Derivatives and Hedging Activities

The following table summarizes changes in the notional amount of our derivative instruments during 2018:



$ in thousands	Notional Amount as of December 31, 2017	Additions	Settlement, Termination, Expiration or Exercise		Notional Amount as of March 31, 2018
Interest Rate Swaps ^{(1) (2)}	8,620,000	1,000,000	(350,000	)	9,270,000
Futures Contracts	—	430,000	(215,000	)	215,000
Currency Forward Contracts	76,859	77,837	(76,860	)	77,836
Credit Derivatives	553,493	—	(5,797	)	547,696
Total	9,250,352	1,507,837	(647,657	)	10,110,532


(1)	Notional amount as of March 31, 2018 excludes $1.3 billion of interest rate swaps with forward start dates.


(2)	Notional amount as of December 31, 2017 excludes $500.0 million of interest rate swaps with forward start dates.

Interest Rate Swaps

Our repurchase agreements are usually settled on a short-term basis ranging from one to twelve months. At each settlement date, we typically refinance each repurchase agreement at the market interest rate at that time. In addition, our secured loans have floating interest rates. As such, we are exposed to changing interest rates. Our objectives in using interest rate derivatives are to add stability to interest expense and to manage our exposures to interest rate movements. To accomplish these objectives, we primarily use interest rate swaps as part of our interest rate risk management strategy. Interest rate swaps involve the receipt of variable-rate amounts from a counterparty in exchange for making fixed-rate payments over the life of the agreements without exchange of the underlying notional amount.

Amounts recorded in accumulated other comprehensive income ("AOCI") before we discontinued cash flow hedge accounting for our interest rate swaps are reclassified to interest expense on repurchase agreements on the condensed consolidated statements of operations as interest is accrued and paid on the related repurchase agreements over the remaining life of the interest rate swap agreements. We reclassified $6.5 million as a decrease (March 31, 2017: $6.3 million as a decrease) to interest expense for the three months ended March 31, 2018. During the next 12 months, we estimate that $25.2 million will be reclassified as a decrease to interest expense, repurchase agreements. As of March 31, 2018, $117.4 million (December 31, 2017: $123.9 million) of unrealized gains on discontinued cash flow hedges, net are still included in accumulated other comprehensive income and will be reclassified to interest expense over a period of time through December 15, 2023.

As of March 31, 2018, we had the following interest rate swaps outstanding:



$ in thousands Counterparty	Notional	Maturity Date	Fixed Interest Rate in Contract
UBS AG	500,000	5/24/2018	1.10	%
ING Capital Markets LLC	400,000	6/5/2018	0.87	%
CME Central Clearing	300,000	2/5/2021	2.50	%
CME Central Clearing	300,000	2/5/2021	2.69	%
Wells Fargo Bank, N.A.	200,000	3/15/2021	3.14	%
CME Central Clearing	500,000	5/24/2021	2.25	%
Citibank, N.A.	200,000	5/25/2021	2.83	%
CME Central Clearing	500,000	6/24/2021	2.44	%
HSBC Bank USA, National Association	550,000	2/24/2022	2.45	%
CME Central Clearing	1,000,000	6/9/2022	2.21	%
CME Central Clearing	1,000,000	8/14/2022	1.87	%
The Royal Bank of Scotland Plc	500,000	8/15/2023	1.98	%
CME Central Clearing	600,000	8/24/2023	2.88	%
HSBC Bank USA, National Association	500,000	12/15/2023	2.20	%
CME Central Clearing	450,000	1/12/2024	2.10	%
CME Central Clearing	450,000	1/25/2024	2.15	%
LCH Central Clearing	1,000,000	2/6/2025	2.77	%
CME Central Clearing	100,000	4/2/2025	2.04	%
LCH Central Clearing	220,000	8/29/2027	2.12	%
Total	9,270,000		2.22	%

As of March 31, 2018, we had the following additional interest rate swaps outstanding with forward start dates:



$ in thousands Counterparty		Notional	Maturity Date	Fixed Interest Rate in Contract
LCH Central Clearing	(1)	600,000	2/5/2026	2.64	%
CME Central Clearing	(2)	250,000	5/24/2028	2.78	%
CME Central Clearing	(2)	250,000	5/24/2028	2.39	%
LCH Central Clearing	(3)	200,000	3/15/2031	2.74	%
Total		1,300,000		2.63	%


(1)	Forward start date of 2/5/2021


(2)	Forward start date of 5/24/2018


(3)	Forward start date of 3/15/2021

Refer to Note 8 - "Collateral Positions" for further information regarding our collateral pledged to and received from our interest rate swap counterparties.

Futures and Currency Forward Contracts

We purchase or sell U.S. Treasury futures contracts to help mitigate the potential impact of changes in interest rates on the performance of our investment portfolio. We recognize realized and unrealized gains and losses associated with the purchases or sales of U.S. Treasury futures contracts in gain (loss) on derivative instruments, net in our condensed consolidated statements of operations.

