Quarterly report pursuant to Section 13 or 15(d)

REAL ESTATE SECURITIES

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REAL ESTATE SECURITIES
 9 Months Ended
Sep. 30, 2011
Notes to Financial Statements  
REAL ESTATE SECURITIES

3. REAL ESTATE SECURITIES

The following is a summary of Newcastle’s real estate securities at September 30, 2011, all of which are classified as available-for-sale and are, therefore, reported at fair value with changes in fair value recorded in other comprehensive income, except for securities that are other-than-temporarily impaired.

 

                                                                                                     
    Outstanding
Face
Amount 		    Amortized Cost Basis                             Weighted Average  
      Before
Impairment		     Other-Than-
Temporary
Impairment
(A)		     After
Impairment		                 Carrying
Value (B)		     Number
of
Securities		     Rating
(C)		   Coupon     Yield     Maturity
(Years)
(D)		     Principal
Subordination
(E)		  
            Gross Unrealized                

Asset Type

           Gains     Losses                
CMBS-Conduit   $ 1,284,683     $ 1,083,125     $ (204,159 )    $ 878,966     $ 89,119     $ (82,215 )    $ 885,870       169     BB     5.65 %      10.63 %      4.0       10.8 % 
CMBS- Single Borrower     200,385       194,802       (12,364 )      182,438       3,519       (18,283 )      167,674       35     BB     4.84 %      5.96 %      3.4       6.7 % 
CMBS-Large Loan     7,546       7,544       —         7,544       —         (454 )      7,090       2     A     1.64 %      1.84 %      0.7       11.8 % 
REIT Debt     137,393       136,760       —         136,760       5,263       (7,672 )      134,351       20     BB+     5.83 %      5.69 %      2.7       N/A  
ABS-Subprime (F)     270,430       230,742       (86,694 )      144,048       14,479       (7,623 )      150,904       64     B+     1.28 %      10.47 %      6.5       30.8 % 
ABS-Manufactured Housing     31,446       30,614       —         30,614       1,541       (246 )      31,909       7     BBB+     6.62 %      7.52 %      3.7       41.1 % 
ABS-Franchise     21,177       21,764       (10,895 )      10,869       475       (3,243 )      8,101       7     BBB-     3.15 %      6.21 %      10.4       24.6 % 
FNMA/FHLMC     210,673       221,915       —         221,915       966       (323 )      222,558       26     AAA     2.76 %      1.41 %      4.6       N/A  
CDO (G)     207,287       82,754       (14,861 )      67,893       100       (10,655 )      57,338       13     B-       2.90 %      7.96 %      1.6       N/A  
   
 
 
    
 
 
    
 
 
    
 
 
    
 
 
    
 
 
    
 
 
    
 
 
    
 
  
 
 
    
 
 
    
 
 
          
Debt Security Total /Average (H)     2,371,020       2,010,020       (328,973 )      1,681,047       115,462       (130,714 )      1,665,795       343     BB+     4.57 %      8.26 %      4.0          
   
 
 
                                                            
 
  
 
 
    
 
 
    
 
 
          
Equity Securities             1,388       (276 )      1,112       1,449       —         2,561       2                                      
           
 
 
    
 
 
    
 
 
    
 
 
    
 
 
    
 
 
    
 
 
                                      
Total           $ 2,011,408     $ (329,249 )    $ 1,682,159     $ 116,911     $ (130,714 )    $ 1,668,356     $ 345                                      
           
 
 
    
 
 
    
 
 
    
 
 
    
 
 
    
 
 
    
 
 
                                      

 

(A) Represents the cumulative impairment against amortized cost basis recorded through earnings, net of the effect of the cumulative adjustment as a result of the adoption of new accounting guidance on impairment in 2009.

 

(B) See Note 6 regarding the estimation of fair value, which is equal to carrying value for all securities.

 

(C) Represents the weighted average of the ratings of all securities in each asset type, expressed as an S&P equivalent rating. For each security rated by multiple rating agencies, the lowest rating is used. Newcastle used an implied AAA rating for the FNMA/FHLMC securities. Ratings provided were determined by third party rating agencies as of a particular date, may not be current and are subject to change (including a “negative watch” assignment) at any time.

 

(D) The weighted average maturity is based on the timing of expected principal reduction on the assets.

 

(E) Percentage of the outstanding face amount of securities that is subordinate to Newcastle’s investments.

 

(F) Includes the retained bonds with a face amount of $4.0 million and a carrying value of $1.2 million from Securitization Trust 2006 (Note 4).

 

(G) Includes two CDO bonds issued by a third party with a carrying value of $50.1 million, four CDO bonds issued by CDO V (which has been deconsolidated) held as investments by Newcastle with a carrying value of $4.6 million and seven CDO bonds issued by C-BASS with a carrying value of $2.6 million.

 

(H) The total outstanding face amount of fixed rate securities was $1.6 billion, and of floating rate securities was $0.8 billion.

 

Unrealized losses that are considered other-than-temporary are recognized currently in earnings. During the nine months ended September 30, 2011, Newcastle recorded other-than-temporary impairment charges (“OTTI”) of $14.4 million (gross of $0.8 million of other-than-temporary impairment recognized in other comprehensive income) with respect to real estate securities. Based on management’s analysis of these securities, the performance of the underlying loans and changes in market factors, Newcastle noted adverse changes in the expected cash flows on certain of these securities and concluded that they were other-than-temporarily impaired. Any remaining unrealized losses on Newcastle’s securities were primarily the result of changes in market factors, rather than issue-specific credit impairment. The following table summarizes Newcastle’s securities in an unrealized loss position as of September 30, 2011.

