INVESTMENT SECURITIES

12 Months Ended

Dec. 31, 2018

Investments, Debt and Equity Securities [Abstract]

NOTE 6 – INVESTMENT SECURITIES

Investment Securities Available for Sale

The amortized cost, non-credit loss component of OTTI recorded in OCI, gross unrealized gains and losses recorded in OCI, estimated fair value, and weighted-average yield of investment securities available for sale by contractual maturities as of December 31, 2018 and 2017 were as follows:

		December 31, 2018
		Amortized cost		Noncredit Loss Component of OTTI Recorded in OCI		Gross				Fair value
						Unrealized						Weighted-
						Gains		Losses				average yield%
(Dollars in thousands)

U.S. Treasury securities:
	Due within one year	$	7,489	$	-	$	-	$	33	$	7,456	1.29

U.S. government-sponsored
agencies obligations:
	Due within one year		191,531		-		-		1,908		189,623	1.28
	After 1 to 5 years		184,851		-		203		2,249		182,805	2.07
	After 5 to 10 years		195,750		-		286		1,674		194,362	2.95
	After 10 years		34,627		-		-		217		34,410	2.68

Puerto Rico government
obligations:
	After 5 to 10 years		4,000		-		128		-		4,128	5.12
	After 10 years		4,185		-		-		1,361		2,824	6.97

United States and Puerto
Rico government
obligations			622,433		-		617		7,442		615,608	2.18

Mortgage-backed securities ("MBS"):
FHLMC certificates:
	After 5 to 10 years		92,149		-		31		1,850		90,330	2.09
	After 10 years		265,624		-		523		6,699		259,448	2.52
			357,773		-		554		8,549		349,778	2.41
GNMA certificates:
	After 1 to 5 years		176		-		3		-		179	3.43
	After 5 to 10 years		61,604		-		408		503		61,509	2.88
	After 10 years		118,898		-		2,938		747		121,089	3.92
			180,678		-		3,349		1,250		182,777	3.56
FNMA certificates:
	Due within one year		119		-		2		-		121	2.20
	After 1 to 5 years		19,798		-		50		122		19,726	2.79
	After 5 to 10 years		165,067		-		2		3,822		161,247	2.13
	After 10 years		543,972		-		2,211		13,233		532,950	2.67
			728,956		-		2,265		17,177		714,044	2.55
Collateralized mortgage obligations
	guaranteed by the FHLMC
	and GNMA:
	After 1 to 5 years		6,530		-		1		18		6,513	3.15
	After 10 years		59,020		-		474		60		59,434	3.22
			65,550		-		475		78		65,947	3.22
Other mortgage pass-through
trust certificates:
	After 10 years		19,340		5,426		-		-		13,914	4.89

Total MBS			1,352,297		5,426		6,643		27,054		1,326,460	2.71

Other
	After 1 to 5 years		500		-		-		-		500	2.96

Total investment securities
	available for sale	$	1,975,230	$	5,426	$	7,260	$	34,496	$	1,942,568	2.55

		December 31, 2017
		Amortized cost		Noncredit Loss Component of OTTI Recorded in OCI		Gross				Fair value
						Unrealized						Weighted-
						Gains		Losses				average yield%

(Dollars in thousands)

U.S. Treasury securities:
	After 1 to 5 years	$	7,458	$	-	$	-	$	57	$	7,401	1.29

U.S. government-sponsored
agencies obligations:
	Due within one year		122,471		-		-		319		122,152	1.06
	After 1 to 5 years		309,472		-		28		3,735		305,765	1.42
	After 5 to 10 years		133,451		-		117		319		133,249	2.72
	After 10 years		40,769		-		1		149		40,621	1.84

Puerto Rico government
obligations:
	After 5 to 10 years		4,071		-		47		-		4,118	3.14
	After 10 years		3,972		-		-		1,277		2,695	6.97

United States and Puerto Rico
government obligations			621,664		-		193		5,856		616,001	1.70

MBS:
FHLMC certificates:
	After 5 to 10 years		18,658		-		14		63		18,609	2.14
	After 10 years		297,733		-		217		4,853		293,097	2.23
			316,391		-		231		4,916		311,706	2.23
GNMA certificates:
	After 1 to 5 years		81		-		1		-		82	3.23
	After 5 to 10 years		69,661		-		1,244		-		70,905	3.05
	After 10 years		145,067		-		5,910		334		150,643	3.81
			214,809		-		7,155		334		221,630	3.56
FNMA certificates:
	After 1 to 5 years		20,831		-		294		109		21,016	2.69
	After 5 to 10 years		49,934		-		-		818		49,116	1.83
	After 10 years		613,129		-		3,180		6,401		609,908	2.43
			683,894		-		3,474		7,328		680,040	2.39

