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Financial Instruments
 3 Months Ended
Mar. 31, 2012
Financial Instruments [Abstract]  
Financial instruments

6. Financial instruments

Securities owned and securities sold but not yet purchased, investments and derivative contracts are carried at fair value with changes in fair value recognized in earnings each period. The Company’s other financial instruments are generally short-term in nature or have variable interest rates and as such their carrying values approximate fair value, with the exception of notes receivable from employees which are carried at cost.

 

Securities Owned and Securities Sold, But Not Yet Purchased at Fair Value

Expressed in thousands of dollars.

 

                                 
    March 31,
2012		     December 31,
2011		  
    Owned     Sold     Owned     Sold  

U.S. Treasury, agency and sovereign obligations

   $ 677,810     $ 40,022     $ 682,805     $ 27,509  

Corporate debt and other obligations

     38,871       4,439       27,188       3,696  

Mortgage and other asset-backed securities

     3,413       7       4,610       14  

Municipal obligations

     52,435       1,209       54,963       485  

Convertible bonds

     54,601       9,143       50,157       8,533  

Corporate equities

     49,525       35,524       38,634       29,056  

Other

     69,769       64       66,185       122  
   

 

 

    

 

 

    

 

 

    

 

 

  

Total

   $ 946,424     $ 90,408     $ 924,542     $ 69,415  
   

 

 

    

 

 

    

 

 

    

 

 

  

Securities owned and securities sold, but not yet purchased, consist of trading and investment securities at fair values. Included in securities owned at March 31, 2012 are corporate equities with estimated fair values of approximately $13.5 million ($13.2 million at December 31, 2011), which are related to deferred compensation liabilities to certain employees included in accrued compensation on the condensed consolidated balance sheet. As of March 31, 2012, the Company did not have any exposure to European sovereign debt.

Valuation Techniques

A description of the valuation techniques applied and inputs used in measuring the fair value of the Company’s financial instruments is as follows:

U.S. Treasury Obligations

U.S. Treasury securities are valued using quoted market prices obtained from active market makers and inter-dealer brokers and, accordingly, are categorized in Level 1 in the fair value hierarchy.

U.S. Agency Obligations

U.S. agency securities consist of agency issued debt securities and mortgage pass-through securities. Non-callable agency issued debt securities are generally valued using quoted market prices. Callable agency issued debt securities are valued by benchmarking model-derived prices to quoted market prices and trade data for identical or comparable securities. The fair value of mortgage pass-through securities are model driven with respect to spreads of the comparable To-be-announced (“TBA”) security. Actively traded non-callable agency issued debt securities are categorized in Level 1 of the fair value hierarchy. Callable agency issued debt securities and mortgage pass-through securities are generally categorized in Level 2 of the fair value hierarchy.

Sovereign Obligations

The fair value of sovereign obligations is determined based on quoted market prices when available or a valuation model that generally utilizes interest rate yield curves and credit spreads as inputs. Sovereign obligations are categorized in Level 1 or 2 of the fair value hierarchy.

 

Corporate Debt & Other Obligations

The fair value of corporate bonds is estimated using recent transactions, broker quotations and bond spread information. Corporate bonds are generally categorized in Level 2 of the fair value hierarchy.

Mortgage and Other Asset-Backed Securities

The Company holds non-agency securities collateralized by home equity and various other types of collateral which are valued based on external pricing and spread data provided by independent pricing services and are generally categorized in Level 2 of the fair value hierarchy. When specific external pricing is not observable, the valuation is based on yields and spreads for comparable bonds and, consequently, the positions are categorized in Level 3 of the fair value hierarchy.

Municipal Obligations

The fair value of municipal obligations is estimated using recently executed transactions, broker quotations, and bond spread information. These obligations are generally categorized in Level 2 of the fair value hierarchy; in instances where significant inputs are unobservable, they are categorized in Level 3 of the hierarchy.

Convertible Bonds

The fair value of convertible bonds is estimated using recently executed transactions and dollar-neutral price quotations, where observable. When observable price quotations are not available, fair value is determined based on cash flow models using yield curves and bond spreads as key inputs. Convertible bonds are generally categorized in Level 2 of the fair value hierarchy; in instances where significant inputs are unobservable, they are categorized in Level 3 of the hierarchy.

Corporate Equities

Equity securities and options are generally valued based on quoted prices from the exchange or market where traded and categorized as Level 1 in the fair value hierarchy. To the extent quoted prices are not available, prices are generally derived using bid/ask spreads, and these securities are generally categorized in Level 2 of the fair value hierarchy.

Other

In February 2010, Oppenheimer finalized settlements with each of the New York Attorney General’s office (“NYAG”) and the Massachusetts Securities Division (“MSD” and, together with the NYAG, the “Regulators”) concluding investigations and administrative proceedings by the Regulators concerning Oppenheimer’s marketing and sale of auction rate securities (“ARS”). Pursuant to those settlements and legal settlements, as of March 31, 2012, the Company purchased and holds approximately $83.1 million in ARS from its clients pursuant to several purchase offers and legal settlements. The Company’s purchases of ARS from its clients will continue on a periodic basis pursuant to the settlements with the Regulators. In addition, the Company is committed to purchase another $41.8 million in ARS from clients through 2016. The ultimate amount of ARS to be repurchased by the Company cannot be predicted with any certainty and will be impacted by redemptions by issuers and legal and other actions by clients during the relevant period, which cannot be predicted. In addition to the ARS held pursuant to purchases from clients of $83.1 million as of March 31, 2012 referred to above, the Company also held $150,000 in ARS in its proprietary trading account as of March 31, 2012 as a result of the failed auctions in February 2008. These ARS positions primarily represent Auction Rate Preferred Securities issued by closed-end funds and, to a lesser extent, Municipal Auction Rate Securities which are municipal bonds wrapped by municipal bond insurance and Student Loan Auction Rate Securities which are asset-backed securities backed by student loans.

