purchase and sale transactions, including forward settling transactions, on a trade date basis. Realized gains and losses on securities transactions are recorded on an identified cost basis.
Agency RMBS
The Company's investments in Agency RMBS consist of pass-through certificates backed by fixed-rate, monthly-reset adjustable-rate loans ("ARMs") and Hybrid ARMs, the principal and interest of which are guaranteed by Fannie Mae, Freddie Mac or Ginnie Mae. Hybrid ARMs have interest rates that have an initial fixed period (typically three, five, seven or 10 years) and thereafter reset at regular intervals in a manner similar to ARMs.
Forward Settling Transactions
The Company engages in forward settling transactions to purchase or sell certain securities. Agency RMBS may include forward contracts for Agency RMBS purchases or sales of specified pools on a to-be-announced basis ("TBA Securities") that meet the regular-way scope exception in ASC 815-Derivatives and Hedging ("ASC 815"), and are recorded on a trade date basis to the extent it is probable that we will take or make timely physical delivery of the related securities. The Company maintains security positions such that sufficiently liquid assets will be available to make payment on the settlement date for securities purchased. The Agency RMBS purchased at the forward settlement date are typically priced at a discount to securities for settlement in the current month. Securities purchased on a forward settling basis are carried at fair value and begin earning interest on the settlement date. Gains or losses may occur on these transactions due to changes in market conditions or the failure of counterparties to perform under the contract.
Investment and Derivative Valuation
The Company has a pricing committee responsible for establishing valuation policies and procedures, and reviewing and approving valuations monthly. The pricing committee is composed of individuals from the finance and investment teams and other members of senior management.
Fair Value Measurements
Refer to Note 7, Fair Value Measurements, for the Company's accounting policy for, and details related to, the fair value of the Company's assets and liabilities.

6


Interest Income and Expense
We record interest income and expense on an accrual basis. We accrue interest income based on the outstanding principal amount of the settled securities in our portfolio and their contractual terms. We amortize premiums and discounts using the effective interest method as prepayments occur, and this net amortization is either a reduction of or accretive to interest income from Agency RMBS in the accompanying Consolidated Statement of Operations. The Company does not estimate prepayments when calculating the yield to maturity on Agency RMBS.
Other Investments
Other investments is mainly comprised of a net investment in real estate that is recorded at fair value, inclusive of $3.7 million of corresponding mortgage debt, with changes in estimated fair value recognized in the accompanying Consolidated Statements of Operations.
Repurchase Agreements
Borrowings under repurchase agreements ("repo borrowings") are collateralized by the Company’s Agency RMBS and U.S. Treasuries (collectively, "Debt Securities"). The Company’s repo borrowing counterparties are institutional dealers in fixed income securities and financial institutions. Collateral pledged on repo borrowings is valued daily, and our counterparties may require posting of additional collateral when the fair value of pledged collateral declines. Repo borrowing counterparties have the right to sell or repledge collateral pledged under repo borrowings.
We account for our repo borrowings as short-term indebtedness under ASC 470-Debt; accordingly, these short-term instruments are reflected in our financial statements at their amortized cost, which approximates fair value due to their short-term nature.

Reverse Repurchase Agreements and Obligation to Return Securities Borrowed under Reverse Repurchase Agreements
The Company borrows U.S. Treasury securities through reverse repurchase transactions under our master repurchase agreements (see Derivative Instruments below) to cover short sales. We account for these as securities borrowing transactions and recognize an obligation to return the borrowed securities at fair value in the accompanying Consolidated Balance Sheet based on the value of the underlying borrowed securities as of period end. We account for our reverse repurchase agreements at amortized cost, which approximates fair value due to their short-term nature.
Derivative Instruments
Included in Derivative Instruments are interest rate swaps (cancelable and non-cancelable), swaptions, interest rate caps, TBA Derivatives and U.S. Treasury securities short positions (defined below).
The Company uses interest rate swaps, swaptions and caps (a "swap", "swaption" or "cap", respectively) as well as U.S. Treasury securities short positions to economically hedge a portion of its exposure to market risks, including interest rate and extension risk. The objective of our risk management strategy is to reduce fluctuations in stockholders’ equity over a range of interest rate scenarios. In particular, we attempt to manage the risk of the value of our Agency RMBS declining and cost of our variable rate liabilities increasing during a period of rising interest rates.
During the term of a swap or cap, the Company makes and/or receives periodic payments and records unrealized gains or losses as a result of marking the swap or cap to fair value. During the term of a swaption, the Company will record unrealized gains or losses as the difference between the premium paid and the fair value of the swaption. We report the periodic interest payments and interest receipts on swaps (cancelable and non-cancelable) and caps and amortization of premiums on cap contracts in interest rate hedge expense, net in the accompanying Consolidated Statements of Operations. When the Company terminates a swap, swaption or cap, we record a realized gain or loss equal to the difference between the proceeds from (or the cost of) closing the transaction and the Company's cost basis in the contract, if any. Swaps and caps involve a risk that interest rates will move contrary to the Company’s expectations, thereby increasing the Company’s payment obligation.
The Company's swaps, swaptions and caps may be subject to a master netting arrangement ("MNA"), pursuant to which the Company may be exposed to credit loss in the event of non-performance by the counterparty to the swap, swaption or cap, limited to the fair value of collateral posted in excess of the fair value of the contract in a net liability position and the shortage of the fair value of collateral posted for the contract in a net asset position. The Company has elected, as an accounting policy, to present these arrangements gross, and not on a net basis. As of March 31, 2018 and December 31, 2017, the Company did not anticipate non-performance by any counterparty. Should interest rates move contrary to the Company's expectations, the Company may not achieve the anticipated benefits of the interest rate swap, swaption or cap and may realize a loss.