Collateralized mortgage
	obligations issued or guaranteed
	by the FHLMC and GNMA:
	After 1 to 5 years		5,918		-		14		-		5,932	2.21
	After 5 to 10 years		2,556		-		11		-		2,567	2.23
	After 10 years		35,331		-		231		-		35,562	2.22
			43,805		-		256		-		44,061	2.22

Other mortgage pass-through
trust certificates:
	After 10 years		22,791		5,731		-		-		17,060	2.44

Total MBS			1,281,690		5,731		11,116		12,578		1,274,497	2.54

Other
	Due within one year		100		-		-		-		100	1.48

Equity Securities (1)			424		-		-		6		418	2.11

Total investment securities
	available for sale	$	1,903,878	$	5,731	$	11,309	$	18,440	$	1,891,016	2.27

(1) As of January 1, 2018, the Corporation adopted ASU 2016-01, resulting in the reclassification of $0.4 million in equity securities from available-for-sale investment securities to other investment securities.

Maturities of MBS are based on the period of final contractual maturity. 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 noncredit loss component of OTTI are presented as part of OCI.

The aggregate amortized cost and approximate market value of investment securities available for sale as of December 31, 2018 by contractual maturity, are shown below:


	Amortized Cost		Fair Value
(Dollars in thousands)

United States Puerto Rico government obligations and
other debt securities:
Within 1 year	$	199,020	$	197,079
After 1 to 5 years		185,351		183,305
After 5 to 10 years		199,750		198,490
After 10 years		38,812		37,234
		622,933		616,108
MBS and Collateralized Mortgage Obligations ⁽¹⁾		1,352,297		1,326,460
Total investment securities available for sale	$	1,975,230	$	1,942,568

(1) The expected maturities of MBS and collateralized mortgage obligations may differ from their contractual maturities because they may be subject to prepayments.

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 December 31, 2018 and December 31, 2017. 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. For unrealized losses for which OTTI was recognized, the related credit loss was charged against the amortized cost basis of the debt security.

	As of December 31, 2018
	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	$	-	$	-	$	2,824	$	1,361	$	2,824	$	1,361
U.S. Treasury and U.S. government
agencies' obligations		16,669		77		468,094		6,004		484,763		6,081
MBS:
FNMA		25,079		129		521,871		17,048		546,950		17,177
FHLMC		3,382		32		263,798		8,517		267,180		8,549
GNMA		3,364		15		57,535		1,235		60,899		1,250
Collateralized mortgage obligations
issued or guaranteed by FHLMC and GNMA		16,065		78		-		-		16,065		78
Other mortgage pass-through trust certificates		-		-		13,914		5,426		13,914		5,426
	$	64,559	$	331	$	1,328,036	$	39,591	$	1,392,595	$	39,922


	As of December 31, 2017
	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	$	-	$	-	$	2,695	$	1,277	$	2,695	$	1,277
U.S. Treasury and U.S. government
agencies' obligations		136,459		494		362,050		4,085		498,509		4,579
MBS:
FNMA		189,699		1,705		274,963		5,623		464,662		7,328
FHLMC		91,174		590		166,331		4,326		257,505		4,916
GNMA		39,145		334		-		-		39,145		334
Other mortgage pass-through trust certificates		-		-		17,060		5,731		17,060		5,731
Equity securities (1)		-		-		407		6		407		6
	$	456,477	$	3,123	$	823,506	$	21,048	$	1,279,983	$	24,171

(1) As of January 1, 2018, the Corporation adopted ASU 2016-01, resulting in the reclassification of $0.4 million in equity securities from available-for-sale investment securities to equity securities in the consolidated statement of financial condition.