 

Interest rates on ARS typically reset through periodic auctions. Due to the auction mechanism and generally liquid markets, ARS have historically been categorized as Level 1 in the fair value hierarchy. Beginning in February 2008, uncertainties in the credit markets resulted in substantially all of the ARS market experiencing failed auctions. Once the auctions failed, the ARS could no longer be valued using observable prices set in the auctions. The Company has used less observable determinants of the fair value of ARS, including the strength in the underlying credits, announced issuer redemptions, completed issuer redemptions, and announcements from issuers regarding their intentions with respect to their outstanding ARS. The Company has also developed an internal methodology to discount for the lack of liquidity and non-performance risk of the failed auctions. Key inputs include spreads on comparable Treasury yields to derive a discount rate, an estimate of the ARS duration, and yields based on current auctions in comparable securities that have not failed. Additional information regarding the valuation technique and inputs used is as follows:

Expressed in thousands of dollars.

Expressed in thousands of dollars

Quantitative Information about Level 3 Fair Value Measurements at March 31, 2012

 

                                     
          Valuation           Valuation   Unobservable    

Product

   Principal     Adjustment     Fair Value    

Technique

  

Input

  

Range

Auction Rate Securities (1)

   $ 124,881     $ 8,694     $ 116,187     Discounted Cash Flow   Discount Rate   1.14% to 3.01%
                                Duration   5 to 8 Years
                                Current Yield(2)   0.27% to 1.37%

Total

                                    

 

(1) Includes ARS owned by the Company of $83.1 million and included in the condensed consolidated balance sheet at March 31, 2012 as well as additional commitments to purchase ARS from clients of $41.8 million which is disclosed in the notes to the condensed consolidated balance sheet at March 31, 2012.
(2) Based on current auctions in comparable securities that have not failed.

The fair value of ARS is particularly sensitive to movements in interest rates. Increases in short-term interest rates would increase the discount rate input used in the ARS valuation and thus reduce the fair value of the ARS (increase the valuation adjustment). Conversely, decreases in short-term interest rates would decrease the discount rate and thus increase the fair value of ARS (decrease the valuation adjustment). However, an increase (decrease) in the discount rate input would be partially mitigated by an increase (decrease) in the current yield earned on the underlying ARS asset increasing the cash flows and thus the fair value. Furthermore, movements in short term interest rates would likely impact the ARS duration (i.e., sensitivity of the price to a change in interest rates), which would also have a mitigating affect on interest rate movements. For example, as interest rates increase, issuers of ARS have an incentive to redeem outstanding securities as servicing the interest payments gets prohibitively expensive which would lower the duration assumption thereby increasing the ARS fair value. Alternatively, ARS issuers are less likely to redeem ARS in a lower interest rate environment as it is a relatively inexpensive source of financing which would increase the duration assumption thereby decreasing the ARS fair value.

 

Due to the less observable nature of these inputs, the Company categorizes ARS in Level 3 of the fair value hierarchy. As of March 31, 2012, the Company had a valuation adjustment (unrealized loss) of $8.7 million for ARS.

Investments

In its role as general partner in certain hedge funds and private equity funds, the Company, through its subsidiaries, holds direct investments in such funds. The Company uses the net asset value of the underlying fund as a basis for estimating the fair value of its investment. Due to the illiquid nature of these investments and difficulties in obtaining observable inputs, these investments are included in Level 3 of the fair value hierarchy.

The following table provides information about the Company’s investments in Company-sponsored funds at March 31, 2012.

Expressed in thousands of dollars.

 

                         
    Fair Value     Unfunded
Commit-
ments		    

Redemption

Frequency

  

Redemption
Notice Period

Hedge Funds (1)

   $ 1,134     $ —       Quarterly - Annually   30 - 120 Days

Private Equity Funds (2)

     3,215       1,320     N/A   N/A

Distressed Opportunities Investment Trust (3)

     7,645       —       N/A   N/A
   

 

 

    

 

 

          

Total

   $ 11,994     $ 1,320          
   

 

 

    

 

 

          

 

(1) Includes investments in hedge funds and hedge fund of funds that pursue long/short, event-driven, and activist strategies.
(2) Includes private equity funds and private equity fund of funds with a focus on diversified portfolios, real estate and global natural resources.
(3) Special purpose vehicle that invests in distressed debt of U.S. companies.

Derivative Contracts

From time to time, the Company transacts in exchange-traded and over-the-counter derivative transactions to manage its interest rate risk. Exchange-traded derivatives, namely U.S. Treasury futures, Federal funds futures, and Eurodollar futures, are valued based on quoted prices from the exchange and are categorized in Level 1 of the fair value hierarchy. Over-the-counter derivatives, namely interest rate swap and interest rate cap contracts, are valued using a discounted cash flow model and the Black-Scholes model, respectively, using observable interest rate inputs and are categorized in Level 2 of the fair value hierarchy.

As described below in “Credit Concentrations”, the Company participates in loan syndications and operates as underwriting agent in leveraged financing transactions where it utilizes a warehouse facility provided by Canadian Imperial Bank of Commerce (“CIBC”) to extend financing commitments to third-party borrowers identified by the Company. The Company uses broker quotations on loans trading in the secondary market as a proxy to determine the fair value of the underlying loan commitment which is categorized in Level 3 of the fair value hierarchy. The Company also purchases and sells loans in its proprietary trading book. The Company uses broker quotations to determine the fair value of loan positions held which are categorized in Level 2 of the fair value hierarchy.

