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Derivative Instruments and Hedging Activities

9 Months Ended

Sep. 30, 2023

Derivative Instruments and Hedging Activities

Derivative Instruments and Hedging Activities

Note 6: Derivative Instruments and Hedging Activities

The Company uses derivative financial instruments, which consist of interest rate swaps and interest rate caps, to assist in its interest rate risk management. The notional amount does not represent amounts exchanged by the parties. The amount exchanged is determined by reference to the notional amount and the other terms of the individual agreements. Derivative financial instruments are reported at fair value in other assets or other liabilities. The accounting for changes in the fair value of a derivative depends on whether it has been designated and qualifies as part of a hedging relationship. For derivatives not designated as hedges, the gain or loss is recognized in current earnings.

Non-hedge Derivatives

The Company enters into interest rate swaps to facilitate client transactions and meet their financing needs. Upon entering into these instruments to meet client needs, the Company enters into offsetting positions with large U.S. financial institutions in order to minimize the risk to the Company. These swaps are derivatives, but are not designated as hedging instruments.

Interest rate swap contracts involve the risk of dealing with counterparties and their ability to meet contractual terms. When the fair value of a derivative instrument contract is positive, this generally indicates that the counterparty or client owes the Company, and results in credit risk to the Company. When the fair value of a derivative instrument contract is negative, the Company owes the client or counterparty and therefore, the Company has no credit risk.

The following table presents a summary of the Company’s interest rate swaps to facilitate customer transactions as of September 30, 2023 and December 31, 2022:


		September 30, 2023						December 31, 2022
		Notional			Estimated			Notional			Estimated
(dollars in thousands)		Amount			Fair Value			Amount			Fair Value
Interest rate swap agreements:
Assets		$	64,241		$	9,962		$	65,315		$	8,240
Liabilities			64,241			(9,962)			65,315			(8,240)
Total		$	128,482		$	—		$	130,630		$	—

Cash Flow Hedging Derivatives

For derivative instruments that are designated and qualify as a cash flow hedge, the aggregate fair value of the derivative instrument is recorded in other assets or other liabilities with any gain or loss related to changes in fair value recorded in accumulated other comprehensive income, net of tax. The gain or loss is reclassified into earnings in the same period during which the hedged asset or liability affects earnings and is presented in the same income statement line item as the earnings effect of the hedged asset or liability. The Company utilizes cash flow hedges to manage interest rate exposure for the brokered deposit and wholesale borrowing portfolios. During the next 12 months, the Company estimates that $8.6 million will be reclassified to interest expense, as a reduction of the expense.

The following table presents a summary of the Company’s interest rate swaps designated as cash flow hedges as of September 30, 2023 and December 31, 2022:


(dollars in thousands)		September 30, 2023			December 31, 2022
Notional Amount		$	183,000		$	163,000
Weighted Average Pay Rate			2.00	%		1.90	%
Weighted Average Receive Rate			5.40	%		3.47	%
Weighted Average Maturity (Years)			4.30			5.15
Net Unrealized Gain		$	11,139		$	9,175

The Company purchases interest rate caps, designated as cash flow hedges, of certain deposit liabilities. The interest rate caps require receipt of variable amounts from the counterparties when interest rates rise above the strike price in the contracts. For the three and nine months ended September 30, 2023, the company recognized amortization expense on the interest rate caps of $198,000 and $593,000, respectively, which was recorded as a component of interest expense on brokered deposits and FHLB advances. For the three and nine months ended September 30, 2022, the company recognized amortization expense on the interest rate caps of $204,000 and $574,000, respectively, which was recorded as a component of interest expense on brokered deposits and FHLB advances.

The following table presents a summary of the Company’s interest rate caps designated as cash flow hedges as of September 30, 2023 and December 31, 2022:


(dollars in thousands)		September 30, 2023			December 31, 2022
Notional Amount		$	125,000		$	125,000
Unamortized Premium Paid			5,279			5,872
Weighted Average Strike Rate			0.96	%		0.96	%
Weighted Average Maturity (Years)			6.60			7.35

The following table presents a summary of the Company’s interest rate contracts as of September 30, 2023 and December 31, 2022:


		September 30, 2023						December 31, 2022
		Notional			Estimated			Notional			Estimated
(dollars in thousands)		Amount			Fair Value			Amount			Fair Value
Interest rate swap agreements:
Assets		$	183,000		$	11,139		$	125,000		$	10,477
Liabilities			—			—			38,000			(1,302)
Interest rate cap agreements:
Assets			125,000			23,006			125,000			19,406

The Company is party to collateral support agreements with certain derivative counterparties. These agreements require that the Company maintain collateral based on the fair values of derivative transactions. In the event of default by the Company, the counterparty would be entitled to the collateral. As of September 30, 2023 and December 31, 2022, the Company pledged no cash collateral for the Company’s derivative contracts. In addition, as of September 30, 2023 and December 31, 2022, the Company's counterparties pledged cash collateral to the Company of $46.0 million and $36.4 million, respectively.

The following table summarizes gross and net information about derivative instruments that are eligible for offset in the balance sheet at September 30, 2023 and December 31, 2022:


											Gross Amounts Not Offset in the Balance Sheet
								Net Amounts of
		Gross Amounts			Gross Amounts			Assets (Liabilities)
		of Recognized			Offset in the			Presented in the			Financial			Cash Collateral			Net Assets
(dollars in thousands)		Assets (Liabilities)			Balance Sheet			Balance Sheet			Instruments			Received (Paid)			(Liabilities)
September 30, 2023
Assets		$	44,107		$	—		$	44,107		$	—		$	46,023		$	(1,916)
Liabilities			(9,962)			—			(9,962)			—			—			(9,962)

December 31, 2022
Assets		$	38,123		$	—		$	38,123		$	—		$	36,353		$	1,770
Liabilities			(9,542)			—			(9,542)			—			—			(9,542)

The following table presents the effect of derivative instruments in cash flow hedging relationships on the consolidated statements of income for the three and nine months ended September 30, 2023 and 2022:

Three Months Ended September 30,

Nine Months Ended September 30,

(dollars in thousands)

2023

2022

2023

2022

Derivatives in

Location of Gain (Loss)

Gain (Loss)

Loss

Cash Flow Hedging

Reclassified

Reclassified from

Reclassified from

Relationships

from AOCI into Income

AOCI into Earnings

AOCI into Earnings

Interest rate swaps

Interest expense

$

1,575

$

288

$

4,169

$

(24)

Interest rate caps

Interest expense

48

(169)

(159)

(539)

No amounts were reclassified from accumulated other comprehensive income into net income related to hedge ineffectiveness for these derivatives during the three and nine months ended September 30, 2023 and 2022, and no amounts are expected to be reclassified from accumulated other comprehensive income into net income related to hedge ineffectiveness over the next twelve months.