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FAIR VALUE | 9 Months Ended
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Sep. 30, 2018
Fair Value Disclosures [Abstract] |
FAIR VALUE | NOTE 23 – FAIR VALUE Fair Value Measurement The FASB authoritative guidance for fair value measurement defines fair value as the exchange price that would be received for an asset or paid to transfer a liability (an exit price) in the principal or most advantageous market for the asset or liability in an orderly transaction between market participants on the measurement date. This guidance also establishes a fair value hierarchy for classifying financial instruments. The hierarchy is based on whether the inputs to the valuation techniques used to measure fair value are observable or unobservable. Three levels of inputs may be used to measure fair value:
Level 1 | Valuations of Level 1 assets and liabilities are obtained from readily-available pricing sources for market transactions involving identical assets or liabilities. Level 1 assets and liabilities include equity securities that trade in an active exchange market, as well as certain U.S. Treasury and other U.S. government and agency securities and corporate debt securities that are traded by dealers or brokers in active markets.
Level 2 | Valuations of Level 2 assets and liabilities are based on observable inputs other than Level 1 prices, such as quoted prices for similar assets or liabilities, or other inputs that are observable or can be corroborated by observable market data for substantially the full term of the assets or liabilities. Level 2 assets and liabilities include (i) MBS for which the fair value is estimated based on the value of identical or comparable assets, (ii) debt securities with quoted prices that are traded less frequently than exchange-traded instruments, and (iii) derivative contracts whose value is determined using a pricing model with inputs that are observable in the market or can be derived principally from or corroborated by observable market data.
Level 3 | Valuations of Level 3 assets and liabilities are based on unobservable inputs that are supported by little or no market activity and are significant to the fair value of the assets or liabilities. Level 3 assets and liabilities include financial instruments whose value is determined by using pricing models for which the determination of fair value requires significant management judgments estimation.
Financial Instruments Recorded at Fair Value on a Recurring Basis Investment securities available for sale The fair value of investment securities was the market value based on quoted market prices (as is the case with Treasury notes and non-callable U.S. Agency debt securities), when available (Level 1), or, when available, market prices for identical or comparable assets (as is the case with MBS and callable U.S. agency debt) that are based on observable market parameters, including benchmark yields, reported trades, quotes from brokers or dealers, issuer spreads, bids, offers and reference data, including market research operations (Level 2). Observable prices in the market already consider the risk of nonperformance. If listed prices or quotes are no t available, fair value is based upon discounted cash flow models that use unobservable inputs due to the limited market activity of the instrument, as is the case with certain private label MBS held by the Corporation (Level 3). Derivative instruments The fair value of most of the Corporation’s derivative instruments is based on observable market parameters and takes into consideration the credit risk component of paying counterparties, when appropriate. On interest caps, only the seller’s credit risk i s considered. The caps were valued using a discounted cash flow approach based on the related LIBOR and swap rate for each cash flow. A credit spread is considered for those derivative instruments that are not secured. The cumulative mark-to-market effe ct of credit risk in the valuation of derivative instruments for the quarters and nine-month periods ended September 30, 2018 and 2017 was immaterial.
Assets and liabilities measured at fair value on a recurring basis are summarized below:
| As of September 30, 2018 |  | As of December 31, 2017
| Fair Value Measurements Using |  | Fair Value Measurements Using
(In thousands) | Level 1 |  | Level 2 |  | Level 3 |  | Assets/Liabilities at Fair Value |  | Level 1 |  | Level 2 |  | Level 3 |  | Assets/Liabilities at Fair Value
Assets: |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |
Securities available for sale : |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |
Equity securities (1) | $ | - |  | $ | - |  | $ | - |  | $ | - |  | $ | 418 |  | $ | - |  | $ | - |  | $ | 418
