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Fair Value Measurements

9 Months Ended

Sep. 30, 2022

Fair Value Measurements

Fair Value Measurements

3. Fair Value Measurements

Fair Value Measurements and Disclosures

The Company determines fair values in compliance with The Fair Value Measurements and Disclosures Topic of the ASC (the “Fair Value Topic”). The Fair Value Topic defines fair value, establishes a framework for measuring fair value in GAAP and expands disclosures about fair value measurements. The Fair Value Topic defines fair value as the price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants. The Fair Value Topic assumes that transactions upon which fair value measurements are based occur in the principal market for the asset or liability being measured. Further, fair value measurements made under the Fair Value Topic exclude transaction costs and are not the result of forced transactions.

The Fair Value Topic includes a fair value hierarchy that classifies fair value measurements based upon the inputs used in valuing the assets or liabilities that are the subject of fair value measurements. The fair value hierarchy gives the highest priority to quoted prices in active markets for identical assets or liabilities and the lowest priority to unobservable inputs, as indicated below.

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Level 1 Inputs: Unadjusted quoted prices in active markets for identical assets or liabilities that the Company can access at the measurement date.

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Level 2 Inputs: Observable inputs other than Level 1 prices. Level 2 inputs include quoted prices for similar assets or liabilities in active markets, quoted prices for identical or similar assets or liabilities in markets that are not active, inputs other than quoted prices that are observable for the asset or liability (such as interest rates, yield curves, prepayment speeds, default rates, credit risks and loss severities), and inputs that are derived from or corroborated by market data, among others.

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Level 3 Inputs: Unobservable inputs that reflect an entity’s own estimates about the assumptions that market participants would use in pricing the assets or liabilities. Level 3 inputs include pricing models and discounted cash flow techniques, among others.

Fair Value Option

The Company has elected to measure substantially all of PrimeLending’s mortgage loans held for sale and the retained mortgage servicing rights (“MSR”) asset at fair value, under the provisions of the Fair Value Option. The Company elected to apply the provisions of the Fair Value Option to these items so that it would have the opportunity to mitigate volatility in reported earnings caused by measuring related assets and liabilities differently without having to apply complex hedge accounting provisions. At September 30, 2022 and December 31, 2021, the aggregate fair value of PrimeLending’s mortgage loans held for sale accounted for under the Fair Value Option was $863.4 million and $1.78 billion, respectively, and the unpaid principal balance of those loans was $882.6 million and $1.73 billion, respectively. The interest component of fair value is reported as interest income on loans in the accompanying consolidated statements of operations.

The Company holds a number of financial instruments that are measured at fair value on a recurring basis, either by the application of the Fair Value Option or other authoritative pronouncements. The fair values of those instruments are determined primarily using Level 2 inputs, as further described below. Those inputs include quotes from mortgage loan investors and derivatives dealers and data from independent pricing services. The fair value of loans held for sale is determined using an exit price method.

The following tables present information regarding financial assets and liabilities measured at fair value on a recurring basis (in thousands).


		Level 1			Level 2			Level 3			Total
September 30, 2022		Inputs			Inputs			Inputs			Fair Value
Trading securities		$	5,259		$	636,605		$	—		$	641,864
Available for sale securities			—			1,584,724			—			1,584,724
Equity securities			209			—			—			209
Loans held for sale			—			826,013			37,414			863,427
Loans held for investment			—			—			8,912			8,912
Derivative assets			—			141,536			—			141,536
MSR asset			—			—			156,539			156,539
Securities sold, not yet purchased			65,370			34,145			—			99,515
Derivative liabilities			—			45,032			—			45,032


		Level 1			Level 2			Level 3				Total
December 31, 2021		Inputs			Inputs			Inputs				Fair Value
Trading securities		$	8,628		$	639,370		$	—		$	647,998
Available for sale securities			—			2,130,568			—			2,130,568
Equity securities			250			—			—			250
Loans held for sale			—			1,734,875			47,716			1,782,591
Derivative assets			—			48,122			—			48,122
MSR asset			—			—			86,990			86,990
Securities sold, not yet purchased			45,973			50,613			—			96,586
Derivative liabilities			—			21,816			—			21,816

The following tables include a rollforward for those material financial instruments measured at fair value using Level 3 inputs (in thousands).


