Fair Value | Note 7—Fair Value The Company’s consolidated financial statements include assets and liabilities that are measured based on their fair values. The application of fair value may be on a recurring or nonrecurring basis depending on the accounting principles applicable to the specific asset or liability and whether management has elected to carry the item at its fair value as discussed in the following paragraphs. The Company groups its assets and liabilities at fair value in three levels, based on the markets in which the assets and liabilities are traded and the observability of the inputs used to determine fair value. These levels are: · Level 1—Quoted prices in active markets for identical assets or liabilities. · Level 2—Prices determined or determinable using other significant observable inputs. Observable inputs are inputs that other market participants would use in pricing an asset or liability and are developed based on market data obtained from sources independent of the Company. These may include quoted prices for similar assets and liabilities, interest rates, prepayment speeds, credit risk and other inputs. · Level 3—Prices determined using significant unobservable inputs. In situations where observable inputs are unavailable (for example, when there is little or no market activity for an asset or liability at the end of the period), unobservable inputs may be used. Unobservable inputs reflect the Company’s own judgments about the factors that market participants use in pricing an asset or liability, and are based on the best information available in the circumstances. As a result of the difficulty in observing certain significant valuation inputs affecting “Level 3” fair value assets and liabilities, the Company is required to make judgments regarding these items’ fair values. Different persons in possession of the same facts may reasonably arrive at different conclusions as to the inputs to be applied in valuing these assets and liabilities and their fair values. Likewise, due to the general illiquidity of some of these assets and liabilities, subsequent transactions may be at values significantly different from those reported. Fair Value Accounting Elections Management identified all of its non-cash financial assets, its originated MSRs relating to loans with initial interest rates of more than 4.5%, purchased MSRs subject to excess servicing spread financing (“ESS”) and mortgage servicing liabilities (“MSLs”) to be accounted for at fair value so changes in fair value will be reflected in income as they occur and more timely reflect the results of the Company’s performance. Management has also elected to account for its ESS at fair value as a means of hedging the related MSRs’ fair value risk. Financial Statement Items Measured at Fair Value on a Recurring Basis Following is a summary of financial statement items that are measured at fair value on a recurring basis: June 30, 2016 Level 1 Level 2 Level 3 Total (in thousands) Assets: Short-term investments $ $ — $ — $ Mortgage loans held for sale at fair value — Derivative assets: Interest rate lock commitments — — Forward purchase contracts — — Forward sales contracts — — MBS put options — — Put options on interest rate futures purchase contracts — — Call options on interest rate futures purchase contracts — — Total derivative assets before netting Netting — — — Total derivative assets Investment in PennyMac Mortgage Investment Trust — — Mortgage servicing rights at fair value — — $ $ $ $ Liabilities: Excess servicing spread financing at fair value payable to PennyMac Mortgage Investment Trust $ — $ — $ $ Derivative liabilities: Interest rate lock commitments — — Forward purchase contracts — — Forward sales contracts — — Put options on interest rate futures purchase contracts — — Call options on interest rate futures purchase contracts — — Total derivative liabilities before netting Netting — — — Total derivative liabilities Mortgage servicing liabilities — — $ $ $ $ December 31, 2015 Level 1 Level 2 Level 3 Total (in thousands) Assets: Short-term investments $ $ — $ — $ Mortgage loans held for sale at fair value — Derivative assets: Interest rate lock commitments — — Forward purchase contracts — — Forward sales contracts — — MBS put options — — Put options on interest rate futures purchase contracts — — Call options on interest rate futures purchase contracts — — Total derivative assets before netting Netting — — — Total derivative assets Investment in PennyMac Mortgage Investment Trust — — Mortgage servicing rights at fair value — — $ $ $ $ Liabilities: Excess servicing spread financing at fair value payable to PennyMac