Derivative instruments include, but are not limited to, interest rate swaps, options to enter into interest rate swaps (“swaptions”), TBA derivatives, options on TBA securities (“MBS options”), U.S. Treasury and Eurodollar futures contracts and certain forward purchase commitments. The Company may also enter into other types of mortgage derivatives such as interest-only securities, credit derivatives referencing the commercial mortgage-backed securities index and synthetic total return swaps.

In connection with the Company’s investment/market rate risk management strategy, the Company economically hedges a portion of its interest rate risk by entering into derivative financial instrument contracts, which include interest rate swaps, swaptions and futures contracts. The Company may also enter into TBA derivatives, MBS options and U.S. Treasury or

Eurodollar futures contracts, certain forward purchase commitments and credit derivatives to economically hedge its exposure to market risks. The purpose of using derivatives is to manage overall portfolio risk with the potential to generate additional income for distribution to stockholders. These derivatives are subject to changes in market values resulting from changes in interest rates, volatility, Agency mortgage-backed security spreads to U.S. Treasuries and market liquidity. The use of derivatives also creates exposure to credit risk relating to potential losses that could be recognized if the counterparties to these instruments fail to perform their obligations under the stated contract. Additionally, the Company may have to pledge cash or assets as collateral for the derivative transactions, the amount of which may vary based on the market value and terms of the derivative contract. In the case of market agreed coupon (“MAC”) interest rate swaps, the Company may make or receive a payment at the time of entering into such interest rate swaps, which represents fair value of these swaps, to compensate for the out of market nature of such interest rate swaps. Subsequent changes in fair value from inception of these interest rate swaps are reflected within Unrealized gains (losses) on interest rate swaps in the Consolidated Statements of Comprehensive Income (Loss). Similar to other interest rate swaps, the Company may have to pledge cash or assets as collateral for the MAC interest rate swap transactions. In the event of a default by the counterparty, the Company could have difficulty obtaining its pledged collateral as well as receiving payments in accordance with the terms of the derivative contracts.

Derivatives are accounted for in accordance with FASB ASC 815, Derivatives and Hedging, which requires recognition of all derivatives as either assets or liabilities at fair value in the Consolidated Statements of Financial Condition with changes in fair value recognized in the Consolidated Statements of Comprehensive Income (Loss). The changes in the estimated fair value are presented within Net gains (losses) on other derivatives with the exception of interest rate swaps which are separately presented. None of the Company’s derivative transactions have been designated as hedging instruments for accounting purposes.

The Company also maintains collateral in the form of cash on margin with counterparties to its interest rate swaps and other derivatives. In accordance with a clearing organization’s rulebook, the Company presents the fair value of centrally cleared interest rate swaps net of variation margin pledged under such transactions. At September 30, 2020 and December 31, 2019, $1.7 billion and $517.8 million of variation margin was reported as an adjustment to interest rate swaps, at fair value.

Interest Rate Swap Agreements – Interest rate swap agreements are the primary instruments used to mitigate interest rate risk. In particular, the Company uses interest rate swap agreements to manage its exposure to changing interest rates on its repurchase agreements by economically hedging cash flows associated with these borrowings. The Company may enter into interest rate swap agreements where the floating leg is linked to the London Interbank Offered Rate (“LIBOR”), the overnight index swap rate or another index. Interest rate swap agreements may or may not be cleared through a derivatives clearing organization (“DCO”). Uncleared interest rate swaps are fair valued using internal pricing models and compared to the counterparty market values. Centrally cleared interest rate swaps, including MAC interest rate swaps, are generally fair valued using the DCO’s market values. If an interest rate swap is terminated, the realized gain (loss) on the interest rate swap would be equal to the difference between the cash received or paid and fair value.

Swaptions – Swaptions are purchased or sold to mitigate the potential impact of increases or decreases in interest rates. Interest rate swaptions provide the option to enter into an interest rate swap agreement for a predetermined notional amount, stated term and pay and receive interest rates in the future. The Company’s swaptions are not centrally cleared. The premium paid or received for swaptions is reported as an asset or liability in the Consolidated Statements of Financial Condition. If a swaption expires unexercised, the realized gain (loss) on the swaption would be equal to the premium received or paid. If the Company sells or exercises a swaption, the realized gain or loss on the swaption would be equal to the difference between the cash received or the fair value of the underlying interest rate swap received and the premium paid. The fair value of swaptions are estimated using internal pricing models and compared to the counterparty market values.

MBS Options – MBS options are generally options on TBA contracts, which help manage mortgage market risks and volatility while providing the potential to enhance returns. MBS options are over-the-counter traded instruments and those written on current-coupon mortgage-backed securities are typically the most liquid. MBS options are measured at fair value using internal pricing models and compared to the counterparty market value at the valuation date.

Futures Contracts – Futures contracts are derivatives that track the prices of specific assets or benchmark rates. Short sales of futures contracts help to mitigate the potential impact of changes in interest rates on the portfolio performance. The Company maintains margin accounts which are settled daily with Futures Commission Merchants (“FCMs”). The margin requirement varies based on the market value of the open positions and the equity retained in the account. Futures contracts are fair valued based on exchange pricing.