Assessment for OTTI

Debt securities issued by U.S. government agencies, U.S. government-sponsored entities, and the U.S. Treasury accounted for approximately 99% of the total available-for-sale portfolio as of December 31, 2018, 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 MBS, and on Puerto Rico government debt securities, 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;
Any adverse change to the credit conditions and liquidity of the issuer, taking into consideration the latest information available about the financial condition of the issuer, credit ratings, the failure of the issuer to make scheduled principal or interest payments, recent legislation and government actions affecting the issuer’s industry and actions taken by the issuer to deal with the present economic climate;
Changes in the near term prospects of the underlying collateral for a security, if any, such as changes in default rates, loss severity given default, and significant changes in prepayment assumptions; and
The level of cash flows generated from the underlying collateral, if any, supporting the principal and interest payments of the debt securities.

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

		Year Ended December 31,
		2018		2017			2016
(In thousands)
Total OTTI losses		$	-	$	(12,231)	$	(1,845)
Portion of OTTI recognized in OCI			(50)		-		(4,842)
Net impairment losses recognized in earnings (1)		$	(50)	$	(12,231)	$	(6,687)

(1)	For the year ended December 31, 2018, the credit impairment of $50 thousand recognized in earnings consisted of credit losses on private label MBS. For the years ended December 31, 2017 and 2016, approximately $12.2 million and $6.3 million, respectively, of the credit impairment recognized in earnings consisted of credit losses on Puerto Rico government debt securities that were sold in the second quarter of 2017, as further discussed below. The remaining impairment losses for the year ended December 31, 2016 were associated with credit losses on private label MBS.

The following tables summarize the roll-forward of credit losses on debt securities held by the Corporation for which a portion of an OTTI is also recognized in OCI:

Cumulative OTTI credit losses recognized in earnings on securities still held

Credit impairments

Credit loss

December 31,

recognized in earnings on

reductions for

December 31,

2017

securities that have been

securities sold

2018

Balance

previously impaired

during the period

Balance

(In thousands)

Available-for-sale securities

Private label MBS

6,792

6,842


	Cumulative OTTI credit losses recognized in earnings on securities still held
				Credit impairments		Credit loss
	December 31,			recognized in earnings on		reductions for	December 31,
	2016			securities that have been		securities sold	2017
	Balance			previously impaired		during the period	Balance
(In thousands)
Available-for-sale securities
Puerto Rico government obligations	$	22,189	$	12,231	$	(34,420)	$	-
Private label MBS		6,792		-		-		6,792
Total OTTI credit losses for available-for-sale
debt securities	$	28,981	$	12,231	$	(34,420)	$	6,792


		Cumulative OTTI credit losses recognized in earnings on securities still held
				Credit impairments			Credit loss
		December 31,		recognized in earnings on			reductions for	December 31,
		2015		securities that have been			securities sold	2016
		Balance		previously impaired			during the period	Balance
(In thousands)
Available-for-sale securities
	Puerto Rico government obligations	$	15,889	$	6,300	$	-	$	22,189
Private label MBS			6,405		387		-		6,792
Total OTTI credit losses for available-for-sale
debt securities		$	22,294	$	6,687	$	-	$	28,981

During the second quarter of 2017, the Corporation sold for an aggregate of $23.4 million three Puerto Rico government available-for-sale debt securities, specifically bonds of the Government Development Bank for Puerto Rico (the “GDB”) and the Puerto Rico Public Buildings Authority, carried on its book at an amortized cost at the time of sale of $23.0 million (net of $34.4 million in cumulative OTTI impairment charges). This transaction resulted in a $0.4 million recovery from previous OTTI charges reflected in the consolidated statement of income as part of “net gain on sale of investments.” Approximately $12.2 million and $6.3 million of the cumulative OTTI charges on these securities was recorded in the first quarter of 2017 and the first quarter of 2016, respectively.

For the OTTI charge recorded on the Puerto Rico government debt securities during 2017 and 2016, the Corporation considered the latest available information about the Puerto Rico government’s financial condition, including but not limited to credit ratings downgrades, revised estimates of recovery rates, and other relevant developments such as government actions, including debt exchange proposals and the fiscal plan published by the Puerto Rico government in March 2017, as applicable. The Corporation applied a discounted cash flow analysis to its Puerto Rico government debt securities in order to calculate the cash flows expected to be collected and to determine if any portion of the decline in market value of these securities was considered a credit-related OTTI. The analysis derived an estimate of value based on the present value of risk-adjusted cash flows of the underlying securities and included the following components:

The contractual future cash flows of the bonds were projected based on the key terms as set forth in the official statements for each security. Such key terms include, among others, the interest rate, amortization schedule, if any, and maturity date.