 

The Company from time to time enters into securities financing transactions that mature on the same date as the underlying collateral (referred to as “repo-to-maturity” transactions). Such transactions are treated as a sale of financial assets and a forward repurchase commitment, or conversely as a purchase of financial assets and a forward reverse repurchase commitment. The forward repurchase and reverse repurchase commitments are valued based on the spread between the market value of the government security and the underlying collateral and are categorized in Level 2 of the fair value hierarchy.

Fair Value Measurements

The Company’s assets and liabilities, recorded at fair value on a recurring basis as of March 31, 2012 and December 31, 2011, have been categorized based upon the above fair value hierarchy as follows:

 

Assets and liabilities measured at fair value on a recurring basis as of March 31, 2012

Expressed in thousands of dollars.

 

                                 
    Fair Value Measurement: Assets  
    As of March 31, 2012  
    Level 1     Level 2     Level 3     Total  

Cash equivalents

   $ 49,941     $ —       $ —       $ 49,941  

Cash and securities segregated for regulatory and other purposes

     11,499       —         —         11,499  

Deposits with clearing organizations

     9,094       —         —         9,094  

Securities owned:

                                

U.S. Treasury securities

     633,384       —         —         633,384  

U.S. Agency securities

     9,002       35,334       —         44,336  

Sovereign obligations

     —         90       —         90  

Corporate debt and other obligations

     13,254       25,617       —         38,871  

Mortgage and other asset-backed securities

     —         3,315       98       3,413  

Municipal obligations

     —         40,646       11,789       52,435  

Convertible bonds

     —         54,601       —         54,601  

Corporate equities

     41,574       7,951       —         49,525  

Other

     2,938       —         66,831       69,769  
   

 

 

    

 

 

    

 

 

    

 

 

  

Securities owned, at fair value

     700,152       167,554       78,718       946,424  

Investments (1)

     910       37,332       13,132       51,374  

Derivative contracts

     —         1       —         1  

TBAs

     —         5,625       —         5,625  
   

 

 

    

 

 

    

 

 

    

 

 

  

Total

   $ 771,596     $ 210,512     $ 91,850     $ 1,073,958  
   

 

 

    

 

 

    

 

 

    

 

 

  
   
    Fair Value Measurement: Liabilities  
    As of March 31, 2012  
    Level 1     Level 2     Level 3     Total  

Securities sold, not yet purchased:

                                

U.S. Treasury securities

   $ 39,979     $ —       $ —       $ 39,979  

U.S. Agency securities

     —         43       —         43  

Sovereign obligations

     —         —         —         —    

Corporate debt and other obligations

     —         4,439       —         4,439  

Mortgage and other asset-backed securities

     —         7       —         7  

Municipal obligations

     —         1,209       —         1,209  

Convertible bonds

     —         9,143       —         9,143  

Corporate equities

     17,119       18,405       —         35,524  

Other

     64       —         —         64  
   

 

 

    

 

 

    

 

 

    

 

 

  

Securities sold, not yet purchased at fair value

     57,162       33,246       —         90,408  

Investments

     38       —         —         38  

Derivative contracts

     278       155       3,907       4,340  

TBAs

     —         1,483       —         1,483  

Securities sold under agreements to repurchase (2)

     —         101,625       —         101,625  
   

 

 

    

 

 

    

 

 

    

 

 

  

Total

   $ 57,478     $ 136,509     $ 3,907     $ 197,894  
   

 

 

    

 

 

    

 

 

    

 

 

  

 

(1) 

Included in other assets on the condensed consolidated balance sheet.

(2) 

Includes securities sold under agreements to repurchase where the Company has elected fair value option treatment.

 

Assets and liabilities measured at fair value on a recurring basis as of December 31, 2011

Expressed in thousands of dollars.

 

                                 
    Fair Value Measurement: Assets  
    As of December 31, 2011  
    Level 1     Level 2     Level 3     Total  

Cash equivalents

   $ 30,924     $ —       $ —       $ 30,924  

Cash and securities segregated for regulatory and other purposes

     11,500       —         —         11,500  

Deposits with clearing organizations

     9,095       —         —         9,095  

Securities owned:

                                

U.S. Treasury securities

     627,870       —         —         627,870  

U.S. Agency securities

     32,663       21,695       —         54,358  

Sovereign obligations

     —         577       —         577  

Corporate debt and other obligations

     12,538       14,650       —         27,188  

Mortgage and other asset-backed securities

     —         4,594       16       4,610  

Municipal obligations

     —         51,401       3,562       54,963  

Convertible bonds

     —         50,157       —         50,157  

Corporate equities

     29,150       9,484       —         38,634  

Other

     1,184       —         65,001       66,185  
   

 

 

    

 

 

    

 

 

    

 

 

  

Securities owned, at fair value

     703,405       152,558       68,579       924,542  

Investments (1)

     1,512       32,964       12,482       46,958  

Derivative contracts

     —         20       —         20  

TBAs

     —         5,791       —         5,791  

Securities purchased under agreements to resell

     —         847,610       —         847,610  
   

 

 

    

 

 

    

 

 

    

 

 

  

Total

   $ 756,436     $ 1,038,943     $ 81,061     $ 1,876,440  
   

 

 

    

 

 

    

 

 

    

 

 

  
   
    Fair Value Measurement: Liabilities  
    As of December 31, 2011  
    Level 1     Level 2     Level 3     Total  

Securities sold, not yet purchased:

                                

U.S. Treasury securities

   $ 27,462     $ —       $ —       $ 27,462  

U.S. Agency securities

     —         47       —         47  

Sovereign obligations

     —         —         —         —    

Corporate debt and other obligations

     —         3,696       —         3,696  

Mortgage and other asset-backed securities

     —         14       —         14  

Municipal obligations

     —         485       —         485  

Convertible bonds

     —         8,533       —         8,533  

Corporate equities

     16,467       12,589       —         29,056  

Other

     72       —         50       122  
   

 

 

    

 

 

    

 

 

    

 

 

  

Securities sold, not yet purchased at fair value

     44,001       25,364       50       69,415  

Investments

     26       —         —         26  

Derivative contracts

     66       8       2,347       2,421  

TBAs

     —         2,254       —         2,254  
   

 

 

    

 

 

    

 

 

    

 

 

  

Total

   $ 44,093     $ 27,626     $ 2,397     $ 74,116  
   

 

 

    

 

 

    

 

 

    

 

 

  

 

(1) 

Included in other assets on the condensed consolidated balance sheet.

