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INVESTMENT SECURITIES
 3 Months Ended
Sep. 30, 2014
INVESTMENT SECURITIES

NOTE 4 – INVESTMENT SECURITIES

 

Investment Securities Available for Sale

The amortized cost, non-credit loss component of other-than-temporary impairment (“OTTI”) recorded in other comprehensive income (“OCI”), gross unrealized gains and losses recorded in OCI, approximate fair value, weighted average yield and contractual maturities of investment securities available for sale as of September 30, 2014 and December 31, 2013 were as follows:

  September 30, 2014
  Amortized cost Noncredit Loss Component of OTTI Recorded in OCI   Fair value Weighted average yield%
     Gross Unrealized   
      gains losses   
  (Dollars in thousands)
                  
U.S. Treasury securities:                
 Due within one year$ 7,496 $ - $ 2 $ - $ 7,498  0.11
                  
Obligations of U.S.                
government-sponsored                 
agencies:                
After 1 to 5 years  174,161   -   1   4,225   169,937  1.18
After 5 to 10 years  133,121   -   9   4,538   128,592  1.52
Puerto Rico government                
obligations:                
After 1 to 5 years  39,816   -   -   10,006   29,810  4.49
After 5 to 10 years  885   -   1   -   886  5.20
After 10 years  20,446   -   -   4,753   15,693  5.83
United States and Puerto Rico                
government obligations  375,925   -   13   23,522   352,416  1.89
Mortgage-backed securities:                
FHLMC certificates:                
After 10 years  325,487   -   860   4,265   322,082  2.19
                  
GNMA certificates:                 
After 1 to 5 years  49   -   1   -   50  3.34
After 5 to 10 years  1,534   -   84   -   1,618  3.28
After 10 years  375,148   -   20,387   -   395,535  3.83
    376,731   -   20,472   -   397,203  3.83
FNMA certificates:                
After 1 to 5 years  4,639   -   201   -   4,840  3.44
After 5 to 10 years  9,640   -   467   15   10,092  3.49
After 10 years  862,358   -   5,736   13,720   854,374  2.36
    876,637   -   6,404   13,735   869,306  2.38
                  
                  
Other mortgage pass-through                
trust certificates:                
Over 5 to 10 years  115   -   1   -   116  7.27
After 10 years  48,774   12,774   -   -   36,000  2.17
    48,889   12,774   1   -   36,116  2.17
Total mortgage-backed                 
securities  1,627,744   12,774   27,737   18,000   1,624,707  2.67
Equity securities (without                
contractual maturity) (1)  35   -   -   21   14  -
Total investment securities                
available for sale$ 2,003,704 $ 12,774 $ 27,750 $ 41,543 $ 1,977,137  2.52
                  
(1) Represents common shares of another financial institution in Puerto Rico.

  December 31, 2013
  Amortized cost Noncredit Loss Component of OTTI Recorded in OCI   Fair value Weighted average yield%
      Gross Unrealized   
      gains losses   
  
                  
U.S. Treasury securities:                
 Due within one year$ 7,498 $ - $ 1 $ - $ 7,499  0.12
Obligations of U.S.                
government-sponsored                 
agencies:                
  After 1 to 5 years  50,000   -   -   1,408   48,592  1.05
  After 5 to 10 years  214,271   -   -   13,368   200,903  1.31
Puerto Rico government                
obligations:                
  Due within one year  10,000   -   -   210   9,790  3.50
  After 5 to 10 years  40,699   -   -   12,962   27,737  4.51
  After 10 years  20,309   -   -   6,506   13,803  5.82
United States and Puerto Rico                
government obligations  342,777   -   1   34,454   308,324  1.96
Mortgage-backed securities:                
FHLMC certificates:                
 After 10 years  332,766   -   133   10,712   322,187  2.16
GNMA certificates:                 
 After 1 to 5 years  86   -   4   -   90  3.48
 After 5 to 10 years  800   -   37   -   837  2.47
 After 10 years  425,589   -   18,492   -   444,081  3.82
    426,475   -   18,533   -   445,008  3.82
FNMA certificates:                
 After 1 to 5 years  1,389   -   84   -   1,473  4.82
 After 5 to 10 years  7,765   -   389   -   8,154  4.09
 After 10 years 882,798   -   2,984   33,626   852,156  2.36
    891,952   -   3,457   33,626   861,783  2.38
Collateralized mortgage                
 obligations issued or                
 guaranteed by the FHLMC:                
 After 1 to 5 years  82   -   -   1   81  3.01
Other mortgage pass-through                
trust certificates:                
  Over 5 to 10 years  127   -   1   -   128  7.27
  After 10 years  55,048   14,310   -   -   40,738  2.24
    55,175   14,310   1   -   40,866  2.24
Total mortgage-backed                 
 securities  1,706,450   14,310   22,124   44,339   1,669,925  2.69
Equity securities (without                
 contractual maturity) (1)  35   -   -   2   33  -
Total investment securities                
 available for sale$ 2,049,262 $ 14,310 $ 22,125 $ 78,795 $ 1,978,282  2.57
                  
(1) Represents common shares of another financial institution in Puerto Rico.

