5. Investment Securities

Investment securities were comprised of the following as of September 30, 2017 and December 31, 2016 (amounts in thousands):


	Carrying Value as of
	September 30, 2017		December 31, 2016
RMBS, available-for-sale	$	253,252	$	253,915
CMBS, fair value option (1)		1,026,634		990,570
Held-to-maturity (“HTM”) securities		411,196		509,980
Equity security, fair value option		13,529		12,177
Subtotal—Investment securities		1,704,611		1,766,642
VIE eliminations (1)		(1,002,793)		(959,024)
Total investment securities	$	701,818	$	807,618

(1)

Certain fair value option CMBS are eliminated in consolidation against VIE liabilities pursuant to ASC 810.

Purchases, sales and principal collections for all investment securities were as follows (amounts in thousands):


	RMBS,		CMBS, fair			HTM		Equity
	available-for-sale		value option			Securities		Security		Total
Three Months Ended September 30, 2017
Purchases (1)	$	—	$	11,798		$	50,000	$	—	$	61,798
Sales (2)		—		—			—		—		—
Principal collections		10,307		1,666			111,671		—		123,644
Three Months Ended September 30, 2016
Purchases (1)	$	8,868	$	—		$	—	$	—	$	8,868
Sales (2)		—		17,456	(5)		—		—		17,456
Principal collections		9,917		12,289			566		—		22,772


	RMBS,		CMBS, fair			HTM		Equity
	available-for-sale		value option			Securities		Security		Total
Nine Months Ended September 30, 2017
Purchases (3)	$	7,433	$	11,798		$	50,000	$	—	$	69,231
Sales (4)		—		11,134			—		—		11,134
Principal collections		29,090		8,754			172,059		—		209,903
Nine Months Ended September 30, 2016
Purchases (3)	$	97,204	$	57,576		$	204,730	$	—	$	359,510
Sales (4)		—		18,725	(5)		—		—		18,725
Principal collections		32,925		31,734			5,657		—		70,316

(1)

During the three months ended September 30, 2017 and 2016, we purchased $30.9 million and $25.6 million of CMBS, respectively, for which we elected the fair value option. Due to our consolidation of securitization VIEs, $19.1 million and $25.6 million, respectively, of this amount is eliminated and reflected as repayment of debt of consolidated VIEs in our condensed consolidated statements of cash flows.

(2)

During the three months ended September 30, 2017 and 2016, we sold $1.5 million and $17.5 million of CMBS, respectively, for which we had previously elected the fair value option. Due to our consolidation of securitization VIEs, $1.5 million of our sales during the three months ended September 30, 2017 is eliminated and reflected as issuance of debt of consolidated VIEs in our condensed consolidated statements of cash flows. During the three months ended September 30, 2016, none of our sales were eliminated due to the consolidation of securitization VIEs.

(3)

During the nine months ended September 30, 2017 and 2016, we purchased $92.6 million and $126.9 million of CMBS, respectively, for which we elected the fair value option. Due to our consolidation of securitization VIEs, $80.8 million and $69.3 million, respectively, of this amount is eliminated and reflected as repayment of debt of consolidated VIEs in our condensed consolidated statements of cash flows.

(4)

During the nine months ended September 30, 2017 and 2016, we sold $22.8 million and $19.3 million of CMBS, respectively, for which we had previously elected the fair value option. Due to our consolidation of securitization VIEs, $11.7 million and $0.6 million, respectively, of this amount is eliminated and reflected as issuance of debt of consolidated VIEs in our condensed consolidated statements of cash flows.

(5)

Settlement of $14.9 million occurred subsequent to September 30, 2016. We account for all investment securities transactions on a trade-date basis.

RMBS, Available-for-Sale

The Company classified all of its RMBS as available-for-sale as of September 30, 2017 and December 31, 2016. These RMBS are reported at fair value in the balance sheet with changes in fair value recorded in accumulated other comprehensive income (“AOCI”).