														Total Gains or Losses
														(Realized or Unrealized)
		Balance,									Transfers						Included in Other
		Beginning of			Purchases/			Sales/			to (from)			Included in			Comprehensive			Balance,
		Period			Additions			Reductions			Level 3			Net Income			Income (Loss)			End of Period
Three months ended September 30, 2022
Loans held for sale		$	41,732		$	18,012		$	(19,594)		$	(251)		$	(2,485)		$	—		$	37,414
Loans held for investment			9,027			—			—			—			(115)			—			8,912
MSR asset			121,688			29,340			—			—			5,511			—			156,539
Total		$	172,447		$	47,352		$	(19,594)		$	(251)		$	2,911		$	—		$	202,865

Nine months ended September 30, 2022
Loans held for sale		$	47,716		$	38,454		$	(44,342)		$	5,587		$	(10,001)		$	—		$	37,414
Loans held for investment			—			9,611			(562)			—			(137)			—			8,912
MSR asset			86,990			47,850			(1,876)			—			23,575			—			156,539
Total		$	134,706		$	95,915		$	(46,780)		$	5,587		$	13,437		$	—		$	202,865

Three months ended September 30, 2021
Loans held for sale		$	71,433		$	18,817		$	(22,207)		$	(2,291)		$	6,767		$	—		$	72,519
MSR asset			124,497			20,252			(31,366)			—			(2,452)			—			110,931
Total		$	195,930		$	39,069		$	(53,573)		$	(2,291)		$	4,315		$	—		$	183,450

Nine months ended September 30, 2021
Loans held for sale		$	71,816		$	50,273		$	(51,718)		$	(4,099)		$	6,247		$	—		$	72,519
MSR asset			143,742			70,368			(116,000)			—			12,821			—			110,931
Total		$	215,558		$	120,641		$	(167,718)		$	(4,099)		$	19,068		$	—		$	183,450

All net realized and unrealized gains (losses) in the tables above are reflected in the accompanying consolidated financial statements. The unrealized gains (losses) relate to financial instruments still held at September 30, 2022.

For material Level 3 financial instruments measured at fair value on a recurring basis at September 30, 2022 and December 31, 2021, the significant unobservable inputs used in the fair value measurements were as follows.


						Range (Weighted-Average)
Financial instrument		Valuation Technique		Unobservable Inputs		September 30, 2022								December 31, 2021
Loans held for sale		Market comparable		Projected price		90	-	92	%	(	91	%)		94	-	95	%	(	95	%)

Loans held for investment		Discounted cash flow		Discount rate					12.00		%						—

MSR asset		Discounted cash flow		Constant prepayment rate					8.06		%						10.02		%
				Discount rate					12.09		%						14.32		%

The fair value of certain loans held for sale that cannot be sold through normal sale channels or are non-performing is measured using Level 3 inputs. The fair value of such loans is generally based upon estimates of expected cash flows using unobservable inputs, including listing prices of comparable assets, uncorroborated expert opinions, and/or management’s knowledge of underlying collateral.

The fair value of certain loans held for investment by the Company’s merchant bank subsidiary is measured using the income approach with Level 3 inputs. The fair value of such loans is based upon estimates of expected cash flows using unobservable inputs, including credit spreads derived from comparable securities and benchmark credit curves, and management’s knowledge of underlying collateral.

The MSR asset is reported at fair value using Level 3 inputs. The MSR asset is valued by projecting net servicing cash flows, which are then discounted to estimate the fair value. The fair value of the MSR asset is impacted by a variety of factors. Prepayment and discount rates, the most significant unobservable inputs, are discussed further in Note 7 to the consolidated financial statements. The decrease in the prepayment rate used to value the MSR asset at September 30,

2022, compared to December 31, 2021, reflects the effect of increased mortgage rates reducing consumer refinancing activity, while the decrease in the discount rate addresses recent market trends related to MSR sales during the same period.

The Company had no transfers between Levels 1 and 2 during the periods presented. Any transfers are based on changes in the observability and/or significance of the valuation inputs and are assumed to occur at the beginning of the quarterly reporting period in which they occur.

The following table presents those changes in fair value of material instruments recognized in the consolidated statements of operations that are accounted for under the Fair Value Option (in thousands).


		Three Months Ended September 30, 2022									Three Months Ended September 30, 2021
					Other			Total						Other			Total
		Net			Noninterest			Changes in			Net			Noninterest			Changes in
		Gains (Losses)			Income			Fair Value			Gains (Losses)			Income			Fair Value
Loans held for sale		$	(37,526)		$	—		$	(37,526)		$	(32,694)		$	—		$	(32,694)
Loans held for investment			(377)			—			(377)			—			—			—
MSR asset			5,511			—			5,511			(2,452)			—			(2,452)


		Nine Months Ended September 30, 2022									Nine Months Ended September 30, 2021
					Other			Total						Other			Total
		Net			Noninterest			Changes in			Net			Noninterest			Changes in
		Gains (Losses)			Income			Fair Value			Gains (Losses)			Income			Fair Value
Loans held for sale		$	(73,520)		$	—		$	(73,520)		$	(55,211)		$	—		$	(55,211)
Loans held for investment			(660)			—			(660)			—			—			—
MSR asset			23,575			—			23,575			12,821			—			12,821

The Fair Value of Financial Instruments Subsection of the ASC requires disclosure of the fair value of financial assets and liabilities, including the financial assets and liabilities previously discussed. There have been no changes to the methods for determining estimated fair value for financial assets and liabilities as described in detail in Note 4 to the consolidated financial statements included in the Company’s 2021 Form 10-K.

