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Note 16: Derivatives and Hedging Activities | 9 Months Ended
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Sep. 30, 2020
Notes |
Note 16: Derivatives and Hedging Activities | NOTE 16: DERIVATIVES AND HEDGING ACTIVITIES Risk Management Objective of Using Derivatives The Company is exposed to certain risks arising from both its business operations and economic conditions. The Company principally manages its exposures to a wide variety of business and operational risks through management of its core business activities. The Company manages economic risks, including interest rate, liquidity and credit risk, primarily by managing the amount, sources and duration of its assets and liabilities. In the normal course of business, the Company may use derivative financial instruments (primarily interest rate swaps) from time to time to assist in its interest rate risk management. The Company has interest rate derivatives that result from a service provided to certain qualifying loan customers that are not used to manage interest rate risk in the Company’s assets or liabilities and are not designated in a qualifying hedging relationship. The Company manages a matched book with respect to its derivative instruments in order to minimize its net risk exposure resulting from such transactions. In addition, the Company has interest rate derivatives that are designated in a qualified hedging relationship. Nondesignated Hedges The Company has interest rate swaps that are not designated as qualifying hedging relationships. Derivatives not designated as hedges are not speculative and result from a service the Company provides to certain loan customers, which the Company began offering during 2011. The Company executes interest rate swaps with commercial banking customers to facilitate their respective risk management strategies. Those interest rate swaps are simultaneously hedged by offsetting interest rate swaps that the Company executes with a third party, such that the Company minimizes its net risk exposure resulting from such transactions. As the interest rate swaps associated with this program do not meet the strict hedge accounting requirements, changes in the fair value of both the customer swaps and the offsetting swaps are recognized directly in earnings. As part of the Valley Bank FDIC-assisted acquisition, the Company acquired seven loans with related interest rate swaps. Valley’s swap program differed from the Company’s in that Valley did not have back to back swaps with the customer and a counterparty. Five of the seven acquired loans with interest rate swaps have paid off. The aggregate notional amount of the two remaining Valley swaps was $609,000 at September 30, 2020. At September 30, 2020, excluding the Valley Bank swaps, the Company had 19 interest rate swaps totaling $115.6 million in notional amount with commercial customers, and 19 interest rate swaps with the same aggregate notional amount with third parties related to its program. In addition, the Company has four participation loans purchased totaling $27.8 million, in which the lead institution has an interest rate swap with its customer and the economics of the counterparty swap are passed along to the Company through the loan participation. At December 31, 2019, excluding the Valley Bank swaps, the Company had 19 interest rate swaps totaling $96.0 million in notional amount with commercial customers, and 19 interest rate swaps with the same notional amount with third parties related to its program. During the three months ended September 30, 2020 and 2019, the Company recognized net gains of $89,000 and net losses of $101,000, respectively, in noninterest income related to changes in the fair value of these swaps. During the nine months ended September 30, 2020 and 2019, the Company recognized net losses of $424,000 and $169,000, respectively, in noninterest income related to changes in the fair value of these swaps. Cash Flow Hedges Interest Rate Swap. As a strategy to maintain acceptable levels of exposure to the risk of changes in future cash flows due to interest rate fluctuations, in October 2018, the Company entered into an interest rate swap transaction as part of its ongoing interest rate management strategies to hedge the risk of its floating rate loans. The notional amount of the swap was $400 million with a termination date of October 6, 2025. Under the terms of the swap, the Company received a fixed rate of interest of 3.018% and paid a floating rate of interest equal to one-month USD-LIBOR. The floating rate reset monthly and net settlements of interest due to/from the counterparty also occurred monthly. To the extent that the fixed rate of interest exceeded one-month USD-LIBOR, the Company received net interest settlements which were recorded as loan interest income. If USD-LIBOR exceeded the fixed rate of interest in future periods, the Company was required to pay net settlements to the counterparty and recorded those net payments as a reduction of interest income on loans. The Company recorded loan interest income of $2.0 million and $801,000 on this interest rate swap during the three months ended September 30, 2020 and 2019, respectively. The Company recorded loan interest income of $5.6 million and $1.9 million on this interest rate swap during the nine months ended September 30, 2020 and 2019, respectively. The effective portion of the gain or loss on the derivative is reported as a component of other comprehensive income and reclassified into earnings in the same period or periods during which the hedged transaction affected earnings. Gains and losses on the derivative representing either hedge ineffectiveness or hedge components excluded from the assessment of effectiveness are recognized in current earnings. During each of the three and nine months ended September 30, 2020 and 2019, the Company recognized no noninterest income related to changes in the fair value of this derivative. On March 2, 2020, the Company and its swap counterparty mutually agreed to terminate the swap, effective immediately. The Company received a payment of $45.9 million, including accrued but unpaid interest, from its swap counterparty as a result of this termination. This $45.9 million, less the accrued interest portion and net of deferred income taxes, is reflected in the Company’s stockholders’ equity as Accumulated Other Comprehensive Income and a portion of it is being accreted to interest income on loans monthly through the original contractual termination date of October 6, 2025. This will have the effect of reducing Accumulated Other Comprehensive Income and increasing Net Interest Income and Retained Earnings over the period. In each quarterly period, commencing with the quarter ended June 30, 2020, until the original contract termination date, the Company expects to record loan interest income related to this swap transaction of approximately $2.0 million, based on the termination value of the swap. The table below presents the fair value of the Company’s derivative financial instruments as well as their classification on the Consolidated Statements of Financial Condition:
| Location in |  | Fair Value
| Consolidated Statements |  | September 30, |  |  | December 31,
| of Financial Condition |  | 2020 |  |  | 2019
|  |  | (In Thousands)
Derivatives designated as hedging instruments |  |  |  |  |  |
Interest rate swap | Prepaid expenses and other assets | $ | - |  | $ | 30,056
Total derivatives designated as hedging instruments |  | $ | - |  | $ | 30,056
Derivatives not designated as hedging instruments |  |  |  |  |  |
Asset Derivatives |  |  |  |  |  |
Interest rate products | Prepaid expenses and other assets | $ | 6,193 |  | $ | 1,420
Total derivatives not designated as hedging instruments |  | $ | 6,193 |  | $ | 1,420
Liability Derivatives |  |  |  |  |  |
Interest rate products | Accrued expenses and other liabilities | $ | 6,744 |  | $ | 1,547
Total derivatives not designated as hedging instruments |  | $ | 6,744 |  | $ | 1,547
The following table presents the effect of cash flow hedge accounting on the statements of comprehensive income:
|  | Amount of Gain (Loss)
|  | Recognized in AOCI
|  | Three Months Ended September 30,
Cash Flow Hedges |  | 2020 |  |  | 2019
|  | (In Thousands)
Interest rate swap, net of income taxes | $ | (1,581 | ) | $ | 4,461
|  | Amount of Gain (Loss)
|  | Recognized in AOCI
|  | Nine Months Ended September 30,
Cash Flow Hedges |  | 2020 |  |  | 2019
|  | (In Thousands)
Interest rate swap, net of income taxes | $ | 8,271 |  | $ | 18,789
The following table presents the effect of cash flow hedge accounting on the statements of income:
| Three Months Ended September 30,
Cash Flow Hedges | 2020 | 2019
| Interest | Interest | Interest | Interest
| Income | Expense | Income | Expense
| (In Thousands)
Interest rate swap | $ 2,047 | $ - | $ 801 | $ -
| Nine Months Ended September 30,
Cash Flow Hedges | 2020 | 2019
| Interest | Interest | Interest | Interest
| Income | Expense | Income | Expense
| (In Thousands)
Interest rate swap | $ 5,629 | $ - | $ 1,881 | $ -
Agreements with Derivative Counterparties The Company has agreements with its derivative counterparties. If the Company defaults on any of its indebtedness, including a default where repayment of the indebtedness has not been accelerated by the lender, then the Company could also be declared in default on its derivative obligations. If the Bank fails to maintain its status as a well-capitalized institution, then the counterparty could terminate the derivative positions and the Company would be required to settle its obligations under the agreements. Similarly, the Company could be required to settle its obligations under certain of its agreements if certain regulatory events occurred, such as the issuance of a formal directive, or if the Company’s credit rating is downgraded below a specified level. At September 30, 2020, the termination value of derivatives with our derivative dealer counterparties (related to loan level swaps with commercial lending customers) in a net liability position, which included accrued interest but excluded any adjustment for nonperformance risk, related to these agreements was $6.7 million. The Company has minimum collateral posting thresholds with its derivative dealer counterparties. At September 30, 2020, the Company’s activity with two of its derivative counterparties met the level at which the minimum collateral posting thresholds take effect (collateral to be given by the Company) and the Company had posted collateral totaling $6.7 million to the derivative counterparties to satisfy the loan level agreements. If the Company had breached any of these provisions at September 30, 2020 or December 31, 2019, it could have been required to settle its obligations under the agreements at the termination value. At December 31, 2019, the termination value of derivatives with our derivative dealer counterparties (related to loan level swaps with commercial lending customers) in a net liability position, which included accrued interest but excluded any adjustment for nonperformance risk, related to these agreements was $1.1 million. In addition, as of December 31, 2019, the termination value of derivatives with our derivative dealer counterparty (related to the balance sheet hedge commenced in October 2018) in a net asset position, which included accrued interest but excluded any adjustment for nonperformance risk, related to these agreements was $30.1 million. The Company has minimum collateral posting thresholds with its derivative dealer counterparties. At December 31, 2019, the Company’s activity with one of its derivative counterparties met the level at which the minimum collateral posting thresholds take effect (collateral to be received by the Company) and the derivative counterparties had posted collateral of $30.9 million to the Company to satisfy the balance sheet hedge agreement. Additionally, the Company’s activity with one of its derivative counterparties met the level at which the minimum collateral posting thresholds take effect (collateral to be given by the Company) and the Company had posted collateral of $1.1 million to the derivative counterparties to satisfy the loan level agreements. If the Company had breached any of these provisions at December 31, 2019, it could have been required to settle its obligations under the agreements at the termination value.

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- Definition The entire disclosure for derivative instruments and hedging activities including, but not limited to, risk management strategies, non-hedging derivative instruments, assets, liabilities, revenue and expenses, and methodologies and assumptions used in determining the amounts. + References Reference 1: http://fasb.org/us-gaap/role/ref/legacyRef -Publisher FASB -Name Accounting Standards Codification -Topic 815 -URI http://asc.fasb.org/topic&trid=2229140 + Details
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