(2) 

Includes securities purchased under agreements to resell where the Company has elected fair value option treatment.

 

There were no significant transfers between Level 1 and Level 2 assets and liabilities in the three months ended March 31, 2012.

The following tables present changes in Level 3 assets and liabilities measured at fair value on a recurring basis for the three months ended March 31, 2012 and 2011.

Expressed in thousands of dollars.

 

                                                         
    For the Three-Month Period Ended March 31, 2012  
    Beginning
Balance		     Realized
Gains
(Losses)(4) 		    Unrealized
Gains
(Losses)(4) (5) 		    Purchases &
Issuances		     Sales &
Settlements		     Transfers
In / Out		     Ending
Balance		  

Assets:

                                                        

Mortgage and other asset-backed securities (1)

   $ 16       —         17       80       (15 )      —       $ 98  

Municipals

     3,562       —         (1,078 )      9,305       —         —         11,789  

Other(2)

    65,001       —         (1,499 )      10,300       (6,971 )      —         66,831  

Investments (3)

     12,482       —         515       124       —         11       13,132  
               

Liabilities:

                                                        

Mortgage and other asset-backed securities (1)

   $ —         —         —         —         —         —       $ —    

Other(2)

    50       —         —         (50 )      —         —         —    

Derivative contracts

     2,347       —         —         1,560       —         —         3,907  

 

(1)

Represents private placements of non-agency collateralized mortgage obligations.

(2)

Represents auction rate securities that failed in the auction rate market.

(3)

Primarily represents general partner ownership interests in hedge funds and private equity funds sponsored by the Company.

(4) 

Included in principal transactions on the condensed consolidated statement of operations, except for investments which are included in other income on the condensed consolidated statement of operations.

(5) 

Unrealized gains (losses) are attributable to assets or liabilities that are still held at the reporting date.

 

 

Expressed in thousands of dollars.

 

                                                         
    For the Three-Month Period Ended March 31, 2011  
    Beginning
Balance		     Realized
Gains
(Losses)(4) 		    Unrealized
Gains
(Losses)(4)(5) 		    Purchases &
Issuances		     Sales &
Settlements		     Transfers
In / Out		     Ending
Balance		  

Assets:

                                                        

Mortgage and other asset-backed securities (1)

   $ 14       1       —         —         (15 )      —       $ —    

Municipals

     1,787       —         (147 )      525       —         —         2,165  

Other(2)

    35,909       —         (2,902 )      6,575       (3,000 )      —         36,582  

Investments (3)

     17,208       —         (3 )      127       —         (24 )      17,308  
               

Liabilities:

                                                        

Mortgage and other asset-backed securities (1)

   $ —         —         —         —         —         —       $ —    

Other(2)

    —         —         —         —         —         —         —    

Derivative contracts

     —         —         —         —         —         —         —    

 

(1)

Represents private placements of non-agency collateralized mortgage obligations.

(2) 

Represents auction rate securities that failed in the auction rate market.

(3) 

Primarily represents general partner ownership interests in hedge funds and private equity funds sponsored by the Company.

(4) 

Included in principal transactions on the condensed consolidated statement of operations, except for investments which are included in other income on the condensed consolidated statement of operations.

(5) 

Unrealized gains (losses) are attributable to assets or liabilities that are still held at the reporting date.

Fair Value Option

The Company has the option to measure certain financial assets and financial liabilities at fair value with changes in fair value recognized in earnings each period. The Company may make a fair value option election on an instrument-by-instrument basis at initial recognition of an asset or liability or upon an event that gives rise to a new basis of accounting for that instrument. The Company has elected to apply the fair value option to its loan trading portfolio which resides in OPY Credit Corp. and is included in other assets on the condensed consolidated balance sheet. Management has elected this treatment as it is consistent with the manner in which the business is managed as well as the way that financial instruments in other parts of the business are recorded. There were no loan positions held in the secondary loan trading portfolio at March 31, 2012 (none at December 31, 2011).

The Company also elected the fair value option for those securities sold under agreements to repurchase (“repurchase agreements”) and securities purchased under agreements to resell (“reverse repurchase agreements”) that do not settle overnight or have an open settlement date or that are not accounted for as purchase and sale agreements (such as repo-to-maturity transactions). The Company has elected the fair value option for these instruments to more accurately reflect market and economic events in its earnings and to mitigate a potential imbalance in earnings caused by using different measurement attributes (i.e. fair value versus carrying value) for certain assets and liabilities. At March 31, 2012, the fair value of the reverse repurchase agreements and repurchase agreements was $nil million and $101.6 million, respectively.

 

Fair Value of Derivative Instruments

The Company transacts, on a limited basis, in exchange traded and over-the-counter derivatives for both asset and liability management as well as for trading and investment purposes. Risks managed using derivative instruments include interest rate risk and, to a lesser extent, foreign exchange risk. Interest rate swaps and interest rate caps are entered into to manage the Company’s interest rate risk associated with floating-rate borrowings. All derivative instruments are measured at fair value and are recognized as either assets or liabilities on the condensed consolidated balance sheet. The Company designates interest rate swaps and interest rate caps as cash flow hedges of floating-rate borrowings.

