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Fair Value of Financial Instruments
 9 Months Ended
Sep. 30, 2020
Fair Value of Financial Instruments [Abstract]  
Fair Value of Financial Instruments

NOTE 23 - FAIR VALUE OF FINANCIAL INSTRUMENTS

 

Oriental follows the fair value measurement framework under U.S. Generally Accepted Accounting Principles (“GAAP”).

 

Fair Value Measurement

 

The fair value measurement framework defines fair value as the exchange price that would be received for an asset or paid to transfer a liability in the principal or most advantageous market for the asset or liability in an orderly transaction between market participants on the measurement date. This framework also establishes a fair value hierarchy which requires an entity to maximize the use of observable inputs and minimize the use of unobservable inputs when measuring fair value.

 

Money market investments

 

The fair value of money market investments is based on the carrying amounts reflected in the consolidated statements of financial condition as these are reasonable estimates of fair value given the short-term nature of the instruments.

 

Investment securities

 

The fair value of investment securities is based on valuations obtained from an independent pricing provider, ICE Data Pricing (formerly known as IDC). ICE is a well-recognized pricing company and an established leader in financial information. Such securities are classified as Level 1 or Level 2 depending on the basis for determining fair value. If listed prices or quotes are not available, fair value is based upon externally developed models that use both observable and unobservable inputs depending on the market activity of the instrument, and such securities are classified as Level 3. At September 30, 2020 and 2019, Oriental did not have investment securities classified as Level 3.

 

Derivative instruments

 

The fair value of the interest rate swaps is largely a function of the financial market’s expectations regarding the future direction of interest rates. Accordingly, current market values are not necessarily indicative of the future impact of derivative instruments on earnings. This will depend, for the most part, on the shape of the yield curve, the level of interest rates, as well as the expectations for rates in the future. The fair value of most of these derivative instruments is based on observable market parameters, which include discounting the instruments’ cash flows using the U.S. dollar LIBOR-based discount rates, and also applying yield curves that account for the industry sector and the credit rating of the counterparty and/or Oriental. Certain other derivative instruments with limited market activity are valued using externally developed models that consider unobservable market parameters. Based on their valuation methodology, derivative instruments are classified as Level 2 or Level 3.

 

Servicing assets

 

Servicing assets do not trade in an active market with readily observable prices. Servicing assets are priced using a discounted cash flow model. The valuation model considers servicing fees, portfolio characteristics, prepayment assumptions, delinquency rates, late charges, other ancillary revenues, cost to service and other economic factors. Due to the unobservable nature of certain valuation inputs, the servicing rights are classified as Level 3.

 

Foreclosed real estate

 

Foreclosed real estate includes real estate properties securing residential mortgage and commercial loans. The fair value of foreclosed real estate may be determined using an external appraisal, broker price option or an internal valuation. These foreclosed assets are classified as Level 3 given certain internal adjustments that may be made to external appraisals.

 

Other repossessed assets

 

Other repossessed assets include repossessed automobiles. The fair value of the repossessed automobiles may be determined using internal valuation and an external appraisal. These repossessed assets are classified as Level 3 given certain internal adjustments that may be made to external appraisals.

Assets and liabilities measured at fair value on a recurring and non-recurring basis are summarized below:

 

September 30, 2020

 

Fair Value Measurements

 

Level 1

 

Level 2

 

Level 3

 

Total

 

(In thousands)

Recurring fair value measurements:

 

 

 

 

 

 

 

 

 

 

 

Investment securities available-for-sale

$

91,531

 

$

332,284

 

$

-

 

$

423,815

Trading securities

 

-

 

 

22

 

 

-

 

 

22

Money market investments

 

14,617

 

 

-

 

 

-

 

 

14,617

Derivative assets

 

-

 

 

1

 

 

-

 

 

1

Servicing assets

 

-

 

 

-

 

 

47,242

 

 

47,242

Derivative liabilities

 

-

 

 

(1,895)

 

 

-

 

 

(1,895)

 

$

106,148

 

$

330,412

 

$

47,242

 

$

483,802

Non-recurring fair value measurements:

 

 

 

 

 

 

 

 

 

 

 

Collateral dependent loans

 

-

 

 

-

 

 

32,800

 

 

32,800

Foreclosed real estate

 

-

 

 

-

 

 

19,456

 

 

19,456

Other repossessed assets

 

-

 

 

-

 

 

1,918

 

 

1,918

 

$

-

 

$

-

 

$

54,174

 

$

54,174

 

 

 

 

 

 

 

 

 

 

 

 

 

December 31, 2019

 

Fair Value Measurements

 

Level 1

 

Level 2

 

Level 3

 

Total

 

(In thousands)

Recurring fair value measurements:

 

 

 

 

 

 

 

 

 

 

 

Investment securities available-for-sale

$

397,183

 

$

676,986

 

$

-

 

$

1,074,169

Trading securities

 