7


While some of the Company's derivative agreements generally permit netting or setting-off derivative assets and liabilities with the counterparty, the Company reports derivative assets and liabilities on a gross basis in the accompanying Consolidated Balance Sheets. Derivatives are accounted for in accordance with ASC 815 which requires recognition of all derivatives as either assets or liabilities at fair value in the accompanying Consolidated Balance Sheets with changes in fair value recognized in the accompanying Consolidated Statements of Operations in "Net realized and unrealized gain (loss) on derivative instruments". Cash receipts and payments related to derivative instruments are classified in the accompanying Consolidated Statements of Cash Flows in accordance with GAAP in the operating activities section, while the premium paid on interest rate caps and swaptions, and proceeds from the termination of interest rate caps and swaptions are recorded in the investing activities section of the accompanying Consolidated Statements of Cash Flows.
The Company enters into TBA dollar roll transactions whereby the Company is not contractually obligated to accept delivery on the settlement date ("TBA Derivatives"). TBA Derivatives are accounted for as a series of derivative transactions. The fair value of TBA Derivatives is based on similar methods used to value Agency RMBS with gains and losses recorded in Net realized and unrealized gains (losses) on derivative instruments in the accompanying Consolidated Statements of Operations. TBA Derivative transactions involve moving the settlement of a TBA contract 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.  The Company records such pair offs on a gross basis such that there is a sale of the original TBA Derivative and a subsequent purchase of a new TBA Derivative.
The Company purchases and sells short U.S. Treasury securities as an economic hedge against rising rates ("U.S. Treasury short position"). U.S. Treasury short positions are intended to reduce the volatility in the Company’s Agency RMBS portfolio value in a rising rate environment. We borrow U.S. Treasury securities under reverse repurchase agreements to cover short sales. We account for these as securities borrowing transactions and recognize an obligation to return the borrowed securities in the accompanying Consolidated Balance Sheets as “Obligation to return securities borrowed under reverse repurchase agreements, at fair value”. Gains and losses associated with U.S. Treasury short positions are recognized in "Net realized and unrealized gain (loss) on derivative instruments" in the accompanying Consolidated Statements of Operations.
None of the Company's derivatives have been designated as hedging instruments for accounting purposes. Effective January 1, 2016, the Company recognized all TBA Securities that do not qualify for the regular-way scope exception under ASC 815 as derivatives.
Income Taxes
The Company has elected to be treated as a REIT under the Code.  The Company will generally not be subject to federal income tax to the extent that it distributes 90% of its taxable income, after application of available tax provisions, within the time limits prescribed by the Code and as long as the Company satisfies the ongoing REIT requirements, including meeting certain asset, income and stock ownership tests.
Leases
The Company occupies leased office space. The Company’s lease is accounted for in accordance with ASC 840-Leases, and is classified as an operating lease. Rent expense is amortized on a straight-line basis over the lease term and is included in "General, administrative and other expense" in the accompanying Consolidated Statements of Operations.
Stock-based Compensation
The Company applies the provisions of ASC 718-Compensation-Stock Compensation, with regard to its equity incentive plans.  ASC 718 covers a wide range of share-based compensation arrangements including stock options, restricted stock plans, performance-based awards, stock appreciation rights and employee stock purchase plans.  ASC 718 requires that compensation costs relating to stock-based payment transactions be recognized in the consolidated financial statements.  Compensation costs related to restricted common shares issued are measured at their estimated fair value at the grant date, and are amortized and expensed over the vesting period on a straight-line basis. The Company estimates the impact of forfeitures to the extent practical, otherwise forfeitures are recognized as they occur.
Earnings Per Share ("EPS")
The Company computes basic EPS using the two-class method by dividing net income (loss), after adjusting for the impact of non-vested stock awards deemed to be participating securities, by the weighted-average number of common shares outstanding, calculated excluding non-vested stock awards. The Company computes diluted EPS by dividing net income (loss), after adjusting for the impact of non-vested stock awards deemed to be participating securities, by the weighted-average number of common shares outstanding, calculated excluding non-vested stock awards, giving effect to common stock options and warrants, if they are dilutive. See Note 9, Earnings Per Share for EPS computations.

8


Recent Accounting Pronouncements
The following table provides a brief description of recent accounting pronouncements that could potentially impact the Company's unaudited consolidated financial statements:
Accounting Standard
 
Description
 
Required Date of Adoption
 
Anticipated Effect on the Financial Statements
ASU 2016-02 Leases (Topic 842)
 
The amendments require lessees to recognize a right-of-use asset and a liability to make lease payments in the balance sheets for most leases.  The accounting for lessors is largely unchanged.
 
January 1, 2019 (early adoption permitted).
 
Not expected to have a significant impact on the consolidated financial statements.


3. INVESTMENTS IN SECURITIES
The available-for-sale investments portfolio consisted of the following as of March 31, 2018 and December 31, 2017 (dollars in thousands):

9


March 31, 2018
 

 
 
 
 
 

Asset Type
 
Amortized Cost
 
Gross Unrealized Loss
 
Gross Unrealized Gain
 
Fair Value
Fannie Mae Certificates
 
 
 
 
 
 
 
 
Fixed Rate
 
$
7,036,143

 
$
(100,604
)
 
$
9,570

 
$
6,945,109

ARMs
 
338,207

 
(6,743
)
 
182

 
331,646

Total Fannie Mae
 
7,374,350

 
(107,347
)
 
9,752

 
7,276,755

Freddie Mac Certificates
 
 
 
 
 
 
 
 
Fixed Rate
 
4,146,859

 
(69,501
)
 
3,842

 
4,081,200

ARMs
 
155,569

 
(4,244
)
 
49

 
151,374

Total Freddie Mac
 
4,302,428

 
(73,745
)
 
3,891

 
4,232,574

Ginnie Mae Certificates
 
 
 
 
 
 
 
 
Fixed Rate
 
26,468

 
(79
)
 
242

 
26,631

ARMs
 

 

 

 

Ginnie Mae Certificates - ARMs
 
26,468

 
(79
)
 
242

 
26,631

Total Agency RMBS
 
11,703,246

 
(181,171
)
 
13,885

 
11,535,960

U.S. Treasuries
 

 

 

 

Total
 
$
11,703,246

 
$
(181,171
)
 
$
13,885

 
$
11,535,960

 
 
 
 
 
 
 
 
 
December 31, 2017
 
 
 
 
 
 
 
 
Asset Type
 
Amortized Cost
 
Gross Unrealized Loss
 
Gross Unrealized Gain
 
Fair Value
Fannie Mae Certificates
 
 
 
 
 
 
 
 
Fixed Rate
 
$
7,117,481

 
$
(20,470
)
 
$
23,067

 
$
7,120,078

ARMs
 
273,660

 
(2,647
)
 
1,101

 
272,114

Total Fannie Mae
 
7,391,141

 
(23,117
)
 