Cash flow hedges used for asset and liability management

For derivative instruments that were designated and qualify as a cash flow hedge, the effective portion of the gain or loss on the derivative was reported as a component of other comprehensive income and reclassified into earnings in the same period or periods during which the hedged transaction affects earnings. Gains or losses on the derivative representing either hedge ineffectiveness or hedge components excluded from the assessment of effectiveness are recognized in current earnings.

On September 29, 2006, the Company entered into interest rate swap transactions to hedge the interest payments associated with its floating rate Senior Secured Credit Note, which was subject to change due to changes in 3-Month LIBOR. See note 7 for further information. These swaps were designated as cash flow hedges. Changes in the fair value of the swap hedges were expected to be highly effective in offsetting changes in the interest payments due to changes in 3-Month LIBOR. The swaps expired on March 31, 2011. For the three months ended March 31, 2011, the effective portion of the net gain on the interest rate swaps, after tax, was approximately $69,000 and was recorded as other comprehensive income on the condensed consolidated statement of comprehensive income (loss).

On January 20, 2009, the Company entered into an interest rate cap contract, incorporating a series of purchased caplets with fixed maturity dates ending December 31, 2012, to hedge the interest payments associated with its floating rate Subordinated Note, which was subject to change due to changes in 3-Month LIBOR. With the repayment of the Subordinated Note in the second quarter of 2011, this cap is no longer designated as a cash flow hedge. The Company recorded $19,200 in interest expense with respect to the interest rate cap for the three months ended March 31, 2012.

Foreign exchange hedges

From time to time, the Company also utilizes forward and options contracts to hedge the foreign currency risk associated with compensation obligations to Oppenheimer Israel (OPCO) Ltd. employees denominated in New Israeli Shekels. Such hedges have not been designated as accounting hedges. At March 31, 2012, the Company did not have any such hedges in place.

“To-be-announced” securities”

The Company also transacts in pass-through mortgage-backed securities eligible to be sold in the “To-Be-Announced” or TBA market. TBAs provide for the forward or delayed delivery of the underlying instrument with settlement up to 180 days. The contractual or notional amounts related to these financial instruments reflect the volume of activity and do not reflect the amounts at risk. Unrealized gains and losses on TBAs are recorded in the condensed consolidated balance sheet in receivable from brokers and clearing organizations and payable to brokers and clearing organizations, respectively, and in the condensed consolidated statement of operations as principal transactions revenue.

 

The TBA market for certain types of underlying collateral has recently experienced increased levels of transactions reaching their anticipated settlement dates where the government agency (Fannie Mae, Freddie Mac, or Ginnie Mae) has not issued pool allocations. Delays in the settlement of these trades increases risk of counterparty failure and resulting market exposures of having to cover the trades in the open market.

The following table summarizes the notional and fair values of the TBAs as of March 31, 2012 and December 31, 2011.

Expressed in thousands of dollars.

 

                                 
    March 31, 2012     December 31, 2011  
    Notional     Fair Value     Notional     Fair Value  

Sale of TBAs (1)

   $ 511,417     $ 5,625     $ 574,365     $ 5,791  

Purchase of TBAs

   $ 126,984     $ 1,483     $ 137,572     $ 2,254  

 

(1)

TBAs are used to offset exposures related to commitments to provide funding for FHA loans at OMHHF. At March 31, 2012, the loan commitments balance was $359.1 million ($326.7 million at December 31, 2011). In addition, at March 31, 2012, OMHHF had a loan receivable balance (included in other assets) of $25.4 million ($109.3 million at December 31, 2011) which relates to prior loan commitments that have been funded but have not yet been securitized. The “when issued” securitizations of these loans have been sold to market counter-parties.

Derivatives used for trading and investment purposes

Futures contracts represent commitments to purchase or sell securities or other commodities at a future date and at a specified price. Market risk exists with respect to these instruments. Notional or contractual amounts are used to express the volume of these transactions, and do not represent the amounts potentially subject to market risk. The futures contracts the Company used include U.S. Treasury notes, Federal Funds and Eurodollar contracts. At March 31, 2012, the Company had 200 open short contracts for 10-year U.S. Treasury notes with a fair value of $278.0 million used primarily as an economic hedge of interest rate risk associated with a portfolio of fixed income investments. At March 31, 2012, the Company had 7.3 billion open contracts for Federal Funds futures with a fair value of approximately $155.0 million used primarily as an economic hedge of interest rate risk associated with government trading activities.

From time-to-time, the Company enters into securities financing transactions that mature on the same date as the underlying collateral (referred to as “repo-to-maturity” transactions). These transactions are treated as a sale of financial assets and a forward repurchase commitment, or conversely as a purchase of financial assets and a forward reverse repurchase commitment. At March 31, 2012, the Company did not have any repo-to-maturity transactions outstanding.

The notional amounts and fair values of the Company’s derivatives at March 31, 2012 and December 31, 2011 by product were as follows:

Expressed in thousands of dollars.

 

             
Fair Value of Derivative Instruments
As of March 31, 2012

 

                     
    Description   Notional     Fair Value  

Assets:

  

Derivatives designated as hedging instruments (1)

  

Interest rate contracts

  

Cap  (2)

   $ 100,000     $ 1  
       

 

 

    

 

 

  

Total Assets

       $ 100,000     $ 1  
       

 

 

    

 

 

  
 

Liabilities:

  

Derivatives not designated as hedging instruments (1)

  

Commodity contracts

  

U.S Treasury Futures  (3)

   $ 20,000     $ 278  
   

Federal Funds Futures  ( 3 )

     7,255,000       155  

Other contracts

  

Auction rate securities purchase commitment ( 4 )

     41,831       3,907  
       

 

 

    

 

 

  

Total Liabilities

       $ 7,316,831     $ 4,340  
       

 

 

    

 

 

  

 

(1) See “Fair Value of Derivative Instruments” below for description of derivative financial instruments.
(2) Included in receivable from brokers and clearing organizations on the condensed consolidated balance sheet.
(3) Included in payable from brokers and clearing organizations on the condensed consolidated balance sheet.
(4) Included in securities owned on the condensed consolidated balance sheet.