Maturities of mortgage-backed securities are based on contractual terms assuming no prepayments. Expected maturities of investments might differ from contractual maturities because they may be subject to prepayments and/or call options. The weighted average yield on investment securities available for sale is based on amortized cost and, therefore, does not give effect to changes in fair value. The net unrealized gain or loss on securities available for sale and the non credit loss component of OTTI are presented as part of OCI.

 

The following tables show the Corporation's available-for-sale investments' fair value and gross unrealized losses, aggregated by investment category and length of time that individual securities have been in a continuous unrealized loss position, as of September 30, 2014 and December 31, 2013. The tables also include debt securities for which an OTTI was recognized and only the amount related to a credit loss was recognized in earnings. Unrealized losses for which OTTI had been recognized have been reduced by any subsequent recoveries in fair value.

 As of September 30, 2014
 Less than 12 months 12 months or more Total
   Unrealized   Unrealized   Unrealized
 Fair Value  Losses Fair Value  Losses Fair Value  Losses
  (In thousands)
Debt securities:                 
Puerto Rico government obligations$ - $ - $ 45,503 $ 14,759 $ 45,503 $ 14,759
U.S. government agencies obligations  34,617   132   255,600   8,631   290,217   8,763
Mortgage-backed securities:                 
FNMA  71,267   326   558,555   13,409   629,822   13,735
FHLMC  48,806   224   189,757   4,041   238,563   4,265
Other mortgage pass-through trust                 
certificates  -   -   36,000   12,774   36,000   12,774
Equity securities  14   21   -   -   14   21
 $ 154,704 $ 703 $ 1,085,415 $ 53,614 $ 1,240,119 $ 54,317
                  
                  
 As of December 31, 2013
 Less than 12 months 12 months or more Total
   Unrealized   Unrealized   Unrealized
 Fair Value  Losses Fair Value  Losses Fair Value  Losses
  (In thousands)
Debt securities:                 
Puerto Rico government obligations$ 23,156 $ 5,977 $ 28,174 $ 13,701 $ 51,330 $ 19,678
U.S. government agencies obligations  175,369   8,913   74,126   5,863   249,495   14,776
Mortgage-backed securities:                 
FNMA  748,215   33,626   -   -   748,215   33,626
FHLMC  286,208   10,712   -   -   286,208   10,712
Collateralized mortgage obligations                 
issued or guaranteed by FHLMC  -   -   81   1   81   1
Other mortgage pass-through trust                 
certificates  -   -   40,738   14,310   40,738   14,310
Equity securities  33   2   -   -   33   2
 $ 1,232,981 $ 59,230 $ 143,119 $ 33,875 $ 1,376,100 $ 93,105
 

Assessment for OTTI

 

On a quarterly basis, the Corporation performs an assessment to determine whether there have been any events or economic circumstances indicating that a security with an unrealized loss has suffered an OTTI. A debt security is considered impaired if the fair value is less than its amortized cost basis at the reporting date. The accounting literature requires the Corporation to assess whether the unrealized loss is other than temporary.

 

OTTI losses must be recognized in earnings if an investor has the intent to sell the debt security or it is more likely than not that it will be required to sell the debt security before recovery of its amortized cost basis. However, even if an investor does not expect to sell a debt security, it must evaluate expected cash flows to be received and determine if a credit loss has occurred.

 

An unrealized loss is generally deemed to be other-than-temporary and a credit loss is deemed to exist if the present value of the expected future cash flows is less than the amortized cost basis of the debt security. The credit loss component of an OTTI, if any, is recorded as a component of net impairment losses on investment securities in the accompanying consolidated statements of income (loss), while the remaining portion of the impairment loss is recognized in OCI, provided the Corporation does not intend to sell the underlying debt security and it is “more likely than not” that the Corporation will not have to sell the debt security prior to recovery.

 

Debt securities issued by U.S. government agencies, government-sponsored entities and the Treasury accounted for approximately 96% of the total available-for-sale portfolio as of September 30, 2014 and no credit losses are expected, given the explicit and implicit guarantees provided by the U.S. federal government. The Corporation's OTTI assessment was concentrated mainly on private label mortgage-backed securities (“MBS”) with an amortized cost of $48.8 million for which credit losses are evaluated on a quarterly basis. The Corporation considered the following factors in determining whether a credit loss exists and the period over which the debt security is expected to recover:

 

  • The length of time and the extent to which the fair value has been less than the amortized cost basis;
  • Changes in the near term prospects of the underlying collateral of a security, such as changes in default rates, loss severity given default, and significant changes in prepayment assumptions;
  • The level of cash flows generated from the underlying collateral supporting the principal and interest payments of the debt securities; and
  • Any adverse change to the credit conditions and liquidity of the issuer, taking into consideration the latest information available about the overall financial condition of the issuer, credit ratings, recent legislation and government actions affecting the issuer's industry and actions taken by the issuer to deal with the present economic climate.