24,168

 
7,392,192

Freddie Mac Certificates
 


 
 
 
 
 


Fixed Rate
 
3,968,358

 
(11,045
)
 
10,142

 
3,967,455

ARMs
 
200,405

 
(1,028
)
 
329

 
199,706

Total Freddie Mac
 
4,168,763

 
(12,073
)
 
10,471

 
4,167,161

Ginnie Mae Certificates
 
 
 
 
 
 
 
 
Fixed Rate
 
1,602

 
(45
)
 

 
1,557

ARMs
 
26,460

 

 
350

 
26,810

Total Ginnie Mae
 
28,062

 
(45
)
 
350

 
28,367

Total Agency RMBS
 
11,587,966

 
(35,235
)
 
34,989

 
11,587,720

U.S. Treasuries
 
1,047,965

 
(1,031
)
 

 
1,046,934

Total
 
$
12,635,931

 
$
(36,266
)
 
$
34,989

 
$
12,634,654

The following table presents the gross unrealized loss and fair values of the Company's available-for-sale investments by length of time that such securities have been in a continuous unrealized loss position as of March 31, 2018 and December 31, 2017 (dollars in thousands):
 
 
Unrealized loss positions
 
 
Less than 12 Months
 
Greater than 12 months
 
Total
As of
 
Fair value
 
Unrealized loss
 
Fair value
 
Unrealized loss
 
Fair value
 
Unrealized loss
March 31, 2018
 
$
8,022,082

 
$
(155,401
)
 
$
723,584

 
$
(25,770
)
 
$
8,745,666

 
$
(181,171
)
December 31, 2017
 
7,925,876

 
(36,170
)
 
24,896

 
(96
)
 
7,950,772

 
(36,266
)

10


The following table summarizes the Company’s available-for-sale investments as of March 31, 2018 and December 31, 2017, according to their estimated remaining weighted-average maturity classifications:
 
 
March 31, 2018
 
December 31, 2017
 
 
Fair Value
 
Amortized Cost
 
Fair Value
 
Amortized Cost
Less than one year
 
$

 
$

 
$
24,896

 
$
24,992

Greater than one year through five years
 
2,636,903

 
2,673,340

 
5,137,370

 
5,143,680

Greater than five years through ten years
 
8,892,462

 
9,023,136

 
7,472,388

 
7,467,259

Greater than ten years
 
6,595

 
6,770

 

 

Total
 
$
11,535,960

 
$
11,703,246

 
$
12,634,654

 
$
12,635,931

The following table summarizes our net realized gain (loss) from the sale of available-for-sale investments for the three months ended March 31, 2018 and 2017 (dollars in thousands):
 
Three Months Ended March 31,
 
2018
 
2017
Available-for-sale investments, at cost
$
6,251,705

 
$
3,598,492

Proceeds from sale of available-for-sale investments
6,180,514

 
3,532,448

Net realized gain (loss) on sale of available-for-sale investments
$
(71,191
)
 
$
(66,044
)
 
 
 
 
Gross gain on sale of available-for-sale investments
$
15,072

 
$
8,603

Gross (loss) on sale of available-for-sale investments
(86,263
)
 
(74,647
)
Net realized gain (loss) on sale of available-for-sale investments
$
(71,191
)
 
$
(66,044
)
The components of the carrying value of available-for-sale investments at March 31, 2018 and December 31, 2017 are presented below. The premium purchase price is generally due to the average coupon interest rates on these investments being higher than prevailing market rates and conversely, the discount purchase price is generally due to the average coupon interest rates on these investments being lower than prevailing market rates.
(dollars in thousands)
 
March 31, 2018
 
December 31, 2017
Principal balance
 
$
11,389,337

 
$
12,275,352

Unamortized premium
 
314,319

 
362,676

Unamortized discount
 
(410
)
 
(2,097
)
Gross unrealized gains
 
13,885

 
34,989

Gross unrealized losses
 
(181,171
)
 
(36,266
)
Fair value
 
$
11,535,960

 
$
12,634,654

As of March 31, 2018, the weighted-average coupon interest rate on the Company's Agency RMBS was 3.55%. As of December 31, 2017, the weighted-average coupon interest rate on the Company's Agency RMBS and U.S. Treasuries was 3.52% and 1.85%, respectively. Actual maturities of Agency RMBS are generally shorter than their stated contractual maturities (which range up to 30 years), because they are affected by the contractual lives of the underlying mortgages, periodic payments and principal prepayments.

11


Credit Risk
The Company believes it has minimal exposure to credit losses on its Debt Securities at March 31, 2018 and December 31, 2017. Principal and interest payments on Agency RMBS are guaranteed by Freddie Mac and Fannie Mae, while principal and interest payments on Ginnie Mae RMBS and U.S. Treasuries are backed by the full faith and credit of the U.S. government. Since September 2008, both Freddie Mac and Fannie Mae have operated in the conservatorship of the U.S. government. As of March 31, 2018, S&P maintained its AA+ rating for the U.S. government, while Fitch and Moody's rated the U.S. government AAA and Aaa, respectively. Since Fannie Mae and Freddie Mac are in U.S. government conservatorship, the implied credit ratings of Agency RMBS are similarly rated.
Refer to Note 7, Fair Value Measurements, for details regarding the characterization of our investments in securities' within the fair value hierarchy.

4. DERIVATIVE INSTRUMENTS
The Company enters into swaps (cancelable and non-cancelable), swaptions, caps and U.S. Treasury short positions as part of its efforts to manage its interest rate exposure. The Company had the following activity in interest rate swap, swaption and cap transactions during the three months ended March 31, 2018 and 2017 (dollars in thousands):
March 31, 2018
 
March 31, 2017
Trade Date
 
Transaction
 
Notional
 
Trade Date
 
Transaction
 
Notional
February 2018
 
Opened
 
$
1,250,000

 
N/A
 
N/A
 
$

February 2018
 
Terminated
 
(1,000,000
)
 
 
 
 
 


March 2018
 
Opened
 
1,000,000

 
 
 
 
 


March 2018
 
Terminated
 
(1,000,000
)
 
 
 
 
 


Net Increase
 
 
 
$
250,000

 
 
 
 
 
 