The risk-adjusted cash flows were calculated based on a probability of default analysis and recovery rate assumptions, including the weighting of different scenarios of ultimate recovery, considering the credit rating of each security. Constant monthly default rates were assumed throughout the life of the bonds, which considered the respective security's credit rating as of the date of the analysis.

The adjusted future cash flows were then discounted at the original effective yield of each investment based on the purchase price and expected risk-adjusted future cash flows as of the purchase date of each investment.

The discounted risk-adjusted cash flow analysis for the three Puerto Rico government bonds mentioned above assumed a default probability of 100%, as these three nonaccrual bonds had been in default since the third quarter of 2016. Based on this analysis, the Corporation recorded in the first quarter of 2017 credit-related OTTI amounting to $12.2 million, assuming recovery rates ranging from 15% to 80% (with a weighted average of 41%).

As of December 31, 2018, the Corporation’s available-for-sale investment securities portfolio includes bonds of the Puerto Rico Housing Finance Authority (“PRHFA”) at an amortized cost of $8.2 million (fair value - $7.0 million). Approximately $4.2 million (fair value - $2.8 million) of these bonds consist of residential pass-through mortgage-backed securities issued by the PRHFA that are collateralized by certain second mortgages originated under a program launched by the Puerto Rico government in 2010. These bonds have been structured as zero-coupon bonds for the first ten years (up to July 2019). Considering the absence of any instances of default and the insurance protection provided by the PRHFA to the underlying collateral, management concluded that these obligations were not other-than-temporarily impaired as of December 31, 2018.

In addition, during 2018 and 2016, the Corporation recorded credit-related impairment losses of $50 thousand and $0.4 million, respectively, associated with 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 on the underlying collateral. The underlying mortgages are fixed-rate, single-family loans with original high FICO scores (over 700) and moderate loan-to-value ratios (under 80%), as well as moderate delinquency levels.

	As of		As of
	December 31, 2018		December 31, 2017
	Weighted		Weighted
	Average	Range	Average	Range

Discount rate	14.5%	14.5%	14.0%	14.0%
Prepayment rate	11.4%	3.3% - 20.9%	16.4%	12.0% - 29.0%
Projected Cumulative Loss Rate	3%	0% - 6.8%	3%	0% - 6.8%

Refer to Note 29 – Fair Value, for additional information about the valuation model for private label MBS.

Total proceeds from the sale of securities available for sale during 2018, 2017 and 2016 amounted to approximately $47.8 million, $23.4 million and $219.8 million, respectively. Total proceeds from sales in 2018 consisted of proceeds of $36.2 million on the sale of U.S. agency MBS and $11.6 million on the sale of U.S. agency callable debt securities. For the year ended December 31, 2018, the Corporation recorded a loss of approximately $59 thousand on the sale of U.S agency MBS and a gain of approximately $22 thousand on the sale of the U.S. agency callable debt securities. In 2017, the Corporation recorded a $0.4 million recovery from previous OTTI charges on the sale of Puerto Rico government debt securities with an amortized cost of $23.0 million. Total proceeds from sales in 2016 consisted of proceeds of $204.8 million on the sale of U.S. agency MBS and $15.0 million on the sale of a U.S. Treasury Security. For the year ended December 31, 2016, the Corporation recorded a $6.1 million gain on the sale of U.S. agency MBS and an $8 thousand gain on the sale of the U.S. Treasury security.

The following table states the names of issuers, and the aggregate amortized cost and market value of the securities of such issuers, when the aggregate amortized cost of such securities exceeds 10% of the Corporation’s stockholders’ equity. This information excludes securities of the U.S. and Puerto Rico government. Investments in obligations issued by a state of the U.S. and its political subdivisions and agencies that are payable and secured by the same source of revenue or taxing authority, other than the U.S. government, are considered securities of a single issuer and include debt and mortgage-backed securities.

