9. Derivatives and hedging activities

Risk Management Objective of Using Derivatives

The Company is exposed to certain risk 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 and the use of derivative financial instruments. Specifically, the Company enters into derivative financial instruments to manage exposures that arise from business activities that result in the receipt or payment of future known and uncertain cash amounts, the value of which are determined by interest rates. The Company’s derivative financial instruments are used to manage differences in the amount, timing, and duration of the Company’s known or expected cash receipts principally related to the Company’s assets.

Cash Flow Hedges of Interest Rate Risk

The Company’s objectives in using interest rate derivatives are to add stability to interest income and to manage its exposure to interest rate movements. To accomplish this objective, the Company primarily uses interest rate floors as part of its interest rate risk management strategy. Interest rate floors designated as cash flow hedges involve the receipt of variable-rate amounts from a counterparty if interest rates fall below the strike rate on the contract in exchange for an up-front premium.

For derivatives designated and that qualify as cash flow hedges of interest rate risk, the gain or loss on the derivative is recorded in accumulated other comprehensive income (loss) and subsequently reclassified into interest income in the same period(s) during which the hedged transaction affects earnings. Gains and losses on the derivative representing hedge components excluded from the assessment of effectiveness are recognized over the life of the hedge on a systematic and rational basis. The earnings recognition of excluded components is presented in interest income. Amounts reported in accumulated other comprehensive income (loss) related to derivatives will be reclassified to interest income as interest payments are received on the Company’s variable-rate assets. During 2020, the Company estimates that an additional $64 will be reclassified as a reduction to interest income.

Non-designated Hedges

Derivatives not designated as hedges are not speculative and result from a service the Company provides to certain customers. 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 of March 31, 2020, the Company had 44 interest rate swaps with an aggregate notional amount of $225,376 related to this program.

Fair Values of Derivative Instruments on the Balance Sheet

The table below presents the fair value of the Company’s derivative financial instruments as well as their classification on the Consolidated Balance Sheets as of March 31 2020 and December 31, 2019.



			Asset Derivatives			Asset Derivatives			Liability Derivatives			Liability Derivatives
			As of March 31, 2020			As of December 31, 2019 (1)			As of March 31, 2020			As of December 31, 2019 (2)
		Notional	Balance Sheet			Balance Sheet			Balance Sheet			Balance Sheet
		Amount	Location	Fair Value		Location	Fair Value		Location	Fair Value		Location	Fair Value
Derivatives designated as hedging instruments
Interest Rate Floor	$	25,000	Other Assets	$	1,966	Other Assets	$	944

Total derivatives designated as hedging instruments				$	1,966		$	944

Derivatives not designated as hedging instruments
Interest Rate Swaps	$	225,376	Other Assets	$	14,679	Other Assets	$	4,728	Other Liabilities	$	14,762	Other Liabilities	$	4,680

Total derivatives not designated as hedging instruments				$	14,679		$	4,728		$	14,762		$	4,680

(1)

Assets amount does not include accrued interest receivable of $65.

(2)

Liabilities amount does not include accrued interest payable of $65.

(3)

Notional amount of interest rate swaps at March 31, 2019 $79,667.

Effect of Fair Value and Cash Flow Hedge Accounting on Accumulated Other Comprehensive Income (Loss)

The table below presents the effect of fair value and cash flow hedge accounting on accumulated other comprehensive income (loss) as of March 31, 2020 and March 31, 2019.

Location of

Amount of

Gain or (Loss)

Amount of

Gain

Loss

Gain

Recognized from

Loss

Reclassified

Recognized in

Accumulated

Reclassified

from Accumulated

Derivatives in

OCI on

OCI Included

OCI Excluded

Other Comprehensive

from Accumulated

OCI into Income

Hedging

Derivative

Component

Income into

OCI into Income

Included Component

Excluded Component

Relationships

March 31, 2020

Income

March 31, 2020

Derivatives in Cash Flow Hedging Relationships

Interest Rate Floor (*)

(1,072)

(1,104)

Interest Income

(16)

Location of

Amount of

Gain or (Loss)

Amount of

Gain

Loss

Gain

Loss

Recognized from

Gain

Reclassified

Recognized in

Accumulated

Reclassified

from Accumulated

Derivatives in

OCI on

OCI Included

OCI Excluded

Other Comprehensive

from Accumulated

OCI into Income

Hedging

Derivative

Component

Income into

OCI into Income

Included Component

Excluded Component

Relationships

March 31, 2019

Income

March 31, 2019

Derivatives in Cash Flow Hedging Relationships

Interest Rate Floor (*)

295

(248)

Interest Income

(15)

Amounts disclosed are gross and not net of taxes.