U.S. Treasury Securities |  | 7,426 |  |  | - |  |  | - |  |  | 7,426 |  |  | 7,401 |  |  | - |  |  | - |  |  | 7,401
Noncallable U.S. agency debt securities |  | - |  |  | 341,720 |  |  | - |  |  | 341,720 |  |  | - |  |  | 361,971 |  |  | - |  |  | 361,971
Callable U.S. agency debt securities and MBS |  | - |  |  | 1,640,064 |  |  | - |  |  | 1,640,064 |  |  | - |  |  | 1,497,253 |  |  | - |  |  | 1,497,253
Puerto Rico government obligations |  | - |  |  | 4,142 |  |  | 2,798 |  |  | 6,940 |  |  | - |  |  | 4,118 |  |  | 2,695 |  |  | 6,813
Private label MBS |  | - |  |  | - |  |  | 14,571 |  |  | 14,571 |  |  | - |  |  | - |  |  | 17,060 |  |  | 17,060
Other investments |  | - |  |  | - |  |  | 500 |  |  | 500 |  |  | - |  |  | - |  |  | 100 |  |  | 100
Equity securities (1) |  | 411 |  |  | - |  |  | - |  |  | 411 |  |  | - |  |  | - |  |  | - |  |  | -
Derivatives, included in assets: |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |
Purchased interest rate cap agreements |  | - |  |  | 815 |  |  | - |  |  | 815 |  |  | - |  |  | 305 |  |  | - |  |  | 305
Forward contracts |  | - |  |  | 116 |  |  | - |  |  | 116 |  |  | - |  |  | 7 |  |  | - |  |  | 7
Liabilities: |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |
Derivatives, included in liabilities: |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |
Written interest rate cap agreements |  | - |  |  | 815 |  |  | - |  |  | 815 |  |  | - |  |  | 305 |  |  | - |  |  | 305
Forward contracts |  | - |  |  | 20 |  |  | - |  |  | 20 |  |  | - |  |  | 19 |  |  | - |  |  | 19
(1) As of January 1, 2018, the Corporation adopted ASU 2016-01, resulting in the reclassification of equity securities from available-for-sale investment securities to other investment securities. As of December 31, 2017, equity securities had a net unrealized loss of $6 thousand.
The table below presents a reconciliation of the beginning and ending balances of all assets and liabilities measured at fair value on a recurring basis using significant unobservable inputs (Level 3) for the quarters and nine-month periods ended September 30, 2018 and 2017.
|  | Quarter Ended September 30,
|  | 2018 |  | 2017
Level 3 Instruments Only | Securities |  | Securities
(In thousands) | Available For Sale(1) |  | Available For Sale(1)
Beginning balance | $ | 17,829 |  | $ | 19,771
Total gains (realized/unrealized): |  |  |  |  |
Included in other comprehensive income |  | 35 |  |  | 1,754
Purchases |  | 500 |  |  | -
Principal repayments and amortization |  | (495) |  |  | (1,186)
Ending balance | $ | 17,869 |  | $ | 20,339
(1) | Amounts mostly related to private label MBS.
|  | Nine-Month Period Ended September 30,
|  | 2018 |  | 2017
Level 3 Instruments Only | Securities |  | Securities
(In thousands) | Available For Sale(1) |  | Available For Sale(1)
Beginning balance | $ | 19,855 |  | $ | 22,914
Total gains (realized/unrealized): |  |  |  |  |
Included in other comprehensive income |  | 228 |  |  | 2,500
Purchases |  | 500 |  |  | -
Principal repayments and amortization |  | (2,714) |  |  | (5,075)
Ending balance | $ | 17,869 |  | $ | 20,339
(1) | Amounts mostly related to private label MBS.
The tables below present qualitative information for significant assets and liabilities measured at fair value on a recurring basis using significant unobservable inputs (Level 3) as of September 30, 2018 and December 31, 2017:
| September 30, 2018
(In thousands) | Fair Value |  | Valuation Technique |  | Unobservable Input |  | Range
Investment securities available-for-sale:
Private label MBS | $ | 14,571 |  | Discounted cash flows |  | Discount rate |  | 14.8%
|  |  |  |  |  | Prepayment rate |  | 3.5% - 22.5% (Weighted Average 11.7%)
|  |  |  |  |  | Projected Cumulative Loss Rate |  | 0.0% - 7.8% (Weighted Average 4%)
Puerto Rico government obligations |  | 2,798 |  | Discounted cash flows |  | Discount rate |  | 5.90%
|  |  |  |  |  | Prepayment rate |  | 3.00%
| December 31, 2017
(In thousands) | Fair Value |  | Valuation Technique |  | Unobservable Input |  | Range
Investment securities available-for-sale:
Private label MBS | $ | 17,060 |  | Discounted cash flows |  | Discount rate |  | 14.0%
|  |  |  |  |  | Prepayment rate |  | 12.0% - 29.0% (Weighted Average 16.4%)
|  |  |  |  |  | Projected Cumulative Loss Rate |  | 0.0% - 6.8% (Weighted Average 3.0%)
Puerto Rico government obligations |  | 2,695 |  | Discounted cash flows |  | Discount rate |  | 6.61%
|  |  |  |  |  | Prepayment rate |  | 3.00%
