Quarterly report pursuant to Section 13 or 15(d)

FAIR VALUE OF FINANCIAL INSTRUMENTS

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FAIR VALUE OF FINANCIAL INSTRUMENTS
3 Months Ended
Mar. 31, 2014
Fair Value Of Financial Instruments  
FAIR VALUE OF FINANCIAL INSTRUMENTS
12. FAIR VALUE OF FINANCIAL INSTRUMENTS

 

The carrying values and fair values of New Residential’s financial assets recorded at fair value on a recurring basis, as well as other financial instruments for which fair value is disclosed, as of March 31, 2014 were as follows:

 

                      Fair Value  
    Principal Balance or Notional Amount     Carrying Value     Level 1     Level 2     Level 3     Total  
Assets:                                                
Investments in:                                                
Excess mortgage servicing rights, at fair value (A)   $ 84,678,978     $ 341,704     $ —     $ —     $ 341,704     $ 341,704  
Excess mortgage servicing rights, equity  method investees, at fair value (A)     167,359,386       338,307       —       —       338,307       338,307  
Servicer advances     3,430,473       3,457,385       —       —       3,457,385       3,457,385  
Real estate securities, available-for-sale     2,866,311       2,345,221       —       1,162,650       1,182,571       2,345,221  
Residential mortgage loans,
held for investment (B)
    57,818       34,045       —       —       34,045       34,045  
Non-hedge derivative investments (C)     228,540       45,040       —       769       44,271       45,040  
Cash and cash equivalents     140,495       140,495       140,495       —       —       140,495  
Restricted cash     34,607       34,607       34,607       —       —       34,607  
    $ 258,796,608     $ 6,736,804     $ 175,102     $ 1,163,419     $ 5,398,283     $ 6,736,804  
Liabilities:                                                
Repurchase agreements   $ 2,143,094     $ 2,143,094     $ —     $ 2,000,594     $ 142,500     $ 2,143,094  
Notes payable     3,234,805       3,234,805       —       —       3,234,805       3,234,805  
    $ 5,377,899     $ 5,377,899     $ —     $ 2,000,594     $ 3,377,305     $ 5,377,899  

 

(A) The notional amount represents the total unpaid principal balance of the mortgage loans underlying the Excess MSRs. New Residential does not receive an excess mortgage servicing amount on non-performing loans in Agency portfolios.
(B) Represents New Residential’s 70% interest in the total unpaid principal balance of the Residential Mortgage Loans.
(C) Notional amount consists of the aggregate current face and UPB amounts of the securities and loans, respectively, that comprise the asset portion of the linked transaction.

 

New Residential’s financial assets measured at fair value on a recurring basis using Level 3 inputs changed during the three months ended March 31, 2014 as follows:

 

    Level 3        
    Excess MSRs (A)     Excess MSRs in Equity Method Investees(A) (B)                          
    Agency     Non-Agency     Agency     Non-Agency     Servicer Advances     Non-Agency RMBS     Linked Transactions     Total  
Balance at December 31, 2013   $ 144,660     $ 179,491     $ 245,399     $ 107,367     $ 2,665,551     $ 570,425     $ 35,926     $ 3,948,819  
Transfers (C)                                                             —  
Transfers from Level 3     —       —       —       —       —       —       —       —  
Transfers to Level 3     —       —       —       —       —       —       —       —  
Gains (losses) included in net income                                                             —  
Included in other-than-temporary impairment (“OTTI”) on securities (D)     —       —       —       —       —       (328 )     —       (328 )
Included in change in fair value of investments in excess mortgage servicing rights (D)     (545 )     7,147       —       —       —       —       —       6,602  
                                                                 
Included in change in fair value of investments in excess mortgage servicing rights, equity method investees (D)     —       —       (739 )     (2,114 )     —       —       —       (2,853 )
Included in gain on settlement of investments     —       —       —       —       —       3,810       —       3,810  
Included in other income (D)     —       —       —       —       —       —       671       671  
Gains (losses) included in other comprehensive income, net of tax (E)     —       —       —       —       —       5,710       43       5,753  
Interest income     4,747       9,069       6,721       2,526       45,716       2,007       —       70,786  
Purchases, sales and repayments                                                             —  
Purchases     —       19,132       —       —       2,205,070       863,291       9,758       3,097,251  
Purchase adjustments     (60 )     —       —       —       —       —       —       (60 )
Proceeds from sales     —       —       —       —       —       (248,454 )     (1,495 )     (249,949 )
Proceeds from repayments     (8,937 )     (13,000 )     (14,044 )     (6,809 )     (1,458,952 )     (13,890 )     (632 )     (1,516,264 )
Balance at March 31, 2014   $ 139,865     $ 201,839     $ 237,337     $ 100,970     $ 3,457,385     $ 1,182,571     $ 44,271     $ 5,364,238  

 

(A) Includes the Recapture Agreement for each respective pool.

