FAIR VALUE MEASUREMENTS

9 Months Ended

Sep. 30, 2023

FAIR VALUE MEASUREMENTS

FAIR VALUE MEASUREMENTS

NOTE 8—FAIR VALUE MEASUREMENTS

The Company uses valuation techniques that are consistent with the market approach, the income approach, and/or the cost approach to measure assets and liabilities that are measured at fair value. Inputs to valuation techniques refer to the assumptions that market participants would use in pricing the asset or liability. Inputs may be observable, meaning those that reflect the assumptions market participants would use in pricing the asset or liability developed based on market data obtained from independent sources, or unobservable, meaning those that reflect the reporting entity's own assumptions about the assumptions market participants would use in pricing the asset or liability developed based on the best information available in the circumstances. In that regard, accounting standards establish a fair value hierarchy for valuation inputs that gives the highest priority to quoted prices in active markets for identical assets or liabilities and the lowest priority to unobservable inputs. The fair value hierarchy is as follows:

● Level 1—Financial assets and liabilities whose values are based on unadjusted quoted prices in active markets for identical assets or liabilities that the Company has the ability to access.

● Level 2—Financial assets and liabilities whose values are based on inputs other than quoted prices included in Level 1 that are observable for the asset or liability, either directly or indirectly. These might include quoted prices for similar assets or liabilities in active markets, quoted prices for identical or similar assets or liabilities in markets that are not active, inputs other than quoted prices that are observable for the asset or liability (such as interest rates, discount rates, volatilities, prepayment speeds, earnings rates, credit risk, etc.) or inputs that are derived principally from, or corroborated by, market data by correlation or other means.

● Level 3—Financial assets and liabilities whose values are based on inputs that are both unobservable and significant to the overall valuation.

The Company's MSRs are measured at fair value at inception, and thereafter on a nonrecurring basis. That is, the instruments are not measured at fair value on an ongoing basis but are subject to fair value measurement when there is impairment and for disclosure purposes (NOTE 3). The Company's MSRs do not trade in an active, open market with readily observable prices. Accordingly, the estimated fair value of the Company’s MSRs was developed using discounted cash flow models that calculate the present value of estimated future net servicing income. The model considers contractually specified servicing fees, prepayment assumptions, estimated placement fee revenue from escrow deposits, costs to service, and other economic factors. The Company periodically reassesses and adjusts, when necessary, the underlying inputs and assumptions used in the model to reflect observable market conditions and assumptions that market participants consider in valuing MSR assets. MSRs are carried at the lower of amortized cost or fair value.

A description of the valuation methodologies used for assets and liabilities measured at fair value, as well as the general classification of such instruments pursuant to the valuation hierarchy, is set forth below.

● Derivative Instruments—The derivative positions consist of interest rate lock commitments with borrowers and forward sale agreements to the Agencies. The fair value of these instruments is estimated using a discounted cash flow model developed based on changes in the applicable U.S. Treasury rate and other observable market data. The value was determined after considering the potential impact of collateralization, adjusted to reflect nonperformance risk of both the counterparty and the Company, and are classified within Level 3 of the valuation hierarchy.

● Loans Held for Sale—All loans held for sale presented in the Condensed Consolidated Balance Sheets are reported at fair value. The Company determines the fair value of the loans held for sale using discounted cash flow models that incorporate quoted observable inputs from market participants, such as changes in the U.S. Treasury rate. Therefore, the Company classifies these loans held for sale as Level 2.

● Pledged Securities—Investments in money market funds are valued using quoted market prices from recent trades. Therefore, the Company classifies this portion of pledged securities as Level 1. The Company determines the fair value of its AFS investments in Agency debt securities using discounted cash flows that incorporate observable inputs from market participants and then compares the fair value to broker estimates of fair value. Consequently, the Company classifies this portion of pledged securities as Level 2.

● Contingent Consideration Liabilities—Contingent consideration liabilities from acquisitions are recognized at fair value and subsequently remeasured using a Monte Carlo simulation that uses updated management forecasts and current valuation assumptions and discount rates. The Company determines the fair value of each contingent consideration liability based on probability of achievement, which incorporates management estimates. As a result, the Company classifies these liabilities as Level 3.

