Derivative Financial Instruments

12 Months Ended

Dec. 31, 2011

Derivative Financial Instruments [Abstract]

Derivative Financial Instruments

Note 16 — Derivative Financial Instruments

The Company follows the provisions of derivatives and hedging accounting guidance, which require it to recognize all derivative instruments on the Consolidated Statements of Financial Condition at fair value. The following derivative financial instruments were identified and recorded at fair value as of December 31, 2011 and 2010:

— Fannie Mae, Freddie Mac, Ginnie Mae and other forward loan sale contracts;

— Rate lock commitments;

— Interest rate swap agreements; and

— U.S. Treasury futures

The Company hedges the risk of overall changes in fair value of loans held-for-sale and rate lock commitments generally by selling forward contracts on securities of Fannie Mae, Freddie Mac and Ginnie Mae. The forward contracts used to economically hedge the loan commitments are accounted for as non-designated hedges and naturally offset rate lock commitment mark-to-market gains and losses recognized as a component of gain on loan sale. The Bank recognized a pre-tax loss of $(22.2) million, a pre-tax gain of $12.4 million, and a pre-tax gain of $20.5 million for the years ended December 31, 2011, 2010, and 2009, respectively, on hedging activity relating to loan commitments and loans held-for-sale. Additionally, the Company hedges the risk of overall changes in fair value of MSRs through the use of various derivatives including purchases forward contracts on securities of Fannie Mae and Freddie Mac and the purchase/sale of U.S. Treasury futures contracts on U.S. Treasury futures contracts. These derivatives are accounted for as non-designated hedges against changes in the fair value of MSRs. The Company recognized $160.3 million and $32.5 million in gains and $(70.7) million in a loss for the years ended December 31, 2011, 2010 and 2009, respectively, on MSR fair value hedging activities. The Company does not apply hedge accounting, as prescribed in ASC 815: Derivatives and Hedging to any derivatives.

During the third quarter 2011, the Company began to write and purchase interest rate swaps to accommodate the needs of customers requesting such services. Derivative instruments are traded over an organized exchange or negotiated over-the-counter. Credit risk associated with exchange-traded contracts is typically assumed by the organized exchange. Over-the-counter contracts are tailored to meet the needs of the counterparties involved and, therefore, contain a greater degree of credit risk and liquidity risk than exchange-traded contracts, which have standardized terms and readily available price information. The Company reduces exposure to credit and liquidity risks from over-the-counter derivative instruments entered into for risk management purposes, and transactions entered into to mitigate the market risk associated with customer-initiated transactions, by conducting such transactions with investment grade domestic and foreign financial institutions and subjecting counterparties to credit approvals, limits and monitoring procedures similar to those used in making other extensions of credit. Interest rate swaps are agreements in which two parties periodically exchange fixed cash payments for variable payments based on a designated market rate or index, or variable payments based on two different rates or indices, applied to a specified notional amount until a stated maturity. The Company’s swap agreements are structured such that variable payments are primarily based on LIBOR (one-month, three-month or six-month) or prime. These instruments are principally negotiated over-the-counter and are subject to credit risk, market risk and liquidity risk.

The Company had the following derivative financial instruments.

	December 31, 2011
	Notional Amount		Fair Value		Expiration Dates
Assets(1)
Mortgage servicing rights
U.S. Treasury and agency futures / forwards	$	1,552,000	$	12,678		2012
Mortgage banking derivatives:
Rate lock commitments		3,869,901		70,965		2012
Customer-initiated derivatives:
Interest rate swaps		32,360		3,296		2012
Total derivative assets	$	5,454,261	$	86,939
Liabilities(2)
Mortgage banking derivatives:
Forward agency and loan sales	$	5,029,000	$	42,978		2012
Customer-initiated derivatives:
Interest rate swaps		32,360		3,296		2012
Total derivative liabilities	$	5,061,360	$	46,274
	December 31, 2010
Assets(1)
Mortgage banking derivatives:
Rate lock commitments	$	1,721,739	$	14,396		2011
Forward agency and loan sales		3,942,673		35,820		2011
Total derivative assets	$	5,664,412	$	50,216
Liabilities(2)
Mortgage servicing rights
U.S. Treasury and agency futures	$	2,770,000	$	9,088		2011
Total derivative liabilities	$	2,770,000	$	9,088

(1) Asset derivatives are included in “other assets” on the “Consolidated Statements of Financial Condition.”

(2) Liability derivatives are included in “other liabilities” on the “Consolidated Statements of Financial Condition.”

Customer-initiated derivatives.  During the third quarter 2011, the Company began to write and purchase interest rate swaps to accommodate the needs of customers requesting such services. Fee income is earned from entering into various transactions at the request of customer (customer-initiated contracts) interest rate swap contracts. Customer-initiated trading derivatives are used primarily to focus on providing derivative products to customers that enables them to manage interest rate risk exposure. For customer-initiated interest rate swap contracts, the Company mitigates most of the inherent market risk by taking offsetting positions. Market risk from unfavorable movements in interest rates is generally economically hedged by concurrently entering into offsetting derivative contracts. The offsetting derivative contracts have nearly identical notional values, terms and indices. These limits are established annually and reviewed quarterly. Fair values of customer-initiated derivative financial instruments represent the net unrealized gains or losses on such contracts and are recorded in the Consolidated Statement of Financial Condition in “other assets” and “other liabilities.” Changes in fair value are recognized in “other non-interest income” on the Consolidated Statements of Income. There was no net gains (losses) recognized in income on customer-initiated derivative instruments for the year ended December 31, 2011.

Counterparty credit risk.  The Bank is exposed to credit loss in the event of non-performance by the counterparties to its various derivative financial instruments. The Company manages this risk by selecting only well-established, financially strong counterparties, spreading the credit risk among such counterparties, and by placing contractual limits on the amount of unsecured credit risk from any single counterparty.