NOTE 6 — DERIVATIVES

The Company uses derivatives to manage exposure to market risk, including interest rate risk and foreign currency risk and to assist customers with their risk management objectives. The Company’s goal is to manage interest rate sensitivity and volatility so that movements in interest rates are not significant to earnings or capital. The Company also uses foreign exchange contracts to manage the foreign exchange risk associated with certain foreign currency-denominated assets and liabilities, as well as the Company’s investment in its China subsidiary. The Company recognizes all derivatives on the Consolidated Balance Sheets at fair value. While the Company designates certain derivatives as hedging instruments in a qualifying hedge accounting relationship, other derivatives consist of economic hedges. For additional information on the Company’s derivatives and hedging activities, see Note 1 — Summary of Significant Accounting Policies to the Consolidated Financial Statements.

The following table presents the total notional and fair values of the Company’s derivatives as of December 31, 2016 and 2015:




($ in thousands)	December 31, 2016						December 31, 2015
	Notional Amount		Fair Value				Notional Amount		Fair Value
	Notional Amount		Derivative Assets ⁽¹⁾		Derivative Liabilities ⁽¹⁾		Notional Amount		Derivative Assets ⁽¹⁾		Derivative Liabilities ⁽¹⁾
Derivatives designated as hedging instruments:
Interest rate swaps on certificates of deposit	$	48,365	$	—	$	5,976	$	112,913	$	—	$	5,213
Foreign currency forward contracts	83,026		4,325		—		86,590		2,365		—
Total derivatives designated as hedging instruments	$	131,391	$	4,325	$	5,976	$	199,503	$	2,365	$	5,213
Derivatives not designated as hedging instruments:
Interest rate swaps and options	$	7,668,482	$	67,578	$	65,131	$	6,494,900	$	67,215	$	67,325
Foreign exchange contracts	767,764		11,874		11,213		652,993		10,254		9,350
RPAs	71,414		3		3		43,033		—		4
Total derivatives not designated as hedging instruments	$	8,507,660	$	79,455	$	76,347	$	7,190,926	$	77,469	$	76,679


(1)	Derivative assets and derivative liabilities are included in Other Assets and Accrued expenses and other liabilities, respectively, on the Consolidated Balance Sheets.

Derivatives Designated as Hedging Instruments

Interest Rate Swaps on Certificates of Deposit — The Company is exposed to changes in the fair value of certain fixed rate certificates of deposit due to changes in the benchmark interest rate, London Interbank Offered Rate. Interest rate swaps designated as fair value hedges involve the receipt of fixed rate amounts from a counterparty in exchange for the Company making variable-rate payments over the life of the agreements without the exchange of the underlying notional amount.

The total notional amounts of the interest rate swaps on certificates of deposit were $48.4 million and $112.9 million, as of December 31, 2016 and 2015, respectively. The fair value liabilities of the interest rate swaps were $6.0 million and $5.2 million as of December 31, 2016 and 2015, respectively. This decrease was primarily due to $63.7 million notional amounts of interest rate swaps on certificates of deposit that were called during the year ended December 31, 2016.

The following table presents the net gains (losses) recognized on the Consolidated Statements of Income related to derivatives designated as fair value hedges for the years ended December 31, 2016, 2015 and 2014:




($ in thousands)	Year Ended December 31,
($ in thousands)	2016			2015			2014
(Losses) gains recorded in interest expense:
Recognized on interest rate swaps	$	(794	)	$	3,452		$	6,885
Recognized on certificates of deposit	157			(3,190		)	(6,784		)
Net amount recognized on fair value hedges (ineffective portion)	$	(637	)	$	262		$	101

For the years ended December 31, 2016 and 2015, the Company also recognized net reductions to interest expense of $3.0 million and $3.6 million, respectively, primarily related to net settlements of the derivatives.