Forward Purchase Commitments – The Company may enter into forward purchase commitments with counterparties whereby the Company commits to purchasing residential mortgage loans at a particular price, provided the residential mortgage loans close with the counterparties. The counterparties are required to deliver the committed loans on a “best efforts” basis.


Derivatives Instruments	September 30, 2020		December 31, 2019
Assets	(dollars in thousands)
Interest rate swaps	$	—	$	1,199
Interest rate swaptions	63,601		11,580
TBA derivatives	38,656		15,181
Futures contracts	550		77,889
Purchase commitments	438		2,050
Credit derivatives (1)	—		5,657
Total derivative assets	$	103,245	$	113,556
Liabilities
Interest rate swaps	$	1,126,179	$	706,862

TBA derivatives	21,140		11,316
Futures contracts	7,792		84,781
Purchase commitments	488		907
Credit derivatives (1)	27,082		—
Total derivative liabilities	$	1,182,681	$	803,866

(1) The notional amount of the credit derivatives in which the Company purchased protection was $0.0 and $10.0 million at September 30, 2020 and December 31, 2019, respectively. The maximum potential amount of future payments is the notional amount of credit derivatives in which the Company sold protection of $499.0 million and $345.0 million at September 30, 2020 and December 31, 2019, respectively, plus any coupon shortfalls on the underlying tranche. The credit derivative tranches referencing the basket of bonds had a range of ratings between AAA and BBB-.


September 30, 2020
Maturity	Current Notional (1)(2)		Weighted Average Pay Rate		Weighted Average Receive Rate		Weighted Average Years to Maturity (3)
(dollars in thousands)
0 - 3 years	$	17,816,700	0.14	%	0.41	%	2.27
3 - 6 years	7,255,000		0.69	%	0.09	%	3.87
6 - 10 years	5,806,500		1.43	%	0.65	%	8.09
Greater than 10 years	1,349,000		2.90	%	0.39	%	21.85
Total / Weighted average	$	32,227,200	0.91	%	0.48	%	4.51


December 31, 2019
Maturity	Current Notional (1)(2)		Weighted Average Pay Rate		Weighted Average Receive Rate		Weighted Average Years to Maturity
(dollars in thousands)
0 - 3 years	$	38,942,400	1.60	%	1.84	%	1.29
3 - 6 years	16,097,450		1.77	%	1.87	%	4.30
6 - 10 years	16,176,500		2.20	%	2.02	%	9.00
Greater than 10 years	2,930,000		3.76	%	1.86	%	17.88
Total / Weighted average	$	74,146,350	1.84	%	1.89	%	4.23


September 30, 2020
	Current Underlying Notional	Weighted Average Underlying Fixed Rate	Weighted Average Underlying Floating Rate	Weighted Average Underlying Years to Maturity	Weighted Average Months to Expiration
(dollars in thousands)
Long pay	$6,550,000	1.29%	3M LIBOR	10.60	7.97
Long receive	$250,000	1.66%	3M LIBOR	10.27	3.20

December 31, 2019
	Current Underlying Notional	Weighted Average Underlying Fixed Rate	Weighted Average Underlying Floating Rate	Weighted Average Underlying Years to Maturity	Weighted Average Months to Expiration
(dollars in thousands)
Long pay	$4,675,000	2.53%	3M LIBOR	9.22	4.66
Long receive	$2,000,000	1.49%	3M LIBOR	10.29	3.40


September 30, 2020
Purchase and sale contracts for derivative TBAs	Notional		Implied Cost Basis		Implied Market Value		Net Carrying Value
(dollars in thousands)
Purchase contracts	$	20,394,000	$	21,176,883	$	21,194,446	$	17,563
Sale contracts	(100,000)		(104,844)		(104,891)		(47)
Net TBA derivatives	$	20,294,000	$	21,072,039	$	21,089,555	$	17,516


December 31, 2019
Purchase and sale contracts for derivative TBAs	Notional		Implied Cost Basis		Implied Market Value		Net Carrying Value
(dollars in thousands)
Purchase contracts	$	10,043,000	$	10,182,891	$	10,192,038	$	9,147
Sale contracts	(3,144,000)		(3,294,486)		(3,299,768)		(5,282)
Net TBA derivatives	$	6,899,000	$	6,888,405	$	6,892,270	$	3,865


September 30, 2020
	Notional - Long Positions		Notional - Short Positions		Weighted Average Years to Maturity
	(dollars in thousands)



U.S. Treasury futures - 10 year and greater	$	—	$	(2,822,800)	6.90
Total	$	—	$	(2,822,800)	6.90


December 31, 2019
	Notional - Long Positions		Notional - Short Positions		Weighted Average Years to Maturity
	(dollars in thousands)

U.S. Treasury futures - 2 year	$	—	$	(180,000)	1.96
U.S. Treasury futures - 5 year	—		(2,953,300)		4.42
U.S. Treasury futures - 10 year and greater	2,600,000		(5,806,400)		9.74
Total	$	2,600,000	$	(8,939,700)	8.26