The following table summarizes financial assets and financial liabilities measured at fair value on a recurring basis as of September 30, 2023 and December 31, 2022, segregated by the level of the valuation inputs within the fair value hierarchy used to measure fair value:

							Balance as of
(in thousands)	Level 1		Level 2		Level 3		Period End
September 30, 2023
Assets
Loans held for sale	$	—	$	758,926	$	—	$	758,926
Pledged securities		46,558		130,951		—		177,509
Derivative assets		—		—		33,617		33,617
Total	$	46,558	$	889,877	$	33,617	$	970,052
Liabilities
Derivative liabilities	$	—	$	—	$	2,065	$	2,065
Contingent consideration liabilities		—		—		161,183		161,183
Total	$	—	$	—	$	163,248	$	163,248
December 31, 2022
Assets
Loans held for sale	$	—	$	396,344	$	—	$	396,344
Pledged securities		14,658		142,624		—		157,282
Derivative assets		—		—		17,636		17,636
Total	$	14,658	$	538,968	$	17,636	$	571,262
Liabilities
Derivative liabilities	$	—	$	—	$	2,076	$	2,076
Contingent consideration liabilities		—		—		200,346		200,346
Total	$	—	$	—	$	202,422	$	202,422

There were no transfers between any of the levels within the fair value hierarchy during the nine months ended September 30, 2023.

Derivative instruments (Level 3) are outstanding for short periods of time (generally less than 60 days). A roll forward of derivative instruments is presented below for the three and nine months ended September 30, 2023 and 2022:

	For the three months ended				For the nine months ended
	September 30,				September 30,
Derivative Assets and Liabilities, net (in thousands)	2023		2022		2023		2022
Beginning balance	$	20,241	$	42,634	$	15,560	$	30,961
Settlements		(80,213)		42,458		(259,655)		(235,463)
Realized gains (losses) recorded in earnings(1)		59,972		(85,092)		244,095		204,502
Unrealized gains (losses) recorded in earnings(1)		31,552		231,241		31,552		231,241
Ending balance	$	31,552	$	231,241	$	31,552	$	231,241

(1) Realized and unrealized gains (losses) from derivatives are recognized in Loan origination and debt brokerage fees, net and Fair value of expected net cash flows from servicing, net in the Condensed Consolidated Statements of Income.

The following table presents information about significant unobservable inputs used in the recurring measurement of the fair value of the Company’s Level 3 assets and liabilities as of September 30, 2023:

	Quantitative Information about Level 3 Fair Value Measurements
(in thousands)	Fair Value		Valuation Technique	Unobservable Input (1)	Input Range (1)	Weighted Average (2)
Derivative assets	$	33,617	Discounted cash flow	Counterparty credit risk	—	—
Derivative liabilities	$	2,065	Discounted cash flow	Counterparty credit risk	—	—
Contingent consideration liabilities	$	161,183	Monte Carlo Simulation	Probability of earnout achievement	48% - 100%	66%

(1) Significant changes in this input may lead to significant changes in the fair value measurements.

(2) Contingent consideration weighted based on maximum gross earnout amount.

The carrying amounts and the fair values of the Company's financial instruments as of September 30, 2023 and December 31, 2022 are presented below:

	September 30, 2023				December 31, 2022
	Carrying		Fair		Carrying		Fair
(in thousands)	Amount		Value		Amount		Value
Financial Assets:
Cash and cash equivalents	$	236,321	$	236,321	$	225,949	$	225,949
Restricted cash		17,768		17,768		17,676		17,676
Pledged securities		177,509		177,509		157,282		157,282
Loans held for sale		758,926		758,926		396,344		396,344
Loans held for investment, net(1)		39,891		40,000		200,247		200,900
Derivative assets(1)		33,617		33,617		17,636		17,636
Total financial assets	$	1,264,032	$	1,264,141	$	1,015,134	$	1,015,787
Financial Liabilities:
Derivative liabilities(2)	$	2,065	$	2,065	$	2,076	$	2,076
Contingent consideration liabilities(2)		161,183		161,183		200,346		200,346
Warehouse notes payable		790,742		791,178		537,531		538,134
Notes payable		774,677		788,500		704,103		708,546
Total financial liabilities	$	1,728,667	$	1,742,926	$	1,444,056	$	1,449,102

(1) Included as a component of Other Assets in the Condensed Consolidated Balance Sheets.

(2) Included as a component of Other Liabilities in the Condensed Consolidated Balance Sheets.

The following methods and assumptions were used for recurring fair value measurements as of September 30, 2023 and December 31, 2022.

Cash and Cash Equivalents and Restricted Cash—The carrying amounts approximate fair value because of the short maturity of these instruments (Level 1).

Pledged Securities—Consist of cash, highly liquid investments in money market accounts invested in government securities, and investments in Agency debt securities. The investments of the money market funds typically have maturities of 90 days or less and are valued using quoted market prices from recent trades. The fair value of the Agency debt securities incorporates the contractual cash flows of the security discounted at market-rate, risk-adjusted yields.

Loans Held for Sale—Consist of originated loans that are generally transferred or sold within 60 days from the date that a mortgage loan is funded and are valued using discounted cash flow models that incorporate observable prices from market participants.

