Derivative Financial Instruments
Derivative financial instruments are recorded at fair value in other assets and other liabilities on the Consolidated Statements of Financial Condition after taking into account the effects of legally enforceable bilateral collateral and master netting agreements. We are exposed to non-performance risk by the counterparties to our various derivative financial instruments. We believe that the non-performance risk inherent in all our derivative contracts is minimal based on credit standards and the collateral provisions of the derivative agreements. A majority of our derivatives are centrally cleared through a Central Counterparty Clearing House or consist of residential mortgage interest rate lock commitments further limiting our exposure to non-performance risk.
Derivatives not designated as hedging instruments: We maintain a derivative portfolio of interest rate swaps, futures and forward commitments used to manage exposure to changes in interest rates, MSR asset values and to meet the needs of customers. We also enter into interest rate lock commitments, which are commitments to originate mortgage loans whereby the interest rate on the loan is determined prior to funding and the customers have locked into that interest rate. Market risk on interest rate lock commitments and mortgage loans held-for-sale is managed using corresponding forward sale commitments.
Changes in fair value of derivatives not designated as hedging instruments are recognized in the Consolidated Statements of Income.
Derivatives designated as hedging instruments: We have designated certain interest rate swaps as cash flow hedges of certain interest rate payments of our variable-rate Federal Home Loan Bank advances.
Changes in the fair value of derivatives designated as cash flow hedges are recorded in other comprehensive income (loss) on the Consolidated Statement of Financial Condition and reclassified into interest expense in the same period in which the hedge transaction is recognized in earnings. At September 30, 2016, we had $37 million (net-of-tax) recorded of unrealized losses on derivatives classified as cash flow hedges recorded in accumulated other comprehensive income (loss), compared to $3 million at December 31, 2015. The estimated amount to be reclassified from other comprehensive income into earnings during the next 12 months represents $7 million of losses (net-of-tax).
Derivatives that are designated in hedging relationships are assessed for effectiveness using regression analysis at inception and throughout the hedge period. All hedge relationships were and are expected to be highly effective as of September 30, 2016. Cash flows and the profit impact associated with designated hedges are reported in the same category as the underlying hedged item.
The net gain (loss) recognized in income on derivative instruments, net of the impact of offsetting positions, were as follows:
|
| | | | | | | | | | | | | | | | |
| | Three Months Ended September 30, | | Nine Months Ended September 30, |
| Location of Gain/(Loss) | 2016 | | 2015 | | 2016 | | 2015 |
| | (Dollars in millions) | | |
Derivatives not designated as hedging instruments: | | | | | | | | |
U.S. Treasury, swap and euro dollar futures | Net (loss) return on mortgage servicing rights | $ | 4 |
| | $ | 3 |
| | $ | 8 |
| | $ | 6 |
|
Interest rate swaps and swaptions | Net (loss) return on mortgage servicing rights | (7 | ) | | 10 |
| | 21 |
| | 2 |
|
Mortgage backed securities forwards | Net (loss) return on mortgage servicing rights | 2 |
| | 2 |
| | 15 |
| | 2 |
|
Rate lock commitments and forward agency and loan sales | Net gain on loan sales | 15 |
| | (24 | ) | | 14 |
| | (4 | ) |
Rate lock commitments | Other noninterest income | — |
| | 1 |
| | 1 |
| | (1 | ) |
Interest rate swaps | Other noninterest income | 2 |
| | 2 |
| | 3 |
| | 2 |
|
Total derivative (loss) gain | | $ | 16 |
| | $ | (6 | ) | | $ | 62 |
| | $ | 7 |
|
The notional amount, estimated fair value and maturity of our derivative financial instruments were as follows:
|
| | | | | | | | | |
| Notional Amount | |
Fair Value | |
Expiration Dates |
| (Dollars in millions) |
September 30, 2016 | | | | | |
Derivatives designated as hedging instruments: | | | | | |
Assets | | | | | |
Interest rate swaps on FHLB advances | $ | 200 |
| | $ | 3 |
| | 2026 |
Liabilities (1) | | | | | |
Interest rate swaps on FHLB advances | $ | 825 |
| | $ | 55 |
| | 2023-2025 |
Derivatives not designated as hedging instruments: | | | | | |
Assets (2) | | | | | |
U.S. Treasury, swap and euro dollar futures | $ | 5,450 |
| | $ | 1 |
| | 2016-2019 |
Mortgage backed securities forwards | 1,317 |
| | 2 |
| | 2016 |
Rate lock commitments | 6,357 |
| | 63 |
| | 2016 |
Interest rate swaps and swaptions | 2,273 |
| | 53 |
| | 2016-2046 |