September 30, 2020
			Amounts Eligible for Offset
	Gross Amounts		Financial Instruments		Cash Collateral		Net Amounts
Assets	(dollars in thousands)

Interest rate swaptions, at fair value	$	63,601	$	—	$	—	$	63,601
TBA derivatives, at fair value	38,656		(18,950)		—		19,706
Futures contracts, at fair value	550		(550)		—		—
Purchase commitments	438		—		—		438

Liabilities
Interest rate swaps, at fair value	$	1,126,179	$	—	$	(117,947)	$	1,008,232
TBA derivatives, at fair value	21,140		(18,950)		—		2,190
Futures contracts, at fair value	7,792		(550)		(7,242)		—
Purchase commitments	488		—		—		488
Credit derivatives	27,082		—		(27,082)		—

December 31, 2019
			Amounts Eligible for Offset
	Gross Amounts		Financial Instruments		Cash Collateral		Net Amounts
Assets	(dollars in thousands)
Interest rate swaps, at fair value	$	1,199	$	(951)	$	—	$	248
Interest rate swaptions, at fair value	11,580		—		—		11,580
TBA derivatives, at fair value	15,181		(5,018)		—		10,163
Futures contracts, at fair value	77,889		(10,902)		—		66,987
Purchase commitments	2,050		—		—		2,050
Credit derivatives	5,657		—		—		5,657
Liabilities
Interest rate swaps, at fair value	$	706,862	$	(951)	$	(104,205)	$	601,706
TBA derivatives, at fair value	11,316		(5,018)		—		6,298
Futures contracts, at fair value	84,781		(10,902)		(73,879)		—
Purchase commitments	907		—		—		907


Location on Consolidated Statements of Comprehensive Income (Loss)
	Net Interest Component of Interest Rate Swaps		Realized Gains (Losses) on Termination of Interest Rate Swaps		Unrealized Gains (Losses) on Interest Rate Swaps
For the three months ended	(dollars in thousands)
September 30, 2020	$	(62,529)	$	(427)	$	170,327
September 30, 2019	$	88,466	$	(682,602)	$	(326,309)
For the nine months ended
September 30, 2020	$	(141,070)	$	(1,919,720)	$	(1,162,768)
September 30, 2019	$	306,154	$	(1,438,349)	$	(1,992,884)


Three Months Ended September 30, 2020
Derivative Instruments	Realized Gain (Loss)		Unrealized Gain (Loss)		Amount of Gain/(Loss) Recognized in Net Gains (Losses) on Other Derivatives
(dollars in thousands)
Net TBA derivatives	$	276,849	$	(100,680)	$	176,169
Net interest rate swaptions	(9,836)		3,263		(6,573)
Futures	(19,989)		10,337		(9,652)
Purchase commitments	—		(51)		(51)
Credit derivatives	1,531		7,892		9,423
Total					$	169,316


Three Months Ended September 30, 2019
Derivative Instruments	Realized Gain (Loss)		Unrealized Gain (Loss)		Amount of Gain/(Loss) Recognized in Net Gains (Losses) on Other Derivatives
(dollars in thousands)
Net TBA derivatives	$	93,919	$	(46,124)	$	47,795
Net interest rate swaptions	(2,778)		(4,571)		(7,349)
Futures	(424,268)		364,613		(59,655)
Purchase commitments	—		(348)		(348)
Credit derivatives	1,784		885		2,669
Total					$	(16,888)


Nine Months Ended September 30, 2020
Derivative Instruments	Realized Gain (Loss)		Unrealized Gain (Loss)		Amount of Gain/(Loss) Recognized in Net Gains (Losses) on Other Derivatives
(dollars in thousands)
Net TBA derivatives	$	798,459	$	13,651	$	812,110
Net interest rate swaptions	11,730		50,762		62,492
Futures	(299,220)		(350)		(299,570)
Purchase commitments	—		(1,194)		(1,194)
Credit derivatives	4,659		(31,839)		(27,180)
Total					$	546,658


Nine Months Ended September 30, 2019
Derivative Instruments	Realized Gain (Loss)		Unrealized Gain (Loss)		Amount of Gain/(Loss) Recognized in Net Gains (Losses) on Other Derivatives
(dollars in thousands)
Net TBA derivatives	$	481,865	$	(154,355)	$	327,510
Net interest rate swaptions	(44,088)		7,935		(36,153)
Futures	(1,430,450)		484,146		(946,304)
Purchase commitments	—		1,903		1,903
Credit derivatives	5,285		9,301		14,586
Total					$	(638,458)

Certain of the Company’s derivative contracts are subject to International Swaps and Derivatives Association Master Agreements or other similar agreements which may contain provisions that grant counterparties certain rights with respect to the applicable agreement upon the occurrence of certain events such as (i) a decline in stockholders’ equity in excess of specified thresholds or dollar amounts over set periods of time, (ii) the Company’s failure to maintain its REIT status, (iii) the Company’s failure to comply with limits on the amount of leverage, and (iv) the Company’s stock being delisted from the New York Stock Exchange.