11. DERIVATIVE INSTRUMENTS

The following tables summarize the gross fair values of individual derivative instruments and the impact of legal rights of offset as reported in the Consolidated Balance Sheets as of December 31, 2016 and 2015.



	Gross Amounts of Recognized Assets / Liabilities		Gross Amounts Offset in the Consolidated Balance Sheet		Net Amounts of Assets/ Liabilities Presented in the Consolidated Balance Sheet			Gross Amount of Collateral Received / Pledged Not Offset in the Consolidated Balance Sheet		Net Amount
December 31, 2016:
Derivative Assets:
Interest rate swaps	$	139,045	$	61,839	$	77,206		$	—	$	77,206
Futures contracts	536		—		536			—		536
Total non-VIE derivative assets	$	139,581	$	61,839	$	77,742		$	—	$	77,742
Derivative Liabilities:
Credit derivatives	$	15,349	$	—	$	15,349		$	—	$	15,349
Interest rate swaps	365,776		61,839		303,937			156,925		147,012
Total non-VIE derivative liabilities	$	381,125	$	61,839	$	319,286		$	156,925	$	162,361
Variable Interest Entities Derivative Assets:
Currency swaps	$	80,407	$	—	$	80,407		$	—	$	80,407
Total VIE derivative assets	$	80,407	$	—	$	80,407		$	—	$	80,407
Variable interest entities derivative liabilities:
Interest rate swaps	$	2,078,601	$	—	$	2,078,601		$	—	$	2,078,601
Total VIE derivative liabilities	$	2,078,601	$	—	$	2,078,601		$	—	$	2,078,601

December 31, 2015:
Derivative Assets:
Interest rate swaps	$	137,015	$	52,129	$	84,886		$	—	$	84,886
Futures contracts	109		—		109			—		109
Total non-VIE derivative assets	$	137,124	$	52,129	$	84,995		$	—	$	84,995
Derivative Liabilities:
Credit derivatives	$	34,543	$	—	$	34,543		$	—	$	34,543
Interest rate swaps	370,944		52,129		318,815			176,386		142,429
Total non-VIE derivative liabilities	$	405,487	$	52,129	$	353,358		$	176,386	$	176,972
Variable Interest Entities Derivative Assets:
Currency swaps	$	36,862	$	36,862	$	—		$	—	$	—
Total VIE derivative assets	$	36,862	$	36,862	$	—		$	—	$	—
Variable Interest Entities Derivative Liabilities:
Interest rate swaps	$	1,965,265	$	—	$	1,965,265		$	—	$	1,965,265
Currency swaps	—		36,862		(36,862		)	—		(36,862		)
Total VIE derivative liabilities	$	1,965,265	$	36,862	$	1,928,403		$	—	$	1,928,403

Amounts recognized for the right to reclaim cash collateral or the obligation to return cash collateral are not offset against fair value amounts recognized for derivative instruments on the Consolidated Balance Sheets. The amounts representing the right to reclaim cash collateral and posted margin, recorded in “Other assets” were $137,701 and $165,073 as of December 31, 2016 and 2015, respectively. There were no amounts held representing an obligation to return cash collateral as of December 31, 2016 and 2015.



	Location of Gain or (Loss) Recognized in Consolidated Statements of Total Comprehensive Income (Loss)	Amount of Gain or (Loss) Recognized in Consolidated Statement of Total Comprehensive Income (Loss) – Year Ended December 31,
		2016			2015			2014
Financial Guarantee:
Credit derivatives	Net change in fair value of credit derivatives	$	20,106		$	41,701		$	23,906
Financial Services derivatives products:
Interest rate swaps	Derivative products	(50,082		)	(41,177		)	(173,615		)
Futures contracts	Derivative products	(191		)	(1,367		)	(7,472		)
Total Financial Services derivative products		(50,273		)	(42,544		)	(181,087		)
Variable Interest Entities:
Currency swaps	Income (loss) on variable interest entities	58,990			103,757			24,577
Interest rate swaps	Income (loss) on variable interest entities	(574,554		)	168,003			(452,434		)
Total Variable Interest Entities		(515,564		)	271,760			(427,857		)
Total derivative contracts		$	(545,731	)	$	270,917		$	(585,038	)

Financial Guarantee Credit Derivatives:

Credit derivatives, which are privately negotiated contracts, provide the counterparty with credit protection against the occurrence of a specific event such as a payment default or bankruptcy relating to an underlying obligation. Upon a credit event, Ambac is required to make payments equal to the difference between the scheduled debt service payment and the actual payment made by the issuer. Substantially all of Ambac’s credit derivative contracts relate to structured finance transactions. Credit derivatives issued are insured by Ambac Assurance. None of the outstanding credit derivative transactions at December 31, 2016 include ratings based collateral-posting triggers or otherwise require Ambac to post collateral regardless of Ambac’s ratings or the size of the mark to market exposure to Ambac.

The portfolio of our credit derivatives were written on a “pay-as-you-go” basis. Similar to an insurance policy execution, pay-as-you-go provides that Ambac pays interest shortfalls on the referenced transaction as they are incurred on each scheduled payment date, but only pays principal shortfalls upon the earlier of (i) the date on which the assets designated to fund the referenced obligation have been disposed of and (ii) the legal final maturity date of the referenced obligation.