 

                                                                                                 
          Amortized Cost Basis     Gross Unrealized                 Weighted Average  

Securities in

an Unrealized

Loss Position

   Outstanding
Face
Amount		     Before
Impairment		     Other-than-
Temporary
Impairment		     After
Impairment		     Gains     Losses     Carrying
Value		     Number
of
Securities		     Rating     Coupon     Yield     Maturity
(Years)		  
Less Than                                                                                                
Twelve Months   $ 785,986     $ 683,937     $ (29,093 )    $ 654,844     $ —       $ (65,688 )      589,156       82       BBB       4.60 %      7.93 %      5.4  
Twelve or                                                                                                
More Months     444,603       439,840       (7,439 )      432,401       —         (65,026 )      367,375       81       BB       5.04 %      5.50 %      2.4  
   
 
 
    
 
 
    
 
 
    
 
 
    
 
 
    
 
 
    
 
 
    
 
 
    
 
 
    
 
 
    
 
 
    
 
 
  
Total   $ 1,230,589     $ 1,123,777     $ (36,532 )    $ 1,087,245     $ —       $ (130,714 )    $ 956,531       163       BBB-       4.76 %      6.96 %      4.3  
   
 
 
    
 
 
    
 
 
    
 
 
    
 
 
    
 
 
    
 
 
    
 
 
    
 
 
    
 
 
    
 
 
    
 
 
  

Newcastle performed an assessment of all of its debt securities that are in an unrealized loss position (unrealized loss position exists when a security’s amortized cost basis, excluding the effect of OTTI, exceeds its fair value) and determined the following:

 

                                 
    September 30, 2011  
          Amortized
Cost Basis		     Unrealized Losses  
    Fair Value       Credit (B)     Non-Credit (C)  
Securities Newcastle intends to sell   $ —       $ —       $ —         N/A  
Securities Newcastle is more likely than not to be required to sell (A)     —         —         —         N/A  
Securities Newcastle has no intent to sell and is not more likely than not to be required to sell:                                
Credit impaired securities     29,270       33,153       (35,034 )      (3,883 ) 
Non credit impaired securities     927,261       1,054,092       —         (126,831 ) 
   
 
 
    
 
 
    
 
 
    
 
 
  
Total debt securities in an unrealized loss position   $ 956,531     $ 1,087,245     $ (35,034 )    $ (130,714 ) 
   
 
 
    
 
 
    
 
 
    
 
 
  

 

(A) Newcastle may, at times, be more likely than not to be required to sell certain securities for liquidity purposes. While the amount of the securities to be sold may be an estimate, and the securities to be sold have not yet been identified, Newcastle must make its best estimate, which is subject to significant judgment regarding future events, and may differ materially from actual future sales.

 

(B) This amount is required to be recorded as other-than-temporary impairment through earnings. In measuring the portion of credit losses, Newcastle’s management estimates the expected cash flow for each of the securities. This evaluation includes a review of the credit status and the performance of the collateral supporting those securities, including the credit of the issuer, key terms of the securities and the effect of local, industry and broader economic trends. Significant inputs in estimating the cash flows include management’s expectations of prepayment speeds, default rates and loss severities. Credit losses are measured as the decline in the present value of the expected future cash flows discounted at the investment’s effective interest rate.

 

(C) This amount represents unrealized losses on securities that are due to non-credit factors and is required to be recorded through other comprehensive income.

 

The following table summarizes the activity related to credit losses on debt securities for the nine months ended September 30, 2011:

 

         
   
Beginning balance of credit losses on debt securities for which a portion of an OTTI was recognized in other comprehensive income     $(60,688)  
   
Additions for credit losses on securities for which an OTTI was not previously recognized     (5,198)  
   
Increases to credit losses on securities for which an OTTI was previously recognized and a portion of an OTTI was recognized in other comprehensive income     (682)  
   
Additions for credit losses on securities for which an OTTI was previously recognized without any portion of OTTI recognized in other comprehensive income     (25,798)  
   
Reduction for credit losses on securities for which no OTTI was recognized in other comprehensive income at the current measurement date     12,229  
   
Reduction for securities sold during the period     37,833  
   
Reduction for securities deconsolidated during the period     6,254  
   
Reduction for increases in cash flows expected to be collected that are recognized over the remaining life of the security     1,016  
   
   
 
 
  
   
Ending balance of credit losses on debt securities for which a portion of an OTTI was recognized in other comprehensive income     $(35,034)  
   
 
 
  

As of September 30, 2011, Newcastle had $176.4 million of restricted cash held in CDO financing structures pending its reinvestment in real estate securities and loans.

The table below summarizes the geographic distribution of the collateral securing Newcastle’s CMBS and ABS at September 30, 2011 (in thousands):

 

                                 
    CMBS     ABS  

Geographic Location

   Outstanding Face Amount     Percentage     Outstanding Face Amount     Percentage  
Western U.S.   $ 570,296       38.2 %    $ 80,959       25.1 % 
Northeastern U.S.     267,648       17.9 %      59,840       18.4 % 
Southeastern U.S.     275,104       18.4 %      73,302       22.7 % 
Midwestern U.S.     171,334       11.5 %      49,060       15.2 % 
Southwestern U.S.     132,349       8.9 %      33,510       10.4 % 
Other     16,564       1.1 %      26,382       8.2 % 
Foreign     59,319       4.0 %      —         0.0 % 
   
 
 
    
 
 
    
 
 
    
 
 
  
    $ 1,492,614       100.0 %    $ 323,053       100.0 % 
   
 
 
    
 
 
    
 
 
    
 
 
  

Geographic concentrations of investments expose Newcastle to the risk of economic downturns within the relevant regions, particularly given the current unfavorable market conditions. These market conditions may make regions more vulnerable to downturns in certain market factors. Any such downturn in a region where Newcastle holds significant investments could have a material, negative impact on Newcastle.