As of March 31, 2018 and December 31, 2017, the Company had pledged Debt Securities with a fair value of $72.7 million and $76.5 million, respectively, as collateral on derivative instruments. As of March 31, 2018 and December 31, 2017, the Company had no cash pledged as collateral on derivative instruments. As of March 31, 2018, the Company had Agency RMBS and U.S. Treasuries of $11.7 million and cash of $245.7 million pledged to it as collateral for derivative instruments. As of December 31, 2017, the Company had Agency RMBS and U.S. Treasuries of $9.6 million and cash of $139.6 million pledged to it as collateral for derivative instruments.
At March 31, 2018, the Company had a 10-year U.S. Treasury short position with a notional of $800 million and a fair market value of $767.1 million.
The table below summarizes information about our derivative and economic hedging instrument assets and liabilities as of March 31, 2018 and December 31, 2017 (dollars in thousands):

12


 
 
March 31, 2018
 
December 31, 2017
Derivative and Other Hedging Instruments - Assets
 
Consolidated Balance Sheets
 
Notional
 
Fair Value
 
Notional
 
Fair Value
Interest Rate Swaps
 
Derivative assets, at fair value
 
$
6,475,000

 
$
219,940

 
$
7,475,000

 
$
120,154

Interest Rate Swaptions
 
Derivative assets, at fair value
 
1,250,000

 
4,876

 

 

Interest Rate Caps
 
Derivative assets, at fair value
 
2,500,000

 
54,669

 
2,500,000

 
39,466

TBA Derivatives
 
Derivative assets, at fair value
 
975,000

 
2,043

 
25,000

 
9

Total derivative assets at fair value
 
 
 
$
11,200,000

 
$
281,528

 
$
10,000,000

 
$
159,629

 
 
 
 
 
 
 
 
 
 
 
Derivative and Other Hedging Instruments - Liabilities
 
Consolidated Balance Sheets
 
Notional
 
Fair Value
 
Notional
 
Fair Value
Interest Rate Swaps
 
Derivative liabilities, at fair value
 
$

 
$

 
$

 
$

Interest Rate Swaptions
 
Derivative liabilities, at fair value
 

 

 

 

Interest Rate Caps
 
Derivative liabilities, at fair value
 

 

 

 

TBA Derivatives
 
Derivative liabilities, at fair value
 
2,346,000

 
(9,749
)
 
425,000

 
(152
)
Total derivative liabilities at fair value
 
 
 
$
2,346,000

 
$
(9,749
)
 
$
425,000

 
$
(152
)
U.S. Treasury short position
 
Derivative liabilities, at fair value
 
$
800,000

 
$
(767,062
)
 
$

 
$

The average notional value of the Company's TBA Derivatives during the three months ended March 31, 2018 and March 31, 2017 was $2.2 billion and $1.5 billion, respectively. The average notional value of the Company's swaps, swaptions and caps during the three months ended March 31, 2018 and March 31, 2017 was $10.1 billion and $9.0 billion, respectively. The average notional value of the Company's U.S. Treasury short positions during the three months ended March 31, 2018 was $0.4 billion. We did not hold U.S. Treasury short positions during the three months ended March 31, 2017.
The following table presents information about the net realized and unrealized gain and loss on swaps, swaptions, caps, TBA Derivatives and U.S. Treasury short positions for the three months ended March 31, 2018 and 2017 (dollars in thousands):
 
 
 
 
Three Months Ended March 31,
Derivative Instrument Type
 
Location of Gain (Loss) on Derivative Instruments
 
2018
 
2017
Interest rate swaps and caps
 
Interest rate hedge expense, net
 
$
(2,508
)
 
$
(8,327
)
Interest rate swaps, swaptions and caps
 
Net realized and unrealized gain (loss) on derivative instruments
 
115,798

 
7,208

TBA Derivatives
 
Net realized and unrealized gain (loss) on derivative instruments
 
(16,043
)
 
(8,220
)
U.S. Treasury short position
 
Net realized and unrealized gain (loss) on derivative instruments
 
(10,287
)
 

Interest rate swaps, swaptions, caps, TBA Derivatives and U.S. Treasury short position
 
Net gain (loss) on derivative instruments
 
$
86,960

 
$
(9,339
)
    
The swap, swaption and cap notional was $10.2 billion at March 31, 2018 compared to $10.0 billion at December 31, 2017, and respectively 101% and 99% of our repo borrowings at March 31, 2018 and December 31, 2017.

Refer to Note 6, Pledged Assets, and Note 7, Fair Value Measurements, for details regarding assets pledged under derivative contracts and the characterization of derivative contracts within fair value hierarchy, respectively.


13


5. REPURCHASE AGREEMENTS
The Company leverages its Debt Securities portfolio primarily through repo borrowings and TBA dollar roll transactions. Each of the Company's repo borrowings bears interest at a rate based on a spread above or below the London Interbank Offered Rate ("LIBOR"). While repo borrowings have historically been the Company's principal source of borrowings, the Company may issue long-term debt (i.e., debt with an initial term greater than one year) to diversify credit sources and to manage interest rate and duration risk.
Certain information with respect to the Company’s repo borrowings outstanding principal at the balance sheet dates is summarized in the table below.
(dollars in thousands)
March 31, 2018

 
December 31, 2017

Outstanding repurchase agreements
$
10,084,643

 
$
10,089,917

Interest accrued thereon
$
27,783

 
$
30,108

Weighted-average borrowing rate
1.74
%
 
1.42
%
Weighted-average remaining maturity (in days)
63

 
51

Fair value of pledged collateral(1)
$
10,605,968

 
$
10,565,269

 __________________

(1)
Collateral for repo borrowings consists of Agency RMBS and U.S. Treasuries.
The following table presents the remaining contractual maturity of repo borrowings by collateral type as of March 31, 2018 and December 31, 2017 (dollars in thousands):
 
Remaining contractual maturity
March 31, 2018
 
Overnight
 
Less than 30 days
 
30-90 days
 
Greater than 90 days
 
Total
Agency RMBS
 
$
234,276

 
$
4,377,284

 
$
2,371,475

 
$
3,101,608

 
$
10,084,643

U.S. Treasuries
 

 

 

 

 

Total
 
$
234,276

 
$
4,377,284

 
$
2,371,475

 
$
3,101,608

 
$
10,084,643

 
 
 
 
 
 
 
 
 
 
 
December 31, 2017
 
 
 
 
 
 
 
 
 
 
Agency RMBS
 
$
272,434

 
$
3,763,712

 
$
2,549,717

 
$
2,482,742

 
$
9,068,605

U.S. Treasuries
 

 
1,021,312

 

 

 
1,021,312

Total
 
$
272,434

 
$
4,785,024

 
$
2,549,717

 
$
2,482,742

 
$
10,089,917

At March 31, 2018 and December 31, 2017, our amount at risk with any individual counterparty related to our repo borrowings was less than 2.4% and 2.3% of stockholders' equity, respectively. The amount at risk is defined as the excess of the fair value of the securities, including accrued interest, and cash, pledged to secure the repurchase agreement, over the amount of the repurchase agreement liability adjusted for accrued interest.