-

 

 

37

 

 

-

 

 

37

Money market investments

 

6,775

 

 

-

 

 

-

 

 

6,775

Derivative assets

 

-

 

 

6

 

 

-

 

 

6

Servicing assets

 

-

 

 

-

 

 

50,779

 

 

50,779

Derivative liabilities

 

-

 

 

(913)

 

 

-

 

 

(913)

 

$

403,958

 

$

676,116

 

$

50,779

 

$

1,130,853

Non-recurring fair value measurements:

 

 

 

 

 

 

 

 

 

 

 

Impaired commercial loans

$

-

 

$

-

 

$

61,128

 

$

61,128

Foreclosed real estate

 

-

 

 

-

 

 

29,909

 

 

29,909

Other repossessed assets

 

-

 

 

-

 

 

3,327

 

 

3,327

 

$

-

 

$

-

 

$

94,364

 

$

94,364

The table below presents a reconciliation 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, 2020 and 2019:

Level 3 Instruments Only

 

 

 

 

 

 

 

 

Servicing Assets

 

Quarter Ended September 30,

 

Nine-Month Period Ended September 30,

 

2020

 

2019

 

2020

 

2019

 

(In thousands)

Balance at beginning period

$

47,926

 

$

10,134

 

$

50,779

 

$

10,716

New instruments acquired

 

656

 

 

352

 

 

1,236

 

 

860

Principal repayments

 

(1,365)

 

 

(243)

 

 

(2,810)

 

 

(694)

Changes in fair value of servicing assets

 

25

 

 

(118)

 

 

(1,963)

 

 

(757)

Balance at end of period

$

47,242

 

$

10,125

 

$

47,242

 

$

10,125

There were no transfers into or out of level 3 and no changes in unrealized gains and losses from recurring level 3 fair value measurements held at September 30, 2020 and 2019 during the quarters and nine-month periods then ended included in other comprehensive income. For more information on the qualitative information about level 3 fair value measurements, see Note 8 – Servicing Assets.

 

During the quarters and nine-month periods ended September 30, 2020 and 2019, there were purchases and sales of assets and liabilities measured at fair value on a recurring basis.

The table below presents quantitative information for all assets and liabilities measured at fair value on a recurring and non-recurring basis using significant unobservable inputs (Level 3) at September 30, 2020:

 

 

September 30, 2020

 

 

 

 

Fair Value

 

Valuation Technique

 

Unobservable Input

 

Range

 

Weighted Average

 

 

(In thousands)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Servicing assets

 

$

47,242

 

Cash flow valuation

 

Constant prepayment rate

 

5.02% - 25.8%

 

6.87%

 

 

 

 

 

 

 

Discount rate

 

10.00% - 15.50%

 

11.52%

 

 

 

 

 

 

 

 

 

 

 

 

Collateral dependent loans

 

$

32,800

 

Fair value of property

or collateral

 

Appraised value less disposition costs

 

14.20% - 44.20%

 

21.45%

 

 

 

 

 

 

 

 

 

 

 

 

Foreclosed real estate

 

$

19,456

 

Fair value of property

or collateral

 

Appraised value less disposition costs

 

14.20% - 40.20%

 

18.68%

 

 

 

 

 

 

 

 

 

 

 

 

Other repossessed assets

 

$

1,918

 

Fair value of property

or collateral

 

Estimated net realizable value less disposition costs

 

30.00% - 62.00%

 

52.06%

Information about Sensitivity to Changes in Significant Unobservable Inputs

 

Servicing assets – The significant unobservable inputs used in the fair value measurement of Oriental’s servicing assets are constant prepayment rates and discount rates. Changes in one factor may result in changes in another (for example, increases in market interest rates may result in lower prepayments), which may magnify or offset the sensitivities. Mortgage banking activities, a component of total banking and financial service revenue in the consolidated statements of operations, include the changes from period to period in the fair value of the mortgage loan servicing rights, which may result from changes in the valuation model inputs or assumptions (principally reflecting changes in discount rates and prepayment speed assumptions) and other changes, including changes due to collection/realization of expected cash flows.

Fair Value of Financial Instruments

 

The information about the estimated fair value of financial instruments required by GAAP is presented hereunder. The aggregate fair value amounts presented do not necessarily represent management’s estimate of the underlying value of Oriental.

 

The estimated fair value is subjective in nature, involves uncertainties and matters of significant judgment and, therefore, cannot be determined with precision. Changes in assumptions could affect these fair value estimates. The fair value estimates do not take into consideration the value of future business and the value of assets and liabilities that are not financial instruments. Other significant tangible and intangible assets that are not considered financial instruments are the value of long-term customer relationships of retail deposits, and premises and equipment.