Expressed in thousands of dollars.

 

             

Fair Value of Derivative Instruments

As of December 31, 2011

 

                     
    Description   Notional     Fair Value  

Assets:

  

Derivatives designated as hedging instruments (1)

  

Interest rate contracts

  

Cap  (2)

   $ 100,000     $ 20  
       

 

 

    

 

 

  

Total Assets

       $ 100,000     $ 20  
       

 

 

    

 

 

  
 

Liabilities:

  

Derivatives not designated as hedging instruments (1)

  

Commodity contracts

  

U.S Treasury Futures (3)

   $ 20,000     $ 66  
   

Federal Funds Futures ( 3 )

     5,985,000       8  

Other contracts

  

Auction rate securities purchase commitment ( 4 )

     57,292       2,347  
       

 

 

    

 

 

  

Total Liabilities

       $ 6,062,292     $ 2,421  
       

 

 

    

 

 

  

 

(1) See “Fair Value of Derivative Instruments” below for description of derivative financial instruments.
(2) Included in receivable from brokers and clearing organizations on the condensed consolidated balance sheet.
(3) Included in payable from brokers and clearing organizations on the condensed consolidated balance sheet.
(4) Included in securities owned on the condensed consolidated balance sheet.

 

The following table presents the location and fair value amounts of the Company’s derivative instruments and their effect on the statement of operations for the year ended March 31, 2012.

Expressed in thousands of dollars.

 

                                     
   

Recognized in Income

on Derivatives

(pre-tax)

     Recognized in
Other
Comprehensive
Income on
Derivatives
-Effective
Portion (after–
tax)		    

Reclassified from
Accumulated Other
Comprehensive
Income into Income
-Effective Portion (2)

(after–tax)

  

Hedging Relationship

  

Description

  

Location

   Gain/
(Loss)		     Gain/
(Loss)		     Location   Gain/
(Loss)		  

Cash Flow Hedges used for asset and liability management:

                            
    Caps (3)   N/A     (11 )      —       Interest
expense		     —    
         

Derivatives used for trading and investment (1):

                            

Commodity contracts

   U.S Treasury Futures   Principal transaction revenue     257       —       None     —    
    Federal Funds Futures   Principal transaction revenue     188       —       None     —    

Other contracts

   Auction rate securities purchase commitment   Principal transaction revenue     (1,560 )      —       None     —    
           

 

 

    

 

 

        

 

 

  

Total

           $ (1,126 )    $ —           $ —    
           

 

 

    

 

 

        

 

 

  

 

(1) See “Fair Value of Derivative Instruments” above for description of derivative financial instruments.
(2) There is no ineffective portion included in income for the period ended March 31, 2012.
(3) As noted above in “Cash flow hedges used for asset and liability management”, interest rate caps are used to hedge interest rate risk associated with the Subordinated Note. With the repayment of the Subordinated Note in the second quarter of 2011, this cap is no longer designated as a cash flow hedge.

 

The following table presents the location and fair value amounts of the Company’s derivative instruments and their effect on the statement of operations for the year ended December 31, 2011.

Expressed in thousands of dollars.

 

                                     
   

Recognized in Income

on Derivatives

(pre-tax)

    

Recognized

in Other
Comprehensive
Income on
Derivatives
-Effective
Portion (after–
tax)

    

Reclassified from
Accumulated Other
Comprehensive
Income into Income
-Effective Portion (2)

(after–tax)

  

Hedging Relationship

  

Description

  

Location

   Gain/
(Loss)		     Gain/
(Loss)		     Location   Gain/
(Loss)		  

Cash Flow Hedges used for asset and liability management:

                            

Interest rate contracts

   Swaps   N/A   $ —       $ —       Interest
expense		   $ (50 ) 
    Caps (3)   N/A     (1,964 )      —       Interest
expense		     (1,272 ) 
         

Derivatives used for trading and investment (1):

                            

Commodity contracts

   U.S Treasury Futures   Principal transaction revenue     (3,594 )      —       None     —    
    Federal Funds Futures   Principal transaction revenue     (542 )      —       None     —    
    Euro-dollar Futures   Principal transaction revenue     (382 )      —       None     —    
    Euro FX   Principal transaction revenue     (131 )      —       None     —    

Other contracts

   Forward purchase commitment (4)   Principal transaction revenue     (1,147 )      —       None     —    
    Auction rate securities purchase commitment   Principal transaction revenue     406       —       None     —    
           

 

 

    

 

 

        

 

 

  

Total

           $ (7,354 )    $ —           $ (1,322 ) 
           

 

 

    

 

 

        

 

 

  

 

(1) See “Fair Value of Derivative Instruments” above for description of derivative financial instruments.
(2) There is no ineffective portion included in income for the year ended December 31, 2011.
(3) As noted above in “Cash flow hedges used for asset and liability management”, interest rate caps are used to hedge interest rate risk associated with the Subordinated Note. With the repayment of the Subordinated Note in the second quarter of 2011, this cap is no longer designated as a cash flow hedge and, as a result, a loss of $1.3 million, net of tax, has been reclassified from other comprehensive income (loss) to other expenses on the condensed consolidated statement of operations.
(4) Forward commitment to repurchase government securities that received sale treatment related to “Repo-to-Maturity” transactions.

 

Collateralized Transactions

The Company enters into collateralized borrowing and lending transactions in order to meet customers’ needs and earn residual interest rate spreads, obtain securities for settlement and finance trading inventory positions. Under these transactions, the Company either receives or provides collateral, including U.S. government and agency, asset-backed, corporate debt, equity, and non-U.S. government and agency securities.