Ambac maintains internal credit ratings on its guaranteed obligations, including credit derivative contracts, solely to indicate management’s view of the underlying credit quality of the guaranteed obligations. Independent rating agencies may have assigned different ratings on the credits in Ambac’s portfolio than Ambac’s internal ratings. The following tables summarize the gross principal notional outstanding for CDS contracts, by Ambac rating, for each major category as of December 31, 2016 and 2015:



	2016						2015
December 31,	CLO		Other		Total		CLO		Other		Total
Ambac Rating
AAA	$	—	$	—	$	—	$	—	$	—	$	—
AA	123,052		192,149		315,201		295,254		241,458		536,712
A	—		227,146		227,146		—		9,322		9,322
BBB ⁽¹⁾	—		127,250		127,250		—		356,323		356,323
Below investment grade ⁽²⁾	—		67,783		67,783		—		68,526		68,526
Total	$	123,052	$	614,328	$	737,380	$	295,254	$	675,629	$	970,883


(1)	BBB internal ratings reflect bonds which are of medium grade credit quality with adequate capacity to pay interest and repay principal. Certain protective elements and margins may weaken under adverse economic conditions and changing circumstances. These bonds are more likely than higher rated bonds to exhibit unreliable protection levels over all cycles.


(2)	Below investment grade internal ratings reflect bonds which are of speculative grade credit quality with the adequacy of future margin levels for payment of interest and repayment of principal potentially adversely affected by major ongoing uncertainties or exposure to adverse conditions.

The tables below summarize information by major category as of December 31, 2016 and 2015:



	2016						2015
December 31,	CLO		Other		Total		CLO		Other		Total
Number of CDS transactions	3		5		8		5		9		14
Remaining expected weighted-average life of obligations (in years)	1.8		5.9		5.2		1.1		5.6		4.3
Gross principal notional outstanding	$	123,052	$	614,328	$	737,380	$	295,254	$	675,629	$	970,883
Net derivative liabilities at fair value	$	213	$	15,136	$	15,349	$	1,837	$	32,706	$	34,543

The maximum potential amount of future payments under Ambac’s credit derivative contracts is generally the gross principal notional outstanding amount included in the above table plus future interest payments payable by the derivative reference obligations. Since Ambac’s credit derivatives typically reference obligations of or assets held by special purpose entities that meet the definition of a VIE, the amount of maximum potential future payments for credit derivatives is included in the table in Note 3. Special Purpose Entities, Including Variable Interest Entities.

Changes in fair value of Ambac’s credit derivative contracts are accounted for at fair value since they do not qualify for the financial guarantee scope exception under the Derivatives and Hedging Topic of the ASC. Changes in fair value are recorded in “Net change in fair value of credit derivatives” on the Consolidated Statements of Total Comprehensive Income. Although CDS contracts are accounted for at fair value, they are surveilled similar to non-derivative financial guarantee contracts. As with financial guarantee insurance policies, Ambac’s Portfolio Risk Management group tracks credit migration of CDS contracts’ reference obligations from period to period.

Adversely classified credits are assigned risk classifications by the Portfolio Risk Management group. As of December 31, 2016, there are two credit derivative contracts on Ambac’s adversely classified credit listing, with a net derivative liability fair value of $6,123 and gross notional principal outstanding of $67,783. As of December 31, 2015, there were two CDS contracts on Ambac’s adversely classified credit listing, with a net derivative liability fair value of $19,820 and total notional principal outstanding of $68,526.

Financial Services Derivative Products:

Ambac, through its subsidiary Ambac Financial Services (“AFS”), provides interest rate swaps to states, municipalities and their authorities, asset-backed issuers and other entities in connection with their financings. AFS manages its interest rate swaps business with the goal of retaining some basis risk and excess interest rate sensitivity as an economic hedge against the effects of rising interest rates elsewhere in the Company, including on Ambac’s financial guarantee exposures. As of December 31, 2016 and 2015 the notional amounts of AFS’s trading derivative products are as follows:



	Notional - December 31,
Type of derivative	2016		2015
Interest rate swaps—receive-fixed/pay-variable	$	973,130	$	773,072
Interest rate swaps—pay-fixed/receive-variable	1,874,678		1,429,644
Interest rate swaps—basis swaps	—		38,965
Futures contracts	195,000		100,000

Derivatives of Consolidated Variable Interest Entities

Certain VIEs consolidated under the Consolidation Topic of the ASC entered into derivative contracts to meet specified purposes within the securitization structure. The notional for VIE derivatives outstanding as of December 31, 2016 and 2015 are as follows:



	Notional - December 31,
Type of VIE derivative	2016		2015
Interest rate swaps—receive-fixed/pay-variable	$	1,352,010	$	1,616,289
Interest rate swaps—pay-fixed/receive-variable	2,300,584		2,796,496
Currency swaps	312,357		331,992
Credit derivatives	12,059		15,616

Contingent Features in Derivatives Related to Ambac Credit Risk

Ambac’s over-the-counter interest rate swaps are centrally cleared when eligible. Certain interest rate swaps remain with professional swap-dealer counterparties and certain front-end counterparties. These non-cleared swaps are generally executed under standardized derivative documents including collateral support and master netting agreements. Under these agreements, Ambac is required to post collateral in the event net unrealized losses exceed predetermined threshold levels. Additionally, given that Ambac Assurance is no longer rated by an independent rating agency, counterparties have the right to terminate the swap positions.

As of December 31, 2016 and 2015, the net liability fair value of all derivative instruments with contingent features linked to Ambac’s own credit risk was $82,944 and $95,415, respectively, related to which Ambac had posted cash and securities as collateral with a fair value of $128,754 and $147,974, respectively. All such ratings-based contingent features have been triggered as requiring maximum collateral levels to be posted by Ambac while preserving counterparties’ rights to terminate the contracts. Assuming all contracts terminated on December 31, 2016, settlement of collateral balances and net derivative liabilities would result in a net receipt of cash and/or securities by Ambac. If counterparties elect to exercise their right to terminate, the actual termination payment amounts will be determined in accordance with derivative contract terms, which may result in amounts that differ from values as reported in Ambac’s financial statements.