The estimated fair value and carrying value of Oriental’s financial instruments at September 30, 2020 and December 31, 2019 is as follows:

 

September 30,

 

December 31,

 

2020

 

2019

 

Fair

 

Carrying

 

Fair

 

Carrying

 

Value

 

Value

 

Value

 

Value

 

(In thousands)

Level 1

 

 

 

 

 

 

 

 

 

 

 

Financial Assets:

 

 

 

 

 

 

 

 

 

 

 

Cash and cash equivalents

$

2,282,000

 

$

2,282,000

 

$

851,307

 

$

851,307

Restricted cash

$

1,050

 

$

1,050

 

$

1,450

 

$

1,450

Investment securities available-for-sale

$

91,531

 

$

91,531

 

$

397,183

 

$

397,183

Level 2

 

 

 

 

 

 

 

 

 

 

 

Financial Assets:

 

 

 

 

 

 

 

 

 

 

 

Trading securities

$

22

 

$

22

 

$

37

 

$

37

Investment securities available-for-sale

$

332,284

 

$

332,284

 

$

676,986

 

$

676,986

Federal Home Loan Bank (FHLB) stock

$

8,322

 

$

8,322

 

$

13,048

 

$

13,048

Other investments

$

2,205

 

$

2,205

 

$

560

 

$

560

Derivative assets

$

1

 

$

1

 

$

6

 

$

6

Financial Liabilities:

 

 

 

 

 

 

 

 

 

 

 

Derivative liabilities

$

1,895

 

$

1,895

 

$

913

 

$

913

Level 3

 

 

 

 

 

 

 

 

 

 

 

Financial Assets:

 

 

 

 

 

 

 

 

 

 

 

Total loans (including loans held-for-sale)

$

6,165,071

 

$

6,579,140

 

$

5,894,745

 

$

6,641,847

Accrued interest receivable

$

71,830

 

$

71,830

 

$

36,781

 

$

36,781

Servicing assets

$

47,242

 

$

47,242

 

$

50,779

 

$

50,779

Accounts receivable and other assets

$

75,158

 

$

75,158

 

$

78,600

 

$

78,600

Financial Liabilities:

 

 

 

 

 

 

 

 

 

 

 

Deposits

$

8,548,518

 

$

8,632,457

 

$

7,679,685

 

$

7,698,610

Securities sold under agreements to repurchase

$

-

 

$

-

 

$

190,345

 

$

190,274

Advances from FHLB

$

69,410

 

$

66,543

 

$

79,620

 

$

78,009

Other borrowings

$

238

 

$

238

 

$

1,195

 

$

1,195

Subordinated capital notes

$

34,031

 

$

36,083

 

$

35,886

 

$

36,083

Accrued expenses and other liabilities

$

162,133

 

$

162,133

 

$

185,660

 

$

185,660

The following methods and assumptions were used to estimate the fair values of significant financial instruments at September 30, 2020 and December 31, 2019:

 

• Cash and cash equivalents (including money market investments and time deposits with other banks), restricted cash, accrued interest receivable, accounts receivable and other assets, accrued expenses and other liabilities, and other borrowings have been valued at the carrying amounts reflected in the consolidated statements of financial condition as these are reasonable estimates of fair value given the short-term nature of the instruments.

 

• Investments in FHLB-NY stock are valued at their redemption value.

 

• The fair value of investment securities, including trading securities and other investments, is based on quoted market prices, when available or prices provided from contracted pricing providers, or market prices provided by recognized broker-dealers. If listed prices or quotes are not available, fair value is based upon externally developed models that use both observable and unobservable inputs depending on the market activity of the instrument.

 

• The fair value of servicing asset is estimated by using a cash flow valuation model which calculates the present value of estimated future net servicing cash flows, taking into consideration actual and expected loan prepayment rates, discount rates, servicing costs, and other economic factors, which are determined based on current market conditions.

 

• The fair values of the derivative instruments, which include interest rate swaps and forward-settlement swaps, are based on the net discounted value of the contractual projected cash flows of both the pay-fixed receive-variable legs of the contracts. The projected cash flows are based on the forward yield curve and discounted using current estimated market rates.

 

• The fair value of the loan portfolio (including loans held-for-sale and non-performing loans) is based on the exit market price, which is estimated by segregating by type, such as mortgage, commercial, consumer, auto and leasing. Each loan segment is further segmented into fixed and adjustable interest rates. The fair value is calculated by discounting contractual cash flows, adjusted for prepayment estimates (voluntary and involuntary), if any, using estimated current market discount rates that reflect the credit and interest rate risk inherent in the loan.

 

• The fair value of demand deposits and savings accounts is the amount payable on demand at the reporting date. The fair value of fixed-maturity certificates of deposit is based on the discounted value of the contractual cash flows, using estimated current market discount rates for deposits of similar remaining maturities.

 

• The fair value of long-term borrowings, which include securities sold under agreements to repurchase, advances from FHLB, and subordinated capital notes is based on the discounted value of the contractual cash flows using current estimated market discount rates for borrowings with similar terms, remaining maturities and put dates.