The tables below summarize various attributes of our investments in available-for-sale RMBS as of September 30, 2017 and December 31, 2016 (amounts in thousands):


							Unrealized Gains or (Losses)
							Recognized in AOCI
	Purchase				Recorded				Gross		Gross		Net
	Amortized		Credit		Amortized		Non-Credit		Unrealized		Unrealized		Fair Value
	Cost		OTTI		Cost		OTTI		Gains		Losses		Adjustment		Fair Value
September 30, 2017
RMBS	$	207,492	$	(9,897)	$	197,595	$	(95)	$	55,766	$	(14)	$	55,657	$	253,252
December 31, 2016
RMBS	$	219,171	$	(10,185)	$	208,986	$	(94)	$	45,113	$	(90)	$	44,929	$	253,915


	Weighted Average Coupon (1)		Weighted Average Rating	WAL (Years) (2)
September 30, 2017
RMBS	2.5	%	B-	6.4
December 31, 2016
RMBS	2.1	%	B	6.1

(1)

Calculated using the September 30, 2017 and December 31, 2016 one-month LIBOR rate of 1.232% and 0.772%, respectively, for floating rate securities.

(2)

Represents the WAL of each respective group of securities as of the respective balance sheet date. The WAL of each individual security is calculated using projected amounts and projected timing of future principal payments.

As of September 30, 2017, approximately $211.6 million, or 83.6%, of RMBS were variable rate and paid interest at LIBOR plus a weighted average spread of 1.21%. As of December 31, 2016, approximately $211.1 million, or 83.2%, of RMBS were variable rate and paid interest at LIBOR plus a weighted average spread of 1.22%. We purchased all of the RMBS at a discount that will be accreted into income over the expected remaining life of the security. The majority of the income from this strategy is earned from the accretion of these discounts.

The following table contains a reconciliation of aggregate principal balance to amortized cost for our RMBS as of September 30, 2017 and December 31, 2016 (amounts in thousands):


	September 30, 2017		December 31, 2016
Principal balance	$	379,432	$	399,883
Accretable yield		(58,763)		(64,290)
Non-accretable difference		(123,074)		(126,607)
Total discount		(181,837)		(190,897)
Amortized cost	$	197,595	$	208,986

The principal balance of credit deteriorated RMBS was $356.2 million and $371.5 million as of September 30, 2017 and December 31, 2016, respectively. Accretable yield related to these securities totaled $51.8 million and $55.9 million as of September 30, 2017 and December 31, 2016, respectively.

The following table discloses the changes to accretable yield and non-accretable difference for our RMBS during the three and nine months ended September 30, 2017 (amounts in thousands):


			Non-Accretable
Three Months Ended September 30, 2017	Accretable Yield		Difference
Balance as of July 1, 2017	$	59,777	$	126,708
Accretion of discount		(3,187)		—
Principal write-downs, net		—		(1,461)
Purchases		—		—
Sales		—		—
OTTI		—		—
Transfer to/from non-accretable difference		2,173		(2,173)
Balance as of September 30, 2017	$	58,763	$	123,074

Nine Months Ended September 30, 2017
Balance as of January 1, 2017	$	64,290	$	126,607
Accretion of discount		(10,375)		—
Principal write-downs, net		—		(3,828)
Purchases		311		4,723
Sales		—		—
OTTI		109		—
Transfer to/from non-accretable difference		4,428		(4,428)
Balance as of September 30, 2017	$	58,763	$	123,074

We have engaged a third party manager who specializes in RMBS to execute the trading of RMBS, the cost of which was $0.5 million for the three months ended September 30, 2017 and 2016 and $1.4 million and $1.2 million for the nine months ended September 30, 2017 and 2016, respectively, which has been recorded as management fees in the accompanying condensed consolidated statements of operations.