Information about Sensitivity to Changes in Significant Unobservable Inputs Private label MBS: The significant unobservable inputs in the valuation include probability of default, the loss severity assumption, and prepayment rates. Shifts in those inputs would result in different fair value measurements. Increases in the probability of default, loss severity assumptions, and prepayment rates in isolation would generally result in an adverse effect on the fair value of the instruments. Meaningful and possi ble shifts of each input were modeled to assess the effect on the fair value estimation. Puerto Rico Government Obligations: The significant unobservable input used in the fair value measurement is the assumed prepayment rate of the underlying residentia l mortgage loans that collateral ize these obligations that are guaranteed by the Puerto Rico Housing Finance Authority. A significant increase (decrease) in the assumed rate would lead to a higher (lower) fair value estimate. The fair value of th ese bonds was based on a discounted cash flow analysis that contemplates the credit quality of the holder of second mortgages and a discount for liquidity constrain t s on the bonds considering the absence of an active market for them. Due to the guarantee o f the Puerto Rico Housing Finance Authority and other applicable contractual safeguards, no additional credit spread is applied for services default. There were no changes in unrealized gains and losses recorded in earnings for the quarters and nine-month periods ended September 30, 2018 and 2017 for Level 3 assets and liabilities that were still held at the end of each period. Additionally, fair value is used on a nonrecurring basis to evaluate certain assets in accordance with GAAP. Adjustments to fair value usually result from the application of lower-of-cost or market accounting (e.g., loans held for sale carried at the lower-of-cost or fair value a nd repossessed assets) or write downs of individual assets (e.g., goodwill and loans).
As of September 30, 2018, impairment or valuation adjustments were recorded for assets recognized at fair value on a non-recurring basis as shown in the following table:
|  |  |  |  |  |  |  |  |  |  | (Losses) Gains recorded for the Quarter Ended |  | (Losses) Gains recorded for the Nine-Month Period Ended
|  | Carrying value as of September 30, 2018 |  | September 30, 2018 |  | September 30, 2018
|  | Level 1 |  | Level 2 |  | Level 3 |  |  |  |  |  |
(In thousands) |  |  |  |  |  |  |  |  |  |  |  |  |  |
Loans receivable (1) | $ | - |  | $ | - |  | $ | 442,248 |  | $ | (7,967) |  | $ | (20,622)
OREO (2) |  | - |  |  | - |  |  | 135,218 |  |  | (3,244) |  |  | (9,817)
Loans held for sale (3) |  | - |  |  | - |  |  | 44,177 |  |  | (10,102) |  |  | (14,642)
(1) | Consists mainly of impaired commercial and construction loans. The impairments were generally measured based on the fair value of the collateral. The fair values were derived from external appraisals that took into consideration prices in observed transactions involving similar assets in similar locations but adjusted for specific characteristics and assumptions of the collateral (e.g., absorption rates), which are not market observable.
(2) | The fair values were derived from appraisals that took into consideration prices in observed transactions involving similar assets in similar locations but adjusted for specific characteristics and assumptions of the properties (e.g., absorption rates and net operating income of income producing properties), which are not market observable. Losses were related to market valuation adjustments after the transfer of the loans to the OREO portfolio.
(3) | The value of these loans was primarily derived from both external appraisals, adjusted for specific characteristics of the loans, and, for the $17.2 million in non-performing loans transferred to held for sale in the third quarter of 2018, from broker price opinions that the Corporation considered.
As of September 30, 2017, impairment or valuation adjustments were recorded for assets recognized at fair value on a non-recurring basis as shown in the following table:
|  |  |  |  |  |  |  |  |  |  | (Losses) recorded for the Quarter Ended |  | (Losses) recorded for the Nine-Month Period
|  | Carrying value as of September 30, 2017 |  | September 30, 2017 |  | September 30, 2017
|  | Level 1 |  | Level 2 |  | Level 3 |  |  |  |  |  |
(In thousands) |  |  |  |  |  |  |  |  |  |  |  |  |  |
Loans receivable (1) | $ | - |  | $ | - |  | $ | 374,740 |  | $ | (686) |  | $ | (23,467)
OREO (2) |  | - |  |  | - |  |  | 152,977 |  |  | (818) |  |  | (7,563)
Mortgage servicing rights (3) |  | - |  |  | - |  |  | 25,999 |  |  | (690) |  |  | (1,047)
(1) | Consists mainly of impaired commercial and construction loans. The impairments were generally measured based on the fair value of the collateral. The fair values were derived from external appraisals that take into consideration prices in observed transactions involving similar assets in similar locations but adjusted for specific characteristics and assumptions of the collateral (e.g., absorption rates), which are not market observable.