We use currency forward contracts to help mitigate the potential impact of changes in foreign currency exchange rates on our investments denominated in foreign currencies. We recognize realized and unrealized gains and losses associated with the purchases or sales of currency forward contracts in gain (loss) on derivative instruments, net in our condensed consolidated statements of operations. As of March 31, 2018, we have $51.4 million (December 31, 2017: $49.7 million) of notional amount of forward contracts denominated in Pound Sterling and $26.5 million (December 31, 2017: $27.2 million) of notional amount of forward contracts denominated in Euro.

Credit Derivatives

Our GSE CRTs purchased prior to August 24, 2015 are accounted for as hybrid financial instruments consisting of a debt host contract and an embedded credit derivative. Embedded derivatives associated with GSE CRTs are recorded within mortgage-backed and credit risk transfer securities, at fair value, on the condensed consolidated balance sheets. At March 31, 2018 and December 31, 2017, terms of the GSE CRT embedded derivatives are:



$ in thousands	March 31, 2018	December 31, 2017
Fair value amount	42,932	45,400
Notional amount	547,696	553,493
Maximum potential amount of future undiscounted payments	547,696	553,493

Tabular Disclosure of the Effect of Derivative Instruments on the Balance Sheet

The table below presents the fair value of our derivative financial instruments, as well as their classification on the condensed consolidated balance sheets as of March 31, 2018 and December 31, 2017.

$ in thousands

Derivative Assets

Derivative Liabilities

As of March 31, 2018

As of December 31, 2017

As of March 31, 2018

As of December 31, 2017

Balance

Sheet

Fair Value

Balance

Sheet

Fair Value

Interest Rate Swaps Asset

26,280

6,896

Interest Rate Swaps Liability

18,558

31,548

Currency Forward Contracts

105

—

Currency Forward Contracts

184

1,217

Futures Contracts

1,612

—

Tabular Disclosure of the Effect of Derivative Instruments on the Income Statement

The tables below present the effect of our credit derivatives on the condensed consolidated statements of operations for the three months ended March 31, 2018 and 2017.

$ in thousands

Three months ended March 31, 2018

Derivative

not designated as

hedging instrument

Realized gain (loss), net

GSE CRT embedded derivative coupon interest

Unrealized gain (loss), net

Realized and unrealized credit derivative income (loss), net

GSE CRT Embedded Derivatives

—

5,633

(2,468

)

3,165

$ in thousands

Three months ended March 31, 2017

Derivative

not designated as

hedging instrument

Realized gain (loss), net

GSE CRT embedded derivative coupon interest

Unrealized gain (loss), net

Realized and unrealized credit derivative income (loss), net

GSE CRT Embedded Derivatives

—

5,807

14,148

19,955

The following table summarizes the effect of interest rate swaps, futures contracts and currency forward contracts reported in gain (loss) on derivative instruments, net on the condensed consolidated statements of operations for the three months ended March 31, 2018 and 2017:



$ in thousands	Three months ended March 31, 2018
Derivative not designated as hedging instrument	Realized gain (loss) on derivative instruments, net		Contractual net interest expense		Unrealized gain (loss), net		Gain (loss) on derivative instruments, net
Interest Rate Swaps	122,273		(12,112	)	32,374		142,535
Futures Contracts	(5,277	)	—		(1,612	)	(6,889	)
Currency Forward Contracts	(3,418	)	—		1,139		(2,279	)
Total	113,578		(12,112	)	31,901		133,367



$ in thousands	Three months ended March 31, 2017
Derivative not designated as hedging instrument	Realized gain (loss) on derivative instruments, net		Contractual net interest expense		Unrealized gain (loss), net	Gain (loss) on derivative instruments, net
Interest Rate Swaps	15,994		(22,894	)	12,950	6,050
Currency Forward Contracts	(1,076	)	—		488	(588	)
Total	14,918		(22,894	)	13,438	5,462

Credit-risk-related Contingent Features

We have agreements with each of our bilateral derivative counterparties. Some of those agreements contain a provision whereby if we default on any of our indebtedness, including default whereby repayment of the indebtedness has not been accelerated by the lender, we could be declared in default on our derivative obligations.

At March 31, 2018, the fair value of derivatives in a net liability position, which includes accrued interest but excludes any adjustment for non-performance risk related to bilateral interest rate swap agreements, was $6.6 million. We have minimum collateral posting thresholds with certain of our derivative counterparties and have pledged collateral of $8.4 million of Agency RMBS as of March 31, 2018 related to bilateral interest rate swap agreements. If we had breached any of these provisions at March 31, 2018, we could have been required to settle our obligations under these agreements at their termination value.

We also have an agreement with a clearing counterparty for our interest rate swaps that includes cross default provisions. The fair value of our centrally cleared interest rate derivative contracts, which includes accrued interest and variation margin but excludes any adjustment for non-performance risk, was a net liability of $12.2 million as of March 31, 2018.

We were in compliance with all of the financial provisions of these counterparty agreements as of March 31, 2018.