Net Investment Hedges — Consistent with ASC 830-20, Foreign Currency Matters — Foreign Currency Transactions, ASC 815 allows hedging of the foreign currency risk of a net investment in a foreign operation. During the fourth quarter of 2015, the Company entered into foreign currency forward contracts to hedge its investment in East West Bank (China) Limited, a non-USD functional currency subsidiary in China. The hedging instruments designated as net investment hedges, involve hedging the risk of changes in the USD equivalent value of a designated monetary amount of the Company’s net investment in China, against the risk of adverse changes in the foreign currency exchange rate. During the year ended December 31, 2016, the Company designated new foreign currency forward contracts as new hedge relationships. The Company expects that the hedging instrument will be highly effective in offsetting the changes in the value of the hedged net investment attributable to the hedged risk. The Company recorded the changes in the carrying amount of its China subsidiary in the Foreign currency translation adjustment account within AOCI. Simultaneously, the effective portion of the hedge of this exposure was also recorded in the Foreign currency translation adjustment account and the ineffective portion, if any, was recorded in current earnings.

As of December 31, 2016, the total notional amount and fair value of the foreign currency forward contracts were $83.0 million and a $4.3 million asset, respectively. As of December 31, 2015, the total notional amount and fair value of the foreign currency forward contracts were $86.6 million and a $2.4 million asset, respectively. The following table presents the gains recorded in the Foreign currency translation adjustment account within AOCI related to the effective portion of the net investment hedges and the ineffectiveness recorded on the Consolidated Statements of Income for the years ended December 31, 2016, 2015 and 2014:




($ in thousands)	Year Ended December 31,
($ in thousands)	2016		2015		2014
Gains recognized in AOCI on net investment hedges (effective portion)	$	2,908	$	1,485	$	—
Gains recognized in foreign exchange income (ineffective portion)	$	1,124	$	880	$	—

Derivatives Not Designated as Hedging Instruments

Interest Rate Swaps and Options — The Company enters into interest rate derivatives including interest rate swaps and options with its customers to allow them to hedge against the risk of rising interest rates on their variable rate loans. To economically hedge against the interest rate risks in the products offered to its customers, the Company enters into mirrored interest rate contracts with institutional counterparties. As of December 31, 2016, the total notional amount of interest rate swaps and options, including mirrored transactions with institutional counterparties and the Company’s customers totaled $3.86 billion for derivatives that were in an asset valuation position and $3.81 billion for derivatives that were in a liability valuation position. As of December 31, 2015, the total notional amount of interest rate swaps and options, including mirrored transactions with institutional counterparties and the Company’s customers totaled $3.25 billion for derivatives that were in an asset valuation position and $3.25 billion for derivatives that were in a liability valuation position. The fair values of the interest rate swap and option contracts with institutional counterparties and the Company’s customers amounted to a $67.6 million asset and a $65.1 million liability as of December 31, 2016. The fair values of the interest rate swap and option contracts with institutional counterparties and the Company’s customers amounted to a $67.2 million asset and a $67.3 million liability as of December 31, 2015.

Foreign Exchange Contracts — The Company enters into foreign exchange contracts on a regular basis to economically hedge against foreign exchange rate fluctuations. A majority of these contracts have original maturities of approximately one year. As of December 31, 2016 and 2015, the total notional amounts of short-term foreign exchange contracts were $767.8 million and $653.0 million, respectively. The fair values of the short-term foreign exchange contracts recorded were an $11.9 million asset and an $11.2 million liability as of December 31, 2016. The fair values of short-term foreign exchange contracts recorded were a $10.3 million asset and a $9.4 million liability as of December 31, 2015.