(2) | The fair values were derived from appraisals that take into consideration prices in observed transactions involving similar assets in similar locations but adjusted for specific characteristics and assumptions of the properties (e.g., absorption rates and net operating income of income producing properties), which are not market observable. Losses were related to market valuation adjustments after the transfer of the loans to the OREO portfolio.
(3) | Fair value adjustments to the mortgage servicing rights were mainly due to assumptions associated with mortgage prepayments rates. The Corporation carries its mortgage servicing rights at the lower of cost or market, measured at fair value on a non-recurring basis. Assumptions for the value of mortgage servicing rights include: Prepayment Rate of 6.41%, Discount Rate of 11.22%.
Qualitative information regarding the fair value measurements for Level 3 financial instruments as of September 30, 2018 are as follows:
| September 30, 2018
| Method |  | Inputs
Loans | Income, Market, Comparable Sales, Discounted Cash Flows |  | External appraised values; probability weighting of broker price opinions; management assumptions regarding market trends or other relevant factors
OREO | Income, Market, Comparable Sales, Discounted Cash Flows |  | External appraised values; probability weighting of broker price opinions; management assumptions regarding market trends or other relevant factors
The following tables present the carrying value, estimated fair value and estimated fair value level of the hierarchy of financial instruments as of September 30, 2018 and December 31, 2017:
| Total Carrying Amount in Statement of Financial Condition September 30, 2018 |  | Fair Value Estimate September 30, 2018 |  | Level 1 |  | Level 2 |  | Level 3
(In thousands) |  |  |  |  |  |  |  |  |  |  |  |  |  |
Assets: |  |  |  |  |  |  |  |  |  |  |  |  |  |
Cash and due from banks and money |  |  |  |  |  |  |  |  |  |  |  |  |  |
market investments (amortized cost) | $ | 656,772 |  | $ | 656,772 |  | $ | 656,772 |  | $ | - |  | $ | -
Investment securities available |  |  |  |  |  |  |  |  |  |  |  |  |  |
for sale (fair value) |  | 2,011,221 |  |  | 2,011,221 |  |  | 7,426 |  |  | 1,985,926 |  |  | 17,869
Investment securities held to maturity (amortized cost) |  | 144,799 |  |  | 131,703 |  |  | - |  |  | - |  |  | 131,703
Equity Securities (fair value) |  | 42,274 |  |  | 42,274 |  |  | 411 |  |  | 41,863 |  |  | -
Loans held for sale (lower of cost or market) |  | 65,739 |  |  | 65,907 |  |  | - |  |  | 21,730 |  |  | 44,177
Loans held for investment (amortized cost) |  | 8,716,953 |  |  |  |  |  |  |  |  |  |  |  |
Less: allowance for loan and lease losses |  | (200,563) |  |  |  |  |  |  |  |  |  |  |  |
Loans held for investment, net of allowance | $ | 8,516,390 |  |  | 8,174,205 |  |  | - |  |  | - |  |  | 8,174,205
Derivatives, included in assets (fair value) |  | 931 |  |  | 931 |  |  | - |  |  | 931 |  |  | -
Liabilities: |  |  |  |  |  |  |  |  |  |  |  |  |  |
Deposits (amortized cost) |  | 9,148,243 |  |  | 9,151,666 |  |  | - |  |  | 9,151,666 |  |  | -
Securities sold under agreements |  |  |  |  |  |  |  |  |  |  |  |  |  |
to repurchase (amortized cost) |  | 100,000 |  |  | 121,047 |  |  | - |  |  | 121,047 |  |  | -
Advances from FHLB (amortized cost) |  | 690,000 |  |  | 673,788 |  |  | - |  |  | 673,788 |  |  | -
Other borrowings (amortized cost) |  | 184,150 |  |  | 175,480 |  |  | - |  |  | - |  |  | 175,480
Derivatives, included in liabilities (fair value) |  | 835 |  |  | 835 |  |  | - |  |  | 835 |  |  | -
| Total Carrying Amount in Statement of Financial Condition December 31, 2017 |  | Fair Value Estimate December 31, 2017 |  | Level 1 |  | Level 2 |  | Level 3
(In thousands) |  |  |  |  |  |  |  |  |  |  |  |  |  |
Assets: |  |  |  |  |  |  |  |  |  |  |  |  |  |
Cash and due from banks and money |  |  |  |  |  |  |  |  |  |  |  |  |  |
market investments (amortized cost) | $ | 716,395 |  | $ | 716,395 |  | $ | 716,395 |  | $ | - |  | $ | -
Investment securities available |  |  |  |  |  |  |  |  |  |  |  |  |  |
for sale (fair value) |  | 1,891,016 |  |  | 1,891,016 |  |  | 7,819 |  |  | 1,863,342 |  |  | 19,855
Investment securities |  |  |  |  |  |  |  |  |  |  |  |  |  |
held to maturity (amortized cost) |  | 150,627 |  |  | 131,032 |  |  | - |  |  | - |  |  | 131,032