The following table presents the gross unrealized losses and estimated fair value of any available-for-sale securities that were in an unrealized loss position as of September 30, 2017 and December 31, 2016, and for which OTTIs (full or partial) have not been recognized in earnings (amounts in thousands):


	Estimated Fair Value				Unrealized Losses
	Securities with a		Securities with a		Securities with a		Securities with a
	loss less than		loss greater than		loss less than		loss greater than
	12 months		12 months		12 months		12 months
As of September 30, 2017
RMBS	$	10,463	$	645	$	(80)	$	(29)
As of December 31, 2016
RMBS	$	8,819	$	957	$	(90)	$	(94)

As of both September 30, 2017 and December 31, 2016, there were three securities with unrealized losses reflected in the table above. After evaluating these securities and recording adjustments for credit-related OTTI, we concluded that the remaining unrealized losses reflected above were noncredit-related and would be recovered from the securities’ estimated future cash flows. We considered a number of factors in reaching this conclusion, including that we did not intend to sell the securities, it was not considered more likely than not that we would be forced to sell the securities prior to recovering our amortized cost, and there were no material credit events that would have caused us to otherwise conclude that we would not recover our cost. Credit losses, which represent most of the OTTI we record on securities, are calculated by comparing (i) the estimated future cash flows of each security discounted at the yield determined as of the initial acquisition date or, if since revised, as of the last date previously revised, to (ii) our amortized cost basis. Significant judgment is used in projecting cash flows for our non-agency RMBS. As a result, actual income and/or impairments could be materially different from what is currently projected and/or reported.

CMBS, Fair Value Option

As discussed in the “Fair Value Option” section of Note 2 herein, we elect the fair value option for the Investing and Servicing Segment’s CMBS in an effort to eliminate accounting mismatches resulting from the current or potential consolidation of securitization VIEs. As of September 30, 2017, the fair value and unpaid principal balance of CMBS where we have elected the fair value option, before consolidation of securitization VIEs, were $1.0 billion and $4.1 billion, respectively. The $1.0 billion fair value balance represents our economic interests in these assets. However, as a result of our consolidation of securitization VIEs, the vast majority of this fair value (all except $23.8 million at September 30, 2017) is eliminated against VIE liabilities before arriving at our GAAP balance for fair value option CMBS.

As of September 30, 2017, none of our CMBS where we have elected the fair value option were variable rate.

HTM Securities

The table below summarizes unrealized gains and losses of our investments in HTM securities as of September 30, 2017 and December 31, 2016 (amounts in thousands):


	Net Carrying Amount		Gross Unrealized		Gross Unrealized
	(Amortized Cost)		Holding Gains		Holding Losses		Fair Value
September 30, 2017
CMBS	$	390,966	$	2,446	$	(5,875)	$	387,537
Preferred interests		20,230		675		—		20,905
Total	$	411,196	$	3,121	$	(5,875)	$	408,442
December 31, 2016
CMBS	$	490,107	$	2,106	$	(8,648)	$	483,565
Preferred interests		19,873		727		—		20,600
Total	$	509,980	$	2,833	$	(8,648)	$	504,165

The table below summarizes the maturities of our HTM CMBS and our HTM preferred equity interests in limited liability companies that own commercial real estate as of September 30, 2017 (amounts in thousands):


			Preferred
	CMBS		Interests		Total
Less than one year	$	129,282	$	—	$	129,282
One to three years		261,684		—		261,684
Three to five years		—		—		—
Thereafter		—		20,230		20,230
Total	$	390,966	$	20,230	$	411,196

Equity Security, Fair Value Option

During 2012, we acquired 9,140,000 ordinary shares from a related-party in Starwood European Real Estate Finance Limited (“SEREF”), a debt fund that is externally managed by an affiliate of our Manager and is listed on the London Stock Exchange. We have elected to report the investment using the fair value option because the shares are listed on an exchange, which allows us to determine the fair value using a quoted price from an active market, and also due to potential lags in reporting resulting from differences in the respective regulatory requirements. The fair value of the investment remeasured in USD was $13.5 million and $12.2 million as of September 30, 2017 and December 31, 2016, respectively. As of September 30, 2017, our shares represent an approximate 2% interest in SEREF.