Mortgage Investment Trust $ — $ — $ $ Derivative liabilities: Interest rate lock commitments — — Forward purchase contracts — — Forward sales contracts — — Put options on interest rate futures purchase contracts — — Call options on interest rate futures purchase contracts — — Total derivative liabilities before netting Netting — — — Total derivative liabilities Mortgage servicing liabilities — — $ $ $ $ As shown above, all or a portion of the Company’s mortgage loans held for sale, IRLCs, MSRs, ESS and MSLs are measured using Level 3 fair value inputs. Following are roll forwards of these items for the quarters and six month periods ended June 30, 2016 and 2015: Quarter ended June 30, 2016 Mortgage Net interest Mortgage loans held rate lock servicing for sale commitments (1) rights Total (in thousands) Assets: Balance, March 31, 2016 $ $ $ $ Purchases — — Sales — — Repayments — — Interest rate lock commitments issued, net — — Mortgage servicing rights resulting from mortgage loan sales — — Changes in fair value included in income arising from: Changes in instrument-specific credit risk — — Other factors — Transfers of mortgage loans held for sale from Level 3 to Level 2 (2) — — Transfers of interest rate lock commitments to mortgage loans held for sale — — Balance, June 30, 2016 $ $ $ $ Changes in fair value recognized during the period relating to assets still held at June 30, 2016 $ $ $ $ (1) For the purpose of this table, the IRLC asset and liability positions are shown net. (2) Mortgage loans held for sale are transferred from Level 3 to Level 2 as a result of the mortgage loan becoming saleable into active mortgage markets pursuant to a loan modification, borrower reperformance or resolution of deficiencies. Quarter ended June 30, 2016 Excess servicing Mortgage spread servicing financing liabilities Total (in thousands) Liabilities: Balance, March 31, 2016 $ $ $ Issuance of excess servicing spread financing pursuant to a recapture agreement with PennyMac Mortgage Investment Trust — Accrual of interest — Repayments — Changes in fair value included in income Balance, June 30, 2016 $ $ $ Changes in fair value recognized during the period relating to liabilities still outstanding at June 30, 2016 $ $ $ Quarter ended June 30, 2015 Mortgage Net interest Mortgage loans held rate lock servicing for sale commitments (1) rights Total (in thousands) Assets: Balance, March 31, 2015 $ $ $ $ Purchases — Sales — — Repayments — — Interest rate lock commitments issued, net — — Mortgage servicing rights resulting from mortgage loan sales — — Changes in fair value included in income arising from: Changes in instrument-specific credit risk — — Other factors Transfers of mortgage loans held for sale from Level 3 to Level 2 (2) — — Transfers of interest rate lock commitments to mortgage loans held for sale — — Balance, June 30, 2015 $ $ $ $ Changes in fair value recognized during the period relating to assets still held at June 30, 2015 $ $ $ $ (1) For the purpose of this table, the interest rate lock asset and liability positions are shown net. (2) Mortgage loans held for sale are transferred from Level 3 to Level 2 as a result of the mortgage loan becoming saleable into active mortgage markets pursuant to a loan modification, borrower reperformance or resolution of deficiencies. Quarter ended June 30, 2015 Excess servicing Mortgage spread servicing financing liabilities Total (in thousands) Liabilities: Balance, March 31, 2015 $ $ $ Issuance of excess servicing spread financing: For cash — Pursuant to a recapture agreement with PennyMac Mortgage Investment Trust — Mortgage servicing liabilities resulting from mortgage loan sales — Accrual of interest — Repayments — Changes in fair value included in income Balance, June 30, 2015 $ $ $ Changes in fair value recognized during the period relating to liabilities still outstanding at June 30, 2015 $ $ $ Six months ended June 30, 2016 Mortgage Net interest Mortgage loans held rate lock servicing for sale commitments (1) rights Total (in thousands) Assets: Balance, December 31, 2015 $ $ $ $ Purchases — Sales — — Repayments — — Interest rate lock commitments issued, net — — Mortgage servicing rights resulting from mortgage loan sales — — Changes in fair value included in income arising from: Changes in instrument-specific credit risk — — Other factors — Transfers of mortgage loans held for sale from Level 3 to Level 2 (2) — — Transfers of interest rate lock commitments to mortgage loans held for sale — — Balance, June 30, 2016 $ $ $ $ Changes in fair value recognized during the period relating to assets still held at June 30, 2016 $ $ $ $ (1) For the purpose of this