14


6. PLEDGED ASSETS
Assets Pledged to Counterparties
The following tables summarize assets pledged as collateral under repo borrowings, and derivative instruments by type, including assets pledged to the Company that were repledged to other counterparties and securities pledged related to securities purchased or sold but not yet settled, as of March 31, 2018 and December 31, 2017 (dollars in thousands):
March 31, 2018
 
 
Asset Type
 
Repurchase Agreements
 
Derivative Instruments (1)
 
Forward Settling Trades (TBAs)
 
Total
Agency RMBS - fair value
 
$
10,607,288

 
$
40,168

 
$
17,257

 
$
10,664,713

U.S. Treasuries - fair value
 
395

 
32,571

 

 
32,966

Accrued interest on pledged securities
 
30,974

 
315

 
53

 
31,342

Cash
 

 

 

 

Total
 
$
10,638,657

 
$
73,054

 
$
17,310

 
$
10,729,021

December 31, 2017
 
 
Asset Type
 
Repurchase Agreements
 
Derivative Instruments (1)
 
Forward Settling Trades (TBAs)
 
Total
Agency RMBS - fair value
 
$
9,542,186

 
$
44,490

 
$
1,928

 
$
9,588,604

U.S. Treasuries - fair value
 
1,023,083

 
31,968

 

 
1,055,051

Accrued interest on pledged securities
 
27,693

 
165

 
5

 
27,863

Cash
 

 

 

 

Total
 
$
10,592,962

 
$
76,623

 
$
1,933

 
$
10,671,518

______________
(1)
Includes amounts related to TBA Derivatives.
Assets Pledged from Counterparties
As the estimated fair value of our investment securities pledged as collateral increases due to changes in interest rates or other factors, we may require counterparties to return collateral to us, which may be in the form of identical securities, similar securities, or cash. As of March 31, 2018 and December 31, 2017, we also had assets pledged to us as collateral under our repurchase agreements, reverse repurchase agreements, derivative instruments and forward settling trades summarized in the tables below (dollars in thousands):
March 31, 2018
 
 
Asset Type
 
Repurchase Agreements(1)
 
Reverse Repurchase Agreements (1)
 
Derivative Instruments (2)
 
Forward Settling Trades (TBAs)
 
Total
Agency RMBS - fair value
 
$
1,716

 
$

 
$

 
$

 
$
1,716

U.S. Treasuries - fair value
 

 
792,650

 
11,694

 

 
804,344

Accrued interest on pledged securities
 
5

 
2,442

 
16

 

 
2,463

Cash
 

 

 
245,732

 

 
245,732

Total
 
$
1,721

 
$
795,092

 
$
257,442

 
$

 
$
1,054,255


15


December 31, 2017
 
 
Asset Type
 
Repurchase Agreements (3)
 
Derivative Instruments (2)
 
Forward Settling Trades (TBAs)
 
Total
Agency RMBS - fair value
 
$

 
$

 
$

 
$

U.S. Treasuries - fair value
 

 
9,646

 

 
9,646

Accrued interest on pledged securities
 

 
60

 

 
60

Cash
 

 
139,614

 

 
139,614

Total
 
$

 
$
149,320

 
$

 
$
149,320

______________
(1)
U.S. Treasury securities received as collateral under our reverse repurchase agreements that we use to cover short sales of U.S. Treasury securities are accounted for as securities borrowing transactions. We recognize a corresponding obligation to return the borrowed securities at fair value in the accompanying Consolidated Balance Sheet based on the value of the underlying borrowed securities at period end. Amounts presented are inclusive of collateral that the Company has sold or repledged, and may be presented on a net basis for repurchase and reverse repurchase agreements with the same counterparty.
(2)
Includes amounts related to TBA Derivatives.
(3)
We did not hold U.S. Treasury short positions at December 31, 2017.
Cash collateral received is not restricted as to use and is recognized in "Cash and cash equivalents" with a corresponding amount recognized in "Payable for cash received as collateral" in the accompanying Consolidated Balance Sheets. The Company's collateral received in the form of securities from counterparties is disclosed in Note 4, Derivative Instruments.
The Company’s Master Repurchase Agreements ("MRAs"), Master Securities Forward Transaction Agreements ("MSFTAs") and ISDA Master Agreements ("ISDAs", and together with MRAs, the "Master Agreements") generally provide (unless specified otherwise) that the Company may sell, pledge, rehypothecate, assign, invest, use, commingle, dispose of, or otherwise use in its business any posted collateral it holds, free from any claim or right of any nature whatsoever of the counterparty.  MSFTAs govern the considerations and factors surrounding the settlement of certain forward settling transactions, TBA Securities and secured borrowing transactions by and between the Company and our counterparties. As of March 31, 2018, $11.7 million of assets were pledged to the Company under the Master Agreements, of which $7.4 million were pledged by the Company to other counterparties at March 31, 2018. As of December 31, 2017, $9.6 million of assets were pledged to the Company under the Master Agreements, of which $8.1 million were pledged by the Company to other counterparties at December 31, 2017. Since title to these assets remains with the counterparty under the Master Agreements, none of these assets are reflected in the accompanying Consolidated Balance Sheets.
Offsetting Assets and Liabilities
Certain of our repo borrowings and derivative transactions are governed by underlying agreements that generally provide for a right of offset under MNAs (or similar agreements), including in the event of default or in the event of bankruptcy of either party to the transactions. Under GAAP, if the Company has a contractual right of offset, the Company may offset the related asset and liability and report the net amount in the accompanying Consolidated Balance Sheets. However, the Company reports amounts subject to its MRAs and ISDAs in the accompanying Consolidated Balance Sheets on a gross basis without regard for such rights of offset.