(B) Amounts represent New Residential’s portion of the Excess MSRs held by the respective joint ventures in which New Residential has a 50% interest.
(C) Transfers are assumed to occur at the beginning of the respective period.
(D) The gains (losses) recorded in earnings during the period are attributable to the change in unrealized gains (losses) relating to Level 3 assets still held at the reporting dates.
(E) These gains (losses) were included in net unrealized gain (loss) on securities in the Consolidated Statements of Comprehensive Income.

 

Investments in Excess MSRs Valuation

 

The following table summarizes certain information regarding the inputs used in valuing the Excess MSRs owned directly and through equity method investees as of March 31, 2014:

 

    Significant Inputs  
Held Directly (Note 4)   Prepayment Speed
(A)
    Delinquency
(B)
    Recapture Rate
(C)
    Excess Mortgage Servicing Amount
(bps)(D)
    Discount Rate  
MSR Pool 1     12.4 %     8.7 %     35.4 %     26       12.5 %
MSR Pool 1 - Recapture Agreement     8.0 %     5.0 %     35.0 %     21       12.5 %
MSR Pool 2     12.6 %     10.0 %     35.5 %     22       12.5 %
MSR Pool 2 - Recapture Agreement     8.0 %     5.0 %     35.0 %     21       12.5 %
MSR Pool 3     12.8 %     11.0 %     35.5 %     22       12.5 %
MSR Pool 3 - Recapture Agreement     8.0 %     5.0 %     35.0 %     21       12.5 %
MSR Pool 4     15.5 %     14.8 %     36.5 %     17       12.5 %
MSR Pool 4 - Recapture Agreement     8.0 %     5.0 %     35.0 %     21       12.5 %
MSR Pool 5     11.5 %     N/A (E)     9.3 %     14       12.5 %
MSR Pool 5 - Recapture Agreement     8.0 %     N/A (E)     35.0 %     21       12.5 %
MSR Pool 11 - Recapture Agreement     7.8 %     5.0 %     35.0 %     19       12.5 %
MSR Pool 12     16.0 %     N/A (E)     9.0 %     26       12.5 %
MSR Pool 12 - Recapture Agreement     8.0 %     N/A (E)     35.0 %     19       12.5 %
MSR Pool 17     11.4 %     N/A (E)     9.3 %     19       12.5 %
MSR Pool 17 - Recapture Agreement     8.0 %     N/A (E)     35.0 %     19       12.5 %
MSR Pool 18     15.0 %     N/A (E)     9.0 %     16       12.5 %
MSR Pool 18 - Recapture Agreement     8.0 %     N/A (E)     35.0 %     19       12.5 %
                                         
Held through Equity Method Investees (Note 5)                                      
MSR Pool 6     15.4 %     7.7 %     30.5 %     25       12.5 %
MSR Pool 6 - Recapture Agreement     8.0 %     5.0 %     35.0 %     23       12.5 %
MSR Pool 7     12.8 %     7.8 %     35.6 %     15       12.5 %
MSR Pool 7 - Recapture Agreement     8.0 %     5.0 %     35.0 %     19       12.5 %
MSR Pool 8     13.9 %     6.7 %     35.5 %     19       12.5 %
MSR Pool 8 - Recapture Agreement     8.0 %     5.0 %     35.0 %     19       12.5 %
MSR Pool 9     15.7 %     5.0 %     30.1 %     22       12.5 %
MSR Pool 9 - Recapture Agreement     8.0 %     5.0 %     35.0 %     26       12.5 %
MSR Pool 10     11.3 %     N/A (E)     9.3 %     11       12.5 %
MSR Pool 10 - Recapture Agreement     8.0 %     N/A (E)     35.0 %     19       12.5 %
MSR Pool 11     13.9 %     10.0 %     36.0 %     15       12.5 %
MSR Pool 11 - Recapture Agreement     8.0 %     5.0 %     35.0 %     19       12.5 %

 

(A) Projected annualized weighted average lifetime voluntary and involuntary prepayment rate using a prepayment vector.
(B) Projected percentage of mortgage loans in the pool that will miss their mortgage payments.
(C) Percentage of voluntarily prepaid loans that are expected to be refinanced by Nationstar.
(D) Weighted average total mortgage servicing amount in excess of the basic fee.
(E) The Excess MSR will be paid on the total UPB of the mortgage portfolio (including both performing and delinquent loans until REO).

