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Derivative Instruments and Hedging Activities
 6 Months Ended
Jun. 30, 2016
Derivative Instruments and Hedging Activities
Note 10. Derivative Instruments and Hedging Activities

The Company primarily uses derivative instruments to protect against the risk of adverse price or interest rate movements on the value of certain assets and liabilities and on future cash flows. Derivative instruments represent contracts between parties that usually require little or no initial net investment and result in one party delivering cash or another asset to the other party based on a notional amount and an underlying asset as specified in the contract. These derivative instruments may consist of interest rate swaps, floors, caps, collars, futures, forward contracts, and written and purchased options. Derivative instruments are subject to counterparty credit risk due to the possibility that the Company will incur a loss because a counterparty, which may be a bank, a broker-dealer or a customer, fails to meet its contractual obligations. This risk is measured as the expected positive replacement value of contracts. Derivative contracts may be executed only with exchanges or counterparties approved by the Company’s Asset/Liability Management Committee.

As of June 30, 2016, the Company’s derivative instruments consisted of interest rate swaps. Generally, derivative instruments help the Company manage exposure to market risk and meet customer financing needs. Market risk represents the possibility that fluctuations in external factors such as interest rates, market-driven loan rates, prices, or other economic factors will adversely affect economic value or net interest income.

Interest rate swaps. The Company uses interest rate swap contracts to modify its exposure to interest rate risk caused by changes in the LIBOR curve in relation to certain designated fixed rate loans. These instruments are used to convert these fixed rate loans to an effective floating rate. If the LIBOR rate falls below the loan’s stated fixed rate for a given period, the Company will owe the floating rate payer the notional amount times the difference between LIBOR and the stated fixed rate. If LIBOR is above the stated rate for a given period, the Company will receive payments based on the notional amount times the difference between LIBOR and the stated fixed rate. The Company’s interest rate swaps qualify as fair value hedging instruments; therefore, fair value changes in the derivative and hedged item attributable to the hedged risk are recognized in earnings in the same period.

The Company’s interest rate swaps include a fourteen-year, $1.20 million notional interest rate swap agreement entered into in March 2015 and a fifteen-year, $4.37 million notional interest rate swap agreement entered into in February 2014. The swap agreements, which are accounted for as fair value hedges, and the loans hedged by the agreements are recorded at fair value. The fair value hedges were effective as of June 30, 2016.

The following table presents the aggregate contractual or notional amounts and the fair values of derivative instruments as of the dates indicated:

 

     June 30, 2016      December 31, 2015  
(Amounts in thousands)    Notional or
Contractual
Amount		      Derivative
Assets		      Derivative
Liabilities		      Notional or
Contractual
Amount		      Derivative
Assets		      Derivative
Liabilities		  

Derivatives designated as hedges Interest rate swaps

    $ 5,013       $ —         $ 494       $ 5,151       $ —         $ 251   
  

 

 

     

 

 

     

 

 

     

 

 

     

 

 

     

 

 

  

Total derivatives

    $ 5,013       $ —         $ 494       $ 5,151       $ —         $ 251   
  

 

 

     

 

 

     

 

 

     

 

 

     

 

 

     

 

 

  

The following table presents the effect of derivative and hedging activity, if applicable, on the consolidated statements of income for the periods indicated:

 

     Three Months Ended June 30,      Six Months Ended June 30,     

Income Statement Location
(Amounts in thousands)    2016      2015      2016      2015     

Derivatives designated as hedges Interest rate swaps

    $ 27       $ 32       $ 55       $ 58       Interest and fees on loans
  

 

 

     

 

 

     

 

 

     

 

 

     

Total derivative expense

    $ 27       $ 32       $ 55       $ 58