		As of				As of
	December 31, 2018				December 31, 2017
	Amortized				Amortized
	Cost		Fair Value		Cost		Fair Value
(In thousands)
FHLMC	$	387,703	$	379,653	$	375,719	$	370,855
GNMA		239,698		242,211		250,140		257,192
FNMA		791,200		775,673		801,198		796,726
FHLB		334,717		330,714		299,949		296,767

Investments Held to Maturity

The amortized cost, gross unrecognized gains and losses, estimated fair value, weighted-average yield and contractual maturities of investment securities held to maturity as of December 31, 2018 and December 31, 2017 were as follows:

		December 31, 2018
		Amortized cost						Fair value
				Gross Unrecognized						Weighted-
(Dollars in thousands)				gains		losses				average yield%

Puerto Rico Municipal Bonds:
	After 1 to 5 years	$	6,100	$	-	$	435	$	5,665	4.79
	After 5 to 10 years		53,016		-		5,360		47,656	6.00
	After 10 years		85,699		-		13,362		72,337	5.86
Total investment securities
	held to maturity	$	144,815	$	-	$	19,157	$	125,658	5.86

		December 31, 2017
		Amortized cost						Fair value
				Gross Unrecognized						Weighted-
(Dollars in thousands)				gains		losses				average yield%

Puerto Rico Municipal Bonds:
	After 1 to 5 years	$	3,853	$	-	$	173	$	3,680	5.38
	After 5 to 10 years		39,523		-		3,048		36,475	5.28
	After 10 years		107,251		-		16,374		90,877	4.93
Total investment securities
	held to maturity	$	150,627	$	-	$	19,595	$	131,032	5.03

	As of December 31, 2018
	Less than 12 months				12 months or more				Total
			Unrecognized				Unrecognized				Unrecognized
	Fair Value		Losses		Fair Value		Losses		Fair Value		Losses
		(In thousands)
Debt securities:
Puerto Rico Municipal Bonds	$	-	$	-	$	125,658	$	19,157	$	125,658	$	19,157


	As of December 31, 2017
	Less than 12 months				12 months or more				Total
			Unrecognized				Unrecognized				Unrecognized
	Fair Value		Losses		Fair Value		Losses		Fair Value		Losses
		(In thousands)
Debt securities:
Puerto Rico Municipal Bonds	$	-	$	-	$	131,032	$	19,595	$	131,032	$	19,595

The Corporation determines the fair market value of Puerto Rico Municipal Bonds based on a discounted cash flow analysis using risk-adjusted discount rates. A security with similar characteristics traded in the open market is used as a proxy for each municipal bond. Then the cash flow is discounted at the average spread over the discount curve exhibited by the proxy security at the end of each quarter, plus any corresponding discount rate adjustments to reflect recent transactions or market yield expectations for these type of transactions.

All of the Puerto Rico Municipal Bonds are performing and current as to scheduled contractual payments as of December 31, 2018. Approximately 70% of the held-to-maturity municipal bonds were issued by three of the largest municipalities in Puerto Rico. The vast majority of revenues of these three municipalities is independent of the Puerto Rico central government. These obligations typically are not issued in bearer form, nor are they registered with the SEC, and are not rated by external credit agencies. In most cases, these bonds have priority over the payment of operating costs and expenses of the municipality, which are required by law to levy special property taxes in such amounts as are required for the payment of all of their respective general obligation bonds and loans. The Corporation performs periodic credit quality reviews on these issuers. Based on the quarterly analysis performed, management concluded that no individual debt security held to maturity was other-than-temporarily impaired as of December 31, 2018.

The Financial Oversight and Management Board for Puerto Rico (the “PROMESA oversight board”) has not designated any of Puerto Rico’s 78 municipalities as covered entities under the Puerto Rico Oversight, Management, and Economic Stability Act. (“PROMESA”). However, while the latest fiscal plan certified by the PROMESA oversight board did not contemplate a restructuring of the debt of Puerto Rico’s municipalities, the plan did call for the gradual elimination of budgetary subsidies provided to municipalities by the central government. Furthermore, municipalities are also likely to be affected by the negative economic and other effects resulting from expense, revenue or cash management measures taken by the Puerto Rico government to address its fiscal and liquidity shortfalls, or measures included in fiscal plans of other government entities, such as the fiscal plans of the GDB and the Puerto Rico Electric Power Authority (“PREPA”). Given the uncertain effect that the negative fiscal situation of the Puerto Rico central government and the measures taken, or to be taken, by other government entities may have on municipalities, the Corporation cannot be certain whether future impairment charges will be required relating to these securities.

From time to time, the Corporation has securities held to maturity with an original maturity of three months or less that are considered cash and cash equivalents and are classified as money market investments in the consolidated statements of financial condition. As of December 31, 2018 and December 31, 2017, the Corporation had no outstanding securities held to maturity that were classified as cash and cash equivalents.