16


At March 31, 2018 and December 31, 2017, the Company's derivative assets and liabilities (by type) are as follows (dollars in thousands):
March 31, 2018
 
Assets
 
Liabilities
Interest rate swap contracts
 
$
219,940

 
$

Interest rate swaption contracts
 
4,876

 

Interest rate cap contracts
 
54,669

 

TBA derivatives
 
2,043

 
9,749

Total derivative assets and liabilities
 
281,528

 
9,749

Derivatives not subject to a Master Netting Agreement
 
219,940

 

Total assets and liabilities subject to a Master Netting Agreement
 
$
61,588

 
$
9,749

 
 
 
 
 
December 31, 2017
 
Assets
 
Liabilities
Interest rate swap contracts
 
$
120,154

 
$

Interest rate cap contracts
 
39,466

 

TBA derivatives
 
9

 
152

Total derivative assets and liabilities
 
159,629

 
152

Derivatives not subject to a Master Netting Agreement
 
119,230

 

Total assets and liabilities subject to a Master Netting Agreement
 
$
40,399

 
$
152

Below are summaries of the Company's assets subject to offsetting provisions (dollars in thousands):
Assets
 
 
 
 
 
Gross Amounts Not Offset in the Consolidated Balance Sheets
 
 
As of
 
Description
 
Amount of Assets Presented in the Consolidated Balance Sheets
 
Instruments Available for Offset
 
Collateral Received(1)
 
Net Amount(2)
March 31, 2018
 
Derivative assets
 
$
61,588

 
$
1,842

 
$
57,751

 
$
1,995

March 31, 2018
 
Reverse repurchase agreements
 
767,422

 
270,352

 
497,070

 

December 31, 2017
 
Derivative assets
 
40,399

 

 
38,568

 
1,831

Below are summaries of the Company's liabilities subject to offsetting provisions (dollars in thousands):
Liabilities
 
 
 
 
 
Gross Amounts Not Offset in the Consolidated Balance Sheets
 
 
As of
 
Description
 
Amount of Liabilities Presented in the Consolidated Balance Sheets
 
Instruments Available for Offset
 
Collateral Pledged(1)
 
Net Amount(2)
March 31, 2018
 
Derivative liabilities
 
$
9,749

 
$
1,842

 
$
7,907

 
$

March 31, 2018
 
Repurchase agreements
 
10,084,643

 
270,352

 
9,814,291

 

December 31, 2017
 
Derivative liabilities
 
152

 

 
152

 

December 31, 2017
 
Repurchase agreements
 
10,089,917

 

 
10,089,917

 

______________
(1)
Collateral consists of Agency RMBS, U.S. Treasuries and Cash and cash equivalents. Excess collateral received is not shown for financial reporting purposes.
(2)
Net amount represents the amount receivable from (in the case of assets) and payable to (in the case of liabilities) the counterparty in the event of default.

17


7. FAIR VALUE MEASUREMENTS

The Company’s valuation techniques are based on observable and unobservable inputs. ASC 820 establishes a fair value hierarchy that prioritizes and ranks the level of market price observability used in measuring financial instruments. Market price observability is affected by a number of factors, including the type of financial instrument, the characteristics specific to the financial instrument, and the state of the marketplace, including the existence and transparency of transactions between market participants. Financial instruments with readily available quoted prices in active markets generally will have a higher degree of market price observability and a lesser degree of judgment used in measuring fair value. Refer to Note 3, Investments in Securities, and Note 4, Derivative Instruments, for more details related to the Company's investments in securities and derivative instruments, respectively.
Financial instruments measured and reported at fair value are classified and disclosed based on the observability of inputs used in the determination, as follows:
 
 
 
 
Level 1: Generally includes only unadjusted quoted prices that are available in active markets for identical financial instruments as of the reporting date.
 
 
 
 
Level 2: Pricing inputs include quoted prices in active markets for similar instruments, quoted prices in less active or inactive markets for identical or similar instruments where multiple price quotes can be obtained, and other observable inputs, such as interest rates and yield curves.
 
 
 
 
Level 3: Pricing inputs are unobservable for the financial instruments and include situations where there is little, if any, market activity for the financial instrument. These inputs require significant judgment or estimation by management when determining fair value and generally represent anything that does not meet the criteria of Levels 1 and 2.

The estimated value of each asset reported at fair value using Level 3 inputs is approved by an internal committee composed of members of senior management, including our Chief Executive Officer, Chief Financial Officer, and other senior officers.
Agency RMBS and U.S. Treasuries are generally valued based on prices provided by third-party pricing services (the "Pricing Service"), as derived from such services' pricing models. Our primary third party pricing service utilizes various valuation techniques, including market and income approaches to estimate the value of our Agency RMBS categorized within Level 2. When no direct information is available for a specific Agency RMBS, the Pricing Service utilizes a matrix approach referred to as a "multi-dimensional relational application" valuation technique (the "Valuation Technique") to value our Agency RMBS. The Pricing Service inputs include Trade Reporting and Compliance Engine ("TRACE®") reported trades and the following standard inputs, listed in approximate order of priority, when available: benchmark yields, reported trades, broker/dealer quotes, issuer spreads, two-sided markets, benchmark securities, bids, offers, and reference data including market research publications. TRACE® data includes, among other things, all Agency RMBS over-the-counter market activity in the secondary market. Inputs to the models may include, but are not limited to, reported trades, executable bid and ask prices, broker quotations, prices or yields of securities with similar characteristics, prepayment rates, benchmark curves or information pertaining to the issuer, as well as industry and economic events.

The Pricing Service evaluates the adequacy of the Valuation Technique and the inputs described above on a regular basis. The evaluation process also includes monitoring market indicators, and industry and economic events. Information of this nature is a trigger to acquire further corroborating market data. The ongoing evaluation process includes multiple review processes throughout the month that help assess the available market, credit, and deal level information in support of valuations. As a result of the evaluation process, the Pricing Service may prioritize available inputs differently on any given day for any security, as not all inputs identified are available for use in the valuation process on any given day for each security valuation. If the Pricing Service determines that the level of available objective verifiable information is insufficient to continue to support a security’s valuation, then the Pricing Service will discontinue to value the security(ies) on an issue, issuer, and/or deal level until sufficient objective verifiable information can be obtained.
All valuations we receive from third-party pricing services or broker quotes are non-binding. The pricing committee reviews all prices. To date, the Company has not adjusted any of the prices received from third-party pricing services or brokers. Our pricing review includes comparisons of similar market transactions, alternative third-party pricing services and broker quotes, or comparisons to a pricing model. To ensure proper classification within the fair value hierarchy in ASC 820, the Company reviews the third-party pricing services' methodologies periodically to understand whether observable or unobservable inputs are being used.