 

Excess Mortgage Servicing Rights Equity Method Investees Valuation

 

New Residential’s investments in equity method investees measured at fair value on a recurring basis using Level 3 inputs changed during the three months ended March 31, 2014 as follows:

 

Balance at December 31, 2013   $ 352,766  
Contributions to equity method investees     —  
Distributions of earnings from equity method investees     (11,940 )
Distributions of capital from equity method investees     (8,893 )
Change in fair value of investments in equity method investees     6,374  
Balance at March 31, 2014   $ 338,307  

 

Investments in Servicer Advances Valuation

 

The following table summarizes certain information regarding the inputs used in valuing the servicer advances:

 

    Significant Inputs
    Weighted Average              
    Outstanding Servicer Advances to UPB of Underlying Residential Mortgage Loans   Prepayment Speed     Delinquency     Mortgage Servicing Amount     Discount Rate  
March 31, 2014   2.3%     15.0 %     17.0 %     19.8  bps     5.8 %
December 31, 2013   2.7%     13.3 %     20.0 %     21.2 bps     5.6 %

 

Real Estate Securities Valuation

 

As of March 31, 2013, New Residential’s securities valuation methodology and results are further detailed as follows:

 

                Fair Value  
Asset Type   Outstanding Face Amount     Amortized Cost Basis     Multiple Quotes (A)     Total     Level  
                                         
Agency ARM RMBS   $ 1,085,447     $ 1,162,098     $ 1,162,650     $ 1,162,650       2  
Non-Agency RMBS     1,780,864       1,173,195       1,182,571       1,182,571       3  
Total   $ 2,866,311     $ 2,335,293     $ 2,345,221     $ 2,345,221          

 

(A) Management generally obtained pricing service quotations or broker quotations from two sources, one of which was generally the seller (the party that sold New Residential the security) for Non-Agency RMBS. Management selected one of the quotes received as being most representative of the fair value and did not use an average of the quotes. Even if New Residential receives two or more quotes on a particular security that come from non-selling brokers or pricing services, it does not use an average because management believes using an actual quote more closely represents a transactable price for the security than an average level. Furthermore, in some cases there is a wide disparity between the quotes New Residential receives. Management believes using an average of the quotes in these cases would not represent the fair value of the asset. Based on New Residential’s own fair value analysis, management selects one of the quotes which is believed to more accurately reflect fair value. New Residential never adjusts quotes received. These quotations are generally received via email and contain disclaimers which state that they are “indicative” and not “actionable” — meaning that the party giving the quotation is not bound to actually purchase the security at the quoted price.

 

Residential Mortgage Loans for Which Fair Value is Only Disclosed

 

The fair values of New Residential’s reverse mortgage loans held-for-investment were estimated based on a discounted cash flow analysis using internal pricing models. The significant inputs to these models include discount rates and the timing and amount of expected cash flows that management believes market participants would use in determining the fair values on similar pools of reverse mortgage loans. New Residential’s loans held-for-investment are categorized within Level 3 of the fair value hierarchy.

 

The following table summarizes the inputs used in valuing reverse mortgage loans as of March 31, 2014:

 

                            Significant Inputs
Loan Type   Outstanding Face Amount (A)     Carrying Value (A)     Fair Value     Valuation Allowance/ (Reversal) In Current Year     Discount Rate   Weighted Average Life (Years) (B)  
                                             
Reverse Mortgage Loans   $ 57,818     $ 34,045     $ 34,045     $ 164     10.3%     3.6  

 

(A) Represents a 70% interest New Residential holds in the reverse mortgage loans.
(B) The weighted average life is based on the expected timing of the receipt of cash flows.

 

Derivative Valuation

New Residential financed certain investments with the same counterparty from which it purchased those investments, and accounts for the contemporaneous purchase of the investments and the associated financings as linked transactions (Note 10). The linked transactions are valued on a net basis considering their underlying components, the investment value and the related repurchase financing agreement value, generally determined consistently with the relevant instruments as described in this note. Values of investments in non-performing loans are estimated based on a discounted cash flow analysis using internal pricing models that employ market-based assumptions regarding the timing and amount of expected cash flows primarily based upon the performance of the loan pool and liquidation attributes. The linked transactions, which are categorized as Level 3, are recorded as a non-hedge derivative instrument on a net basis.

New Residential also enters into economic hedges including interest rate swaps and U.S.T. short positions, which are categorized as Level 2 in the valuation hierarchy. Management generally values such derivatives using quotations, similarly to the method of valuation used for New Residential’s other assets that are categorized as Level 2.

Liabilities for Which Fair Value is Only Disclosed

Repurchase agreements and notes payable are not measured at fair value; however, management believes that their carrying value approximates fair value. Repurchase agreements and notes payable are generally considered to be Level 2 and Level 3 in the valuation hierarchy, respectively, with significant valuation variables including the amount and timing of expected cash flows, interest rates and collateral funding spreads.

Short-term repurchase agreements and notes payable have an estimated fair value equal to their carrying value due to their short duration and generally floating interest rates. Longer-term notes payable, representing the securitized portion of the servicer advance financing, are valued based on internal models utilizing both observable and unobservable inputs. As of March 31, 2014, these recently issued notes also have an estimated fair value equal to their carrying value since market interest rates and spreads have not fluctuated significantly since their issuance.