The Company obtains short-term borrowings primarily through bank call loans. Bank call loans are generally payable on demand and bear interest at various rates but not exceeding the broker call rate. At March 31, 2012, bank call loans were $92.6 million ($27.5 million at December 31, 2011).

At March 31, 2012, the Company had collateralized loans, collateralized by firm and customer securities with market values of approximately $103.4 million and $198.1 million, respectively, primarily with two U.S. money center banks. At March 31, 2012, the Company had approximately $1.3 billion of customer securities under customer margin loans that are available to be pledged, of which the Company has repledged approximately $306.9 million under securities loan agreements.

At March 31, 2012, the Company had deposited $554.2 million of customer securities directly with the Options Clearing Corporation to secure obligations and margin requirements under option contracts written by customers.

At March 31, 2012, the Company had no outstanding letters of credit.

The Company finances its government trading operations through the use of repurchase agreements and reverse repurchase agreements. Except as described below, repurchase and reverse repurchase agreements, principally involving government and agency securities, are carried at amounts at which the securities subsequently will be resold or reacquired as specified in the respective agreements and include accrued interest. Repurchase and reverse repurchase agreements are presented on a net-by-counterparty basis, when the repurchase and reverse repurchase agreements are executed with the same counterparty, have the same explicit settlement date, are executed in accordance with a master netting arrangement, the securities underlying the repurchase and reverse repurchase agreements exist in “book entry” form and certain other requirements are met.

Certain of the Company’s repurchase agreements and reverse repurchase agreements are carried at fair value as a result of the Company’s fair value option election. The Company elected the fair value option for those repurchase agreements and reverse repurchase agreements that do not settle overnight or have an open settlement date or that are not accounted for as purchase and sale agreements (such as the repo-to-maturity transactions described above). The Company has elected the fair value option for these instruments to more accurately reflect market and economic events in its earnings and to mitigate a potential imbalance in earnings caused by using different measurement attributes (i.e. fair value versus carrying value) for certain assets and liabilities. At March 31, 2012, the fair value of the reverse repurchase agreements and repurchase agreements was $nil and $101.6 million, respectively.

At March 31, 2012, the gross balances of reverse repurchase agreements and repurchase agreements were $6.1 billion and $6.7 billion, respectively ($5.5 billion and $6.1 billion, respectively, at December 31, 2011).

 

The Company receives collateral in connection with securities borrowed and reverse repurchase agreement transactions and customer margin loans. Under many agreements, the Company is permitted to sell or repledge the securities received (e.g., use the securities to enter into securities lending transactions, or deliver to counterparties to cover short positions). At March 31, 2012, the fair value of securities received as collateral under securities borrowed transactions and reverse repurchase agreements was $211.9 million ($209.9 million at December 31, 2011) and $6.1 billion ($5.5 billion at December 31, 2011), respectively, of which the Company has sold and re-pledged approximately $28.2 million ($44.0 million at December 31, 2011) under securities loaned transactions and $6.1 billion under repurchase agreements ($5.5 billion at December 31, 2011).

The Company pledges certain of its securities owned for securities lending and repurchase agreements and to collateralize bank call loan transactions. The carrying value of pledged securities owned that can be sold or re-pledged by the counterparty was $650.7 million, as presented on the face of the condensed consolidated balance sheet at March 31, 2012 ($653.7 million at December 31, 2011). The carrying value of securities owned by the Company that have been loaned or pledged to counterparties where those counterparties do not have the right to sell or re-pledge the collateral was $139.2 million as at March 31, 2012 ($119.8 million at December 31, 2011).

The Company manages credit exposure arising from repurchase and reverse repurchase agreements by, in appropriate circumstances, entering into master netting agreements and collateral arrangements with counterparties that provide the Company, in the event of a customer default, the right to liquidate and the right to offset a counterparty’s rights and obligations. The Company also monitors the market value of collateral held and the market value of securities receivable from others. It is the Company’s policy to request and obtain additional collateral when exposure to loss exists. In the event the counterparty is unable to meet its contractual obligation to return the securities, the Company may be exposed to off-balance sheet risk of acquiring securities at prevailing market prices.

As of December 31, 2011, the interest in securities formerly held by one of the Company’s funds which utilized Lehman Brothers International (Europe) as a prime broker was transferred to an investment trust. As of March 31, 2012, the fair value of the Company’s investment in the securities held by Lehman Brothers International (Europe) that were segregated and not re-hypothecated was $7.6 million. This investment has been included in the condensed consolidated financial statements of the Company.

Credit Concentrations

Credit concentrations may arise from trading, investing, underwriting and financing activities and may be impacted by changes in economic, industry or political factors. In the normal course of business, the Company may be exposed to risk in the event customers, counterparties including other brokers and dealers, issuers, banks, depositories or clearing organizations are unable to fulfill their contractual obligations. The Company seeks to mitigate these risks by actively monitoring exposures and obtaining collateral as deemed appropriate. Included in receivable from brokers and clearing organizations as of March 31, 2012 are receivables from two major U.S. broker-dealers totaling approximately $78.0 million.

 

The Company participates in loan syndications through its debt capital markets business. Through OPY Credit Corp., the Company operates as underwriting agent in leveraged financing transactions where it utilizes a warehouse facility provided by CIBC to extend financing commitments to third-party borrowers identified by the Company. The Company has exposure, up to a maximum of 10%, of the excess underwriting commitment provided by CIBC over CIBC’s targeted loan retention (defined as “Excess Retention”). The Company quantifies its Excess Retention exposure by assigning a fair value to the underlying loan commitment provided by CIBC (in excess of what CIBC has agreed to retain) which is based on the fair value of the loans trading in the secondary market. To the extent that the fair value of the loans has decreased, the Company records an unrealized loss on the Excess Retention. Underwriting of loans pursuant to the warehouse facility is subject to joint credit approval by the Company and CIBC. As of March 31, 2012, the maximum aggregate principal amount of the warehouse facility was $1.5 billion, of which the Company utilized $65.4 million ($65.9 million as of December 31, 2011) and had $nil in Excess Retention ($nil as of December 31, 2011).