18


We generally value swaps, swaptions and caps using prices provided by broker quotations. Such broker quotations are based on the present value of fixed and projected floating rate cash flows over the term of the swap contract. Future cash flows are discounted to present value using swap rates provided by electronic data services or by brokers.
Excluded from the tables below are short-term financial instruments carried in our consolidated financial statements at cost basis, which is deemed to approximate fair value, due primarily to the short duration of these instruments, including cash and cash equivalents, receivables, payables, and repo borrowings.
"Other investments" is mainly comprised of our net investment in a real estate asset at fair value, inclusive of the corresponding $3.7 million and $3.7 million of mortgage debt at March 31, 2018 and December 31, 2017, respectively. Investment in real estate is considered to be a Level 3 asset to which we periodically apply valuation techniques and/or impairment analysis.
The following tables summarize the Company’s assets and liabilities that are measured at fair value on a recurring basis, as of March 31, 2018 and December 31, 2017 (dollars in thousands):
March 31, 2018
Fair Value Measurements Using
 
Level 1
 
Level 2
 
Level 3
 
Total
Assets
 
 
 
 
 
 
 
Agency RMBS
$

 
$
11,535,960

 
$

 
$
11,535,960

U.S. Treasuries

 

 

 

Derivative assets

 
281,528

 

 
281,528

Other investments

 

 
9,763

 
9,763

Total
$

 
$
11,817,488

 
$
9,763

 
$
11,827,251

Liabilities
 
 
 
 
 
 
 
Derivative liabilities

 
9,749

 

 
9,749

Obligation to return securities borrowed under reverse repurchase agreements, at fair value
767,062

 

 

 
767,062

Total
$
767,062

 
$
9,749

 
$

 
$
776,811

December 31, 2017
Fair Value Measurements Using
 
Level 1
 
Level 2
 
Level 3
 
Total
Assets
 
 
 
 
 
 
 
Agency RMBS
$

 
$
11,587,720

 
$

 
$
11,587,720

U.S. Treasuries
1,046,934

 

 

 
1,046,934

Derivative assets

 
159,629

 

 
159,629

Other investments

 

 
9,763

 
9,763

Total
$
1,046,934

 
$
11,747,349

 
$
9,763

 
$
12,804,046

Liabilities
 
 
 
 
 
 
 
Derivative liabilities

 
152

 

 
152

Total
$

 
$
152

 
$

 
$
152

The table below presents a reconciliation of changes in other investments classified as Level 3 in the Company's consolidated financial statements for the three months ended March 31, 2018 and 2017.

19


Level 3 Fair Value Reconciliation
 
 
 
(dollars in thousands)
Three Months Ended March 31,
Other investments
2018
 
2017
Beginning balance Level 3 assets
$
9,763

 
$
8,028

Cash payments recorded as a reduction of cost basis

 

Change in net unrealized gain (loss)

 

Gross purchases

 

Gross sales

 

Net gain (loss) on sales

 

Transfers into (out of) Level 3

 

Ending balance Level 3 assets
$
9,763

 
$
8,028

    
The fair value of our net investment in a real estate asset is primarily derived internally, and is based on inputs observed from sales transactions of similar assets. We also rely on available industry information about capitalization rates and expected trends in rents and occupancy in determining estimates of the fair value of real estate.  The significant unobservable input used in the fair value measurement of our net investment in real estate is the capitalization rate, which the Company estimated to be between 4.2% and 4.9% at March 31, 2018 and December 31, 2017.

8. STOCKHOLDERS' EQUITY
The Company has authorized 500,000,000 shares of common stock having a par value of $0.01 per share. As of March 31, 2018 and December 31, 2017, the Company had issued and outstanding 155,415,878 and 155,010,011 shares of common stock, respectively.
The Company has authorized 50,000,000 shares of preferred stock having a par value of $0.01 per share. As of March 31, 2018 and December 31, 2017, 3,000,000 shares of 7.75% Series A Cumulative Redeemable Preferred Stock ($25.00 liquidation preference) were issued and outstanding. As of March 31, 2018 and December 31, 2017, 8,000,000 shares of 7.50% Series B Cumulative Redeemable Preferred Stock ($25.00 liquidation preference) were issued and outstanding. The Series A Preferred Stock and Series B Preferred Stock are not redeemable before August 3, 2017 and April 30, 2018, respectively, except under circumstances where it is necessary to preserve the Company's qualification as a REIT, for federal income tax purposes, or the occurrence of a Change of Control (as defined in the Articles Supplementary of the Series A and Series B Preferred Stock, respectively). Under certain circumstances upon a Change of Control, our Series A and Series B Preferred Stock are convertible to shares of our common stock. On or after August 3, 2017 and April 30, 2018, the Company may, at its option, redeem any or all of the shares of the Series A Preferred Stock and Series B Preferred Stock, respectively, at $25.00 per share plus any accumulated and unpaid dividends to, but not including, the respective redemption date. The Series A Preferred Stock and Series B Preferred Stock have no stated maturity, and are not subject to a sinking fund requirement or mandatory redemption.
Equity Placement Program
On August 4, 2017, the Company entered into an equity distribution agreement (the "Equity Distribution Agreement") with JMP Securities LLC whereby the Company may, from time to time, publicly offer and sell up to 20,000,000 shares of the Company’s common stock through at-the-market transactions and/or privately negotiated transactions. During the three months ended March 31, 2018, the Company did not issue any shares under the Equity Distribution Agreement. As of March 31, 2018 and December 31, 2017, 17,048,509 shares of common stock remained available for issuance to be sold under the Equity Distribution Agreement.
Dividend Reinvestment and Direct Stock Purchase Plan
On September 15, 2017, the Company renewed its Dividend Reinvestment and Direct Stock Purchase Plan ("DRSPP"), whereby stockholders may reinvest cash dividends and purchase up to 10,000,000 shares of our common stock. Stockholders may also make optional cash purchases of shares of common stock subject to certain limitations detailed in the respective plan prospectus. For the three months ended March 31, 2018 and March 31, 2017, the Company did not issue any shares under the DRSPP. As of March 31, 2018, there were approximately 9.7 million shares available for issuance under the DRSPP.