table, the IRLC asset and liability positions are shown net. (2) Mortgage loans held for sale are transferred from Level 3 to Level 2 as a result of the mortgage loan becoming saleable into active mortgage markets pursuant to a loan modification, borrower reperformance or resolution of deficiencies. Six months ended June 30, 2016 Excess servicing Mortgage spread servicing financing liabilities Total (in thousands) Liabilities: Balance, December 31, 2015 $ $ $ Issuance of excess servicing spread financing pursuant to a recapture agreement with PennyMac Mortgage Investment Trust — Accrual of interest — Repurchase — Repayments — Mortgage servicing liabilities resulting from mortgage loan sales — Changes in fair value included in income Balance, June 30, 2016 $ $ $ Changes in fair value recognized during the period relating to liabilities still outstanding at June 30, 2016 $ $ $ Six months ended June 30, 2015 Mortgage Net interest Mortgage loans held rate lock servicing for sale commitments (1) rights Total (in thousands) Assets: Balance December 31, 2014 $ $ $ $ Purchases — Sales — — Repayments — — Interest rate lock commitments issued, net — — Mortgage servicing rights resulting from mortgage loan sales — — Changes in fair value included in income arising from: Changes in instrument-specific credit risk — — Other factors Transfers of mortgage loans held for sale from Level 3 to Level 2 (2) — — Transfers of interest rate lock commitments to mortgage loans held for sale — — Balance, June 30, 2015 $ $ $ $ Changes in fair value recognized during the period relating to assets still held at June 30, 2015 $ $ $ $ (1) For the purpose of this table, the interest rate lock asset and liability positions are shown net. (2) Mortgage loans held for sale are transferred from Level 3 to Level 2 as a result of the mortgage loan becoming saleable into active mortgage markets pursuant to a loan modification, borrower reperformance or resolution of deficiencies. Six months ended June 30, 2015 Excess servicing Mortgage spread servicing financing liabilities Total (in thousands) Liabilities: Balance December 31, 2014 $ $ $ Issuance of excess servicing spread financing: For cash — Pursuant to a recapture agreement with PennyMac Mortgage Investment Trust — Mortgage servicing liabilities resulting from mortgage loan sales — Accrual of interest — Repayments — Changes in fair value included in income Balance, June 30, 2015 $ $ $ Changes in fair value recognized during the period relating to liabilities still outstanding at June 30, 2015 $ $ $ The information used in the preceding roll forwards represents activity for any financial statement items identified as using “Level 3” significant fair value inputs at either the beginning or the end of the periods presented. The Company had transfers among the fair value levels arising from transfers of IRLCs to mortgage loans held for sale at fair value upon purchase or funding of the respective mortgage loans and from the return to salability in the active secondary market of certain mortgage loans held for sale. Such mortgage loans become saleable into the active secondary market due to curing of the loans’ defects through borrower reperformance, modification of the loan or resolution of deficiencies contained in the borrowers’ credit file. Financial Statement Items Measured at Fair Value under the Fair Value Option Net changes in fair values included in income for financial statement items carried at fair value as a result of management’s election of the fair value option by income statement line item are summarized below: Quarter ended June 30, 2016 2015 Net gains on Net gains on mortgage Net mortgage mortgage Net mortgage loans held loan loans held loan for sale at servicing for sale at servicing fair value fees Total fair value fees Total (in thousands) Assets: Mortgage loans held for sale at fair value $ $ — $ $ $ — $ Mortgage servicing rights at fair value — — $ $ $ $ $ $ Liabilities: Excess servicing spread financing at fair value payable to PennyMac Mortgage Investment Trust $ — $ $ $ — $ $ Mortgage servicing liabilities at fair value — — $ — $ $ $ — $ $ Six months ended June 30, 2016 2015 Net gains on Net Net gains on Net mortgage mortgage mortgage mortgage loans held loan loans held loan for sale at servicing for sale at servicing fair value fees Total fair value fees Total (in thousands) Assets: Mortgage loans held for sale at fair value $ $ — $ $ $ — $ Mortgage servicing rights at fair value — — $ $ $ $ $ $ Liabilities: Excess servicing spread financing at fair value payable to PennyMac Mortgage Investment Trust $ — $ $ $ — $ $ Mortgage servicing liabilities at fair value — — $ — $ $ $ — $ $ Following are the fair value and related principal amounts due upon maturity of assets accounted for under the fair value option: June 30, 2016 Principal amount Fair due upon value maturity Difference (in thousands) Mortgage loans held for sale: Current through 89 days delinquent $ $ $ 90 days or more delinquent: Not in foreclosure In foreclosure $ $ $ December 31, 2015 Principal amount Fair due upon value maturity Difference (in thousands) Mortgage loans held for sale: Current through 89 days delinquent $ $ $ 90 days or more delinquent: Not in foreclosure In foreclosure $ $ $ Financial Statement Items Measured at Fair Value on a Nonrecurring Basis Following is a summary of financial statement items that were measured at fair value on a nonrecurring basis during the periods presented: June 30, 2016 Level 1 Level 2 Level 3 Total (in thousands) Mortgage servicing rights at lower of amortized cost or fair value $ — $ — $ $ Real estate acquired in settlement of loans — — $ — $ — $ $ December 31, 2015 Level 1 Level 2 Level 3 Total (in thousands) Mortgage servicing rights at lower of amortized cost or fair value $ — $ — $ $ $ — $ — $ $ The following table summarizes the total gains (losses) on assets measured at fair value on a nonrecurring basis: Quarter ended June 30, Six months ended June 30, 2016 2015 2016 2015 (in thousands) Mortgage servicing rights at lower of amortized cost or fair value $ $ $ $ Real estate acquired in settlement of loans — — $ $ $ $ Fair Value of Financial Instruments Carried at Amortized Cost The Company’s Cash as well as its Carried Interest due from Investment Funds , Assets sold under agreements to repurchase , Mortgage loan participation and sale agreements , Notes payable , Obligations under capital lease, Note receivable from PMT and amounts receivable from and payable to the Advised Entities are carried at amortized cost. Cash is measured using a “Level 1” fair value input. The Company has concluded that the carrying value of the Carried Interest due from Investment Funds approximates its fair value as the balance represents the amount distributable to the Company at the balance sheet date assuming liquidation of the Investment Funds. The Company’s borrowings carried at amortized cost do not have observable inputs and the fair value is measured using management’s estimate of fair value, where the inputs into the determination of fair value require significant management judgment or estimation. The Company has classified these financial instruments as “Level 3” fair value financial statement items due to the lack of observable inputs to estimate their fair values. The Company has concluded that the fair value of the receivables from and payables to the Advised Entities and the Note receivable from PMT approximates the carrying value due to their short terms and/or variable interest rates. Valuation Techniques and Inputs Most of the Company’s financial assets, a portion of its MSRs and its ESS financing and MSLs are carried at fair value with changes in fair value recognized in current period income. Certain of the Company’s financial assets and all of its MSRs, ESS and MSLs are “Level 3” fair value financial statement items which require the use of unobservable inputs that are significant to the estimation of the items’ fair values. Unobservable inputs reflect the Company’s own judgments about the factors that market participants use in pricing an asset or liability, and are based on the best information available under the circumstances. Due to the difficulty in estimating the fair values of “Level 3” fair value financial statement items, management has assigned the responsibility for estimating the fair value of these items to specialized staff and subjects the valuation process to significant senior management oversight. The Company’s Financial Analysis and Valuation group (the “FAV group”) is responsible for estimating the fair values of “Level 3” fair value financial statement items other than IRLCs and maintaining its valuation policies and procedures. With respect to the non-IRLC “Level 3” valuations, the FAV group reports to the Company’s senior management valuation committee, which oversees and approves the valuations. The FAV group monitors the models used for valuation of the Company’s “Level 3” fair value financial statement items, including the models’ performance versus actual results, and reports those results to the Company’s senior management valuation committee. The Company’s senior management valuation committee includes the Company’s chief executive, financial, operating, risk, business development and asset/liability management