Effect of Fair Value and Cash Flow Hedge Accounting on the Consolidated Statements of Income and Comprehensive Income

The table below presents the effect of the Company’s derivative financial instruments on the Consolidated Statements of Income and Comprehensive Income for the three months ended March 31, 2020 and March 31, 2019.


		Location and Amount of Gain or (Loss) Recognized in
		Income on Fair Value and Cash Flow Hedging
		Relationships
		2020		2019
		Interest Income		Interest Income
Total amounts of income and expense line items presented in the statements of income and comprehensive income in which the effects of fair value or cash flow hedges are recorded	$	36	$	(15)

The effects of fair value and cash flow hedging:
Gain or (loss) on cash flow hedging relationships
Interest contracts
Amount of gain or (loss) reclassified from accumulated other comprehensive income into income	$	36	$	(15)

Amount of gain or (loss) reclassified from accumulated other comprehensive income into income - included component		52
Amount of gain or (loss) reclassified from accumulated other comprehensive income into income - excluded component	$	(16)	$	(15)

Effect of Derivative Instruments on the Consolidated Statements of Income and Comprehensive Income

The tables below present the effect of the Company’s derivative financial instruments on the Consolidated Statements of Income and Comprehensive Income for the three months ended March 31, 2020 and 2019.


		Amount of Loss		Amount of Loss
		Recognized in		Recognized in
	Location of Gain or (Loss)	Income		Income
	Recognized in Income on	Three Months Ended		Three Months Ended
Derivatives Not Designated as Hedging Instruments	Derivative	March 31, 2020		March 31, 2019

Interest Rate Swaps	Other non-interest income	$	(131)	$	(110)


Fee Income	Other income / (expense)	$	601	$	391

Offsetting Derivatives

The table below presents a gross presentation, the effects of offsetting, and a net presentation of the Company’s derivatives as of March 31, 2020 and December 31, 2019. The net amounts of derivative assets or liabilities can be reconciled to the tabular disclosure of fair value. The tabular disclosure of fair value provides the location that derivative assets and liabilities are presented on the Consolidated Balance Sheets.

Offsetting of Derivative Assets

as of March 31, 2020

Gross Amounts Not Offset in the Balance Sheet

Gross

Net Amounts

Amounts of

Gross Amounts

of Assets

Recognized

Offset in the

presented in the

Financial

Cash Collateral

Net

Assets

Balance Sheet

Instruments

Received

Amount

Derivatives

16,645

Offsetting of Derivative Liabilities

as of March 31, 2020

Gross Amounts Not Offset in the Balance Sheet

Gross

Net Amounts

Amounts of

Gross Amounts

of Assets

Recognized

Offset in the

presented in the

Financial

Cash Collateral

Net

Assets

Balance Sheet

Instruments

Received

Amount

Derivatives

14,762

Offsetting of Derivative Assets

as of December 31, 2019

Gross Amounts Not Offset in the Balance Sheet

Gross

Net Amounts

Amounts of

Gross Amounts

of Assets

Recognized

Offset in the

presented in the

Financial

Cash Collateral

Net

Assets

Balance Sheet

Instruments

Received

Amount

Derivatives

5,672

Offsetting of Derivative Liabilities

as of December 31, 2019

Gross Amounts Not Offset in the Balance Sheet

Gross

Net Amounts

Amounts of

Gross Amounts

of Assets

Recognized

Offset in the

presented in the

Financial

Cash Collateral

Net

Assets

Balance Sheet

Instruments

Received

Amount

Derivatives

4,680

Credit-risk-related Contingent Features

The Company has agreements with certain of its derivative counterparties that contain a provision where if the Company defaults on any of its indebtedness, including 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.

The Company also has agreements with certain of its derivative counterparties that contain a provision where if the Company 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.

The Company has agreements with certain of its derivative counterparties that contain provisions that require the Company’s debt to maintain an investment grade credit rating from each of the major credit rating agencies. If the Company’s credit rating is reduced below investment grade then a termination event shall be deemed to have occurred and the non-affected counterparty shall have the right but not obligation to terminate all affected transactions under the agreement.

As of March 31, 2020, the termination value of derivatives in a net liability position, which includes accrued interest but excludes any adjustment for nonperformance risk, related to these agreements was $83. As of December 31, 2019, the termination value of derivatives in a net liability position, which includes accrued interest but excludes any adjustment for nonperformance risk, related to these agreements was $48. The Company has minimum collateral posting thresholds with certain of its derivative counterparties, and has posted collateral of $13,090 against its obligations under these agreements as of March 31, 2020, compared to having posted collateral of $5,120 with counterparties at December 31, 2019. If the Company had breached any of these provisions it could have been required to settle its obligations under the agreements at the termination value.