The following tables present the carrying values and estimated fair values of financial instruments not measured at fair value on either a recurring or non-recurring basis (in thousands).


					Estimated Fair Value
		Carrying			Level 1			Level 2			Level 3
September 30, 2022		Amount			Inputs			Inputs			Inputs			Total
Financial assets:
Cash and cash equivalents		$	1,778,247		$	1,778,247		$	—		$	—		$	1,778,247
Assets segregated for regulatory purposes			109,358			109,358			—			—			109,358
Securities purchased under agreements to resell			145,365			—			145,365			—			145,365
Held to maturity securities			889,452			—			792,559			—			792,559
Loans held for sale			140,178			—			85,137			57,188			142,325
Loans held for investment, net			7,843,551			—			402,502			7,281,532			7,684,034
Broker-dealer and clearing organization receivables			1,255,052			—			1,255,052			—			1,255,052
Other assets			71,365			—			69,699			1,666			71,365

Financial liabilities:
Deposits			11,352,014			—			11,333,099			—			11,333,099
Broker-dealer and clearing organization payables			1,176,156			—			1,176,156			—			1,176,156
Short-term borrowings			942,309			—			942,309			—			942,309
Debt			390,354			—			389,632			—			389,632
Other liabilities			9,198			—			9,198			—			9,198


					Estimated Fair Value
		Carrying			Level 1			Level 2			Level 3
December 31, 2021		Amount			Inputs			Inputs			Inputs			Total
Financial assets:
Cash and cash equivalents		$	2,823,523		$	2,823,523		$	—		$	—		$	2,823,523
Assets segregated for regulatory purposes			221,740			221,740			—			—			221,740
Securities purchased under agreements to resell			118,262			—			118,262			—			118,262
Held to maturity securities			267,684			—			276,296			—			276,296
Loans held for sale			95,599			—			95,599			—			95,599
Loans held for investment, net			7,788,552			—			733,193			7,266,732			7,999,925
Broker-dealer and clearing organization receivables			1,672,946			—			1,672,946			—			1,672,946
Other assets			73,041			—			71,290			1,751			73,041

Financial liabilities:
Deposits			12,818,077			—			12,821,138			—			12,821,138
Broker-dealer and clearing organization payables			1,477,300			—			1,477,300			—			1,477,300
Short-term borrowings			859,444			—			859,444			—			859,444
Debt			387,904			—			387,904			—			387,904
Other liabilities			3,944			—			3,944			—			3,944

The Company held equity investments other than securities of $59.2 million and $54.0 million at September 30, 2022 and December 31, 2021, respectively, which are included within other assets in the consolidated balance sheets. Of the $59.2 million of such equity investments held at September 30, 2022, $27.4 million do not have readily determinable fair values and each is measured at cost, less any impairment, plus or minus changes resulting from observable price changes in orderly transactions for the identical or a similar investment of the same issuer. The following table presents the adjustments to the carrying value of these investments during the periods presented (in thousands).


	Three Months Ended September 30,						Nine Months Ended September 30,
	2022			2021			2022			2021
Balance, beginning of period	$	28,183		$	26,988		$	16,817		$	22,844
Additional investments		—			—			11,000			—
Upward adjustments		234			122			679			6,006
Impairments and downward adjustments		(1,013)			(253)			(1,092)			(1,017)
Dispositions		—			(10,390)			—			(11,366)
Balance, end of period	$	27,404		$	16,467		$	27,404		$	16,467

The entire disclosure for the fair value of financial instruments (as defined), including financial assets and financial liabilities (collectively, as defined), and the measurements of those instruments as well as disclosures related to the fair value of non-financial assets and liabilities. Such disclosures about the financial instruments, assets, and liabilities would include: (1) the fair value of the required items together with their carrying amounts (as appropriate); (2) for items for which it is not practicable to estimate fair value, disclosure would include: (a) information pertinent to estimating fair value (including, carrying amount, effective interest rate, and maturity, and (b) the reasons why it is not practicable to estimate fair value; (3) significant concentrations of credit risk including: (a) information about the activity, region, or economic characteristics identifying a concentration, (b) the maximum amount of loss the entity is exposed to based on the gross fair value of the related item, (c) policy for requiring collateral or other security and information as to accessing such collateral or security, and (d) the nature and brief description of such collateral or security; (4) quantitative information about market risks and how such risks are managed; (5) for items measured on both a recurring and nonrecurring basis information regarding the inputs used to develop the fair value measurement; and (6) for items presented in the financial statement for which fair value measurement is elected: (a) information necessary to understand the reasons for the election, (b) discussion of the effect of fair value changes on earnings, (c) a description of [similar groups] items for which the election is made and the relation thereof to the balance sheet, the aggregate carrying value of items included in the balance sheet that are not eligible for the election; (7) all other required (as defined) and desired information.

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