Equity securities (fair value) |  | 43,119 |  |  | 43,119 |  |  | - |  |  | 43,119 |  |  | -
Loans held for sale (lower of cost or market) |  | 32,980 |  |  | 34,979 |  |  | - |  |  | 25,237 |  |  | 9,742
Loans held for investment (amortized cost) |  | 8,850,476 |  |  |  |  |  |  |  |  |  |  |  |
Less: allowance for loan and lease losses |  | (231,843) |  |  |  |  |  |  |  |  |  |  |  |
Loans held for investment, net of allowance | $ | 8,618,633 |  |  | 8,372,865 |  |  | - |  |  | - |  |  | 8,372,865
Derivatives, included in assets (fair value) |  | 312 |  |  | 312 |  |  | - |  |  | 312 |  |  | -
Liabilities: |  |  |  |  |  |  |  |  |  |  |  |  |  |
Deposits (amortized cost) |  | 9,022,631 |  |  | 9,026,600 |  |  | - |  |  | 9,026,600 |  |  | -
Securities sold under |  |  |  |  |  |  |  |  |  |  |  |  |  |
agreements to repurchase (amortized cost) |  | 300,000 |  |  | 325,913 |  |  | - |  |  | 325,913 |  |  | -
Advances from FHLB (amortized cost) |  | 715,000 |  |  | 707,272 |  |  | - |  |  | 707,272 |  |  | -
Other borrowings (amortized cost) |  | 208,635 |  |  | 189,424 |  |  | - |  |  | - |  |  | 189,424
Derivatives, included in liabilities (fair value) |  | 324 |  |  | 324 |  |  | - |  |  | 324 |  |  | -
The short-term nature of certain assets and liabilities result in their carrying value approximating fair value. These include cash and due from banks and other short-term assets, such as FHLB stock. Certain assets, the most significant being premises and equipment, mortgage servicing rights, deposits base, and other customer relationship intangibles, are not considered financial instruments and are not included above. Accordingly, this fair value information is not intended to, and does not, represent the Corporation’s underlying value. Many of these assets and liabilities subject to the disclosure requirements are not actively traded, requiring management to estimate fair values. These estimates necessarily involve the use of judgment about a wide variety of factors, including but not limited to, relevancy of market prices of comparable instruments, expected futures cash flows, and appropriate discount rates.

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- Definition The entire disclosure for the fair value of financial instruments (as defined), including financial assets and financial liabilities (collectively, as defined), and the measurements of those instruments as well as disclosures related to the fair value of non-financial assets and liabilities. Such disclosures about the financial instruments, assets, and liabilities would include: (1) the fair value of the required items together with their carrying amounts (as appropriate); (2) for items for which it is not practicable to estimate fair value, disclosure would include: (a) information pertinent to estimating fair value (including, carrying amount, effective interest rate, and maturity, and (b) the reasons why it is not practicable to estimate fair value; (3) significant concentrations of credit risk including: (a) information about the activity, region, or economic characteristics identifying a concentration, (b) the maximum amount of loss the entity is exposed to based on the gross fair value of the related item, (c) policy for requiring collateral or other security and information as to accessing such collateral or security, and (d) the nature and brief description of such collateral or security; (4) quantitative information about market risks and how such risks are managed; (5) for items measured on both a recurring and nonrecurring basis information regarding the inputs used to develop the fair value measurement; and (6) for items presented in the financial statement for which fair value measurement is elected: (a) information necessary to understand the reasons for the election, (b) discussion of the effect of fair value changes on earnings, (c) a description of [similar groups] items for which the election is made and the relation thereof to the balance sheet, the aggregate carrying value of items included in the balance sheet that are not eligible for the election; (7) all other required (as defined) and desired information. + References Reference 1: http://fasb.org/us-gaap/role/ref/legacyRef -Publisher FASB -Name Accounting Standards Codification -Topic 820 -URI http://asc.fasb.org/topic&trid=2155941 + Details
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