 

The Corporation recorded OTTI losses on available-for-sale debt securities as follows:

 Private Label MBS Private Label MBS
 Quarter ended September 30,  Nine-Month Period Ended September 30,
 2014 2013 2014 2013
(In thousands)           
Total other-than-temporary impairment losses $ - $ - $ - $ -
Portion of other-than-temporary impairment losses previously recognized in OCI  (245)   -   (245)  (117)
Net impairment losses recognized in earnings$ (245) $ - $ (245) $(117)
            
 

The following table summarizes the roll-forward of credit losses on debt securities held by the Corporation for which a portion of an OTTI is recognized in OCI: 
  Quarter ended September 30,  Nine-Month Period Ended September 30,  
  2014 2013 2014 2013 
(In thousands)            
Credit losses at the beginning of the period$ 5,389 $ 5,389 $ 5,389 $ 5,272 
Additions:            
Credit losses on debt securities for which an OTTI was            
previously recognized  245   -   245   117 
              
Ending balance of credit losses on debt securities held for            
which a portion of an OTTI was recognized in OCI$ 5,634 $ 5,389 $ 5,634 $ 5,389 
 

During the first nine months of 2014 and 2013, the $245 thousand and $117 thousand credit-related impairment loss, respectively, is related to private label MBS, which are collateralized by fixed-rate mortgages on single-family residential properties in the United States. The interest rate on these private-label MBS is variable, tied to 3-month LIBOR and limited to the weighted-average coupon of the underlying collateral. The underlying mortgages are fixed-rate single-family loans with original high FICO scores (over 700) and moderate original loan-to-value ratios (under 80%), as well as moderate delinquency levels.

 

Based on the expected cash flows derived from the model, and since the Corporation does not have the intention to sell the securities and has sufficient capital and liquidity to hold these securities until a recovery of the fair value occurs, only the credit loss component was reflected in earnings. Significant assumptions in the valuation of the private label MBS were as follows:

 September 30, 2014 December 31, 2013
 Weighted    Weighted   
 Average Range Average Range
        
Discount rate14.5% 14.5% 14.5% 14.5%
Prepayment rate31% 19.21%-100.00% 29% 15.86%-100.00%
Projected Cumulative Loss Rate7.6% 0.94%-80.00% 6.8% 0.58%-38.16%
        
No OTTI losses on equity securities held in the available-for-sale investment portfolio were recognized in the first nine months of 2014. The Corporation recorded OTTI losses of $42 thousand on equity securities held in the available-for-sale investment portfolio in the first nine months of 2013.

Total proceeds from the sale of securities available for sale during the first nine months of 2014 amounted to $4.9 million, including a $0.3 million gain on the sale of a Puerto Rico government agency bond.

 

As of September 30, 2014, the Corporation held approximately $61.1 million of Puerto Rico government and agencies bond obligations, mainly bonds of the Government Development Bank (“GDB”) and the Puerto Rico Building Authority, as part of its available-for-sale investment securities portfolio, which were reflected at their aggregate fair value of $46.4 million. During the nine-month period ended September 30, 2014, the fair value of these obligations increased by $4.9 million. In February 2014, Standard & Poor's (“S&P”), Moody's Investor Service (“Moodys”) and Fitch Ratings (“Fitch”) downgraded the Commonwealth of Puerto Rico general obligation bonds and other obligations of Puerto Rico instrumentalities to a non-investment grade category. In July 2014, the Puerto Rico debt was downgraded further into speculative grade by these credit agencies after the enactment of The Puerto Rico Public Corporations Debt Enforcement and Recovery Act that provides a legislative framework for certain public corporations that are experiencing severe financial stress to address their financial obstacles through an orderly statutory process that allows them to handle their debts.

 

The issuers of Puerto Rico government and agencies bonds held by the Corporation have not defaulted, and the contractual payments on these securities have been made as scheduled. The Corporation has the ability and intent to hold these securities until a recovery of the fair value occurs, and it is not more likely than not that the Corporation will be required to sell the securities prior to such recovery. It is uncertain how the financial markets may react to any potential further rating downgrade of Puerto Rico's debt. However, further deterioration in the fiscal situation could adversely affect the value of Puerto Rico's government obligations. The Corporation will continue to closely monitor Puerto Rico's political and economic status and evaluate the portfolio for any declines in value that could be considered other-than temporary.