officers. The FAV group is responsible for reporting to the Company’s senior management valuation committee on a monthly basis on the changes in the valuation of the “Level 3” fair value financial statement items, including major factors affecting the valuation and any changes in model methods and inputs. To assess the reasonableness of its valuations, the FAV group presents an analysis of the effect on the valuation of changes to the significant inputs to the models. With respect to IRLCs, the Company has assigned responsibility for developing fair values to its Capital Markets Risk Management staff. The fair values developed by the Capital Markets Risk Management staff are reviewed by the Company’s Capital Markets Operations group. Following is a description of the techniques and inputs used in estimating the fair values of “Level 2” and “Level 3” fair value financial statement items: Mortgage Loans Held for Sale Most of the Company’s mortgage loans held for sale at fair value are saleable into active markets and are therefore categorized as “Level 2” fair value financial statement items and their fair values are determined using their quoted market or contracted selling price or market price equivalent. Certain of the Company’s mortgage loans may become non-saleable into active markets due to identification of a defect by the Company or to the repurchase by the Company of a mortgage loan with an identified defect. The Company may also purchase certain delinquent government guaranteed or insured mortgage loans from Ginnie Mae guaranteed pools in its mortgage loan servicing portfolio. The Company’s right to purchase such mortgage loans arises as the result of the borrower’s failure to make payments for at least three consecutive months preceding the month of repurchase by the Company and provides an alternative to the Company’s obligation to continue advancing principal and interest at the coupon rate of the related Ginnie Mae security. To the extent such mortgage loans have not become saleable into another Ginnie Mae guaranteed security by becoming current either through the borrower’s reperformance or through completion of a modification of the mortgage loan’s terms, the Company measures such mortgage loans along with mortgage loans with identified defects using “Level 3” fair value inputs. The significant unobservable inputs used in the fair value measurement of the Company’s “Level 3” fair value mortgage loans held for sale at fair value are discount rates, home price projections, voluntary prepayment speeds and total prepayment speeds. Significant changes in any of those inputs in isolation could result in a significant change to the mortgage loans’ fair value measurement. Increases in home price projections are generally accompanied by an increase in voluntary prepayment speeds. Following is a quantitative summary of key “Level 3” fair value inputs used in the valuation of mortgage loans held for sale at fair value: Key inputs June 30, 2016 December 31, 2015 Discount rate Range 2.5% – 8.1% 2.5% – 9.1% Weighted average 3.2% 2.8% Twelve-month projected housing price index change Range 2.3% – 4.8% 1.8% – 5.0% Weighted average 4.0% 3.7% Voluntary prepayment / resale speed (1) Range 0.4% – 21.4% 0.6% – 20.1% Weighted average 17.0% 16.6% Total prepayment speed (2) Range 0.7% – 38.6% 0.7% – 37.6% Weighted average 30.4% 30.9% (1) Voluntary prepayment speed is measured using Life Voluntary Conditional Prepayment Rate (“CPR”). (2) Total prepayment speed is measured using Life Total CPR. Changes in fair value attributable to changes in instrument specific credit risk are measured by reference to the change in the respective mortgage loan’s delinquency status and performance history at period end from the later of the beginning of the period or acquisition date. Changes in fair value of mortgage loans held for sale are included in Net gains on mortgage loans held for sale at fair value in the Company’s consolidated statements of income. Derivative Financial Instruments Interest Rate Lock Commitments The Company categorizes IRLCs as a “Level 3” fair value financial statement item. The Company estimates the fair value of an IRLC based on quoted Agency MBS prices, its estimate of the fair value of the MSRs it expects to receive in the sale of the mortgage loans and the probability that the mortgage loan will fund or be purchased (the “pull-through rate”). The significant unobservable inputs used in the fair value measurement of the Company’s IRLCs are the pull-through rate and the MSR component of the Company’s estimate of the fair value of the mortgage loans it has committed to purchase. Significant