Total derivative assets | $ | 15,397 |
| | $ | 119 |
| | |
Liabilities (1) | | | | | |
U.S. Treasury, swap and euro dollar futures | $ | 635 |
| | $ | — |
| | 2019-2020 |
Mortgage backed securities forwards | 5,849 |
| | 24 |
| | 2016 |
Rate lock commitments | 87 |
| | — |
| | 2016 |
Interest rate swaps | 558 |
| | 17 |
| | 2016-2026 |
Total derivative liabilities | $ | 7,129 |
| | $ | 41 |
| | |
December 31, 2015 | | | | | |
Derivatives designated as hedging instruments: | | | | | |
Liabilities (1) | | | | | |
Interest rate swaps on FHLB advances | $ | 825 |
| | $ | 4 |
| | 2023-2025 |
Derivatives not designated as hedging instruments: | | | | | |
Assets (2) | | | | | |
U.S. Treasury, swap and euro dollar futures | $ | 1,892 |
| | $ | — |
| | 2016-2019 |
Mortgage backed securities forwards | 1,931 |
| | 7 |
| | 2016 |
Rate lock commitments | 3,593 |
| | 26 |
| | 2016 |
Interest rate swaps and swaptions | 1,554 |
| | 25 |
| | 2016-2035 |
Total derivative assets | $ | 8,970 |
| | $ | 58 |
| | |
Liabilities (1) |
|
| |
|
| | |
U.S. Treasury, swap and euro dollar futures | $ | 768 |
| | $ | 1 |
| | 2016-2019 |
Mortgage backed securities forwards | 2,655 |
| | 6 |
| | 2016 |
Rate lock commitments | 168 |
| | — |
| | 2016 |
Interest rate swaps | 422 |
| | 7 |
| | 2016-2025 |
Total derivative liabilities | $ | 4,013 |
| | $ | 14 |
| | |
| |
(1) | Derivative liabilities are included in other liabilities on the Consolidated Statements of Financial Condition. |
| |
(2) | Derivative assets are included in other assets on the Consolidated Statements of Financial Condition. |
The following tables present the derivatives subject to a master netting arrangement, including the cash pledged as collateral: |
| | | | | | | | | | | | | | | |
| | | | Gross Amounts Not Offset in the Statement of Financial Position |
| Gross Amount | Gross Amounts Netted in the Statement of Financial Position | Net Amount Presented in the Statement of Financial Position | Financial Instruments | Cash Collateral |
| (Dollars in millions) |
September 30, 2016 | | | | | |
Derivatives designated as hedging instruments: | | | | | |
Assets | | | | | |
Interest rate swaps on FHLB advances (1) | $ | 3 |
| $ | 3 |
| $ | — |
| $ | — |
| $ | — |
|
Liabilities | | | | | |
Interest rate swaps on FHLB advances (1) | $ | 55 |
| $ | 3 |
| $ | 52 |
| $ | — |
| $ | 34 |
|
| | | | | |
Derivatives not designated as hedging instruments: | | | | | |
Assets | | | | | |
U.S. Treasury, swap and euro dollar futures | $ | 1 |
| $ | — |
| $ | 1 |
| $ | — |
| $ | — |
|
Mortgage backed securities forwards | 2 |
| — |
| 2 |
| — |
| — |
|
Interest rate swaps and swaptions (1) | 53 |
| — |
| 53 |
| — |
| 24 |
|
Total derivative assets | $ | 56 |
| $ | — |
| $ | 56 |
| $ | — |
| $ | 24 |
|
| | | | |
|
Liabilities | | | | | |
U.S. Treasury, swap and euro dollar futures | $ | — |
| $ | — |
| $ | — |
| $ | — |
| $ | 2 |
|
Mortgage backed securities forwards | 24 |
| — |
| 24 |
| — |
| 41 |
|
Interest rate swaps and swaptions (1) | 17 |
| — |
| 17 |
| — |
| 7 |
|
Total derivative liabilities | $ | 41 |
| $ | — |
| $ | 41 |
| $ | — |
| $ | 50 |
|
| | | | | |
December 31, 2015 | | | | | |
Derivatives designated as hedging instruments: | | | | | |
Liabilities | | | | | |
Interest rate swaps on FHLB advances | $ | 4 |
| $ | — |
| $ | 4 |
| $ | — |
| $ | 19 |
|
| | | | | |
Derivatives not designated as hedging instruments: | | | | | |
Assets | | | | | |
Mortgage backed securities forwards | $ | 7 |
| $ | — |
| $ | 7 |
| $ | — |
| $ | 4 |
|
Interest rate swaps and swaptions (1) | 25 |
| — |
| 25 |
| — |
| 10 |
|
Total derivative assets | $ | 32 |
| $ | — |
| $ | 32 |
| $ | — |
| $ | 14 |
|
| | | | | |
Liabilities | | | | | |
U.S. Treasury, swap and euro dollar futures | $ | 1 |
| $ | — |
| $ | 1 |
| $ | — |
| $ | 2 |
|
Mortgage backed securities forwards | 6 |
| — |
| 6 |
| — |
| 8 |
|
Interest rate swaps and swaptions (1) | 7 |
| — |
| 7 |
| — |
| 12 |
|
Total derivative liabilities | $ | 14 |
| $ | — |
| $ | 14 |
| $ | — |
| $ | 22 |
|
| |
(1) | Additional funds are pledged to a central counterparty clearing house in the amount of $56 million as of September 30, 2016 and $7 million as of December 31, 2015 to maintain initial margin requirements. This collateral is in addition to the amount required to be maintained for potential market changes shown in the cash collateral column above. |
We pledged a total of $84 million of cash collateral to counterparties and had an obligation to return cash of $24 million at September 30, 2016 for derivative activities. We pledged a total of $41 million of cash collateral to counterparties and had an obligation to return cash of $14 million at December 31, 2015 for derivative activities. The net cash pledged is restricted and is included in other assets on the Consolidated Statements of Financial Condition.