Contingent Consideration Liabilities— Consists of the estimated fair values of expected future earnout payments related to acquisitions completed over the past few years. The earnout liabilities are valued using a Monte Carlo simulation analysis. The fair value of the contingent consideration liabilities incorporates unobservable inputs, such as the probability of earnout achievement, volatility rates, and discount rate, to determine the expected earnout cash flows. The probability of the earnout achievement is based on management’s estimate of the expected future performance and other financial metrics of each of the acquired entities, which are subject to significant uncertainty.

Derivative Instruments—Consists of interest rate lock commitments and forward sale agreements. These instruments are valued using discounted cash flow models developed based on changes in the U.S. Treasury rate and other observable market data. The value is determined after considering the potential impact of collateralization, adjusted to reflect nonperformance risk of both the counterparty and the Company.

Fair Value of Derivative Instruments and Loans Held for Sale—In the normal course of business, the Company enters into contractual commitments to originate and sell multifamily mortgage loans at fixed prices with fixed expiration dates. The commitments become effective when the borrowers "lock-in" a specified interest rate within time frames established by the Company. All mortgagors are evaluated for creditworthiness prior to the extension of the commitment. Market risk arises if interest rates move adversely between the time of the "lock-in" of rates by the borrower and the sale date of the loan to an investor.

To mitigate the effect of the interest rate risk inherent in providing rate lock commitments to borrowers, the Company enters into a sale commitment with the investor simultaneously with the rate lock commitment with the borrower. The sale contract with the investor locks in an interest rate and price for the sale of the loan. The terms of the contract with the investor and the rate lock with the borrower are matched in substantially all respects, with the objective of eliminating interest rate risk to the extent practical. Sale commitments with the investors have an expiration date that is longer than our related commitments to the borrower to allow, among other things, for the closing of the loan and processing of paperwork to deliver the loan into the sale commitment.

Both the rate lock commitments to borrowers and the forward sale contracts to buyers are undesignated derivatives and, accordingly, are marked to fair value through Loan origination and debt brokerage fees, net in the Condensed Consolidated Statements of Income. The fair value of the Company's rate lock commitments to borrowers and loans held for sale and the related input levels includes, as applicable:

● the estimated gain of the expected loan sale to the investor (Level 2);

● the expected net cash flows associated with servicing the loan, net of any guaranty obligations retained (Level 2);

● the effects of interest rate movements between the date of the rate lock and the balance sheet date (Level 2); and

● the nonperformance risk of both the counterparty and the Company (Level 3; derivative instruments only).

The estimated gain considers the origination fees the Company expects to collect upon loan closing (derivative instruments only) and premiums the Company expects to receive upon sale of the loan (Level 2). The fair value of the expected net cash flows associated with servicing the loan is calculated pursuant to the valuation techniques applicable to the fair value of future servicing, net at loan sale (Level 2).

To calculate the effects of interest rate movements, the Company uses applicable published U.S. Treasury prices, and multiplies the price movement between the rate lock date and the balance sheet date by the notional loan commitment amount (Level 2).

The fair value of the Company's forward sales contracts to investors considers effects of interest rate movements between the trade date and the balance sheet date (Level 2). The market price changes are multiplied by the notional amount of the forward sales contracts to measure the fair value.

The fair value of the Company’s interest rate lock commitments and forward sales contracts is adjusted to reflect the risk that the agreement will not be fulfilled. The Company’s exposure to nonperformance in interest rate lock commitments and forward sale contracts is represented by the contractual amount of those instruments. Given the credit quality of our counterparties and the short duration of interest rate lock commitments and forward sale contracts, the risk of nonperformance by the Company’s counterparties has historically been minimal (Level 3).

The following table presents the components of fair value and other relevant information associated with the Company’s derivative instruments and loans held for sale as of September 30, 2023 and December 31, 2022:

			Fair Value Adjustment Components						Balance Sheet Location
													Fair Value
	Notional or		Estimated				Total						Adjustment
	Principal		Gain		Interest Rate		Fair Value		Derivative		Derivative		to Loans
(in thousands)	Amount		on Sale		Movement		Adjustment		Assets		Liabilities		Held for Sale
September 30, 2023
Rate lock commitments	$	349,336	$	10,990	$	(6,049)	$	4,941	$	5,142	$	(201)	$	—
Forward sale contracts		1,120,941		—		26,611		26,611		28,475		(1,864)		—
Loans held for sale		771,605		7,883		(20,562)		(12,679)		—		—		(12,679)
Total			$	18,873	$	—	$	18,873	$	33,617	$	(2,065)	$	(12,679)
December 31, 2022
Rate lock commitments	$	376,870	$	12,349	$	(4,495)	$	7,854	$	7,854	$	—	$	—
Forward sale contracts		769,585		—		7,706		7,706		9,782		(2,076)		—
Loans held for sale		392,715		6,840		(3,211)		3,629		—		—		3,629
Total			$	19,189	$	—	$	19,189	$	17,636	$	(2,076)	$	3,629