changes in the pull-through rate or the MSR component of the IRLCs, in isolation, could result in significant changes in fair value measurement. The financial effects of changes in these inputs are generally inversely correlated as increasing interest rates have a positive effect on the fair value of the MSR component of IRLC fair value, but increase the pull-through rate for the IRLC, the principal and interest payment cash flows that have decreased in fair value. Changes in fair value of IRLCs are included in Net gains on mortgage loans held for sale at fair value in the consolidated statements of income. Following is a quantitative summary of key “Level 3” fair value inputs used in the valuation of IRLCs: Key inputs June 30, 2016 December 31, 2015 Pull-through rate Range 37.1% – 100.0% 54.1% – 100.0% Weighted average 84.9% 90.1% Mortgage servicing rights value expressed as: Servicing fee multiple Range 1.2 – 5.5 1.0 – 5.8 Weighted average 4.0 4.4 Percentage of unpaid principal balance Range 0.2% – 2.6% 0.2% – 3.8% Weighted average 1.1% 1.5% Hedging Derivatives The remaining derivative financial instruments held or issued by the Company are categorized as “Level 1” or “Level 2” fair value financial statement items. The Company estimates the fair value of commitments to sell and purchase mortgage loans based on observable MBS prices. The Company estimates the fair value of MBS options based on observed interest rate volatilities in the MBS market. Changes in fair value of hedging derivatives are included in Net gains on mortgage loans held for sale at fair value in the consolidated statements of income. Mortgage Servicing Rights MSRs are categorized as “Level 3” fair value financial statement items. The Company uses a discounted cash flow approach to estimate the fair value of MSRs. This approach consists of projecting net servicing cash flows discounted at a rate that management believes market participants would use in their determinations of fair value. The key inputs used in the estimation of the fair value of MSRs include the prepayment rates of the underlying mortgage loans, the applicable discount rate or pricing spread, and the per-loan annual cost to service the respective mortgage loans. Changes in the fair value of MSRs are included in Net servicing fees — Amortization, impairment and change in fair value of mortgage servicing rights in the consolidated statements of income. Following are the key “Level 3” fair value inputs used in determining the fair value of MSRs at the time of initial recognition, excluding MSR purchases: Quarter ended June 30, 2016 2015 Fair Amortized Fair Amortized value cost value cost (Amount recognized and unpaid principal balance of underlying mortgage loans in thousands) MSR and pool characteristics: Amount recognized $4,820 $127,652 $3,443 $125,561 Unpaid principal balance of underlying mortgage loans $400,433 $10,370,549 $280,613 $8,762,024 Weighted average servicing fee rate (in basis points) 33 29 34 36 Key inputs: Pricing spread (1) Range 7.2% – 9.5% 7.2% – 14.4% 7.0% – 13.4% 6.8% – 15.7% Weighted average 8.7% 8.9% 9.9% 9.0% Annual total prepayment speed (2) Range 3.3% – 45.1% 3.9% – 50.9% 7.7% – 46.0% 7.7% – 34.0% Weighted average 12.2% 9.8% 10.2% 8.3% Life (in years) Range 1.6 – 11.8 1.3 – 11.8 1.5 – 7.3 2.1 – 7.3 Weighted average 6.7 7.7 6.6 7.0 Per-loan annual cost of servicing Range $68 – $105 $68 – $106 $59 – $82 $59 – $82 Weighted average $89 $90 $74 $75 (1) Pricing spread represents a margin that is applied to a reference interest rate’s forward rate curve to develop periodic discount rates. The Company applies a pricing spread to the United States Dollar London Interbank Offered Rate (“LIBOR”) curve for purposes of discounting cash flows relating to MSRs. (2) Prepayment speed is measured using Life Total CPR. Six months ended June 30, 2016 2015 Fair Amortized Fair Amortized value cost value cost (Amount recognized and unpaid principal balance of underlying mortgage loans in thousands) MSR and pool characteristics: Amount recognized $9,288 $223,966 $6,118 $192,842 Unpaid principal balance of underlying mortgage loans $768,240 $17,354,721 $522,130 $13,899,109 Weighted average servicing fee rate (in basis points) 33 31 33 35 Key inputs: Pricing spread (1) Range 7.2% – 9.8% 7.2% – 14.4% 7.0% – 14.4% 6.8% – 15.9% Weighted average 8.7% 8.9% 10.3% 9.3% Annual total prepayment speed (2) Range 3.3% – 52.3% 3.8% – 50.9% 7.7% – 62.4% 7.6% – 39.4% Weighted average 12.7% 10.3% 11.0% 8.5% Life (in years) Range 1.3 – 11.8 1.3 – 11.9 1.1 – 7.3 1.8 – 7.3 Weighted average 6.5 7.5 6.4 7.0 Per-loan annual cost of servicing Range $68 – $105 $68 – $106 $59 – $82 $59 – $82 Weighted average $85 $87 $74 $75 (1) Pricing spread represents a margin that is applied to a reference interest rate’s forward rate curve to develop periodic discount rates. The Company applies a pricing spread to the United States Dollar London Interbank Offered Rate (“LIBOR”) curve for purposes of discounting cash flows relating to MSRs. (2) Prepayment speed is measured using Life Total CPR. Following is a quantitative summary of key inputs used in the valuation and assessment for impairment of the Company’s MSRs at period end and the effect on fair value from adverse changes in those inputs (weighted averages are based upon UPB): June 30, 2016 December 31, 2015 Fair Amortized Fair Amortized value cost value cost (Carrying value, unpaid principal balance of underlying mortgage loans and effect on fair value amounts in thousands) MSR and pool characteristics: Carrying value $ $ $ $ Unpaid principal balance of underlying mortgage loans $ $ $ $ Weighted average note interest rate 4.1% 3.8% 4.1% 3.8% Weighted average servicing fee rate (in basis points) 32 32 32 32 Key inputs: Pricing spread (1) Range 7.6% – 14.4% 7.6% – 14.4% 7.2% – 14.1% 7.2% – 12.8% Weighted average 8.8% 9.2% 8.9% 8.9% Effect on fair value of (2): 5% adverse change $ $ $ $ 10% adverse change $ $ $ $ 20% adverse change $ $ $ $ Average life (in years) Range 1.6 – 8.9 1.3 – 9.2 1.9 – 9.0 1.8 – 9.1 Weighted average 6.0 6.3 6.9 7.4 Prepayment speed (3) Range 6.8% – 38.6% 6.8% – 53.1% 5.3% – 43.8% 5.7% – 46.7% Weighted average 12.7% 12.8% 9.7% 9.5% Effect on fair value of (2): 5% adverse change $ $ $ $ 10% adverse change $ $ $ $ 20% adverse change $ $ $ $ Annual per-loan cost of servicing Range $78 – $105 $79 – $106 $68 – $97 $68 – $95 Weighted average $96 $94 $86 $84 Effect on fair value of (2): 5% adverse change $ $ $ $ 10% adverse change $ $ $ $ 20% adverse change $ $ $ $ (1) The Company applies a pricing spread to the United States Dollar LIBOR curve for purposes of discounting cash flows relating to MSRs. (2) For MSRs carried at fair value, an adverse change in one of the above-mentioned key inputs is expected to result in a reduction in fair value which will be recognized in income. For MSRs carried at lower of amortized cost or fair value, an adverse change in one of the above-mentioned key inputs may result in recognition of MSR impairment. The extent of the recognized MSR impairment will depend on the relationship of fair value to the carrying value of such MSRs. (3) Prepayment speed is measured using Life Total CPR. The preceding sensitivity analyses are limited in that they were performed at a particular point in time; only contemplate the movements in the indicated inputs; do not incorporate changes to other inputs; are subject to the accuracy of various models and inputs used; and do not incorporate other factors that would affect the Company’s overall financial performance in such events, including operational adjustments made by management to account for changing circumstances. For these reasons, the preceding estimates should not be viewed as earnings forecasts. Excess Servicing Spread Financing at Fair Value The Company categorizes ESS as a “Level 3” fair value financial statement item. The Company uses a discounted cash flow approach to estimate the fair value of ESS. The key inputs used in the estimation of ESS fair value include pricing spread and prepayment speed. Significant changes to either of those inputs in isolation could result in a significant change in the fair value of ESS. Changes in these key inputs are not necessarily directly related. ESS is generally subject to fair value increases when mortgage interest rates increase. Increasing mortgage interest rates normally slow mortgage refinancing activity. Decreased refinancing activity increases the life of the mortgage loans underlying the ESS, thereby increasing its fair value, which is owed to PMT. Increases in the fair value of ESS decrease income and are included in Net mortgage loan servicing fees. Interest expense for ESS is accrued using the interest method based upon the expected cash flows from the ESS through the expected life of the underlying mortgage loans. Other changes in fair value are recorded in Amortization, impairment and change in fair value of mortgage servicing rights . Following are the key inputs used in estimating the fair value of ESS: June 30, December 31, 2016 2015 Carrying value (in thousands) $294,551 $412,425 ESS and pool characteristics: Unpaid principal balance of underlying mortgage loans (in thousands) $36,151,940 $51,966,405 Average servicing fee rate (in basis points) 34 32 Average excess servicing spread (in ba |