The Company is obligated to settle transactions with brokers and other financial institutions even if its clients fail to meet their obligations to the Company. Clients are required to complete their transactions on settlement date, generally one to three business days after trade date. If clients do not fulfill their contractual obligations, the Company may incur losses. The Company has clearing/participating arrangements with the National Securities Clearing Corporation (“NSCC”), the Fixed Income Clearing Corporation (“FICC”), R.J. O’Brien & Associates (commodities transactions) and others. With respect to its business in reverse repurchase and repurchase agreements, substantially all open contracts at March 31, 2012 are with the FICC. In addition, the Company recently began clearing its non-U.S. international equities business carried on by Oppenheimer Europe Ltd. through BNP Paribas Securities Services. The clearing corporations have the right to charge the Company for losses that result from a client’s failure to fulfill its contractual obligations. Accordingly, the Company has credit exposures with these clearing brokers. The clearing brokers can re-hypothecate the securities held on behalf of the Company. As the right to charge the Company has no maximum amount and applies to all trades executed through the clearing brokers, the Company believes there is no maximum amount assignable to this right. At March 31, 2012, the Company had recorded no liabilities with regard to this right. The Company’s policy is to monitor the credit standing of the clearing brokers and banks with which it conducts business.

Through its Debt Capital Markets business, the Company also participates, with other members of loan syndications, in providing financing commitments under revolving credit facilities in leveraged financing transactions. As of March 31, 2012, the Company had $4.7 million committed under such financing arrangements.

OMHHF, which is engaged in mortgage brokerage and servicing, has obtained an uncommitted warehouse facility line through PNC Bank (“PNC”) under which OMHHF pledges Federal Housing Administration (“FHA”) guaranteed mortgages for a period of up to 10 business days and PNC table funds the principal payment to the mortgagee. OMHHF repays PNC upon the securitization of the mortgage by the Government National Mortgage Association (“GNMA”) and the delivery of the security to the counter party for payment pursuant to a contemporaneous sale on the date the mortgage is funded. At March 31, 2012, OMHHF had $11.4 million outstanding under the warehouse facility line at a variable interest rate of 1 month LIBOR plus 2.75%. Interest expense for the three months ended March 31, 2012 was $347,700 ($372,100 for the three months ended March 31, 2011).

Variable Interest Entities (VIEs)

VIEs are entities in which equity investors do not have the characteristics of a controlling financial interest or do not have sufficient equity at risk for the entity to finance its activities without additional subordinated financial support from other parties. The primary beneficiary of a VIE is the party that absorbs a majority of the entity’s expected losses, receives a majority of its expected residual returns, or both, as a result of holding variable interests. The enterprise that is considered the primary beneficiary of a VIE consolidates the VIE.

 

A subsidiary of the Company serves as general partner of hedge funds and private equity funds that were established for the purpose of providing investment alternatives to both its institutional and qualified retail clients. The Company holds variable interests in these funds as a result of its right to receive management and incentive fees. The Company’s investment in and additional capital commitments to these hedge funds and private equity funds are also considered variable interests. The Company’s additional capital commitments are subject to call at a later date and are limited in amount.

The Company assesses whether it is the primary beneficiary of the hedge funds and private equity funds in which it holds a variable interest in the context of the total general and limited partner interests held in these funds by all parties. In each instance, the Company has determined that it is not the primary beneficiary and therefore need not consolidate the hedge funds or private equity funds. The subsidiaries’ general partnership interests, additional capital commitments, and management fees receivable represent its maximum exposure to loss. The subsidiaries’ general partnership interests and management fees receivable are included in other assets on the condensed consolidated balance sheet.

The following tables set forth the total VIE assets, the carrying value of the subsidiaries’ variable interests, and the Company’s maximum exposure to loss in Company-sponsored non-consolidated VIEs in which the Company holds variable interests and other non-consolidated VIEs in which the Company holds variable interests at March 31, 2012 and December 31, 2011:

As of March 31, 2012

Expressed in thousands of dollars.

 

                                         
    Total
VIE Assets  (1)		     Carrying Value of the
Company’s Variable
Interest		     Capital
Commitments		     Maximum
Exposure
to  Loss in Non-
consolidated VIEs		  
    Assets (2)     Liabilities      

Hedge Funds

   $ 1,903,729     $ 328     $ —       $ —       $ 328  

Private Equity Funds

     140,707       27       —         13       40  
   

 

 

    

 

 

    

 

 

    

 

 

    

 

 

  

Total

   $ 2,044,436     $ 355     $ —       $ 13     $ 368  
   

 

 

    

 

 

    

 

 

    

 

 

    

 

 

  

 

As of December 31, 2011

Expressed in thousands of dollars.

 

                                         
    Total
VIE Assets  (1)		     Carrying Value of the
Company’s Variable
Interest		     Capital
Commitments		     Maximum
Exposure
to  Loss in Non-
consolidated VIEs		  
    Assets (2)     Liabilities      

Hedge Funds

   $ 1,668,508     $ 393     $ —       $ —       $ 393  

Private Equity Funds

     142,275       27       —         13       40  
   

 

 

    

 

 

    

 

 

    

 

 

    

 

 

  

Total

   $ 1,810,783     $ 420     $ —       $ 13     $ 433  
   

 

 

    

 

 

    

 

 

    

 

 

    

 

 

  

 

(1) Represents the total assets of the VIEs and does not represent the Company’s interests in the VIEs.
(2) Represents the Company’s interests in the VIEs and is included in other assets on the condensed consolidated balance sheet.