20


Share Repurchase Program
On November 15, 2012, the Company announced that its Board of Directors authorized the repurchase of shares of the Company’s common stock having an aggregate value of up to $250 million. Pursuant to this program, through July 20, 2014, the Company repurchased approximately $115.7 million in aggregate value of its shares of common stock on the open market. On July 21, 2014, the Company announced that its Board of Directors authorized the repurchase of shares of the Company's common stock having an aggregate value of up to $250 million, which included approximately $134.3 million available for repurchase under the November 2012 authorization. Subsequently, during 2014 and through the year ended December 31, 2017 the Company repurchased 5,796,502 shares at a weighted-average purchase price of $7.62 per share, for an aggregate purchase price of approximately $44.3 million. Accordingly, the Company was authorized to repurchase shares of its common stock of approximately $155.5 million as of December 31, 2017.
For the three months ended March 31, 2018 and March 31, 2017, we did not repurchase any shares of the Company's common stock. Accordingly, the Company was authorized to repurchase shares of its common stock of approximately $155.5 million as of March 31, 2018 and 2017.
Restricted Stock Awards
For the three months ended March 31, 2018 and 2017, the Company granted 439,151 and 317,396 shares of restricted stock, respectively, to certain of its directors, officers and employees.
9. EARNINGS PER SHARE
Components of the computation of basic and diluted earnings per share ("EPS") under the two-class method were as follows (dollars in thousands, except per share numbers): 
 
Three Months Ended March 31,
 
2018
 
2017
Net income (loss)
$
(108,508
)
 
$
34,020

Less dividends on preferred shares
(5,203
)
 
(5,203
)
Net income (loss) available to common stockholders
(113,711
)
 
28,817

Less dividends paid:
 
 
 
Common shares
(33,965
)
 
(37,695
)
Non-vested shares
(226
)
 
(232
)
Undistributed earnings (loss)
(147,902
)
 
(9,110
)
Basic weighted-average shares outstanding:
 
 
 
Common shares
154,230

 
150,582

Basic earnings (loss) per common share:
 
 
 
Distributed earnings
$
0.22

 
$
0.25

Undistributed earnings (loss)
(0.96
)
 
(0.06
)
Basic earnings (loss) per common share
$
(0.74
)
 
$
0.19

Diluted weighted-average shares outstanding:
 
 
 
Common shares
154,230

 
150,582

Net effect of dilutive warrants (1)

 

 
154,230

 
150,582

Diluted earnings (loss) per common share:
 
 
 
Distributed earnings
$
0.22

 
$
0.25

Undistributed earnings
(0.96
)
 
(0.06
)
Diluted earnings (loss) per common share
$
(0.74
)
 
$
0.19

__________________
(1)
For the three months ended March 31, 2018 and 2017, the Company had no stock options outstanding.


21


10. COMMITMENTS AND CONTINGENCIES
The Company enters into certain agreements that contain a variety of indemnifications, principally with broker-dealers. As of March 31, 2018 and December 31, 2017, no claims have been asserted against the Company under these indemnification agreements. Accordingly, the Company has no liabilities recorded for these agreements as of March 31, 2018 and December 31, 2017.
The Company occupied leased office space for which the term expired on June 30, 2016. In September 2015, the Company entered into a new lease agreement with a commencement date of January 1, 2016, and an estimated rent commencement date of July 1, 2016 (the "New Lease"). The New Lease has an initial term of 7 years from the rent commencement date, and one five-year extension option. The Company's lease has been classified as an operating lease. The Company’s aggregate future minimum lease payments total approximately $2.0 million.  The following table details the Company's operating lease payments (dollars in thousands):
Years Ending December 31,
 
Lease Commitments
2018 (remaining)
 
$
273

2019
 
373

2020
 
383

2021
 
393

2022
 
403

Thereafter
 
203

 
 
$
2,028

11. SUBSEQUENT EVENTS

The Company entered into a definitive merger agreement (the "Merger Agreement") with Two Harbors Investment Corp ("Two Harbors") on April 25, 2018.  In connection with the proposed merger, the Company’s stockholders will exchange their shares of the Company’s common stock for newly issued shares of Two Harbors as well as an aggregate cash consideration of $15 million, payable to the Company’s stockholders.  The number of Two Harbors’ shares to be received by the Company’s stockholders will be based on an exchange ratio to be determined by dividing 96.75% of the Company’s adjusted book value per share by 94.20% of the Two Harbors adjusted book value per share. As defined in the Merger Agreement, adjusted book value per share for each company means (i) such company’s total consolidated common stockholders’ equity after giving pro forma effect to any dividends or other distributions for which the record date is after the exchange ratio determination date but prior to the closing of the merger and as modified for potential transaction-related adjustments, divided by (ii) each respective company’s number of shares of common stock issued and outstanding, including shares issuable upon the vesting of restricted stock.  The actual exchange ratio for the merger will be publicly announced at least five business days prior to the required stockholder votes on the merger.
 
The completion of the proposed merger is subject to the satisfaction of certain customary conditions, and is subject to the approval of the stockholders of both Two Harbors and the Company.  The Company cannot provide any assurance that the proposed merger will close in a timely manner or at all.

The Company has evaluated subsequent events through April 27, 2018, the date these financial statements were issued, and determined that no additional events have occurred that would require adjustments to or disclosures in the accompanying unaudited consolidated financial statements.


22


Item 2.     Management’s Discussion and Analysis of Financial Condition and Results of Operations

CYS Investments, Inc. (the "Company", "we", "us", or "our") is a specialty finance company created with the objective of achieving consistent risk-adjusted investment income. Management’s Discussion and Analysis of Financial Condition and Results of Operations ("MD&A") is intended to provide the reader of the Company’s unaudited consolidated financial statements and accompanying notes with a narrative of management's perspective on the business underlying those financial statements and its financial condition and results of operations during the periods presented. The Company’s MD&A is comprised of the following sections:

Forward-Looking Statements,
Executive Overview,
Trends and Recent Market Activity,
Financial Condition,
Summary Financial Data,
Results of Operations,