RPA — The Company has entered into RPAs, under which the Company assumed its pro-rata share of the credit exposure associated with the borrower’s performance related to interest rate derivative contracts. The Company may or may not be a party to the interest rate derivative contract and enters into such RPAs in instances where the Company is a party to the related loan participation agreement with the borrower. The Company will make/receive payments under the RPAs if the borrower defaults on its obligation to perform under the interest rate derivative contract. The Company manages its credit risk on the RPAs by monitoring the credit worthiness of the borrowers, which is based on the normal credit review process. The notional amounts of the RPAs reflect the Company’s pro-rata share of the derivative instrument. As of December 31, 2016, the notional amount and the fair value of RPAs purchased were approximately $48.3 million and a $3 thousand liability, respectively. As of December 31, 2016, the notional amount and the fair value of RPAs sold were approximately $23.1 million and a $3 thousand asset, respectively. As of December 31, 2015, the notional amount and the fair value of RPAs purchased were approximately $33.7 million and a $4 thousand liability, respectively. As of December 31, 2015, the notional amount of the RPA sold was approximately $9.3 million and the fair value of the derivative asset was insignificant. Assuming all underlying borrowers referenced in the interest rate derivative contracts defaulted as of December 31, 2016 and 2015, the exposures from the RPAs purchased would be $179 thousand and $257 thousand, respectively. As of December 31, 2016 and 2015, the weighted average remaining maturities of the outstanding RPAs were 3.7 years and 3.2 years, respectively.

Foreign Exchange Options — During 2010, the Company entered into foreign exchange option contracts with major brokerage firms to economically hedge against foreign exchange fluctuations in certain certificates of deposit available to its customers. These certificates of deposit had a term of five years and paid interest based on the performance of the RMB relative to the USD. Under ASC 815, a certificate of deposit that pays interest based on changes in foreign exchange rates is a hybrid instrument with an embedded derivative that must be accounted for separately from the host contract (i.e., the certificate of deposit). In accordance with ASC 815, both the embedded derivative instruments and the freestanding foreign exchange option contracts are recorded at fair value. These instruments expired in the second quarter of 2015.

The following table presents the net gains (losses) recognized on the Company’s Consolidated Statements of Income related to derivatives not designated as hedging instruments for the years ended December 31, 2016, 2015 and 2014:




($ in thousands)	Location in Consolidated Statements of Income	Year Ended December 31,
($ in thousands)	Location in Consolidated Statements of Income	2016		2015			2014
Derivatives not designated as hedging instruments:
Interest rate swaps and options	Derivative fees and other income	$	2,557	$	65		$	(1,865	)
Foreign exchange contracts	Foreign exchange income	12,632		4,235			(3,880		)
Foreign exchange options	Foreign exchange income	—		236			103
Embedded derivative liabilities	Other operating expense	—		(136		)	5
Total net gains (losses)		$	15,189	$	4,400		$	(5,637	)

Credit-Risk-Related Contingent Features — Certain over-the-counter derivative contracts of the Company contain early termination provisions that may require the Company to settle any outstanding balances upon the occurrence of a specified credit-risk-related event. These events, which are defined by the existing derivative contracts, primarily relate to a downgrade in the credit rating of East West Bank to below investment grade. In the event that East West Bank’s credit rating is downgraded to below investment grade, no additional collateral would be required to be posted, since the liabilities related to such contracts were fully collateralized as of December 31, 2016 and 2015.

Offsetting of Derivatives

The Company has entered into agreements with certain counterparty financial institutions, which include master netting agreements. However, the Company has elected to account for all derivatives with counterparty institutions on a gross basis. The following tables present gross derivatives on the Consolidated Balance Sheets and the respective collateral received or pledged in the form of other financial instruments, which are generally marketable securities and/or cash. The collateral amounts in these tables are limited to the outstanding balances of the related asset or liability (after netting is applied); thus instances of overcollateralization are not shown:




($ in thousands)	As of December 31, 2016
	Total		Contracts Not Subject to Master Netting Arrangements		Contracts Subject to Master Netting Arrangements
	Gross Amounts of Recognized		Gross Amounts of Recognized		Gross Amounts of Recognized		Gross Amounts Offset on the Consolidated Balance Sheets		Net Amounts Presented on the Consolidated Balance Sheets		Gross Amounts Not Offset on the Consolidated Balance Sheets								Net Amount
	Gross Amounts of Recognized		Gross Amounts of Recognized		Gross Amounts of Recognized		Gross Amounts Offset on the Consolidated Balance Sheets		Net Amounts Presented on the Consolidated Balance Sheets		Derivative Amounts				Collateral Received				Net Amount
Derivative Assets	$	83,780	$	51,218	$	32,562	$	—	$	32,562	$	(20,991	)	⁽¹⁾	$	(10,687	)	⁽²⁾	$	884

	Gross Amounts of Recognized		Gross Amounts of Recognized		Gross Amounts of Recognized		Gross Amounts Offset on the Consolidated Balance Sheets		Net Amounts Presented on the Consolidated Balance Sheets		Gross Amounts Not Offset on the Consolidated Balance Sheets								Net Amount
	Gross Amounts of Recognized		Gross Amounts of Recognized		Gross Amounts of Recognized		Gross Amounts Offset on the Consolidated Balance Sheets		Net Amounts Presented on the Consolidated Balance Sheets		Derivative Amounts				Collateral Posted				Net Amount
Derivative Liabilities	$	82,323	$	24,097	$	58,226	$	—	$	58,226	$	(20,991	)	⁽¹⁾	$	(36,349	)	⁽³⁾	$	886




($ in thousands)	As of December 31, 2015
	Total		Contracts Not Subject to Master Netting Arrangements		Contracts Subject to Master Netting Arrangements
	Gross Amounts of Recognized		Gross Amounts of Recognized		Gross Amounts of Recognized		Gross Amounts Offset on the Consolidated Balance Sheets		Net Amounts Presented on the Consolidated Balance Sheets		Gross Amounts Not Offset on the Consolidated Balance Sheets								Net Amount
	Gross Amounts of Recognized		Gross Amounts of Recognized		Gross Amounts of Recognized		Gross Amounts Offset on the Consolidated Balance Sheets		Net Amounts Presented on the Consolidated Balance Sheets		Derivative Amounts				Collateral Received				Net Amount
Derivative Assets	$	79,834	$	71,101	$	8,733	$	—	$	8,733	$	(5,293	)	⁽¹⁾	$	(3,068	)	⁽²⁾	$	372

	Gross Amounts of Recognized		Gross Amounts of Recognized		Gross Amounts of Recognized		Gross Amounts Offset on the Consolidated Balance Sheets		Net Amounts Presented on the Consolidated Balance Sheets		Gross Amounts Not Offset on the Consolidated Balance Sheets								Net Amount
	Gross Amounts of Recognized		Gross Amounts of Recognized		Gross Amounts of Recognized		Gross Amounts Offset on the Consolidated Balance Sheets		Net Amounts Presented on the Consolidated Balance Sheets		Derivative Amounts				Collateral Received				Net Amount
Derivative Liabilities	$	81,892	$	3,113	$	78,779	$	—	$	78,779	$	(5,293	)	⁽¹⁾	$	(73,109	)	⁽³⁾	$	377


(1)	Represents the netting of derivative receivable and payable balances for the same counterparty under enforceable master netting arrangements if the Company has elected to net.


(2)	Represents $8.1 million and $3.1 million of cash collateral received against derivative assets with the same counterparty that are subject to enforceable master netting arrangements as of December 31, 2016 and 2015, respectively.


(3)	Represents cash and securities pledged against derivative liabilities with the same counterparty that are subject to enforceable master netting arrangements. Includes approximately $170 thousand and $21.1 million of cash collateral posted as of December 31, 2016 and 2015, respectively.

In addition to the amounts included in the table above, the Company also has balance sheet netting related to resale and repurchase agreements, refer to Note 4— Securities Purchased Under Resale Agreements and Sold Under Repurchase Agreements to the Consolidated Financial Statements for additional information. Refer to Note 3 — Fair Value Measurement and Fair Value of Financial Instruments to the Consolidated Financial Statements for fair value measurement disclosures on derivatives.